Ladies and gentlemen, thank you for standing by, and welcome to the Teledyne third quarter earnings call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. The instructions will be given at that time. If you should require assistance during the call, you can press star and then zero. As a reminder, this call is being recorded. I'd now like to turn the conference over to our host, Mr. Jason Van Wees. Please go ahead, sir.
Thanks, Brad, and good morning, everyone. This is Jason VanWees, Vice Chairman of Teledyne, and I'd like to welcome everyone to our third quarter earnings release conference call. Of course, we released our earnings earlier this morning before the market opened. Joining me today are Teledyne's Chairman, President, and CEO, Robert Mehrabian, Senior Vice President and CFO, Sue Main, and Senior Vice President, General Counsel, Chief Compliance Officer, and Secretary, Melanie Cibik. After remarks by Robert and Sue, we will ask for your questions. However, before we get started, attorneys have reminded me to tell you that all forward-looking statements made this morning are subject to various assumptions, risks, and caveats as noted in the earnings release and our periodic SEC filings. Of course, actual results may differ materially.
In order to avoid potential selective disclosures, this call is simultaneously being webcast and a replay, both via webcast and dial-in, will be available for approximately one month. Here's Robert.
Thank you, Jason. Good morning, and thank you for joining our earnings call. I'm very pleased with both our operational execution and our financial performance in the third quarter. We achieved record revenue 75.2% greater than last year, driven by organic growth of 11.9%, and the remaining 63.3% of sales increase contributed by Teledyne FLIR. Revenue increased organically in every major business group, but was especially strong in our commercial imaging and electronic test and measurement instrumentation businesses, where organic growth for each was greater than 20% in the quarter. Furthermore, orders exceeded sales for the fourth consecutive quarter with a third quarter book-to-bill of 1.1.
GAAP earnings per share of $2.81 increased 13.3% compared to last year and was $0.03 less than our record GAAP third quarter earnings achieved in 2019. However, excluding acquisition-related charges, earnings were $4.34 per share in the third quarter, an increase of 61.9% on a comparable basis from 2020. Cash flow was a third-quarter record, allowing repayment of $300 million of debt while our leverage ratio declined to 3.3 from 3.7 at the end of the second quarter. Teledyne FLIR performed strongly in its first full quarter. Integration efforts have been swift, and we are increasingly excited about the long-term future with Teledyne.
We continue to accelerate the pace of planned synergies and currently expect to achieve our annualized cost-saving target of $80 million before the middle of 2022, as opposed to the end of 2022, as we described in our July earnings call, and compared with 2024, as noted when we announced the transaction in January of 2021. Regarding our execution in the quarter, Teledyne is not immune to supply chain issues, inflation, and other operational challenges. However, to date, we've been successfully navigating and managing these issues, and today we're pleased to increase our full-year sales, margin, and earnings outlook compared with the outlook we presented in July.
On a full year basis, we now think a reasonable outlook for organic sales growth in 2021 is approximately 7%-7.5%, led by forecasted growth of almost 13% in Digital Imaging, which excludes Teledyne FLIR. This translates to total sales of $4.59 billion, with contribution of $2.4 billion from Digital Imaging, including FLIR. I will now further comment on the performance of the four business segments. In our Digital Imaging segment, third quarter sales increased 217.3%, largely due to the FLIR acquisition. Organic growth in our combined commercial and government imaging businesses was also very strong at 17.9%. Sales of industrial and scientific vision systems were a record, and healthcare sales returned to pre-pandemic levels.
GAAP segment operating margin was 12.5%, but adjusted for transaction costs and purchase accounting, segment margin was 23.9%. In our Instrumentation segment, overall quarter sales increased 9% versus last year. Sales of electronic test and measurement systems, which include oscilloscopes and protocol analyzers, were exceptionally strong and increased 20.8% year- over- year to record levels. Sales of environmental instruments increased 7.6% from last year, with sales related to human health and safety markets, such as drug discovery and gas and flame detection, being strongest in the quarter. Sales of marine instrumentation increased 3.2% in the quarter. In addition, orders were the strongest in the last six quarters, with a quarter book-to-bill of 1.13.
