Good morning, ladies and gentlemen, and welcome to the Haynes International, Inc. Fourth Quarter 2022 and Fiscal Year-End Financial Results. At this time, all participants have been placed on a listen-only mode. And the floor will be open for your questions and comments after the presentation.

It is now my pleasure to turn the floor over to your host, Mr. David Van Bibber, Controller and Chief Accounting Officer. David, the floor is yours..

Thank you very much for joining us today. With me today are Mike Shor, President and CEO of Haynes International; and Dan Maudlin, Vice President and Chief Financial Officer. Before we get started, I would like to read a brief cautionary note regarding forward-looking statements.

This conference call contains statements that are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities and Exchange Act of 1934. The words believe, anticipate, plan and similar expressions are intended to identify forward-looking statements.

Although, we believe our plans, intentions and expectations regarding or suggested by such forward-looking statements are reasonable, such statements are subject to a number of risks and uncertainties, and we can provide no assurances such plans, intentions or expectations will be achieved.

Many of these risks are discussed in detail in the company's filings with the Securities and Exchange Commission in particular, Form 10-K for the fiscal year ended September 30, 2022. The company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

With that, let me turn the call over to Mike..

Thank you, Dave. Good morning, everyone. I'd like to begin my comments today by making you aware of the heartbreaking and devastating news of the death of a Haynes employee one week ago from injury sustained, while working at our Kokomo, Indiana plant. As we more in the loss of our coworker, Seth Badger, who was 32 years old from Logansport, Indiana.

We ask that everyone keeps Seth's family in your thoughts and prayers during this extremely difficult time. To our Haynes team, we will support and lean on each other and find the strength to together, work through our sadness and grief.

Although not easy, I'll now transition to my comments on our financial performance for our fourth quarter and the full fiscal year. With fiscal 2022 behind us, we would like to take a quick look back and compare fiscal 2022 to fiscal year 2021. Revenues improved by $153 million or approximately 45%.

Gross margin almost doubled from 11.8% to 21.7% and despite inflationary pressures. SG&A, including research and technology, dropped from 13.9% of revenue to 10.4% and was 9.1% in Q4.

Net income went from a loss of $8.7 million in fiscal 2021 to a profit in fiscal 2022 of $45.1 million, which was the best net income for our company in a decade despite shipping just £17.6 million. Our backlog finished at a company record level of $373.7 million, which is more than double last year's $175.3 million.

Our employees have driven this improvement. My sincere thank you for both their efforts to get us to this point and the relentless focus on the actions that will drive – will safely drive the additional volume and profitability improvements that we anticipate in the future.

We were asked regularly how we were able to improve our business performance so rapidly. The quick answer is that this happened because of the excellent people, differentiated products and services, relentless focus on variable cost reduction and unique processes that we have at Haynes.

More specifically, I'd like to now highlight six items that are driving our significant business performance improvement. First, our alloy and application development is second to none in our industry. Two significant statistics to back this statement up.

Approximately 60% of our revenue is from alloys Haynes invented and about 30% of our product margin is from alloys still under patent or alloys others are unable to produce.

The best part of this, our future continues to look bright with new alloys and applications under development within our research and marketing groups, including in our aerospace market. Second, our high-value products and services, including the combination of our mill and company-owned value-added service centers truly differentiates us.

Third, the manufacturing of small quantity orders made to the highest quality levels in the industry provide us a niche that we believe leads to a competitive advantage. Fourth, we have outstanding sales and technical service, which our customers and end users truly value and create strong customer retention and loyalty.

Fifth, we have unique niche-oriented manufacturing capabilities including the combination of our four high hot rolling mill and cold finishing capabilities for flat products, along with our high-value tube and wire capabilities.

And finally, we continue to have a relentless focus on variable cost reduction throughout our operations via efficiency gains, CapEx improvements, yield increases and process changes, all of which have resulted in a significant and sustainable improvements – improvement.

