Austal Limited (ASB) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Austal Limited FY 2022 Results Conference Call. [Operator Instructions] I would now like to hand the conference over to Mr. Paddy Gregg, Chief Executive Officer. Please go ahead.

Good morning, everybody, and welcome to the Austal FY 2022 Full Year Results Call. I'm Paddy Gregg, the CEO at Austal, and I'm joined today by our interim CFO, Geoff Buchanan. And we'll be presenting in the same format as we have done previously with me giving a business overview and context, while Geoff will focus on the financial details. And as always, we plan to present for no more than 30 minutes and allow plenty of time for questions at the end of the call. I think in summary, it's been a very successful year for Austal, delivering 9 ships in FY '22, maintaining a strong balance sheet, and we also strengthened our strategic position to unlock significant long-term opportunities in the shipbuilding industry and broader defense sector through some significant investment and contract wins. The pinnacle of those contract wins was obviously the OPC win on the 30th of June this year. Throughout the year, we provided guidance to shareholders at half year results at profit would not less than $107 million for the year. And on the award of the OPC, we were delighted to be able to increase that guidance to the near record result that you see today as we are announcing. As always, there are some features of the results that will require some explanation, and we aim to do that on this call and in the slides that we've posted online to try and help you through it. So if we look at the financial headlines, I think these results demonstrate another really strong operational performance of the business. And at the same time, as we've made significant investment in the business and demonstrated real results through contract wins. I think the stand-outs in the half for me were the second highest EBIT the business has ever recorded; still great confidence in the balance sheet, allowing us to maintain the dividend year-on-year and continue to invest in both organic and inorganic opportunities; and we're really focused on investing for future shareholder returns, including the steel capability in the U.S., growing our support business with the San Diego acquisition, just to mention a couple of things. In particular, I think the results demonstrate how the nature of our business being heavily skewed to defense can really withstand economic, operational and COVID challenges. Thinking about the business and some of the key facts that really summarize how we've performed. So a bit of a revenue drop, some COVID impact, and we know that still hasn't gone away. But great order book that we see in front of us. So quite a number of contract wins. And if we included all the options on OPC, that would take us to around $7 billion of orders and a really strong pipeline going forward. I'm really proud of what the teams in both the U.S. and Australasia have done to be able to deliver 9 ships despite all the COVID challenges, logistics challenges and all the disruption that we've seen globally. We really have spent the last couple of years building the business to be looking at broader opportunities, further reaching. And this is really paying off when you look at what we've won, the pipeline and indeed the future designs that we're working on. Our Service and Support business has had some challenges, but we still see a really bright future, and I'm pleased to say the Marine Group Boat Works acquisition back in December has gone really well. We've ordered the floating dock for that, and we're now up to 8 service centers worldwide with some 42 vessels under sustainment contracts. So I think with that, I'll hand over to Geoff to talk through the financial details, and then I'll sum up with our financial and strategic outlook at the end of the call. Over to you, Geoff.

