Thales S.A. (HO) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to today's Thales Order Intake and Sales at September 30, 2024 Conference Call. The presentation will be held by Pascal Bouchiat, Thales' CFO. It will be followed by a question-and-answer session. [Operator Instructions]. I must advise you that this conference is being recorded. I would now like to hand the conference over to Ms. Alexandra Boucheron, VP, Head of Investor Relations. Please go ahead, Madam.

Good morning, all. Welcome and thank you for joining us for the presentation of Thales' 9 months 2024 order intake and sales. I am Alexandra Boucheron, the Head of Investor Relations at Thales. With me today is Pascal Bouchiat, CFO of Thales. As usual, this presentation is audio webcast-ed live on our website at thalesgroup.com, where the slides and the press release are also available for download. A replay will be available soon after the end of the event. With that, I would like to turn over the call to Pascal Bouchiat.

Thank you, Alexandra, and good morning, everyone. So let me start with the Q3 2024 highlights before moving on to the numbers. I'm now on Slide 2. Q3 2024 has been a new quarter of strong commercial momentum, in particular in Defense & Security. This dynamic was notably driven by large orders. Over the quarter, Thales signed 7 large contracts with a unit value over EUR 100 million, highlighting again our solid positioning in our major markets. I will come back in details on this excellent performance later in the presentation. Sales growth was also sustained, reaching a 6.2% organic growth year-on-year over 9 months. This performance was notably driven by strong growth in Defense & Security and robust trends in Avionics. Q3 was also marked by the announcement of a partnership with Mistral AI, one of the most powerful generative AI system on the market. Through this partnership, aiming at developing the use of generative AI within the group, Thales will accelerate its internal digital transformation while ensuring the strict protection of sensitive data. Lastly, we were proud to join the CAC 40 ESG index in September. This comes as a new example of the recognition by the financial community of Thales' commitment and contribution to the protection of society, the planet and individuals. Turning now to Slide 3 with the snapshots of Thales' 9 months and Q3 2024 key figures. New orders amounted to EUR 15.6 billion as of end of September 2024, delivering a robust organic growth of 23% versus last year, and reflecting the confirmations in Q3 of Thales' strong commercial activity. Sales came to EUR 14.1 billion, growing 6.2% on an organic basis over the first 9 months and 6.6% in Q3 2024. This performance puts us right on track to reach our 2024 target. Now looking into details at our order intake, I'm now on Slide 4. As you can see, the strong organic growth we recorded in both Q3 and 9 months is mainly driven by large orders. In Q3, we booked 7 new large orders, which drives to a total of 19 large new orders over 9 months. Large orders more than doubled year-on-year, which is a strong performance. All 7 new large orders in Q3 were related to Defense & Security, reflecting the strength and the excellent dynamic of this business. It's also worth noting that out of the 19 large orders awarded over the first 9 months of 2024, 2 of them were related to space and 1 to avionics, demonstrating Thales' leadership across all major businesses. The momentum is also good on smaller orders with a 6% reported growth for orders below EUR 100 million coming from all our businesses, including our recent acquisitions. Turning now to Slide 5 and 9 months 2024 sales growth. A word first on currency and scope. The currency impact was a little bit more material this quarter, minus EUR 22 million, leading to a minus EUR 38 million currency impact over 9 months. As you know, the scope impact is much more significant, resulting from the acquisition of Cobham, Imperva and Tesserent, partially offset by the disposal of the electrical activities. All in all, this translates into a positive impact of EUR 469 million, in line with expectations. The organic growth reached 6.2% over 9 months. It was mainly driven by Defense & Security with no surprise, but also by Aerospace, which still experienced a solid momentum lifted by Avionics, while Space shows low single-digit organic growth. DIS recorded stable organic growth, reflecting contrasted dynamics in the business that I will detail later in the presentation. From a geographical perspective, 9-month sales organic growth was solid and well balanced across the board, including good momentum in both mature and emerging markets. Let's now have a look on the performance of each segment, starting with Aerospace on Slide 6. Orders in the Aerospace segment came in at EUR 3.6 billion, up 8% in organic terms. The solid pace of growth reflects contrasted dynamics. Avionics continues to record a solid momentum with double-digit organic growth over 9 months, driven by both military and civil activities. In Space, order intake was down year-on-year, suffering from a challenging comparison basis. In fact, 2 large orders above EUR 100 million have been booked since the beginning of the year versus 5 in 2023. Sales reached EUR 3.8 billion over the first 9 months, an increase of 5.3% organically versus last year. This sustained good momentum was notably driven by Avionics, which recorded mid-single-digit plus organic growth, in line with H1 2024 trends. This solid performance reflects the continued strong dynamic of our IFE and Flight Avionics OE businesses. However, we anticipate a slowdown in Q4 in Avionics with an expected slower pace of growth due to delays in delivery that our clients are currently facing. Space recorded limited growth over 9 months with low-single-digit organic growth, in line with our expectations. Turning now to Slide 7, looking at the Defense & Security segment. Order intake amounted to EUR 9 billion in 9 months 2024, which translates into an organic growth of 40% versus last year. As you can see, the momentum continues to be very strong in this segment and Q3 has been again a strong quarter. Defense & Security indeed booked 7 large orders of the quarter, among which the production of 7 additional section of the new generation for the French Air and Space Forces of 2 major contracts with the U.K. government to provide short-range missiles. Our backlog in Defense & Security reaches a new high at EUR 37 billion, representing close to 3.8 years of sales, providing a very comfortable level of visibility. Sales came at EUR 7.2 billion, an increase of 8.5% in organic terms versus last year. This solid level of growth reflects a continued positive trend across most business lines. With this strong backlog mentioned previously and our continued effort to ramp up production and delivery capacity, this sustained pace of growth should continue in Q4. Now looking at Digital Identity & Security on Slide 8. As commented earlier, please keep in mind that 9 months 2024 figures integrates accretive scope effect linked to the acquisition of Tesserent and Imperva. Additionally, I remind that 2023 figures have been restated to include Cyber civil activities transferred from the Defense & Security segment. At EUR 2.9 billion, sales are broadly flat organically year-on-year. Here again, this performance reflects contrasted dynamics. In Banking & Payment Services, we keep seeing destocking in North America that is lasting a bit longer than expected. This decline in this activity is, however, offset by a good momentum in other activities, namely Cyber security and Biometrics activities are indeed recording a continued steady pace of growth. And Connectivity Solutions are delivering double-digit organic growth, reflecting our continued ramp-up in this market. Finally, concluding with Slide 9 and a reminder of our financial objective for 2024. As you understood, Q3 performance was solid across the board with a good momentum in most of our businesses. This enabled us to confirm all our objectives for this year. Book-to-bill ratio will be above 1. Sales are expected to grow organically between 5% and 6%, which corresponds to a range of EUR 19.9 billion to EUR 20.1 billion based on September 2024 foreign exchange rates. And EBIT margin is expected between 11.7% and 11.8%. Many thanks again for your attention, and I will now be pleased to take your questions.