Overall, Instrumentation segment operating profit increased 24.2%, with segment operating margin increasing 270 basis points, or 247 basis points excluding intangible asset amortization. In the Aerospace and Defense Electronics segment, third quarter sales increased 11.7%, driven by 8.4% growth in defense, space, and industrial sales, combined with a 27% increase in sales of commercial aerospace products versus last year's pandemic-related tough quarter. GAAP operating profit increased 34.5%, with margin 375 basis points greater than last year. Finally, in the Engineered Systems segment, third quarter revenue increased 1.4%, but operating profit and margin declined slightly since we exited the higher margin turbine engine business earlier this year. Before turning the call over to Sue, I want to comment on our margin and earnings outlook.
For several years, we've been on a journey to move our overall operating margin from the low teens to over 20%. Over the last 2.5 years, we've made tremendous progress with it notwithstanding the pandemic and the recent supply chain and inflationary pressures. Today, the approximate $1 increase in our earnings outlook is primarily the result of further improvement in our full year 2021 forecasted operating margin, which excluding acquisition-related charges, is 100 basis points better at approximately 21% from our 20% forecast in July. Now to Sue.
Thank you, Robert, and good morning, everyone. I will first discuss some additional financials for the quarter not covered by Robert, and then I will discuss our fourth quarter and full year 2021 outlooks. In the third quarter, cash flow from operating activities was $192.8 million, including all acquisition-related costs. Excluding acquisition-related cash costs, net of tax, cash from operations was $194.9 million, compared with cash flow of $150.3 million for the same period of 2020. Free cash flow, that is cash from operating activities, less capital expenditures, excluding acquisition-related costs, was $165.7 million in the third quarter of 2021, compared with $135.1 million in 2020.
Capital expenditures were $29.2 million in the third quarter, compared to $15.2 million for the same period of 2020. Depreciation and amortization expense was $90.2 million for the third quarter of 2021, compared with $29.2 million in 2020. In addition, non-cash inventory step-up expense for the third quarter of 2021 was $35.2 million. We ended the quarter with approximately $3.89 billion of net debt. That is approximately $4.44 billion of debt, less cash of $551.8 million. Stock option compensation expense was $5.8 million for the third quarter of 2021, compared to $5.7 million for the same period of 2020.
Resulting from the FLIR acquisition, restricted stock unit expense for FLIR employees was $1.8 million in the third quarter of 2021. Turning to our outlook. Management currently believes that GAAP earnings per share in the fourth quarter of 2021 will be in the range of $2.53-$2.69 per share, with non-GAAP earnings in the range of $4.07-$4.17. For the full year 2021, our GAAP earnings per share outlook is $9.13-$9.29. On a non-GAAP basis, $16.35-$16.45, compared with our prior outlook of $15.25-$15.50.
The 2021 full year estimated tax rate, excluding discrete items, is expected to be 23.9%. In addition, we currently expect less discrete tax items in 2021 compared with 2020. I'll now pass the call back to Robert.
Thank you, Sue. We would now like to take your questions. Operator Brad, if you're ready to proceed with the question and answers, please go ahead. Brad?
Ladies and gentlemen, if you do wish to ask a question, please press one then zero on your telephone keypad. You can withdraw your question at any time by repeating the one-zero command. If you're using a speakerphone, please pick up the handset before pressing those numbers. Once again, to ask a question, press one and then zero at this time. We can go right now to Greg Konrad with Jefferies. Please go ahead.
Good morning and great quarter.
Thank you, Greg.
Maybe just to start, I mean, you talked about a lot of the higher outlook based on the margin. You know, at least on the beat, it seems pretty broad-based across segments. I mean, how do you think about the drivers there and just sustainability given tailwinds or potential headwinds? I think previously you've always had a target of, you know, how much margin expansion you'd like to capture per year. I mean, has anything changed around that as margins have reset higher?
Well, I think, Greg, our expectation is that our margins will keep increasing as we projected. We think it's still 50, maybe 60 basis points per year above where we are. I say that perhaps earlier, I may have said 100 basis points, but our margins have moved up to 21% on Q3. It's gonna get a little tougher, but we intend to improve margins as we go along.
Just, I mean, you mentioned accelerating the FLIR synergies in the middle of next year. I mean, what allowed you to pull that forward? Maybe what does that mean for the longer term potential to, you know, drive productivity and take costs out of the business?
