Thank you for standing by. Welcome to the Woodward, Inc. second quarter fiscal year 2021 earnings call. At this time, I would like to inform you that this call is being recorded for the broadcast and that all participants are in a listen-only mode. Following the presentation, you will be invited to participate in a question and answer session. Joining us today from the company are Mr. Tom Gendron, Chairman and Chief Executive Officer, Mr. Bob Weber, Vice Chairman and Chief Financial Officer, and Mr. Don Guzzardo, Vice President of Investor Relations and Treasurer. I would now like to turn the call over to Mr. Guzzardo.
Thank you, operator. We would like to welcome all of you to Woodward's second quarter fiscal year 2021 earnings call. In today's call, Tom will comment on our markets and related strategies, and Bob will discuss our financial results as outlined in our earnings release. At the end of our presentation, we will take questions. For those who have not seen today's earnings release, you can find it on our website at woodward.com. We have again included some presentation materials to go along with today's call that are also accessible on our website. An audio replay of this call will be available by phone or on our website through May 17, 2021. The phone number for the audio replay is on the press release announcing this call, as well as on our website, and will be repeated by the operator at the end of the call.
I would like to refer to and highlight our cautionary statement as shown on slide three. As always, elements of this presentation are forward-looking or based on our current outlook and assumptions for the global economy and our businesses more specifically, including the ongoing COVID-19 pandemic. Those elements can and do frequently change. Please consider our comments in light of the risks and the uncertainties surrounding those elements, including the risks we identify in our filings. In addition, Woodward is providing certain non-US GAAP financial measures. We direct your attention to the reconciliations of non-US GAAP financial measures, which are included in today's slide presentation and our earnings release and related schedules. We believe this additional information will help in understanding our results. Now turning to our results for the second quarter.
Net sales for the second quarter of fiscal 2021 were $581 million, compared to $720 million for the prior year quarter. Net earnings and adjusted net earnings for the second quarter of 2021 were both $68 million, or $1.04 per share. For the second quarter of 2020, net earnings were $91 million, or $1.41 per share, and adjusted net earnings were $104 million, or $1.61 per share. Net sales and net earnings were up 8% and 64%, respectively, when compared to the first quarter of 2021. Net cash provided by operating activities was $219 million for the first half of 2021, compared to $52 million for the same period of the prior year. Free cash flow and adjusted free cash flow for the first half of 2021 were both $206 million.
For the first half of 2020, free cash flow was $23 million, and adjusted free cash flow was $55 million. Now I will turn the call over to Tom to comment further on our results, strategies, and markets.
Thank you, Don. Good afternoon, everyone. The second quarter of fiscal year 2021 showed improved results from our first quarter. We believe our markets will continue to improve for the remainder of the year and into 2022. The aggressive actions we have taken to address this unprecedented crisis continue to drive strong cash flow, improve our liquidity and overall financial position, enable ongoing investments and opportunity for growth. While COVID-19 vaccinations gain momentum, increases in cases persist across the globe, continuing to drive uncertainty with respect to the pace of economic recovery. Moving to our markets, aerospace continues to feel pressure, although it is encouraging to again see the sequential improvement from the prior quarter. The sustained depression of global passenger traffic resulting from the pandemic continues to impact commercial aerospace markets.
However, we are seeing positive indicators such as improving passenger traffic, increasing aircraft build rates and utilization, and the return to service of the Boeing 737 MAX. Importantly, production rates of the MAX, on which we have significant content, are expected to increase during the year. We're encouraged by these trends and expect the continued vaccine rollout to have a positive impact on commercial aerospace. Defense spending remains strong with respect to both OEM and aftermarket activity. We see continued strength in guided weapons through the remainder of this year, with moderation expected next year. Turning to our industrial markets. In power generation, demand for gas turbines remains steady at historically low levels, although we anticipate a recovery in 2022. Aftermarket activity is starting to recover, largely driven by depleted inventories and resumption of maintenance projects.
