Transdigm Group Incorporated (TDG) — Q1 2018 Earnings Call Transcript

Thank you, and welcome to TransDigm's fiscal 2018 first 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, Kevin Stein; and Chief Financial Officer, James Skulina. A replay of today's broadcast will be available for the next two weeks, and replay information will be contained in this morning's press release and on our website at transdigm.com. It should also be noted that our Form 10-Q will be filed tomorrow and will also be found on our website. Before we begin, we would like to remind you that the statements made during this call, which are not historical facts, 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. We 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 or a presentation of the most directly comparable GAAP measures and the reconciliation of EBITDA, EBITDA As Defined, adjusted net income, and adjusted earnings per share. I will now turn the call over to Nick.

Good morning, and thanks again for calling in. As usual, I'll start off with a quick review of our consistent strategy. I'll then summarize the first quarter of 2018. Kevin will review the key operational and market issues for the quarter. And Jim will then run through the financials and also discuss the near-term impact of the new tax law. As you may have seen, Terry Paradie, our former CFO, resigned for personal reasons in early January. Jim Skulina, who is on the call today, has agreed to fill the job until we find and are comfortable with the new CFO either internally or externally. Jim has been with TransDigm for 23 years and has extensive experience at the senior level, both as an operating and as a financial executive for the company. For the last six years, Jim has been an Executive Vice President Group Officer responsible for a number of our larger operating units and acquisitions. In addition to other responsibilities, Jim has also been the Corporate Controller and Operating Unit President through his career with TransDigm among other roles. We are lucky to have Jim willing and available to take this job on. To restate, we believe our business model is unique in the industry, both in its consistency and its ability to create intrinsic shareholder value through all phases of the cycle. To summarize why we believe this, about 90% of our sales are generated by proprietary products, over three-quarters of our sales come from products for which we believe we are the sole source provider, and over half of our revenues, along with a much higher percent of our EBITDA, come from aftermarket sales. Aftermarket revenues have historically produced higher gross margins and relative stability through the cycles and downturns. Our longstanding goal is to provide our shareholders with private equity-like returns with the liquidity of a public market. To achieve this, we must stay focused on both the details of value creation and the careful management of our balance sheet. We follow a consistent long-term strategy. We own and operate proprietary aerospace businesses with significant aftermarket content. Second, we employ a simple, well-proven, value-based operating methodology based on our three value driver concepts. Third, we maintain a decentralized organizational structure and a unique compensation system closely aligned with shareholders. Fourth, we acquire businesses that fit our focused strategy and where we see a clear path to private equity-like returns. Finally, we consider our capital structure and capital allocation as a key part of our efforts to create shareholder value. As you know, we regularly examine our choices for capital allocation. To remind you, we generally have four priorities, which are almost always as follows: first, to invest in our existing business; second, to make accretive acquisitions consistent with our strategy and our tough return requirements; third is to return money to the shareholders, either through a special dividend or stock buybacks; and fourth would be to pay down debt. However, given the low cost of debt, especially after tax, this remains likely our last choice in the current capital