Transdigm Group Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
August 8, 2023

Key Takeaways

  • TransDigm reported a 52.5% EBITDA margin in Q3 and raised full fiscal year sales guidance by $100 million and EBITDA guidance by $105 million after strong revenue growth.
  • Commercial aftermarket revenue surged ~32% year-over-year with robust bookings, supported by global air traffic recovering toward pre-pandemic levels.
  • The company generated roughly $540 million in free cash flow in Q3, ended with ~$3.1 billion in cash, and reduced its net debt/EBITDA ratio to 5.3×, maintaining flexibility for disciplined M&A and shareholder returns.
  • Leadership changes include the retirement of COO George Valadares and internal promotions of Mike Liffman and Joel Rees as co-COOs and Sarah Wynne as CFO, aiming to preserve TransDigm’s culture and strategy.
  • Integration of the May-acquired Calspan Corporation is progressing well, with the acquisition expected to dilute EBITDA margins by ~50 basis points but align with TransDigm’s value creation model.
AI Generated. May Contain Errors.
Earnings Conference Call
Transdigm Group Q3 2023
00:00 / 00:00

There are 16 speakers on the call.

Operator

Day and

Speaker 1

thank you for standing by. Welcome to the Transcendent's Q3 2023 Earnings Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session.

Operator

Are

Speaker 2

you still there?

Operator

Are you still there? Are you

Speaker 3

still there? There was a cutout.

Speaker 4

Hello?

Speaker 3

Thank you for standing by. Please be advised that today's conference is being recorded. I'd now like to hand the conference over to your speaker today, Jamie. Please go ahead.

Speaker 5

Thank you, and welcome to TransDigm's fiscal 2023 Q3 earnings conference call. Presenting on the call this morning are TransDigm's President and Chief Executive Officer, Kevin Stein Co Chief Operating Officer, Joel Rees and Chief Financial Officer, Sarah Wynne. Also present for the call today is our Co Chief Operating Officer, Mike Liffman. Please visit our website at transyme.com to obtain a supplemental slide deck and call replay information. Before we begin, the company would like to remind you that statements made during this call, which are not historical in fact, are forward looking statements.

Speaker 5

For further information about important factors that could cause actual results to differ materially from those expressed or implied in the forward looking statements, Please refer to the company's latest filings with the SEC available through the Investors section of our website or atsec.gov. The company would also like to advise you that during the course of the call, we will be referring to EBITDA, specifically EBITDA as defined, adjusted net income and adjusted earnings per share, all of which are non GAAP financial measures. Please see the tables and related footnotes in the earnings release for a presentation of the most directly comparable GAAP measures and applicable reconciliations. I will now turn the call over to Kevin.

Speaker 2

Good morning. Thanks for calling in today. First, I'll start off with the usual quick overview of our strategy, A few comments about the quarter and discuss our fiscal 'twenty three outlook, then Joel and Sarah will give additional color on the quarter. As we previously announced on May 26, we made 3 significant organizational changes this quarter. George Valadares will retire at the end of TransDigm's 2023 fiscal year.

Speaker 2

George has served as TransDigm's COO for the past 4 years. His prior roles include Co COO, Executive Vice President and President of 3 TransDigm operating units. George will aid in the transition of his role to the new co COOs, Mike Lisman and Joel Rees until his retirement date. George also joined TransDigm Board of Directors as of May 26. George has been with the company more than 25 years and has been an integral part of the long term value creation of TransDigm and a key player in the cultural preservation of the company, George has done a truly outstanding job and we sincerely thank him We are happy to have George continue contributing to the growth of TransDigm as a member of the company's Board.

Speaker 2

Mike Lisman and Joel Rees have assumed the roles of Co COOs. Mike served as TransDigm's CFO for the past 5 years prior to becoming CFO, He worked at our Aerofluid Products operating unit and on the M and A team at TransDigm. Joel He is a long term longtime employee of TransDigm, having joined the company in 2000. He was an Executive Vice President for the last 8 years. Prior to that, Joel served as President at 2 different TransDigm operating units, Hartwell and Skirka Aerospace.

Speaker 2

Before becoming a President, Joel was the Director of Operations at our Adams Wright operating unit. Sarah Wynne has assumed the role of CFO Having served as TransDigm's Chief Accounting Officer for the past 5 years. Sarah has been with the company for 20 years And before becoming TransDigm's Chief Accounting Officer, she was a group controller overseeing the financial reporting of several operating units. Prior to that, Sarah was the controller at our Aero Fluid Products operating unit and held various accounting positions in the TransDigm corporate office. Mike, Joel and Sarah bring a unique mix of experience in a broad range of aerospace businesses to their new roles.

Speaker 2

They are all experienced TransDigm executives with proven track records. We are very excited to promote internally developed long tenured employees To each of these roles to perpetuate TransDigm's unique culture, I'm confident that they will continue to create the kind of value That has been the long term hallmark of TransDigm. Now moving on to the business of today. To reiterate, we believe we are unique in the industry In both the consistency of our strategy in good times and bad as well as our steady focus on intrinsic shareholder value creation through all phases of the aerospace cycle. To summarize, here are some of the reasons why we believe this.