I think, in addition to wages, which are significant about net benefits, about $45 million, the more important thing that we've been able to manage to do is reduce dependence on third-party consultants, legal savings and, frankly, lobbyists. As you know, Greg, we don't have lobbyists at Teledyne. So, of course, the board fees and public relations and so on, those help. But third-party consultants and legal lobbyists are the, you know, there's, I'd say $28 million, $30 million.
Then just last one for me. I mean, you briefly mentioned the inflation before. I mean, how do you think about the offsets there? How much within the supply chain versus are there specific areas of the business where, you know, maybe you have more flexibility around pricing? Just trying to think about, you know, broader risk of price mix.
So far, when we look at the PPI inflation, it is pretty high. We're not experiencing as much as we anticipated in the price pressures to us from our suppliers. Having said that, some of our suppliers more recently have come out with 20%-25% price increases. Good part of it is we have long-term agreements with some of them, so those would moderate. As for ourselves, so far this year, we've been able to increase prices on average about 2%. What that means in some businesses, we can't obviously increase prices 'cause we have long-term contracts, Greg. In other businesses, we do have the ability to increase prices. On average, we've increased 2%. Our intention is to continue doing that.
Perhaps, especially next year, we'll start early and see how much elasticity we have in our prices.
Thank you.
Thank you, Greg.
Next, we can go to line of Mike Maugeri with Wolfe Research. Please go ahead.
Hey, good morning, everyone. Thank you for the time. I'm just curious, within your government business, are there any watch items like new starts or programs with significant ramps, that you're keeping a closer eye on while the U.S. is operating under this continuing resolution?
Yes, Mike. I think, first, let me start by saying our government businesses are about 26%-27% of our total. The two opportunities that we are keeping an eye on are underwater vehicles, and there is a medium underwater UUV that the government is soliciting proposals on, and we're bidding on that across the Engineered Systems and our marine businesses together, just like we do with gliders and other things. There's the large underwater vehicle that we expect to bid on. In Digital Imaging, we have the wide field of view or what's called WFOV early warning satellite. That's an opportunity for us. Our next generation Overhead Persistent Infrared OPIR is another one.
The downside, if there is a downside, is we have to rebid our NASA program, what we call MOSSI, which is the Mission Systems program, later this year. We haven't bid on it yet, but the decision would be later. There's always a risk when you're doing that. Overall, there's a whole range of new programs that are available to us, even under the continuing resolution.
Got it. To the point in your release about the recovery in the longer cycle business. Now that you have that, would you sort of be willing to talk about the early trends that you're seeing into next year within the business?
Right now, I would say the opportunities would be in our marine businesses, primarily because the oil prices, as you're well aware, might have moved up significantly. We had a book-to-bill of 1.13 this quarter. We also think that we will have more opportunities on Aerospace and Defense businesses, especially on the aerospace side as people start traveling more. We think that marine may have an upside next year of maybe $25 million, and controls, which is our computers that go on various aircraft, that can have a similar number, $20 million-$25 million. Those are longer cycle businesses, and so far, they look all right. On the shorter cycle, which the other side of the Instrumentation, we enjoyed a 9% increase overall.
T&M, our Test and Measurement, doing well. We hope that with our new products that we keep developing, they'll have some bump next year, too.
Got it. Thank you.
Thank you, Mike.
Next, we can go to line of Elizabeth Grenfell with Bank of America. Please go ahead.
Hi. Good morning. You know, as we think about the FLIR integration and, you know, the acceleration and the timeline to achieving the initial cost savings, where do you think we could potentially see additional upside? I think before the upside had been to $100 million. I mean, how much additional headroom is there into achieving additional cost synergies and savings?
Elizabeth, let me start with, I hope I didn't misquote myself. Our top side savings, which we moved forward from 2024 to 2022, is $80 million. Having said that, there are other opportunities, but there would be more opportunities in developing products between FLIR's offerings and Teledyne's offerings. As we move the revenue up and keep our costs down, we think that will help improve our margins. We haven't factored that in the revenue synergies yet because right now we're still integrating. We've integrated some of the businesses very quickly, like they make mid-range vision systems. We make high-end vision systems, and those we've coupled right away, and that's worked out really well.
