MOG.A (MOG.A) Q4 2012 Earnings Report, Transcript and Summary

Good day, and welcome to the Moog Fourth Quarter and Fiscal Year End Conference Call. [Operator Instructions] Today's conference is being recorded. At this time, I would like to turn the conference over to Ms. Ann Luhr. Please go ahead.

Good morning. Before we begin, we call your attention to the fact that we may make forward-looking statements during the course of this conference call. These forward-looking statements are not guarantees of our future performance and are subject to risks, uncertainties and other factors that could cause actual performance to differ materially from such statements. A description of these risks, uncertainties and other factors is contained in our news release of November 2, 2012, our most recent Form 8-K filed on November 2, 2012, and in certain of our other public filings with the SEC. We provided some financial schedules to help our listeners better follow along with the prepared comments. For those of you who do not already have a copy of the document, a copy of today's financial presentation is available on our Investor Relations homepage and webcast page at www.moog.com. John?

Thanks, Ann. Good morning. Thanks for joining us. Before I go into my prepared remarks, I would just like to say, we recognize that it's been a very tough week for folks living on the East Coast. We were lucky in Buffalo, we were spared the brunt of the hurricane. But we hope all our friends and acquaintances living in New York City and New Jersey have been spared the worst of the devastation, and that your family and friends are all safe. And we hope that you and your communities will have a speedy recovery, and that life gets back to normal in as short a period as possible. So let me go back to my prepared remarks. And this morning, we'll report on the fourth quarter of fiscal '12 and reflect on our performance for the full year. We'll also reaffirm our guidance for fiscal '13. We have a good story to tell today. The fourth quarter finished strong and the full year results show a very healthy improvement over fiscal '11. In addition, we're anticipating further growth in sales and earnings in fiscal '13. Q4 was another good quarter. Sales were up 2% to $633 million. Net earnings of $42 million were up 10%, and earnings per share of $0.91 were also up 10% from last year. Taking a look at the P&L. Our gross margin was up slightly on better mix. R&D is also up, driven by the A350 program. SG&A is up as a result of a shift of activity from direct product support to selling support, and interest expense is about flat. Our income tax rate came in at a low 20.8%, as we benefited from some unusual items. And the overall result was a 6.6% net margin, and as I mentioned, earnings per share of $0.91. Overall, fiscal '12 was a very good year for our company. It was our third year of growth in sales and earnings following the great recession of 2009. For the full year, sales were up 6%, net earnings up 12% and earnings per share were up 13%. Over the last 3 years, sales have increased 34% and earnings per share are up 68%. We have delivered these improvements despite the reduction in military spending and the tepid industrial recovery. We believe our diversity across markets and geographies, as well as our excellent position in the most important military and commercial programs has been the key to this strong performance, and we think these factors will continue to benefit us in 2013. So looking to 2013. Our forecast for next year shows further growth in sales and earnings over our 2012 results. 90 days ago, we described a forecast for fiscal '13, which included a $50 million sales range, and an associated earnings per share range between $3.50 and $3.70. We're affirming that outlook today. As before, this forecast does not take account the sequestration. There have been statements from the DOD that if sequestration happens, they will not change or cancel contracts for which funding has already been obligated. We believe that the majority of our fiscal '13 defense sales are in that category. That being the case, if the DOD sticks with that plan, sequestration may not have much impact on fiscal '13. Comparing our thinking now on fiscal '13 with 90 days ago, we have some positives, as well as some new headwinds. On the positive side, we think our Aircraft, Space and Defense and Components businesses will be a little bit stronger, and we'll also see higher sales because of our recent acquisition of AMPAC's In-Space Propulsion business and Tritech. 2 headwinds of note are a lower discount rate in our pension expense calculation and a softening outlook for our industrial business. Putting it all together, we're forecasting sales in the range of $2.62 billion to $2.67 billion, with earnings per share of $3.50 to $3.70, a 5% increase over 2012 on the low end and an 11% increase on the high end. Our core businesses remained strong, and we believe our diversity across aerospace, defense and industrial markets will help us ride out the ups and downs of the various markets we serve. So before I jump into the segments, let me offer some general thoughts on fiscal '12 and reiterate our broad strategy for the business. In addition, I'd like to address 2 specific areas of interest, the outlook for aircraft margins and our Wind Energy business. Starting with fiscal '12. From an outsider's perspective, fiscal '12 was another great year for the company. Sales and earnings grew nicely, and we continued to add on bolt-on acquisitions to augment our position in our target markets. From an insider's perspective however, it was perhaps the most eventful year in a generation. In December 2011, after 23 years as CEO, Bob Brady passed the reins to the next generation. For me, the objective in 2012 was simple: steady as she goes. Continue with the proven strategy of the past and deliver on the forecast we had provided the 3 [ph]. As we close out fiscal '12, I'm happy to report that, that is what we have achieved. As we now look to next year, we continue to focus our attention on growing sales, margins and earnings per share. Our broad strategy remains unchanged, to be a world leader in high-performance control systems. We'll maintain our excellence in components and continue to broaden our portfolio to offer higher level systems to our customers. We continue to look for bolt-on acquisitions which support this strategy. We share our technology across a diverse range of markets, and with this strategy, we believe we will continue our record of strong and consistent growth in sales and earnings. Now to a couple of specific topics of interest, starting with the outlook for aircraft's margins. 