Global energy production continues the shift to natural gas and renewables to support initiatives to reduce emissions. In transportation, China natural gas truck demand continues to be strong, driven by favorable pricing and increased regulations to improve emissions. Government initiatives supporting natural gas trucks are also emerging in several other countries. The global marine market is showing signs of improvement, with increases in both demand for new vessels and global freight pricing. Repair and overhaul projects that were postponed due to the pandemic are also beginning to pick up. The oil and gas market remains challenging. However, global demand and increasing oil prices are beginning to drive investment in drilling, fracking, and natural gas compression. In summary, we delivered strong financial performance as our markets showed signs of economic recovery. We will continue to closely monitor the situation as we progress through the back half of the year.
As the pandemic unfolded, we reacted quickly to navigate the uncertain market environment, reduce our cost structure, increase our focus on operational excellence, and prioritize diligent cash management. We continue to gain market share in both our aerospace and industrial segments, and we won new programs during the downturn. We believe Woodward is emerging from this unprecedented crisis an even stronger company. Before turning the call over, Bob Weber announced his intention to retire in January of 2022. He will retire from his role as Chief Financial Officer effective September 30th of this year, and will serve as a special advisor to me for an interim period. I want to thank Bob for his dedication and valuable contributions during his more than 15-year tenure at Woodward. Under Bob's leadership, the company has grown tremendously, and we have delivered exceptional value to our shareholders over his career.
I truly appreciate the partnership and friendship we have built over the years, and I'm excited for him as he enters this next phase of his life. Bob, we wish Patty and you all the best. We also announced that Mark Hartman, who is currently our Senior Vice President of Finance and Corporate Controller, will be appointed as Chief Financial Officer effective October 1st. I look forward to working with Mark in his new role and leveraging his extensive experience to drive Woodward's continued growth and success. Now I'll turn the call over to Bob to discuss our financials in more detail.
Thank you very much, Tom. Aerospace segment sales for the second quarter of fiscal 2021 were $365 million, an increase of 23% from the prior year quarter. Commercial OEM and aftermarket sales remain weak compared to the prior year as a result of the pandemic, with commercial OEM down 30% and aftermarket down 42%. On the bright side, sequentially, commercial OEM was up 34% and commercial aftermarket was up 18%, driven by increasing build rates and passenger traffic. Defense OEM was down slightly in the quarter compared to a strong second quarter of the prior year, primarily due to lower sales of guided weapons, partially offset by higher sales in both fixed-wing and rotorcraft. Defense aftermarket sales were down compared to the prior year quarter, although activity and backlog remained solid.
Aerospace segment earnings for the second quarter of 2021 were $69 million, or 18.9% of segment sales, compared to $118 million, or 24.8% of segment sales for the second quarter of 2020. The decline in segment earnings compared to the prior year was the result of lower volume, partially offset by cost reduction initiatives. Turning to Industrial. Industrial segment sales for the second quarter of fiscal 2021 were $217 million, compared to $246 million in the prior year period. Excluding the Renewable Power Systems and related businesses, which I will refer to as RPS, Industrial segment sales for the second quarter of 2020 were $215 million.
The slight increase in industrial sales, excluding RPS, was primarily due to strong demand in the current quarter for China natural gas engines and the positive effects of foreign currency exchange rates, partially offset by weak oil and gas and the ongoing impacts of the pandemic. Industrial segment earnings for the second quarter of 2021 were $28 million, or 12.9% of segment sales, compared to $26 million, or 10.6% of segment sales in the prior year. The increase in industrial segment earnings was primarily the result of cost reduction initiatives. For the second quarter of 2020, industrial segment earnings, excluding RPS, were $25 million, or 11.6% of segment net sales. Industrial segment earnings as a percent of sales for the first half of 2021 were 14%, compared to industrial segment earnings excluding RPS of 11.8% for the same period in the prior year.
The improved earnings are a result of the many actions we have been taking to optimize our product portfolio and global footprint. Non-segment expenses and adjusted non-segment expenses were both $10 million for the second quarter of 2021 compared to non-segment expenses of $28 million and adjusted non-segment expenses of $11 million for the same period last year. At the Woodward level, R&D for the second quarter of 2021 was $28 million, or 4.8% of sales, compared to $35 million, or also 4.8% of sales, for the prior year quarter. The decrease in R&D was mainly due to quarterly variability of project expenses and customer funding.
