The State of the Aerospace Industry Following Q3

Hello everyone, and welcome to a brand new episode of Getting tech medical with tech medics I'm your host, Tyler Curran. Thanks so much for joining us for another episode of The show. Now today we're talking about the Q2, Q3 earnings of a handful of aerospace companies to get some insight into where different markets are heading. And joining me here once again on the podcast is Jason Riggs, and he's going to be discussing the 2022 Q2, Q3 earnings of Heiko transdigm, Embraer, Boeing and Parker, along with insights gained from conversations with individuals from each of these companies. So Jason, for those who may not know who you are, please give us just a brief introduction into yourself, your career path and your current role at tech metrics. Sure well, first off, good morning. Thanks again for having me back on, Tyler. It's great to be back with you. So my role in tech metrics, I'm the director of sales for North America. And what that means is I'm responsible for our sales activity in the Americas for all markets. And additionally, I have global responsibility for our sales kind of structure and strategy in the aerospace market. So as technics were a global company, I have peers in Europe that kind of handle the sales operations over there, and I support by ensuring that we have a kind of a cohesive global strategy for aerospace. My career progression, I started as a mechanical engineer doing design work for a couple of different aerospace companies and join tech metrics going on almost 10 years ago. I've done everything from regional sales manager, North American sales manager and most recently I was responsible for strategy development for the North American businesses. So I recently just kind of moved back into a purely commercial role, and I'm very happy to be here with you today. I love it. I love it. Happy to have you on once again, Jason. So today we're discussing the 2022 Q2, Q3 earnings with several major aerospace companies, like I mentioned off the top. Why do you track this information and tell us a little bit more about its significance? Yeah, that's a great question. So I try to do this every quarter, look at earnings reports, listening to earnings calls from our peers, competitors and other players in the market. And there's a couple of reasons for that. One, it's always interesting to hear what our peers and our competitors are saying about the markets, especially in times like these, where markets like aerospace have really kind of seen drastic fluctuations, kind of pre and post COVID. So the crystal ball is always a little bit murky. So it's helpful to just listen and hear what our peers and competitors have to say about the markets. Also right now, I find there's a lot of value in hearing from those folks on the supply chain issues that they're facing. I mean, naturally, when you're listening to an earnings call these days, you will hear about supply chain issues. So it's interesting to hear the types of issues that some of those folks are facing in the supply chain, some of the actions they're taking to mitigate some of those issues. And then the last thing I find kind of interesting, especially right now is kind of hearing commentary from peers and competitors on geopolitical issues, especially in the aerospace market there. There's just a lot of things happening outside of our backyard that really affect everything from market demand to the flow of raw materials, if you will. So I find a lot of value listening to those folks kind of on those fronts. The other reason that I spend a lot of time reading and listening to these earnings calls and earnings reports is I always find it interesting to hear what the Street is thinking about. So when you listen to an earnings call, there's always analysts from different banks and so on that represent the investor community. And their questions, their line of questioning really kind of indicate and suggest what are they thinking about, what are they worrying about, what are they excited about? And there's value there, whether it be as we think about our organic growth strategy, but certainly as we think about our inorganic growth strategy as tech metrics and mpro, it's always interesting to kind of know what the investors are excited about or what's worrying them. So I find kind of getting that insight from the investment community very, very helpful. In addition to these earnings calls and reports, I also read a lot of forecasts and kind of opinion pieces from industry experts in aerospace in particular. There's a couple of key firms that that's all they do is really kind of look at the data, read the tea leaves, talk to executives. So as I listen to earnings calls and commentary from peers and competitors coupled with industry analyst reports and forecasts, I'm better able to kind of triangulate in on where I think the markets are going, where our competitors are going, where the money's go. Throwing in all of that really kind of better positions me in our business to forecast to deploy resources appropriately and really just to kind of reinforce what we think we know about where our markets and our businesses are going. Yeah, I think that's really well said and really well explained as to why this is so important to track and to discuss. And so let's dive in and discuss some of these overall trends that