10 years ago, we embarked on a strategy to shift our aircraft business from a Tier 2 supplier of components to a Tier 1 supplier of fully integrated flight control systems. Along the way, we made significant investments in new programs and saw our margins compressed. The low point was in fiscal 2009 with operating margins of just under 8%. Over the last few years, we've explained that our margins will gradually increase as our R&D load moderates and new programs transition into production. We are now in the middle of that margin recovery cycle, with margins in 2013 projected at 11.5%, some 380 -- 360 basis points of improvement over a 4-year period. We're sometimes asked why our aircraft margins are not expanding faster, and there are several reasons for this. First, delays in all our major development programs have resulted in longer development cycles and a higher level of R&D spending than planned. Second, these delayed programs are only now coming into production and early deliveries are never very profitable. Third, in 2009, we completed the acquisition of the Wolverhampton business from GE, a critical step in consolidating our sector, but a short-term drag on margins as we restructured the business, moved commercial production offshore and invested in a new facility in the U.K. Finally, the continuing decline in interest rates has resulted in a pension headwind, which we could not have anticipated a few years back. To put this in context, comparing fiscal '12 to '13, higher pension costs shaved over 50 basis points from our projected 2013 operating margins. Were it not for this, our aircraft margins in 2013 will be 12.1%. To sum up, our aircraft segment strategy is firmly established, and we believe we are now the premier supplier of flight controlled actuation in the world. Our journey of margin expansion is well underway, albeit moving a little slower than we would like. Over the last decade, we won the only major military competition, the 2 major commercial widebody competitions, gained share in the business jet world and won a position on the new Chinese airplane. We've also acquired a significant competitor and consolidated their operations into ours. We believe we're on the best programs on both the military and commercial side of the house, and are confident that our margins will expand to mid-teens over the coming years. Now let me provide some context on our Wind Energy initiative. Our foray into the wind business has been an interesting ride. Back in the summer of 2008, we bought a 40% stake in LTi, a German manufacturer of electric pitch control systems for wind turbines. At the time, LTi was one of the few suppliers of this technology in the world and wind OEMs were clamoring for product. LTi had a strong business in Europe and an exploding business in China. It was a supplier's market, with strong growth and nice profitability. In 2009, we completed purchase of LTi, at a price which had been agreed some 2 years earlier. We paid 3.6x forward EBITDA. As the industrial automation business suffered in the recession of 2009, our wind business boomed. Sales in China grew to over $90 million with attractive margins, then the music stopped. And since 2010, the wind story has a been a tale of 2 regions. First, China. In 2010, the market in China started to turn, wind OEMs had overbuilt capacity, the end market for turbines was slowing and no clear competition for our products had emerged, demand waned, prices dropped, and some OEMs developed in-house pitch control systems. This trend in China has continued, and as a result, we're forecasting wind sales in China for fiscal '13 of only $25 million. On the other hand, our wind sales in Europe have been steady since '09. And we're forecasting that 2013 will be another year of sales close to $70 million. As the industry has retrenched, margin in Europe -- margins in Europe have moderated from the high point in 2009, but the the business there remains healthy. So in 2009, and through much of 2010, our wind business boosted our overall margins in the industrial segment. Since that time, they've been a drag on our overall industrial margins. Over the last 2 years, we've taken repeated actions to resize our wind business in line with demand, an action we have taken again in the past quarter. Looking to the future, we believe success in this market will come from new products designed to be fundamentally more compact and cost-effective than the present solutions. We have the portfolio of products required to deliver a complete solution and the engineering capability to take out cost. So that's our plan. Ride out the present turmoil while sizing our operations for the market needs. In parallel, develop a range of new products, which create superior value for our customers and address the future needs of the wind energy market. We think it could take another couple of years to see this business really turn around, but we believe it will be worth it. Now to the quarter. And I'd remind our listeners that we had provided a 2-page supplemental data package posted on our website, which provides all the detailed numbers for your models. We suggest you follow this in parallel with the text. Starting with aircraft. Q4 was another good quarter. Total aircraft sales were up 11% to $254 million. The commercial market drove the increase, with higher sales across all our major customers. Sales in the 787 program contributed over 60% of the growth, with 787 sales to Boeing more than double the level of a year ago, and strong initial provisioning at the airlines. Military sales were