Good morning, and welcome to the Innovative Solutions and Support conference call to announce the acquisition of certain Honeywell product lines. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touch-tone phone. To withdraw from the question queue, please press star then two. Please note, this event is being recorded. I would like to turn the conference over to Mike Linacre, Chief Financial Officer. Please go ahead.
Thank you, Operator. Good morning, this is Mike Linacre, Chief Financial Officer of Innovative Solutions and Support. I'd like to welcome you to our conference call to discuss our acquisition of several Honeywell product lines. Joining me, Shahram Askarpour, our Chief Executive Officer and a member of our board of directors. Before we begin, I would remind our listeners that certain matters discussed in the conference call today, including new products and operational and financial results for future periods, are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially, either better or worse, from those discussed, including other risks and uncertainties reflected in our company's 10-K, which is on file with the SEC and other public filings. I'll turn the call over to Shahram.
Thank you, Mike. Good morning, everyone. This is Shahram Askarpour, Chief Executive Officer of Innovative Solutions and Support. Welcome to our conference call to discuss our acquisition of several product lines from Honeywell Aerospace. On Friday, June 30th, we signed an agreement with Honeywell Aerospace to acquire key assets and entered into an exclusive license agreement for certain of their inertial communication and navigation product lines. This transaction provides us with exclusive intellectual property rights to manufacture, upgrade, and repair certain nav, comm radios, and inertial reference system products. This is a unique opportunity that enhances our current offerings with product lines that can be found on literally thousands of aircraft in our target air transport and business aviation markets, with potential to expand that market to the military platform. We believe that in fiscal 2024, this acquisition will increase our revenue by over 40%.
In terms of gross margins, we believe that they will approximate our existing margins as we further integrate the operations into our P&L over the next several months. We see this acquisition as a unique opportunity to grow and diversify our organic navigation product portfolio with products that both cater to our existing customer base and help grow our customer portfolio. We also believe there are growth opportunities available, both by marketing to a sizable untapped repair and overall market, and in acquiring a customer network representing potential new business opportunities for the acquired products as well as other products, IS&S products. In addition, there are potential cost synergies to be realized in better leveraging our skilled engineering teams and excess operations capacity in excess. The acquired product lines have years of proven performance and are renowned for their reliability and dependability.
The inertial reference units are operational on thousands of air transport category aircraft, including Boeing 737, 747, 757, 767, Airbus A300, A310s, as well as thousands of business aircraft, ranging from Gulfstreams to Citations. The navigation and communication radios, transponders, radio management units, and audio systems are also installed in thousands of prestigious business aviation aircraft. As part of this transaction, we have the exclusive, perpetual, free-of-charge license to all the IT that allows us to expand and complete our product offerings in the areas of inertial, communication, and navigation, where we previously had limited capability. Let me now turn the call over to Mike for some additional commentary.
Thanks, Shahram. On June 30th, IS&S closed on an asset purchase agreement in which we acquired the exclusive intellectual property rights to service the installed base Shahram just described. Honeywell sold, assigned, or licensed certain assets related to its inertial communication and navigation product lines, including a sale of certain inventory valued at approximately $12.5 million, equipment valued at approximately $6 million, customer-related documents, an assignment of certain contracts, and a grant of exclusive and non-exclusive licenses to use certain Honeywell intellectual property related to its inertial communication and navigation product lines to repair, overhaul, manufacture, sell, import, export, and distribute certain products to the company. These product lines have attractive margin profile characteristics that are similar to our current product portfolio, which is an essential element of our strategy.
Consequently, once they've been integrated into our operations, we expect the transaction to materially contribute to our revenues and EBITDA. Revenues are expected to grow over 40%, while EBITDA is expected to grow roughly 75%. We also expect the resulting EPS to be accretive in fiscal 2024, with the potential for additional net income increases in future years from various synergies. As Sharm noted, while a bulk of revenue is from manufacturing subassemblies, repair, and maintenance of existing equipment, there is the potential for further growth and synergies in future years. The purchase price was $36 million, which included the aforementioned $18.5 million in hard assets, that was paid in cash at the time of closing. Coincident with this acquisition, we have amended our bank facilities to fund this acquisition, as well as maintain ample liquidity for ongoing operations and potential future acquisitions.
