Thank you very much. I'm here with Gunnar Kleveland, President and CEO of Albany International. Gunnar, thanks for being here.
Glad to be here. Thanks for having us.
Can you start out by providing a brief overview of your two business segments, help people get oriented around the Albany story?
Yeah. We are two business segments, but we have a foundation of weaving and material science that one of the businesses grew from. We have machine clothing, which is a strange word for many, but it is the belts that go on, for example, paper machines. Paper machine clothing. We also have engineered fabrics. The foundation on a lot of these parts is weaving. We make the forming belts for paper machines. We make the press to take more water out of the paper, and we make the dryer, as well as some specialized belts. Not all of them are woven, but a lot of them are. A nice way to think of it, our business is we're the only thing that touched the paper. They need these belts to make the paper. Also, it is a consumable.
Every belt is specifically made for a position on a paper machine or other industrial machines. They have to be exchanged as they're making different types of papers or other materials. We took this capability of weaving, and we brought it into aerospace. The company, several years ago, partnered with Safran. I'm really proud of the company for taking on their first part that they went after in aerospace, which was the fan blade on the LEAP engine. That's something that the company should be very proud of and something Safran should be very proud of for taking this on. All of our weaving expertise was used into weaving a three-dimensional shape that we put into a tool and then insert with resin and then cook, essentially.
It becomes a near-net shape part that is the fan blade on the LEAP engine that goes on the 737 MAX, as well as the A320. In 2019, we showed the capability of building 30,000 blades a year. It is something we have industrialized, and we have become very, very good at. The company wanted to expand their capability in aerospace, so went out and actually made some acquisitions. They bought Harrier Composites in Utah, Salt Lake City, and Texas Composites in Bernie, Texas, which is outside of San Antonio. Have since expanded into Mexico, as well as an acquisition in Germany, SIRCOM, that does thermoplastics and winding. That is the two businesses. Aerospace is growing very nicely, and machine clothing is a bit more stable on the top line, but has shown tremendous growth on the bottom line.
That's great. It sounds like it's that core capability, that expertise that connects the two.
Exactly.
You joined the company almost two years ago now. What's one thing that you've learned since taking the job that really surprised you about Albany?
Really, it is how much I like the Machine Clothing business. I spent a large portion of my first six months in the role trying to understand Machine Clothing, understand our position in the market. I think what surprised me the most was the enormous amount of technology that goes into creating these belts and enabling them to make our customer be successful in making their product, which 70% of it is paper. We also help make other sorts of industrial pressed wood and hardy board and things like that.
What are some of the secular trends that are impacting both segments of your business?
Aerospace secular trend seems to be insatiable. It has a lot of growth in front of it. I think I'm excited to see Boeing get back in the groove. I hope they can continue to do that on the commercial side, lots of product, long backlog. We are part of several of the programs there. On the defense side, very strong new growth. For example, the MV-75, which is the FLAIR program, NGAD, CCA. You have this whole new area that is advanced air mobility, where we are engaged with Beta, among others. We see growth there as well. Our latest growth has really come out of space. The aerospace part of our business has a lot of opportunity, and it's all about harvesting it and growing with it.
The secular trends on the paper industry, people tend to focus on the newspaper reduction. We understand and we see that in publication. Eventually, there will always be made paper. Eventually, that will flatten off. If you take paper and you offset it with the growth in packaging as well as tissue, tissue is probably the biggest growth that I see. You can think of an overall secular trend in paper to be GDP minus-ish. There is growth there. We have a very strong position in that market, and we're okay with slow growth. We're really focusing on the returns and the phenomenal cash flow we're getting out of that part of the business.
That's great. Maybe one more high-level question before we drive into the two businesses. A lot of talk around tariffs and obviously some uncertainty there. How do you assess the potential impact to your businesses?
We are very marginally impacted by tariffs. And there's a couple of reasons for that. We are regionalized. So when we do business in North America, it is covered by USMCA. We have factories in Mexico, U.S., and Canada. There's continuous movement of parts between the three countries. So as long as USMCA remains stable, we're in a really good position there. Europe is similar. And frankly, our acquisition of Heimbach enabled us to be more regional in the area. And we've done some other changes of that business to help their regional footprint. And then Asia, we support mostly out of China. So that enables us not to have impact of tariffs. There are certain parts that we make in the U.K. and in the U.S. that we support the whole world with.
We are looking at whether we need to make changes there or how prices will be affected going forward. I would say that we've been mostly spared.
Good. Glad to hear that. Let's dive into that machine clothing segment. From a customer perspective, what's the biggest value proposition that Albany offers?