up marginally in the quarter, with a strong aftermarket more than compensating for lower V-22 OEM sales. Fiscal '12 was a very strong year, with sales up 13% to $963 million. We saw our Military Aircraft business increase 9% in fiscal '12, despite the general market concerns about slower military spending. The major drivers were the F-35 production ramp-up, higher foreign military sales, a strong aftermarket, and the new KC-46 tanker program. Helicopter sales moderated from 2011 highs on both the V-22 and the Blackhawk. Commercial had a very strong year across the board, with sales up 21% for the year, about 1/2 of this growth was on our legacy platforms and the other 1/2 on new platforms, including the 787 and the new Gulfstream business jets. Fiscal '13. Fiscal '13 should be another year of growth, driven principally by the continuing ramp-up in our commercial business. We're projecting a sales increase of 7% for the aircraft segment to $1.03 billion. Commercial sales will be up 13%, with 2/3 of the growth coming from the 787 and A350 OEM programs. We're forecasting a modest decrease in the commercial aftermarket next year as the rate of 787 initial provisioning for spares slows. Military sales will be up 3%, with higher sales in the KC-46 tanker program and in the military aftermarket, more than compensating for lower OEM sales in helicopters. F-35 sales will be up slightly on higher production rates. Margins. Margins in the quarter were 11.5%, and for the full year fiscal '12 were 10.9%. Margins expanded 100 basis points from fiscal 2011. For fiscal '13, we're forecasting further margin expansion to 11.5%, and were it not for the impact of the pension discount rate, margins next year would have been 12.1%. Turning now to Space and Defense. Sales for Space and Defense in the quarter were up marginally from last year, with additional sales from recent acquisitions compensating for lower security sales. In total sales were up 1% to $93 million. The satellite market was up strongly, with the growth coming from our acquisitions of Bradford Engineering last December and the AMPAC rocket engine business, which we completed in July. Our NASA business was lower, as work on the space launch vehicle and the Orion Crew Vehicle slowed. In the defense market, sales remained solid as our missile replenishment work continues. The security sector was sharply lower, a combination of no DVE sales, and the continuing malaise in the general security market. For fiscal '12, the story for the year mirrors the story for the fourth quarter. For the full year, sales increased 1% to $359 million. The space business was up on acquisition sales for satellite, combined with increased activity on various launch vehicle programs, in particular the common TVC for the Delta IV and Atlas V programs. The defense business was down slightly for the year. You may remember that in 2011, we enjoyed a one-off contract for a stores management system, which should not repeat in 2012. Excluding this program, defense sales in 2012 would actually have been up slightly from 2011. Finally, our security business was way down in 2012 as we were expecting. The DVE was the major factor, down from $30 million in 2011 to just over $4 million in 2012. Looking to fiscal '13 for Space and Defense. We anticipate sales growth from our recent acquisitions, with our legacy business about flat. We're projecting a 15% increase in sales to $413 million. This is similar to our forecast from 90 days ago, adjusted for our rocket engine acquisition, which will add over $40 million of incremental sales in fiscal '13. We see increases in our defense business, as sales from missile-defense programs increase and some of the foreign military opportunities we've been chasing come to fruition. We should also see a modest increase in our security sales as the market for general security installations recovers. Space and Defense margins. Margins in the quarter were 11%. For the year, margins of 11.9% were down from 13.8% in 2011. 2 programs in 2011 contributed to the strong margin performance, the DVE program and the stores management system. As we look to fiscal '13, we're forecasting margins of 11.2%. Our recent acquisition from AMPAC will provide an uptick in sales next year, but given first year accounting adjustments, will dilute margins in the segment overall. Turning now to Industrial Systems. The Industrial Systems business saw a 14% drop in sales this quarter to $150 million. 2/3 of the drop was the result of lower sales and low key currencies, with the other 1/3 the result of the stronger U.S. dollar. Wind Energy in China continues to be a challenge, with sales down to $9 million in the quarter, less than 1/2 the level from a year ago. Industrial automation in both Asia and Europe was also softer, with sales off in each of the core markets we serve. On the brighter side, energy sales in exploration and generation were up almost 20%, and our simulation and test business continued strong. Fiscal '12 Industrial Systems. Despite the weak fourth quarter, sales for the full year were 1% higher than last year. And that's a combination of 4% real growth, negated by 3% adverse currency effects. It was a similar story to the quarter, weakness in wind in China, and a slowing industrial automation business, compensated by higher energy exploration and generation sales and a robust simulation and test business. For fiscal '13, we continue to worry about the outlook for the global industrial economies, and as a result, are projecting sales within a $50 million range. We've reported for several quarters that our industrial business was strong in the Americas, steady in Europe and slowing in Asia, particularly China. 