The result of all this work is evident in our financial performance, with our gross margin percentage continuing to lead our slice of the industry. We've moved from single and low double-digit gross margins in fiscal year 2016, 2017 and 2018 to 18% gross margins immediately prior to the impact of the pandemic.

We have since emerged from the pandemic with margins now at about 22% without the favorable impact of raw material tailwinds. In addition, our breakeven has been reduced by approximately 25% from the 5 million pounds per quarter level in the past to now about 3.7 million pounds per quarter.

Diving deeper to confirm the significant impact of the 25% reduction in breakeven, we've compared our quarterly results of this current -- the year that just ended to prior year's quarters with similar shipped volumes. Here are the details.

In our quarter one of fiscal 2022, we had similar ship volumes to Q1 of fiscal 2018, yet net income improved by about $7 million. Q2 of fiscal 2022 had similar ship volumes to Q1 of 2019 and yet net income between the quarters improved by approximately $10 million.

Q3 of fiscal 2022 had similar volumes to Q3 of fiscal year 2017 and net income improved by approximately $19 million. And finally, Q4 of fiscal 2022 had similar volumes to Q2 of fiscal 2017 and net income improved by approximately $18 million. We've made fundamental changes that are leading to excellent financial performance.

The best part of the story is that we believe so much more is possible. Now some comments on our markets, and our recently completed Q4 and fiscal year. Our fiscal year 2022 revenue improved by over 45% versus fiscal 2021, led by a 79.6% increase in CPI, and a 37.6% increase in IGT.

Our Q4 revenues of $143.8 million were the highest quarterly revenues in a decade. Sequentially, revenue in each of our core markets increased by double digits, with Aerospace up almost 11%, CPI up over 12% and IGT, up almost 19%. In addition, our fourth quarter aerospace revenue was $67.6 million, representing 47% of total sales.

Even with these high Q4 shipment levels, our book-to-bill based on revenue remained strong at 1.3% overall with Aerospace at 1.4%, IGT at 1.3%, other revenue at 1.4% and CPI at 0.6%. The CPI reduction was expected and directly related to our current mix management initiatives on the more commoditized portion of our CPI business.

Our view of our largest market, Aerospace remains very bullish with commercial Aerospace, single-aisle build rates continuing to show momentum. The growth in this market is expected to accelerate further with double our recovery expected in late 2023 and into 2024.

Our exposure to Commercial Aerospace is strong in both new builds and in the aftermarket MRO business. As far as the new build, Haynes proprietary alloys are specified into next-gen fuel-efficient engines like the Pratt & Whitney 1000 series and the GE9X, as we've talked about before.

Our strong financial performance for the quarter reflected the impact of increased volume and revenue, along with our ongoing improvement efforts. Our Q4 gross margin was over 22%, and our net income achieved in both our Q3 and Q4 were each greater than the full year net income of any year going back to fiscal year 2015.

Finally, we continue on a run rate of approximately $100 million in adjusted EBITDA. Now, a couple of additional points worth noting on the quarter, as you know, each quarter, we call out the component of our earnings that is related to raw material fluctuations.

In our third quarter, we noted that, our gross margin percent without the previously reported raw material tailwind of $4.1 million was 22.4%. In Q4, based on price changes of nickel and cobalt, combined with our mix of shipments against each type of pricing mechanism are calculated tailwind for Q4 was reduced to $1 million.

In fact, in September, we actually incurred an unfavorable raw material headwind. And despite that, our September gross margin remained at approximately 22%. We now expect a raw material headwind of roughly $4.5 million in the December quarter, then neutralizing for the balance of the fiscal year, assuming flat raw material prices.

I'll cover this in more detail shortly when I talk about our current view of fiscal 2023. Next, our tax rate for the quarter was favorable, and Dan will provide more comments and more detail on this in his comments. Continuing, I'd like to talk for a second about ESG. Haynes continues to gain momentum with tangible results.

