Liza Sabol - Walter Nicholas Howley - Chairman, Chief Executive Officer and Chairman of Executive Committee Gregory Rufus - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Secretary.

David E. Strauss - UBS Investment Bank, Research Division John D. Godyn - Morgan Stanley, Research Division Robert Spingarn - Crédit Suisse AG, Research Division Carter Copeland - Barclays Capital, Research Division Michael F. Ciarmoli - KeyBanc Capital Markets Inc., Research Division Joseph B.

Nadol - JP Morgan Chase & Co, Research Division Yair Reiner - Oppenheimer & Co. Inc., Research Division Gautam Khanna - Cowen and Company, LLC, Research Division Robert Stallard - RBC Capital Markets, LLC, Research Division Kenneth Herbert - Canaccord Genuity, Research Division.

Good day, ladies and gentlemen, and welcome to the Quarter 3 2014 TransDigm Group Incorporated Earnings Conference Call. My name is Cathy, and I will be your operator for today. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. I would now like to turn the call over to Liza Sabol of Investor Relations.

Please proceed, ma'am..

Good morning, and welcome to TransDigm's Fiscal 2014 Third Quarter Earnings Conference Call. With me on the call this morning are TransDigm's Chairman and Chief Executive Officer, Nick Howley; President and Chief Operating Officer, Ray Laubenthal; and our Executive Vice President and Chief Financial Officer, Greg Rufus.

The company would like to remind you that statements made during this call which are not historical fact are forward-looking statements.

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 at sec.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 a reconciliation of EBITDA and EBITDA As Defined, adjusted net income and adjusted earnings per share to those measures. With that, let me please now turn the call over to Nick..

The midpoint of the revised guidance is now $2.36 billion or up $15 million versus the prior midpoint. The revenue increase is primarily due to a modest improvement in the commercial aftermarket full year outlook.

The midpoint of the revised 2014 EBITDA As Defined guidance is now $1.07 billion or 45.3% of revenues, up $10 million from the prior quarter guidance. This margin includes 1.5% to 2% of dilution from Airborne and EME. The dollar increase in EBITDA is primarily due to the commercial aftermarket mentioned in the revenues.

We are anticipating our base businesses, again, excluding Airborne, EME and the 2013 June acquisitions, to run at about 48% for the year. The midpoint of EPS as adjusted is anticipated to be $7.52 per share versus a prior guidance of $7.58. The range on this is plus or minus about $0.05 a share.

The change is primarily due to the improved operating performance and some lower tax expenses more than offset by the higher interest expense from the recent financing and special dividend.

At the midpoint, our 2014 guidance is based on the commercial OEM and defense revenue outlooks remaining unchanged from both last quarter and our initial guidance. The commercial aftermarket on a same-store basis is now assumed to be up slightly over 10% on a full year basis. This was corrected on the slides we originally sent out this morning.

In summary, the first 3 quarters are modestly ahead of our initial expectations. Hopefully, these strengthening market conditions continue. But in any event, I'm confident, with our consistent value-focused strategy and strong mix of businesses, we can continue to create long-term intrinsic shareholder value for our investors.

With that, let me hand it over to Greg, who will discuss the financial results..

favorable operating results which contributed $0.11 per share, a lower effective tax rate which contributed $0.06 per share and the decrease in the weighted average shares were $0.02 per share. Switching gears to cash and liquidity. We ended the quarter with $729 million of cash on the balance sheet.

This includes the completion of the financing, net of the $25 per share dividend and related DEP payments, the repayment of the 7.75% notes and the related fees and the purchase of approximately $75 million of treasury stock. The company's net debt leverage ratio was 6.4x our pro forma EBITDA As Defined.

We now expect to end the year with approximately $850 million of cash on the balance sheet, assuming no other acquisition activity. Absent any further changes to our capital structure or any stock repurchase, we expect our net debt leverage ratio to be 6.1x EBITDA As Defined by the end of the year.

Now I'll hand it back over to Liza to kick off the Q&A..

Thank you, Greg. [Operator Instructions] Operator, we are now ready to open the lines..

[Operator Instructions] Your first question which comes from the line of David Strauss of UBS..

