Ladies and gentlemen, thank you for standing by and welcome to the Curtiss-Wright Fourth Quarter 2019 Financial Results Conference Call. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Jim Ryan, Senior Director, Investor Relations.

Please go ahead, sir..

Thank you, Sydney and good morning everyone. Welcome to Curtiss-Wright’s fourth quarter 2019 earnings conference call. Joining me on the call today are Dave Adams, our Chairman and Chief Executive Officer and Glenn Tynan, our Vice President and Chief Financial Officer.

Our call today is being webcast, and the press release, as well as a copy of today’s financial presentation is available for download through the Investor Relations section of our company website at www.curtisswright.com. A replay of this webcast also can be found on the website.

Please note, today’s discussion will include certain projections and statements that are forward-looking as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and are not guarantees of future performance.

We detail those risks and uncertainties associated with our forward-looking statements in our public filings with the SEC.

As a reminder, the company’s results and guidance include an adjusted non-GAAP view that excludes first year purchase accounting costs associated with acquisitions, onetime transition costs associated with the relocation of the DRG business, and restructuring costs in 2020.

Reconciliations for current and prior year periods are available in the earnings release at the end of this presentation and on our website. Any references to organic growth exclude the effects of foreign currency translation, acquisitions and divestitures, unless otherwise noted. Now, I would like to turn the call over to Dave to get things started.

Dave?.

Thanks, Jim. Good morning, everyone. I will begin with a few highlights of our fourth quarter and full year 2019 results and a brief overview of our recently announced acquisitions. Then I will turn it over to Glenn to provide a detailed review of our full year 2020 guidance.

Finally, I will return to wrap up our prepared remarks before we move on to Q&A. Starting with the fourth quarter highlights, we delivered a solid quarterly performance, which was slightly ahead of our expectations for operating margin and diluted EPS, and well ahead on free cash flow.

Our adjusted results reflect strong defense sales and profitability, as well as the benefits of our ongoing margin improvement initiatives. These gains more than offset softer demand in some of our commercial and industrial markets, particularly in on and off-highway.

We produced an operating margin of 18.8%, up 180 basis points year-over-year and a record fourth quarter diluted EPS of $2.12. Free cash flow was also very strong as we exceeded our guidance and generated a quarterly record of nearly $250 million, resulting in a 277% conversion rate.

Please note that 2019 free cash flow benefited from approximately $20 million in advanced payments that we were expecting in 2020. Turning to our full year 2019 highlights where we achieved strong results across the board. We experienced sales increases in all three segments, led by double-digit sales growth in our defense markets.

Adjusted operating income rose 7% on a 3% increase in sales, generating a 70 basis point improvement in adjusted operating margin to 16.5%. These results principally reflect improved profitability in the commercial/industrial and power segments, led by strong naval defense sales.

Adjusted diluted EPS of $7.27 increased 14% year-over-year, reflecting a strong operational performance. We accomplished these results despite increased R&D investments and tariffs. We also produced solid growth in adjusted free cash flow, with a conversion rate of 121%, resulting primarily from our continued efforts to reduce working capital.

This represents our seventh consecutive year, achieving more than 100% free cash flow conversion. New orders were up 6%, led by strong demand in naval defense, driving overall book-to-bill of 1.04 times, which ensures that we’re well positioned for continued solid sales growth in 2020.

Next, I would like to provide an overview on our acquisition of 901D, which closed on December 31. 901D is a trusted and proven supplier of ruggedized shipboard enclosure solutions, integrated electronic systems and subsystems.

901D is especially known for its best-in-class design and engineering technologies, dedicated to protecting electronic systems from harsh shock, vibration and thermal environments. Their solutions are utilized in mission-critical applications to protect servers, weapon systems and other hardware onboard U.S.

Navy aircraft carriers, submarines and surface ships. We paid approximately 10x next 12 months EBITDA, in line with what we’ve historically paid. Similar to our previous acquisitions, we expect this business to support our long-term financial objectives of organic growth, margin expansion and free cash flow generation.

In 2020, we expect 901D to contribute nearly $50 million in revenues, principally to the naval defense market, produce an adjusted operating margin that is accretive to overall Curtiss-Wright and be accretive to adjusted EPS.

