Austal Limited (ASB) Earnings Call Transcript & Summary

Good afternoon, ladies and gentlemen. On behalf of the Board, I would like to welcome you to the 2023 Annual General Meeting. There's only a small crew, but I don't think we need to wait for too many more. My name is John Rothwell, and I'm the non-Executive Chairman and the Principal Founder of Austal. Notice of this meeting was given on the 26th of September 2023 in accordance with the provisions of the company's constitution and the Corporations Act. The notice included an agenda specifying the resolutions to be proposed at the meeting and an explanatory memorandum providing further details on these resolutions. This is a shareholders' meeting, and only shareholders, their proxies, attorneys and authorized representatives are entitled to speak at this meeting. This meeting is being webcast to shareholders who are unable to attend in person. As it is a webcast, virtual participants will be able to listen to the meeting live and view the presented materials, but will not be able to ask questions, make comments or vote through the webcast facility. The minutes of the last Annual General Meeting, held in November 2022, have been approved, and copies are available from the company's Secretary if you would like one. I've been advised that the necessary quorum is present, and I therefore, formally declare the meeting open. I would like to introduce my fellow non-executive directors, who you can see at the table beside me. Next to Paddy, our CEO, is Sarah Adam-Gedge. Sarah was appointed as a Non-Executive Director of the company in August 2017. And in August 2019, the Board also appointed her as Deputy Chair. Sarah sits on our Nomination and Remuneration Committee and has chaired our Audit and Risk Committee since December 2022. Sarah is also a Non-Executive Director of Codan Limited, Kinetic IT, PTY Limited and Cricket Australia as well as being an independent audit committee member for the Australian Sports Foundation. In August 2023, Sarah was appointed as Non-Executive Director of Bravura Solutions Limited, and on October 2023 she was also appointed as Non-Executive Director of Emeco Limited, a West Australian company that most of you would know of. Next to Sarah is Chris Indermaur. Chris was appointed as a Non-Executive Director of the company in October 2018, and joined the Audit and Risk and Nomination and Remuneration Committee in 2019. He has been Chair of the latter committee since December 2022. Chris is also a Non-Executive Director of Austin Engineering Limited and Mayur Resources, did I say that right? Mayur Resources, [indiscernible], Chris. Beyond Chris is Lee Goddard. Lee has joined the Board in January of this year, following the retirement of former Board member, Giles Everest, who you may well remember, and was immediately appointed to the Audit and Risk Committee and Nomination and Remuneration Committee. Because he is new to Austal and therefore, to our shareholders, I will spend a bit of extra time on Lee's employment history, which contains significant Royal Australian Navy expertise. In fact, Lee continues to serve as a Royal Australian Navy active reserve officer with a rank of Rear Admiral, following 34 years of full-time service up until 2021. In April 2022, he was appointed as the inaugural CEO and Executive Director of the Australian Missile Corporation. He's also a Non-Executive Director of the Commonwealth Superannuation Corporation, an adviser to Minderoo Foundation and OCIUS Technologies and the Chairman and Race Director of the Sydney to Hobart Yacht Race. Prior to assuming his current industry roles, he was duly -- dual appointed as a Commander, Maritime Border Command and Operation Sovereign Border, which was responsible for the law enforcement and operational oversight of Australia's maritime economic and security zones. This was preceded by a 2-year secondment into the Department of Prime Minister and Cabinet. At the end of our table is Mick McCormack. Mick was appointed as Non-Executive Director in September 2020, and to the Audit and Risk and Nomination and Remuneration Committees in April 2021. Mick is also a Non-Executive Director of Origin Energy Limited and Chairman of Central Petroleum Limited. He is also a Director of the Clontarf Foundation that we know all about here in this day. As you will have seen from the notice of the meeting, the company has put Mick forward for reelection today in accordance with the rotation provisions of the company's constitution. And as you will also have noted, the same scenario applies to myself, and I too will be up for reelection at this meeting. Next to me here is Paddy Gregg. Paddy -- finally, at the table here with me, of course, is Paddy Gregg, I should have said Austal Chief Executive Officer and Managing Director. Paddy has a separate presentation for you shortly. Each of our Board members present is able to assist in answering your questions. And a period for discussion will occur later in the meeting. We also have Dave Newman from Deloitte, who are the auditors responsible for the audit of Austal. Also in attendance is Paul Branson, Branston rather, representing our legal advisers, Herbert Smith Freehills. Prior to Paddy's detailed presentation, I will take a few moments to provide my brief overview of Austal's performance for the year and outline the company's pathway forward. If ever there was a year full of highs and lows, financial year 2023 provided it. I will address the highs, and there are lots of them, first before also discussing the low, which was the write-down of the tax, as you may have seen in the newest contract and its impact on our 2023 financial year earnings. Moments that have made me personally very incredibly proud at Austal are many and extensive, but the commissioning of the Austal-built Littoral Combat Ship, USS Canberra, in Sydney with the Harbor Bridge and Opera House looming large