In particular, we have secured a $20 million term loan. The term loan has a floating rate 5 -year amortization schedule, and has a variable pricing structure, with the current interest rate at approximately 7.66%. These funds, together with the $20 million of cash we had on our balance sheet prior to the acquisition, were used to fund the acquisition. The amended loan agreement contains customary terms and covenants, which include a covenant requiring the company not to exceed the maximum ratio of funded debt to EBITDA, measured quarterly, commencing with the quarter ending June 30, 2023. We expect to satisfy that covenant.
To the extent required, the company intends to file the pro forma financial information required by Item 9.01(b), as an amendment to this current report on Form 8-K, as soon as practically practicable, and in any event, no later than 71 days after the date on which this current report on Form 8-K is required to be filed pursuant to Item 2.01. I'd now like to open the call to questions.
We will now begin the question and answer session. To ask a question, you may press star, then one on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw from the question queue, please press star, then two. At this time, we will pause momentarily to assemble our roster. The first question is from Tim Moore of EF Hutton. Please go ahead.
Congratulations on this acquisition and the licensing deal, and, you know, being patient for something that seems like a home run. I mean, to quote one of my favorite movies, Rounders, I mean, definitely laid down a monster hand today. Thanks for providing all those details. I really appreciate it. I think investors do. I just was wondering if you can elaborate a little bit more on maybe a rough estimate of the end market's sales mix. Is it mostly business jets, or does it tilt more towards commercial cargo? You know, it sounded like there was an opportunity for maybe military later on, but I'm just wondering maybe where the business mix, sales split is, and, is it more evenly split between retrofit, repair, and new products?
There were a lot of questions there, Tim. In terms of the market, again, we bought two distinct product lines. One was the inertial product lines. Those are, as I said, there's a lot of synergies with what we do currently on our 757, 767, and 737 aftermarket product lines. Some of those customers that we are going to be serving with the inertial reference units, are existing customers. But the good thing about that is that just about everybody that flies those airplanes is gonna become our customer. That opens the door for us to gain larger market share on our cockpit display systems as well.
Those are mainly on the aftermarket repair. We will be manufacturing some new units, they're not OEMs, but for spares and as well as we'll be making subassemblies here in Exton, Pennsylvania, that we would sell to channel partners internationally for repair of these product lines. In terms of the larger market, is the business aviation market, where some of these inertials, as well as the navigation and communication product lines.
Now, those include transponders, navigation radios, communication radios, audio systems, and those are installed in start with Gulfstreams and go all the way down to Citations and in thousands and thousands of high-end business aviation aircraft. Those product lines also that they go through some new sales and having the IP for the radios and the audio systems and the transponders allow us to augment our offerings in the business aviation, where currently we have display systems, but we lack communication and some of the navigation equipment.
This allows us to complement those where in the past, we would have had to go and partner with other avionics manufacturers and pay significantly higher prices to be able to complete our aftermarket offerings on the business aviation. Now we will have our own products to offer in those markets. The radios are such that they can be expanded into the military market because the frequency expands into the military frequencies, and that makes it very attractive. In terms of inertials, also, we actually announced the deal, and we're already getting inquiries for new inertials for some of the government and military market platforms.
It's early stages right now. We're focused on successful integration of these product lines into our facility. That's the key thing, is to be experienced, bring that in. We see a lot of synergies. We see a lot of cost savings. And we're heavily engaged in doing that in a rapid way so we can quickly take advantage of the benefits.