markets. In the last three years, you've seen different business conditions and examples of how we deal with them. In 2015 and 2016, we saw a number of attractive acquisitions, and we purchased about $3 billion of proprietary aerospace businesses. In 2017, attractive candidates were fewer and far between. Accordingly, we chose to allocate about $3 billion of our capital to return to shareholders through a mix of primarily special dividends and some opportunistic stock buybacks. We will see what the full year of fiscal 2018 brings. But as we've consistently done in the past, we will allocate our capital in a manner we believe has the best chance to maximize returns for our shareholders. Now, to quickly summarize Q1 of fiscal year 2018. Our Q1 operations, that is revenue and EBITDA as adjusted, were approximately on our expectations. They were roughly 23% and 22% respectively, of our full-year guidance, about the same percent as they have been in prior years. To remind you, there are about 10% fewer shipping days in Q1 versus the average of the other three quarters. Our Q1 earnings per share, both GAAP and as adjusted, are both up very substantially, primarily due to the new tax law. Jim will review this in more detail. As I'm sure you are aware, many of the implementing rules and regulations have still not been finalized, so we will be cautious to get too specific at this time, especially beyond fiscal year 2018. We do expect to generate roughly $70 million of additional cash in fiscal year 2018 as a result of the new tax law changes. On a same-store basis versus prior Q1, in the commercial transport aftermarket which constitutes the vast majority of our commercial aftermarket, Q1 versus the previous year was up nearly 11%. Business jet and helicopter revenue growth was softer, which pulled the overall average for commercial aftermarket down to about 10%. Commercial OEM revenues were roughly flat versus the prior year. Defense revenues remained about flat as well. However, incoming defense bookings were substantially up compared to the prior year. Kevin will expand on all this. Although one quarter does not indicate a trend, we feel optimistic about the start of the year, particularly in the commercial aftermarket. We completed the sale of Schroth at the end of January for approximately $60 million in cash to Perusa Partners, a midsized PE firm based in Germany. While this is not an ideal outcome, given the overall situation, we believe it was the most prudent and practical approach to move forward. With regards to acquisitions, we continue to explore opportunities with an active pipeline. We've been investigating numerous prospects recently, although closings are difficult to predict. We maintain discipline and focus on identifying value-based opportunities that can meet our stringent private equity-like return requirements. Without any additional acquisition or capital structure activity, we now expect to generate closer to $1 billion in cash from operations after considering the cash impact of the new tax law. As we mentioned in the previous earnings call, provided our outlook remains comfortably within range, we do not intend to adjust our guidance quarterly. Since it appears too soon in the year to draw any definitive conclusions, we are keeping our revenue and EBITDA as adjusted full-year guidance unchanged. If the business landscape looks similar at the end of Q2, I expect we may well adjust our full-year guidance at that time. The increase in net income and EPS guidance are attributed to the new tax law's estimated impact. The savings in interest expense from our recent refinancing is anticipated to be roughly offset by a modest increase in the LIBOR rate. In other words, the actual rates we pay thus far are stable. Jim will provide additional details on this. In conclusion, Q1 was a good start for the year. Thus far, fiscal year 2018 looks promising. Regardless, I am confident that with our consistent value-focused strategy and our diverse business mix, we can continue to create long-term intrinsic value for our shareholders. With that, I would like to hand it over to Kevin.