in the background was an experience that I will never forget. I could not have envisaged some 35 years back that Austal would not only be building more ships for the U.S. Navy, but one named USS Canberra would sail through the Sydney heads. It was a fantastic moment for all shareholders. But in my case, as I've said, it really came home to me. I was particularly proud after all these years. It was the first time ever that a U.S. naval vessel has been commissioned outside of the U.S., which is a testament of the relationships -- the relationship that exists between our 2 countries. And Austal epitomizes that relationship, now working on 11 different vessel programs in the United States for the U.S. Navy and Coast Guard, an amazing feat for an Australian shipbuilder. There was a nice moment in the ceremony where the captain of the USS Canberra was presented with a large kangaroo silhouette to adorn each side of the vessel superstructure. It was painted in the U.S. red and blue, and affectionately bestowed the moniker of Star Spangled Kangaroo. And I think we're going to get a picture of that somewhere, are we? Ah, that didn't work somehow. On a more business-focused front, there are 3 things that stood out to me for financial year 2023, all of which are related. First and foremost was the growth in Austal's order book to $11.6 billion if all contract option agreements are exercised. $11.6 billion is a tremendous and unprecedented order book and would set Austal up as part of the U.S. defense industrial landscape for the next decade and longer. There were 2 programs which contributed to the substantial growth in our order book: the offshore patrol cutter program for the U.S. Coast Guard and the ocean surveillance vessels, better known as T-AGOS, for U.S. Navy. We are contracted to build up to 11 of these Coast Guard cutters and up to 7 T-AGOS vessels of -- if these options are all exercised. And the process in the U.S., which you're probably well aware of, is that you get a contract. But each year, they have to reestablish themselves for the next one and exercise them. And so it normally proceeds as planned, but certainly can't ever be guaranteed. We are contracted to build up to have done that. The second major business highlight was the commissioning of Austal's new steel manufacturing facilities in Mobile, Alabama. The decision to move into steel was a critical enabler to secure steel vessel construction programs, including the OPC and T-AGOS vessels I just mentioned. While our U.S. heritage is building aluminum vessels, and we will continue to do so, steel vessel capability provides Austal with the ability to tender on a much larger array of vessels, and therefore win more contracts. When the U.S. government opted to fund half of the $100 million capital -- U.S. dollar capital investment required to move into steel, we were confident that the government and the Navy saw a future for Austal in steel, and to date, that confidence has been well placed. The third business highlight has been the diversification revenue. When I stood here in '21 at the '21 AGM, Austal had an order book of $2.5 billion and was building 2 vessels in the United States, the Littoral Combat Ship and the EPF, so previously called the joint high-speed vessels. Now in addition to being contracted on 11 distinct vessel programs in the USA, we are also working in the areas of autonomy and construction of submarine modules. And our support business, which hit a bump during COVID-19, has resumed its upward growth trajectory, with $227 million in revenue recorded in the USA and $144 million in Australia. We are well on the way to hitting our $500 million target for this segment. So on to the downside. Paddy will provide you more information on this, but it's important that as Chairman, I also address the downgrade of the tax program and its impact on our earnings and profit. Prior to our profit downgrade in June 2023, we had previously told shareholders that the program had encountered changes in specification and general cost inflation pressures. However, as the build progressed, it became clear that the efficiency assumptions for the newly commissioned steel manufacturing line, such as labor hours and consequentially recovery of overheads, did not meet the forecast and therefore required substantial revision. The exercise of the option to construct the fifth and final vessel in the contract has also added in the associated cost issues to the onerous contract. Austal USA has submitted a request for equitable adjustments REAs. It's a well-recognized process in the United States where if you believe that you've been dealt with unfairly by the U.S. government by way of specification or other reasons, they have a process where you can apply for these REAs. So we will seek to get some recoveries of some of the additional costs incurred in the T-ATS project, but the precise timing and success of those claims remains uncertain, and any successful REA will benefit Austal's financial year 2024 results. However, accounting standards require the company to bring all project losses forward and encompass the entire program, including the updates I mentioned earlier in financial year 2023 reporting. In response to this issue, we've made some changes to our reporting structures and processes, and we're looking to fast-track learning from the first-in-class vessels -- to the remaining first-in-class vessel to the remaining vessels. One question I've been asked is whether this type of issue is likely to occur in other vessel programs we have won. The answer to that question is other steel shipbuilding programs in the portfolio included substantial cost escalation protections, giving us confidence that the tax issues are isolated and the learnings from tax will benefit the future programs. ESG. In 2022, we published our first ESG report, which we followed up with this year. Our 2023 ESG report