We're still working on the rest of the stuff. Like in the marine, Raymarine and our marine businesses, there are opportunities. There are opportunities between their Raymarine businesses and our software businesses and underwater software businesses at CARIS. We're working on all of those. As we do that, I think those would create more savings as we go forward.
Okay, as you continue to delever, how are you considering or thinking about the M&A environment and additional opportunities to grow inorganically?
Yeah, Elizabeth, first, on the deleveraging, we're not sitting at 3.3x net debt to EBITDA. We hope to take that down to about 2.7x by the end of 2022. That would be our marker. As we look at that, when you kinda start getting confident that you're gonna go there, you start looking at larger acquisition potentials because those things take a little time to get, eight to nine months. In the interim, we will look at, and we are looking at smaller acquisitions. As we did back in 2017 when we acquired e2v, our debt to the EBITDA ratio was pretty high.
We very quickly delevered over the next three years, but in the interim, we also bought about $500 million of smaller assets. We'll do the shorter term, we'll do small acquisitions. In the longer term, I've promised the rating agencies that we won't do anything very big, but they were sure we can hit our targets.
Okay, thank you.
Thank you, Elizabeth.
Next, we can go to the line of Jim Ricchiuti with Needham & Company. Please go ahead.
Hi, good morning. Robert, question on the FLIR business. Its organic growth there looks like it was fairly modest. I don't recall them having much of an EST contribution in last year's Q3. Is any of this either portfolio realignment? Their commercial business appears to be doing okay. I think the machine vision business probably was pretty healthy. Is it their government-related business that was a little slower?
Actually, Jim, if I may, their EST business, which was out of their components, which they make the sensors and the solutions businesses, the commercial solution businesses, was generated about $40 million in revenue last year in Q3. Let's say $35 million-$40 million. Their Q3 last year, including that, was about $466 million. This year, third quarter, the revenue is $474 million. If you were to look at it apples to apples and take the $40 million out of the $466 million, you're looking more like a $426 million, $427 million last year versus the $474 million. There's a significant growth there.
Second, we've had reasonably good growth in our defense segment, the FLIR defense segment, of about 3.5% this year versus last year, primarily coming from the unmanned systems. There's been growth in the commercial as well as in the defense businesses. If you were to subtract the EST sales last year, third quarter.
No, thanks for clarifying that. You're right. They did about $90 million in Q2, and even though it was down to $40 million Q3, that's still a fairly significant contribution. Thanks for pointing that out, Robert. On the test and measurement business, you guys have performed really well there. What I'm wondering is, structurally, is there anything changing in that business, in that market? Is it market share gains? Is it the activity you're seeing in the protocol analyzer business? Are you gaining share, do you think, in the scopes business?
Yeah, Jim, both. What, first of all, we're hitting on all cylinders on our protocol analyzer businesses. If you combine our protocol analyzer and our oscilloscope sales, that was a record for us, all-time record this quarter. We see very strong demand for our protocol analyzers like PCI Express, as well as high-definition multimedia video products. The other thing that we've been successful at is we've combined our oscilloscopes with our protocol analyzers, which saves significant amount of time for engineers that are developing interfaces between products. That's been a real winner for us. It's a combination. Good market for oscilloscopes, great market for protocol analyzers, and an upside when you combine the two together with new products.
Got it. Two quick final questions just. This next question may be difficult to answer, but you do seem to be navigating the component environment fairly well. I'm wondering if you can say whether there's been any identifiable disruption to revenues or, in other words, revenues that you know perhaps would have been able to achieve in the quarter, but it's just challenging to get parts.
Yeah. Jim, that's a great question. Yeah, I can answer that, because we track that one very closely. First, in the quarter, I'd say we probably didn't enjoy about $40 million of revenue that we could have, because of shortages. Now, we were fortunate because the way our portfolio of business is laid out, as you're very familiar with, we can make some of that up in other places. We have a balanced portfolio, and these shortages are not hitting everything we do. By the way, those are not lost sales. They're just moved to Q4. We expect to have a similar number in Q4. We're looking at Q1 of next year and see similar issues. It's kind of a shifting game, but we make it up by pulling in from other parts of our portfolio.
