CPI Aerostructures, Inc. (CVU) Q3 2012 Earnings Report, Transcript and Summary

Greetings, and welcome to the CPI Aerostructures Third Quarter 2012 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Edward Fred, Chief Executive Officer. Thank you. You may begin.

Thank you, Louis. Good morning, and thank you, all, for joining us for our third quarter 2012 conference call. If you need a copy of the press release issued this morning, please contact Lena Cati at the Equity Group at (212) 836-9611, and she will fax or email a copy to you. Also, if you would like to listen to this call again, you can hear a replay on our website's Investor Relations section in about an hour at www.cpiaero.com. Before we get started, I want to remind investors that this conference call will contain forward-looking statements, which involve known and unknown risks, uncertainties and other factors that may cause actual results to be materially different from projected results. Included in these risks are the government's ability to terminate their contracts with us at any time, the government's ability to reduce or modify its contracts if its requirements or budgetary constraints change, the government's right to suspend or bar us from doing business with them, as well as competition in the bidding process for both government and subcontracting contracts. Our subcontracting customers also have the ability to terminate their contracts with us if we fail to meet the requirements of those contracts or if their customer reduces or modifies its contract to them due to budgetary constraints. Given these uncertainties, listeners are cautioned not to place undue reliance on any forward-looking statements contained in this conference call. Additional information concerning these and other risks can be found on our filings with the SEC. As announced earlier this morning, for the first 9 months of 2012, we reported record results with substantial increases in revenue and net income. Specifically, revenue was approximately $61,917,000 compared to approximately $50,043,000 in the first 9 months of 2011, an increase of approximately 24%, with the G650 and Honda programs accounting for most of this increase. Gross margin was 26.7% compared to 24.5%. Pretax income was approximately $10,760,000 compared to pretax income of probably -- approximately $6,638,000 for the same period last year, an increase of approximately 62%. Net income for the first 9 months of 2012 was approximately $7,411,000 or $0.96 per diluted share compared to net income of approximately $4,744,000 or $0.66 per diluted share for the first 9 months of 2011. Selling, general and administrative expenses for the first 9 months of 2012 in absolute dollars and as a percentage of revenue decreased to approximately $5,291,000 or 9.2% of revenue compared to approximately $5,408,000 or 10.8% of revenue for the same period of 2011. So with that prelude, I will now hand the call over to Vince Palazzolo, our CFO, so he can walk you through the financial statement details for the third quarter. Then I will comment on the current business environment, our guidance for the remainder of the year and new opportunities going forward. I will then wrap things up and open up the call to questions. Vince?

Thank you, Ed. As reported in this morning's press release comparing the third quarter of 2012 to the third quarter of 2011, revenue increased 28.5% to $21,340,831 from $16,607,638. Gross margin was 27.2% compared to 25.1%. Pretax income increased 59% to $4,025,437 compared to $2,531,042. Net income increased 54.9% to $2,795,019 or $0.33 per diluted share compared to $1,805,042 or $0.25 per diluted share. Selling, general and administrative expenses were approximately $1,616,000 or 7.6% of revenue compared to approximately $1,525,000 or 8.6% of revenue. Ed?