We now have our one-megawatt solar array fully operational at our wire manufacturing facility in Mountain Home, North Carolina. The project finished on budget and is now generating electricity from a renewable source. We're now preparing for our next solar project at our manufacturing facility in Arcadia, Louisiana.

We also continue to increase the amount of ESG public disclosures as we develop additional metrics. The process of developing metrics and goals while making investments in reducing our carbon footprint will continue as a high priority for Haynes.

As I do on every call, I now want to provide you with additional insight on our alloy and application development work. Today, I'll focus on the CPI market, specifically a Haynes proprietary alloy HASTELLOY HYBRID-BC1 alloy. Over the years, Haynes has invented and developed a number of corrosion-resistant alloys for the chemical process industry.

HASTELLOY C-276, C-22, C-2000, B3, G35 and several other alloys are all very well known in the chemical processing industry. One of our latest proprietary corrosion-resistant alloys, HASTELLOY HYBRID-BC1 alloy has been accepted for the construction of a heat exchanger and a production step for crop protection chemicals.

Corteva Agriscience was experiencing accelerated corrosion attack in a C-276 alloy heat exchanger, which had to be replaced on an annual basis. A HYBRID-BC1 Alloy heat exchanger was fabricated and the heat exchanger has provided significantly higher life cycle cost advantage by minimizing downtime for repairs and replacement.

Based on this work, I'm very proud to say that MTI, the Materials Technology Institute, has recognized Haynes and Corteva Agriscience with a 2022 MTI value award for our collaboration on this HYBRID-BC1 alloy project. It's important for us to go through these type of accomplishments with our application and alloy development.

This is just another example of the outstanding work done by our application -- I'm sorry, our alloy and application development teams. Wrapping up my comments, I'd like to cover our current view of fiscal year 2023. We believe that our future is bright and is in line with our past projections.

Specifically, our current bookings and book-to-bill levels, support our anticipated top line growth rate of 15% to 20% year-on-year. Our average gross margin in the second half of fiscal 2022 when removing the impact of raw material tailwinds averaged approximately 22%.

We expect to slightly improve in that in fiscal 2023 in spite of the expected Q1 headwind, because of the benefit of increased volumes along with our ongoing work on costs and providing high-value differentiated products and services to our customers and end users.

We expect to set a revenue record within our Aerospace market, despite the industry supply chain issues and lack of twin aisle builds at this time. We're projecting positive operating cash flow to begin mid fiscal year 2023 and as our higher levels of order entry turn into shipments and raw material purchases are more in balance with our order entry.

With the anticipated 15% to 20% growth in revenue along with our ongoing improvement initiatives, we anticipate the fiscal 2023 earnings growth to be approximately 20% when compared to fiscal year 2022.

Finally, our first quarter revenue was typically lower due to holidays, planned maintenance projects and customers managing their calendar year-end balance sheets.

In addition, in our first quarter of fiscal 2023, as I noted previously, raw materials are projected to turn into an unfavorable headwind of approximately $4.5 million and then neutralized for the balance of the year assuming relatively flat raw material prices for the balance of the year.

Given these factors, earnings per share is projected to be roughly $0.55 to $0.70 in the first quarter of fiscal year 2023, which would represent the best first quarter in a decade and compares favorably to the $0.37 achieved in the first quarter of fiscal year 2022.

The bottom line is that the actions of our employees have resulted in fundamental and sustainable changes to our business. The future is bright for Haynes, because of the efforts of all of our employees. My sincere thanks to everyone on our team. With that, I'll turn the call over to Dan to review the financial highlights..

Thank you, Mike. We finished the year with impressive fourth quarter financial results that included revenue at $143.8 million, which is double-digit sequential revenue growth and over 50% higher than last year's fourth quarter. Gross margin as a percent of revenue was 22.2% in Q4.

This revenue strength, combined with margin strength drove our adjusted EBITDA to $24.2 million, which was 16.8% of revenue and net income to $16.3 million, which is 11.4% of revenue. This was accomplished at a volume level of 4.9 million pounds shipped.