Having said that, we have an extremely active program from the procurement side, where we have a major initiative in procurement automation, but we also have procurement working with our, interestingly, with our suppliers in the Far East, who provide us PCBAs. They have access to components that go into those PCBAs, and they're helping us get some of the computer chips and other components that we need. We also have some dedicated people in the Far East doing the same thing. It's a combination. Take the $40 million, push it forward, then take $40 million from this current quarter, push it forward, pull in some stuff where we can, and kind of, as I said before, we're navigating it. I think so far we've done okay.
Got it. Last question, Robert. You alluded to a fairly strong book-to-bill in Marine. Can you give us a sense of book-to-bill in the various segments, visual imaging and the AD&E and-
Sure.
Sure. You can, sure, Jim.
Let me start with Marine. I gave that. In environmental and test and measurement, it's 1.05 in Q3. Recall that we had in T&M record sales in Q3, so 1.05 is pretty good. Digital imaging, I'd say 1.12. And AD&E, which is our defense and aerospace businesses, 1.06. Engineered systems, 1.05 about. Jim, and overall, that brings it to about 1.1.
Got it. Thanks very much. Congratulations on the quarter.
Thank you, Jim.
We'll move to the line of Andrew Buscaglia with Berenberg. Please go ahead.
Morning, guys.
Morning.
On that book-to-bill comment, can you know, within Digital Imaging, can you indicate how bookings are for FLIR?
There's modest, but they're in the 1.1 in the Digital Imaging side.
Okay. Still above 1, though?
Yeah.
Okay. Okay.
In-
Sorry, what was that?
No, I said in the Digital Imaging side.
Yeah. Great.
The total-
Okay.
Yeah.
Okay.
Yeah.
You talked you know fairly you know positively about government. You're still gaining your fair share of government awards, potentially. Would FLIR help? Are there any that related to FLIR that you could talk to? Then maybe not so much near term, but anything you see on the horizon in 2022, as that was always kind of a sore spot for them in terms of you know winning new awards that are meaningful.
Yeah. I gotta tell you that we're holding our own there. Things have moved a little to the right, but we've gotten some nice orders, especially, for example, in the U.S. Border Patrol, where we deliver light vehicle surveillance systems. We have some DARPA program on that could lead to other activities in the personal protective biosystems. Overall, I think we're holding our own there, and I expect we do okay. You know, again, Andrew, to me what's important is even if you look at our government businesses with FLIR, we have a balanced portfolio. Unfortunately, they may have suffered a little bit because too focused a portfolio. We have a balanced portfolio between our Engineered Systems, the FLIR unmanned, both ground and air systems and integrated systems.
We have our, of course, our defense programs in our Aerospace and Defense. We gained about 3.5% in those programs, in our government programs in Q3. That may sound modest when you look at the overall growth of 11.9% organic, but I'm happy with that. If we can keep that pace in these times going forward, we should be okay.
Okay. Maybe just lastly, you're seeing some of your longer cycle businesses pick up a bit. I know it's small, but can you just comment on what's going on with energy specifically, your, you know, sales tied to energy exposure.
Yeah. I think the first is because of the oil prices. We expect that we get about a 3% increase from 2021 to 2022 in total sales from, let's say, $150 million up maybe to $175 million. That's a little more than 3%, as I think about it, but that's more like 2.1%. Having said that, again, you know, I'll fall back on what we've constructed our portfolio. We get 3% here, 4% there. We get defense, we get energy, we get our short cycle businesses, and then of course, Digital Imaging, we're hitting on all cylinders there. We think we're gonna be okay.
There's upside in energy, but I'm not counting on it to move the whole company. The whole company would live now because of all the pieces that we have put together that protect us, by the way, on the downside, as you well know, Andrew.
Yeah. Okay. Thanks, Robert.
Thank you. Brad, do we have any other questions coming up?
Currently, we just have Joe's line is open and nobody following Joe.
Okay. Joe?
Hey, guys. Can you hear me?
Yes. Yes.
Hey, good morning. You kind of hinted at this already, but if you were to kind of think about FLIR ex the EST, you know, what do you think is like the true growth rate that you're exiting 2021 at into 2022, and is that kind of a sustainable rate into 2022?
Right now, if you subtract out EST, which as I mentioned, we had no revenue this year, I think it would be in the mid single digits. Just like we think Teledyne should be.
Yeah. If you were to contemplate. Yeah, go ahead.
