Curtiss-Wright Corporation (CW) Earnings Call Transcript & Summary

Good afternoon. I am Louie DiPalma, I cover aerospace and defense on William Blair's equity research team. This is the first day of the 43rd Annual William Blair Growth Stock Conference. We're pleased to be hosting a presentation and discussion with the management team of Curtiss-Wright. Joining me today are CEO, Lynn Bamford, CFO, Chris Farkas and Head of Investor Relations, Jim Ryan, sitting in the front row. I am required to inform the audience that a complete list of disclosures and potential conflicts of interests can be found on our website at williamblair.com. Lynn will provide an overview of the business, and then we will have some Q&A. Lynn, please take it away. Thanks.

Thank you, Louie, and thank you, everyone, for coming later in the day. So I appreciate you not giving up and heading to the bar and staying with us. I also want to just say for one moment to commemorate this 79th anniversary of D-Day today. And as a defense supplier, that's very important to us. So with that, I'm really excited to be here today. We feel like the company is in a very great place. And for those of you who know us, have seen what we've done over the past years, we really feel like we are on the cusp of taking this company to new heights and creating shareholder value. I do want to mention our safe harbor. Today's comments may contain forward-looking statements that contain certain risks and uncertainties. And our -- these risks are outlined in our SEC filings, which are posted on our website. That was my part that I had to do. But moving on to the first slide. Who is advancing the slides? I don't have a -- sorry for the delay. Okay. So thank you. And I'm going to start off with a pretty high-level introduction to who Curtiss-Wright is. I know some of you do know us, but I think there's a lot of people here that Curtiss-Wright is a fairly new name. So we surely won't give all of our history. Our history goes back 90 years to the Wright Brothers. So that is where the name Curtiss-Wright comes from. We've got a really rich history. And one of the things we're very proud of is our history contains a lot of firsts, of things that we've done as a company as the world has evolved and really been first to market in those new technologies that have come over those years. Today, we're a $2.7 billion company. I think what's important is our focus is really around producing highly engineered products that have mission-critical technologies. We can see we're 2/3 aerospace and defense, 1/3 commercial. But the focus is really on niche capabilities that have high IP, that are mission-critical, safety-critical applications. We employ 81,000 employees and about 25% of those are engineers, which is really important when you think of what our focus is around highly engineered that we have the workforce to do that. And I'll touch more on our culture later. But we really are well positioned in our end markets that I will speak to our -- some journeys we've been through in just a minute, but we have really strong positions with technologies in our end markets. Our order book has been strong. We talked a little about last year, having a record order book. We're off to a great start this year, gives us a great amount of backlog and today, I consider us a very integrated company that has many synergies, some tapped, some yet to be tapped and many crossover technologies that really leverages these end markets that are shown up there. I think one of the important things about Curtiss-Wright is we're very focused on our sustainable competitive advantages, and we have quite a few of these. I won't walk through all of these. But I think the strong technical expertise across the company of really knowing our end markets, knowing the needs of our customers and really being able to provide world-class products into those end markets is something that's a core capability of Curtiss-Wright. And with that, the second one across the top talks about knowledge transfer over the decades. But as I mentioned, our history goes back to the inception of many of our end markets, and that's not just commercial aerospace. We've been a supplier to the nuclear navy since its inception. We've been a supplier into the commercial nuclear industry since its inception. And really, as the COTS electronics capability was born back in the '90s from moving to commercial off-the-shelf solutions, one of the Curtiss-Wright divisions was an initial leader in that space. And I can name some others, but those just to kind of cut across some of our end markets that that really -- that history in those end markets and our ability to transfer knowledge and build those trusted relationships with our customers is really fundamental to Curtiss-Wright. The other thing I want to touch on is the culture within the company that we built a culture of continuous improvement and that continues on. But we have really -- the culture that we've been focused on, even enhancing over the past several years, is really our drive for innovation and collaboration and cross pollination across the organization to work more as an integrated company, and we've made some great strides there. Our employees have great pride in the products we make. They have great relationships with our customers. We're a trusted supplier to our customers, and that really just drives a culture that is a real joy for me when I go out and I'm in our different business units to just see everyone from the people who are working on the factory floor, building products to the leadership, just take such pride in driving excellence in everything they do. Before I talk about the fundamentals of our Pivot to Growth Strategy, I do want to just turn back the clock about 10 years and talk about the journey Curtiss-Wright has been on over the past 10 years, that we really started around that time to have a very strong focus on integrating the company. The integration at that time was largely back office and geared at driving operational efficiencies and driving ourselves to be a top quartile performing financial company. And the company did an outstanding job during that time, driving up the margins 800 basis points through that journey. And during that time, we also pruned ourselves of businesses that we did not see a strategic fit that really benefited from being part of Curtiss-Wright, or were not positioned in end markets that they could take their capabilities and make it aligned to what were the vectors that were going to drive growth. And during that journey, we now have a really outstanding company with pieces that all fit together and are positioned for growth in their end markets. And it's -- that's a great place to be. And with that, as we drove those top quartile performance, there was one element we did not achieve top quartile performance in and that