Great. Thanks, Shahram, for those extra details and color. You mentioned earlier, Shahram, that in your opening remarks, that, you know, you expect a 40% increase to fiscal 2024 sales from this, and Mike mentioned an impressive 75% increase to EBITDA. Does that 75% increase in EBITDA include the capacity utilization benefit synergies? I mean, I know you're not doing it all in-house in Pennsylvania, but, or is that 75% a standalone figure, pre-synergies and getting more scale utilization out of your manufacturing facility?
To be clear, the 40% I said, I say it's over 40%. The 75% that Mike said, I think he said over 75%.
Yeah. That is really, you know, kind of as is, as acquired before synergies. There's additional upside to that.
Wow, that's great. Thanks for clarifying that. I really appreciate that. Investors will. That's pre-synergies. Do you have to do much hiring? Because I know when I visited the facility, I believe it was in March, I think you had some. You know, you seemed like you could scale up, and you had ability to maybe not have to hire much and add extra costs on that front.
Yeah, just in terms of touch labor, we will be hiring a few, and also, what we need to do is to strengthen, our plan is to strengthen our product support group, hire two or three people in that area. There is a lot of good margin associated with some of this Power By The Hour agreements that we will be acquiring as part of this business. That's an area where we've never played in. As we're learning, that is an area that we also want to be probably looking at some of our existing product lines to take advantage of that market.
That sounds terrific. I'll ask one more question before hopping off to let other participants ask questions. I was just wondering, do you have an estimate of maybe the integration and the closing costs? I mean, I'm going to treat those as one-off. Those all pretty much fall in this, in this quarter, actually in the September quarter, because it was signed June thirtieth, you mentioned?
Yes. Pretty much all the integration costs will be incurred during our fourth quarter. You can expect to see the bulk of them, be recognized, in fiscal 2023.
Great. I'll hop off and let others ask.
Again, if you have a question, please press Star, then One. The next question is from Jeff Bronchick of Cove Street Capital. Please go ahead.
Thanks. Good morning, Jeff.
Hey, just Shahram, I mean, obviously, this is a type of deal you wanted to do, but how did this specific one come about? You know, was it this is your relationship with Honeywell, someone on the board, a banker? Maybe a little background about that.
We have a business development person that essentially is scouring the industry for these type of acquisitions, as well as the whole acquisitions of a company. This particular one comes through some of the relationships I've had with some of the Honeywell folks over the years and with the help of our business development guy. He's got a lot of experience in transactioning these kind of deals, which was an area that we needed strength in. He's proved to be very helpful and very useful to us in making sure that we get a deal that's very good for IS&S.
Got it. I mean, were you looking for this specific product set and pried it out of Honeywell, or this was among a myriad of things that were, you know, available, and this one made the most sense?
This we've been looking at Honeywell divestitures over the past year. We passed on some of them. This has been the best one for us so far, that we've seen. In terms of what we're gonna be doing for future acquisitions, there may be some additional acquisitions we will do down the similar product lines from Honeywell here. We're also gonna be looking at now, in terms of more areas where we will bring in more technology into the company, that to complete our offerings. That's very important for us to be able to do a full offering into the market. It will put us in a different category of suppliers.
Got it. Just to be clear, there's no facilities coming with this. It's just people, IP, you know, some machines and some inventory. Is that correct?
There is no people. This is.
Okay.
Test equipment.
No people.
Inventory. As part of that, there is, we get a lot of training, where our people will be trained on these product lines. What I did was that I actually hired the business development guy from Honeywell that actually ran some of these product lines to help us with the marketing side.
Got it. You know, you obviously, you know, whatever, integration costs, but I mean, do you need to spend CapEx money for equipment or, you know, additional facility or not at all?
No.
Just fitting it into what you have.
Yeah, we're doing some rearranging, internal rearranging here, of our space, which is not. It's in terms of tens of thousands of dollars. It's nothing big. We're not looking at doing any huge, and we're getting just about everything that we need as part of these acquisitions. There is. I mean, one of the things when we're looking into the future is that typically, Honeywell has outsourced a lot of these manufacturing of their sub assemblies. There is opportunities there for us to take a look at some of the outsourcing they do, because we have full in-house capability. Initially, we're gonna continue with their existing suppliers.