we're seeing. Are you seeing the earnings are up, down or roughly the same from this time last year? Depending on what the answer is, what does this mean for the industry? So most of the companies that I track saw significant year on year increases in both sales and EBITDA profitability. Again, looking at this previous quarter, just about everybody is experiencing book to Bill ratios above one. And really what that means is they're taking in more orders than they're shipping. So they're building a backlog. And that's a good kind of barometer of market health. We have to be a little bit careful with that metric because it can also kind of highlight supply chain constraints, production constraints. But in general, a book to build ratio above 1 is always a good thing. And we didn't see that both at the OEM level, i.e. Boeing and Airbus and the supply chain for some amount of time as we went through COVID. So the fact that we're back to book to Bill ratios above one, that's very positive. The other kind of overall theme that I saw is everybody wants to move faster, whether it's the oems, specifically Airbus, who is pushing really hard to increase production rates or even tier one's tier twos in the supply chain. Everybody wants to make more get more out the door, move faster. And the reality is, there's just too many constraints, whether it be in the supply chain or personnel to be able to do that. So really, the takeaway is we don't in aerospace, we don't have a market or demand problem. We have a capacity in manufacturing and really throughput problem, the market's there. Just the industry's ability to kind of get stuff out the door is really where the challenges lie right now. And that's a drastic kind of turn from where we were kind of in the heart of the pandemic. Yeah, it is really interesting to see that shift from where things were. Yeah like you mentioned in the heart of the pandemic. So let's do a deep dive into the individual companies and take a look at some of your key takeaways from there. So take us through some of these key companies that you take a look at and walk us through what we need to know and what the takeaways are there. So in general terms, if your business is connected to Airbus, especially narrowbody jets, you're in great shape. If your business is connected to the f-35 Joint Strike fighter, you're in great shape. You know, these are some of the areas within commercial and defense that just continue to really dominate, frankly. Conversely, if your business is tied to widebody twin aisle jets, you're feeling some pain right now because that's one sector of the commercial aero market that's been declining and will continue to suffer probably through the remainder of this decade. More specific to some of the company names we talked about, Heiko and Trans are two companies that I follow and both are experiencing double digit year on year growth in both sales and EBITDA. Those are two businesses that continue to do very, very well. And there's a couple of reasons for that. One is both of those businesses are connected to the right markets. So they place their bets in businesses. They acquire businesses that have the right platform content. So as I mentioned previously, there are certain platforms that you really want to be on and there's some that you don't. And these two businesses really know how to place their bets. Well So they're on platforms that are growing. They're on platforms that have continued demand into the coming decades, which allows them to make appropriate investments. The other thing I see with these two businesses in particular is they have a nice balance between the OEM business and the aftermarket business. And right now. And by and large, the aftermarket tends to track number of flights or just pure passenger demand, if you will. So in other words, if people are flying, if demand is there, if aircraft are taking off regularly, MRO is kind of tracking the same way. And right now, that's the case. So so these businesses have good OEM content on the right platforms, but they also have that nice MRO content which tends to be more profitable. And right now that's growing. And then the last thing I see with these two businesses is they both have strong product IP. So they're not selling commodity goods, they're selling high IP engineered products and solutions which allow them to command a higher price in the market. So for those reasons, those two businesses are doing well and had nice earnings reports. If we kind of switch to the airframe, for instance, and we think about business jets, for example, Embraer in Brazil continues to perform really well, which is interesting because as you may recall, they were for sale at one point. Boeing was going to buy them. That all kind of fell apart. And then there was this question of can Embraer continue to perform and grow on their own without a larger kind of parent holding company? And the answer to that is Yes. They've seen really nice improvement in pro forma EBITDA margins. In other words, the outlook is very bright for them. They're doing really well and they're in the right spot in the market. Kind of sticking with the air framers. Boeing, on the other hand, is really struggling due to a variety of reasons, many of which have been well publicized in the media. There are some bright spots within Boeing, but by and large, that