SG&A for the second quarter of 2021 was $44 million, compared to $58 million for the prior year quarter, which included $17 million in merger and divestiture transaction costs. The effective tax rate and the adjusted effective tax rate were both 13% for the second quarter of 2021. For the second quarter of 2020, the effective tax rate was 14.8%, and the adjusted effective tax rate was 16.2%. Looking at cash flows. Net cash provided by operating activities for the first half of fiscal year 2021 was $219 million, compared to $52 million for the prior year period. Capital expenditures were $13 million for the first half of 2021, compared to $29 million for the prior year period.
Free cash flow and adjusted free cash flow for the first half of 2021 were both $206 million, compared to free cash flow of $23 million and adjusted free cash flow of $55 million for the prior year period. The increase in free cash flow and adjusted free cash flow was primarily related to effective working capital management and lower capital expenditures. We have reduced our leverage to 1.7x EBITDA at the end of the second quarter, compared to 1.9x at the end of the prior year quarter. Lastly, turning to our fiscal 2021 outlook. The ongoing rollout of vaccines across many countries is driving optimism for economic recovery. The enduring turbulence caused by the COVID-19 pandemic, including significantly reduced global passenger travel and new viral variants, continues to cloud near-term forecasts.
While we believe many of our markets will improve for the remainder of this year and into 2022, we will continue to withhold guidance as we navigate the uncertain economic landscape. This concludes our comments on the business and results for the second quarter of 2021. Operator, we are now ready to open the call to questions.
Thank you. Your first question comes from the line of Robert Spingarn from Credit Suisse. Please state your question.
Good afternoon.
Good afternoon, Robert.
I have a couple of questions, but I wanted to start with just on the aerospace margins. They're pretty good, and they're almost back to where you've been. With the tailwinds you have for the rest of the year, with just fundamentals improving, you're going to have a mix tailwind. Can you hit 20% plus margins here in fiscal third or fourth quarter?
It's a great question. We're highlighting, we're not giving guidance. We definitely believe there will be an aftermarket tailwind coming. More aircraft are brought online, the utilization goes up. We're confident in our longer-term guidance for both segments. We're on the path to get there, Rob. We just have to see how the market materializes, as we get the sales growth, we're going to lever that into improved profitability.
Okay. Tom, can you give us any detail, or Bob, on in the aftermarket, if the improvement or how we think about provisioning versus regular spare sales as that improves?
Yeah.
Is one stronger than the other?
Right now, it's stronger on the repair and overhaul side than on provisioning. We do anticipate as we move later this year into next year, we'll start to see provisioning recover.
Okay. Tom, I wanted to follow up on your comment, I think it was your comment on MAX-
Yeah
that the rates will rise throughout the year, throughout calendar 2021. I was hoping you could be a little bit more specific with your inventory position there and current rates. As demand recovers, I wanted to get a sense of how quickly you can ramp beyond 31, given that you're capacitized, I assume, for 52 or 57. At that point, is the gating factor just labor?
You're correct on that. We were sized to support the higher rates both for the Boeing 737 MAX and the A320neo. One of the good news as we come out of the pandemic is we have the capital equipment to support the highest rates that we anticipate that Airbus and Boeing will be going to. That's good news as we go forward. We are onboarding new members to support the ramp up. We put together some innovative and extensive training sessions. Some of them are members we're bringing back that were either laid off or furloughed. Others are new members moving forward. We're very confident in our ability to onboard members to help support the ramp. The other comment on inventory in the system, inventory was depleted, so there's a combination. We will see some inventory increasing.
We're on track and we will be ahead of the production rate ramp. There is still a lot of uncertainty around the production rates. So we're tracking with exactly what Boeing and Airbus are saying they want to achieve. I think there's going to be some volatility in those rates over the next six- 12 months.
Okay. Just normally, what's your lead time relative to Boeing's delivery to the end customer?
Yeah, normally, when you're in normal circumstances, it'd be on the order of four or five months.
Okay. All right. Thanks, Tom. Appreciate it.
Sure.