Further, we expect that 901D will be accretive to our overall free cash flow, generating a conversion rate above 100% and meet our long-term acquisition criteria. In addition, earlier today, we announced that we entered into an agreement to acquire Dyna-Flo Valve Services Ltd., which will operate within our commercial/industrial segment.

Dyna-Flo specializes in the manufacture of control valves, actuators and control systems for the chemical, petrochemical and oil and gas markets. Its products are complementary to our existing pressure relief valves serving these markets and similarly have a strong reputation for their critical performance in severe service environments.

Dyna-Flo has annual sales of approximately $25 million and is expected to be accretive to adjusted earnings per share. We expect this transaction to close in March and therefore not including Dyna-Flo within our guidance at this time. Now I would like to turn the call over to Glenn to provide a review of our financial outlook for 2020.

Glenn?.

Thank you, Dave and good morning everyone. I’ll begin with our 2020 end market sales guidance, where we expect overall growth of 4% to 6%, with increases in nearly every end market. In the defense markets, we expect growth of 8 to 10% overall and 4 to 6%, organically.

This outlook reflects the continued favorable trends in defense, our solid backlog following very strong orders in 2019 and the contribution from the 901D acquisition. In aerospace defense, we expect sales growth to come from higher demand for actuation and flight test equipment, principally supporting the ramp-up on the F-35 program.

In ground defense, sales growth is expected from planned modernization activity on the Bradley and Stryker platforms. In naval defense, we expect organic sales growth to be led by the ramp-up on the CVN-80 and 81 aircraft carrier programs, higher Virginia class submarine revenues and inorganic growth from 901D.

Moving to the commercial markets, where we expect sales to be flat to up 2% overall. We are projecting commercial aerospace sales to be up slightly, led by higher sales of sensors and surface treatment services to Airbus, while sales to Boeing are expected to be flat.

Next, in power generation, we anticipate increased revenues on the CAP1000 program in 2020, before it winds down over the following two years as we complete production on this contract. Partially offsetting this increase are lower international aftermarket sales, while domestic aftermarket sales are expected to be flat.

In general industrial, we anticipate overall sales to be flat, reflecting our views of both market-specific drivers and global economic activity. Industrial vehicle sales are expected to be flat overall, as modest growth in the off-highway market is expected to be offset by reduced demand in the on-highway market.

Industrial control sales are expected to be up slightly due to higher demand for our industrial automation products. In industrial pumps and valves, sales are expected to be down slightly as lower sales of valves to the oil and gas market are partially offset by higher sales to the chemical market.

And for our surface tech business, which is the most closely linked to global GDP growth, sales are expected to be essentially flat in 2020. And finally, in the appendix for our presentation, you will find detailed breakdowns of our full year 2019 sales by end market, as well as our 2020 end market sales waterfall chart.

Before we turn to our financial guidance, I wanted to review some changes to our segment structure, which reflects the movement of two business units impacting all three segments.

This change provides better alignment to how we’re managing the businesses in 2020, while also shifting most of the naval defense revenue into the defense and power segments. For comparability purposes, all 2020 guidance is compared to the 2019 column and titled, New Structure.

We have included pie charts in the appendix to reflect the revised segment structure and we will be posting three years of historical sales and operating income data on our website.

Moving on, our adjusted financial guidance for 2020 reflects solid sales growth led by our defense and power segments, operating income growth of 4 to 6% and operating margin growth of 0 to 10 basis points compared to 2019.

Our adjusted 2020 guidance excludes total restructuring costs of $28 million, spread across all three segments, though most of the activity is in the commercial/industrial and power segments.

In commercial/industrial, we are aligning the business with current market conditions and being proactive in other areas, in case global economic conditions worsen.

In power, we haven’t conducted any significant restructuring efforts in recent years, so we are taking advantage of opportunities to improve efficiencies and better align our business for future growth. We would expect to achieve approximately $20 million in annualized savings from these restructuring initiatives beginning in 2021.

And please note that our 2020 guidance also includes a $10 million increase in R&D, primarily in the defense and power segments. Excluding these growth investments, Curtiss-Wright’s operating margin would have reflected a 50 basis point improvement to 17% at the high end of our range.

