Graham Corporation (NYSE:GHM) Q2 2024 Earnings Call Transcript

Graham Corporation (NYSE:GHM) Q2 2024 Earnings Call Transcript November 6, 2023

Graham Corporation beats earnings expectations. Reported EPS is $0.04, expectations were $-0.06.

Operator: Greetings. Welcome to the Graham Corporation Second Quarter 2024 Financial Results. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to your host, Debbie Pawlowski, Investor Relations for Graham Corporation. You may begin.

Debbie Pawlowski : Thank you, Shamali, and good morning, everyone. We certainly appreciate your time today and your interest in Graham Corporation. Here with me on the call are Dan Thoren, our President and CEO; and Chris Thome, our Chief Financial Officer. You should have a copy of the second quarter fiscal 2024 financial results that were released earlier this morning. If not, you can find that release, along with slides and supplemental sales orders and backlog information on our website at ir.grahamcorp.com. We will reference the slides during our presentation today. Dan and Chris are going to provide their formal remarks, after which we will open the line for questions. So if you will turn to Slide 2, I will review the safe harbor statement.

You should be aware that we may make some forward-looking statements during the formal discussion as well as during the Q&A session. These statements apply to future events that are subject to risks and uncertainties as well as other factors that could cause actual results to differ materially from what is stated here today. These risks and uncertainties and other factors are provided in the earnings release as well as with other documents filed by the company with the Securities and Exchange Commission. You can find those documents on our website or at sec.gov. During today’s call, we will also discuss some non-GAAP financial measures. We believe these will be useful in evaluating our performance. However, you should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP.

We have provided reconciliation of non-GAAP measures with comparable GAAP measures in the tables that accompany today’s release and slides. We also use key performance indicators to help gauge the progress and performance of the company. These key performance metrics are orders, backlog and book-to-bill. They are operational measures and the company’s methodology for calculating these numbers does not meet the definition of a non-GAAP measure as that term is defined by the SEC. So as a result, a quantitative reconciliation of each of these is not required or provided, but you can find a disclaimer regarding our use of performance metrics at the back of our deck in the supplemental slides. So with that, if you would please advance to Slide 3, I’ll turn it over to Dan to begin.

Dan?

Dan Thoren : Thanks, Debbie, and good morning, everyone. We continue to make solid progress, winning more business, improving processes and executing better. During the quarter, we shipped the last of the first article units related to the naval nuclear propulsion program for both the Columbia class submarine and the Ford class carrier. We learned a lot building these units and expect to carry those learnings forward as we work on the next units for these programs. I’ll remind you that we do want more first article work. That is the first step in getting more content on the ships. Any new content wins though will not be of the magnitude our first efforts were so our learning curve will not be as painful to margins. Our new credit agreement provides us with greater financial flexibility through greater borrowing capacity to fund our growth.

Chris will talk more about this later. And speaking of growth, we had a record level of monthly orders in October at approximately $110 million. A large part of the total included follow-on orders to supply more heat exchangers for a strategic Navy program. As we continue to steadily progress towards our fiscal 2027 goals, we are also identifying new opportunities for growth and margin expansion. There’s lots of exciting things happening at Graham. Slide 4 highlights our strengthening financial results that reflect the effectiveness of our strategy. Revenue grew 18% year-over-year to $45 million, while gross margin expanded 220 basis points. Our improvements are translating to the bottom line. We had net income of $411,000 and earnings per diluted share of $0.04.

Adjusted EBITDA was $2.7 million and 6% of sales. Our book-to-bill for the quarter is somewhat misleading. Given the size of our defense orders and the timing of the release causes a lumpy flow for our business. As I noted earlier, October orders more than made up for what we received in orders during the second quarter. With that, let me turn it over to Chris for the financial details. Chris?

Chris Thome : Thank you, Dan, and good morning, everyone. As expected, our results for the second quarter normalized compared to the better-than-expected first quarter, but were still strong and consistent with our plan. On Slide 5, you could see that our strategy is working. We had strong sales growth for our second quarter of fiscal 2024 with sales of $45.1 million. This was up 18% over the prior year period. During the quarter, defense revenue increased $10.3 million or 69%, reflecting more direct labor, better execution the timing of material receipts and improved pricing. Additionally, commercial aftermarket sales to the refining and petrochemical markets continued to be strong and were $10.8 million, up $4.6 million or 74% over the second quarter last year.

