Good day, and thank you for standing by. Welcome to the Q2 2022 Ducommun Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. And I would now like to hand the conference over to Ducommun's VP, CFO, Controller and Treasurer, Chris Wampler. Mr. Wampler, please go ahead.

Thank you, Chris, and welcome to Ducommun's 2022 second quarter conference call. With me today is Steve Oswald, Chairman, President and CEO. I'm going to discuss certain limitations to any forward-looking statements regarding future events, projections or performance that we may make during the prepared remarks or the Q&A session that follows. Certain statements today that are not historical facts, including any statements as to future market conditions, results of operations and financial projections are forward-looking statements under the Private Securities Litigation Reform Act of 1995 and are, therefore, prospective. These forward-looking statements are subject to risks, uncertainties and other factors, which could cause actual results to differ materially from the future results expressed or implied by such forward-looking statements. Although we believe that the expectations reflected in our forward-looking statements are reasonable, we can give no assurance that such expectations will prove to have been correct. In addition, estimates of future operating results are based on the company's current business, which is subject to change. Particular risks facing Ducommun include, among others, the cyclicality of our end-use markets, the impact of COVID-19 on our operations or customers, the level of U.S. government defense spending, timing of orders from our customers, legal and regulatory risks, the cost of expansion and acquisitions, competition, geopolitical developments and disasters, natural or otherwise. These risks and others are described in our annual report on Form 10-K filed with the SEC, and our forward-looking statements are subject to these risks. Statements made during the call are only as of the time made, and we do not intend to update any statements made in this presentation, except if and as required by regulatory authorities. This call also includes non-GAAP financial measures. Please refer to our filings with the SEC for a reconciliation of the GAAP to non-GAAP measures referenced on this call. We filed our 2022 second quarter Form 10-Q with the SEC today. I would now like to turn the call over to Mr. Steve Oswald for a review of the operating results. Steve?

Okay. Chris, thank you, and thanks, everyone, for joining us today for our second quarter conference call. Today, and as usual, I will give you an update on the current situation of the company, after which Chris will review our financials in detail. The company remains focused first and foremost on the health and safety of our employees. The team has done an excellent job of safety protocols put in place since March 2020. We continue to follow our best practices in aligning with health authorities. And within the company, we had 106 cases of the Omicron variant in Q2 of 2022. Turning to the Q2 financial results. Ducommun's second quarter performance was very good. The company is delivering year-over-year revenue growth of 9%, in line with 2022 guidance. The commercial aerospace market continued recovery was the real bright spot in Q2 with Boeing 737 MAX business up over 200% year-over-year, and the Airbus A220 also had a significant increase of 200% growth year-over-year. Overall, commercial aerospace with Airbus, Boeing, Gulfstream and others was up over 50% from Q2 2021. I also want to add that our commercial aerospace business showed year-over-year growth now for the fourth consecutive quarter, an excellent sign and we're just getting started. The company's business in defense as well after tremendous growth of roughly 40% over the past 2 years in 2020 and 2021 was only down slightly in Q2, but still delivered a solid performance of over $100 million in revenue. The company posted solid gross profit of 19.9%, which was down year-over-year and was partially impacted by several onetime factors, which Chris will cover in his remarks. In addition, we had strong bounce back for adjusted EBITDA margins to 13.8% in Q2 from the Q1 number, which is very nice to see and…

Thank you, Steve, and good day to everybody. As a reminder, please see the company's 10-Q and Q2 earnings release for a further description of information mentioned on today's call. As Steve discussed, our second quarter results reflected another period of solid performance. The second quarter saw a strong increase in commercial aerospace revenue. We remain encouraged by the continued strength in the overall travel demand, which should drive higher demand and shipments going forward. We're pleased with many aspects of our first half of 2022 and are looking forward to building on this performance and believe we're in a position to do so. Now turning to our second quarter results. Let me review some of the highlights. Revenue for the second quarter of 2022 was $174.2 million versus $160.2 million for the second quarter of 2021. The year-over-year increase reflects $19.5 million of growth across our commercial aerospace platforms, partially offset by $6.3 million of lower revenue within the military and space sector. A portion of the year-over-year increase is directly attributable to MagSeal, which we've acquired in December of 2021. Thus, our overall growth was a combination of organic and inorganic growth. Ducommun's overall backlog at the end of the second quarter was approximately $976 million, an all-time high for the second consecutive quarter. This reflects recent growth across our commercial aerospace platforms, setting up the company for a strong top line performance for the second half of 2022 and beyond. Our defense backlog remained strong at $494 million, and we remain positioned for a strong second half of the year for our defense business. As a reminder, we define backlog as potential revenue based on customer purchase orders and long-term agreements with firm fixed prices and expected delivery dates of 24 months or less. We posted total…