Thank you, Paddy, and good morning, everybody. I'm pleased to be able to present a strong financial performance for the group for FY 2022. Revenue decreased by 9% to $1.43 billion as expected, driven by lower throughput with the maturity of the LCS program in the U.S. business, reduced work in the commercial ferry sector in Australasia and the residual impacts of COVID-19 on our support business. Despite this fall in revenues, the company posted its second highest EBIT and EBITDA result of $120.7 million and $165.4 million, respectively, driven largely by the improved shipbuilding margin in the U.S. following improved efficiencies that allowed an accelerated release of contingencies. The OPC contract allowed us to update our assumptions surrounding costs included in the program estimates of completion and labor utilization at 30th of June that were used to calculate the company's EBIT. And this resulted in an upgrade in our EBIT to $120.7 million from our previous guidance of a minimum of $107 million as advised to the market last week. The company's NPAT was down 2% to $79.6 million due to an increase in Austal's effective tax rate from 24% to 29% due to the utilization of some tax losses in FY 2021. Earnings per share fell marginally from $0.226 per share to $0.22 per share as a result. Moving on to group revenue and the movement. As mentioned, the key driver of the 9% revenue reduction to $1.43 billion was the lowest throughput with the maturity of the LCS program, together with around 800,000 lost production hours due to COVID-19. The AUD-USD FX gain was largely offset by reduced commercial ferry work and residual COVID-19 impacts on the Australasia Support business. Moving on to group EBIT. It's pleasing to note that the successful achievement of shipbuilding milestones and the resulting retirement of risk contingencies amounting to $14 million was the primary driver of the increased EBIT. Conversely, FY 2021 included incentive award fees, funding approvals and higher-margin contracts in the U.S. support business as we advised in the FY 2021 presentation, but these were not replicated in FY 2022. Group EBIT for FY 2022 increased overall by $6 million or 5% over FY 2021 as a result. Moving on to Slide 7 of the presentation. We take a look at the breakdown between our U.S. and our Australasia segments. Firstly, on the U.S. Shipbuilding revenue at $880.1 million was down 9% on FY 2021 for the reasons we've already stated, although there was some FX upside. However, the shipbuilding EBIT at $221.1 million saw an uplift of 18% from the combined positive impact of strong milestone achievement and the accelerated release of contingencies. Support revenue of $175.8 million improved 8% over the year, although the EBIT margin returned to more normalized levels of around 6.6% as the FY 2021 EBIT support margin had been inflated by some incentive awards, as I previously mentioned. In Australasia, shipbuilding saw revenues contract by 8% to $285.7 million as a result of the reduction in commercial ferry build activity in our Asian shipyards, offset by increased defense contract work in Australia. Whilst the shipbuilding margin reduced from the prior period to 4.2%, this was largely driven by the typhoon-related damage repair costs in the Philippines mentioned at the half year. Adding back this impairment, the EBIT margin would have been around 6%, more in line with historic norms. Both support revenue at $98.3 million and EBIT of $2.8 million improved over the prior period due to increased availabilities and more emergent work. Moving on to Slide 8, cash flow. Pleasing to note that whilst our operating cash flow fell by $76 million mainly due to the timing of milestone payments as a direct consequence of COVID-19 impact, it was still a positive operating cash flow. This also led to an increase in our network in progress at the year-end. Enhancing capital expenditure was the main driver of the increased investing cash flows with $121.2 million of enhancing CapEx supporting the acquisition of Marine Group Boat Works in San Diego and the installation of our new steel plant in Mobile, both key enablers for future orders. The spend is net of U.S. government grants, which we continue to receive. We ended the year with a strong cash position with $240.1 million in the bank, notwithstanding the significant CapEx spend. These cash reserves allow us to declare a $0.04 per share final dividend, taking the full year dividend to $0.08 per share in addition to supporting completion of the steel transition at San Diego dry dock enhancing projects alongside recent and future ship program awards. The additional capital investments and revaluation of property, plant and equipment in the U.S. were significant contributors to the growth in total net assets to $924.3 million from $774 million in the prior year. There were no additional borrowings during the year, and we retained $115.6 million net cash. I'll now hand back to Paddy to present the financial outlook. Thank you.