Continuing with our outlook by segment, starting with the commercial/industrial segment, we expect sales to be flat to up 2%, principally due to our modest growth outlook in the commercial aerospace market.

We are similarly projecting segment operating income to be flat to up 3%, while operating margin is expected to increase slightly to a range of 15.8 to 15.9%. Please note that 2019 results included $9 million of onetime gains on sale of a product line and building as part of our ongoing margin improvement initiatives.

Excluding these gains, 2020 segment’s guidance would have reflected an 80 basis point margin improvement from 2019. In the defense segment, we expect sales growth to be led by improvements in all defense markets, including the contribution from 901D acquisition.

We are projecting segment operating income to grow 9 to 11%, while operating margin is expected to decrease 20 to 30 basis points, to a range of 22 to 22.1%. This outlook reflects favorable absorption on higher sales, and includes a $5 million increase in R&D to support future organic growth.

Excluding the increased R&D investments, segment operating margin guidance would have reflected a 50 to 60 basis point improvement from 2019. In the power segment, we expect sales growth to be led by higher revenues in both the naval defense and power generation markets.

We are projecting segment operating income growth of 3 to 5%, while operating margin is expected to decline 20 to 30 basis points, to a range of 17.1 to 17.2%. This outlook primarily reflects favorable absorption on higher sales, as well as a $5 million increase in R&D to support future organic growth.

Excluding the increased R&D investment, segment operating margin guidance would have reflected a 30 to 40 basis point improvement from 2019. Continuing with our 2020 adjusted financial outlook. We expect full year 2020 diluted EPS guidance to range from $7.50 to $7.70, up 3 to 6%.

We expect to achieve these results despite the aforementioned increase in strategic R&D investments of $10 million, which equates to $0.18 per share. Excluding the R&D investment, our 2020 EPS guidance would have reflected an increase of 6 to 8%.

We expect our 2020 quarterly EPS to follow a similar cadence to prior years, with the first quarter expected to be our lightest and in line with our prior year first quarter. Further, we expect approximately 40% of our full year earnings per share in the first half.

This reflects the typically gradual ramp up in defense revenues, as well as first half impacts from the coronavirus and the 737 MAX. For the remainder of 2020, we expect sequential quarterly improvement, with the fourth quarter being our strongest. Next, an update on our pension plans.

In January of 2020, we made a 150 million voluntary contribution to our defined benefit pension plan, due to the continued decline in discounts’ rates, which have reached the lowest level in 10 years. At current rates, we anticipate that this voluntary contribution will eliminate the need for further cash contributions over the next 5 years.

Excluding this pension contribution, the cash impact from restructuring and capital expenditures related to the relocation of our DRG business, 2020 adjusted free cash flow is expected to range from $370 million to $390 million, with an expected conversion rate of at least 115%.

We are maintaining a very solid free cash flow level, similar to our strong 2019 results, despite approximately $20 million in advanced payments that were expected in 2020 but received late in the fourth quarter of 2019.

And lastly, we have a strong and healthy balance sheet with roughly 1.8 billion available to support our acquisition pipeline, as we continue to seek profitable acquisitions to bolster our top line growth. Now I’d like to turn the call back over to Dave to continue with our prepared remarks.

Dave?.

Thanks, Glenn. Before we shift to Q&A, I want to make a few closing remarks to broadly address the companywide restructuring initiatives and other investments planned for 2020. Similar to the past several years, you should expect to see a continuation of our ongoing margin improvement initiatives.

We expect these initiatives to include restructuring, facility consolidations, supply chain and Lean savings and segment focus, which is dedicated to improving lower-margin businesses.

These are proactive actions to ensure that we can enhance Curtiss-Wright’s profitability, both for tomorrow and years down the road, with a keen focus on remaining in the top quartile of our peer group.

Given the sensitive nature of the restructuring activities as they relate to employees, facilities and customers, we are going to keep those discussions at a high level.

We are balancing those efforts with continued investments in future organic growth, with another $10 million incremental increase in research and development investment planned for 2020.

In addition, we expect to complete the relocation of our DRG business and transition all production to our new state-of-the-art facility in Charleston, South Carolina, by the end of the first quarter.