Our successful efforts to increase the melt rates driven by our continued investment in inventory have driven increasing shipments and strong profitability as well as an optimistic forward outlook. Gross margin was impacted this quarter by raw material tailwinds neutralizing faster than we expected.

The estimate raw material impact this quarter from nickel and cobalt was favorable by only $1 million, compared to $4.1 million in Q3 and $1.8 million in last year's Q4. If we remove the raw material impact out of this quarter's results and last year's Q4 results, the gross margin improved 580 basis points.

This was driven by our price and cost improvements, combined with higher production and sales volumes. Looking forward, we expect Q1 FY 2023 raw material impact to flip to an unfavorable headwind estimated at $4.5 million, that neutralized for the balance of the year depending on where raw material prices go.

It's tough seeing this impact to go from a tailwind to a headwind. Nickel started in fiscal year 2022 at about $9 a pound, then hit roughly $15 a pound about mid-year driving this tailwind. Then it's come back down to around $10 to $11, causing the headwind. Trends are similar with cobalt going from $25 to $39, then back down.

This is expected to neutralize assuming prices stabilize. We continue to encounter inflationary pressures, a tight labor market and supply chain delays like every industrial business has. Our team continues to successfully navigate our way around these issues.

Our goal continues to be offsetting inflationary pressure with price increases and/or cost reductions, such as improving yields productivity enhancements and process improvements. Continuing down the P&L, SG&A, including research and technical expense was $13.1 million in the fourth quarter, or 9.1% of net sales.

Operating income was $18.8 million this quarter, which is $14 million higher than last year's fourth quarter. Sequentially, operating income declined $1.6 million, mainly due to the raw material tailwind neutralizing faster than we expected.

Non-operating retirement benefit income was $1.4 million and was favorable to last year's quarterly expense of $1.8 million and a $6.1 million improvement for the full year. The US pension funding percentage remained relatively stable, holding at 91% even during recent market volatility due to our customized LDI strategy.

Our year-end valuation resulted in the US pension net liability at September 30th, 2022, dropping to $20.6 million, which is a $5.5 million decrease over the year and our retiree health care liability dropping to $64 million at 9/30/2022, which is an $18.9 million decrease, both combined, representing a $24.4 million liability reduction.

Our effective tax rate for the fourth quarter was 15.3%. The lower fourth quarter rate includes a higher utilization of tax credits and deductions as well as discrete tax benefits related to stock compensation.

The effective tax rate for the full fiscal year was 21.7%, and current year estimates for next year's effective tax rate are moderately higher, in line with federal and state statutory rates.

All-in, our net income this quarter was $16.3 million with a diluted earnings per share of $1.30 compared to $1.24 in the third quarter and $0.20 in last year's fourth quarter. To summarize our full fiscal year results, we had revenue at $490.5 million, a 45.3% increase or $152.8 million over last year. Gross margin was 21.7%.

Operating income, which was negative last year, was $55.4 million this year, an improvement of $62.6 million. Net income for fiscal year 2022 was $45.1 million, an improvement of $53.8 million over last year's COVID-driven net loss of $8.7 million.

The second half of this year represented over 70% of the net income, showing the current trends of profitability are strong and we look forward to FY 2023 with more normalized volumes with our lower breakeven point. Order entry and backlog continued to be at extremely high levels.

Backlog ended the fiscal year at $373.7 million, up 10.5% over the quarter and 113.2% year-over-year. And to look one month into the new quarter of FY 2023, October backlog ended at $388.7 million. October order entry represented our 11th straight quarter of order entry over $50 million per month, clearly strong demand signals.

A few comments on cash flow and the utilization of our revolver. The primary item, which drove our cash deployment this fiscal year was inventory increasing driven by our backlog strength and the inventory cost per pound rising. The pace of this inventory increase is slowing.

Inventory rose $13.5 million over the fourth quarter and roughly 87% of that was the average cost per pound rising. Other components of our controllable working capital increased over the quarter such as accounts receivable with higher revenues.

