Good day, ladies and gentlemen. Welcome to the TransDigm Group Incorporated Fourth Quarter 2016 Earnings Conference Call. At this time, all participant lines are in a listen-only mode to reduce background noise, but later we'll be holding a question-and-answer session after the prepared remarks, instructions will follow at that time. [Operator Instructions] As a reminder, today's conference call is being recorded. I'd now like to introduce your first speaker for today, Liza Sabol, Investor Relations. You have the floor, ma'am.

Thank you, Andrew. Welcome to TransDigm's fiscal 2016 fourth quarter earnings conference call. With me on the call this morning are TransDigm's Chairman, President and Chief Executive Officer, Nick Howley; Chief Operating Officer of our Power Group Kevin Stein; and Chief Financial Officer, Terry Paradie. A replay of today's broadcast will be available for the next two weeks and replay information is contained in this morning's press release and on our Web site at transdigm.com. It should also be noted that our Form 10-K will be filed tomorrow and also will be found on our Web site. Before we begin, the company would like to remind you that statements made during this call which are not historical in fact are forward-looking statements. For further information about important factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements please refer to the company's latest filings with the SEC available through the Investor section of our Web site or at sec.gov. The company would also like to advice you that during the course of the call, we will be referring to EBITDA, specifically EBITDA is defined for adjusted net income and adjusted earnings per share all of which are non-GAAP financial measures. Please see the tables and related footnotes in the earnings release for a presentation of the most directly comparable GAAP measures and reconciliation of EBITDA, EBITDA as defined, adjusted net income and adjusted earnings per share to those measures. I will now turn the call over to Nick.

Good morning and thanks again to everybody for calling in. Today I'll start off as always with some comments about our consistent strategy. I'll then overview a busy fiscal year 2016; I'll review the initial guidance for 2017. Kevin will then review some key operating items for 2016 and 2017 and Terry will run through the financials. A fair amount to cover here today. To restate we believe our business model is unique in the industry both in its consistency and its ability to sustain and create intrinsic shareholder value through all phases of the aerospace cycle. To summarize some of the reasons why we believe this, about 90% of our sales are generated by proprietary products. About three quarters of our sales come from products from which we believe we are the sole source provider. Over half our revenues and a much higher percent of our EBITDA come from after market sales. After market revenues have historically produced a higher gross margin and have provided relative stability through the cycles. Our longstanding goal is to give our shareholders private equity-like returns with the liquidity of a public market. To do this, we have to stay focused on both the details of value creation as well as careful management of our balance sheet. We follow a consistent long-term strategy. We own and operate proprietary aerospace businesses with significant after market content. Second, we have a simple, well-proven value based operating methodology based on our three value driver concepts. Third, we maintain a decentralized organization structure and a unique compensation system that is closely aligned with shareholders. Fourth, we acquire proprietary aerospace businesses with significant after market content where we see a clear path to private equity-like returns and lastly, we view our capital structure and capital allocation as a key…

Thanks Nick. Good morning, everyone. As Nick mentioned in total we had a good fiscal year in 2016. I'll now take you through some of the most important operational highlights of the last few quarters. As we have stated previously we believe our business processes, unique application of the TransDigm value drivers and our organizational focus on accretive acquisitions that meet our strategic vision are the keys to delivering shareholder value. As you will see we've made appreciable progress on each of these this past year. First, let me provide an update on our acquisition related value driver. For review as we do with each acquisition, we follow a detailed and scripted integration plan. This includes but is not limited to an implementation of our value creation process and metrics, restructuring the company into our product line focus groups including co-location of the team members to facilitate communication, focusing the engineering and business development efforts on winnable and profitable new business, and finally, we tighten up the cost control. Since the beginning of fiscal year 2015, TransDigm has deployed over $3 billion of capital to acquire several value creation engines for the company. These include the businesses, or product lines acquired in fiscal year 2015 of Franke Aquarotter, Telair Cargo Group, Pexco Aerospace and PneuDraulics. And in fiscal year 2016, the acquisition of Breeze-Eastern Corporation, Data Device Corporation and most recently Young & Franklin and its subsidiary Tactair Fluid Controls. Now to quickly update on our fiscal year 2015 activity. Franke Aquarotter a product line acquisition has now been relocated to our Adams Rite aerospace facility in Fullerton, California. After some initial start up issues, the product line and the manufacturing equipment have been successfully transferred. This business is similar to current Adams Rite [indiscernible] businesses and allows them to…