was really driving sales growth during that time. And hence, in 2021, as we launched our Pivot to Growth Strategy, it was very logical. And again, I always -- we spent a lot of time over the past 2 years talking that the Pivot to Growth does not mean that we have taken our eye off of operational excellence. It just means that we are committed to driving the sales growth while we maintain other areas of excellence. You can see the 3 pillars there that -- oh, I'm sorry. I'm not a very good slide clicker. Well, that was all background. So now you can see the 3 pillars that make up our Pivot to Growth Strategy. And really, first and foremost, is to accelerate the organic growth. What I just talked about, we have great technologies in end markets that have the capabilities that are critical and aligned to the growth in those end markets. And so really that -- a lot of our Pivot to Growth Strategy was affording ourselves to put some more money back into R&D and sales to make sure we're doing the right things to take this kind of unique opportunity for Curtiss-Wright right now to double down on all those alignments and make sure we're doing the things to maximize our business capture in those end markets. We continue to keep our focus on operational excellence that we've committed in our Investor Day to incremental margin improvement. It's really excited the team that as we've pivoted to this growth and saying that as they drive operational excellence that a portion of that will be pumped back into R&D, and that's also been really great for the culture of motivating the engineers because they have great ideas and they're excited to be deliver on those ideas. And so it's kept the focus and the drive behind our operational excellence very healthy knowing that some of those savings would create R&D dollars going forward. And last, we maintain our disciplined capital allocation strategy, and I'll come to that a little bit later and talk more about that. So really looking at our end markets for a second. Here there's a lot of great things going on. But if I take a second to talk a little bit in Strategy 1 on driving organic growth. One of the things -- yes, I'll talk to the end markets in more detail in a minute, but one of the things that is really important is really adjusting our systems and our processes within the company to make sure we have oversight and are doing things in a way to make sure we're gaining visibility and providing executive leadership to drive that growth. And just some examples of these to touch on is we launched our innovation operating system back in 2020 to really give a platform for all employees across the company to see the strategies that were going on in the other businesses because that's not something that's always been visible throughout the organization. It's kind of got a gamification aspect to it. So there's abilities for people to comment and weigh in and share experiences and volunteer to help out or make connections or whatever that might be to really maximize those -- the strategies that the different business units are putting forward. And that's, again, as we move the culture more towards this drive for growth, having those kinds of capabilities and being able to see what's going on across the company has been a critical element to the motivation in this direction. The other area we put a lot of focus on in slightly different shift for how Curtiss-Wright managed itself is more oversight on the R&D, spend within the organization and making sure that as those ideas are out there that maybe a smaller team that doesn't have as much engineering resources, the great ideas are not passed over just simply because of the size of the team or something along those lines. And so that's something, I'd say, it's still a work in progress for us to really have that where we want it, but it's something we've made huge strides in and are really proud of what we're doing, and it's been great for the organization. I would comment that in 2021, we increased our R&D investments, that's the internally funded R&D investments by $15 million, and we've maintained that throughout the time frame. So we're really doing what we're saying and putting money back into the R&D funding to drive these great opportunities that are before us. The other thing we did is we've realigned some of the incentive programs, both in what's the more numeric calculated parts and then also the personal components to really make those incentives payouts really tied to the elements that are critical to driving growth. And so it's very much -- we're telling our employees where we want them to go. And we're incenting them for delivering on those results. Those are just a couple of the levers I would mention that are positioned to really structural changes we're driving within Curtiss-Wright that are helping us deliver on the long-term growth for the corporation. So if I look across where our end markets are, you can see the list going down the side. I would start out that one of the things that's a very clear focus for us is as we look to driving the growth, we look for driving growth in the near term, in this decade and in the decades beyond 2020. And we really are very purposeful about laying out our strategies and thinking through our investments to make sure we are doing the right things across all of those spaces. And if I start with speaking to the defense environment, we live in a world of elevated threats. And we've seen some nice increases in defense budgets here in the U.S. last year and then this year very significantly. And the future may be a bit muted going forward, but we'll see. But the size of the defense budget has grown quite significantly, and it's going to grow internationally. And we are very, very well positioned to grow with that budget. We're very well aligned with the top 25 programs within our DoD and within growth vectors of our NATO allies. One of the areas that's a great portion of the Curtiss-Wright portfolio is our defense electronics team that is really geared around the high-tech battlefield and the focus on electronic warfare, and the various advanced radar systems and communication systems that are needed. And so that is another area where we do spend a lot of our R&D is aligned to that area because we very much invest and bring products to the market, so they are commercial off the shelf. And with that, though, it's given us the ability to command very strong margins in that segment of our business. Another broader move across the globe, really, that is very well aligned to where Curtiss-Wright is growing our business is the move to electrification. And of course, this started with ground vehicles. And we've got a long history of delivering power electronics of various types into both on-highway, large buses, large trucks, off-highway, ag and construction equipment. And we are