Nick, looking at your revised guidance for the full year, it seems like you're implying Q4 about sequentially flat in terms of sales and adjusted EBITDA margins.

When we see the adjusted EBITDA margins potentially move up with another strong aftermarket quarter and the acquisitions being there for another quarter, why wouldn't we see those margins....

Just a sec, we're looking it up. I didn't think that was the case, so let me just look it up. Where's -- yes, it's gone up a little. Yes, it's gone up about 0.5 point, I think. I think you're talking about 0.5 point, if we're doing the math, and you're right. But I get your point. We -- about 0.5 point is what we got cranked in there.

It's probably getting lost in the abouts..

Okay. Yes, it looks about -- it looks relatively flat to me, but it might be in the noise. On the aftermarket, could you just talk a little bit about -- I don't know if you specifically said, I may have missed it, what bookings were like in the quarter sequentially.

And where did you see the improvement? Was it more on the discretionary kind of aftermarket side? Or really, what drove the improvement there?.

Yes. I would say it was -- we're sequentially up 8%. The -- it is -- we are clearly seeing -- whether it's the business or whether it's discretion, it looks like we're seeing more [ph] orders picking up. If we're up 15% year-over-year, the combination of RPMs and pricing is not 15%.

So there's some discretionary buying and quite likely, maybe some stocking even at the airlines. We know the distributors are in decent shape, so we know that's not moving a whole lot.

I did point out -- one thing I did notice that other -- a few other people have announced that we have not seen is significant -- we have not seen any significant provisioning orders..

For 787..

For 787..

Right, okay. And last one for me. How are you feeling about the cycle overall? It appears there's a lot more skepticism or nervousness in the market overall about the sustainability of this..

You mean in the OEM or the aftermarket?.

Yes, OEM..

I don't know that I have a good enough view on that, David, to drift off of what's sort of the conventional wisdom has been. I don't have any reason to think that '15 is going to drift substantively off of what people have been forecasting so far. I mean, it would take a pretty significant dislocation to change the next 12-month outlook or so..

The next question comes from John Godyn of Morgan Stanley..

Nick, I think you used the word reasonably active for the M&A pipeline. I was just hoping that you could contextualize that for us, exactly what that might mean..

I was trying to make a distinction between lethargic and wildly active. I mean we're doing the same thing we always do. We're out making calls. We're visiting people. We see proposals coming through. I don't think it's substantively different than it's been for the last 12 or 15 months. But I did want to make that lethargic distinction..

Okay, loud and clear. And then a follow-up on aftermarket. You gave a little bit of color on discretionary versus nondiscretionary and even made a comment -- I thought I heard about some restocking at airlines.

I was hoping that -- maybe another layer, just talking about any products that sort of stand out, anything as we try to kind of read the tea leaves here and just understand what's going on a bit better..

Yes. I think the only -- as I say, I don't know that I can draw any particular conclusion from products other than more discretionary things seem to be picking up in orders, where they were lagging behind for a while. And the shipments rate and the booking rate is up more than RPMs and pricing would account for..

Okay, helpful. And then just last one on the general defense outlook. Of course, we all appreciate sort of why there is some uncertainty out there. On the other hand, you highlighted some positives and certainly have had some good trends in the past.

I'm just curious if you're seeing literally anything in the numbers that drive the uncertainty or questioning of the defense trend.

Or is it just a reflection of the general notion of uncertainty that we all worry about?.

I think more of that, more about the general uncertainty. As I said, the revenues were down some in the last quarter, but that's offset by the bookings being up. So it's a mixed picture. But mostly, you're just seeing a reflection of just uncertainty about the political situation..

The next question comes from Robert Spingarn of Crédit Suisse..

Could you talk a little bit more about the buyback that you mentioned, the share repurchase activity?.

Rob, I'm not sure what else to say.

We bought 75 million more shares back in the last prior month?.

No, in the quarter..

Yes. In the third quarter, yes. And as I said, it wouldn't surprise me if we continue to do some of that..

Yes.

And is there a change in thought there as you go forward, just from what you've done in the past?.