Thank you, Kevin. Nick already summarized the key elements that occurred in fiscal year 2016, so I will now review the consolidated financial results for our fourth quarter, give a brief fiscal year end summary and review certain assumptions for fiscal year 2017. Fourth quarter net sales were $875 million up $65 million or approximately 8% greater than the prior year. The collective impact of acquisitions, PneuDraulics, Breeze-Eastern and DDC contributed $89 million of additional sales for the period offset by a slight decrease in organic sales. The decrease in organic sales was primarily driven by declines in commercial OEM and defense markets, offset by slight growth in commercial after market sales. The organic growth was also negatively impacted due to the prior period including four months of Telair due to a reporting lag as we previously discussed. Our fourth quarter gross profit was $484 million or 55.3% of sales. Our reported gross profit margin of 55.3% was 2.5 margin points higher than the prior year. Excluding all acquisition related accounting adjustments and operating activity, our gross profit margins in the remaining businesses versus the prior year quarter improved about three margin points due to the strength of our proprietary products, continually improving our cost structure and favorable product mix. Our selling and administrative expenses were 12.7% of sales for the current quarter compared to 12.1% in the prior year. Excluding all acquisition-related expenses and non-cash stock compensation, SG&A was 10.3% of sales compared to 10.2% of sales a year ago. We had an increase in interest expense of approximately $27 million versus the prior year quarter due to the increase to outstanding borrowings. The higher average debt year-over-year was primarily due to the financing completed during our fiscal third quarter. As part of the financing, we borrowed an incremental…

Thanks Terry. Operator we are now ready to open the lines. I do ask that you limit your questions to two per person and reinsert yourself into the queue. Thank you.

[Operator Instructions] Our first question comes from the line of Robert Stallard from Vertical Research.

Thanks so much. Good morning.

Good morning.

Nick, first question…

And welcome back by the way.

Oh, thanks so much, appreciate it. My first question for you is on debt. Very simply do you think we've seen the peak in the debt market here? You mentioned you expect LIBOR rates to go up going forward, so you seize the opportunity as much as you can?

You mean in the past or going forward just to be clear on your question?

Going forward.

I'm very hesitant to forecast that. One thing I've sort of learned at least for me that I'm not very good at predicting the directions to the capital market. We would -- I would expect that the rates might start to move up, but I have to say, we've been consistently wrong on that for the last three to four years. We used a little higher rate here primarily to be conservative not that we have any particular insight in that, Rob. I think realistically, what we will do is, we'll assess it quarter-by-quarter as we go forward.

Yes. And then as a follow-up, on the business, on the aerospace after market, are you seeing any of these larger industry trends changing, we've talked about destocking and inventories being brought down, I think like that do you see any improvement there?

I'd like to see, Rob, it's hard to put an actual number on it. But I would say in the commercial transport for the year, you know our commercial transport which is the biggest slug of it, was up a little over 9%. I think that is getting closer to reflecting the consumption rate though maybe not quite there yet, but it hasn't -- it hasn't -- it doesn't reflect any snapback, which frequently happens after you have a couple of years that don't quite reflect the consumption. I think that's probably about the best I can add to it.

Yes. That's great. Thanks for the update.

Thank you. Our next question comes from the line of David Strauss from UBS. Your line is open.

Thanks. Good morning.

Good morning.