very much doing things to position ourselves for the electric aviation market. When I talk about things that really won't produce money necessarily in this decade, but making sure is that clearly is going to be a growth market going forward. We're winning content with the players, we believe, are going to be the winners in that market and making sure that we are viewed as a critical design partner with them. And then lastly, a topic that's I know probably high on everybody's mind is the drive for carbon-free energy. And both from the push for energy independence for many of the European countries as well as concerns around climate change. And our nuclear footprint is very well positioned too and is already seeing growth aligned with what's going on in these end markets. And that's both the commercial fleet here in the U.S. and around up in Canada, even South Korea and potentially even some into France, where we do a lot of aftermarket work. A lot of these plants are going to their 60-year plant life extension, and we're well positioned to capitalize on that and the build-out of next-generation reactors and have won significant content. You can see press releases on our website that talk about the content we've won with several of the key providers in this area, and we are very aggressively and actively pursuing content across that. So when you think of all those capabilities and those drivers in our end markets, you can see how -- why we do feel so strongly that we are well positioned and on the cusp of really taking this company to new heights. So the second strategy, I'll touch on this briefly, is really around our operational growth platform, and this is to really assure the work that was built into the DNA of the company as we drove those margin expansions through the late teens -- the mid-teens and the late teens, that we kept up those programs of excellence to always look for ways to be more efficient in what we do. But we've taken some of the dollars, as I mentioned, that we've created from that and are allowing ourselves to reinvest those. But we're also taking that kind of lean, best practices approach to some new areas. And I'll just touch on two that really position Curtiss-Wright for the future. One is commercial excellence. And this is really making sure how we think of our pricing and our contracts and such, is puts Curtiss-Wright in the best position for really healthy long-term growth. And an area where we hadn't done much is really thinking around marketing and sales and business development. And having teams that were largely stove piped within the business units or divisions across the organization, getting them to work more collaboratively together and share market knowledge and things along those lines. And one example of that clearly has been how we've attacked this commercial nuclear market and really being just -- really able to penetrate that market. Nobody's ever going to let me put my own slides again. So if I could move on to our capital allocation strategy. We say what many people say, disciplined and balanced, and it's very true. And Chris and I spend a lot of time really working on our capital allocation strategy, looking down the road at where we want to take the business needs within the business operationally. We're very purposeful in saying M&A is our #1 target. We continue to look through businesses. We absolutely look for both strong strategic and financial fits. And we go through 10, 20 books before we find a property that we would think would be a good fit within Curtiss-Wright. The other thing the team spends a lot of time on is very much being able to court companies that are in private hands to be able to come and join Curtiss-Wright without going to auction, and that's something we're really proud of. But we will maintain steady investments. Since 2020, we've completed the largest acquisition in our history and bought $600 million of share buyback, which we think is the best way to return share -- capital to shareholders. This is just a quick overview of some of the acquisitions that we have made since 2016. You can see they're largely focused on A&D. And we feel really proud about how they have performed and their fit within Curtiss-Wright and the growth that we have received off of them. We have a very strong due diligence process. We're very proud of what we built up as how we go in and look into companies and we won't compromise on the rigor that has brought these companies into the corporation and feel confident that we will be able to keep this up. So it kind of begs the question what -- how are we doing on our Investor Day targets from 2021 and how this is turning into meeting our financial expectations. We feel really good that the first 4 of the 5 listed here, we're squarely on track to deliver with our 2023 guidance as we have out there that we're proud of, the revenue growth in both a combination of organic and our acquisitive revenue. We've continued to grow operating margins and through incremental improvements, slower maybe than before, but showing that we are committed to incremental operational margin expansion as we continue to grow to maintain that top quartile performance. And the only target up there that I'd say, the 110% free cash flow conversion, if you take the middle of our guidance right now, we would deliver 108% free cash flow conversions over the 3-year period. Clearly, the supply chain situation has provided us a bit of a headwind. But I can assure you the team absolutely, we have plans and actions that could take us to achieving that target and the teams are focused on it. Here's a quick overview of how the -- how this lays out from achieving the various metrics in our finances since we launched our Pivot to Growth Strategy, and we're really proud of these. And I think it demonstrates that both the systems we've put in place through the operational growth platform and the actual strategies and our approach to working with customers, being an excellent supplier is really working, and we are in the process of delivering on those targets. I would say we're anticipating having our next Investor Day in May of 2024 is the current plan, and you'll hear more about that as we go forward. So if I would just say, in summary, we are very confident that our Pivot to Growth Strategy was the right strategy for the company and is the right strategy for the company going forward. When you look at where we sit in our end markets, the technologies we bring, it's the time for us to be assuring we double down and focus on this and be an excellent supplier to our customers, which is something we spend a lot of time on. Our disciplined M&A activity will remain and we believe Curtiss-Wright is in a great position, and we'll be delivering some really strong growth over the back end of this decade and into the next. So with that, I'll say thank you.