Looking into FY '23, we estimate that with our improved profitability, combined with our melt rates more in line with our shipping levels, the utilization of the revolver will ease and free cash flow is expected to turn positive in midyear '23.

We expect to be using the positive cash flow in the back half of the year to begin to pay down the revolver. We had cash on the balance sheet of $8.4 million at September 30, '22, and $74.7 million borrowed on the company's credit facility. This represents a net debt change over the quarter of $29.2 million.

Controllable working capital increased by $38.9 million, with inventory increasing $13.5 million, AR increasing $15.5 million and accounts payable and accruals decreasing by $10 million.

In early October, we expanded the size of our credit facility from $100 million to $160 million, which is better aligned with our borrowing base and provide strong liquidity moving forward.

Capital spending was $15.1 million in fiscal '22, and we're forecasting to spend $20 million to $24 million in fiscal '23, which is slightly higher than our depreciation rates. Outlook for next quarter and fiscal 2023.

Current full year expectations for fiscal '23 include revenue growth of 15% to 20% and earnings growth at approximately 20% compared to fiscal year 2022. The company's record backlog and fourth quarter performance provide the foundation for these estimates.

The first fiscal quarter is typically our lowest revenue and earnings quarter due to the holidays, planned maintenance projects and customers managing their calendar year-end balance sheets.

In addition, in our first quarter of fiscal '23, the impact of raw materials is expected to turn into an unfavorable headwind estimated at $4.5 million, then neutralized for the balance of the fiscal year, assuming relatively flat raw materials.

Given these factors, earnings per diluted share is projected to be roughly $0.55 to $0.70 per share in the first quarter of fiscal '23, which would represent the best first quarter results in a decade and compare favorably to the $0.37 in the first quarter of fiscal '22.

In conclusion, continuing our strong financial performance in the fourth quarter and our expectations for a high-growth fiscal '23 provides us enthusiasm and great evidence that our strategy is working.

While utilizing our revolver to enable investments in working capital, we or these were required for this growth, it is projected to set us up nicely to generate positive cash flow, starting around the midpoint of fiscal '23 and strengthening over FY '24 and '25.

Combine this with expectations of growing EBITDA, which the second half of fiscal '22 was at $100 million annual run rate, provide an optimistic view of our growing shareholder value. And Mike, with that, I will now turn the discussion back over to you..

Thank you, Dan. Wrapping up, I'm proud of the Haynes team and all that they are doing for our company. The best part of our story is that further improvement is truly possible in everything that we do. At this point, Jenny, please open the call up for questions..

Ladies and gentlemen, the floor is now open for questions. [Operator Instructions] Thank you. Your first question is coming from Steve Ferazani of Sidoti & Company. Steve, your line is live..

Good morning. Thanks for all the detail on the call, everyone..

Hi, Steve..

I wanted to ask your take on the aerospace market. You noted some delay in the recovery of double aisle.

When you think about your backlog and how you get there, what's your take on the consistency of your expected shipments in that market next year, given the delay in some of the recovery?.

We -- the delay is -- 80% of the market, as we see it, is single-aisle versus double aisle. So we've known all along, obviously, that the double-aisle planes for a variety of reasons are being pushed out, but we see no impact on our view that this market is going to grow significantly. And just some facts and figures for you.

The LEAP engine is the dominant engine in single aisle. And yes, it is true that the LEAP engine builds have come down a bit, forecast to forecast, but that's all supply chain related, and there is a push to continue to push things through the supply chain. So this year, most likely LEAP-1A and 1B would finish at about 1,400 to 1,450 engines.

But the most important part here is that, for the next four years, they're projected to be over 2,000. So when you take a step back, both the LEAP engine and the Pratt & Whitney 1000 series engines are projected to show significant build rates from this year to next year and beyond.

On top of that, Airbus and Boeing are expected to surpass the pre-pandemic build rates by 2023. And that's a heck of a statement. And finally, this line that I'll give you now, I heard very recently, the lack of engines, not the lack of customer appetite, is the main factor for holding back planes.