Speaker 2

About 90% of our net sales are generated by unique proprietary products. Most of our EBITDA comes from aftermarket revenues, which generally have significantly higher margins and over any extended period have typically provided relative stability in the downturns. We follow a consistent long term strategy specifically. 1st, we own and operate proprietary aerospace businesses with Significant aftermarket content. 2nd, we utilize a simple well proven value based operating methodology.

Speaker 2

3rd, we have a decentralized organizational structure and unique compensation system closely aligned with shareholders. 4th, we acquire businesses that fit this strategy and where we see a clear path to PE like returns. And lastly, Our capital structure and allocations are a key part of our value creation methodology. Our shareholders private equity like returns with the liquidity of a public market. To do this, we stay focused on both The details of value creation as well as careful allocation of our capital.

Speaker 2

As you saw from our earnings release, we had a solid quarter. Our Q3 total revenue was strong and we had a robust EBITDA as defined margin for the quarter. Additionally, we once again raised our guidance for the year. We continue to see recovery in the commercial aerospace market and trends are still favorable as demand for travel remains high. Global domestic air traffic continues to lead the recovery and has surpassed pre pandemic levels.

Speaker 2

International travel is also making progress in catching up to domestic travel. However, total air travel demand remains Slightly below pre COVID levels. There is still progress to be made for the industry and our results continue to be adversely affected in comparison to In our business during the quarter, we saw a healthy growth in our revenues and bookings for all three of our major market channels, Commercial OEM, commercial aftermarket and defense. Revenues also sequentially improved in all three of these market channels. EBITDA as defined margin improved to 52.5% in the quarter.

Speaker 2

Contributing to the strong margin is the continued recovery in our commercial flow generation in Q3 of over $400,000,000 and ended the quarter with close to $3,100,000,000 of cash. We expect to continue generating additional cash in our final quarter of fiscal 2023. Next, an update on our capital allocation activities and priorities. Regarding the current M and A pipeline, we continue to actively look for M and As we look out over the next 12 to 18 As usual, the potential targets are mostly in the small and midsized Comment on possible closings, but we remain confident that there is a long runway for acquisitions that fit our portfolio. The capital allocation priorities at TransDigm are unchanged.

Speaker 2

Our first priority is to reinvest in our business. 2nd, do accretive disciplined M and A. And 3rd, return capital to our shareholders via share buybacks or dividends. A 4th option, paying down debt seems unlikely at this time, Though we do still take this into consideration, we are continually evaluating all of our capital allocation options, But both M and A and Capital Markets are always difficult to predict. We continue to maintain significant Sarah will provide further commentary on our capital allocation during her prepared remarks.

Speaker 2

Moving to our outlook for fiscal 2023. As noted in our earnings release, we are increasing our full Fiscal year 'twenty three sales and EBITDA as defined guidance to reflect our strong third quarter results and our current expectations for the remainder of the year. At the midpoint, sales guidance was raised $100,000,000 and EBITDA as defined guidance was raised $105,000,000 The guidance assumes the continued recovery in our primary commercial end markets throughout the remainder of fiscal 2023 And no additional acquisitions or divestitures. Our current year guidance is as follows and can also be found on Slide 6 in the presentation. The midpoint of our revenue guidance is now $6,555,000,000 or up approximately 21% versus fiscal 2022.

Speaker 2

In regards to the market channel growth rate assumptions that this revenue guidance is based on, for the commercial aftermarket and defense market, We are updating the full year growth rate assumptions as a result of our strong Q3 results and current expectations for the remainder of the fiscal year. We now expect commercial aftermarket revenue growth for fiscal 2023 to be in the low 30% range, Which is an increase from our previous guidance range of 25% to 30%. The commercial aftermarket has been progressing well in our fiscal 2023 And we plan for that to continue through Q4 and beyond. However, we aim to be conservative with this guidance as the commercial aftermarket is harder to predict With many orders being booked and shipped and the advanced bookings only going out a few months or so into the future. For defense, we now expect revenue growth in the mid to high single digit percentage range.

Speaker 2

This is an increase from our previous guidance lowtomidsingledigitpercentage range. Commercial OEM revenue guidance is still based on our previously issued Market channel growth rate assumptions. We are not updating the full year market channel growth rate for commercial OEM As underlying market fundamentals have not meaningfully changed, we continue to expect commercial OEM revenue growth in the 20% to 25% range. The midpoint of our EBITDA as defined guidance is now $3,365,000,000 We're up approximately 27% with an expected margin of around 51.3%. This guidance includes about 50 basis points of margin dilution from the Dart Aerospace acquisition and about 50 basis points of margin dilution from the recent Calspan acquisition.

Speaker 2

The pro form a margin dilution from Calspan, meaning if we had owned Calspan for all of our Increasing primarily due to the higher EBITDA as defined guidance and now anticipated to be 25 dollars 0.15 or up approximately 47%. Sarah will discuss in more detail shortly Some other fiscal 2023 financial assumptions and updates. We believe we are well positioned for the last quarter of our fiscal 2023. We will continue to closely watch how the aerospace and capital markets continue to develop and react accordingly. Let me conclude by stating that I'm very pleased with the company's performance this quarter and throughout this recovery of the commercial aerospace industry.