Strong sales in the commercial aftermarket helped to offset the soft environment for capital projects in the refining and petrochemical industries. Declines in the space market reflect timing of projects and the loss of a customer in April 2023 due to their bankruptcy. U.S. sales for the quarter were 86% of total revenue, up 27% year-over-year and reflect the size and growth of our defense business. I should also note that included in defense in the quarter were certain aerospace defense applications that have become more meaningful. Compared with the prior year period, the 36% increase in gross profit and 220 basis point expansion of gross margin reflected higher volume and the related improved absorption, a healthy mix of higher-margin commercial aftermarket sales, better execution and better pricing on our defense contracts.

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Touching on SG&A. Excluding amortization, it was $6.1 million or 14% of sales, up $1.1 million. Approximately $800,000 of the increase was attributable to the supplemental performance bonus for Barber-Nichols employees in connection with the 2021 acquisition. Other increases included inflation of personnel costs as well as increased professional fees of approximately $200,000, driven by increasing complexity in our business associated with growth and our international operations. Turning to Slide 6. You could see the net result was that we had net income in the quarter of $400,000 or $0.04 per diluted share. On a non-GAAP basis, adjusted net income and adjusted net income per diluted share were $1.4 million and $0.13 per share, respectively.

Compared with adjusted net income and adjusted net income per diluted share of $300,000 and $0.03 per share during the same period a year ago. This represents of greater than 300% increase for both metrics. Adjusted EBITDA grew 76% to $2.7 million or 6% of sales, also reflecting the improvements in our business. This compares with last year’s second quarter adjusted EBITDA of $1.5 million or 4% of sales. Turning to Slide 7. You can see how we are strengthening our balance sheet. Cash and cash equivalents as of September 30, 2023, increased 41% to $25.8 million compared with the end of the fourth quarter. Cash generated from operations in the second quarter was $3.3 million and $11.9 million for the first 6 months of fiscal 2024. Capital expenditures for the second quarter totaled $1.8 million and $3.3 million for the first 6 months of fiscal 2024.

For the year, we continue to expect capital expenditures to be between $12 million and $13.5 million as we continue to invest in growth and productivity improvement initiatives. This includes expenditures in connection with the $13.5 million strategic investment from one of our larger defense customers to expand and enhance production capabilities at our Batavia facility that we announced in August. Debt during the quarter was down $900,000 to $10.9 million. However, following the close of the quarter, we refinanced all of our outstanding debt with a new lower cost, $50 million revolving credit facility that matures in 2028. $35 million of the facility is available immediately. The remaining $15 million will be available to us once we have trailing 12-month EBITDA as defined in the credit agreement of $15 million for 3 consecutive quarters.

We use this new facility and cash on hand to pay down our outstanding debt. And as of today, we have no debt outstanding. The new revolver provides the flexibility to support our growth working capital and capital expenditure requirements and lowers our borrowing costs. If you will now turn to Slide 8, I’ll review our orders for the quarter. During the quarter, we had orders of $36.5 million, which were down 60% over the prior year and resulted in a book-to-bill ratio of 0.8x. Last year’s second quarter reflected the $70 million in repeat orders for critical U.S. naval Graham. As Dan discussed, orders in October were a record $110 million, which were primarily related to similar repeat orders to the defense industry. This order level raised our backlog to over $400 million.

Turning to Slide 9. You’ll see that we have a strong backlog that provides us several years visibility given the long lead times of some of our defense business. As I mentioned, backlog is now up over $400 million. Approximately 50% of our backlog is expected to be converted to sales in the next 12 months and another 25% to 30% is expected to convert to sales over the next 1 to 2 years. The majority of our orders are expected to convert beyond 24 months — excuse me, sorry, the majority of orders expected to convert beyond 24 months are for the defense industry, specifically the U.S. Navy. Turning to Slide 10, we can review our guidance for fiscal 2024, which is consistent with the raised guidance from last quarter. Fiscal 2024 — for fiscal 2024, we continue to expect revenue to be between $170 million to $180 million, which suggests top line growth over fiscal 2023 of 11% at the midpoint of that range.