Long, long run, we're gonna take a look to see whether it makes sense to bring some of that in and take more advantage of our kind of like our surface mount technology facility as well, and build some of those boards in-house. It's too early to tell.
Got it.
We're gonna do what makes sense.
Just, is there like what is the product name? I mean, if in navigation, is there like, is it called something? I maybe I missed that.
We not supposed to use Honeywell's brand names.
Okay.
We can't use their name or their brand names, in these product lines.
Okay
... I mean, Honeywell, inertial reference units and air data inertial reference units are, you know, well-renowned in the world, in air transport category market. Obviously, we're not buying the latest and greatest.
Right.
you know.
Just lastly, just to be clear: you've got a customer and they're looking for a, quote-unquote, "solution," and you've had your historical part, and then you would go out and essentially buy and partner with a Honeywell in this product line and sort of present them together to the client as a solution. Then, is that sort of how it has been, and then what you're saying now is you don't have to do that, we can do that in-house and sort of, you know, take in that margin? Is that what... Am I getting that right?
That's correct. For example, in the past, when we did cockpit upgrades on a PC-12, we would actually go buy transponders, we would buy radios, navigation radios, communication radios, from, say, Honeywell, at line prices, and include that in our offering. Today, or soon, within a year or so, we'll be able to, because we're gonna have to do some modifications to these to integrate it with our own system. We have all the IP that allows us to do that.
Okay.
It will allow us to do, there's other offerings we can do in the industry, just for transponders and for radios, as well as inertial reference units, that we could take advantage of the IP to do that.
Great. Thank you very much. Congratulations.
Thank you.
Thanks, Jeff.
The next question is from Andrew Rem of Odinson Partners. Please go ahead.
Morning, gentlemen. appreciate the call here. Just in terms of the revenue, it sounds like it's gonna be about $11 million contribution. Could you maybe talk about the timing of that? Does that come in, gradually over fiscal 2024, or how should we think about it kind of layering into the business?
I think we're gonna get it in fourth quarter 2023, and the agreement right now is, as of first of July, we own this P&L. For the first five to six months, Honeywell is gonna execute on our behalf on all of these as we integrate the operations into our facility. We will see revenues in this current quarter from it, and going forward the same way.
I think what's gonna happen is that after, probably after the January of 2024, which will be our second fiscal quarter, that we should see better margins coming from it because we will be executing on all the on all the P&L.
Okay. Can you maybe just talk about, is there any risk to, as you make that transition to saying the first four or five months, it's really them kind of executing, and then you guys kind of take over on the execution side? Can you talk just a little bit about kind of the risk of not getting the $11 million or so that you're currently anticipating or that effectively was acquired?
It's all about execution. Obviously, if we plan on executing properly, we put a strong team, integration team together. I actually hired somebody that retired from Honeywell and did a lot of integration work for Honeywell on these product lines in the past, where they've actually moved the product line. We were fortunate, he had retired from Honeywell a year ago, and we've hired him actually to help us with this transition. We've taken a lot of steps to ensure that this is a successful transition. Every one of these acquisitions, a lot of... At the end of the day, it boils down to how good you do that integration, how fast you would do it.
We've got the last two weeks, we've been busy putting together all the transition plans and making sure that we've covered all the angles, for a successful transition.
Okay, thanks. Can you also comment on your ability to kind of cross-sell? The revenue synergy sounds like you guys are saying that there's an opportunity for you guys to kind of cross-sell your cockpit display and maybe, yeah, just help us understand how you exactly you execute on that, what it can look like.
I'm not quite sure if I understood the question.
Well, is your cockpit display opportunities sold in conjunction with the Honeywell solution? Is that how these go together?