business is not doing as well as many of us would hope to see. Conversely, Airbus is doing very well. They continue to thrive, especially as the a321neo really continues to grow and dominate that middle market. I mean, it really is uncontested in that space. So Airbus is just doing really well across the board. So in addition to airframe and components, folks, I also look at some of the systems players. So for instance, if we think about Parker, they experienced about 10% organic growth versus prior year. EBITDA margins continued to increase. So that's a really good sign for folks at that level in the supply chain. So really, by and large, everybody I look at and kind of follow. Enjoyed really nice quarter on quarter and especially year on year growth in this last reporting cycle. That's really, really interesting. And I enjoyed that breakdown just kind of company by company. Now I want to go back to something that you said pretty early on in that response, Jason, and that was the trouble with the widebody aircraft market. Can you elaborate on that a little bit more and tell us what we should be looking at there? Yeah, so widebody is interesting. It's generally kind of viewed as being tied to international travel. And so the easy takeaway is to say, well, post COVID people aren't traveling international and therefore widebody is in bad shape. And that's true. But the reality is, right before COVID hit, there was really a starting to we were starting to see a shift away from widebody airplanes like the a321neo, for instance, really kind of started to get a lot more attention. So there was already a shift towards some of these larger single aisle. Airplanes and then once COVID hit and international travel did indeed decline, really die. For all intents and purposes. It just kind of further accelerated this shift towards other larger single platforms. So international travel is coming back to a degree in most of the world, not Asia. But as it comes back, it's being serviced by a single aisle platform. So widebody, it's in trouble. It's going to be in trouble for a long time. I mean, I would say just based on what I kind of hear and read 20, 30, maybe even mid 2030s until widebody is kind of back to some new baseline. So it's just not a great place to be. And again, we were starting to see some of the writing on the wall back in say, 2019 and now it's official. It's just a bad place to be. Yeah, that's really, really interesting. And, you know, I want to go back to when you talked about how the majority of the companies that you look at were experiencing year on year growth. Are there other market segments that will remain hot going into 2023? What do you see as far as going into 2023? What stays hot, what continues to grow, moving forward? Yeah, so most of the industry is actually looking really great. Moving into 2023, I'll highlight business Jets as an example. Business Jets continue to perform very, very well and business jet is kind of a broad category that encompasses everything from small little borderline regional Jets to what they call now the ultra top end of the market. And all of that market segment is really performing very well. Honeywell is a company that we follow closely, and every year around the NBA show, they release their global market forecast that really focuses on business jet. And that recent forecast showed that in 2023, they're calling for business jet deliveries to increase 17% over business jet deliveries in 2022. I mean, that's a pretty significant increase. And that really is in line with kind of what we're seeing and those portions of our business. The other thing that they look at that I find interesting is they actually interview operators in that space. So anybody from a small private corporate pilot to a fractional owner like a NetJets and 97% of the respondents said they plan to fly as much, if not more, in 2023 than they did in 2022. So another kind of key anecdote suggesting that market will continue to remain strong in not just in 2023, but really throughout the decade. So, again, the forecast that we're seeing from them. And what we're seeing kind of at our level in the supply chain suggests that business jet is going to continue to be strong really throughout the decade. And that's great news for us because at technet x, we have a lot of content on those platforms and a variety of content. So in other words, most of the product lines that we offer in North America have application on business Jets. Anything from managing the noise coming out of an APU to seals within a gearbox to small metal seals, static metal seals in components such as a valve. We have a lot of content spread across those platforms, so we're really encouraged by what we're seeing really kind of throughout the end of this decade in that market. So from my conversation so far, it really seems that the industry appears to be recovering from the effects of the pandemic. So what do you see these numbers, meaning for 2023? And also what potential challenges lie ahead that might change this current growth trajectory that we're seeing? Yeah, a great question. So the first thing we look at is demand, passenger demand. Do people want to fly? Does the data suggest that they are buying tickets? Do forward bookings suggest that they're going to continue flying? And right now, it looks really great. I mean, what we're seeing is