Quality. We are known for having a phenomenal product that helps our customers save on their biggest cost input. The machine clothing is 1%-2% of the cost of making paper. Most of the cost comes from the pulp and the energy and water. We enable our customers to retain the pulp, get the water out of the product, use less water, and use less energy. In general, we have a double-digit price advantage to our competition because of our quality of product. The reason why we have such a good quality of product is we spend 4% of our revenue on R&D. We are continuously developing and putting new product into the market. That is a position that we intend to stay in.
When you think about competitive advantages, what else would you say that you're doing better than some of your peers?
Customer service. Customer service is essential. A paper machine that is not working or not running or has issues is a big drain for our customer. Our salespeople are also service people. We are with our customers as much as we possibly can.
You talked a little bit about the secular trends for that business. What are some of the paths to organic growth?
Organic growth? I think we have opportunity in expanding our portfolio of products. Engineered fabrics is an area where we make or we help make laminate, compressed wood, cement board, and so on. It's an area that I think we can use our technology to grow our presence in that market and is an area that we can expand. The challenge with the paper industry is that it's really an oligopoly. You have to be careful about how you operate in that. Also, some of our competitors are also making the machines. We operate carefully there. We believe that our quality will give us the position in the market that we have endured for many years now.
You talked about the margin and the cash flow profile of that business. What are some of the paths to further margin expansion?
It is amazing how good returns we have on this business. We are right now able to further expand that through our acquisition of Heimbach. They were not having the same returns that we have. We are able to use our know-how, knowledge, and technology to help them get to a point where they are close to the returns that we have. Even if you're not seeing growth on the top line over the next several years, the synergies that we are experiencing through our actions around consolidating and improving their productivity will show up in our overall margins. The margins you should see grow throughout this year and next year and beyond that as well. That is the biggest opportunity to grow our margins.
That's great. It sounds like integration is going well with Heimbach. Are you on target to meet your original synergy target there?
Yes. This is an opportunity to reach a forward purchase multiple of 3.5-4, which makes it a great acquisition. We're absolutely on track to get there. We've had a few headwinds. The softer market in Europe last year was challenging and lowered our output of Heimbach, which compressed the margins because of absorption. That, in addition to a Chinese customer that stopped producing paper and are slowly coming back again right now, has had an impact. We also made a decision on some of the product lines that Heimbach made that did not make money to get out of them. We have had a compression on the top line. Even with that, we see an absolute path to the forward purchase multiple. This is a good acquisition.
That's great. Do you think M&A will continue to play a strategy for this segment?
There's very few left, right? I think if you have to look at exposure, it is Southeast Asia. That is a growth area both for paper machine as well as clothing, as well as engineered fabric. There might be opportunity there. Whether that's organic or inorganic, we'll take a look at.
OK, great. Now let's shift over to the aerospace portion of your business. What are some of the large commercial or defense programs that you're on?
Yeah. So we are tied up with Safran on the LEAP engine, which is our biggest program. It's great to be on there. Safran is a great partner for us. We spend a lot of time with them. Obviously, we're going to Paris next week for the Paris Air Show. I think the LEAP program has potential to get back to the 2019 volumes now with Boeing producing lately with 38. We hope they continue to do that. That'll have impact to how quickly we ramp up again. It'll remain the biggest program. The second largest program we have is the CH-53K. CH-53K is a program that we had some parts on but took over the empennage from GKN in the middle of the ramp-up. It's been a challenging program for us, but it's a great program for us over the long haul.
By the end of this year or end of third quarter, we will be at the rate of two per month, which we will stay on for the next about eight years. This is going to make us very good at that program. We can recapture some of the loss that we had during the ramp-up, which is not uncommon. Talking about CH-53K, it is part of Sikorsky, part of Lockheed Martin. Lockheed Martin is our largest customer. The other programs there are the Joint Strike Fighter, the JASSM, LRASM. That is all very good business for us that we make primarily in Salt Lake City. Other few to mention could be, I think, GE is coming up as a strong customer for us, as well as Beta for the AAM market. A space company that we cannot share who is, but is a great customer for us.
That's great. What's your approximate mix between commercial and defense?
We are getting close to 50/50. We're still a little bit higher on commercial. My goal is for us to get up to 70% of defense prior to the new single aisle. This will take a few years because when the new single aisle comes along, we believe that we'll have a significant presence on that program, both on the engine as well as the aircraft itself. It will take us back to 50/50, which will be the ultimate goal.
OK. Appreciate that. What's the biggest competitive advantage that this business has relative to its peers?