Thanks, Vince. New orders through November 7 of 2012 were approximately $68.9 million. This award includes -- this award total includes contracts from 3 new customers: Goodrich Aerospace, which is now called UTC Aerospace Systems; EMBRAER; and Cessna. Additionally, we have continued to receive follow-on releases on some of our major subcontracting programs, including a $12.7 million order from Boeing for the A-10 program and an $18.8 million award from Sikorsky to manufacture a gunner window assemblies for the BLACK HAWK helicopter. And as we reported on Wednesday, we have just received a $5 million contract from our new customer, Cessna, with a potential value of approximately $41 million over the next 7 years. All of these awards have given us a predictable revenue stream, which previously enabled me to issue our 2012 guidance. There's also real business potential from the nearly $1 billion worth of unawarded solicitations outstanding once these programs are funded and/or awarded. Included in this number are 2 bids totaling approximately $647 million to an international aerospace company for work on the Boeing 787. These bids are exciting to us. They relate to an offload program, which means the potential new customer sought us out and asked CPI Aero to potentially build assemblies for them. Although there is no certainty we will be successful with these bids, we believe that being solicited by this potential new customer proves that we have demonstrated to the industry our ability to perform and that we are capable of obtaining substantial orders for work on long-term significant programs such as the Boeing 787. Though this process has taken longer than I had hoped, we are currently preparing for a visit from this potential customer so they can truly evaluate the capabilities that CPI Aero would bring to the program. In the past several years, our reputation has been elevated in our industry, thanks to our impressive list of customers, the success we've experienced on the important programs we are working on and the exposure we have had and contacts we've made at various aerospace and defense exhibitions and shows in the United States and Europe and at various institutional investment conferences. We are now in the midst of establishing relationships with additional prime manufacturers, including other helicopter and business private jet companies, who have come to recognize CPI Aero as a premier supplier of aircraft structure. Among the unawarded bids outstanding are contract opportunities with these potential customers, including our first serious opportunities to perform work on a commercial jetliner as discussed a moment ago. We look forward to reporting on our progress of turning solicitations with these prospects into awards and contract in the very near future. Our third quarter and first 9 months results were in line with our expectations, and we are projecting the fourth quarter of 2012 to have a similar performance profile as 2011. We expect the fourth quarter to be the strongest quarter of the year as our newest contracts begin to generate revenue and income. Although our 2012 guidance has always factored in the current defense budget environment, due to military budget uncertainties for 2013, most specifically the effect of the cuts mandated by this Budget Control Act of 2011, commonly called sequestration, many prime contractors in the aerospace and defense industry, including our customers, have been delaying the release of new orders to subcontractors. As a result of these delays, some revenue expected in 2012 is now projected for 2013. Therefore, we are revising our revenue guidance only and now project revenue to be between $92 million and $93 million as compared to the $95 million to $98 million we forecasted previously. However, gross margin for 2012 will be at the high end of our range of 25% to 27%, which will allow us to achieve our net income guidance of $12 million. As far as guidance for 2013, as is the case for our industry peers, it remains unclear, even with the election now behind us, whether sequestration will take effect in January 2013 and what impact even deeper cuts in defense spending could have on CPI Aero's existing and projected defense contracts. We, like those peers, plan to announce our 2013 guidance once the federal budget situation becomes sufficiently defined. To support our expected growth in new orders, customers, programs and, of course, revenue and profits over the coming years, not only have we amended and increased our credit lines to a combined borrowing capacity of $22.5 million, but also raised approximately $13.5 million through a public offering in June and July. We used approximately $4 million of those net proceeds to repay a portion of our revolver. Additionally, we have increased our workforce to 210 people, and we are conducting our operations at our new 3x larger, 171,000 square foot facility, in which we moved into in mid-December 2011. On a separate note, CPI will continue to tell its story as often as possible, and to that point, we will participate in the D.A. Davidson Aerospace & Industrials Conference in Boston on Tuesday, December 11. In addition, we have already been invited to participate in the Noble Financial Ninth Annual Equity Growth Conference in January and the Roth Capital 25th Annual Growth Stock Conference in March. We look forward to the immediate and long-term future with great anticipation and excitement as we execute on our current contracts, develop new customers and deliver unprecedented financial results for our company. Lastly, I wanted to inform everyone that CPI Aero fared extremely well during Superstorm Sandy, unlike so many of our neighbors here on Long Island. We closed the facilities on Monday and Tuesday to ensure the safety of our employees and allow them to be at home with their families during the crisis. We experienced no interruption in electrical or communication services and reopened on Wednesday, October 31st with business as usual. At this point, I would like to open the floor to questions. Louis, can you allow callers to place call -- questions now, please.

[Operator Instructions] Our first question comes from the line of Mark Jordan with Noble Financial.

Ed, first with relative to some recent news, one of your customers, Spirit, announced some significant cost overruns in some design and build projects they had, one of which was the G650 wing. Does their problems have any implications for you?

Not on the current structure of our contract, no. Obviously, the fact that they had to take some write-downs means that as we negotiate with them, discuss with them the idea of year going from a 134 shipsets up to another number, whether that's 200 shipsets as some of us have heard, whether it's 300 shipsets, as some of us have heard, we would obviously have to have better pricing in order for them to be able to award that contract to us. So that's the only implication it has. As far as what we have in-house, our current contract, no. It has none at all.

Okay. Secondly, of the $311 million of bids or opportunity outstanding at the end of the quarter, could you outline what relates to potential Sikorsky business and what's been the sort of the gating issue, as those bids have been out there for a long time?

When you say the $311 million, I'm assuming you mean besides the $600 million and change...

Yes, exactly. It's the $958 million minus $647 million is $311 million.

Well, we were very upfront about the fact we had about $125 million worth of contracts out there with Sikorsky that we had a high level of confidence on. To this point, we've only been awarded $19 million worth of it. You haven't seen the number drop dramatically, so I would say to you that it's a pretty safe assumption that those contracts are still in the pipeline for us and awards are still in the pipeline for us. Sikorsky did not get approval on Multi-Year 8 until we were at the Farnborough Airshow in July, which was about 6 to 7 months later than all of us anticipated. So I think that the issue with them now is simply just a lag time and that's all. We still expect to be awarded some significant contracts. We think we're very, very solid in our bids that are outstanding, and it's just a matter of time. But that delay is one of the reasons we had to reduce earnings -- I'm sorry, reduce revenue projections. We expected to have some of these contracts in-house at a much earlier time. Some we do not have in-house yet. However, as most of you know and are aware of, CPI any company in this business -- the fact that we did not have as many new awards as we expected so far this year has kept the gross margin higher than we expected. In our projections when we gave them to you late last year, it included new work, and with new work comes lower starting gross margins. Because we don't have that new work yet, or hadn't gotten some of it until recently, those lower gross margins will not impact the overall operating margins of the company. And therefore, even though we have lowered the revenue guidance, we've been able to keep our net income guidance exactly where it was because we are operating at a more profitable level for the time being.

