Great! Are we ready? Great. Hi, good afternoon, everyone. I'm Kristine Liwag, Morgan Stanley's Aerospace and Defense analyst. Very excited to have Curtiss-Wright with us for their presentation. We have Lynn Bamford, who's Chairman and CEO, and Chairwoman and CEO.
Either works.
And, Chris Farkas, who's VP and CFO. Before we begin, the standard disclosures I have to read. For important disclosures, please see the Morgan Stanley Research Disclosure website at www.morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley representative. So Lynn, Chris, thank you for making it to Laguna.
Oh, our pleasure.
Yeah, thank you. So, maybe kicking off, let's get a time machine and rewind back to 2021. You laid out at the time a new Pivot to Growth strategy, and at the time it was a rather set, a rather ambitious set of numbers, right? You had three-year financial targets, and despite all the supply chain issues that we've seen, and despite the inflationary pressures in that timeframe, you managed to hit all your targets. Maybe the free cash flow was a little bit light, like three percentage points, Chris. That hurt. That hurt. 108% conversion versus your target of 110. Versus 110. So two percentage points. Yeah. Yeah. So I guess, but everything else you hit, despite all these operating challenges.
So I guess in hindsight, what allowed you to overcome those headwinds and achieve the targets that you did achieve?
Thank you for that question because there's a lot that I'm really proud of in that timeframe, but I wanted to first say thank you for inviting us again. It's our pleasure to be here, and today's discussions will include some forward-looking statements that include risks, and they're outlined on our public filings on the website. I'd have to do that for him, or I get-
Jim, Jim makes us. The lawyers are happy now.
So, you know, so there's so much to be proud of in Curtiss-Wright, and again, you know, different people have different knowledge of, you know, where we are as a company. I guess, you know, we had an Investor Day in May of this year and presented our Q2 results a handful of weeks ago. And if you're less familiar with Curtiss-Wright, I definitely encourage you to go to our website and check out those presentations. It's a pretty solid overview of our end markets and our strategies to grow within those markets going forward. But turning more to your question, you know, Curtiss-Wright is a highly engineered. You know, produces products and services that are highly engineered, that are in critical, must-not-fail applications. And with that, you know, we really have deep relationships with our customers and deep knowledge of our customers' applications.
That's really kind of a fundamental principle as to who we are, that, you know, it always gives us strength in our end markets. Specifically to how we were able to achieve those targets, and I can run through this real quickly, but without belaboring them. You know, there's really a lot, and I think the first thing I have to say is a real shout-out to the employee base at Curtiss-Wright. People really... You know, we manufacture things. We have, you know, design, you know, design capability, and we manufacture the majority of what we make, so we needed people to come to work and, you know, be on the floor and work together, and that obviously took many different forms during COVID.
But people really flexed how they went about it, worked crazy shifts, and did things to allow us to, you know, go through that period and continue satisfying our customers and strengthening those relationships during that time as being a reliable supplier. So, you know, I'd say that, you know, the work ethic of the employees and their commitment to us as a company and meeting our commitments to our customers really was foundational to everything. But we also changed as a company. You know, the area that was kind of the most visible and we had the biggest business impact was across Defense Electronics, where the semiconductor shortage was in the news every day, and we absolutely, you know, were, you know, felt those shortages and, you know, just ever-increasing lead times and, you know, unstable supply.
And, you know, we definitely implemented some new processes, implemented new tools across the business to be able to better manage that. Really deepened our relationships with our customers as trying to be a good supplier to them, to make sure we understood those needs, and so, you know, that was part of it. We had in twenty twenty-one, you know, the earlier things we had done was really decide that we needed to increase our training across the employee base on pricing and how we take contracts and put provisions in for inflation and different things, and had trained, you know, in the entire employee base, you know, in better practices for contracting. And that turned out to be very fortuitous as the inflation, you know, came with a roar as we entered into COVID. And so-
Mm-hmm.