Good morning. Given that you have a fair amount of floating rate debt I know you've assumed 100 basis point increase, Nick. But can you, maybe Terry, can you remind us of -- I think you have some caps in place on your floating rate debt if we do see higher rates?

Yes. David I think we ended the year in compliance to -- we're essentially above 75% fixed. We're currently looking as a result of our most recent financing looking at other options to hedge that with their cap or a swap to essentially get us back to that 75% fixed rate.

Okay. Yes, exactly. Just where the portion that appears this is floating, but is actually capped where that is and maybe some detail around that?

Yes. As we've disclosed we have essentially a hedge -- we have a cap in there around 2.4%. And then we also have another swap up there that has cap at 2.8%. So you have around 150 or 175 basis points, if you will of room within that collar of those swaps you have in place.

Got it, okay. And then on cash flow, could you maybe, it looks like you came in pretty close this year, but maybe a little bit light to what you were guiding for year-end cash balance kind of normalizing for the acquisition, you did at the end of the year. Could you maybe just touch on that if anything moved around? And then, it looks like you're anticipating a pretty good year for free cash flow next year, maybe some of the moving pieces there working capital and cash taxes what you're assuming there? Thanks.

I'm talking about 2016. 2016 essentially the receivables when you sort it all out the receivables were a little higher at the end of the year, which is kind of just the timing of how much stuff shipped in August versus September. That's the significant movement.

As moving into 2017, I think the key assumption there is around the cash taxes. As we've said, on some of my prepared comments, we expect before discrete our effective tax rate to be around 31% this year and with the new accounting change most of the stock option exercises reduced your cash tax rate down to the lower amount, so now that that's in your provision, we expect our cash tax rate to be slightly below or at that 31% going forward.

Thanks guys.

Yes.

Thank you. Our next question comes from the line of Noah Poponak from Goldman Sachs. Your line is open.

Hey, good morning.

Good morning.

Hey, just as a follow-up to that, what do you guys expect to generate in free cash flow in fiscal 2017?

Well, I think we gave the number, right? We told you between $1.6 billion and $1.7 billion is where we expect the cash to be at the end of the year.

Okay.

Our EBITDA as defined number and still in that ratio of around 50% cash turn you can figure out what the free cash flow would be in our CapEx number.

Okay.

I'd do something again. Take the EBITDA in the range of 50% turns into cash and hopefully a little higher.

Yes. So that conversion has been a little light it sounds like you're saying that's sort of timing of working capital versus being something else?

Yes. I think as Nick talked about a little bit earlier receivables were up a little this year, but purely on a timing standpoint and I think we talk about EBITDA as defined, we turn 50% of that into cash and that's sort of our metric for free cash flow and we don't see anything unusual there.

Has there been any change in any terms of trade if you will, with any customers that has impacted working capital?

I don't think materially, as you probably know, Boeing is pushing around the industry to extend the terms up to 90 days. I don't think that has materially impacted our number. Maybe that's moved around through the industry maybe it's moved to one day or something, but I don't think its material impact.

Okay. And then Nick, you've expressed some caution on the large commercial original equipment supply/demand picture for a few quarters now, but this is the first time I've heard you specifically say that you were cautious on 2018 production rates. Could you maybe just elaborate a little on why you're saying that?

Yes. I'd say the same as usual. The cycle seems long enough to me. You are starting to see I would say probably more sort of negative comments, some positive comments and the 18 cycle, the shipments in 18 will start to reflect back on our 2017 shipments in the back half of the year. So people start to tweak that, it will reflect into 2017. That's what I was trying to -- the point I was trying to make. So we're cautious.

Do you have a working view on rate of change in 2018 production rates versus 2017?

I don't recall. I think, I don't remember, but let me not speculate. We are concerned that -- we're concerned that the back end of it could soften and reflect back into 2017 and that's why our [indiscernible] OEM pick up isn't larger. I don't remember the exact rate and I don't want to stab at it.

Okay. Thanks a lot.

Thank you. Our next question comes from the line of Seth Seifman from JPMorgan. Your line is open.