I don't know. I can't say that there is necessarily. We did decide -- we've used all the money to pay out -- not all the money, but I mean all the shareholder return money to pay out special dividends. This time, we decided we'd buy a little back.

I -- we'll make the call on a situation-by-situation basis, but it wouldn't surprise me if we buy some more back here..

Okay, all right. And then just a clarification, Nick.

Did you say earlier in your monologue, on the aftermarket growth, you were going to stop parsing some element of that out?.

No. I usually talk about it in the overall summary of the markets. For the last year, I've made sort of a separate section on it, as I did the lead-in. I'll probably stop doing that. But if there's anything special to point out, I'll try and do it..

Nevertheless, we should still expect the data that you've been giving..

Absolutely, absolutely..

Okay, just wanted to clarify that. And then just the last thing is I just noticed the slide -- you talked about Airborne and some delays in orders, and you also mentioned that there's 1.5% to 2% margin dilution from the acquisitions. This compares to, I think, 1.5% a quarter ago, when you spoke about it.

Could you talk a little bit about both the sales and margin contribution from the recent acquisitions and the extent to which these are meeting your plans?.

Did we change the dilution? I think it may be just in here for another quarter, so it's in another quarter..

That's all it is. It's just....

Yes. But it's in another quarter and their lower margin is going to pull the year-to-date down a little bit. So there's no reason to think there's any margin degradation in those, other than what we know when we bought it. I would say the Airborne business, we actually -- it is lumpy, but we had a very strong booking quarter here in the last quarter.

And we have some big international orders that are hanging fire there, which we can't tell will this wrap before the year's over, in the beginning of next year. But there are jobs to get, we believe. Yes, I think that answers your question probably, Rob..

Well, are you getting that replacement bow wave you were hoping for when you bought it?.

That -- well, the international orders -- we are getting some, but the international orders are closing slower than we thought. But we -- I mean they're active. We're actively negotiating with them. But I think the closure on bookings is, frankly, even lumpier. The first quarter we owned it, we booked very little. That's the first quarter of this year.

The second quarter was pretty strong, and the last quarter was very strong. And we have a fair amount of stuff in the gun sight, so....

The next question comes from Carter Copeland of Barclays..

Just a couple of quick ones. First, on the -- just to clarify a bit on Airborne. By my math, it looks like, for the impact you called out, that's probably down kind of 20% year-on-year quarter on an apples-to-apples basis.

Is that the kind of right scale of how lumpy this business can be?.

I don't know..

We don't have your math in front of us..

Yes, I don't have your math in front of us. But it can be lumpy. It can bounce around from quarter to quarter..

I mean, if it's got a 5% impact on the defense revenues, it's probably $8 million, $9 million of revenue delta. So we're just kind of trying to calculate that off of a quarterly run rate, but it sounds like....

Yes. I don't know the answer, other than I do know, Carter, that it is lumpier than our other businesses tend to be. And they can be lumpy good and lumpy bad..

Yes, exactly. And then on the 787 provisioning that you mentioned a couple of times, how significant -- could that be significant to next year's aftermarket growth, in your view? I mean, is this a couple hundred basis points kind of thing? Or is it....

I don't -- the real answer is, Carter, I'm not sure. We are not -- we'll give next year's guidance when we give it, but we're not planning on a lot of provisioning. We typically look at that as sort of -- we just -- sort of something fell out of the sky and hit us in the head. We're not planning on a lot of it..

The next question comes from Michael Ciarmoli of KeyBanc Capital Markets..

Just to continue on that provisioning line of thinking. I think, Nick, you kind of called out that the aftermarket rate of growth will perhaps be slowing. I mean, there are, I guess, tougher comps coming up, but I would think the 787, even the A350 provisioning.

But it sounds like, if we should think about those provisioning items, that would just be kind of gravy on top of your base growth. I'm just trying to get a sense of....

That's the way I would think about it, and my sort of core kind of products, my experience has been it's tough to predict..

Okay. But if -- I mean, you're clearly talking about the market expanding, more discretionary.

Is the rate of deceleration, I guess, just tougher comps?.