As we look across the various initiatives discussed this morning, we are confident that these are the prudent investments required today to continue to deliver long-term profitable growth for our shareholders. In summary, Curtiss-Wright is performing well, and we’re positioned to deliver solid results this year.

We are continuing to invest in our future with increased R&D funding and restructuring endeavors. We’re benefiting from the favorable defense environment, which supports our forecast for growth in all of our defense markets and helps to offset some of the challenges in our commercial markets.

We are driving solid execution and leveraging the benefits of our ongoing margin improvement initiatives. Overall, we remain on track to continue to deliver long-term value for our shareholders. At this time, I’d like to open up today’s conference call for questions..

[Operator Instructions] And our first question comes from Myles Walton with UBS. Please proceed with your question..

Thanks. Good morning..

Good morning, Myles..

I was wondering if we can start on cash for a second, obviously, good performance there. And as you look to 2020, a couple of questions one, you put out a 3-year, $1 billion free cash flow target, which looks like you’ll easily eclipse. If you had any update on the thinking there.

And then in terms of the pension contribution, Glenn, I think a couple of years ago or 2018, you did a 50 million, you thought that was going to cover you for five years, and now 150 million will cover you for five years.

And so I just want to make sure I understand, are you using safe harbor for discount rates in the 25-year average? Are you using the spot rate to define what your funding requirements are?.

I’m pretty sure we are using a spot rate, but it’s – what has changed is, as I said in the script, discount rate has now hit the lowest it’s been in 10 years, it’s been in a nose dive. We can go back a couple of years, and that’s where it started.

And it was 17 – I think a 17 headwind we were looking at if we had not made the contribution, and that’s in 2020. That equated to about $0.31, $0.32 a share. So we wanted to mitigate that and kind of avoid cash contribution in the future. But it’s all based on the discount.

If discount rate comes back, things will – that will change things dramatically, honestly..

And what is the position of the funding status at this point that’s implied for the plan?.

I think it’s – I believe it’s fully funded, yes..

Okay and then maybe on the sales that you had on the CAP1000. I think you called out timing-related delay there. And then obviously, what’s implied is, I guess, recovery in 2020.

Just Dave or Glenn, what’s the cause of the delay and what’s the confidence on kind of that recovery of the sales?.

Well, the cause of the delay, if you go back to the third quarter, we had diverted some resources to these Sanmen – I am sorry, from the Sanmen issue – to the Sanmen issue, and we had higher – replaced it with higher revenues on the – from defense.

That’s been resolved now, so that those sales – most of those sales shifted in 2020, about 20 of the 30 million that we moved out in the third quarter, and the remaining 10 is some time beyond 2020. So we’re very confident in those numbers now..

Okay. And then, Dave, as it relates to the aero side of the business, where, I guess, you’re looking for overall Boeing sales to be flat.

Just kind of what are the sensitivities assumptions underlying that for the MAX and the 787? And then also it would require me to ask the question of your relative exposure to China and what pieces of your business might be more sensitive to coronavirus than not and how you are kind of gauging that within your guidance?.

Well, I’ll add some to it, and Dave could comment if he wants. I mean just to recap, we’re maintaining our 52-month rate for our actuation equipment so that we’re under contract with, so we’ve not changed that.

We have experienced a minor disruption in our non-actuation products, which are sensors and surface tech services, and we estimate immaterial impact that we have included in our guidance, about $10 million in sales that we expect in the first half of this year, and we expect to recover that in the second half of the year.

And overall, we expect Boeing sales to be flat in 2020. So that’s the MAX part of our timing issue, half one, half two. Coronavirus is, again, just to give some perspective we have nine locations in China, including five manufacturing facilities. We have a little over 500 employees. Each facility has received approval to return to work.

The current capacity levels range from 50 to 100%, depending upon the location, and our largest facility is at 85%.

And knock on wood, thus far, no employees have been affected with the virus, so we are estimating, although it’s still a fluid situation, the financial impact could be, again, about $10 million in first half sales in the commercial/industrial segment that we expect to recover in the second half of the year. So it’s part of our half to half.