[Operator Instructions] We will now take the first question coming from the line of Olivier Brochet from Redburn Atlantic.

I have 2 questions, please. The first 1 on space. Revenues were stable in H1. They are growing low single digit in 9 months, so growing in Q3. Is sustainable, do you think? And the second question is on DIS. Volumes were bad in banking cards. Can you give a bit more color between volumes and pricing, how this developed and whether this has any consequences on margins going forward?

Okay, Olivier. So starting with Space. Overall, I mean, considering the full year 2024, stable to low-single-digit revenue growth for me is what we have in mind. So will it be 1, 2 or 3, I mean, but this is really, I mean, this type of organic growth that we expect for the full year in Space. As you know, I mean, we might have a bit of up and down between stable and low single digit. For me, it's not that material. But overall, I mean, stable to low single digit is probably a good rule of thumb to anticipate the 2024 landing for our Space activity. So the highest -- you mentioned specifically, I mean, banking. I guess that you've also noticed that, I mean, the rest of our business is doing pretty well, in particular Cybersecurity, Biometric, as a new digital product for secure mobile connectivity. Now it's true that on Banking & Payments, we see today a market which is down versus last year. And I mean, this is mainly destocking in U.S. I mean, we're expecting this destocking to stop a bit earlier. It has continued in Q3. My view is that probably Q4 would be slightly better in terms of demand. So is it the end of the destocking? Probably a bit too early. But we see, at least, I mean, the situation stabilizing and a bit of positive news in this market. It is essentially a volume drop in terms of demand. Of course, each time you discuss about less demand, you could consider pressure on prices. But I can tell you that we are making sure, I mean, to preserve our level of margin, and our Banking & Payments segment in 2024 will still be a quite profitable business with level of margin probably between 16% and 18%, probably a good rule of thumb, I mean, for you to assess the level of margin on this business. So you see, I mean, quite good level of margin, and this is basically what we are striving for.