Thanks, Nick. As you've seen, Q1 of fiscal year 2018 was an encouraging start to our fiscal year. Now, to review our revenues by market category. For the remainder of the call, I will provide color commentary on a pro forma basis compared to the prior year of 2017. In the commercial market, which comprises about 70% of our revenue, we will split our discussion into OEM and aftermarket as usual. In our commercial OEM market, Q1 fiscal year 2018 revenues were about flat compared to Q1 of fiscal year 2017. Commercial transport OEM revenues, which constitute the majority of our commercial OEM business, were down slightly compared to the prior-year period. We continue to believe that inventory management by our OEM customers, much of which appears attributable to rate reductions on wide-body platforms or slower ramp-ups on new wide-body platforms, has created headwinds in the commercial OEM market. As was the case in 2017, commercial transport OEM sales can fluctuate quarter to quarter. However, fundamentally, no significant changes in chipset content have occurred, so any softness is merely timing-related. Business jet and helicopter OEM revenues account for about 15% of our commercial OEM revenues and were up in the high-single digits in Q1 compared to the year-ago period. Q1 bookings were even stronger—positive for sure, but still too soon to determine sustainability. This trend is not dissimilar to what others in the industry are reporting. Next, turning to our commercial aftermarket business; total commercial aftermarket revenues grew by approximately 10% during the quarter. The commercial transport aftermarket, which constitutes roughly 85% of our total commercial aftermarket, saw Q1 fiscal year 2018 revenues rise almost 11% over the prior-year period. This revenue increase was driven by strong performance in the freight aftermarket, where both our proprietary Telair Europe powered freight handling equipment and our less proprietary nets and containers businesses exhibited growth in the quarter. This aligns with the results reported in the freight market by other industry players. For our discretionary interiors aftermarket, a return to modest growth in Q1 of fiscal year 2018 was a welcome change. However, although Q1 showed improvement, we remain cautious about this market segment due to prior prolonged robust growth and uncertainty regarding new interior retrofit programs. Lastly, for the business jet and helicopter aftermarket, which makes up the remaining 15% of revenues in our total commercial aftermarket, sales rose in the low-single digits in Q1 of fiscal year 2018. Business jet takeoff and landing cycles have continued their modest improvement from previous quarters—an encouraging sign, although still well below the peak of the 2007 timeframe. The aftermarket in this segment typically flows through OEM, as we have discussed previously. As such, we do not have as clear an insight into this portion of the market. Moving forward, a level of cautious optimism is warranted. To summarize our total commercial aftermarket, the passenger segment continues to show strength; the freight segment is demonstrating solid performance across all our business units; our discretionary interiors markets have shown improved performance in Q1 of fiscal year 2018, yet stability in this market remains uncertain; the business jet and helicopter aftermarket indicators show favorable usage metrics in the industry, though it is premature to predict continuity. Now, let me discuss our defense market, which has remained relatively static at about one-third of our total revenue. The defense market, encompassing both OEM and aftermarket revenues, was flat compared to last year's Q1. Modest timing-related delays hindered our defense OEM shipments, while our defense aftermarket business experienced slight growth. Presently, defense bookings present a positive narrative as both OEM and aftermarket bookings expanded by over 20% in the quarter. Strength in the defense market can occasionally stem from only a few businesses; however, revenue and bookings seem to be well-distributed across most sectors of the entire defense segment. As always, unpredictable bookings and shipments are common in the defense market, requiring caution when forecasting based on limited data points. Specifically, these robust bookings do not necessarily translate directly into Q2 shipments. Regarding profitability, Jim will provide more on the numbers, but I’d like to touch on operating margins for TransDigm. The EBITDA As Defined margin for continuing operations came in at approximately 47.4% of revenues for Q1 of fiscal year 2018, representing a year-over-year improvement of just under 1 percentage point for the same period. Margin improvement remains a focus for us and signifies that our core business continues to find ways to enhance performance within our value drivers. Some examples include recent product line acquisitions of Preece, Cablecraft, and North Hills, which are being integrated into AdelWiggins, AeroControlex, and Data Device Corporation, respectively. These relocation integrations are crucial to our acquisition value-creation strategy, particularly for product line acquisitions like these. All of these relocations will be completed within the year. Additionally, in our persistent effort to streamline and enhance our cost structure, we occasionally make the decision to consolidate some manufacturing locations to improve organizational focus and productivity. We have recently announced the closure and relocation of our Dukes facility in Northridge, California, to our Aero Fluid Products business in Northeast Ohio. This transition will allow us to lower costs and leverage our customer relationships and expertise to further develop what will become a product line for our Aero Fluid Products business. Lastly, in terms of our organizational structure, as you are aware, Jim Skulina has accepted the position of Chief Financial Officer for TransDigm, creating a vacancy in our Executive Vice President leadership for our operating units. To address this need, we have promoted two individuals from within our President ranks: Alex Feil, who has been with TransDigm since 2002, initially working in sales across multiple business units before eventually becoming President of Schneller; and Rodrigo Rubiano, who has served as President of Whippany Actuation Systems for the past three years. Both have been elevated to Executive Vice President and will oversee a portfolio of business units, with Rodrigo eventually relocating to Europe to serve as our European EVP. This move empowers TransDigm to expand and pursue future acquisitions, ensuring a robust leadership culture for succession. In summary, Q1 of fiscal year 2018 was another solid quarter for TransDigm. Our focus on our value drivers of profitable new business, productivity, value pricing, and the successful integration of our recent acquisitions will set us up for a strong 2018. With that, I would like to turn it over to our Chief Financial Officer, Jim Skulina.