Your next question is from Sheila Kahyaoglu from Jefferies. Please state your question.
Hi, good afternoon, Tom and Bob. Congratulations again.
Thank you again.
I'll maybe stick to one or two. Tom, I don't know, maybe this is for you. A little bit on the aftermarket. We touched on it with Rob a little bit, on the short-term, but also the longer term on your aftermarket. How do you think about it? What's provisioning been historically of your sales, and what does it look like? Does the way you sell to airlines change because of the pandemic at all, or because you've upped your MAX content, of course, in the A320? Maybe if you could talk about aftermarket expectations, both near- term and longer- term.
Sure. I'll start. Bob, chime in anytime.
Sure.
Sheila, the first, I want to maybe lay some groundwork. As we look at the aircraft coming back into service, and I guess it goes without saying, most everybody knows that they're bringing the newer, more efficient aircraft back into service. They're retiring some of the older aircraft. As we look forward, if we call it the demographics of the fleet, are going to be very favorable in terms of the aircraft we have more content on. We're starting to see that just in utilization and aircraft being returned to service. The point of that is, longer term, we think we're going to have tremendous aftermarket revenue coming in as the aircraft are brought in service, airlines start taking new deliveries of the new narrow bodies and the new wide bodies where we have significant content.
That's looking very favorable to us, and we anticipate as those utilization rates go up, we're going to start seeing more maintenance. I think as you're well aware of, some of our, what we call legacy products. That's pre-NEO and MAX narrow bodies, V2500, CFM56. Some of those are just seeing their first shop visitor coming to their second. We think the maintenance activity will start picking up, and again, very favorable to us. In terms of initial provisioning, as you would expect, the airlines, they're preserving cash and being careful about that. As we start moving in out of the pandemic, they start putting the planes into service. They start taking more of the MAX aircraft out of storage into service. We think we'll start seeing initial provisioning pick up, and it's definitely a good part of our aftermarket mix.
Maybe more in fiscal year 2022 than the remainder of 2021. I think it's going to take a little time for all those deliveries and for the airlines to start picking it up. When we look out, it's going back pre-pandemic. Our demographics are positive. Our market share has improved. Utilization of the equipment we're on is going up. That all signals improved aftermarket over the next years, and I think it'll be very favorable to us.
Just staying on this topic, I'm sorry if I missed it. Did you mention what initial provisioning is of overall aftermarket sales? As these MAXes ship out of inventory, would you expect any initial provisioning with them, or those are all already allotted for?
No, Sheila, let's phrase it this way. That the MAX that are in storage, at least for the most part, have not been provisioned of Woodward equipment.
Okay.
It's as they get taken up and the utilization starts going up, we expect that to come. That's why I'm saying it's more of a, I think as we approach our fiscal year 2022, we'll start seeing provisioning recover. It's been very low during the pandemic.
Okay. All right. Thank you very much.
You're welcome.
Your next question is from Gautam Khanna from Cowen. Please state your question.
Yes. Thank you, and congrats, Bob, again.
Thank you.
I guess we'll get you on another call, though still, so stay tuned.
That's right.
Yeah. All right. Okay, good. Well, hey, I was curious about if you could talk about the exit rate on the aftermarket. Did it get better through the quarter in terms of growth, or was it pretty consistent January, February, March? What have you seen so far through the second calendar quarter, through April on the aftermarket?
Yeah. We're seeing, I would say, month-over-month, the aftermarket improving. We're seeing the utilization. We're tracking weekly utilization on all the aircraft we have content on and what's happening. We're seeing shop visits starting to increase. It's pretty much month-over-month, and we anticipate that continuing kind of in conjunction with aircraft coming back into service. As long as we see the steady improvement, I'm thinking you're going to see continued aftermarket growth.
Okay. Could you say anything about the product types where you're seeing it? Is it on the actuation? Is it on the engine components?
Yeah.
Is it across both? Any skew either way?
It's skewed towards the engines, kind of. I'd say that's where traditionally the business supporting the engines has higher aftermarket than on the airframe. That's just truly that the engines are always running. You generate more time and more aftermarket revenue from engines. It is skewed that way.
Okay. Related to that, is there anything?