3 months ago we reported the first signs of slowing orders in Europe. At that time, we weren't sure if this was just a seasonal effect or the start of a more sustained slowdown. Over the last 3 months, we've continued to see some weakness in Europe. We've also not seen a pickup in Asia, and our wind business in China remains very challenging. On the positive side, our simulation and test business remains a bright spot in our portfolio. In total, we're now forecasting industrial sales for fiscal '13 around the midpoint of $649 million. Compared with fiscal '12, this forecast assumes lower China wind sales, balanced by slightly higher industrial automation and simulation and test sales. Industrial margins in the quarter were a disappointing 8%. In response, we've resized our wind operations during Q4. We continue to adjust our expenses around the world in line with business conditions. Fiscal '12 margins came in at 10%, the same as fiscal '11. And for fiscal '13, we're projecting margins in the range of 9.6% to 10.9%, in line with the sales range. Now to our Components Group. Sales in the quarter in the Components Group were up 13% to $100 million, with growth in both aerospace and defense and the non-aerospace and defense markets. We saw a recovery in our Space and Defense sales from a low point 12 months ago, while our marine and medical businesses picked up nicely. Marine is driven by offshore oil exploration, and our medical sales to Respironics were up the quarter. The general industrial business was slightly lower, reflecting the softness we've also seen in our Industrial Systems business. For the year, sales increased 6% to $374 million, with acquisitions supporting the growth. Our aerospace and defense markets were flat with fiscal '11, with some slight shifts in the mix. On the other hand, our marine market was way up as offshore oil exploration boomed, and we saw some sales pick up in the fourth quarter from our Tritech acquisition. Our industrial business was also way up driven by the Animatics acquisition. Looking to fiscal '13, we're anticipating further growth in our non-A&D markets. We're projecting a 10% increase in sales for the component segment next year to $413 million. Our 2012 acquisitions contribute most of the increase. We're also anticipating some growth in our defense business driven by work on missile-defense applications. Marine should also be up as the boom in offshore oil exploration continues. We anticipate that our general industrial businesses will be up as a result of some particular projects we have in work. Taking a look at the sales trend from fiscal '11 to fiscal '13, we see that the A&D markets are essentially flat over this 3-year period, while the non-A&D markets are growing nicely, the result of good organic growth combined with acquisitions. Component margins were strong in the quarter at 16.1%, and for the year at 15.3%. In fiscal '13, we're projecting margins of 15.5%. Medical. Sales in the quarter were $36 million, down 3% from last year. We saw marginally lower pump sales, flat set sales and slightly lower sales in our Other category. For the year, sales came in at $140 million, in line with fiscal '11. Both pump and set sales were flat. In pumps, slightly higher sales in Europe compensated for slightly lower sales in the U.S. Sales of sensors and hand pieces were down from its very strong fiscal '11. In 2011, you may remember a key customer for our sensors had a very strong year. This customer benefited from a competitor's product recall and shipped more product than normal as they captured market share. Moving to fiscal '13, we're keeping our forecast unchanged from 90 days ago. We're projecting a 4% increase in sales to $146 million. The increase will come in our pump products, as our IV sales channel gains traction in the U.S. Our set sales will be down slightly as we change our supply arrangement with an international customer from parts sales to a royalty structure. Medical margins. This quarter, we had an operating profit of $1 million or 2.8% of sales. This was a little lighter than our recent quarters, the result of a slightly adverse sales mix. For the year, margins came in at just under 4%. And looking out to fiscal '13, we're projecting margins of 6%. Higher sales will deliver the margin improvement next year. Margins next year will be higher were it not for the new medical device excise tax to be introduced in January '13 under the Affordable Health Care Act. This will be a headwind of about 100 basis points of operating margin for the business next year. Our medical business in fiscal '12 performed as planned. It was the year of consolidating the gains we made in the second half of fiscal '11. We had steady sales and modest profitability each quarter. Total sales for the year were flat with fiscal '11, but our operating profit improved from breakeven to almost 4%. We're anticipating further gains in fiscal '13, and we are still targeting double-digit margins in the next couple of years. Before I leave our medical segment, let me provide one other perspective on the financial performance of this unit. We built this business through a series of acquisitions and internal investments over the last 6 years, and as a result, it carries a very high level of depreciation and amortization. In fiscal '12, we had operating margins of just under 4%. If we add back both depreciation and amortization, our medical business margins are actually relatively close to the equivalent metric for our other business segments. So let me summarize. We're very pleased with the way fiscal '12 turned out. We had projected earnings per share of $3.31 back in July of 2011, and 15 months later, finished the year at $3.33, a 13% increase over fiscal '11. For fiscal '13, we're projecting further growth in both sales and earnings. Just to remind you again, in this projection, we are not assuming that sequestration will happen. With the benefit of our Q4 acquisitions, we're now projecting sales next year of approximately $2.65 billion, with a range of plus or minus $25 million. We are maintaining our EPS range of $3.50 to $3.70, reflecting the uncertainty in the global industrial markets. At the midpoint of this range, earnings per share would be up 8% from fiscal '12. As in most years, our quarterly earnings will start out a little slower and then accelerate through the year. Assuming we hit the midpoint of our range, we anticipate quarterly earnings of $0.80, $0.85, $0.93 and $1.02. Now let me pass you to Don, who will provide some color on our cash flow and balance sheet. Don?