3D woven. There are a lot of composite suppliers out there. Actually, I'm going to tell you several. Currently, we deliver 99% on time. I used to be on the supply chain side of an OEM, Bell Helicopter. If I had a supplier that delivered at 70%, I wasn't happy. I was happy because it was so much better than some of the other suppliers. 99% is unheard of. We are very good at delivering piece parts to our customers and a quality part. That is a competitive advantage. Right now, I actually think it's a competitive advantage that we are a public company because so much of this part of the industry has been taken over by private equity. Our customers tend to want to work with us, which can make us be a little bit more selective.
I am not opposed to continuing to take on work that is structures. We need to be paid commensurate with our performance. That is why I am saying we are being a little picky. We do braiding and RTM. That is the future of composites in the aerospace industry. The two on the bookends, RTM and 3D weaving, is something we are very good at. There are other people that do RTM. There is no one else that does 3D weaving. 3D weaving is a way of creating a shape with strength in every direction and with a fatigue capability that is unlike anything else. We are set up with a technology that can replace metals, and maybe specifically titanium, with a 100% domestically sourced product and a lead time that is very low.
I mean, we're talking months from when we buy the material until we have a part versus, for example, titanium that can be years, all domestic. We have a capability that we have shown that we can industrialize it and make 30,000 a year. There's no one else that can do that. I think you asked me earlier what am I surprised about. This is the second thing that I'm surprised about. Why haven't we expanded that beyond what we're doing on LEAP, on the blade and the fan case? All of our effort right now is around how do we expand our portfolio of customers on 3D woven RTM parts.
You talked a little bit about those programs that you're on. Do you operate under long-term contracts or LTAs?
We do. We have some that are longer, CH-53K. We have some that are more normal within the five years. I like long-term contracts. With Kriston coming in from Lockheed Martin, having been in their Chief Procurement Officer role, we have a capability around contracts with both him and the team that he is building around him that sets us up to be able to make strong, primarily five-year long-term contracts, both with our customers as well as with our suppliers.
That's great.
That is part of it. Yes, we're focusing a bit more on operational excellence right now, but more to come.
Yeah, it provides good visibility. Are you sole source on the work that you do?
We're sole source on some. Where we have 3D woven, there is nowhere else to go other than if you want to repurpose into metal or hand layup or something like that. Another area that we are expanding in where I think we will have a similar position is on hypersonics. Carbon-carbon, our capability to 3D weave a form that is near net shape or net shape and pressurize, carbonize into a carbon-carbon part is a competitive advantage to others that have to use a lot of machining afterwards. The carbon is very, very expensive. We have a cost advantage there. We've also done all of the investment on this on our own so far because we have a way to do that with our strong cash flow coming out of machine clothing.
Going forward, we're going to see if we can get some help to truly industrialize that part of the business. Hypersonics or carbon-carbon, high, high temperature parts is an area where I think you'll see a lot from us in the next two to three years.
Great. You talked earlier about Boeing getting the rate up on 737. What impact does that have on your business as both Boeing and Airbus continue to increase rate?
The LEAP program, we obviously see the increase. We're managing through that. The other area is 787. We make the frames there. That's good work for us. It's not been a great place to be with the lower volume. The higher volumes are going to improve our position as well as profitability on that. We have parts on all of Boeing's aircraft that are composites. We have some. All of this will be positive for us.
You projected lower LEAP revenue this year. What's your outlook for that going forward?
I met with Safran last week. I'm meeting with them next week. We will announce something after that. At the latest, at the next earnings call, we took a very conservative approach coming in this year because we were more aggressive and optimistic in 2024, which put us in a position to have to step back significantly and put us in an inventory position. We're past that. If Boeing continues as we expect, there's upside there.
What were some of the drivers of the programs behind the EAC adjustments over the past few quarters? What's the latest on those, if you could share some updates?
Yeah. We have two programs. If you look at it, the whole company is doing very well. We've had some issues in one third of the factory in Salt Lake City. All of our EACs are coming from Salt Lake City and the CH-53K and the Gulfstream program. Start with Gulfstream. The Gulfstream program, I have announced that we are reducing our exposure to that program. We will announce something further on that shortly. It's an area where we see a part that is not producible. It needs significant changes for us to continue to make it. I think that is a story that is wrapping up. On the CH-53K, it's a little bit more of a complex story. The CH-53K is a very large helicopter.
We have the sponsons, the empennage, and the tail for that aircraft, which is bigger than most helicopters, just that part. It is also very different from what Albany normally makes. We took it over in the middle of a ramp from a supplier that Sikorsky elected to move out of. We had a much faster ramp on a very complex aircraft where we did not have the capability specifically in planning and supply chain. This is a large portion why I brought Kriston in, while he brought in talent that we have worked with before that knows how to do planning for 4,000 parts and do procurement of 250, 270 suppliers and managing that. You are seeing the EACs getting better because we are getting better. The other area that we are also getting better in is the turnover of personnel.