I think those strategies really, you know, and that, you know, really more fine-tuned thinking around contracting really helped us make sure we were driving, pricing strategies out to our customers that allowed us to, you know, still continue to expand margins, you know, in, in that very inflationary environment, so that, you know, those are a handful of the things, and the culture of operational excellence and, you know, driving cost savings continued through that whole period, and so, you know, I think it's, you know, a lot...
We're very proud to get to end, you know, last year and being able to put up that, you know, we had driven total growth at 7.4% and 4.7% organic growth, which was at the very top end of the range, growing operating income at 9.6%, definitely beating our double-digit EPS growth at 12.5%, expanding operating margins 110%, and coming very close on free cash flow at 108%, and you know, really, that's probably the one metric, you know, because our inventory levels, you know, were impacted a bit as we absorbed the supply chain issues.
And so, you know, we did the right things to make sure we were a great supplier to our customer, and if that was the impact of that, you know, we accepted that in the crazy environment, so.
... Great, that's really helpful context. And the reason for the time machine is because you now have a new set of three-year targets.
Yes, we do.
So, you unveiled that in your main investor day earlier this year. So you've talked about a greater than 5% organic growth CAGR, operating income growth to outpace the top line, and greater than 10% EPS growth CAGR, and a greater than 100%-105% free cash flow conversion. I guess, like, you know, building on the pieces that you accomplished before, what are the building blocks of accomplishing your new three-year targets, and how do we think about the foundation of the company getting you there, and the confidence and visibility that you have?
Sure. Maybe I'll ask Chris to speak to some of the end market growth drivers-
Sure.
that are behind those targets.
Yeah, so we are very proud of the performance over the past four years, but as you mentioned, I mean, it's still very early phases for our execution and the Pivot to Growth strategy. There's a lot that lies ahead of us, and it's really exciting times for us right now. So if I take a look at the three-year organic growth CAGR that we set at 5%, that shows acceleration. We set the last target at 3%-5%. You know, we set our operating income growth to be greater than our revenue growth, which implies continued operating margin expansion. As you know, we have a tremendous history of continuing to grow operating margin, 800 basis points over the past 10 years. Just the last three years alone, 110 basis points.
We did that while we were increasing our research and development back into the organization significantly. We increased R&D $20 million back in 2023, and we're doing that again this year, another $20 million of incremental R&D. That's IR&D and CR&D, while providing operating margin expansion. Part of the Pivot to Growth strategy is using that operational excellence to free up that funding for investments back into the business. Now, as we look at the growth, the markets and the growth beneath that, you know, we're two-thirds aerospace and defense, and we're a third commercial. Our commercial exposure rests in commercial nuclear, process, and general industrial. As you look across the A&D markets, whether it's ground, air, or naval defense, we've committed to grow those markets in mid- to high-single digits over the next three years.
There's a lot of great things happening in commercial aerospace right now. The backlogs are very strong. In that market, we've committed to grow high single digits. And then, you know, as you look at general industrial, we have some great initiatives that are in place in the power electronics management space that are helping us to kind of navigate more turbulent times within that market, but we're still committed to low single digit growth in that market over the next three years. And then, certainly there's a lot of excitement that has, you know, been focused on the power and process markets. We're doing some really big, significant development efforts, not only in commercial nuclear, but also in subsea pumping to support the process markets. And commercial nuclear is gonna grow at low double digits, while the process markets will grow at mid-single digits.
There's a lot of work that goes into that. You know, these investments that we're making are capturing these strong secular growth trends that we're facing right now, whether it's, you know, an increase in NATO spending that's affecting foreign military sales, whether it's energy independence and decarbonization affecting commercial nuclear, or electrification just broadly across many, many platforms. And beyond investing in R&D, we're also investing back into the people and the systems, and the talent across the organization to be able to execute on that going forward. A lot of this is just making sure that we're putting money to the highest and best use, and trying to provide the longest and most durable returns to our investors. Then I think you should step back, lastly, just regarding our cash flow targets.
We are continuously focused on working capital management, and we've committed to generate $1.3 billion of free cash flow over the next three years, and you know, that's capital that we will put towards our capital allocation strategy, whether that's in organic growth or returning capital to shareholders, so a lot of exciting things happening right now, and we're really just starting to build momentum in our strategy.