Thanks, John, and good morning, everyone. I'd like to first echo John's comments about the recent storm damage. And our thoughts and prayers are with you all on the East Coast, as you guys try to deal with the devastation and the disruption. So hopefully all your friends and family are safe. Our free cash flow in the fourth quarter came in strong at $43 million, just ahead of our net earnings of $42 million. Our net debt, however, increased over the last 90 days by $34 million to a total of -- a net total of $616 million. That $77 million difference is principally related to 2 acquisitions we closed on during the quarter. If you remember, the Tritech deal that we announced back in August 22. We paid about $33 million for Tritech International. They're a leading designer and manufacturer of high-performance products for multi-operated vehicles used for undersea oil exploration. Tritech is located in the U.K. and in FY '13, we expect will contribute about $20 million of sales to our components segment. We also announced on July 31 the acquisition of the In-Space Propulsion business or ISP from American Pacific Corporation for $46 million. ISP develops and manufactures liquid propulsion systems and small rocket engines for satellites and missile-defense systems. They have operations in the U.S., U.K. and Ireland, and they'll generate about $40 million of incremental sales in FY '13 as part of our Space and Defense segment. So it was a busy M&A quarter for us. For the full year, our free cash flow was $107 million compared to our net earnings of $152 million or a conversion ratio of 70%. That's in line with our forecast, and averaging the last 3 years, our free cash flow conversion ratio has been a respectable 90% over that time. Receivables and inventories in total were flat over the last 3 months after removing the effects of acquisitions and currency movements. At year-end, customer advances were $112 million and loss reserves were $48 million, both essentially flat from 3 months ago after removing the effects of acquisitions. Capital expenditures were $28 million in the quarter and $107 million for the year. Depreciation and amortization totaled $27 million in the quarter and $101 million for the year. For fiscal 2013, we're forecasting $105 million of CapEx, and depreciation and amortization of $114 million. I'd like to turn to pensions for a moment to add a little more color to John's brief comments on pensions. We had a defined-benefit pension plan in the U.S. that's been frozen to new participants since 2008. Our contributions to this plan have averaged about $30 million annually over the past few years. And in FY '12, our expense for this plan was about $23 million. 3 months ago, with the help of our actuaries in the ordinary course, we were forecasting this expense to increase modestly into FY '13. Unfortunately, we're now looking at an FY '13 expense for this domestic plan of around $33 million, a substantial $10 million increase over FY '12. This increase is all the result of a very low 3.75% discount rate that was determined in the last day of our fiscal year. As we recently updated our outlook for FY '13, we're now expecting that much of this FY '13 headwind will be offset by incremental operating efficiencies. So we're not adjusting our EPS projections that we've previously provided. Regarding cash funding of the plan, we expect to contribute about $39 million to all of our global DB plans in FY '13. And over the past few weeks, we've spent some time looking at the funded status of our domestic plan, and we've concluded that continuing to make annual contributions to the plan in the range of $30 million to $40 million annually should result in the plan returning to a fully funded status towards the end of the decade. Putting all these pieces together, we're forecasting our FY '13 free cash flow to be $135 million or a cash conversion ratio of about 80%, this is unchanged from our forecast from 90 days ago. Our outstanding debt at the end of the quarter was $765 million, and our cash advance -- sorry, cash balances were $149 million. Our total book equity was $1.3 billion. Our quarter end net debt as a percentage of total cap was 32.1%, which is down from last year's 33.9%. Our leverage ratio was 1.74x. And at quarter end, the unused available capacity under our $900 million revolving credit facility, which terms out quite a few years out in 2016, was $594 million. So we're in very solid financial shape. So let me turn for a second to the effective tax rate, which may be of interest to some. Our effective tax rate in the fourth quarter was a low 20.8% as John described, down slightly from last year's 22.2%. The low tax rate in our FY '12 fourth quarter is due to a statutory tax increase and the reduction in the valuation allowance for our European deferred tax asset. The decrease in the statutory tax rate happened in the U.K., as legislation was passed during the quarter, affecting the measurement of some of our deferred tax liabilities. For all of FY '12, our effective tax rate was 27.0% compared to 26.0% last year, so not much of a change. In FY '13, we're forecasting an increase in our effective rate to 30.6%, and FY '13's effective rate will be up from '12 as the fourth quarter adjustments that I just mentioned won't repeat, and we expect to have a slightly less favorable mix of global taxable earnings. So to reiterate John's summary, FY '12 was a really good year for us. Same-store sales were up 6%, and that's after removing the effects of acquisitions and currency fluctuations and earnings per share were up 13%. Looking ahead to FY '13, we're forecasting further top line and bottom line growth, and so we're looking ahead with optimism. We're now ready to take any -- or to answer any questions you may have, and thanks for listening.