Thank you, Kevin. I'd like to expand on a few items included in our quarterly financial results and provide some color regarding the impact from tax reform. First-quarter net sales were $848 million, an increase of $34 million or approximately 4% greater than the prior year. Our first quarter gross profit was $477 million, rising 7%. Our reported gross profit margin of 56.2% was 1.6 margin points higher than the prior year, primarily due to lower non-operating acquisition-related costs, the strength of our proprietary products, and a favorable product mix. Our selling and administrative expenses represented 12.6% of sales for the current quarter compared to 12.5% in the prior year. We experienced an increase in interest expense of approximately $15 million, up 10% compared to the previous quarter. This increase primarily resulted from a rise in the weighted average total debt of $11.9 billion in the current quarter versus $11 billion in the prior year. During the quarter, we re-priced approximately $5 billion of our term loans to capitalize on better rates, decreasing LIBOR to plus 2.75% from LIBOR plus 3%. The anticipated annualized interest expense savings before fees is about $13 million related to this repricing. However, LIBOR has risen since our last earnings call, and we are now assuming an average LIBOR of about 1.7% for the full year instead of 1.3%. This 1.7% assumes LIBOR rates approach 2% by the end of our fiscal year. As a reminder, once the rates hit 2%, our credit swaps will start to come into effect. To analyze the impact of increasing LIBOR rates, there is a sensitivity table included in the slides provided this morning. We are also actively looking to re-price our loans should the opportunity arise. The net impact of repricing and associated fees has been offset by the rising LIBOR rate. Consequently, we still expect our full-year interest expense to remain at approximately $650 million. Refinancing expenses during the quarter reached $1 million compared to $32 million in the prior year due to reduced financing completed in Q1 of this year. Now, turning to taxes, the U.S. enacted the Tax Cut and Jobs Act on December 22, significantly lowering tax rates in Q1. The statutory federal rate dropped from 35% to a blended 24.5% for our fiscal 2018 operations and to 21% for fiscal 2019 and beyond. The changes pertaining to interest, international operations, and other regulatory alterations will not influence our effective tax rate until fiscal 2019. The Tax Act includes a one-time repatriation tax on historical foreign earnings of foreign subsidiaries. We recorded a provisional $23 million charge during the quarter for the transitional repatriation tax. Additionally, we noted a tax benefit of $170 million linked to the re-measurement of our deferred tax balances due to changes in U.S. tax law. Consequently, the effective GAAP tax rate indicated a benefit of 63.4% for the current quarter, compared to a 14.4% provision in the prior year. We now estimate our full-year GAAP tax rate to be around 6% to 7%, while the adjusted tax rate is estimated to be between 9% to 10%. The cash tax rate is expected to be between 19% to 21%. The effects of the U.S. Tax Cuts and Jobs Act after 2018 remain somewhat uncertain, as several regulations are yet to be fully defined. For planning purposes, I suggest assuming our GAAP tax rate will be marginally higher than the statutory rates going forward, as the interest expense GAAP will start influencing us in 2019. In response to the next obvious question, we do not foresee the tax law changes impacting our capitalization strategy. Debt will still be significantly less costly than equity after tax, despite the tax modifications. Our net income from continuing operations during the quarter surged by $193 million or 163% to $312 million, which is 37% of sales. This compares to net income of $119 million or 15% of net sales in the prior year. The increase in net income is primarily driven by a lower effective rate and, to a lesser extent, increases in net sales, decreased refinancing costs, and acquisition-related expenses, moderately offset by higher interest costs. GAAP EPS from continuing operations was $4.60 per share in the current quarter, up from $0.41 per share last year. Both quarters were significantly influenced by the dividend equivalent payments made on vested stock options of $56 million or $1.01 per share in the current quarter compared to $96 million or $1.70 per share in the prior period. Both payments were primarily related to the $46 of dividends we paid to shareholders in fiscal 2017. As a reminder, the accounting treatment necessitates this payment being deducted from net income prior to calculating earnings per share. Our adjusted EPS was $5.58 per share, marking a 121% increase compared to $2.52 per share last year. This includes a $2.96 per share favorable impact from tax reforms. Excluding the beneficial tax impact, current earnings per share grew by 4% compared to the previous year. Please refer to Table 3 in this morning's press release, which compares and reconciles GAAP EPS to adjusted EPS. In terms of cash and liquidity, we generated nearly $300 million of cash from operating activities and concluded the quarter with $858 million in cash on the balance sheet. We are raising our expected cash balance for the end of fiscal 2018 to be between $1.4 billion and $1.5 billion, factoring in lower estimated cash taxes and the proceeds from the sale of Schroth. This projection assumes no further acquisitions or capital structure activities. Our net debt leverage ratio at quarter end was 6.3 times pro forma EBITDA at that time, while gross leverage stood at 6.8 times pro forma EBITDA. We estimate our net leverage by September 30, 2018, will be between 5.6 times and 5.8 times our EBITDA As Defined, assuming no acquisitions or capital market transactions. We currently possess adequate capacity for $1 billion to $1.5 billion of acquisitions without the need for additional equity issuance. This capacity is expected to grow steadily to over $3 billion as the year progresses. Regarding our guidance, we now estimate the midpoint of our GAAP earnings per share to be $15.61, with the midpoint of our adjusted earnings per share estimated to be $17.27. The increase in both GAAP and adjusted EPS was motivated by the changes in projected effective tax rates linked to tax reform. Please see slide 9 for a bridge outlining $1.66 of adjustments between GAAP and adjusted earnings per share related to our guidance. In summary, Q1 has begun positively for fiscal 2018. Now, I will hand it back to Liza to kick off the Q&A.