We will now take the next question from the line of Chloe Lemarie from Jefferies.

I have 2 on my side. The first 1 would be on the free cash flow, because previously, you had mentioned about 100% conversion for the year. Given you've had very solid order intake in particular on the large order, could you maybe say if you have like a different view on that 100% conversion in terms of potential larger advances you might be receiving at this point? And the second one is on the French tax measures. If you could share maybe first view on potential impact and how you would treat those? And whether the potential tax on buyback would change your appetite for buyback as opposed to other forms of distribution going forward?

Okay. On your first question about free operating cash flow, I mean, I keep confirming a level of conversions ratio of around 100% in 2024. It's true that overall, I mean, in terms of commercial momentum, tend to believe that at this point, it's a bit better than expected. Now you also need to take into account 2 points. I mean, first, I mean, we've got, of course, some order intake that do not come along with significant down payments, in some cases, no down payment. In particular, in domestic activity in general, there is no down payment. Down payment is, in most cases, more a pattern which relates to export contracts. So no, I mean, 100% of conversions on continued operations is basically what I have in mind. Second point on French tax. So I will answer on the potential impact on our P&L. And I will ask you to elaborate a bit more on what you mentioned about share buyback to make sure that I fully understood your question. So on French tax, I mean, first, I think it's important to consider that the 2025 budget is today under discussions at the French parliament. And there are a number of discussions of amendments, back and forth discussion, and this will continue at least until mid-December, with, of course, uncertainties of the outcome of this project at this point. Second point, it is true that the government in its project mentioned that it would like large companies based in France to contribute exceptionally in 2024 and 2025 -- for the 2024 fiscal exercise and the 2025 fiscal exercise on a specific exceptional income tax charge. Overall, what the French government has in mind on this matter regarding the 2024 fiscal exercise is to move up the tax rate from 25.8% to 36.1%. This relating to 2024. And what I've also mentioned is that relating to the 2025 fiscal year, the tax rate will move from 25.8% to 31.1%. And then it would come back to -- as from 2026, it would come back to the, I mean, standard level for all companies, which is 25.8%. Now what would be the impact for Thales? The impact for Thales on our 2024 P&L would be an additional charge, which would be probably around EUR 70 million in terms of additional income tax for Thales. And it would represent EUR 35 million in 2025. So this is where we stand today on this matter. Once again, at this point, just project, as I mentioned, a number of discussions. So we need to be a bit more patient and to wait until, I mean, the 2024 -- 2025 budget is finally approved. On your second question with regard to share buyback, Chloe, what was the -- I mean to make sure that I fully understood.

Yes. Maybe I'm jumping your head a little bit there. But my question was essentially if that 8% tax on buyback would, in the midterm, durably change your view on whether you would consider buyback over other forms of cash returns?

Okay. Probably a good occasion for me to explain a bit more. I mean these figures that you have mentioned, 8%, it's not 8% on the share buyback investment or the acquisition price. It is 8% of the nominal capital of the company plus the premium that has been recognized on this capital. When you put all of that together, for a company like Thales, this additional tax would represent probably something like a bit more than 1% of any share buyback program. And I guess it's quite clear from this statement that this represents an additional chance that wouldn't change overall our assumptions to move on, on this type of program. Once again, and of course I need to be clear, share buyback at the end of the day is the decision of our Board. But I think it's important for me to share this figure, because 8% seems pretty high, but it is applied on underlying amount, which is quite significantly reduced as compared to what would be a share buyback investment overall.