I’d love to touch base on the nuclear, commercial, and subsea pumps later.
Okay.
So we'll touch more on that. But pivoting to defense, you know, the fiscal year 2025 budget request, you know, 1%, it seems like we're gonna be in another Continuing Resolution this year. There seems to be pressure in D.C. to increase this budget, but we don't know. It's an election year. How do you think about that playing out, and what gives you the confidence that regardless of where that final top line is, that you- your business will outgrow the overall DoD top line?
Yeah, and as you know, Chris just stated, across all three services, we're mid- to high-single-digit growth during that three-year time, and we had visibility into, you know, the FYDP and what was being put forward in 2025 when we set those targets. So there are definitely things that, you know, make us have confidence in the targets we put forward. And, you know, one is a track record over the past 20 years of being able to grow faster than the base DoD budget. But, you know, there's a. You know, when you're a company our size, you know, it's a big budget, and you really got to look under the hood to see how it impacts you. In the areas where we do business, shipbuilding broadly, the Columbia submarine remains the number one priority.
The commitment, even in the army, to the modernization of the battlefield, and broadly, advancing, you know, all of our, you know, defenses with more high-tech capabilities, which is a very important spot for us, are all places where we're aligned. So our product offering very much aligns with, you know, where the DoD wants to spend money, and so that's, you know, really an important kind of underpinning. You know, we have a fleet services. We have three service centers that are very much working at hand-in-hand with the Navy to return as many ships to an operational capability as possible. So that's, you know, not the business in the defense space that always gets talked about as much, but, you know, there's great needs in that area, and we have some great capabilities.
That's another area where we're very much able to grow. And then, you know, broadly, if I turn to our Defense Electronics group, outside of, you know, some of the trends I just mentioned, we have a very balanced strategy that gives us growth opportunities, both in flat defense markets and in growing defense spending markets. And, you know, we have honed over the years and being in this market, you know, since its inception back in the mid-1990s, the ability to extend the life of our products, you know, beyond what our customers expect and what that affords them the opportunity to do when budgets are tight, and they can't afford to do tech refreshes and certain things.
We'll work hand in hand with them and extend the life of the existing systems to be able to continue shipping them those systems. And so we're a really good partner in that. And also, you know, the mandates towards MOSA and SOSA, which are just two acronyms that, you know, refer to the current, best-in-class, open-standard architectures within the industry. You know, we've really got the best product offering in that space, to be able to win content with that. And so that is investing that, you know, Chris mentioned the increase in R&D, an area where we've spent a lot of that R&D over the past five, six, seven years, and that's really affording us an opportunity when there are new program starts.
You know, the customers, the primes that are on maybe tighter budgets, are really driven to outsourcing because, you know, they're trying to do things on a, a cheaper and faster and quicker budget, and that is good for us. So there's just a lot of dynamics that we set the stage for ourselves to be able to grow in markets. And just to quickly mention two others, you know, the NATO spending increases, we're very well aligned to capture the increased spending across NATO countries, and that comes from everything from our aircraft arresting systems to our arresting systems and shipbuilding that have seen some really nice growth trends, to the build-out of our tactical communications equipment across the NATO countries, as it's a NATO standardized capability.
So you put all these things together, and it gives us the confidence that, you know, we've got a great ability to grow over the next three years across our end markets.
Okay, thank you for the color. Shifting gears to restructuring efforts. Last quarter, you've announced the, you know, the restructuring centered in your Aerospace and Industrial businesses. Can you unpack for us exactly what you're doing in those efforts, and why now?
Yeah. So we've talked a lot about the operational and commercial excellence that we have in Curtiss-Wright, and how that's contributed to margin in the past, and it's something that we are consistently doing. You know, Lynn and I and the rest of the management team take a lot of time to think about, you know, how do we position ourselves for growth going forward? Our backlog is at record levels, and, you know, there's always a business that can be optimized in some way, right? I mean, if you're, you know, you're gonna contribute to Curtiss-Wright's overall growth and profitability objectives at the end of the day. So, right now, we're planning on spending $15 million this year, and that will result in $10 million in annualized savings going forward.