Okay. Relative to the unbilled costs and estimated profits on your balance sheet at the end of this quarter was $96.2 million. A year ago that number was $60.9 million. Is that number inflated? And what are the -- if so, what are the milestones that should be ahead of us, which would trigger significant billings that would allow you to free up, and how much might you free up out of that $96 million?

I'm not exactly sure what you mean by that number being inflated. I mean, by its nature you would expect that as the overall volume of the company goes up -- I'm sorry, Mark. It's Vince, not Ed this time -- that we would expect that number to rise and given the cyclical nature of specific things, such as the Goodrich contract, which is in its early stages. Although there is milestone billings on that contract, it is in early stages and buildup stages. So that number would be expected to be growing disproportionate to the overall volume, which has happened. In terms of the Boeing, which you guys have -- we've talked about over time, we are billing and collecting from Boeing. We are not billing and collecting as fast as we would like to be, and a lot of that is related to the items that are still -- or unpriced changes on certain items. We are still billing them at the lower margins before -- at the lower prices before engineering changes, so we are not collecting as rapidly as we would like on that contract. All of those things sort of combined together given us [ph] a cost and estimated earnings account about where we expect it to be.

Okay. A final question for me, then I'll turn over the floor. Looks like [indiscernible] seem to be on a pretty short trigger with regards to award and almost immediate work and deliveries relatively quickly. Was there something odd in terms of that coming on board -- like with, I guess, the Honda, it seems like there was a gestation period of 1/2 year or more. And again, I was curious as to how that came in so quickly and passed around so quickly.

I'm going to let Doug answer that one.

That is an existing airplane, and we are the second source on that particular work package. The tooling exists. The design largely exists and it's more a transfer of work out of 1 factory into ours. And we had a little bit of an advance notice that we were in a position to win that, so we've already begun transitioning that work. So that's why it's an unusually short ramp.

The next question comes from the line of Mark Tobin with Roth Capital Partners.

Trying to get a sense of the breakout of commercial versus military, both in your 2012 guidance as well as in the bids outstanding -- the balance of that bids outstanding, the $300-million-or-so number.

2012 revenue should be about 70% military, 30% nonmilitary, down from 80-20 in '11. And then the breakout -- so you are asking for the breakout of the $311,000 or $300,000, significantly more nonmilitary. I'd say that one's probably about 75% nonmilitary, 25% military. It's absolute movement obviously, Mark, towards nonmilitary business for 2 reasons. One, the reduction in defense spending that we anticipate. And two, the fact that this is the time. This is when the commercial market is starting its uptick. And now is the time to get as much commercial work as you possibly can, so we have changed our focus a little bit towards that arena.

Okay. And I guess what I'm digging at ultimately is as we look at 2013, and I appreciate the fact that, that things -- that visibility is very limited. But if we were to put together different scenarios as far as the impact on you, you're fairly concentrated on a couple or a handful of military programs, then you've got this commercial activity that's ramping up. I guess how do you look at, I guess, the realm of possibility as you look ahead to '13?

It's a hard one, Mark, because to even give you the realm of possibility and sort of giving you projections, even if they're not with numbers, I'm going to shy away from it. All I'm going to say to you is this: I truly don't know what's going to happen here. There's already been the rhetoric that we'll -- we won't fall off the financial cliff, blah blah blah, but there's also been the rhetoric that, well, not raising taxes on anybody, so therefore, anything else isn't done either. So I don't know the answer. All I can say to you is this: The military programs that we're on, if there is no sequestration, should be ones that are funded to a substantial level. These are out-of-production airplanes that have requirements that both sides of the aisle in Washington have agreed are required. There is no argument on A-10. There is no argument on E-2D, and there is no argument on the BLACK HAWK helicopter. So failing sequestration, or sequestration going away, the hope is that we've got the right programs, and the money will be spent in those areas. That said, it depends on how long all this drags out, too. We have not gotten some of the orders we expected to get. That's why we reduced our revenue guidance, but not our net income guidance. And so we're kind of all sitting here looking at each other and we could throw darts at a board and come up with just about any number of revenue for next year. But it's so widespread that we just decided it makes no sense to go in any direction with it.