Thanks very much and good morning. You spoke a little bit about wins that you had on the 777x. I wonder if you could talk about your total level of content on that plane relative to the current generation of 777 and where you think it's going to end up.

Yes. We don't disclose the content by plane, but we think the 777x, as we sit here today will very likely end up somewhere around the same content. We don't expect a lot of change.

Okay. And then, just as a quick follow-up, within the pro forma guidance for defense, where does DDC fit in relative to that? I think it's flat to slightly up, right?

The total is flat to slightly up.

How does DDC fit in there?

We don't break it out by operating unit. We're happy with the DDC acquisition is doing well.

Great. Thank you very much.

Thank you. Our next question comes from the line of Sheila Kahyaoglu from Jefferies. Your line is open.

Hi. Good morning guys.

Good morning.

Can I just clarify one item on the free cash flow? You estimate about $850 million and I have cash taxes sort of offsetting the increase in CapEx. Is the $200 million improvement year-over-year primarily working capital?

I'm not sure exactly how you're coming up with that number. What I'd do is take the 50% of EBITDA you saw our CapEx number around $84 million, $85 million and use the 31% initially as your cash tax rate and that should get you sort of in that free cash flow range that we are talking about and we guided $1.6 billion to $1.7 billion.

Okay. And then, I guess maybe Nick or Kevin, just -- is there I appreciate the qualitative comments on the new wins. Is there any way you could guide us more quantitatively percentage of new wins or percentage for full year 2016?

You broke up.

Is there any quantitative way you could talk about the new program wins as a percentage of total bids or whatever metrics you guys look at it internally?

Yes. I don't have a good number for that. I would say on the -- as I think we told you before, the content picks up pretty well in the 787. The content is pretty good on the -- picks up nicely on the A350. I would expect the 777, the A320 Neo, and the 737 Max and that have a lot of change in their content. Boeing and Airbus' goal was to not make substantive changes in them so you wouldn't expect to see a lot of change.

Got it. Okay. Thank you.

Thank you. Our next question comes from the line of Ken Herbert from Canaccord. Your line is open.

Hi. Good morning.

Good morning.

I just wanted to dig into the commercial after market, if I could. When do you, you obviously another quarter where you had a 3% headwind from business jets helicopters and it sounds like cargo in the fourth quarter. When do those, when do you anniversary those more or the comps maybe get easier for that part of the business and does the guidance and what does the guidance imply for commercial transport growth versus these other markets in 2017, which seem to clearly have been about a significant headwind in the last few quarters?

Yes. I mean the commercial transport growth if you look at mid to high single-digit next year, the commercial transport growth we would expect be higher, if you think the business was higher than the average, same thing. If you take the business jet and I suspect the freighter, they will be a little bit of a down drag so take whatever number you want to use from mid to high single digits the commercial transport is probably on the upper end of that point and the others are down on the lower end.

Okay. So there's no specific inflection point maybe after the second quarter when you start to see the comps get easier for the non-transport side of the business?

I don't think so. I mean, I think that it's going to change versus the intrinsic demand, not just [indiscernible].

Okay. And then, if I could geographically, have you seen any change in the last few quarters or in the outlook in 2017 on the after market in terms of, I know it sounds like we've had really good demand in Asia in your fiscal 2016, do you assume maybe a little slower growth there and pick up in Europe or North America or anything you could comment on geographically?

Yes. I would say you can almost generally go through and we do it unit by unit, product line by product line. So it bounces around, but the way I would think about it is almost take the growth in RPMs by region of the world and that will give you some pretty good idea.

Okay. Thank you very much.

Thank you. Our next question comes from the line of Myles Walton from Deutsche Bank. Your line is open.

Thanks. Good morning. Nick, or maybe Terry, could you clarify the net cash flow impact of the dividend less the incremental leverage being taken on in 2017? I know you gave the cash year-end number but just that moving part would be helpful.

I think that it would be, I'm just doing here, its $650 million or 700 million.