Speaker 2

We remain focused on our value drivers, cost structure and operational excellence. Now let me hand it over to Joel to review our recent performance and a few other items.

Speaker 4

Thanks, Kevin, and good morning, everyone. I'll start with our typical review of results by key market category. For the balance of the call, I'll provide commentary on a pro form a basis compared to the prior year period in 2022. That is assuming we own the same mix of businesses in both periods. The May 2023 acquisition of Calspan Corporation is excluded from this market discussion.

Speaker 4

In the commercial market, which typically makes up close to 65% of our revenue, We will split our discussion into OEM and aftermarket. Our total commercial OEM revenue increased approximately 25% In Q3 compared with the prior year period, sequentially total commercial OEM revenues grew by about 4% compared to Q2. Bookings in the quarter were robust compared to the same prior year period And significantly outpaced sales. We are encouraged by the increasing commercial OEM production rates And airline demand for new aircraft. OEM supply chain and labor challenges still persist, but appear to be making steady progress, While risks remain towards achieving the ramp up across the broader aerospace sector, we are cautiously optimistic that our operating units are well positioned to support the higher production targets.

Speaker 4

Now moving on to our commercial aftermarket business discussion. Total commercial aftermarket revenue increased by approximately 32% in Q3 when compared with the prior year period. Growth in commercial aftermarket revenue was primarily driven by the continued strength in our passenger submarket, which is our largest submarket, although all of our commercial aftermarket submarkets were up significantly compared to prior year Q3. Sequentially, total commercial aftermarket revenues increased by approximately 2%. Commercial aftermarket bookings for this quarter were strong compared to the same prior year period.

Speaker 4

Turning to broader market dynamics. Global revenue passenger miles still remain lower than pre pandemic levels, but growth in air traffic Over the past few months has continued to signal steady recovery momentum. IATA recently commented They see a better demand outlook for 2023 air travel than they previously forecast and now expect total 2023 revenue passenger miles to reach 88% of 2019 levels. IATA also expects a return to 2019 air traffic levels in 2024. The recovery in domestic travel Further progressed over the past few months and has surpassed pre pandemic levels.

Speaker 4

In the most recently reported IATA traffic data for June, Global domestic air traffic was up 5% compared to pre pandemic levels. Domestic air travel in China continues to improve And was up 15% in June compared to pre pandemic levels. This is a significant improvement from China being down 55% only 6 months ago in December. U. S.

Speaker 4

Domestic air travel for June came in just slightly above pre pandemic traffic, But year to date surpasses pre pandemic levels by about 2%. International traffic has made strides over the past few months And it's catching up to the domestic recovery. A quarter ago, at the end of March, internationally, travel globally was depressed about 18% Compared to pre pandemic levels, but in the most recently reported IATA traffic data for June, international travel was only down about 12%. International traffic in North America is 2% above pre pandemic levels and Europe is within 10%. Asia Pacific international travel was still down about 29%, which should hopefully continue to improve as the China reopening progresses.

Speaker 4

Global air cargo volumes in the most recent June IATA data continued to be lower year over year and compared to pre pandemic levels, But the contraction versus these prior year periods has moderated a bit. Going forward, improvements in inflation in major economies Could potentially provide a tailwind to air cargo demand. However, with the continued growth in passenger flying, especially the wide body recovery, There is more belly hole space available for cargo transport. It's too early to determine where our air cargo trend stabilize, but we will continue to watch this closely. Business jet utilization is below the pre pandemic highs in 2021 And continues to temper.

Speaker 4

Business jet activity does remain above pre pandemic levels, but time will tell how this normalizes over the upcoming months. Shifting to our defense market, which traditionally is at or below 35% of our total revenue. The defense market revenue, which includes both OEM and aftermarket revenues grew by approximately 17% in Q3 when compared with the prior year period. Sequentially, total revenues grew by approximately 14%. Defense bookings are also up significantly this quarter compared to the same prior year period.

Speaker 4

This quarter, We began to see improvements in the U. S. Government defense spend outlays, which is reflected in our defense revenue performance this quarter. We are hopeful we will continue to see steady improvement, but as we have said many times before, defense sales and bookings can be lumpy. As Kevin mentioned earlier, we now expect our defense market revenue growth for this year to be in the mid to high single digit percentage range.

Speaker 4

Next, I will provide a quick update on our recent acquisition of Calspan Corporation. As discussed on our last earnings call, we completed the Calspan acquisition this past May for $725,000,000 in cash. Calspan has established positions across a diverse range of aftermarket focused aerospace and defense Development and testing services, including a state of the art transonic wind tunnel that it utilizes to perform testing For both the commercial and defense end markets, Calspan's unique service offerings exhibit the earnings stability And growth potential that are consistent with our Aerospace Components Center businesses, the Calspan acquisition integration is progressing well Under the leadership of Executive Vice President, Paula Wheeler. We have now owned Calspan for 3 months And we are pleased with the acquisition thus far. Before concluding, I'd like to review one additional executive change that occurred during Q3.