That's great, Lynn. In terms of the nuclear market, I think one of your that it represents approximately 10% of revenue and this has been a source of excitement for investors because of 2 of the secular themes that you mentioned, one was carbon-free energy, and the second one was energy independence. And of that 10%, I think most of it right now is your aftermarket energy services. Can you provide an outlook in terms of whether mid-single-digit growth for that aftermarket services division is sustainable with these secular tailwinds that you referenced in your presentation?

Sure. Thank you for that. Yes, we do believe mid-single-digit growth is sustainable in that aftermarket business. And there's a couple of reasons for this. One, the U.S. Department of Energy is committed to returning to being a nuclear power and having leading nuclear capabilities and has put funding with that. We've seen that through the Infrastructure Bill and through the Inflation Reduction Act. And they're also committed to carbon-free and keeping our current operating plants up and running. And a lot of that funding, we're seeing the impact. It's been flowing in 2023. It is the first year, we won't have an operating reactor in the U.S. close down, and that's given us a really stable base. I mentioned the plant life extensions going from 60 to 80 years. That same activity is happening in Canada and will be happening in Korea in the next couple of years. So you take all those dynamics of the funding that drive for clean energy that I think people have really recognized we need our current nuclear operating fleet to really stand any chance of reaching our 2050 carbon goals. So with that, maybe I'll turn it over to Chris to talk a little bit about the new build.