The bulk of that, to your point, will be within the Aerospace and Industrial segment, and we'll recognize $2.5 million of that savings this year. We actually increased our guidance in the Aerospace and Industrial segment margin in the second quarter in response to that restructuring. But this is just something that's ingrained within our culture, responding to the strong order book. You know, within Defense Electronics, we're doing some things to kind of rationalize our footprint and prepare for that going forward. But there's also some staffing and efficiency, you know, moves that are taking place here. But we will consistently do this going forward. We're always looking to find opportunities to fund all these great investments that we have.
Great. Now let's talk about one of the things, you know, most defense investors maybe ignore: commercial nuclear power.
Absolutely.
But it is piquing interest for other types of investors. So on commercial nuclear power, I mean, there seems to be excitement about nuclear renaissance, right? And I don't know, I've been around the block longer too, and I remember the nuclear renaissance, and it didn't pan out in the twenty tens.
Yep.
So, you know, you're now projecting this end market to grow low double digits through 2026 and leading the growth across really all your other end markets. So at this time, like, what's so different about nuclear power? How are you positioned for the aftermarket? Because I don't think people really understand what you do in the commercial nuclear aftermarket for life extension and the opportunity for AP1000. And let's save small modular reactor for the next question.
Okay.
Let's focus on the existing build and the AP1000 for now.
Okay, thank you for that. It is an area we're very excited about and I think has a lot of growth opportunities for the organization. The two areas you asked about, the aftermarket and the AP1000, are two of the main areas that will grow, and we'll save that third one for maybe a question with a different angle to it. But, you know, that aftermarket business is really, you know, the heritage of the business Curtiss-Wright has been in, and we've, you know, been a part of the commercial nuclear industry since its inception. It's another one of those industries we're not a newcomer to. And, you know, with this, you know, we have deep, deep partnerships across the entire operating fleet in the United States.
There's currently 94 operating reactors, and we do a whole host of different types of work, both products and service works, into these operating reactors to be able to, you know, keep them, you know, in safe operations. But as you mentioned, you know, as I think, you know, there's been you know, various bills passed through Congress to provide funding to support the commercial nuclear industry and a groundswell of interest from, you know, citizens at large to have carbon-free energy. You know, the, the realization that, what we had been doing in letting a commercial nuclear reactor shut down every 12 to 18 months, you know, is, was eroding, you know, our carbon-free energy while we're working so hard to build it. And with that, really came a resolution to not let any more reactors shut down in the US.
2023 was the first year that a reactor had not shut down in quite some time. So, you know, and I think there's a real commitment to that. They're even talking about bringing Palisades in Michigan back online, and, I mean, there won't be many of those, but, you know, maybe there are a couple examples of that. But, you know, we're in there with deep relationships in these plants, which is, you know, 90% of our roughly $300 million of commercial nuclear work today, so it's the foundation of that business. Working with them to consider how we can make the plants safer and help them, you know, be able to apply for their license to go from the 60 to 80 years.
And that, you know, that's significant because, you know, they've got to do their normal maintenance work, but as they look to extend that license, it, you know, opens their minds to maybe more dramatic changes in the plants and modernization, moving from analog to digital, things like that, so they can more efficiently run the plants going forward. And so that's areas where we have a great product offering, and are really able to support those operating reactors. This is going to happen in Canada and South Korea also. It's a little early days for those, but, you know, this work is going to go on for decades. I mean, we're really at the beginning of a 20-30-year cycle of supporting these plants as they go through their life extension.
And an area I know you know well from your history with Curtiss-Wright is our work in support of Westinghouse in building out AP1000 plants. And this had been very, you know, very good, very profitable work for Curtiss-Wright that tailed off a couple years ago. And, you know, really just there was not much discussion around the globe of building more large light water reactors, and that was beginning to change, you know, as countries began to figure out, you know, how their need for nuclear energy to meet their carbon-free goals. But really, the invasion of Ukraine, you know, just accelerated that intent. And even just in that Eastern European area, there's 20 to 25 plants that are slated to be built.