So we pass it back to the operator and perhaps you can ask for some questions.

[Operator Instructions] We'll go to Tyler.

So thanks for -- first, thanks just for providing all the color just in regards to the regional breakdown of your wind business, but I guess, what I'm wondering, just in regards to kind of your prepared remarks, how do we think about China? Is that ultimately a business that goes away here?

That's a good question, Tyler. And if you go back to '09, we did $90 million in sales '09 into '10, $90 million in sales in China. And now we're forecasting for fiscal '13, $25 million. That's a significant drop, obviously, and we've done a lot of restructuring as we've gone through that. It's been kind of a step by step by step. I described it before that the business in China is a transactional business, whereas the business in Europe is a relationship business. And what I mean by that is, in China, the OEMs want to have standard products that they can take from 2 separate suppliers and perhaps even a third supplier, which is an in-house supplier, and they want to play each one of those suppliers off every time they make a purchase. And therefore, it's a standard product price game. In Europe, it's a relationship business, where you work with an OEM, develop their next generation of products. You're the guy on that particular turbine, and as long as you continue to work closely with them, you'll continue to have that business. So it's a fundamentally different approach to business. I believe that over time, China will shift more to that relationship type structure, just as the industry matures there. And they're going through a dramatic shakeout in terms of the available capacity. And hopefully, when that happens, we will have the opportunity to work with the OEMs, and say, not a standard product, but let's develop a product tailored to your turbine that gives you an enhanced value proposition. Whether or how that will happen, I don't know. Our strategy right now is to try and maintain a foothold in the Chinese market. It's not to give away products, and that's why you see our sales coming down. But it is to try and maintain as many customer relationships we can over there, and we love to see how this -- how it develops. Did that help?

Okay, great. It sure helps a lot. I know -- in these conference calls, you've discussed the U.S. market. Just kind of wondering if there's any update there? I mean, do you have any sort of opportunities to perhaps break into that market even if you want to, just given kind of the weak outlook there?

Yes. So we supply to the OEMs and then the OEMs supply to the end markets. So I think it's difficult. The only OEM in the U.S. is GE, and I don't anticipate that we will find a way to do business with GE in the near future. So I'd put that to one side. The effect of the production tax credit in the U.S. will be that the overall wind energy market contracts globally, because there probably would be fewer turbines erected in the U.S., and therefore, U.S. companies will probably buy fewer turbines from primarily European suppliers. I don't know that they're buying too many yet from Chinese suppliers. So we have products in the U.S. I think that has come in through OEMs that we've supplied in Europe. And if those OEMs lose some business, then I think the U.S. -- decline in the U.S. market will have that effect, but it'll be a second-order effect. We actually have some business in the U.S. this year. We've got $4 million or $5 million of business that we have in fiscal '12, which we didn't have before. But that was actually business to Alstom, which is in Europe selling turbines into Brazil. And that the way it's structured, it runs through our U.S. books because Brazil is part of our northern -- our U.S., our American activities. So it's an indirect effect. We do not have direct sales to an OEM manufacturing in the U.S. The major players, GE and Vestas, we don't supply product to either of them. So hopefully, we're somewhat insulated from the dramatic downturn that may happen in the U.S. But nevertheless, if the overall market shrinks by the U.S. turbine count, then that probably isn't a positive.

Got it. Okay. And just to switch gears here, one more question. Just on R&D for fiscal '12. Thanks, again, for kind of the details you provided. But just in Q4, it looks like you overshot, I guess, your full year R&D guidance by a bit. I was wondering if you could perhaps specifically talk about kind of why that happened?

Well, I'm not sure I have the number that -- when you're saying, we overshot, I'm not sure I have that number exactly at hand. The total for the year was $116 million. And the major driver of our R&D, I mean, is the A350 program in aircraft. And that was a large part of the fourth quarter. It was a very large part of the year. It's almost $50 million for the full year. That's the major driver I would say in our R&D overall. And typically, program R&D expenses vary somewhat quarter-to-quarter, depending on how much work gets completed, what activities are going on, et cetera. So I would say, any change in the R&D is probably attributable to the A350 program in aircraft.

We'll go next to J. B. Groh.

Don, I had a question, I'm looking at the growth in Space and Defense for 2013, and I got In-Space [ph] in there for a run rate of $40 million, but where is the rest of it, am I missing a transaction, what else is going on there?

Are you talking about end of '13?

Right.

We've got some help from ISP. That's an incremental, about $40 million.

Right. Got that.

And I think that's about all of our change that we...

There's a little bit from Bradford, which we bought earlier this year. That goes up from about -- that's about $4 million or $5 million of increment next year. So of the $50 million that Space and Defense was up, it's really acquisition driven.

Okay, good. And then on sequestration, it sounds like you've got some comfort around your contractual build. What about aftermarket, is there anything that's going on there that would protect you from any sort of cuts in 2013? Are those contractual or are those just come in as they come in?