Okay.

We can get back into the free cash flow. But without it, it's a little tougher.

Yes.

Okay. And then the other question, Nick, you talked about bookings are tracking slightly ahead, excuse me orders tracking slightly ahead of bookings in after market in the quarter. Any way to clarify if that's an acceleration or a continuation of a trend just commentary in the after market in general near term, is it similar to what you saw last quarter dispositioning into the next year…?

Well, the after market shipments -- the shipments were sequentially up and the bookings I don't -- I just don't have a good -- I'd say the same -- I can't say they are noticeably separated. They are roughly close on the year and I think the fourth quarter isn't much different.

Okay. And then, the last one, the CapEx implied doubling year-on-year is that just conservatism on the CapEx budget?

I suspect that's a high number. We under spent against our budget the previous year and I expect that's a little high.

Okay. All right. Thanks guys.

Thank you. Our next question comes from the line of Robert Spingarn from Credit Suisse. Your line is open.

Good morning. This is actually Joe on for Rob.

Okay.

Nick, given the $1 billion to $2 billion in potential dry powder by year-end and any updated covenants under your latest debt structure what's your restricted payment capacity for the coming year assuming no M&A?

Restricted payment is off to 7.25 net on -- and 4.25 on secured debt capacity and then for new debt, plus the including the target of that.

Are you after how much dividend can we pay out that's what you are after?

Essentially yes.

At this point in time we only have about 130 million remaining through the end of the year and we would have to get an amendment to do an additional dividend which by the way just almost every time we do this, you have to get an amendment.

Or the other point is if we get under six times net debt we can pay a dividend for that six times.

Okay, understood. And then, just you already cut headcount to get ahead of that potential softening in commercial OE. You said you'd adjust again if necessary, you talked about how you're cautious on 18 production rates, what has to happen for you to adjust further and what would you need to see to do that?

Oh, I think it would be -- it's hard to say exactly what the point is when your concern gets to that. It's a little bit of an art rather than a science. But clearly starting to see more announcement of turn down of rates in either predictions of turn downs in 2018 or even the beginning of 2019 would do it. Now sometimes you don't see the announcements. No one announces it, but you'll all of a sudden see the orders are starting to slowdown that's another thing that would do it. And we'll just watch those as the year goes. You were quite -- we're prepared and as we've done in the past we'll move quick to stay out ahead of this.

Got it. Thank you. That's helpful Nick.

Thank you. Our next question comes from the line of Hunter Keay from Wolfe Research. Your line is open.

Good morning. Thanks Nick. How are you doing? When you say 80% of your sales comes from sole source as far as you believe, why do you add that caveat? I don't want to over wordsmith your word choice, but what percent of that 80% sole source do you know is sole sourced, what I'm trying to do is get a sense for the barriers around the 80%?

I think that is materially very close. I mean, why we hedge a little bit, there is no guarantee that someone makes a change they send us an e-mail and tell us they changed it, but we have a pretty good beat on it.

All right. So the vast majority of it?

Yes.

Got it. And then, you mentioned Boeing kind of pushing people around a little bit. Are you getting pressure from them or any other OEs to roll up the contracts into maybe not one single contract, but certainly fewer contracts like we've seen from a couple other OE suppliers?

Like everyone in the industry, Boeing has been pressing what they call as partnership for success which is the least to roll into less contracts, I would say and we ended up about two or three years ago with sort of modified version of that where the terms and conditions we agreed to generically and the rest of it is more product by product focus.

So, would you say that's largely behind you at this point or is that still kind of ongoing?

I don't know. It was behind us two years ago but the contract runs for five years, or maybe it was -- was it three years ago or two years ago? I can't remember now. The contract runs for five years, so you'll reengage again a couple years before the contract runs out.

Okay. Thanks Nick.

Thank you. Our next question comes from the line of Gautam Khanna from Cowen. Your line is open.