We're not assuming Westinghouse will be chosen as the provider for all of them, but if they even win, just say, half of them, which I think is pretty conservative, you know, that's $1.5 billion of business for Curtiss-Wright over the next decade. So you know, we've got a great partnership with Westinghouse. We work very closely with them, and we're committed to doing our part to help them be successful in winning those new builds.
When should we expect a Poland contract announcement?
Yeah, that's a-
One thing is, it's not in your financial guidance.
Yes, I was going to say very, you know, very good point, as Chris talked about our guides.
Right.
We chose to leave it out of those three-year targets just because it can have a pretty dramatic effect on our finances and, you know, could skew what we put forward and based on the timing, you know, really shift in and out. But, you know, I'm really proud to say that, you know, back in twenty twenty-two, quite ironically, we had our earnings call the day of the invasion of Russia into Ukraine, which was, you know, kind of a strange thing to wake up to in the morning. But, you know, announced that we had, you know, put all our contractual debates we were having with Westinghouse behind us, and we're, you know, moving out to really work as a partner with them to help them win this opportunity set that was developing around the globe. And we said then, three to five years.
Last year, we said two to four years, and this year we're saying one to three years. So it's really been, you know, the countries that where they're going to build, we think Poland will probably lead the way, with Bulgaria close behind, and then others to follow in suit. They're doing the work they need to do to hold to those timelines. So, you know, we think it's coming in the near future, and it'll be a pretty exciting time for Curtiss-Wright when it does.
Great. So let's now shift to small modular reactors. I think, you know, AI data centers, you know, there's a lot of fervor around SMRs and the opportunities that they could provide. Can you talk about the nascency of this technology? How much of your AP1000 work is applicable to the SMR? What's your approach to the market, and how do you view your partnerships and your competitive strengths?
Yeah, it's another area, kind of the third bucket of growth in all things commercial nuclear, that's here and now, but will carry on for decades. And there's kind of two groups of the SMRs. There's the ones that are a different approach to deploying a, you know, a light water reactor that's similar technology to the current generation of nuclear reactors. And then there's the Gen IVs that, you know, really are taking a new approach with new approaches to fuel and have, you know, even, you know, much greater safety approaches. But what's fundamental to all of them is it's a shift from building a reactor, like the Vogtle was built on site, to building the majority of the reactor in a plant, in a controlled environment, and then basically assembling it on site.
It's really geared to taking, you know, the risk out of, you know, the huge cost overruns and time delays that the industry has seen, and our approach is, you know, really we're not, you know, as much focused on the microreactors and some of the small ones, but the ones that are, you know, the, you know, geared at the 300-plus megawatts of power production. You know, our goal is to capture content across all of those. We think there's, you know, they're all going to be needed and all be built out to meet the carbon goals that our country has and other country has, and so we're not, you know, really trying to exactly pick winners and losers among those, that we're trying to maximize our content across those and feel like we have the capability to do that.
We've been pretty public about X-energy and having, you know, up to, you know, over $120 million of content on one of their reactors that would be built out. So that's the most we have. But we laid out investor day, you know, we have a goal for ourselves to have a minimum of $20 million of content across all those SMRs. So as they're built out, you know, the two ARDP reactors, TerraPower, X-energy, are committed to having their first reactors on the grid by the end of the decade. You know, we're in design phase now. It's revenue for Curtiss-Wright now, as we work with these guys, transitioning to prototype over the next couple of years, 'cause we've got to deliver them all that content so they can build their first reactor and have it on the grid.
The data center point is, you know, really great that you bring up. You know, that's really just come to life over the past recent months, is, you know, some of these owners of the data centers, you know, realizing they need to get ahead of the utilities and the build-out of these SMRs, and really can't wait for the electricity to be brought on the grid by the utility providers. Are, you know, very integrated into conversations to see how they can make their much deeper capital deployment pockets, you know, really move in with these guys and be able to jumpstart the build-out of these SMRs.
No announcements yet, but something we're, you know, we stay in touch with our customers on how that's going to assure we understand the timings, and we're ready to be a supplier to them to make them successful.