Okay, Chris, thanks. And just in closing, just a few comments here. Well, certainly, it was a very good quarter, a solid first half for the comment coming out of another tough year in 2021. I think for me, the themes are commercial aerospace recovery going to the next level. I believe defense is in good shape, especially with our offloading activity still high. Our acquisitions are performing at a very good level, and we're bringing on new business. Now we do have a lean cost profile. I think that's benefited us throughout the pandemic and, obviously, in 2022, and we had an excellent refinancing outcome. I think it's going to help drive the company to the next level with strong funding. So those are just some of my thoughts as we wrap up the comments. I'd also like, again, this quarter take the time to thank my team, Ducommun employees, along with our investors, suppliers and our other stakeholders for their support. We've been through an unprecedented time in the past few years, and I believe are in excellent shape on moving forward. We've done a great job managing the business and maintaining a level of excellence in 2020 and 2021. I think all that hard and smart work will pay off in the next few years. So with that, I'll open it up for questions.

[Operator Instructions] Our first question shall come from Ken Herbert of RBC Capital Markets.

Steve, maybe just wanted to start off. Most of your defense customers and peers have seen a pretty significant supply chain disruptions in the second quarter. And then subsequently, a lot of them are calling for a pretty significant sort of inflection positively in sales into the back half of the year as some of these near-term issues are transitory and get worked out. To what extent were you seeing similar supply chain constraints? Or to what extent has that maybe impacted your business in the second quarter? And then similarly, are you also perhaps looking on the defense side for an inflection at some point in the back half of the year in line with what a lot of your customers expect to see?

Yes. Ken, thanks, and I appreciate the question. So first, we've, I think, done a fairly good job in the first half of 2022. We have an inventory strategy. We do build inventory in certain areas for certain customers. So I think that paid off for us as well, certainly in our circuit card and connector businesses. So I think we've been able to manage it maybe a little bit better than others, partly because of that. So that's my first comment. We think that we're still going to see some challenge, especially when it comes to our card business, okay? I think that for other businesses like titanium sheet and other things, we feel like we either have that managed well or we have an inventory position where we're comfortable for the second half of the year. But I do think that at least in Q3 and Q4, I think there's going to be still some challenges on circuit cards, but we have a plan to kind of work through it, and we don't think it's material.

Okay. Appreciate that. And if I could, I appreciate the detail you provided on the offloading opportunity. I think you mentioned that business or that opportunity grows or doubles in '23 with an opportunity up to $125 million or so in '25. How should we think about the margins on this offloaded work? To what extent are you maybe getting a little aggressive initially to win some of this work. And as that volume grows in terms of the offloading, how accretive can that be to margins over the next couple of years?

I think a couple of things. First, look, when we do offload from a defense front to stay small, not small, but a very low-cost operation in Wisconsin or Tulsa, Oklahoma, okay? We already had a very positive arbitrage. So we're able to provide that value, which obviously defense brands want, right, along with our performance because there's 2 sides of the offline. First, defense price want to drive margins up. They want cost savings, but they also need the parts, okay? So we've established this track record, I believe, which is going to help us in the near term and midterm as we move forward to the 125. I think margins are going to probably be similar to what we're seeing. And Chris is nodding his head that we're going to probably see similar. We feel that one of the nice things about offloading is we do provide a lot of value there. especially coming from a high overhead operations, say, the defense prime. So we're able to have a little bit more, I believe a little bit more strength on margins as we go forward. Down the road, we think the $125 million number, especially with the SPY-6. This NGJ, I know you're familiar with it, is that's going to be a great program for us. It just came out.

Yes. And one other thing just to add in to Ken, to the first question you had, I mean, as Steve sort of alluded to the fact that we have not had significant supply chain issues. And part of that is the flexibility to be able to sort of be agile and to move around any issues that are coming up, which helps. But to your question about the back half of the year, we don't have a huge pent-up demand that's going to all of a sudden break free there. On the customer side, maybe they'll demand, maybe that will break free a little bit more for them. But to Steve's point, we feel like we made a shop pretty well, but there's more work to do, and the environment is definitely tough.

Great. And just finally, on commercial aero, Nice to see some volume really flowing through there. Can you just comment where you are in terms of MAX production rates and how you're viewing that through the back half of this year and into early next year?

Yes. We're obviously, to your point, we're thrilled, okay, as I mentioned, it's been a couple of tough years, but I think we're in a great position with the MAX, both at Spirit and directly to Boeing. We're running probably right around 28% to 31%, moves around just maybe a little bit, but that's kind of what we're seeing. We're expecting that, and we're planning for that through the end of this year, and we're kind of just thinking that's what it's going to be at least through the first 6 months of 2023. So we're kind of holding firm on where we are right now.