We'll now take the next question from the line of George Zhao from Bernstein.

First question on Avionics. You mentioned the slowdown in Q4. I guess what kind of growth are you expecting for Q4 given the slowdown? And remind us what's the OE versus aftermarket breakdown within Avionics. Second 1 on Defense. I think in the press release, you had some more positive comments here in the past, calling this unparalleled visibility. So what does this mean for the growth outlook though? We've only seen very minor tweaks from mid-single-digit to mid-single-digit plus growth in recent years. So any clarity on that?

Okay. George, I will start with your second question, because it was more clear. The light is not that great. So let me start on Defense, and will ask you to repeat your questions on your first one. So on Defense, it's true that overall, I mean, the level of growth that we delivered in the first 9 months of 2024 is a bit above our expectations, 8.5%. And what I mentioned is that I'm expecting our Q4 growth in Defense & Security to be quite close to this level. So which means that overall, 2024, in terms of organic growth, would be probably, I mean, close to what we have just delivered in the first 9 months, which is overall pretty good. Now, I mean, what does it mean for the future? And as you know, I mean, we will have our Capital Market Day in a few weeks, where we'll discuss about what we expect in terms of growth for all our businesses. My view in the midterm, in the next few years, and considering that I think, I mean, this level of top line growth of 8.5% is not, in my view, sustainable in the long term overall, probably what we are going to share with you is the level of organic growth for Defense in the next 5 years that should be probably between 6% and 7%. This is today my view on the long term. Can you come back on your first question?

Yes, sure. Just on Avionics, you hinted at slowdown in Q4. I'm just wondering what are you expecting? And remind us what's the current OE versus aftermarket revenue breakdown within the Avionics?

Okay. So it's true that what I said, overall, I mean, in the first 9 months of 2024, we are overall pretty happy with the overall revenue growth of this business. I mean, a mid-single-digit plus overall top line growth, which is -- I mean, you asked for a split between aftermarket and OEM. Aftermarket is more of mid-single-digit. And OEM is, at this point, more closer to double digit. First point. Second point, what I mentioned in my presentation is that we expect a slowdown in Q4. And in particular, when it comes to our IFE business, also a bit on our cabin connectivity business, but in particular, on IFE. And the reason has nothing to do with Thales. It is because we see our clients, and in particular when I talk about IFE, airlines, being more and more penalized by late deliveries of both aircraft when it comes to new aircraft delivery, but also when it comes to cabin retrofits are penalized by late delivery from some seat manufacturers. And it's true that a number of our clients at IFE have asked us, I mean, to stop delivery, because they don't have either, I mean, the seat they need or the aircraft that they are still waiting to be delivered. So I mean, the impact overall, when I look at Thales, overall, in 2024, in terms of level of revenue is not that important. But overall, it's something that could represent probably something around EUR 100 million of missed revenue for Avionics in 2024. Now the good thing is that it's going to be postponed. And hopefully, both Airbus, Boeing and the seat manufacturers will be able, I mean, to recover in terms of speed of delivery.

We will now take the next question from the line of Carlos Iranzo Peris from Bank of America.

I just wonder how are you doing in terms of supply chain in Defense? And particularly, if you could provide an update about the sourcing of PCBs, that would be great, please.

Okay. So overall, Defense and supply chain, I mean, overall, I see some improvements on supply chain for our Defense & Security business and probably more on the hardware part of supply chain than on PCBs. So yes, overall, probably doing a bit better. We still -- I mean, PCBs in Europe and in particular in France, still significant difficulties to get the right level of supply on PCBs. Now you have seen that it has not prevented us, I mean, to deliver a level of revenue that is overall above expectations, but at the expense of a number of disruptions, difficulties, arbitrage within our various businesses. So a situation which, in my view, is not sustainable. So it's very important that we keep working very hard on this matter, so that, I mean, PCB availability will increase for us, I mean, to come back to a more normal way of operating our plants, which is still not the case today. So in a nutshell, at this point, quite a low impact in terms of revenue, but a number of difficulties, disruptions that is, of course, not positive.