So we're seeing no holdback whatsoever in the aerospace supply chain and customers are still pushing us to get as much out as possible..

One thing we track is the book-to-bill. And over the quarter in aerospace, that book-to-bill was 1.4, so still very strong over 1. And if you look at our – one thing we always compare back to FY 2019 on aerospace. That was a record year for us in volume.

But if you look at the average in revenue for aerospace, it was about $64.5 million per quarter in 2019. Now that was with single-aisle and double-aisle was doing well. And this quarter was $67.6 million in revenue, with really just the single aisles driving that. The double-aisle is still yet to come..

Excellent. Excellent. That's helpful. Thank you. I also wanted to follow up on your commentary about the CPI book-to-bill and how that was planned.

Can you provide a little bit of color on -- given your significant backlog, how you're handling new orders in terms of commoditized versus, clearly, the more higher-margin orders that are more beneficial to?.

Sure. You've got to look at this as we look at this, it's really three markets. And the aerospace market is full steam ahead with the book-to-bill at 1.4. Power generation, this is the most optimistic I've heard the market about power -- land-based gas turbines in over a decade. There is definitely a positive build rate.

There's a huge number of engines that are supposed to be built. And quite frankly, there's also positive substitution with one of our proprietary alloys, which help these engines run hotter and more efficiently, that’s Haynes 282 alloy. So those are good.

On the -- but what's happened to us, Steve, is, as Dan said, we've now had 11 consecutive months of over $50 million in order entry. We have a record backlog. The average of the last six months in order entry is over $60 million. Our lead times like everyone in the industries are starting to extend.

So, we look at the CPI market, and we really say there's two pieces to it. There's the special project piece to that, which is high value, very differentiated high value equals high margins. So it's a very good product for us. So we treat that very importantly, and we try to keep it in – we try to get it in wherever we need to.

On a more commoditized portion, instead of going after larger orders at relatively low margins and further extending our lead time, we're not walking away from that business, but we are quoting higher prices which means we don't get all of it. And we're very happy with that given the amount of bookings that we're getting right now..

And one other element to that, as well as aerospace is where most of our long-term agreements reside. So, we're certainly servicing those long-term agreements on the -- on the commoditized side of CPI, that's more kind of spot type business that is not part of long-term agreement.

So, it's a little easier to mix manage on the commodity side of that market..

Great. That's very helpful. If I can just squeeze one last quick one in, in terms of the expanded revolver. How you're thinking about inventory conversion into the second half of the year makes sense sales and deliveries and shipments match up with new orders.

I'm trying to think, do you feel the expanded backlog now gives you a cushion to get to the second half? Do you think that you have enough room now?.

Yeah, certainly. I mean that was a 60% increase in the revolver. It lines up much better with we're an asset-based lending agreement. So it lines up much better with our borrowing base, which, as you can imagine, is driven by inventory and accounts receivable and such. So yes, I think that's going to give us plenty of capacity moving forward.

And once we hit kind of the midpoint of the year, we'll certainly be thinking about paying the revolver lower, and go from there as we generate cash over the next couple of year's growth..

Fantastic. Thanks, Mike. Thanks, Dan..

Thanks, Steve..

Thank you very much. Your next question is coming from Michael Leshock of KeyBanc Capital Markets. Michael your line is live..

Hi, Mike..

Hey, Mike..

Hey, good morning, guys. First, I wanted to ask you on volume absorption. Do you see further leverage here as the ramp continues and you're nearing that £5 million-plus per quarter mark? And secondly, you have a very strong backlog and demand looks solid across all your end markets.

At what level of volume do you see a need to add capacity? And is that something that would make sense to do?.

Sure. I'll take the first question there. Yeah, certainly, we believe we'll keep getting what I call profitability leverage on the higher volumes. We've certainly seen that with that lower breakeven, it really makes a tremendous difference. The incremental margin we get with higher volumes is fantastic.