Hi. Thanks so much. Good morning.

Good morning.

Good morning.

Good morning.

Nick, can I – I thought we'll start on the aerospace aftermarket. You had a very good first quarter. But your guidance for the year suggests that things are going to slow down from here. Was there anything unusual that you saw in Q1, or is this just a bit of natural caution given it's the start of the year?

I think it's just a bit of natural caution, Rob. As I mentioned, if things remain stable at the end of the next quarter, it wouldn't surprise me if we adjusted the guidance upward. It’s just, after several fluctuations over recent years, we tend to believe that one data point isn't sufficient to act on yet. There's nothing unusual or unexpected about it.

Okay. And as a follow-up, you mentioned you're active in the M&A arena currently. I was wondering if you could share some insights on what you're seeing out there in terms of the properties, if there is anything that looks particularly strong, weak, or attractive at the moment.

Yeah, Rob, when I say we're active, it’s more about us running around in circles or on a treadmill because we haven't closed anything. It’s the same type of acquisitions we're looking at. We are still focused on proprietary businesses, with two to four active prospects, but nothing substantively different than our historical patterns.

Okay. That's great. Thank you.

Hey. Good morning, guys. Welcome, Jim.

Good morning.

Good morning.

Good morning.

Just a couple of quick questions on the OEM piece. I wonder if you might be able to elaborate a bit more on the timing. I know we had some wide-body rates that are down. But did you see any destocking of any significance from the A350? I know a couple of other companies have mentioned that this quarter.

Yeah. I'll categorize that under the broader topic of wide-body opportunities shifting to the left and slowing down some startups as well. So, the answer is yes, across the board regarding wide-body. Again, regarding OEM, we're not seeing any changes in chipset content, so the opportunities we have are still expanding. It's just timing-related. That's our current observation.

Okay. Great. And on the freight segment, encouraging to see that bounce back a bit here. Can you provide any color on just how significant that growth was either in bookings or shipments?

Well, we don’t want to disclose specific figures as we did last year for the submarkets, but it’s up nicely. It reflects the demand in the industry. You’ve seen the FTK freight tons shipped metrics that continue to grow—2017 was a 9% increase. Although I can’t tie our freight business directly to that, it’s clear that there is strength in the freight sector, and we've seen that reflected in our own orders and shipments.

All right. Thanks, Kevin. I'll hop back in the queue, guys.

If anything, it’s fair to say that this is probably slightly better than anticipated.

It is. It is.

Great. Thanks, guys.

Hi. Good morning, guys, and thank you for your time. Can we discuss the commercial aftermarket? It was up nicely at 10%, but your EBITDA grew only 5%. So, perhaps the mix drove some of the muted profitability growth?

Kevin, would you like to address that?

Sure. That’s a good question. Our profitability was up nearly 1% year-over-year. I understand that, with the 10% rise in aftermarket, some may expect it to be higher. However, upon reviewing our shipments, we were affected by some margin softness in our defense sector, which lowered our margins overall. Specifically, I refer to our parachute business; the Airborne segment in both North America and Europe experienced some shipment volatility, which impacted our margins a bit across the whole business. Beyond the shipments we managed to deliver, that’s the only factor explaining the somewhat lower margin than anticipated. Our parachute business is known for its variability, which we once again saw in Q1. For the year, we maintain confidence in our plans despite the first-quarter outcome.

And for our fiscal year, we're still projecting to reach just under 50%.

Yes, that’s correct. So, we typically see a first-half and second-half ramp that’s not unusual for us, allowing us to approach the 50% target in our full-year margin guidance. There’s no concern that anything is affecting us negatively in this regard.