adopts one of the widely accepted international standards in the global reporting initiative. Accordingly, we have now set our targets for 2030 to reduce our embodied emissions by 50%. And we have also outlined a 2050 net zero commitment, consistent with science-based targets. The 2023 ESG report also contains a target of 30% female directors by the end of financial year 2024. We genuinely wanted to achieve that figure in financial year 2023, and although we were focused on achieving it, changing circumstances prevented us from doing so. You will notice that when it comes to the vote on my reelection later this afternoon that more shareholders than I would have liked voted against it. That's because the 2 proxy advisers recommended against my reelection based on Austal's failure to meet the Board diversity target. And several of our institutional investors are mandated to follow those recommendations. Regardless of what they recommend, I'm determined for Austal to meet this target in the coming year. Back to the financials. Our balance sheet remains healthy, and along with capital investments in the Mobile shipyard, Austal was able to declare a final financial year '23 unfranked dividend of $0.03 per share, adding to the $0.04 paid previously. Finally, on behalf of the Board, I would like to thank all members of our 5,000-strong team for their collective efforts in helping to build a bridge towards a new phase of growth for Austal. And I would once again like to sincerely thank you, our shareholders, for your continued loyalty. We have established an amazing platform for growth in the past 2 years, and we're now focused on safely and efficiently delivering the construction projects we have won while keeping our eyes fixed on future opportunities. I'm going to invite Paddy Gregg to provide a more detailed overview of our performance in the financial year and the company's outlook in a minute. But before he does, I'd like to show you a video of the commissioning of our LCS ship, USS Canberra, in Sydney earlier this year, which program made us all so very, very proud. [Presentation]

Good afternoon, everybody. The credit to that video goes to Paul, who's sat at the back of the room. He puts together a lot of these functions, and I'll show a short corporate video after this. But it really was an incredibly special day for us, and I hope you agree from the footage, really impressive in terms of just understanding how that relationship between the United States and Australia is building and Austal being uniquely placed to capitalize that on that. And I'll touch more on that in my presentation today. And if you like the video, I believe they're all on YouTube as well, so you can go home and download those and show your families and show them where you've been and what we do all day. And so I think, starting with the financials, as John said, the tax program really torpedoed what would have been a very, very good set of results in the year, particularly disappointing. But if we look at some of the underlying things and some of the positives that we can take from it, still a very healthy cash position in the company despite significant investment, giving us the confidence to continue paying a healthy dividend, good operational cash flow, net cash, and really, that's what gives us the confidence in the work that we've done and investment we want to make in the future, the underlying performance of the business being fairly sound. Just an overview of the company. Really, we see the revenue growing again. We're coming through a transition, moving off the end of the LCS and the EPF vessels into all the programs that we've won, moving from 2 long-standing programs to 13 programs that we sit on today. So a great opportunity for us to really focus on the execution of the business, and some of the leadership changes we made on the back of T-ATS are really around focusing on execution and delivering the tremendous order book that we see in front of us. That order book sitting at $11.6 billion with all the options exercised, a record for us, and really sets up the U.S. to focus on the execution and put 10 years of hard work in, build the business. That translates to some 43 ships that are on contract or under construction at the minute and 9 ships delivered in the year. If I look at our yard in Henderson, one statistic I like to use with the Commonwealth that we're incredibly proud of, in the last 5 years, we've delivered 28 ships out of the yard here in Henderson despite COVID, despite all the challenges of the world. So tremendous credit to the team that have remained focused and something we're very proud of and something that will stand us in very good stead in the future whenever we come on to talk about defense strategic review and Austal's position in Australia. 4,300 employees or so, growing every day, and with growing revenue, we need people to deliver that revenue. So a target of 1,000 people to recruit in the United States, taking us somewhere back to close to where we were at peak levels. Again, not quite peak, but giving us confidence that we've done it before. It's about bringing those people back. It's about training new people as we're in this phase of growth again. 