Great. And, you know, historically, Curtiss-Wright is an acquisitive company. And more recently, a lot of your acquisitions have been focused on nuclear. We saw a few nuclear space-
Yeah.
Nuclear M&A in the nuclear space.
Yes.
No, not space and nuclear.
Yes.
That'd be pretty cool, though.
Yes.
The thermonuclear stuff.
Yes.
But, you know, are you pulling together a string of pearls approach in commercial nuclear? And when you look at the pipeline of deals, is that where we should expect you to deploy capital? Or how do you see your priorities for incremental deals?
So we're definitely... You know, the last two acquisitions were in the commercial nuclear space. You know, one was a simulation technology, which is very strategic to us as it gives us the ability to work with either the new SMR providers or existing plants as they plan their outage or design their plants to fit our equipment into it. And Ultra Energy, which we're hoping to close in the near future, to bring new capabilities to Curtiss-Wright and give us a European footprint, which is really gonna be supportive of our, partnership with Rolls-Royce. But maybe ask Chris to talk a bit more on our capital deployment strategy.
Sure. Yeah, just at a very high level, and I'll be brief. I love the metaphor, by the way.
Yeah.
That's, that's great, string of pearls. Our capital allocation strategy is balanced. I mean, we have a very strong balance sheet. We are known for our strong free cash flow generation. We're gonna close on these deals this year. We're not gonna have to go on the revolver to do that. M&A is clearly our top priority. We've made that clear. We want to use that as an accelerator to growth on top of what we're doing organically. But we're not gonna compromise and grow just for the sake of growth. It's got to be the right strategic and financial fit. We're looking for critical adjacent technologies that are gonna help to supplement our portfolio.
So, beyond that, you know, we are focused on returning capital to shareholders, and we believe the share buyback is the most effective way to do that. And I'm pleased to announce that just yesterday, we released a press release that increased the share repurchase program that we have, this year by $100 million. So in addition to the $50 million 10b5-1 that we had in place, now we're gonna buy another $100 million, so that will bring us up to $150 million in share buybacks this year. Just as a reminder, in the last three years, Jenny, we bought back $450 million of stock. So this puts us in a really good position.
You know, given the longevity and the growth that we have in front of us and, and the Pivot to Growth strategy, we feel like it's still a really excellent time to buy Curtiss-Wright stock. And we're pleased that we can do this and still have cash in hand at year-end, you know, should another M&A opportunity materialize that we can seize on the M&A front.
Great. And, you know, maybe going back, you know, seeing your success in commercial nuclear power, because it's clearly a significant driver of growth in the medium term and long term for the company. You leverage, you know, navy technology to be able to build the AP1000, and now it seems like the subsea pumps business is another example of the company leveraging existing technology and adapting to new markets. So how should we think about the TAM in subsea pumps? And, you know, at the Investor Day, you said this could be a $500 million-plus market of production by 2035. Give us a little bit more understanding of what this is and what kind of revenue stream does it really open for you?
Yeah, thanks for that. It is, and I mean, it's, it's something Curtiss-Wright does very well, is develop technology for one end market and then apply it to other end markets with, you know, very modest investments. And I think it's been part of the thesis that has allowed us to drive the financial performance we have. And knowing we're running short on time, you know, we've partnerships with three major customers, Petrobras, Shell, and Saipem. They're at different levels of their maturity, and we're getting ready to ship our first production unit to Shell for deployment by the end of this year. And we just announced that we passed qualification with Saipem.
So really, you know, moving forward, and as, you know, the market, as we see it today, is $250 million by the end of the year, $500 million by the end of that decade, but, or the, the middle of next decade. But, you know, it's an interesting, the dynamics within that industry, that there's leaders and followers, and a lot of the people that would buy the technology want to see it deployed and want to be successful, and then they say they will come forward. And so I think it's, you know, it's exciting that we're getting the first pump out there this year, and I think as it, it demonstrates its reliability, I only think those opportunity sets are gonna grow.
Great. You know, Lynn, Chris, thank you very much for your time this afternoon. Everyone, this concludes their presentation in Curtiss-Wright.
Yep. Thank you, everyone.
Thank you.