So yeah, as we get back to the 5 million pounds a quarter and start exceeding that, which we expect over the next year, then incremental margins will continue to improve. And that's one of the main drivers of an expectation of improved gross margin over the course of the year..

And Mike, let me just talk for a second about capacity and where we are. We feel very comfortable given what we've already invested in that especially in the Aerospace side, we're in very good shape. If you remember, we spent a significant amount of money between 2012 and 2018.

And we significantly expanded our cold finish flat capability, which is our core product going into aerospace and our titanium tube capability also for aerospace. So we feel very good about those items. We have a couple of lines -- a couple of pieces of equipment that are constrained.

One is a piece of equipment that is between our hot rolling and our finishing for strip products and we've got $6 million in the budget to over the next year through a multitude of phases, improve the processing capability on that line. So that feels good. And the last one is vacuum induction melting, which is very full right now.

And one of the things that we are focused on is on some of our core products, significantly improving the yields or manufacturing people led by Dave Strobel, have done an outstanding job with that. And the higher the yields, the less we have to melt.

In addition on VIM, we're looking at whether there is availability outside for us to use conversion, and we're also evaluating whether it makes sense a few years down the road to put in additional VIM. So we're going through all of that..

Great. Thanks. And I wanted to touch on the guidance as well.

Given the seasonally subdued first quarter that you're expecting as we look into the balance of the remaining three quarters of the year, do you expect a linear ramp there in line with your -- the ramps of your end markets, or is that something that could be fairly consistent quarter-to-quarter, given you clearly have the backlog to support that level of shipments?.

Yes. I mean, certainly, with the increased melt rates that we've done over the past quite a few months, that's queuing up a lot of work in process inventory to be able to finish the processing and raise those revenue rate.

So yes, once we get past Q1, which is always, as you mentioned, seasonally subdued, it definitely will pick up from there to get to that 15% to 20% increase over 2022. So it will be pretty linear. There's no big hockey stick at the end or anything like that. Once we get past Q1, it will be pretty linear..

And then on labor, I wanted to get an update on where you're at in the hiring process as well as the training process for your recent headcount additions.

Is the bottleneck still in finding labor, or is it more on the training side now? And when do you think the productivity improvements from these new hires will begin to show? Is it a six- or 12-month lag, or what do you see there in terms of the length of time to train new hires?.

I'll take this Kokomo and then the balance of our facilities. In Kokomo, we've done a significant amount of hiring. And we are at the point with the exception of some specialized trades. We feel we're pretty much at full hiring now. We have the people we need. They have been training for quite a while and many are coming up to speed.

And in fact, we've begun to see increases, in particular, in the volumes we're getting through our cold finished lot area. So we feel very good about where we are. Of course, it's not just on the production side. It's also on the salaried side and we continue to look there for what we need within our headquarters within Kokomo.

So I'd say we're not at full staff on the salaried side but close, and we are just about there on the production side. A little different story in our other operations, whether that's the distribution centers or wire facility or our tube facility.

Those it's a little tougher to be able to access people, but we're at this on a regular basis, almost on a daily basis with job fairs and things like that. So we continue to work to secure what we need..

And then lastly for me, I wanted to ask on pension. Just given the planned returns and interest rates and the changes you've seen there, how should we think about the balance of that pension liability and also the impact of expense in 2023 versus fiscal 2022? Thanks..

Yes. Great question. We're very happy with the progress we've made on that. And I quoted the percentage funded 91%. Actually, if you get into this year a little bit, it's slightly higher than that. And we have trigger points at each at certain levels that once we hit those, we shift more into the customized LDI strategy and less in equities.

So, we'll see if we make progress there. Currently, we're funding $6 million a year, $500,000 a month. into the plan, and that's helping a bit as well. We talked about a capital allocation decision at some point, making maybe a lump sum contribution to also garner some additional progress towards 100%.

So, that's still a consideration, certainly up against all the other capital allocation decisions that we're going to make into the future, but we'll see when we make that decision.