Speaker 4

We recently promoted Kevin McHenry to the Executive Vice President role. Kevin has worked for TransDigm for over 20 years And was most recently the President of our Kirkhill operating unit for 5 years. Prior to that, Kevin was the Director of Sales at our Hartwell Airborne Systems and our Adams Wright Aerospace Operating Units And also served as President of Adams Wright Aerospace. We continually work to improve our bench strength of promotable talent And we are happy to have Kevin as our newest Executive Vice President. This promotion gives us the resources we need to oversee our business units Following my promotion to co COO.

Speaker 4

Lastly, I'd like to wrap up by stating how pleased I am by our operational performance in this Q3 of fiscal 2023. We remain focused on our value drivers and meeting increased customer demand for our products. With that, I would like to turn it over to our Chief Financial Officer, Sarah Wynne.

Speaker 3

Thanks, Joel, and good morning, everyone. I'm going to provide an overview on a few financial matters for the quarter and expectations for the full fiscal year. First, on organic growth and liquidity. In the Q3, our organic growth rate was 20.7%, driven by the continued rebound in our commercial OEM and aftermarket end markets. On cash and liquidity, free cash flow, which we traditionally define as EBITDA less cash interest payments, CapEx And cash taxes was roughly $540,000,000 for the quarter.

Speaker 3

For the full fiscal year, we continue to expect to generate free cash flow in excess of the $1,400,000,000 target previously provided. Below that free cash flow line, We saw net working capital consume approximately $180,000,000 of cash during the quarter as we continue to build both accounts receivable and inventory to support the ongoing and continuing sales ramp up on both the OEM and aftermarket sides of the business. The OEM does tend to be slightly more intensive from a net working capital standpoint. We ended the quarter with approximately $3,100,000,000 of cash on the balance sheet, And our net debt to EBITDA ratio was 5.3 times, down from the 5.6 times at the end of last quarter. On a net debt to EBITDA basis, this puts It's below the 5 year pre COVID average level of 6 times.

Speaker 3

Additionally, our cash interest coverage ratio, such as EBITDA to interest expense is at 3 times, which is right in line with where we've historically operated pre COVID and been comfortable operating the business. As always, we continue to watch the higher interest rate environment and the current state of the debt markets closely. As a reminder, we did a fair bit of refinancing in the first half of the year, pushing out over $8,000,000,000 of our nearest Due in 2025 out to 2028, we expect to continue both proactively and prudently managing our debt maturity stacks, which for us means pushing out any near term maturities well in advance of the final maturity date. Our nearest term maturity is now 2026. Over 75% of our total $20,000,000,000 gross debt balance is fixed or hedged through our fiscal 2026.

Speaker 3

This is achieved through a combination of fixed rate notes, interest rate caps, swaps and collars. This provides us adequate cushion against Any rising rates at least in the immediate term. As we sit here today from an overall cash liquidity and balance sheet standpoint, We think we remain in a good position with adequate flexibility to pursue M and A or return cash to our shareholders via dividends or share repurchases. Regarding capital allocation, it is likely we make a decision by the end of the calendar year based on current market conditions. We have a sizable cash balance Of close to $3,100,000,000 and consistent with history, when we have a significant amount of cash available, we aim to get the cash back to our shareholders In one form or another, all three capital allocation options, significant acquisitions, share buybacks and dividends remain on the table.

Speaker 3

With that, I'll turn it back to the operator to kick off the Q and A.

Speaker 1

Thank you. We will now conduct the question and answer session. Our first question comes from the line of David Strauss of Barclays. Go ahead.

Speaker 6

Thanks. Good morning.

Speaker 7

Good morning. Good morning.

Speaker 6

Kevin, I don't know if it was for everyone or just me, but your comments around the M and A pipeline cut out at least So would you mind repeating kind of where you are from a pipeline standpoint? I think you had some interest in the Raytheon property and Maybe what happened there?

Speaker 2

Well, we can't comment as you know the process. We can't comment on deals due to NDAs that you put So whether we were interested or not, we don't comment. The M and A pipeline though is, I said, I'll reread my words. We continue to actually look for M and A opportunities that fit our model. As we look out over the next 12 to 18 months, we continue to have slightly stronger than typical pipeline of potential targets.

Speaker 2

As usual, we can't comment Yada, yada. It's similar to what I said last quarter. We are seeing a Pretty interesting time right now. A lot of properties that we have been closely following for a long time are becoming available Difficult to predict which if any of them will close. Again, we are extremely disciplined in our M and A approach.

Speaker 6

Okay. Thanks. A quick follow-up. So in prior quarters, your comments on Slide around bookings was that bookings were outpacing shipments and this quarter you just went to a things are strong. Do we read anything into that, I mean relative to kind of the bookings rate maybe on a sequential basis both for the aftermarket Sam, the new equipment side?

Speaker 2

Well, I think across the business, we built backlog. So book to bill for the company was Still positive. It is true that some things can be lumpy. We saw strength in OEM and defense. Aftermarket was a little bit the rate of change of expansion of the order book slowed a little bit, But still have a positive book to bill there for the year.

Speaker 6

All right. Thanks very much.

Speaker 1

Thank you. Our next question comes from the line of Kristen Li Wang from Morgan Stanley. Go ahead, Christine.

Speaker 8

Hey, good morning, guys. How are you doing?

Speaker 7

Good morning. Good morning. Good morning.