I'm not sure that we got comfort, maybe we're just kind of fooling ourselves. I think nobody knows. The military aftermarket has been a real power engine for us over the last couple of years. If I go back to 2010, we had $160 million; '11, $206 million; this year, $214 million. And our aftermarket folks are forecasting a slight uptick next year in the military aftermarket to about $220 million. It is a long, long list of programs. I mean, some of the big ones are the C-5, the F-18 we've been on, the V-22, the Blackhawk, Seahawk, but it goes on and on and on. So there's a very, very long list of programs. So that's one piece of it. It's very diversified, and it's very hard to know how the funding to the depots gets affected in the case of sequestration. It may well be that it's an easy area to cut. You just kind of slow the depots down, and they don't do as much repair work, and that could have a negative impact on the military side. On the other hand, there's 2 things that we've been doing in the military side to grow our business over the last couple of years. One is, that we've looked at getting in with the depots and doing -- taking control of more of the contract for a particular -- for our products that are being done at the depot. So been working very closely with the depots, so that in some cases on some of these platforms, it's -- even though the depot is doing the work because legally, the depot has to do a certain percentage of the work in order to maintain capability, it can actually be organized and run by ourselves. So that has helped to grow the business for us. And the other thing is, that we've started to develop capability in repairing, and this is kind of an initial foray into this, so it's not a huge part of our business. But then looking at repair opportunities for our products that is very similar to the type of product we do, but on old platforms where the original supplier or manufacturer is no longer interested in doing the work or is perhaps even no longer viable. And the process there is, older platforms, you look to do repair work, and as you do that, you actually insert some intellectual property in terms of improving the product and sending it back into the field. So the next time around, it actually is your product. Again it's an initial -- we're starting in that, it's a way to broaden the aftermarket. But I would say, those 2 initiatives have helped us to grow the military aftermarket beyond, say, just the market growth. And as they say, sequestration, and how that would play out in the military aftermarket, I'm not sure. Our folks that work the aftermarket have been very accurate in the past in forecasting that the gentleman that runs it says, he keeps talking to all of the depots, all of his contacts about sequestration, they all don't know where it's going, but they have no indication as of yet. As soon as we know, we'll tell you folks. Right now, the best we can say is, we think the aftermarket is strong, and it looks as if it should be good next year.

So it sounds like you've developed some value-added services there that have helped you grow that military aftermarket business, it's not just -- it's not inventory build or anything like that is what you're saying?

Yes. It's not -- no, I mean if -- how the government controls inventory or manages inventory is not something I think we have a clear understanding of, but it's not -- that's not what it is.

We'll go next to Cai Von Rumohr.

So could you give us a little more color, where was aircraft R&D for the year and where do you expect it to be in '13 and overall R&D in '13?

Well, aircraft R&D for the year, Cai, it was about $65 million. And for next year, we're anticipating about $59 million. So a little bit of a reduction. So a drop of about 10%. And in total, R&D for the year was $116 million, and we're anticipating next year to be about the same.

Okay. And so you mentioned A350 was as high as $50 million, what are the drivers in the R&D coming down next year?

I mean, the big one is the A350. It will come down from shy of $50 million to just over $30 million. And then there's the...

As he said, those were offsets in aircraft that there are a handful of programs that we got going on, Cai, as well as in some of the other businesses outside of aircraft. There's some increases, some of which is driven by the acquisitions.

I guess what are you assuming about the Brazilian decision on their new plane or their update?

In terms of what we're assuming in our R&D for next year, Cai?

Yes.

Yes. I mean, so that -- there hasn't been a decision from Embraer yet as to who the supplier will be for their next-generation E-Jets, I think, per our staff [ph] . And we're part of that competition with the rest of the industry. Even if we were to win that, and I don't anticipate -- that would probably be, I don't know, another quarter or maybe even a little bit longer. Typically, in the first year to 2 years of a program, it's a relatively speaking, low level of R&D. So there's nothing, there's probably a couple of million dollars baked in here and there in the aircraft forecast for next year for various miscellaneous programs that might come along, but it's not a significant number for that program whether we would win or lose.

Okay. And then you had the 2 acquisitions in the fourth quarter, were there any noticeable transaction expenses in the fourth quarter as a result of those 2?

I would say that there was the normal transaction expense, but nothing unusual.

And what's the normal would be what roughly? And where was it booked, was it booked in corporate expense or in the divisional numbers?

You're talking about, like legal costs and other professional fees like this stuff? I don't know.

Yes.

It's buried in SG&A, and it's not significant at all, Cai.

But it's not in corporate, Cai. It's in the actual operating groups. And it's a small number because we don't typically -- we don't engage -- we didn't on those ones, we don't engage a banker, so we don't have any -- the seller has transaction costs, I mean, we've got the usual legal and smaller advisory costs, but they're relatively small.

Okay. And then you mentioned -- so the pension, I think what you had been looking for what, $26 million, $27 million, and now it's $33 million. And you've made that up with other cost cuts, could you give us a little color in terms of A, is that essentially a difference of some $6 million to $7 million versus the first time you provided guidance? And what are the things that you did to make up the $6 million or $7 million?

So yes, it's about $0.10, so $6 million or $7 million is probably a reasonable number of difference between what we were anticipating when we talked to you in July and now. And as I mentioned, we've gone back through all of the numbers. We said, we're looking to try and keep our range of $3.50 to $3.70. We found some improvements in the aircraft business. Essentially, what they did was they absorbed the additional cost in aircraft and kept the number the same in terms of what the forecast we provided. And then the Space and Defense folks and the components folks, we saw a little bit of an uptick in the performance there. So really, that -- we went back, and we said, okay, we got additional pension costs, let's look for additional opportunities to try and absorb that cost without changing our forecast, and that's what we did.