As far as expense for 2023, yes, you're right with where discount rates have moved to, helps reliability, but the next year expense may be slightly higher on the interest piece of your expense. So, the non-cash interest expense does tick up a bit from where it was last year.

So, we've baked that into these forecasts into these projections that we have provided you and still believe that net income strength at 20% is still very doable even with those increases in the pension..

Great. Appreciate the level of detail. Thanks guys..

Yes. Thank you..

[Operator Instructions] Your next question is coming from Sam Douglas of Mara River Capital. Sam, your line is live..

Hi Sam..

Hi. I have two questions, if I can. First, given the significant backlog and ramp and aerospace production, how should we think about seasonality drop off from Q4 to Q1 compared to pre pandemic years.

Should you -- could we expect a little bit of a lower drop off? I know you mentioned there's some maintenance and some customer scheduling, but just didn't know how that compared given the significant backlog and ramp up? And then second, if I look at gross margin ex-commodity tailwinds Q4 to Q3, it's about 90 basis points lower, but on higher volumes.

And I think you guys mentioned that it's mix.

But I guess if you could give a little bit more color on what about that mix is driving that like?.

Sure. I'll start with the second question, then I'll hand it over to Dan for the first part. When you look at our gross margin, and that's why we try very hard to every quarter, talk about what we're dealing with as far as raw material headwinds or tailwinds.

When you look at Q3, our reported gross margin was 25.5%, but we talked about the tailwind of $4.1 million. So, it was really down at a little over 22%. And then in Q4, when you go through the same math, we're at about 21.5%.

And as we go through these numbers and look at what is the delta that's the raw material tailwind and the amount of it is obviously the key item. But as we've talked about and as you mentioned, mix is the second. An example of that and what we're talking about is the mix we have in aerospace versus certain chemical processing products as an example.

And so if you remember, I talked about on chemical processing, our book-to-bill was down because what we are cleaning or what we are going through now are orders, which were taken to help us with absorption, which obviously we don't need as much help with. So those orders are in.

We're shipping them and then they're falling off the books going forward..

And I can handle the first question related to seasonality. It's interesting. We look back at many years to see what kind of pattern we would have there. And it's a bit volatile. Even last year, it was higher in Q1 and than this year, but of course, that was coming out of the COVID pandemic.

In other years, if you try to look for a pattern, we've seen seasonality drop 10% in Q1 compared to Q4. Probably won't be that data I mentioned our backlog is stronger. So I probably don't expect that much of a reduction, but that would be in the territory, maybe 7%, 8%, something like that..

Okay. Thank you. And then I guess just one follow-up on the pension expense.

I know you mentioned higher interest expense and -- sorry, if I missed it, but is that the actual expense that's going through the non-operating retirement line in the P&L? Is that expected to be an expense this year?.

It's expected to be less of a benefit. So no, it's not going to be an expense this year. But yes, that is where it shows up and the non-operating retirement benefit expense, it just won't hurt, it will be a benefit, just not quite as high as it was this past year. When discount rates go up, the interest component of that goes up with it.

So that's really where we're seeing that elevation. We do see kind of buried in cost of goods sold, the service cost is actually going down a bit. So we got a reduction on the service cost side, but a slight increase on the interest portion of the expense.

So net-net, when you look at both of those combined, only a couple of hundred thousand increase from last year to this year. But you will see a little of that to more in that non-operating retirement benefit line..

Okay. Great. Thank you very much..

Thank you. Appreciate the questions..

Thank you very much. We appear to have no further questions in the queue. I will now hand back over to Mike Shor for any closing comments..

Thank you, Jenny. To our shareholders and audience on the call today, thank you for your ongoing interest in our company and for being part of our improvement journey. We look forward to talking to you again next quarter. Thank you..

Thank you, ladies and gentlemen. This does conclude today's conference call. You may disconnect your phone lines at this time, and have a wonderful day. Thank you for your participation..