the market demand is there. Everywhere in the world except China. If we take China out of the equation, the market demand is very strong. China is the exact opposite. It's very, very much suppressed in China. The demand is just not there. There's a variety of reasons for that. But as we think about going into next year, we always are keeping an eye on demand. And we have to continue to watch, obviously, what's happening globally. We have to keep an eye on what's happening in China. There are some suspicions that things will loosen up really kind of tied to their political cycle, if you will. So we'll be keeping an eye on that. And then, of course, the rest of the world, what's happening, what's happening in North America, what's happening in Europe in terms of demand. But right now, all indications are that everything's going to continue to be strong. But what we do know is every major Western market is back or nearly back to 2019 levels in terms of passenger demand. So that's really significant because as we went through COVID January 2020, sorry, January 2020 kind of represented the peak, if you will, in the era market. So the question has always been, when will we get back to that peak? Well, the answer is we're just about there in most major markets, with the exception of China. So we think that's going to continue. The other thing we look at as we move into 2023 and beyond is jetliner production. So usually you would expect the production kind of tracks with demand, but that's not necessarily always the case. What really drives jetliner production more than demand is a couple of things. One, the cost of fuel and oil, and then to the cost of capital. So the reason for that is the cost of fuel is really important because that's a big driver for airline profitability. And there's an old adage that when demand is good, airlines will order jets, and when they're profitable, they'll actually take those Jets. So we need the airlines to be profitable. And for them to be profitable, we need oil to be kind of in its sweet spot, if you will. Right now, it's pushing up 100 up towards $100 a barrel, and that's starting to get up towards that pain point. The other reason that fuel and oil is important is the newer Jets are more efficient and the justification for a more efficient jet gets stronger as fuel and oil gets more expensive. If fuel is very, very cheap, it's harder to justify buying a new, more fuel efficient airliner. So there's some give and take when it comes to the cost of fuel. There's a kind of a band. You don't want it to be too low. You don't want it to be too high. Right now, we're kind of up towards the upper end of that range where we'd like to see it. So that's something we'll be keeping an eye on. The other thing I mentioned is the cost of capital. Obviously lower interest rates bode well for buying more jets, but really it's that ratio of cost of oil and fuel to cost of capital that's more important. So while interest rates are higher than probably all of us want to see, we're still in a range that is, I would say, advantageous for jetliner production. So as of right now, that's all looking pretty good. But those are the types of things we're going to be keeping an eye on as we go through the year. And then the last thing I'll mention, of course, China. China is a significant portion of this market. So when we think about jetliner production, as goes China goes a significant portion of the order books for the major OEMs. So we'll keep an eye on that. But then aside from China, just other geopolitical issues, right. So as we think about the Russian invasion of Ukraine, that has a significant impact on the supply chain, i.e. the production of things like titanium. So whether it's that situation or other geopolitical issues that arise, these can affect things like supply chain, raw material shortages, et cetera. So if we have passenger demand and everybody wants to build Jets or we can't get material, we have a new problem. So all of these things are kind of key factors and indicators that we monitor throughout the year. And as we go, as we're going into 2023, everything is in pretty decent shape. Again, we have a very strong market. Backlogs are very, very healthy. Some of the supply chain issues are starting to level out, so we feel pretty good about where we're at going into the year now. You talked a lot about fuel kind of throughout that answer, Jason, and something we've talked about in the past has been the sustainability moving forward of the industry. So the industry has said that it wants to be carbon neutral by 2050. What technologies are being developed to achieve that goal? And do you think the 2050 timeline is reasonable at this point? Yeah so when we think about technologies that are going to get us to net neutral, it's really a three horse race at this point. It comes down to electrification. So in other words, planes that are powered by batteries typically is kind of the thesis there for electrification. The second would be hydrogen and hydrogen. As we talked on our last podcast, there's a couple of different ways you can use hydrogen. You can burn hydrogen in the turbine, or you can use hydrogen in a fuel cell to generate electricity to power those electric motors. So all of that kind of falls in that hydrogen bucket. And then the last potential solution would be self sustainable aviation