Thanks, Geoff. So I think as you're all aware, Austal secured a really significant pipeline of work and really rather recently, couple that with the current macroeconomic environment, which is -- continues to be a little bit volatile and some of the residual impacts from COVID-19, we really see this financial year as a transition year as we move from established existing programs through the design and long-lead material ordering on the new programs and readiness for a full steady-state production that we're in today with EPF and LCS and our programs across Australasia. We're still able to provide EBIT guidance of approximately $100 million, demonstrating the confidence we have in the business. And as always, we will keep shareholders informed of any material impacts that could change that throughout the year. So if we turn to the strategic outlook for the business, I think we're fundamentally delivering our growth and diversity plan. You see that coming through the investments we made and the transition we made into steel a couple of years ago. You see that coming through some of the systems side of the business, the investments we're making there and the opportunities we have through the sustainment side of the business. Previously, we've talked about autonomy and the importance of autonomous vessels as part of naval fleets, and interest there is growing. And the great work that the team in the U.S. are doing on EPF 13, which is on autonomy trials at the minute. And then thinking to the future of the commercial ferry market, although a small part of our business, we still see that returning as COVID travel restrictions reduce and a real desire from operators around the world and indeed regulators around the world to reduce emissions from all boats that operate on the ocean. So future fuels and the fact that Austal is ready for any technology, and we'll integrate that into whatever an operator wants, I think we're future-ready in the commercial world as well. And the significant success in winning steel, I think, demonstrates that was absolutely the right pivot for the business and well justified. The pinnacle of which being the excellent work the U.S. team did to win up to 11 ships in the Offshore Patrol Cutter contract. And then thinking to the future. So I talked about a much broader and deeper pipeline. And so not only have we got vessels that we're working on today and building and delivering, we have won vessels that we will build and deliver in the future, and we're on design programs and have tenders in for future vessels. Looking at things like T-AGOS, LUSV, future frigate light amphibious warship in the U.S. and indeed, the force structure plan here in Australia and things like landing craft that we have submitted our tender for. So not only in the shipbuilding side of things do we have a much broader and deeper pipeline, the investments we've made in San Diego and being -- joining the SEC East and West contracts in the U.S., a great opportunity to continue to grow the support business and indeed here in Australia as we deliver more of our patrol boats, greater opportunity for us to win service work on them out of our yards up in Queensland and Darwin. And then some other smaller opportunities at the minute, but really trying to diversify that revenue stream, some opportunities for focused factory work in the U.S. and undertaking some work on aluminum parts of other ships and really using our expertise to diversify and grow those revenue streams, something that we will focus on in years to come. And absolutely fantastic that the San Diego acquisition completed. We're busy making that our own facility, getting it set up and really ready to meet that target that we published last year around $500 million of support revenue by FY '27. Some of the strategic wins we've had in Australia this year, I think, demonstrate the importance of Austal to the Commonwealth. The 2 additional Capes that we won were really significant in that they bridge the gap between the current programs that we're building and the work that we're tendering for in the future as part of the Force Structure Plan. To really trying to build that relationship with defense, ensure that we deliver ships for Navy, I'm really pleased to say at a time whenever you read about many programs going to the right, Austal is confidently delivering every single one of the Guardian Class Patrol Boats to a schedule that was set back in 2015. So despite COVID challenges, I'm very proud of what the team have managed to do to keep those ships on track and deliver them. And of course, we've now delivered the first 2 vessels of the evolved Capes as well. So demonstrating again that capability to find a way, deliver on our commitments and keep our customers satisfied. We see opportunities for systems to generate revenue. The Lucy software that we've developed is on trial on the Capes that are going to the Navy, and we think that could have a bright future not only on our ships, but on other ships, not only in defense but also in commercial, and that's another potential future revenue stream that we will continue to push. So really, with the capability we've got to deliver in steel and aluminum in shipbuilding, in sustainment, in commercial and defense and do that on a global scale, I remain very excited and optimistic about the opportunities we have as a business going forward. So with that, I will open up the call for questions at this point.

[Operator Instructions] Your first question comes from Mitch Sonogan at Macquarie.

Can you hear me all right?

Yes, we can, Mitch.

Yes. Just the first one, just on the approximate $100 million EBIT guidance for FY '23. Are you able to provide just any color on high-level revenue expectations across the 2 geographic segments, please?

So we anticipate overall revenue will be similar to what we achieved this year.

Yes. Okay. And just going to the OPC, obviously, a really good win for the business. Can you maybe just give a little bit more color on how you see the timing in terms of rate of production, et cetera, and how long it's going to take to get up to full run rate revenues? And just any thoughts on profit recognition on the medium-term outlook for that program, if you can at this stage?

Yes, absolutely. So as we announced, it's a contract that is for the first ship plus a series of options after that. You'll also be aware that there is a challenge on that win at the minute, which we are addressing due to end in the middle of October. And really, the first 12 months of that program is around design finalization, build strategy, long-lead material orders and then we really get into production after that. You'll remember that we also won the T-ATS vessels. So we've cut metal on the first T-ATS vessel, and we really anticipate that all 5 of those options will come to pass. And that's what we'll use to sort of blow the cobwebs away from the brand-new steel facilities that we've invested in. So we need to get that program through before OPC. And also the floating dock that we won in the U.S., the ADFM (sic) [ AFDM ], a very large floating dock that is in steel, and we'll go through the steel line alongside the T-ATS vessels and get us really ready for OPC going forward.

Yes. And maybe just quickly on the T-ATS, you had a provision put in on the first 2 vessels. Can you maybe just touch on that and how that's going to play out?