Speaker 8

So with the strong growth in aftermarket, we're hearing that MRO facilities are fully booked this year and slots are even difficult to come by by next year or even the year after that. Can you provide any color in terms of how much of your aftermarket parts are linked to heavy maintenance versus the normal wear and tear? And does the limit in MRO shop availability essentially limits the volume of Parts you could sell to the aftermarket. How should we think about that dynamic?

Speaker 4

Yes. I don't think we have the Specific data around the MRO and what the implications are, I think we continue to see the Commercial aftermarket growth in all of our submarkets and I think we continue to see the positive momentum as revenue passenger miles continue to move up Year to date, we're now down to just 10% below pre pandemic levels, and continue to see the Expect to see trends continue as long as the people continue to fly.

Speaker 8

Great. Thanks. And I'm wondering if I can do another follow-up. What we're hearing from the supply chain is that in commercial OE terms, there have been improving pricing for new airplane parts And OE side, so does that mean that when OE volume starts coming back for you guys, could you also get some of that pricing benefit? And could that alleviate some of the mix headwind you could experience should be ramp materialized sooner than expected?

Speaker 2

I think we don't usually comment on margins and increases across the board. It is fair to say that our As we always state, our aftermarket is more profitable. Our goal in pricing is to pass along inflation. So We have seen a very inflationary environment. That's probably all we can comment on that.

Speaker 2

We definitely make more money in the aftermarket.

Speaker 8

Great. Thanks, guys.

Speaker 1

Thank you. Our next question comes from the line of Myles Walton. Hold on one second. Of Wolfe Research. Go ahead Myles.

Speaker 9

Thanks so much. Kevin, the margins in the quarter were particularly Strong given what I would think would have been a little bit more adverse mix with Calspan folding in, aftermarket as a percent of sales is actually lower sequentially. Can you comment on the dynamics that would help do that in the quarter sequentially? And then also, I guess, Why they're going to go down 100 basis points sequentially into 4Q?

Speaker 2

Well, I hope we forecast Conservatively as we look at the future. That's a conservative look at what might happen. Given that aftermarket is such a significant driver for the business and that some of it isn't booked yet for the quarter, It makes it prudent for us to be a little more conservative as we forecast the quarter. We'll see how it plays out. I'll tell you on the margins line, it's a pleasant outcome that we continue to see the progress in cost reductions Across the business, even selective new business programs have been successful for us.

Speaker 2

There We're not any significant one time accounting adjustments or anything in these numbers. So this was real performance of the business.

Speaker 9

Got it. Thanks. And just a quick follow-up. As you go into next year, given EBITDA is higher, Your net interest expense is coming lower. The tax rate, I know kicked up because of the EBITDA rule of interest deductibility.

Speaker 9

Is the tax rate now going to kick back down a couple of 100 basis points? Thanks.

Speaker 2

I think we'll give guidance. That's really a question Sarah, but we'll give guidance on 2024 next quarter when we get into it and we'll have a detailed look at The interest and tax rates and all the pieces. So if you can hold your question until then, is that fair, Sarah?

Speaker 3

Yes, that's right. We're still yes, Haven't gone through the planning process, yes.

Speaker 9

Okay. Thanks again.

Speaker 1

Thank you. Our next question comes from the line of Kevin Herbert from RBC Capital Markets. Please go ahead.

Speaker 10

Yes. Hey, good morning.

Speaker 11

Kevin, maybe just to stick on the aftermarket, I think you've raised guidance for aftermarket growth each quarter this year. You're going to likely end the year sort of 2x the initial guidance in terms of the growth. And I'm just wondering if there's anything in particular you could call out as you've gone through fiscal 2023 that's been a particular source of upside that was maybe Expected or where you think that significant sort of outperformance relative to the initial expectations where it's really come from?

Speaker 2

I think China was the big player. We initially had our look at the business. That was the unclear Point that we didn't see in our planning. So I think a lot of what we're seeing today for upside and the revisions favorably have And due to that expanding market and really the better recovery than I think any of us anticipated when we initially planned the year.

Speaker 11

Is there any concern that you've seen some of the elevated activity, any of the sales In the aftermarket pulled into 'twenty three, there could be a potential headwind in 'twenty four. Just how do you think about Sort of the booking strength and the initial outlook into 2024 relative to the 2023 strength?

Speaker 4

Joel? Well, obviously, we're not going to provide any guidance towards 2024. But look, our order book continues to evolve. Flight activity continues to increase. You said the traffic in Asia Pacific has increased significantly, but even there it's still about 20% below twenty 2019 levels, global air traffic still below the pre pandemic level.

Speaker 4

So I think we're all realistic that the rate of change has to slow at some point as you get closer and closer back to the pre pandemic levels, but I don't think we see anything else beyond that changing.

Speaker 11

Great. Thank you.

Speaker 1

Thank you. Our next question comes from the line of Robert Stallard from Vertical Research Group. Please go ahead.

Speaker 12

Thanks so much. Good morning.

Speaker 7

Good morning. Good morning.

Speaker 1

Kevin, first of all, on the

Speaker 12

M and A pipeline, as you said, Your comments sound pretty similar to what you said 3 months ago that things are looking quite interesting out there. But I'm not even worried that everyone else is saying the same thing and this is starting to bid some of these Asset prices up too high.