fuels and possibly other biofuels. So again, electrification, hydrogen and staff are really kind of the three leading technologies that can get us there. The reality is, it appears, and this is my opinion and it seems to be reflected by a lot of analysts, it really appears that staff is the most likely solution, at least over the next 10 years. And there's a lot of reasons for that. One, it's effectively a plug and play solution, right? You can leverage the current infrastructure. By and large, current turbines can burn it with some exceptions. But I mean, for instance, right now, their modern Jets can burn some mix of kerosene and sustainable aviation fuel. Today, there are some challenges, right. It does use and have some impact on feedstocks. So there are questions to be answered there right now. What are we doing to the food supply if we become overly reliant on biofuels and so on? But there's a lot of work being done there to be able to build these or I should say manufacture these biofuels without necessarily impacting the feedstock. So it's not a perfect solution. But again, as we think about those three technologies, it appears SAF will be the one that will get us at least through the next 10 years. Now to your question, will we be there by 2050? Remains to be seen. I believe the motivation is there and I would say my opinion is staff will get us probably to 20, 35 and then 2035 to 2050. I think that's where some of these other technologies are going to have to step in if the industry is truly going to be carbon neutral by then. My hope is that over those next 10 years as we get into 2035, that we'll see significant advances and say battery technology, for instance. I mean, if there's new chemistries and battery technologies that are available that have higher energy densities, perhaps something like pure electric that's really not viable at this point becomes a contender. I would say the same for hydrogen. One of the big challenges with hydrogen really is storage. And there's a lot of people working on both just drop in storage solutions and also. Alternate aircraft designs that better accommodate hydrogen storage. So the hope would be that 2035 to 2050, some of those more forward thinking ideas that are being kicked around become more commercially viable and bridge that gap between just swapping out kerosene for saaf and actually getting to something that really allows us to be kind of carbon neutral. Well, Jason, we've covered a lot of ground on this podcast today, and we haven't even had the chance to dive into defense contracts, wage increases, inflation, all these other topics that we could potentially sink our teeth into. But for this episode, what do you hope people walk away with? What sorts of things do you hope that people maybe take away from what we've talked about here today and and maybe learn from this conversation? Sure so in the vein of, I guess, looking back and kind of thinking about earnings reports from previous quarters, the takeaway is businesses in this space are doing very well. And as we think about moving forward and think about what we're seeing, what analysts are seeing, I would say the takeaway is the market is looking really, really good for the balance of this decade. But there's a handful of things we need to be mindful of. Right everything, as you mentioned, from challenges in staffing, wage increases, supply chain issues that will continue to really probably be a challenge for a long while, especially as geopolitical issues, new ones arise in the current ones kind of continue. And then lastly, just passenger demand, right? There's always talk of global recessions. And so on. And are these things deep enough and wide enough to where they may potentially have a meaningful impact in discretionary spend and ultimately passenger demand? Right now, we feel very good about where we're seeing we're seeing all these things go. We feel very good about the way tech is positioned in these markets. We definitely have the right products and the right technologies today. And we also have a lot of development work going on in the background to help our customers kind of reach some of these future goals that we've talked about. So we feel really good about where we're positioned and we feel very, very good about where the markets are going. But we always need to be mindful about some of these kind of extraneous factors that could change things over the next couple of years. Very well put and very well said. Jason Riggs of tech networks, joining us here on the podcast today. Jason, Thank you, as always, for joining me, for diving into these topics and explaining a little bit more about what we've seen in 2022 and what we're expecting in 2023. I appreciate it. Yeah, my pleasure. Great great to see you again, Tyler, and Thanks. Thanks so much for the time. Absolutely absolutely. Great to see you as well, Jason and everyone, Thank you for tuning in to another episode of Getting technical with tech networks. Of course, for more visit to cnet.com, to stay in touch with the folks there at technet and to learn more about some of the topics that we discussed here today. If you want to dive in and explore more about technet, technet is the place to do it. And stay tuned for upcoming episodes of the podcast. We'll be back soon with those. But for Jason Riggs, I'm Tyler Kern. We'll see you next time.