Yes, absolutely. A little bit frustrating in so much as whenever we put our bid in based on a specification and some quantities, there were some changes to that as we went through the contract award. And we've tried to be as fulsome as possible in our disclosure notes in the annual report. So we will be applying for an equitable adjustment with the Navy to try and square up on some of those changes and then hit with some economic challenges with hyperinflation in the supply chain. Again, some work that we've got to do with the supply chain around mandated equipment and what we can do on pricing of that. So as always, I think we've been prudent. I think you saw a similar position with LCS 38 that you know the accounting standards force us to take the hit upfront while we do the work and get the certainty that we can recover those unforeseen costs that occurred since we tendered for the project. So something the team are very focused on, something we are working on. And I hope to see that return to a more positive position in the coming months.

Yes. Very clear. Just a final one for me, and I'll jump back in the queue. Just maybe any sort of update you can on timing of potential major tender awards in the next 12 months, whether that's liner, warship, future frigate, et cetera? And maybe can you just provide a little bit of color around your capacity, I guess, there in Mobile? If you were to win something else as big as the law, like how would that look across the different facilities?

Yes. So I think the thing that we have line of sight to that has been announced is the T-AGOS tender. So we've submitted our initial bid for T-AGOS. These are very large steel catamaran vessels, ideally suited to Austal, in our opinion. With our catamaran capability and our new steel capability, we're anticipating a contract award back end of this year, early next year. And in terms of capacity, it's interesting how we think about the shipyard because we always try and fill these facilities that we've got, but we have not run out of space. So for me, capacity is a function of being able to build additional consolidation sheds if we needed to, and then recruiting the people that we would need to undertake the work. And I think we've demonstrated over the years certainly capability in recruiting and training people with the training center right next door to our facilities. And then a reasonably small level of CapEx to be required to build consolidation sheds having invested in all the major equipment and machinery that we need for the start of the steel-cutting and forming processes. So I think the yard absolutely has the capability to grow in revenue, and that's why we're bidding hard for the T-AGOS program on top of the OPC program. And then as you say, a longer pipeline of other vessels out there, whether that's things like light amphibious warship. You mentioned frigate and second source. And the debate rages in the U.S. about when is the right time to bring a second source online. Is it sooner? So maybe get more ships and more certainty around when they're going to get their assets. Or is it the less risky approach where you actually ensure that the first vessel is delivered, any design issues are changed out and any construction issues are understood and then you go forward with second source. So at the minute, I think the less-risk option is winning, which would suggest it's beyond FY '25 before we would see second source and frigate. But again, frigate second source is absolutely something that is on our medium-term radar and something that we would definitely have the capability to do demonstrated through all the steel programs that have gone through the yard or will have gone through the yard by the time that second source comes up for awards. So we're absolutely working at a much broader and much further reaching pipeline than we ever have done before.

Your next question comes from Russell Gill at JPMorgan.

Paddy, just, I guess, some further clarification on some of Mitch's questions. Firstly, just on the OPC contract and the challenge that's occurring due October. Does that delay your ability to actually start work on it? Or are you starting to do work on it now and you can book some revenue and cash from the government? Or do you have to wait for the challenge before you can actually do anything?

No. So the challenge does put some delay in and some uncertainty, but we have an agreed number that we can work up to with the U.S. And that allows us to get out there, do all the planning, do all the preparation and start the long-lead ordering. Really, it's designed to ensure that there's minimal or no delay to the overall program. And we work very closely with Coast Guard on that to ensure that we've got enough headroom to try and keep that program progressing to plan.

So if we're thinking -- when you're saying that you expect revenue overall to be flattish, that's incorporating some OPC work in that number?

Yes, small amount, mostly focusing on the T-ATS vessels and the floating dock in this year, while we do the sort of planning long-lead material ordering, design finalization for OPC.

And then OPC cutting steel is beginning FY '24?

Yes.

Okay. And what's the rate of delivery of -- or anticipated rate of delivery? Is it 2 every 3 years? Or what's the rate of delivery of the OPCs?

It will be -- we need to finalize exact details, but it will be a similar schedule to how we put out LCS. So 2, every 3 years is not a bad estimate and maybe slightly longer than that just due to the size of the ships. But absolutely, we want to get into the sort of drumbeat manufacturing methodology and the consistency that we've had on both EPF and LCS.

Great. And if we look at through your contingencies that you're still holding for LCS, it's come down, I think it was $150 million last year down to just $100 million this year. If you're thinking of your $100 million of EBIT coming through in '23, how much of that will be contingencies coming through on that program of that $100 million EBIT?