Yes. I'd just -- I don't think you can sustain a 15% quarter-over-quarter growth. You may sustain it for a quarter or 2, but you're not going to sustain that over an extended period of time. And eventually, the comps get tougher..

Right, okay. And then just one other one. You mentioned, on deal activity, maybe a little bit more active in Europe. Are you seeing better multiples over there? I mean, there's more, I guess, carriers struggling with profits.

I mean, is it just a more attractive marketplace and are the multiples simply cheaper? Or is there any other rationale for why you're more active in Europe or seeing more activity there?.

I really -- we are -- frankly, we're hitting the territory harder. We also put a new guy on to cover the territory, and we're kicking up more leads. So I don't know whether there's more for sale or whether we're just more attentive to it. I would say it's not clear to me that the multiples are significantly lower..

The next question comes from Joe Nadol of JP Morgan..

Nick, just thinking about -- big picture about the capital structure and looking forward. We're probably going to get into a situation here next year where rates -- short-term rates start going up. We haven't had that, obviously, for a long time.

And as you mentioned, you guys have been really eagerly taking advantage of the markets, including this past quarter.

How, conceptually, should we think about what you might do differently, if anything at all, when rates are going the other way, just in terms of leverage level? Anything else you want to mention?.

Yes. That's -- well, first, I would not -- our fundamental leverage strategy, I would not expect that to change within any realistic range of interest rate moves. Now if interest rate -- interest costs get up higher than the cost of equity, which will be up in the 20s or something, we might rethink that.

But in the likely movements over the next couple of years, I wouldn't expect our view to change. Now we did stretch out ahead on some of these dividends because we thought the credit markets were so attractive. If interest rates go up, we probably would be a little more cautious about that.

But I don't -- a 1- or 2-point move, I don't think would substantially change what we do..

Okay. And then just looking at OE for a moment. A lot of the growth in the next 2 or 3 years is going to be A350. I unfortunately missed your Analyst Day, and I don't know if you provided an update there on content. But a few years ago, we talked a lot about 787 and what you got on that. Could you just update us on....

Yes. We have -- I don't think we gave the number out. Did we, on the A350 content? But it's good content. We gave the comparison to the planes we thought it was replacing, and the content is up nicely..

Okay. And then just finally, a nit [ph] here. Is Tarian impacting your defense outlook at all? That was a lumpy item you called out 2 quarters ago..

Yes, it is in the comps, yes..

It shipped out....

Yes, it shipped.

There wasn't any in this quarter, but if I look at -- yes, it was -- I think it was in the prior quarter, right?.

Year-to-date, we had $10 million of Tarian come out in the first half of the year..

Yes. So yes, it was $10 million in the first half of the prior year..

The next question comes from the line of Yair Reiner of Oppenheimer..

First, a quick follow-up on the M&A question with regard to Europe. Is there any difference in terms of trying to implement your value-creation drivers in Europe versus the U.S.

and then implementing your management and compensation strategy there?.

The -- we said we've been able to work through our way on the compensation. It was a little trickier, but we think we've been able to work through that and get something that's pretty close. I would say on the pricing side of it, I don't see any substantive difference.

Obviously, the employment restructuring is more expensive there and a little more culturally difficult..

It takes longer..

Yes. So yes, right, so it -- that converts into a little more expense and it takes longer..

Got it, got it. And then in terms of the aftermarket dynamics, sometimes, in the past, you've given us a little more color about what's happening regionally.

Would you say that there was particular strength anywhere particular in the world? Or is it kind of broad based?.

I would say reasonably broad based. I mean, as usual, I would say the European business is not as bullish as the rest of the world. But I don't know if -- frankly, for the quarter, I don't have the numbers off the top of my -- just my fingertips.

But I don't view this -- the mix of RPMs, which is ultimately orders, I don't think -- I know has not changed substantively..

Right. And then just one more quick modeling question.

Is 33% tax rate the right one to use going forward?.

Greg?.

For the remainder of this year. And we'll update our guidance next year when we give it out..

The next question comes from Gautam Khanna of Cowen and Company..

Stepping back to the provisioning question. I was curious if you had a sense for what percent of your aftermarket sales generally are from initial provisioning and if you can comment if you've had much in the way of 787 provisioning in prior years.