Okay. And I guess looking ahead in breaking the business into military and nonmilitary components, it sounds like we start 2013 at a $30 million maybe, just for rough numbers, a $30 million revenue run rate that then ramps as -- assuming these other orders come in throughout 2013. So is that an okay way to look at it? It would be kind of a ramping $30 million number or so.

I'm going to make an assumption here that you're basing $30 million on 30%.

Correct.

Okay. If your assumption is 30%, then your assumption is correct. And the goal is, by 2014, '15, [indiscernible] and I have stated this publicly many times, to be more 50-50 or even 40-60, military to nonmilitary. That is where we're trying to go to.

Okay, that's helpful. And then finally, and before I jump back in the queue, on the Boeing 787, you talked about preparing for a visit. Can you give us some idea of time frame, and I know a lot of this is outside of your control, but what kind of timing do you expect, and what are the key milestones associated with that contract progressing?

There are no milestones per se, that's why this is a strange one in a way in that this company is already building the parts that we're now trying to get from them as an offload. So there isn't this immense pressure, like with example like when a Honda wanted to build, wanted to put out a contract, they had to do so based on a build schedule of a brand new airplane. Here, 787 is being built. This company is building certain assemblies for it. They want to offload some, and when they get to offload it, they'll offload it. The only milestones I could give you or anything else is to tell you that the visit we're preparing for is soon, within the next 2 weeks. And then we'll see where we are after that visit and how quickly we can move it along. But it's a great sign that they're coming to see exactly what we do and not just look at slide shows and say, "Okay, they look good."

[Operator Instructions] Our next question comes from the line of Bhakti Pavani with C. K. Cooper & Company.

My question is related to the specific award that you are seeing a delay of getting awarded in 2012. Could you comment on any kind of visibility? Do you see of receiving those awards in '13? What time frame are you expecting them?

Okay, sure. What I can tell you is that we would expect to see the Sikorsky awards be given out, and we are confident that they're us, but I'm not going to tell you 100% that they're coming to us. But we're fairly confident we will see Sikorsky awards relatively soon. There is no issue with the contract they have as far as awarding them, so we're hoping that comes soon. The others, Bhakti, I can only say to you, we don't know, because our customers and potential customers don't know, because they, like us, need to see how this all unfolds on a budgetary process first. I don't thank anybody anticipated sequestration when we first started bidding on this, and even though the election is over, nobody has a clear sign of what is going to happen going forward. And so our customer is not going to give us a potential release time for something that they don't know if they're going to have a full budget for. So I'm not trying to be cute and not give you an answer. I just really and truly don't have it.

Okay, no, it's fair enough. My other question was that now that you have 2 larger bids for 787, are there any other programs that you are thinking to bid on, taking into consideration the 737 MAX or A320neo, any kind of those programs in the commercial aerospace is ramping up any time?

We have been pursuing programs like that all along with other subcontractors, et cetera. That has not stopped. That has not -- that did not begin when the 787 started. The only reason we specifically brought up the 787 information is because of the magnitude of the program, or the size of the program, I should say, the program that it is, the 787, which I think most people view as the aeroplane for the next 30 years, and the fact that it was brought to us versus us chasing it down. That's the only reason. Yes, we're always looking at that. We're also looking at Airbus programs. Again, this is the upturn in the commercial cycle. It happens once every 11, 12, 15 years, and we want to be in on it. So we're looking at every -- we're turning over every rock looking for ability to get on commercial aircraft programs.

Our next question comes from the line of Ryan Nelson with Special Situations Fund.

Actually, Alex Silverman. Can I make an assumption that if they're visiting on the 787 that you guys -- or at least there's comfort on pricing?

That would be too strong an assumption.

Too strong an assumption?

Look, and I've stated this before. The pricing is out there, we know darn well, and are ready to accept the price we have now. We realize there's going to be a negotiation that follows. What I think the assumption can be though is that obviously, it's in the ballpark of what they're looking to do or they wouldn't waste the trip.

Our next question comes from the line of Mark Jordan with Noble Financial.

Two quick follow-ups if I may. What is the depreciation and amortization of the quarter?

Vince will give it to you in a second.

$158,000.

Okay. And then, Ed, talking about the order delays that have caused you to lower the revenue expectations for this year, were they -- were those delays relative to contracts or parts that you were already making and your customer is leaning out to supply chain, or are those for new parts that you would start making moving forward?

That would be both, Mark.

Okay. Because one would assume if you're leaning out to the supply lines that there might be a catch-up assuming that the prime continues to produce at the same rate.

That could be a good assumption, Mark.

[Operator Instructions] There are no further questions. At this time, I'd like to hand the floor back over to Fred, Mr. Fred, for closing comments.

Thanks, Louis. I'd like to thank all of you for participating in this call. Since this is our last conference call for the year, we want to wish all of you the very best for the holiday season and the coming year. We look forward to speaking to you again in March for our fourth quarter earnings call. Thank you.

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time, and thank you for your participation.