Yes. So it's a really exciting time to be part of commercial nuclear. I mean there was a post-Fukushima headwind there for 10 years, where we were fighting this consistent year-over-year shutdown of plants, low single-digit growth rate accomplished besides that. But now with the return to preventing the shutdown of plants and all this funding that's coming through these bills, that provides us with a very solid foundation for this nuclear aftermarket business to be at mid-single digits going forward. Beyond that, with the U.S. government and strong bipartisan support for regaining that nuclear competitive advantage. And there's a lot of geopolitical implications to that, not just decarbonize and energy independence, but it's very important for our nation to be a leader in this area. So with all of that funding that's come down through these acts that Lynn had mentioned and continues to come in the form of the ADVANCE Act, which is really about preparation and making sure that we can get through the regulatory approvals and the right time frames, and we have the right resources to be able to support the rapid growth that this industry is going to be facing as we move closer towards the end of this decade. There are programs like the ARDP where $3.2 billion has been dedicated towards the technologies that are with X-energy and the technologies that are with TerraPower. These are reactors and technologies that don't melt down. They have low containment zones. They're just completely different than what we saw in past nuclear. And the government is standing behind those programs with this money and this commitment to ensure that they are successful going forward. We're starting to see commercial companies step behind them and Dow Energy already committing to install an X-energy reactor in its West Coast Gulf operations down within Texas. But we are positioning ourselves not just with X-energy, where we have a strategic supplier agreement and $100 million plus content per -- for pack that they put together, but we are working with all of the major providers of these SMR technologies. So as you look at NuScale, TerraPower, Rolls-Royce, BV or XR, Westinghouse just recently announced the AP300, and we've got technology on their AP1000. They want to use the same technology. So we're very well aligned to ensure that regardless of who is taking advantage of this enormous opportunity for SMRs that exists not only within the U.S. but internationally, that we are going to be a player. Lynn had mentioned, the decades of knowledge -- the decades of experience that we have here since the inception of the industry. We are experts in not only pump technology, valve technology, but reactor, reactivity control, safety and shutdown system. So these companies are coming to us looking for our expertise to help them to design these products going forward and be successful. The ARDP program wants to put power online by the end of '27, '28. We're there. We're working on development contracts right now, small work, but it will grow over time. We have to provide that $100 million of content to X-energy in order for them to be able to meet these development milestones that they are. And that's a ramp that you're going to see on this business going forward. And then other bids and things that we're working on right now that we're very excited about. We hope to be able to talk to you in more detail next year. We're planning an Investor Day for May. We hope to have greater announcements and greater clarity over this. So very excited on the small module -- about the small modular reactor technologies that are being developed. But beyond that, there's a bridge and a transition for past Gen 3 technologies, the power plants that are currently being developed in Vogtle in the U.S. to Eastern Europe. There's a tremendous need for nuclear power over there. And Westinghouse has been doing a fantastic job in aligning itself to provide these technologies to Eastern Europe. They're going in Poland, Bulgaria, Romania, Czechoslovakia, very excited. Poland was selecting Westinghouse for its very first AP1000 reactor. We have 4 RCPs that go into each reactor. It's $28 million per RCP. They intend to build 6 plants over in Poland. That's 24 RCPs, $600 million of opportunity for Curtiss-Wright. And we've disclosed in the past, this is a very, very profitable business, 23% plus operating margins. And we consider the past commercial negotiation to be the baseline as to where we go going forward. So based upon Poland's publicly disclosed timelines, if you back up, they want power in 2033, we should be getting an order from them in the next 2 to 4 years. So if you think about 10% of our business being wrapped up in nuclear aftermarket today, layer on a $600 million -- $600 million of orders to support Poland's desires, then throw these other countries in, we're at a very interesting point within the overall Curtiss-Wright timeline, where there's a vast opportunity in Eastern Europe and something that's really sustainable that's coming our way. So we're very excited about it, and...

And that's all additive to double -- mid-single digits.

To a strong quarter.

Yes. Sure.

Yes, I know investors often reference that optionality associated with those potential pull-in orders or -- I don't know if it's potential, but the visibility is unclear in terms of when 2 years or 4 years, but that is one of the reasons that investors are looking to buy your stock, but it's also the consistency for the other business. And roughly...