I'll just say this, you know, when we started the year, Joe, we said our organic growth would be 5.5%-6%. As we went to summertime in July, we said it'd be 6.6%. Then when we came today, I said it'd be between 7%-7.5%, 7.25%. I'm hoping, and I'm using the word hoping, that when I say mid-single digits, like 5%, that would be a good beginning for us next year.
Yep, understood. If you're talking about getting to, like, an $80 million run rate in savings by mid-2022 for FLIR, what does that kind of imply for, you know, a margin there? I mean, if we wanna talk EBITDA, whatever's easiest to talk about.
I think I mentioned earlier, we anticipate to improve our margins 50-60 basis points across the company year-over-year. Whether it's non-GAAP or EBITDA, by the way, our EBITDA this quarter was about 24.2%. I think that will help improve our non-GAAP margins up. For FLIR today, it's about 24%, which is significantly higher than we've enjoyed historically. For 2021, our overall margin, we expect the non-GAAP margin, which excludes, of course, the intangibles and costs associated with the purchase accounting. If you go to 21%, and if we can enjoy 50 basis points on top of that, some serious contribution coming from FLIR, we'd be very happy with that.
Again, bear with me on this, Joe. I'm giving you what I'm seeing January happening throughout next year. As we get to January, if nothing terrible happens in the world, hopefully we'll do better. Right now, I'll stay with the 50 basis points.
Just one last question, more high level. You know, there's been talk, you know, stories recently about China with nuclear gliders and suborbital. Can you just talk about like what this means for space-based detection and sensing and where you guys are positioned there and how that market can develop further given, like, kind of new threats that we need to deal with?
Yeah. We have two examples that I can give you. One of them is in our Engineered Systems segment. We have a contract where we're developing a wind tunnel for vehicles that are of the nature that you just mentioned. That's very important because to test hypersonic vehicles, you wanna have a wind tunnel to be able to do that, a hot wind tunnel. We have a small program of $50 million, which we think will be followed by another bigger program that is specifically for hypersonic vehicles. On the other side, we do have sensors in the A&D segment of FLIR, and also especially, that I meant Digital Imaging in general.
We have sensors that are being developed and used, computers, edge computers, that are located on various vehicles for detection of high-speed missiles. If that market starts growing, then we do have a series of products. We have one that I cannot describe too much. We do have a very strong multiple programs in our imaging businesses here in Thousand Oaks. That's the one that locates infrared and other sensors on satellites and space vehicles. Those are classified programs. We're enjoying some really good opportunities that actually led to growth of our imaging programs.
Thanks, guys.
Thank you very much.
We do have a follow-up question. We'll go to the line of Mike Maugeri with Wolfe Research. Please go ahead.
Hey, thanks for getting me back on. Unless I missed it somewhere, Robert, would you be able to go around the horn on the change in growth rate at the segments that drove the change in guidance?
Yeah. Let me see. I can do that. In July, we anticipated that the growth rate in Instrumentation would be about 6.2%, and we expect that to continue. In Digital Imaging in July, we anticipated about 11.8%. We're raising that to about 13%. In our Aerospace and Defense segment in July, we anticipated about 4.4%, and now we think it'd be closer to 6%. Engineered Systems, we expect it to shrink about 1.7%, and it will shrink 1.7%. When you add those up, Mike, in July, we anticipated that our organic growth would be about 6.6%.
If you add the numbers up that I just mentioned, and round them up, it'll be between 7%- 7.5%, let's say 7.25%, organic growth. That's kinda going it on the horn as you mentioned.
Thank you.
For sure.
Currently no further questions in queue.
Thank you, Brad. I'll now ask Jason to conclude the conference call, please.
Thanks, Robert. Again, you know, if anyone has follow-up questions, my number's on the earnings release. Please feel free to call and email me. Brad, if you'd give the replay information, conclude the call, we'd be appreciative. Thanks, everyone.
Certainly. Thank you. Ladies and gentlemen, the conference will be available for replay after 10:00 A.M. Pacific today and running through November 27th at midnight. You can access the AT&T replay system at any time by dialing 1-866-207-1041 and entering the access code 7478140. International parties may dial 402-970-0847. Those numbers again are 1-866-207-1041 and international, 402-970-0847 with the access code 7478140. That does conclude our call for today. Thanks for participation in this AT&T Teleconference. You may now disconnect.