Speaker 2

In fullness of time, I don't think you can overpay for good assets That meet our criteria. So I'm not worried about more competition. If businesses meet our criteria, We will rise to meet the challenge.

Speaker 12

Okay. And then secondly, on the aftermarket price, you thought it was quite interesting that to have pulled forward their profit growth by another 2 months this year. Is this something that some of your businesses are doing or you're still on a fairly standard sort of 12 month annual increase?

Speaker 2

Could you repeat your question? You broke up a bit and I couldn't hear some of the details.

Speaker 12

Yes, sorry, Kerry. I was hoping that CFM had pulled forward their spare part price increase by another 2 months. And I was wondering if it's something that TransDigm businesses are doing or are you

Speaker 2

I think we do regular Catalog price increases, but in a high inflationary environment, dynamic pricing becomes more of the norm. So I don't think our businesses necessarily are augured into only once a year. It really depends on the inflationary inputs that they're seeing.

Speaker 12

Okay. That's great. Thank you.

Speaker 1

Thank you. Our next question comes from the line of Robert Ben Gart from Melius Research. Please go ahead.

Speaker 7

Hey, good morning. Good morning.

Speaker 2

Kevin, On margins, just as OE mix increases, assuming that OE growth overtakes aftermarket growth at some point here, Can you mitigate the headwind to margins from that just from productivity and pricing perhaps on the other side in aftermarket? I think there will be challenges to doing that, but that would certainly be one of our aspirational Goals as we go forward to continue to drive cost improvements and improvements in general to our business To drive that, it will be difficult as we have very strong aftermarket growth, But we're seeing the OEM growth somewhat muted as they are slower to ramp up, Meaning there's more pressure in the aftermarket. I think that we continue to enjoy this for a while into the future. Maybe not the wild recovery we've seen over the last 2 years, but still I think that market conditions Really in all of our market segments set up very favorably for us even in the aftermarket in the future. Thanks so much.

Speaker 1

Thank you. One second for the next question. Our next question comes from Peter Arment from Baird. Please go ahead.

Speaker 4

Yes, thanks. Good morning, everyone. Kevin, maybe if you could just give a broader comment on the wide body side of things. We're really starting to see Kind of an uptick really across the board. And I know last quarter you made some comments that your interiors business has been recovering nicely.

Speaker 4

Just any further color there would be Thanks. Yes. I'd say on the interior this is Joel. I'd say on the interior side, I think we're seeing a similar The trend is we are in the overall commercial aftermarket, a good increase year over year and continuing the positive trend we've seen for several quarters now. To date, it's primarily being driven by the repair side, but we're seeing a nice recovery.

Speaker 4

Obviously, as they continue to utilize the existing fleet, It will be beneficial for us in the future for modifications of the refurbishments.

Speaker 6

I appreciate that color.

Speaker 4

And then just as a follow-up quickly, Kevin, I know last quarter there was a Comment that made about aftermarket volumes still being 10% to 15% light. Is that Still how you see kind of the year shaking out or is that starting to improve? Thanks.

Speaker 2

Well, I think it improves Every quarter, but I still see 10 plus percent opportunity. RPMs are Still 12% below takeoff and landings in certain regions, still below where they were pre pandemic. I still see opportunity in suppressed demand, which I have every belief will return.

Speaker 6

Appreciate it. Thanks, Devin.

Speaker 2

Yes.

Speaker 1

Thank you. Our next question comes from the line of Jason Girtzky of Citibank. Please go ahead.

Speaker 13

Hey, good morning everybody.

Speaker 2

Yes, I

Speaker 13

can't believe I'll be the 1st to congratulate everybody on their respective promotions and retirements, but congrats to all.

Speaker 2

Thank you for doing that. It's always good to hear. Sometimes we're just the machine that keeps moving and people forget that point.

Speaker 13

No, I appreciate all the hard work for sure that goes into achieving that level of success. Just a quick question for you related to the situation at Pratt with the GTF. They're Talking about bringing in 130, 140 engines here in the near term and then 1200 over the next Year or so. And I'm just kind of curious what you're hearing from some of your customers about how they're going To deal with that, do you think there's an opportunity for more planes to kind of come out of the desert Here, do you think there will be more expansive work that gets done when some of these engines and perhaps aircraft get grounded That might accelerate some work for you all that would have maybe come later if the engines had come in under normal Of course. I'm just trying to get a sense of how this GTF engine issue might impact TransDigm?

Speaker 2

Yes. I think I'll kick that one to Joel for comment. He is very close to the customers and businesses. Yes.

Speaker 4

I don't think we think it has any significant change. Engines coming in sooner means one set of components get replaced Earlier because they're going to do maintenance on the air on the engine. But then there's another set of components that you really want to have them flying and the Starts and stops are what they're takeoffs and landings, what makes the big difference. I think we're not hearing anything that makes a significant change of what We're seeing

Speaker 13

today. Okay, great. I'll leave it with 1. Thanks guys.

Speaker 2

Thanks.

Speaker 1

Thank you. Our next question comes from the line of Noah Poponak of Goldman Sachs. Go ahead, Noah.