Because we were growing so fast, there was not enough training for our new employees. A new employee comes into a factory. They want to do a good job. If they do not have the training, they will make a mistake. A mistake turns into a quality issue. A quality issue gives them not the confidence of making that part. It is a vicious cycle. They decide to leave. We had up to 40% turnover, which we have corrected. I mean, tremendous change at Salt Lake City by bringing people in, training them, giving them follow-up, and also spending time with the right supervisors and giving them coaches. This is an area where we have spent money, which is money that is affecting our EACs, but to get the right skill level at the floor to lead this rapidly growing employee base. It is not easy. It is complex.
It is not that hard either. We have the right team in place to do it. You should expect to see it getting better and better.
I've heard you talk a little bit about the different organic growth opportunities that you had. I just want to spend a little bit of time there because it seems like you have a lot of opportunities. Can you talk a little bit more about the specific ones you're currently looking at and evaluating?
Yeah. So organic as in within aerospace?
Yeah.
Yeah. The biggest one is with our hypersonic growth opportunity. I mentioned that earlier. Another one is really around how do we take this technology and we say we have an alternative to titanium. We use that very specifically on new programs. These growth opportunities come from a capability that we have today that is not that well known in the industry. I would say that I did not know it well before I came here. These two together, we are talking an opportunity. We will talk a little bit more about it later in the year as we put our arms around how big this opportunity is. It is significant. Probably our biggest growth opportunity outside of an acquisition in the next two- to five-year period. If you look at other opportunities that are organic, we do have this capability of weaving. We are very good weavers.
We can weave in three dimensions. Where else is it that we can take this capability and bring a value to a customer? I have announced that we have a Chief Technology Officer who's at the leadership team that oversees our research and development and our innovation process. He's paired up with someone who's looking at new business ventures, whether that's inside of Machine Clothing, inside of aerospace, or outside or adjacent. I think our organic opportunities now are significant. It's finding the right ones and growing them. The inorganic opportunities are kind of tough because the market is there's a lot of money out there. While we have looked at some and considered some, we do not agree with the pricing. We pull out. There might be opportunities as well.
Disciplined approach, which is always good.
Oh, absolutely.
From a profitability standpoint, what paths to further margin expansion do you have within the aerospace business?
It is a combination of cost control, but also bidding correctly, and also growing our technology, growing to differentiated technology. Where we have a differentiated technology, we have an advantage, competitive advantage. We should charge for that. We have said that we absolutely have the capability to be in the high teens, EBITDA. That is our goal. We will update that as we continue.
That's great. I have a couple more questions. Let me open it up to the audience if anyone has any questions. Ok, otherwise, I'll keep going. As composites continue to make up a greater portion of the aircraft, I know you mentioned earlier the next-gen single aisle. How should people think about that opportunity and what it means for Albany?
I wish it was closer because it is a big opportunity for Albany. I think it is very clear that the new single aisle is going to be mostly composite. It is also clear that there is not enough autoclave capacity in the world to support a new program with the traditional composites. So autoclave capability and RTM. We make the largest RTM part in aerospace. It is the case to the 777-9X engine, the fan case. It is an engineering beauty. We are very good at RTMs. We can make large parts. That has given us an in working with Airbus and working with Safran and GE on these new programs. I think we will have opportunity on the engine, on the wing, on the empennage, and on the fuselage with our technology. We will try to primarily, that will primarily be out of autoclave.
You talked a little bit earlier about potentially replacing titanium. Can you expand upon that?
Yeah. From my time at the OEM, titanium has always been a scarce resource. The suppliers have performed poorly. They have been very highly priced. When there is a domestic alternative, this should be easier than what I think it might be because engineers tend to, if you have been designing a certain part in titanium, you continue to design it in titanium. Our ability to actually help design and show the effect of our parts in the use they're looking for is a path for us to, it's a path for us to get titanium as part of our growth path. It's not titanium, but it's a good example. The lift blade on Beta, they needed help with making the blade work better. Our team, together with Beta, designed a blade that has a core or a spar that is 3D woven. We put foam in.
We overbraid. We RTM, resin transfer mold the part, all the things that we are very good at. We have made a part that is exactly what Beta makes. When we can get involved in the design process, we can be more effective with solving the solution for our customers. I know whether you're Boeing or Airbus or Bell Textron, GE, you name it, they all have issues with titanium.
With that, Gunnar, I think we're actually out of time. I appreciate you coming today.
I can talk about titanium replacement all day.
A lot of exciting opportunities ahead. Look forward to connecting again next year to hear about the latest.
Thank you.
Thank you. Appreciate it.