Sure. Thanks, Kevin, for the clarification. Just one more thing—how does tax reform alter your capital deployment strategy?

Could you speak up? We can’t hear you. Can you raise your voice a bit?

Believe it or not, Nick, I’m yelling. But I'm always off the radar—

All right.

I’m just curious to know how tax reform changes your acquisition hurdles moving forward.

To clarify, the question is how do the changes in tax laws affect our acquisition criteria?

Yes, exactly.

I don’t believe it alters our position significantly. We follow our traditional evaluations, and perhaps we may pay slightly more in interest, but on the flip side, our overall tax liability is lower now. I doubt it has any major impact.

Got it. Thank you very much.

Thank you. Good morning. To follow up on the transport OEM sales decline, are you observing any changes in the proportion of your sales that are sole-sourced or any pricing dynamics? Or, I'll just ask, many of your largest content programs are likely seeing increases in production rates. Is there anything else we should be mindful of?

There’s nothing significant that comes to mind. No changes in chipset content or the sole source status. No changes whatsoever. It remains quite clear across the business—we have nothing new or worth reporting.

Okay, great. Thanks. Another question regarding tax—do you think it will affect seller expectations in any way? I am unsure if private companies are noticing enhanced after-tax cash flow and whether that modifies their willingness to sell. Is tax reform impacting the M&A market in that respect?

This is Nick, Matt. Too soon to say, but if it does, it's difficult to gauge. Generally, people make decisions based on broader macro factors rather than that; conversely, it's too early to assert anything. However, I’d be very surprised if it proved to be significant.

Okay. Thank you very much.

Thanks very much, and good morning. Nick, can you update us on the status of your 'Partnership for Success' negotiations, and when do you expect to conclude them?

As for our current standings, there hasn't been much progress on that front. We’re holding periodic discussions. The contract expires at the end of—Kevin, I would say, at the end of the calendar year 2018.

Yes.

Calendar year 2018, right? Not fiscal year 2018. I suspect there will be little to report until we near that deadline. There will still be confidentiality agreements that prevent us from sharing too much information.

Right. That makes sense. Thank you. Then, regarding the visibility into the interior retrofits business, it sounded like things were tracking to your expectations. However, when do you foresee gaining better clarity there, given that I believe it's one of your aftermarket businesses with a relatively large backlog?

As the year moves on, we are expected to receive more clarity regarding backlog, orders, and business activities as they unfold. There are many projects focused on retrofits and fleet upgrades currently underway and continue to show promise. The timeline for precise visibility remains uncertain, but there's an abundance of activity. It’s likely safe to assert; we provided rough guidance at the beginning of the year, and there's no compelling reason to alter that now.

That's right.

Yeah.

Great. Thank you very much.

Good morning, gentlemen. Thanks for the time.

Good morning.

Kevin, a question for you on the aftermarket front. Are you noticing an increasing frequency of interactions with Boeing, considering their efforts to seize control over some maintenance and procurement responsibilities of certain airlines?

Currently, we're not witnessing any substantial changes in activity from them that differ from past experiences. There's nothing I am aware of.

Okay. That’s helpful. Just a clarification or a quick question regarding the tax situation. Could you summarize what you're anticipating the tax rate to be moving forward? I believe you previously indicated that there was no significant advantage from tax reform, but that perspective might have shifted.

Let me try—at least let me clarify the cash perspective; then, Jim can elaborate. We are expecting an additional $20 million in cash this year for 2018, which is certainly a benefit. Jim, could you elaborate?

Sure. Is your question directed toward 2018 or 2019 going forward?

Yes, more concerning the rest of fiscal 2018 and then about 2019 and beyond in both tax rate and perhaps from a GAAP perspective as well as in cash terms.

It's somewhat challenging to forecast for 2019 and beyond since regulations are yet to be fully defined. We believe our tax rate will be slightly above the statutory rate of 21%. The interest cap of 30% EBITDA will begin to apply from 2019 through 2021. This will predominantly influence our figures. Nevertheless, the overall impact will still be considerably lower than it has been historically. Therefore, it is favorable for TransDigm. For planning purposes, I recommend estimating a tax rate slightly above the statutory rate of 21%.

Additionally, it’s sensible to say, Jim, that our tax expenses will considerably decrease compared to what they would have been otherwise.