Or is it -- that's all on the comp?.

I'm not sure I get the question, but I'll try and give you the -- the provisioning, in our experience, has been difficult to predict. The -- we have seen very little, so far, from the 787. I would not -- at least for our go-forward planning, we're not planning on much of that. Now we may well see some, and that would be upside.

But I would -- if you were looking at how to model this, I'd primarily focus on sort of RPMs and price and then maybe a little swing one way or the other depending on how you feel about the market direction..

And do provisioning sales carry a different margin or pricing characteristic than typical aftermarket sales?.

It's mixed but not substantively, usually..

Okay. Just back to talking about the M&A pipeline.

Can you characterize what's kind of the size -- the typical size range of the companies you're looking to acquire potentially?.

The kind of stuff we typically see, which is $40 million transactions to $300 million transactions. Occasionally, we have bigger ones come by or come up opportunistically, and we look at them. But at least, generally, they haven't made sense on a value basis..

And would you say -- I mean, just stepping to the question earlier about how you think people feel about the cycle.

Are you seeing more such books now? Are you seeing more willingness to sell properties? Have you seen any change in that?.

I can't say I've seen any change..

The next question comes from Robert Stallard of Royal Bank of Canada..

First of all, on the aftermarket, I was wondering if you could comment or whether you've seen any change in the pattern of parting out or cannibalization out there in the market?.

Well, I don't think we have, no. Remember, for the dollar value parts we have, it's a pretty minimal impact. So I -- honestly, if there was a change, I don't know we even notice it for a while. It's a very small -- the cannibalization impact on our sales are very small. And that's primarily because of the dollar value of the stuff we tend to sell..

Yes.

And then related aftermarket vein, have you seen any impact of the Afghanistan drawdown starting to roll through, maybe in helicopters?.

We have not -- well, I would say, so far this year -- the helicopters were the hot thing last year. The helicopters have not been the hot thing this year, but....

They're not bad..

No, but freighters and fighters have sort of picked up the difference. So I don't know that I can draw much conclusion from that, other than it's just sort of rotation of where you spend your money..

Okay. And Greg, just a quick one on the dividend equivalency payment.

Any idea what this is going to be in Q4?.

It's a pretty small amount. $4 million? It's $6 million or $7 million for some options that will come due, so it's a relatively small amount..

And is it going to stay about that run rate for the next 12 months or so?.

No, no. I think that'll -- it will be pretty much cut off by the end of this fourth quarter..

The next question comes from Ken Herbert of Canaccord..

I just wanted to follow up one more time on the commercial aftermarket. And I know its relevancy is maybe limited here, but you do report, from at least a GAAP standpoint or financial reporting standpoint, operating segments, the power and control and airframe.

Either in relation of these segments or in general, have you seen any change in your aftermarket by either engine and power related relative to other parts of the airplane? Or has it been sort of fairly consistent growth?.

I can't say we've seen any substantive difference in one versus the other. The margins are a little higher on the power side just primarily because the aftermarket content is a little higher on that side..

And I know that [ph] of your total sales, that's maybe, at least on a run rate, about 43%, 44%.

But correct me if I'm wrong, engine specific, if I remember well, tends to be about 20% of your aftermarket business?.

I don't remember that exactly. I just don't. Engines tend to be 20%, 25% of the cost of the airframe, so that wouldn't surprise me. But I just don't remember that exactly. There's other things in power other than engines in that power segment. There's fluid power, hydraulic power, things like that..

Sure, sure. Okay, that's helpful. And then just finally, any concern or are you seeing anything, again, on the aftermarket as now that we're sort of into it a little further, with some consolidation here? Any different behavior from the U.S.

airlines as a result of consolidation, the purchasing patterns? Or anything you could point to there?.

I can't say I see anything yet. The market's picking up. And if anything, they may be buying a little ahead of the market pickup. I don't know that I can draw any trend from 3 to 6 months, but the numbers might suggest that..

I'd now like to turn the call back over to Liza Sabol for closing remarks..

Thank you, everybody, for participating in this morning's call. And please look for our 10-Q that we expect to file tomorrow..

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a good day..