5 shipyards in 4 countries, recognizing the 2 shipyards we have here in Perth, the Hope Valley Road facility where we build the Guardian class boats and then the waterfront facility down at Henderson. Service center is continuing to grow, and some of you might have seen in the media, Ian was in Trinidad opening the service center over there. Really trying to support the 2 Cape-class vessels that we delivered to them a couple of years ago, commercial boats that they've ordered, and over the years, they haven't been great on maintenance and really trying to give them a world-class solution to keeping their fleet operational in-country. And that amounts to some 60 vessels in total that we now have on sustainment contracts around the world. If we look at the segment breakdown, shipbuilding disappointing; for tax purposes, as we've talked about, disappointing; we see the decline in Australia and commercial at the minute, commercial on the back of COVID, but confident that will recover in coming years. But commercial is a relatively small part of the business these days. While we have the capability, we have the facilities. When the orders come back, we will execute them. But 98% plus of the business is now focused on defense, and we've made that transition over the years into defense shipbuilding and the support of those vessels. I think the encouraging thing about this is, both in the U.S. and in Australia, seeing the support business grow and the margins grow, a real focused effort on that. A few years ago, we set a target of getting to $500 million of revenue by FY '27. And again, later in the presentation, I'll touch on that a little bit more. If we look at the overall cash, slightly down on the year before, but actually some one-off events. We bought a piece of land in Alabama, $30-odd million ready for future expansion investment and capitalizing on the steel vessels that we've won and some prepayments we made to suppliers on the OPC program to secure preferential commercial terms. On a like-for-like basis, actually would have seen a really healthy cash position again in the business, again allowing us to give us the confidence to pay the dividends that we did. And obviously, in the year, continued investment, finishing off the steel facilities, opening the San Diego yard and having the floating dock delivered. Again, I'll show you that in a picture in a couple of slides' time. Just trying to get some trends and looking historically where we've been with that, the share price has fluctuated and has trended down since results, not on the back of any bad news whatsoever. In fact, the only real news is that we won the LCU 1700 landing craft program in the U.S. You can see where the EBIT would have been if we hadn't had the tax issue. Again, it would have been a very healthy position. But you'll see over the last 5 years kind of operating in that sort of 5% to 8% EBIT margin range. And then the order book, we've talked about, but then trying to get an idea of how that revenue is just going to grow year-on-year-on-year as the programs mobilize and increasing volume as we go through. So if we look at shipbuilding, still wanting to expand shipbuilding, very focused on shipbuilding. For us, it's really about executing all the programs that we have won, continuing to invest in the facilities, whether it's the steel facilities in Alabama, whether it's the opportunities in the support business. In time, we'll start talking to you more about technology and some of the technical things we're looking at to keep finding new revenue streams for the company very closely related to defense. But we're not done. There are a lot more programs that we can still bid for. Despite the fact we've put a whole lot of breadth and longevity into the U.S. business, there are still quite a number of U.S. programs that we will be assessing and working out whether we bid for them as a prime, whether we partner with others, but again, good future opportunity for growth in the steel yard. And for years, we'd only bid for work as a prime and we've moved away from that, much more collegiate, collaborative. It just opens us up to additional programs that we wouldn't or couldn't do on our own right, has the potential to reduce risk as we go through. Typically, we've traditionally gone for a design and build program where you take risk on the design, you take risk on building the ship to the design and then you take risk on the performance of the vessel to the design specification. So the opportunity to partner with others might actually help us reduce the risk profile in the business while being able to increase the revenue. In Australia, pretty frustrating at the minute. You guys will have seen in the news the Defence Minister has kicked decisions downstream. A few years ago, we were excited by the force structure plan and what that looked like in terms of ships and where they were going to be built. We then had to wait for the Defence Strategic Review, which was delivered back in May. And Defence Strategic Review is very exciting in terms of what it called for, so confirming that Tier 2 ships would be built in Western Australia, recognizing the importance of a need for continuous naval shipbuilding, making statements like an immediate need for medium and heavy landing craft, fantastic. We got very excited. And then a second review was called for around the size and shape of the fleet based on the decision to buy nuclear submarines. We were expecting the output of that in October. That output came, but unfortunately was kept out of the public eye and the Defence Minister announced that they would be reviewing that with government in line with budget. So there have been a number of things in the press recently about a lack of decision-making in government. So while I'm not happy with the decline in the defense shipbuilding in Australia, I think the future is very positive. And it's not as if others are winning work that we're bidding for. There is just no work being left. So based on that 28 ship delivery I talked about upfront, based on the capability we've got, based on the statements that were being made, I think we're getting fairly close to an exciting future in Australia where we can put that longevity into the order book, into the business in the same way we've done it in the United States. Just some good pictures then. Bottom left shows you the sheer size and scale of the Independence, the floating dock that we've bought for the San Diego business that will allow us to not only work on ships that are afloat, but to be able to lift ships out of the water as