If I could just make one comment. It's interesting. We put out the position with Poland and such on our Investor Day last February, which was February 24, 2022, which was the day of the invasion and that Poland had laid out their timeline before that had happened. And so we feel pretty confident that if there was anything where things tend to drift later, if the world hasn't changed since them initially putting that timeline out, you have to imagine they're working their hardest to make it as soon as possible.

Right.

Yes. And if the Ukraine war stopped, the Ukraine is much further along in certifying this technology for use. They declared 9 plants. So I know I'm kind of guessing here in a little -- in a way, but Poland has a timeline. If the war ended tomorrow, and I hope it does, I would guess that those plants would come in and orders would come in before Poland. So there's a big opportunity out there.

Great. And you referenced how those SMR orders are very high margin. And it's the overall thesis in terms of how the operating margin for Curtiss-Wright over the past decade has climbed 900 basis points. Where has that margin expansion historically come from? And what are the potential levers for that margin to continue to expand in the future beyond what you just referenced with the nuclear business?

So it's -- it's been a lot of just heavy lifting across the teams. We've done a lot of consolidations of businesses. We've driven -- we have a corporate-wide supply chain council that looks to leverage our buying power across a lot of lean initiatives. So a lot of that work during the last 10 years that I referenced really came from really driving the integration of the business, driving the integration of the back offices, IT, HR types of functions, finance, that really just took cost out of the business. But I think going forward, why I'm confident we'll continue to find margin expansion because we know we're not done with that. We have a very diverse business. There's areas we can still go in that. We have profitable business coming our way. You've heard us say, you've listened to our calls, we've put a big focus on really understanding our pricing and our pricing practices that is going to be a critical part of driving continued margin expansion going forward. And also, a thing that Curtiss-Wright does very well that gives us very strong margins is I think examples of taking an area to build a product capability that goes to one end market and then looking across our other end markets and leveraging that technology.

The cross pollination.

Absolutely. And just one simple example that is yet coming that will drive margin expansion is our canned motor technology that is for the nuclear navy that goes into commercial nuclear. We have some announcements of taking that to subsea oil exploration. And again, those are incremental R&D expansions that open up markets that allow us to really be able to drive margin expansion because we're not having to reinvent everything from the start. And so I think the structure of what we've done with the company and maintaining that operational lean focus, it has really set the state -- stage for our future going forward.

Yes. And I would just say that Lynn mentioned in our presentation that we increased back in '21, our research and development costs by 10% and roughly $15 million. That's because we see the opportunities that exists in these growth vectors to invest right now for the profitable growth of the company going forward. We've continued to provide operating margin expansion during that time frame. So all of those operational excellence programs that we put into place to help generate that margin expansion are now being leveraged and will continue to be leveraged. But on top of that, the commercial excellence program is to free up monies for reinvestment back into the organization. There's just so many exciting things to invest in right now that while we used to provide 50 to 70 basis points of expansion to just give that right back, now we've got 50 to 70 basis points of expansion, but we're investing back to ensure the profitable growth of the company. And I think you can see that within our growth rates. And it's really exciting as you start to think about the middle of this decade and where we could be beyond.

Yes.

Great. And as part of that nuclear conversation, we were categorizing the SMR business as having optionality, but the defense portion of the business is known as more steady Eddie in that you have decades upon decades of visibility on some of your platforms. Can you talk about like what major defense platforms that you are on? And what types of content you are providing to these platforms?

So we're on all of the major naval platforms that have very long-term visibility, as you just said. I would say though, we talk about our content on those platforms, we are always looking to expand our content on those platforms. So it's not necessarily just a fixed amount with the growth in those. The Columbia class is just beginning to ramp up. We have very significant $115 million of content on the Columbia class. That's going to provide dynamic growth going into the middle of this decade. And then really, across our Defense Electronics content, we're continuously bidding and winning new programs and finding new content. So I think in a lot of areas, and lastly, I guess the last one I'd mention is as NATO starts to spend more of our money, we are very well positioned for building our ground vehicles across the European countries, which is where a lot of that money will be spent. So we feel confident we're going to drive exciting growth across our defense.

Great. And that is the conclusion of the webcast. We are now going to stay in this room for the breakout session. Thanks.

Thank you.

Okay. Thank you.