Thanks and good morning or good afternoon, I guess now. Couple questions. First, to follow-up on the last one, have you see I ask this every quarter, sorry, but has there been anymore evidence of more second sourcing type incursion in your product line up or are you seeing evidence of that?

No, we have not. We have not. As always we hear talk about periodically, but we haven't seen any significant activity. At least for any of the proprietary a very small percent of our business is non-proprietary and that part of it you'll see it. It's not unusual.

Okay. And then, I just wonder what can you do to guard against that. I know you owned some of the IP, and what have you but what other strategies do you have in place?

Primarily we own the IP and it is a very expensive switching process. It's long and expensive. I mean the main way you protect yourself is deliver quality product, deliver it on time, and service the heck out of the account and fix it fast if something comes up because the math rarely works because of the switching cost.

Makes sense. Wanted to get your high level view if there's any upside or downside with the new administration to your business, I mean how could you be benefited at all, if at all?

I doubt first I have no idea but that's not going to stop me from saying something, I'm leading into that, I have no idea, but I'd be surprised if it has an impact on worldwide revenue passenger miles, but I guess you might see more defense spending perhaps, but I have no way to know how to handicap that at this point.

Okay. And then, one last one, you mentioned a reasonably active M&A pipeline. In this -- in the pipeline today, are there any larger opportunities kind of needle moving opportunities or are they more of the under $100 million of revenue size any characterization?

I would say they were small to mid to large, but I'd also say that's almost always the case. The bigger ones tend to somebody decides to sell them and they come up and you've got to move pretty quick on them. I'd say the backlog doesn't look a lot different than it often looks.

Okay. And the profile is similar, high after market, high proprietary et cetera? You aren't seeing that?

Well, when I say the backlog of things we're looking at, if it's not proprietary, it doesn't a reasonable amount of after market, it's not in our backlog.

Got it. All right. Thank you guys.

Okay.

Thank you. Our next question comes from the line of Noah Poponak from Goldman Sachs. Your line is open.

Hi, guys just had one follow-up. In the defense segment you mentioned a few programs that I believe you said were order rate headwinds in 2016 versus 2015. I guess those are there for revenue growth headwinds in 2017, is that true and can you quantify that, it would be great to just understand how much the segment is growing for you excluding those program specific headwinds.

Well, yes, Noah what I was trying to point out there is, the bookings ran behind the revenue this year 2016. So what I was trying to point out is that I don't think that's indicative of 2017 because there were a few big orders placed in 2015 that were multi-year orders. So they don't repeat each year, they repeat every other year -- every third year, something like that. I don't know if that's clear or not. That's what I was trying to point out what the rationale was for the booking probably behind. I think -- go ahead, sorry.

Are any of those revenue headwinds in 2017 that then don't repeat beyond 2017 or is it more that they are long cycle programs with lumpy order patterns?

It's more like the long cycle programs. I would say the only one that I would say that could as you sort of pay your money and take your choice on what theA400 shipping rate is going to be. That was one of them and there could well be up or down adjustments for that as it's been kind of running in fits and starts.

I guess it sort of begs question then I little bit more broadly on the end market. Is there anything holding that up from reaccelerating a little faster just given what we're seeing with the budget and what we're seeing some other defense companies project for growth next year?

If the question is could it be higher? Yes, it surely could and I would hope it would be. But, we sort of have to take our best estimate based on what we get out of the product teams, what we see in our incoming booking rates and forecast it out. Now, I would doubt we would be very far off on the OEM programs, but what could easily move up or down, I would hope up not down is the after market. If you get more active or you just decide to restock those things can move pretty quickly.

Okay. Thanks again.

Thank you. [Operator Instructions] And I'm seeing no other questioners in the queue at this time. So, I'd like to turn the call back over to management for closing comments.

Thank you, again, for calling into our call this morning and please look for our 10-K that will be filed tomorrow.

Ladies and gentlemen, thank you, again, for your participation in today's conference. This now concludes the program and you may disconnect at this time. Everyone have a great day.