well, all part of the plan to increase the revenue towards that bottom right-hand corner of $500 million by FY '27. You see the little ripple in there for COVID when ships weren't being deployed and work wasn't being undertaken. But really, we're growing in confidence that we're back on track to achieve that target. As we deliver ships in the U.S. and as we deliver more ships in Australia, that helps increase the size of the pie and helps us hit those growth targets going forward. AUKUS has been in the news a lot, and a huge amount of the focus has been around nuclear submarines and the Virginia class. A lot of statements made about Australia will be getting the Virginia-class submarines. And I'm really pleased to say that we are building submarine modules in the United States for the Virginia-class submarines. Nobody has explicitly made the link between the fact Australia will be getting Virginia-class submarines and isn't it great that an Australian company like Austal is building modules for those submarines. But I'm confident that as we demonstrate our capability, there will be an opportunity to really grow that revenue stream in the United States around submarine module building. And building that relationship between the United States and Australia, we're uniquely placed as a company to be able to do that and have a long history in that space. AUKUS is not only about submarines and modules. Autonomy, additive manufacturing, the ability to train people and swap our workforce between Australia and the United States, bringing them up to speed with submarine quality requirements and skills. There are a number of unique positions we've been able to present to both government in Australia and in the United States to really maximize whatever is going to come out of AUKUS. Indeed, looking at some of the requirements we understand that are coming in the United States, whether it's landing craft, there are landing craft programs that we are winning and working on in the United States that I think Australia could benefit from. And thinking about the service world, our yards in the North are qualified to work on U.S. war ships. So as more ships are station here, as geopolitical tension rises, I think there'll be an opportunity to build that political and global relationship between Australia and the United States with the potential to grow the business here as well. So just to finish, strategically, it's all about executing the order book in the United States. We've got to own the tax issue. We've got to work through that. We've got to focus on execution. We've made changes in leadership to be able to do that. We will be bolstering the team. As John talked about, the processes, the people, the capability in the U.S. to really make sure that we knuckle down and spend 10 years delivering that excellent order book that we've won. We have the ability to win back some of that profit that we've lost through the request recordable adjustment, and we've engaged specialists in that process to really try and maximize whatever we can get back. The underlying financial results we talked about, still strong performance in the business in terms of delivering ships, delivering quality ships and satisfying our customers. Austal has had a very long history of focusing on delivering on its commitments, and that's something we continue to do, both in the United States and with Ian and the team over here. AUKUS and the Defence Strategic Review, I think, will open up opportunities. And the sooner the Defence Minister starts making decisions on future programs, the better. And as I said, I think we're excellently placed for a long, bright future with those programs. Support revenue growing, so general growth in the business, good opportunity for us. New vessel programs, both here and in the United States, good opportunities to capitalize on the investments we've made, both in steel in Australia, steel in the United States, in the support business in the U.S., in our yards in the north and carry on winning that work, profitably growing the business. The great order book, we've talked about and the ability then with an $11.6 billion order book to continue to invest in our facilities to make sure we are absolutely well placed for anything that we could bid for in the future, whether it's steel ship building, whether it's support, whether it's submarine modules or indeed new revenue streams and technologies that we're looking at in the future. So T-ATS, very disappointing. Big focus on execution. Great opportunity with the order book we've got in the U.S., and I think a great opportunity coming with the Defence Strategic Review in Australia, so watch this space. I'd like [indiscernible] attempting to showcase all the capabilities in Austal, and we'll play that now. [Presentation]

I look at videos like that and I think where the year has gone, but it's a phenomenal ride and we're still on it. But interestingly enough, we have an employee on [ our board that went to work ]. Quite a number of those have been there for 30 years, more so for 25 years, and it's -- we have a phenomenal depth of skill in the company. And frankly, our -- in the U.S., it's -- clearly, we only started there in 2000, but that is 23 years ago, and we've got a number of employees that we've been able to retain in that business. So I now welcome questions from shareholders present relating to Paddy's presentation. So that everyone may hear you, would you please stand to ask your question and wait for a mic to be brought to you and state your full name.

I'll give it a little longer, but it's looking like an easy one, isn't it?

When you first set up in the U.S., you had a training facility there for employees. What have we done? Have you had something similar like that for the steel ship building program? And how do you see the problems starting up with the aluminum program compared with the steel program?