Speaker 13

Hey, good morning, everyone.

Speaker 7

Good morning.

Speaker 2

Was the book to bill greater than 1.0 in all three end markets? For the quarter or year to date? I guess we don't really give that kind of granularity usually. It was up across the company. For aftermarket, it was slightly off, But year to date still positive.

Speaker 2

Okay. Does that clear it up for you? Yes, that clears it up. Yes. And then on the defense side, I mean, can you spend another minute on what happened there?

Speaker 2

You referenced How outlays are trailing authorization and that has started to catch up. What are you seeing and hearing from your customer there? And You'll have easy compares and that outlay gap is pretty wide than these higher growth rates sustained for a period of time.

Speaker 4

Well, I think we're seeing steady improvement in the outlays. The outlays are still a little bit slow in terms of Solicitation is converting into orders compared to historical levels. But as Kevin just mentioned, bookings are We're stronger than shipments, so I think we continue to anticipate some runway there.

Speaker 2

Yes. I think in Really in all three of our market segments, including commercial aftermarket, although maybe bookings slowed ever so slightly this quarter. Remember, bookings can be lumpy quarter to quarter. And all three of our commercial OEM, commercial aftermarket and defense all look favorable into the future. I can't stress that enough.

Speaker 2

Okay. Thanks guys. Appreciate it. Yes.

Speaker 1

Thank you. Our next question comes from the line of Ron Epstein from Bank of America. Please go ahead. Please go ahead, Ron.

Speaker 2

Ron's on mute.

Speaker 14

Sorry about that. I was on mute. Yes, just trying to

Speaker 2

There we go.

Speaker 14

Yes. So just a quick one. A lot of stuff, good stuff has been asked. But Kevin, what's your mood for a fixer upper? I mean, as you look at stuff out there, Is kind of M and A you want to do fixer upper style or stuff that just kind of fits right in with Yes, the TransDigm model.

Speaker 2

I guess, it's where do we see the Likelihood of upper quartile private equity like returns. We've always talked about the 20% IRR threshold for M and A activities, I'm not against fixer uppers. Generally speaking though, we acquire good businesses, We heavily invest in them and we make them much better. A fixer upper might fit that as you're listing, But we usually don't look for those per se, and everything must stand on its own and generate the return.

Speaker 12

Got it.

Speaker 14

Got it. Got it. And then what I'm just trying to just get a sense. I think a lot of people are. What are you not interested in?

Speaker 14

I mean, do you think you need to open the Aperture? Look at it.

Speaker 2

Yes, I

Speaker 14

mean, you think you got to

Speaker 13

look at it?

Operator

I don't

Speaker 2

think we need to sorry, We don't think we need to open the aperture per se. I think there's still plenty of activity in The aerospace world for accretive M and A, it's just important for us to stay disciplined. Historically, we do 1, 2 deals a year, some years you get a bunch more, but it's important for us to stay very disciplined in our approach. So, we are still seeing a lot of activity in core M and A that fits our model. What we look for is that 20 percent IRR.

Speaker 2

We're still seeing those opportunities, quite a few of them right now. But I think what's critical for us is to be disciplined in this process. If we continue to be disciplined, then we'll continue to find The great businesses that we look for, and there's certainly a lot of interesting properties available as we look over the next 12 to 18 months as I alluded to in my comments. Does that help you better understand what we're seeing? Yes, I

Speaker 14

think it does. And if I may, just one last quick one. Gross margins in the quarter were really quite good at 59%. Should we expect that to continue?

Speaker 2

Our goal is to always drive margins up. So, our track record, I think, in that Speaks for itself.

Speaker 14

Got it. All right. Thank you very much.

Speaker 1

Thank you. Our next question comes from the line of Seth Seifman of JPMorgan. Please go ahead.

Operator

Hey, thanks very much and good morning.

Speaker 12

Good morning. Good morning.

Operator

Just going back to the question of capital deployment, I think you said the majority of M and A opportunities kind of naturally are in the small and mid sized category. And Given the capacity that you'll have by year end, unless something really significant shakes loose, should investors be thinking about Yes, if there is something in that small and midsize category that there is plenty of opportunity for capital return as well?

Speaker 3

Yes. I mean, our capital allocation priorities remain unchanged. So we'll continue to evaluate our options over the course of the calendar year. We'll see how the market conditions look. But ultimately, we operate a disciplined approach and we'll continue to do so.

Operator

Okay. Okay. Thank you. And then just as a quick follow-up, I know maybe not the most the part of the business that gets focused on most, but the Bizjet and helicopter aftermarket has been up kind of 20% the past couple of quarters. And We generally think about aftermarket revenues kind of tracking flight hours plus some price and business jet flight hours in the U.

Operator

S. At least have been pretty flat year to date. And so is there something you point to that accounts for the continued strong growth there given that it seems like the underlying end market just isn't really growing that much right now?

Speaker 4

I think some of it's the timing of bookings and shipments. So The biz jet market expanded pretty significantly during the pandemic and has really only slowly Reduced each quarter. It's something we'll continue to monitor as I said in my

Speaker 2

Opening remarks.

Operator

Great. Thanks very much.