Our next question will come from Mike Crawford of B. Riley Securities.

Steve, maybe I have a different twist on the supply chain question where unlike Mercury Systems, which saw lots of difficulties, particularly securing semiconductor, perhaps your same end neighbor TTMI Technologies last night talked about not having any issues, in fact, having favorable inventory cost of metal coming down but more importantly, is seeing lead times come down. And so the question, I guess, flipped for Ducommun is if you're also seeing lead times come down, does that mean that conversely, we might see some kind of pause in orders from customers that can afford to wait to place their orders or work through some of these buffer stocks you put in place to manage during this post-pandemic period?

Mike, it's Chris. I'll jump in first. I mean, to that point, and certainly, you've got some pretty real-time information you're sharing with us there. On our side of it, we're not seeing any consistent messaging of getting a position where lead times are coming down yet. And then to the extent that, that does start to happen, then I think we're a little bit away from where that's going to impact our flow as well in terms of what the customers are going to, when they're going to build that in. I just think it's going to take a while to get there, but that's a little different messaging than what we've been seeing and talking about weekly on our ops calls.

Okay. All right. And then just a final question relates to capital allocation. You do have one other, at least valuable California property. Are you exploring the sale leaseback there as you did with your larger property last year?

Yes. So that's a great question. I guess it's a TBD. I think that we do have one other major property. We're always looking at [group buying] I'd say we're always looking to create value, okay? I mean the market is still strong out here. I would just say, at this point, we're still reviewing it. I think that's fair to say. And I think that that's probably where we want to leave it on the Q2 call. More information to come.

[Operator Instructions] And next, we have Peter Osterland of Truist Securities.

It's actually Mike Ciarmoli. Maybe guys, just keeper question, quick follow-ups. Just on the commercial aero, the Structural Systems Aero revenues down sequentially. Anything, is that just timing or anything changing around there? I know you just kind of laid out what do you expect from the MAX and kind of going forward. But any color on a little bit of a dip there?

Mike, I don't think there's anything systematic there. That's just more just a little bit of timing.

Just a little bit of --

No constraints. That's just more timing --

We're good. I mean we just got back to the airshow not too long ago, and I know people were uptight about engines and forgings and candidly should be. But I mean, from a comp perspective, I mean, we're hungry, we're excited. I mean we want the orders.

Okay. And then just on the defense again. I mean we obviously are hearing a lot from your customers in the sector in general. But we are seeing pretty strong order flow out there, and you had a little bit of a dip in the backlog sequentially. What are you seeing in the ordering environment and I guess, the pipeline of opportunities in defense?

Yes. I mean I'll start it off and then Steve certainly can jump in. I mean I think on the defense side, again, go back to timing. I mean, we tend to get needle movers that hit not at a regular pacing. So we viewed it as a pretty quiet run to the finish line on defense. And usually, that means there's some activity out there for us in the next quarter. But just from an overall, we're on the pulse of the activity and the opportunities, there's still a good flow.

Yes. And we're on some major programs and sometimes, Michael, not go quiet, but Apache is a good example where things move around a little bit that we're going to see a little bit maybe of headwinds every once in a while in a quarter just because of FMS orders and the budget. So you see a little bit of that. But overall, we feel very good about the orders and again, this next-generation jammer, which just was commercialized to the military in 2021. I think that $15 million and the things that are coming, we're pretty bullish.

Got it. Got it. And just on really good free cash flow in the quarter, even with some inventory build there. And I think you said you could probably unwind some of these contract assets. What should we expect for second half free cash and inventory build there? And I think you said you could probably unwind some of these contract assets. What should we expect for second half free cash flow?

Yes. I would expect, well, first of all, Q2 was we felt very good about Q2, clearly. Our first half, typically, Q1 is very much an outflow quarter. Q2, we start to break even generate a little bit. Q3, Q4, I would look for us to sort of get the same type of performance in that 6-month period that we saw in the 3-month period. So I'd say sort of that free cash flow of that $20 million is probably a pretty reasonable estimate out there.

[Operator Instructions] And this ends the Q&A session. I would now like to turn the conference back to Steve Oswald for closing remarks.

Okay. Thank you, and thanks, everybody, for joining us today. We also appreciate the support of the new time. We feel good about it. And certainly, I'd like to hear your feedback on it as well. But we think this is a good thing for the company, good thing for our cadence, gives us a little bit more of a window of opportunity with our analysts, the 2:00 p.m. slot Pacific Time, just be crowded as you all know. So again, thanks for the change and the support. We're excited about the future. We appreciate, again, all the support. We wish you a great day and a safe one and look forward to again speaking soon.

Thank you all, you may disconnect, and have a pleasant day.