Thank you, gentlemen.

Hi, good morning, everybody.

Good morning.

I just wanted to ask first about the defense sector. You highlighted robust bookings for both OE and aftermarket. Could you remind us about the division of your defense business between OE and aftermarket? You mentioned you were careful about getting too excited regarding the bookings as well in terms of the timing. How should we analyze this from a timing perspective or business mix?

You asked a couple of things. Health-wise, our defense business is roughly split similarly to the rest of our business, about 40% OE and 60% aftermarket; maybe 45% and 55%; so it's in line with what we see overall. As for the second question, I was cautious when I mentioned we didn't want to overstate those bookings affecting our Q2 performance.

What were the follow-up parts of your question?

Just how much of the business operates on a book-and-ship model? Given your positive booking flows, especially in Q1, it sounded like you were advising a cautious approach to predictably correlating that to Q2.

That's correct; we allow our businesses to book orders expected in the next two years. The defense side tends to show greater demand planning than OEM and aftermarket. Consequently, I exercised caution, I wouldn't anticipate Q2 seeing a tremendous uptick. We are, however, confident about our guidance on the defense side, and the opportunities reflected in the order book appear to support our stance. Ultimately, it would be unwise to draw conclusions about our year based solely on these data points.

Okay.

Exactly. We can't derive conclusions from just a handful of data points. So, it's best seen as optimistic rather than definitive.

Thank you.

Hey. Good morning, guys. Thanks for taking my question.

Good morning.

Good morning.

Nick, I may have missed this, but did you detail commercial aftermarket bookings? I know you discussed the strength in defense on both OE and aftermarket but didn't share insights on commercial aftermarket trends in the quarter.

We did not disclose a specific number regarding bookings. However, I can say that bookings have consistently exceeded revenues.

The book-to-ship ratio improved.

Okay. Great. Thanks. Just one last question. Given the provisioning strength in the market for newer platforms, you saw good growth this quarter. I know you’re reluctant to adjust the rest of the year, but are you noticing any provisioning-related growth in the aftermarket for your products associated with new airframes?

Generally, provisioning—initial provisioning is not a significant factor for us. Therefore, we do not see provisioning acting as either a headwind or a tailwind in any given quarter or year.

Got it. Helpful. Just one last query regarding the defense book strength—any specific product lines or platforms that stand out?

The strength is fairly dispersed across our business units. Previously, we would highlight specific units that had notable bookings, but that’s not the case now. It’s well-spread across bookings and shipments concerning most of our sectors with solid performance.

Got it. Thank you. I'll rejoin the queue.

Thanks. Good morning. Nick, could you advise on your comfort regarding leverage? Previously, I believe you mentioned your willingness to pursue 7 to 8 times leverage for suitable acquisitions. Is that still your comfort level considering tax reform and the current market cycle?

I don’t believe tax reform alters my perception of that stance. The core issue is that, from an after-tax perspective, debt remains significantly cheaper than equity. Therefore, if you’re comfortable managing it, which this stable business should be able to do, increasing debt is a favorable tactic for maximizing equity returns. I don’t see the tax law contributing meaningfully to shifting that perspective.

Understood. You mentioned an active M&A pipeline. Are you encountering larger properties than your typical criteria in that pipeline?

The candidates we've been evaluating are primarily within our typical range. I can't indicate there being a special surge of larger candidates.

Is it predominantly private, or are there public entities you're looking at as well?

It's a mix of both. However, predicting closure rates or outcomes remains a challenge.

Understood. My final question relates to your compensation agreement that spans multiple years. Do you envision yourself remaining with the firm in the same role over the next five years, or have your thoughts shifted?

I don’t believe my perspective has changed from what I’ve expressed. As you know, I have a contract that lasts through 2019 that entails possibilities for transition into a role such as Executive Chairman, which would mean retaining substantial responsibility for capital allocation and M&A activities. I have no urgency to exit or disengage.

Thanks a lot, gentlemen.

Hi. Thank you. Good morning.

Good morning.

How do you perceive the risks and opportunities presented by Boeing potentially forming a joint venture with Embraer?

I can't provide a detailed assessment, but I don't see any potential direct impact on us. Embraer is one of many customers for aircraft and isn’t disproportionately significant to us.

Okay.