From a margin perspective, our gross margin guidance is 18% to 19%. Additionally, our expectation is for SG&A, including amortization, to be between 15% to 16% of sales and includes costs associated with the supplemental performance bonus for Barber-Nichols’ employees in connection with the 2021 acquisition as well as ERP implementation costs at our Batavia facility, which began this month. Our expectation is that adjusted EBITDA will be between $11.5 million to $13.5 million, which suggests an adjusted EBITDA margin of about 7% at the midpoint of that range. I should point out that our adjusted EBITDA guidance excludes approximately $2.5 million to $4 million related to the Barber-Nichols’ performance bonus and ERP conversion costs as well as approximately $700,000 of debt extinguishment charges in connection with our refinance.

While our guidance for the year suggests a softer second half, it is a reflection of the significant overperformance in Q1, the seasonally softer Q3 due to the holidays and the timing and mix of projects. Nevertheless, as we start work on our better price contracts, employing our much-improved processes, we expect margins to improve steadily each year in order to achieve our low to mid-teen adjusted EBITDA margin goal in 2027. With that, I will pass the call back to Dan.

Dan Thoren : Thanks, Chris. As I noted earlier, we are making solid progress as an organization, but we still have lots of work to do. Our team is fully committed to our strategy for continual improvement and growth. And I greatly appreciate their dedication, enthusiasm and hard work. We have good visibility with our backlog that has a much better margin profile now and we have many opportunities in front of us that we expect to help to advance our growth in earnings power. With that, Shamali, we can open the call for questions.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Theodore O’Neill with Litchfield Hills Research.

Theodore O’Neill : Congratulations on the good quarter.

Dan Thoren: Thanks, Theo.

Theodore O’Neill : Yes. So Chris, with this new revolver and having paid off the debt, do you have the flexibility to take on new debt like for an acquisition or similar if you want to?

Chris Thome: Yes, absolutely. That’s the nice thing about this new credit facility is that it is an all-revolver strategy so we can borrow and repay as we need. As I mentioned in my comments today, we do the facility automatically increases to $50 million once we hit a $15 million EBITDA run rate as defined in the agreement. So yes, the structure that we put in place is what I’ve typically seen at my past companies where we were very acquisitive in nature, and it allows for much flexibility. And we’ll also use it for the increase of CapEx spend that we’ve been talking about for several quarters here.

Theodore O’Neill : Okay. And so looking at your order book and how — where it is right now, are you taking share from somebody else? Or is this a reflection of just a vast array of products you have to offer into the marketplace?

Chris Thome: Yes. Go ahead, Dan.

Dan Thoren: Theo, I would say that it’s basically confidence from our customers that say, gosh, you’ve been doing a great job for us, and here’s more work. As we’ve heard in the media, the U.S. Navy is really trying to ramp up shipbuilding. And the sooner that they can get orders in the supply chain’s hands, the faster we can start to execute it. So it’s definitely confidence in us as a supplier and a tribute to the good work that all of our folks are doing.

Theodore O’Neill : And a follow-up on the Navy, I did a quick search looking at what other companies have been saying about the Ford class program. And I see everybody saying it’s all fine, except that BMX technology is saying, as they said on the first that there is a lull in the cadence of Ford class orders right now. Are you seeing anything, any hiccups in the cadence of the Ford class business?

Dan Thoren: No, we’re not seeing any hiccups. They are kind of long between orders. So they go kind of 4 to 5 years between orders. And so it does feel like a long time between orders, but we’re not hearing anything.

Operator: Our next question comes from the line of Dick Ryan with Oak Ridge Financial.

Dick Ryan : Congratulations on the continued strong performance, guys.

Dan Thoren: Thanks, Dick.

Dick Ryan : You’ve gotten through the first articles. Obviously, some of that is quite the learning curve a couple of years back. I think you alluded to that you’d be interested in other first article business. Are there such projects in the pipeline? And is there — could you kind of handicap the timing if there are?

Dan Thoren: Yes. There are more opportunities out there. Again, the Navy has said we want to go faster. The Navy has passed within their defense budget. Supplier money that they can invest in suppliers to increase capacity and accelerate the building of these ships and submarines. So yes, we continue to talk to our customers who are the primes and looking for additional work. And they’re very interested in keeping us fully engaged and and all the way up to 100% capacity. They don’t want to overload us though because that can be a challenge also if we get behind. And so yes, there’s more opportunities. I would say I can’t really handicap timing right now, but we’re in continual conversation with our customers about taking on more work.

Dick Ryan : Okay. And the investment from the customer, $13.5 million, where is that? When will that start coming into play? And what are you going to be using it for?