Sorry
is it broad based, or is it regionally stronger in the U.S.? I just am curious. I imagine it is. It's just kind of, we look at where the flight hours are highest.
Yeah.
That's sort of tracking to your business, or?
Sure. Where the hours are the most in the U.S. and in China, and so that's definitely driving more of it.
Okay. Forward visibility at this point into the second calendar quarter, is it pretty good? Can you see through June what the expected shop visits are supposed to be? Is it still kind of very short lead time in terms of aftermarket?
We're seeing forecasts from our customers and the like for shop visits, but I would say there's still a fair amount of volatility in the market. We're anticipating increasing the aftermarket, increasing shop visits. We're planning for that. We're doing our own internal provisioning demand planning for that. It is still volatile, and there's still a fair amount of uncertainty around it. Our belief is it's going to continue to pick up, and we're getting ourselves prepared for that.
Thanks, guys, very much.
Yeah. You're welcome.
Thank you.
Your next question is from Peter Skibitski from Alanda Global. Please state your question.
Yeah. Good afternoon, Tom and Bob and Don.
Hey, Pete.
Hey, guys. I just wanted to get a better sense, maybe Tom, with two quarters left in the year, where your lack of visibility stems from. I think consensus in general expect revenue to be up in the back half of the year for you guys. You've lapped the tough COVID-19 comps. Is it an issue where you expect revenue to be up in the back half of the year, it's just hard to kind of ballpark a range around the revenue, and then because of that, it's hard to ballpark a margin around that? Is that kind of the logic that drove you to not re-initiate guidance?
There's still, even on the OE production rates, we're still seeing variability in the rate, and we're still being cautious that all the rates are going to be met or achieved. There's a little uncertainty there. There's definitely uncertainty in the aftermarket. All indicators are pointing to improvement, but it's a challenging time to really nail those down. Second thing is the definitely uncertainty wrapped around the Max. How fast will the planes get delivered? Will China approve the Max? What will the utilization be on those? There's a lot of factors that are still not solid, but as we were trying to say, the indicators and the trend is going in the right direction. It looks positive, but it's really still, with all that variability, very difficult to pinpoint the exact forecast.
As you pointed out, with the mix issues that you can have on the aerospace side there, it's hard to pin down the margins. We're encouraged by the outlook.
Okay.
Yeah.
Bob, did you want to say something?
The only thing I was going to add is, and we were kind of focused on the aerospace side, but there's a lot of equal uncertainty on the industrial side as well. We've got the oil and gas, and pricing's firmed up a little there. China natural gas is always kind of a variable and so on. We're seeing the marine market, and that's very impactful to L'Orange, start to show some signs. They're too early to call, even on the industrial side as well.
That is funny. That was actually my second question, was the marine market. Not a particular expertise of mine, but you read these articles about bottlenecks and ports and whatnot, and it's hard to know. It seems like that's short-term negative, but it also seems like maybe a positive that there's a lot of ships out there with global trade picking up. Is order flow picking up for you guys in marine? Is visibility picking up? I was just wondering if you could maybe give us some clarity there and maybe how L'Orange
Yeah. One that you're seeing is the utilization is increasing in the marine market in particular, if you want to say in the freight carriers. We're seeing that. We're encouraged by the order book. It's picking up, and we're also seeing LNG carriers order book picking up and utilization picking up on those. Those are very strong programs for Woodward, a lot of content on those. The cruise market, it's kind of been dead, and we've got a lot of content on the cruise ships, particularly through L'Orange and through our traditional business. We're encouraged to see that they may be allowing cruises in the U.S. here, I think, latest is maybe starting in July. As that gets firmed up, we think there'd be some maintenance activities kicking in. That'll be a positive. Those are things like Bob highlighted. We see them coming.
It's just exact timing's a little hard to predict. Overall, the marine market is recovering. The order books are picking up. They're long lead time orders, just so you know. I mean, the order book goes out a couple of years, lead time. It's in a positive trend, and most important thing for us right now is the utilization, which drives the aftermarket, and that's encouraging.
Okay. I guess, I didn't fully understand. Cruise ships, it's a pretty good chunk of L'Orange's revenue?