Speaker 1

Thank you. Our next question comes from the line of Michael Ciarmoli from Chuy.

Speaker 10

Hey, good morning guys. Thanks for taking the Questions and congrats. Just Kevin, just maybe back to margins. Obviously, I think Rob brought up the OE ramping in the mix, but you guys are always trying to execute and drive margins higher, but Have EBITDA margins peaked? And then I guess as we think about OEM ramping, does your commentary around dynamic pricing Apply to some of your OEM commercial OEM sales?

Speaker 2

Yes, it doesn't. Commercial OEM tends to be longer, More like year or 2 to address any inflationary pressures. But Yes. Generally speaking, a little different on the OEM side, but still you can find a way to Pass along inflation and that's again what we strive to do. What was the first part of your question?

Speaker 10

Just EBITDA margins, I mean record level in

Speaker 4

the quarter have been Have

Speaker 2

they peaked? That's right. No, they haven't peaked. There is still room to grow and expand and that's how we look at it. We're still looking for those opportunities.

Speaker 2

And I don't see any reason why there isn't room to continue to improve. That's our goal Is steady, consistent, disciplined improvement to M and A, capital allocation to continue to allow the machine to operate.

Speaker 10

Got it. Helpful. I'll leave it at that. Thanks, guys.

Speaker 1

Thank you. Our next question comes from the line of Gautam Khanna of TD Cohen. Please go ahead.

Speaker 15

Hey, good morning guys and congrats to everyone. Good morning. This changed roles. Good morning. Hey, I wanted to ask just quickly on Whether you're seeing any discernible difference in demand patterns through your distribution channels versus direct and just how Shortening lead times, if they have, have impacted ordering patterns by customers.

Speaker 15

Is there less of a Queuing effect, because they don't have to place an order as far in advance. Is that something that might be impacting the bookings as well? Thanks.

Speaker 4

Yes. So when we look at the point of sale information from our distribution partners, it matches Pretty well with what we're seeing as we go direct to customers. So I don't think we're seeing anything significant there. When it comes to lead times, Every operating unit sets their own unique set of lead times for products and customers. They're often not the same.

Speaker 4

Given that the recovery we've seen in the aftermarket, we've invested in the inventory To be able to support the customer base, I think that's helped out a little bit. But no real significant change, At least from what I'm seeing from the either the distribution point of sale or what we're seeing direct and no significant change due to lead time.

Speaker 15

Thanks. And then just a quick follow-up on Calspan because it's a little bit of a different profile, more service oriented. I'm just curious, have you any surprises, anything that we should think about that will be different with respect to its integration or Its margin potential over time relative to the hardware businesses?

Operator

I

Speaker 4

don't think so. I think as George said last quarter, our view of value creation is a 3 pronged approach. We focus on value based pricing of our products, managing our cost structure and providing innovative solutions. We've only recently closed on it, but we're looking to leverage all three. We think it's a great business.

Speaker 4

That's been well run and Our goal is to optimize it similar to what we've done in past acquisitions. We've got a as I mentioned in my opening remarks, we've got a seasoned executive in Paula Wheeler Leading the integration and I think we think it will fit well into the TransDigm formula.

Speaker 15

And just last one, sorry, with respect to service oriented businesses, is that something that you're also kind of seeing more of in your M and A pipeline? Is that stuff you're

Speaker 2

No, I think we've always seen a few of them, just nothing as compelling As Calspan was to us. I mean, at the end of the day, we're looking for businesses that we can identify that Upper quartile private equity like return, 20% plus, that's what we're looking for. And We believe today that Calspan will absolutely deliver that for us.

Speaker 15

Thanks a lot guys. Appreciate it.

Speaker 1

Thank you. Our next question comes from the line of Sheila Kahyaoglu from Jefferies. Go ahead, Sheila.

Speaker 5

Thank you. Good morning, guys. So bear with me here. Are you seeing any negative signs in the aftermarket, whether it's inflation cooling, cargo weakness or low cost carriers Are you seeing yield softness?

Speaker 2

I think cargo and maybe some business jet softening And the aftermarket, Joel, do you have anything to add to that? No.

Speaker 4

I think the on the cargo side, the Yields are down for them significantly. They've obviously increased the significant amount of belly capacity in the Last several months as international travel has kicked up and ramped to see how that all shakes out, but We think it has had some impact this quarter. We'll see how it shakes out going forward.

Speaker 5

Thank you for that. And then just on EBITDA margins, 52%, I think the all time high, they expanded 120 bps sequentially despite CAT SPAN Being I think, 70 basis points dilutive given 25% margin. So, are we just wrong on CASK band margins or what drove the margin expansion in the quarter?

Speaker 2

I think it was strong performance in Q3. The results, the market mix And we didn't own Calspan for all of the quarter. I think that will impact us a little bit more as we go forward. But It was just a strong all around quarter, good performance in the aftermarket and OEM side of the house.

Speaker 5

Great. Thank you.

Speaker 1

Thank you.

Speaker 12

I am

Speaker 1

showing no further questions at this time. I would now like to turn the conference back to Jamie Steeman for closing remarks.

Speaker 5

Thank you all for joining us today. This concludes the call. We appreciate your time and have a good rest of your

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