In the power, I will mention, it could possibly have a slowing effect on the cadence of the CAP1000 revenues based on potential delays in receipt of approvals from China, but it’s just way too early to tell, and we’re not seeing any of that right now, but we’re just keeping our eye on it..

Okay. Thank you, guys..

Thank you. And our next question comes from Peter Arment with Baird. Please proceed with your question..

Hi, good morning. You’ve actually got Eric Ruden on the line for Peter this morning..

Good morning..

Morning.

Quick one for me, high level, just thinking about M&A going forward, your two recent acquisitions, 901D and now Dyna-Flo you just give your puts and takes on where you see the M&A environment given the recent market volatility, kind of where you’re seeing opportunities there?.

Yes. Overall, the pipeline remains fairly decent for us. We were really encouraged last year when we saw 901D coming up and then Dyna-Flo and others that we’ve been in pursuit.

And some of these take years, as we’ve talked in the past, but of these two, in particular, was just opportunistic today that we were able to announce Dyna-Flo, that’s ramped to the point where we could have that announcement. And we’re pretty specialized in what we acquire.

If you followed us for very long, you’ve gotten to know us, and we’ve drawn a line in the sand that says, not below this point will we chase some projects. So it’s a very heavily scrutinized process that we go through. And I’d say, right now, like I said before, it’s a decent pipeline we are very careful on watching for overpaying.

And some of that, you saw it in commercial aerospace over the last several years, and I’ve said over those last several years, we really want to get into that area or grow in that area too much from an acquisitive perspective because it has been pretty pricey. I haven’t seen much change there.

On the industrial side, I think you can probably get some bargains right now, but for obvious reasons, and so we don’t really want to chase something down. But these two examples of what you’ve seen on 901 and Dyna-Flo are a great example of little niche product areas that complement what we do.

And Dyna-Flo, I can just mention that as being the newest, and you’ve heard least about it, with their control valves, both linear and rotary and then isolation and actuators. These things all fit into the markets that we currently address with a supply or with a channels to market, where we have been absent.

The particular, let’s say, the wrap-up of the pressure relief valve systems and subsystems, these now complete that system or subsystem level perspective, and we’ve been looking for this for a long time. And so it’s a great little pocket for us. It is a leader in their business.

And when we find those, we tend to court them over a long period of time and then eventually, make it happen. We’ve got others like that with other products in the works today. So while we do apply a lot of scrutiny, and you haven’t seen, but four or so, five now, maybe in the last several years, you’ll continue to see that.

And size will range from these smaller ones up to very large. And we’ve got, like Glenn said, we’ve got a lot of the dry power..

Thanks. Appreciate the color. I’ll leave it at one for me..

Thanks..

Thank you. [Operator Instructions] And our next question comes from George Godfrey with CL King. Please proceed with your question..

Thank you. Two questions.

First is, do you happen to have the bookings for the quarter there, I saw the 2.6, but I was just curious on the quarter?.

The quarter was about a little under 600 million..

And then when the pension contribution of 150 million, that’s strictly related to the lowering of the discount rate, correct?.

Correct..

Was the 50 million in 2018, 100% related to the….

Yes..

Okay..

Yes, it was the same situation that the discount rate has been declining for a number of years now, so….

Yes, well aware. Yes, okay.

My question, are you able to recover any of those expenses, the pension contributions, going forward, from the government?.

We are. There is a cash – I mentioned calculation as well for – well, all our defense businesses, but we don’t have that exact number right now, but yes, we will and yes, we have..

Okay.

From the time that you make the contribution to the time you get some level of reimbursement, how many years is that or is it one year?.

It’s usually a 3-year process. I think we submit our pricing – yes, our pricing to the government..

Got it..

So, we will submit it, obviously, in 2020..

Understood. Great, thank you for taking my questions..

Thank you, George..

Thank you. And I’m not showing any further questions at this time. I will now turn the call back to Dave Adams, Chairman and Chief Executive Officer, for any further remarks..

Thanks, Sydney, and thank you all for joining us today. We look forward to speaking with you again during our first quarter 2020 earnings call. Have a great day. So long..

Ladies and gentleman, this concludes today’s conference call. Thank you for participating. You may now disconnect..