No, it's a good part of the business. Good high-tech products that go in there and good aftermarket associated with the cruise ships. That, as you know, has been dead in the water.
Yeah
and along with that-
No pun intended.
Yeah, no, exactly. It'd also be ferry. We always say cruise ships, ferries, all that has just been not happening in the pandemic. As that recovers, that'll be positive. Like I said, the utilization of the cargo carriers and the like is improving, so that drives good business. We're encouraged by the order book.
Okay
it's on a good track, and hopefully second half of this year into next year, we'll start seeing some recovery in those, which will be good for our industrial segment.
Okay. Last one for me, just on the guided weapons comments, fiscal 2022. Are we talking substantial declines, 50% type declines or lower double digit type-?
No.
Okay, go ahead.
No, we see some reduction in DoD orders for the smart weapons, which may be partially offset by foreign military sales. The foreign military sales are not firm. We anticipate moderation or a reduction. It's not that dramatic as you were highlighting, so.
Okay. Thanks very much, guys.
Yep.
Thanks.
Your next question is from Christopher Glynn from Oppenheimer. Please state your question.
Thanks. Good afternoon, everybody. Bob, I'll hold on for a couple of days on congrats.
Okay.
Just curious, you had for industrial, a number of positive comments on utilization across transportation, marine, and general turbo machinery, oil and gas, I believe, too. Are those kind of the best directional kind of indicators to think of in terms of fiscal second half having a little stronger volume than the first half?
We definitely anticipate improvements in those sub-segments in industrial. Again, with some uncertainty wrapped around it, but we do see that. Traditionally, as we move into the fourth quarter of our fiscal year, it's generally one of our stronger quarters. We don't see that changing this year either. It's positive on the outlook with uncertainty that those things materialize. Right now, they're on a positive trend. You kind of saw that here in the second quarter where year-over-year, we're basically flat sales. Normally we wouldn't say that's real positive, but during a pandemic, we think that's a positive trend with improvements coming.
Okay. Are there any revenue recognition timing issues related to COVID and commissioning any equipment or anything like that for industrial?
Nothing that I would say is material.
Okay. Last one for me on the aftermarket for aerospace, you had a real nice sequential pick up. A number of others were kind of flat, maybe even down a little ex business jet, including some of the bellwethers. Is that just depict the volatility out there in the market, or is there a structural aspect to your lead? Is that the demographic shift already kind of being reflected?
Yeah. I would say because we're analyzing every week the fleet and the utilization of the fleet. I definitely think it's the demographics, as we call it, of the fleet are favorable to Woodward content, and I think that's what you're seeing. Longer term, we've highlighted that for years, going back to when we secured all the additional content on these new aircraft. I think you'll start seeing that materialize over the next number of years as they're in service, and they start hitting maintenance cycles. We think that's a positive for us.
Interesting to see it out of the gate there. Thank you.
Yep. Welcome.
Thank you.
Your next question is from Chris Howe from Barrington Research. Please state your question.
Good afternoon, everyone. Thanks for taking my questions.
Hi, Chris.
Hi.
Hi. First off, starting with the China VI regulations. We've been talking about it a lot last quarter. I know it's hard to get into the weeds with it, precautionary reasons on a quarter-to-quarter basis. Perhaps with these going into effect in July, can you talk about your expectations in the second half for this business, and your outlook in general once the regulations are going into place? I know you mentioned there were some limitations to the potential upside there on the last call. Just wanted to gain the right perspective on that.
Yeah. No, good question. The China VI diesel regulations go into effect in July. The China VI for natural gas are already in effect. What's happening, and typically happens every time you have a new emission regulation, we call it pre-buy. You're seeing China V diesels being purchased right now. That's having a little bit of an impact, and it did here in the second quarter. As we move forward, though, and you look at China VI diesel versus the China VI gas engine, the cost difference has been brought closer together and the fuel price is very favorable to natural gas. The payback, not only in reduced emissions, but in operating costs to go to natural gas engine truck, is greatly improved. Just to give you kind of ballpark, these are market forecasts for all the heavy duty trucks in China.