So it depends very much on achievement of milestones. So it's a reasonably mechanistic process in that we hold contingency against milestones on the program. And if we successfully mitigate the risks as those milestones occur, we release that contingency. So you'll have seen a steady release over the last few years, as you look through the notes and the declarations we make in the annual report. And so we anticipate, as we deliver ships at the same rate, providing we mitigate the risks in the way we have done in the past, we would see similar releases going forward. We did have a bit of a special review in this financial year that we talked about in the half, based on how successful we have been in mitigating those risks and looking at what's left on the program, recognizing that there were quite a number of ships that have been delivered. So yes, releasing MR will be a feature of the $100 million in line with what we've done previously.

Yes. So the way we should think about, I guess, that contingency coming through into that $100 million, it will probably -- it will show -- because you're delivering these LCS at a similar rate. Does the contingency actually What you're releasing go up because you're getting right to the end of the LCS program, so there's less risk involved? Or is it following a similar sort of, I guess, cadence as you're going through?

Similar cadence. The levels of contingency that we hold are set and declared and should reduce in line with achieving milestones on ships and delivering them and mitigating the risks.

And Russell, obviously, most of that will flow through in financial year '23 and '24 at that similar level of cadence. Obviously, some will be held back in '25 post delivery.

Yes. Yes. So following a similar trend, '23, '24 and then a tiny tail into '25.

Yes.

Yes.

And then just the other contingency, which relating to your -- the vessel, which I think is EUR 62 million number, it looks like you agreed with the customer to push the delivery out to January 2023. I mean these customers, I presume, need these ships. If they were to build that ship today, I mean, what's the opportunity cost for them saying we don't want it today relative to starting again or finding something in the open market? I just want to understand what's the actual risk of them not taking delivery if there are further delays?

So the only reason it was scheduled to be delivered in December and the only reason it really moved to January was because they didn't want to be sailing it home over Christmas. So we agreed with them, early January was a better delivery date rather than them sending over a full crew in December to work up and then be on the seas over the Christmas break. So it was a human decision really in terms of when is the best time to deliver that for the yard, recognizing Christmas is a key feature in Europe as it is in the Philippines and just agreeing with them when they want to take it. In terms of them canceling, the price of a new boat would be significantly higher than they're currently paying for that boat and driven really by what you've seen around the globe with material prices, logistics and labor rates going up. So definitely, canceling it and reordering would be incredibly expensive for them. And they've put an awful lot. This isn't an off-the-shelf boat. They put an awful lot into the design and the specific requirements of that vessel. And it's very much going to be a jewel in the crown of their fleet, and they've put a lot of effort into it. So I think there really is minimal risk that they would not want it. And even the 6th of January, there's quite significant gap between that and any long stop date in the contract. So we're confident that we'll be able to deliver that boat, and we're very confident they'll be very happy to receive it.

Great. Understood. And then, Geoff, just on the cash flow, we -- what should we be thinking from a maintenance CapEx going forward? And is the vast majority of the CapEx spent in the U.S. now done? Or is there still some CapEx to come through in FY '23? And then just second cash flow question on the operating cash flow. As you're ramping up projects, how should we think about working capital and then the operating cash flow trend over FY '23?

Okay. Yes. Thanks, Russell. I think on the first one, our sustaining CapEx, we expect to continue at similar levels to the past in routine maintenance and sustainment. On the enhancing capital side, no, we still got quite a lot of spend to go. So a similar level in '23 from '22. Obviously, there's the timing impact of that, and we are still to receive an element to funding from the U.S. government on that. So -- but yes, you can expect a similar level of CapEx, enhancing CapEx spend through 2023 and obviously, a slight uplift in depreciation charge and amortization as a result. On your second question on the operating cash flows, I think they will be sufficient to continue to support this level of activity, the new program awards. Obviously, we had, had some delays in milestone payments as a result of COVID-related impacts during FY '22. As that ameliorates, we should see a return to more normal billing cycles. So we're confident that we will continue to see positive and hopefully growing operating cash flows.

Okay. So to be clear, so FY '23, we should still be seeing cash inflows. There's no, I guess, ramp up working capital requirement coming through? And then if I look at your net CapEx spend in FY '22, including, I guess, government subsidies, looks about $85 million. That's a similar number we should be thinking about '23 as well?