From what I understand, our content with Canadair surpasses our content with Embraer, just for context. However, Embraer remains a good customer.

Indeed, a solid account.

Last time, in May, you mentioned there hadn't been genuine growth in commercial aftermarket revenues in terms of pricing—X pricing—that’s changeable. It’s still early in the year, but given the strong 10% commercial aftermarket revenues and the improvement in bookings, are you hesitating to adjust the forecast? I mean, are you more cautious this time because of the potential pricing improvements you've witnessed?

All of the above. I wish to clarify—I never said we weren't seeing pricing improvements.

I assumed you were stating that there wasn’t notable growth recently.

What I stated was that over the last five years, when scrutinizing organic growth across the industry, we concluded that the commercial aftermarket’s growth was minimal without taking price into account. I suppose that is what you’re referencing.

Yes, I likely misunderstood that.

To clarify, we haven’t identified particular pricing pressure.

It was about genuine growth, and we’ve positively begun with 10%, clearly showing real growth. Are we, perhaps, also gauging the longtime volatility of the last three or four years? It's reasonable to say we are indeed somewhat cautious. However, it's also worth noting that we’re relatively comfortable with our guidance, and as mentioned, should conditions hold well, we wouldn’t be surprised to adjust it next quarter.

We’re cautious, as mentioned at the beginning of the year—that’s why we’re sticking to our original guidance unless we believe material changes are evident.

Thank you very much.

Yeah. Good morning. Thank you for addressing my question. I’d like to continue on the point about aftermarket growth. Referring back to your comments from May regarding traffic impacting aftermarket volume due to the influx of younger aircraft, I’m understanding that the number of aircraft reaching five years of service indicates double-digit growth for 2017 and even lower high-single digit growth for 2018 and 2019. I see a correlation suggesting that such a trend may be influential. Can you discuss if this growth momentum is reflected in your current operations?

We reviewed Q1 results, and this isolated data point encourages us— although typically, one data point alone does not create a trend. So far, results suggest positivity.

I also understand you frequently mention rolling four-quarter averages for your commercial aftermarket organic growth. Looking at the past four quarters hovering around 4% (which includes pricing), should we use that projection as a justification for sustaining mid-single-digit growth in fiscal 2018?

We established our guidance for the year and are expressing a commitment to uphold that guidance. We will remain steadfast unless additional data indicates otherwise.

Understood. Lastly, Jim; it seems that you stated revenue adjusted EBITDA for Q1 of 2016 was restated lower and I didn’t quite gather why that was from the release—perhaps I missed it. Can you clarify that for me?

Sure, let me clarify that. For the Q1 of 2017, we effectively aligned our EBITDA As Defined with our credit agreement. We discovered a discrepancy where we were including FX adjustments for balance sheet re-evaluations; we needed to correct that.

This was applied to both periods.

That explanation is appreciated. Thanks, everyone.

Yeah. Thanks. Good morning, everyone.

Good morning.

Nick, a quick inquiry regarding defense bookings. It seems there’s an extension of another CR into March. Are you noticing any impacts from that? When would the implications begin to materialize in your operations if it gets extended further?

It’s difficult for us to ascertain the effects because, by the time it trickles down to our operational level, the impacts are hard to observe. I’d be surprised if we felt much change as a result.

The reality is it takes quite a while to see any dislocation in defense spending that would filter down to us.

Okay. Great. Jim, just to clarify, the net leverage you mentioned applying at year-end assumes no changes with cash returns to shareholders?

Yes. We said it would hold between 5.6 times and 5.8 times.

This remains unchanged.

No alterations. Thanks again, Nick.

Can you hear me now?

Yes.

Sorry about that. My question relates to your credit swaps. What slide shows the percentage of your fixed debt to total debt?

This percentage is approximately 74% to 75% fixed.

Exactly, due to our collars strategies.

Right. To elaborate on LIBOR, at what point would you consider moving towards fixed-rate debt from a derivative-based protection strategy?

We will evaluate this as conditions change. It’s premature to speculate about future moves in different capital market scenarios.

Thank you.

Interestingly, although LIBOR is rising, the spreads on our variable debt are decreasing.

Thus far, net interest paid has remained stable.

We want to express our gratitude to everyone for joining us today, and this concludes our earnings call this morning.