There's multiple opportunities. If you look at the air transport side, every airplane, 737, five six, 757, 767, operator in the world is gonna become our customer with their with those inertial reference units. That means we're gonna be on their approved vendor list. That means that opens the door for us to go in there and sell our display upgrades into those platforms. We believe that would accelerate our cockpit display offerings on the 757, 767.
On the business aviation side, the radios, the transponders are products, some of the products that we typically go outside, either buy them from Honeywell or L3 or other avionics suppliers to, in our upgrades for the military as well as for business aviation side. The products that we acquired allow us to integrate those with our offerings on a lot of these military upgrades as well as business aviation upgrades.
All right. Mike, can you help me understand if the business is coming over at roughly the same margin profile as your existing business, how you're able to get the 75% increase in EBITDA without getting any kind of manufacturing benefits?
The gross margin is fairly close, but the operational expenses are a bit lower to run this portion of the business, hence the higher, you know, bottom line in EBITDA. Also included in that are some, you know, some interest expenses that we will incur to, you know, pay off the loan, which, you know, come out of that EBITDA, you know, or added back into that EBITDA.
All right. In terms of the opportunity to get additional cost synergies over time, is it, like how much of the business that you guys are taking over will you be able to do that at, in, and over what period of time might that occur?
Talking about the cost synergies?
Yeah. If you take some of the manufacturing in-house, like how much should we think about in terms of how much of the revenue, base that you're taking on, would you actually have the opportunity to do that in? Then over what period of time might that type of in-house transition occur?
I mean, we're going to be evaluating that. We're gonna keep the business running as is for now, to better understand it and then look into it further to see if it's worthwhile for us to bring that in-house. It's a little bit difficult to say right now what the synergies that might result, but we think that they're there.
Then maybe just lastly for me, it sounds like there's some regulatory hurdles that you kind of have to go through. Is that one of the things that gets completed in that first four to five months? From a checklist item, once you guys are pretty much on your own in terms of executing, that will all be behind you, is that how we should think about it?
The first five or six months, we will have all the authorizations in place to do everything. I think it will probably take us about one year before we can get all the TSOs moved over or reapply for them, then we can actually modify those equipment and take advantage of additional markets. To execute on the existing P&L, all of that would happen within this first five to six months.
All right. Thanks a lot, gentlemen. This is great. Thanks a lot.
Thank you.
Thanks, Andrew.
If you have a question, please press Star, then 1. The next question is from John Moran of Robotti & Company. Please go ahead.
Hi. I was just wondering if you have any insights as to why Honeywell is divesting these business lines? Secondly, can you comment at all on the process? Is this sort of an auction run or was this just shown to you in a negotiation?
Honeywell has been over the past couple of years, they've been divesting a number of their avionics product lines. They're going to continue doing so from what we understand. The exact nature of their purpose is that they will not share with us. Other than these are the kind of the previous generation of their product lines, and now they're moving on with their latest and greatest. It's typically, that's where these product divestitures are happening. You know, the big picture there, it's, I can speculate on it, but it's not something I want to publicly share with it. Probably, it's not going to be good.
It's movements within Honeywell, that they're doing a lot of divestitures and consolidations of their platforms.
Thanks. Can you give us about the process? Was there?
For any one of these, there is, I think, for example, for these, I understood there were about seven bidders that bid on these product lines. It's not necessarily always about the price. A lot of it, because of the nature of these product lines, they Honeywell wanted to make sure that the company that is selected can perform on the air transport, on the military, as well as the business aviation. In a way, we had unique capabilities at IS&S that made us a very attractive buyer for Honeywell.
At the end of the day, what they don't want is for this transaction not to be, and not to go well, and they get a lot of grief from Boeing and Airbus, and Embraer, and Gulfstream, and all of those large OEMs, ranging from business aviation to air transport, because the people that acquired this product line didn't have the knowledge or the capabilities to perform on these contracts.
Thank you.
If you have a question, please press star then 1. There are no additional questions at this time. This concludes the question and answer session and today's conference. Thank you for attending today's presentation.