We'll go next to Michael Ciarmoli.

Maybe just a follow-up on aircraft controls, I think we kind of covered the R&D, how do we think about -- as these margins expand on a go forward basis, there obviously will be some variation to R&D given the programs, but how should we think about the increases on -- the margin increase on new production aircraft? Let's take the 787. Are there certain rate breaks where you guys start to dial up your margins? Or how does that play into the margin expansion story there? When can we expect to see some more positive contribution, I guess, and maybe not as much of a margin drag from those new platforms being delivered?

Well, let me put it a little bit differently. And we've had 90 basis points of margin expansion sequentially from '09 to '13.

Annually.

Annually, yes. 90 basis points per year, since from '09 to '13. Next year, we're looking at growing margins to 11.5%. So that's 60 basis points up on what we're doing this year. But as I mentioned, the pension headwind that we just ran into, that's another 50 to 60 basis points. So there, you'd be again, you'd have another 90 to 100 basis points of expansion. So I think your question would suggest that somehow we haven't seen the margin expansion. Oh, by the way, we've been carrying a fairly heavy R&D load throughout that period of time. It's up and down a little bit year-to-year. So I think what you've seen is a continuation. It's not as if I think you'll see, suddenly a breaking free and then margins will expand by 200 to 300 basis points in a particularly year, and you'll be on a whole new level. The ramp in production will be a gradual ramp. We'll see the 87 ramp. Then after that, a couple of years after that, the 350 will start to ramp. So you have 87 maturing into production, but on the other hand, you got 350 moving into production, C919 probably a little bit behind that. So we anticipate, it's a kind of a steady year-on-year improvement up into the mid-teens area. And as I say, we think that, we would have liked if that had happened faster. Our anticipation was, that it probably would happen faster. But as I mentioned on the call, all of the programs stretched out in terms of the timeline. And what happens, unfortunately, in these programs is you just continue to spend R&D money, and so that's a drag. Production is later to start, so you get initial production which is not typically as profitable or very profitable early on. Then we had the Wolverhampton thing. That was a big thing in the pension mention. So I would phrase it differently. I don't think it's -- you're going to suddenly see it all taking off. Each of those commercial programs is kind of -- will come on stream spaced out a year or 2 years apart. So you'll kind of see this continuous gradual improvement, we believe.

No, that's fair. And then when -- that's helpful. When do you think the 787 program, I mean, is that generating margin, I'm assuming that's below the segment level, and does that get to -- when do you foresee that program becoming in line or even above current segment margins? And I guess just a follow-up, how should we think about maybe a normalized R&D spend? I mean, there's obviously a lot of platforms, you mentioned the C919. What's going on with Embraer? I mean, is this sort of a -- this kind of $50 million, $60 million, is that the right range to be thinking about R&D?

So let me answer your first question first. We're not going to go into margins by program. That takes us down a path of margin by every program. So unfortunately, we're not going to do that. We'll talk more about the margins in the overall segment, then I think you'll understand kind of the dynamics between military and commercial pretty clearly. So the overall R&D spend, we are anticipating that, that will continue to moderate over the next few years. I think, long-term R&D probably in the 2% to 4% range in the aircraft business is probably a reasonable number. 2% if everything's quiet. Maybe you get to 4% to 5% if you've got another big-ticket Embraer or 777 or something that you see a peak on. The R&D load in aircraft has been very significant over the last -- probably the last 7 or 8 years since we got onto the 787 program. Typically, running $50 million to $60 million a year on a business that grew from $400 million or $500 million up to what's going to be $1 billion next year. So we had to grow into the R&D level that we now have. But at $1 billion next year, R&D in aircraft of just under $60 million, you're starting to get into that 4% or 5% range. And from a dollar perspective, I think it will come down slightly over the coming years. From a percentage basis, I think it will come down fairly strongly as those sales continue to grow.

Okay, perfect. That's helpful. And last one, and I'll jump off here. Commercial aftermarket, you're modeling for, I guess, down 6% next year coming off a pretty strong year. Is that just a function of kind of global economic conditions, traffic, capacity cuts, or is there anything kind of rolling off, onetime items that gave you a boost this year?

Yes. It's one thing. It's the 787 initial provisioning. So the 787 initial provisioning this year was about $12 million to $13 million. Next year, we're anticipating it will be about 1/2 of that. If you strip that out, it turns out that the aftermarket is about flat. And the reason that it's coming down next year is because we're working closely with airlines to try to sign them up for long term, kind of fly by our type of contracts, that changes the modeling a little bit on the aftermarket, but it's a very steady stream over a much, much longer period of time. So initial provisioning coming down, but we anticipate that we will try to get into some long-term contracts that will be better overall in the long term for both us and our customers.

[Operator Instructions] It appears there are no further questions at this time.

Thank you very much indeed everybody. We'll talk to you again in 90 days' time.

Thank you.

That does conclude today's conference. Thank you for your participation.