Traditionally, over the last number of years, it might've been approximately 7%-10% of the fleet was natural gas. Talking to our customers and our folks on the ground in China, believe that we might see on the order of 20%-30% natural gas trucks as a percent of the total market going forward, which is a substantial market expansion. We expect to do very well in holding our market share or even growing the share. We have very high performing system for China VI gas engines. The expansion of that will increase, and so as you go through the remainder of our fiscal year, but more importantly, as you go over the next couple of years, we expect the natural gas percentage of the total market to improve. That's a positive for our business longer term as that happens. Overall, the outlook's good.
Little volatility up front. As Bob and I would say, there's always volatility in the China market. We do see that, the longer-term trend is very favorable as well.
Okay, that's very helpful. I have one follow-up. You answered some of my other questions on industrial as it relates to perhaps areas that could recover in the future. Moving to aerospace, though, commercial aftermarket should recover first narrow, then wide body. As we look at where we are now versus three months ago, and we move to how we would term a new normal, which seems to be changing on a daily basis, but how should we think about incremental margin? It's been discussed a lot. Perhaps there could be an outsized sequential improvement quarter-to-quarter, but as we move into fiscal year 2022 and beyond, business is much stronger than it was pre-pandemic. What could we see as far as incremental margin in aerospace? Thanks.
Sure. I'll take it, and Tom can jump in if he wants. From the margin standpoint, we've said, the way you characterize it, aftermarket should come first, followed by OEM. The build rates are improving, so it's not a huge shift in overall mix between aftermarket and OEM. We do believe it will be a tailwind. We've been looking at analyzing it a lot of different ways, and it's very hard to triangulate on. A lot of variables, obviously. We do believe as we go into 2022, and beyond, we should see a tailwind. We've had people ask us if it's 25%, 27%, 30% segment margins. Extremely difficult to quantify, but we do believe it will be a tailwind.
That's all I have.
Could you repeat that, please?
Oh, that's all the questions I have.
Oh, okay. Thank you.
Thank you.
Your next question is from David Strauss from Barclays. Please state your question.
Thanks. Good afternoon.
Hey, David.
Hey.
The 42%, I think commercial OE sequential growth that you saw this quarter, that was much stronger than what we've seen elsewhere. Was there any easy comparison issue, or what exactly drove that? Was there anything there besides just MAX being really low and starting to come back for you all, but we would've seen that with other companies as well?
Yeah. Just to check the numbers. What we gave, it was 42% down year-over-year and 18% up for You're talking commercial aftermarket, right?
No, I'm talking actually commercial OE.
Oh, I'm sorry. That was down 30% year-over-year and up 34%.
Up 30. Yeah, I got the numbers wrong.
Pretty significant.
Yeah.
Yeah.
Still a lot more significant than what we've seen elsewhere.
Yeah. As Tom pointed out, it'll be kind of lumpy. The timing, all depends on a lot of the timing of shipments and so on and so forth. I don't know that we would expect it to stay that level quarter-to-quarter.
Okay.
Yeah. The only thing I would add is, comparing to other companies, as these rates pick up, they're definitely on the programs we have gained high market share. To me, it's not overly surprising that we have good recovery in there, versus maybe somebody that is more heavily weighted to legacy programs. That may be part of it.
Yep.
How much of your commercial new equipment and aftermarket is business jet related at this point, and what are you seeing on the business jet side?
Actually, business jets came through the pandemic a lot better than we thought sitting here a year ago. The business jet market's a good market for us. We've got content, I don't know, many of, or almost all the new aircraft out there. That's actually held together pretty well. The indicators are positive for increasing OE sales. One of the things we always track, and is a good indicator, is the used market. The used market's available, if you want to say the available early or the newer aircraft available in the used market is very low right now, and surprisingly low in my view. We're starting to see some OE activity being forecasted and coming up, and right now looks quite healthy going forward.
How much of your commercial, your aerospace business, Tom, is aftermarket, do you think, at this point? Sorry, business jet. How much is business jet?
Oh.
We're probably I don't know if we have that breakout. We're somewhere a little bit north of 10% overall, business and general aviation.
Okay. The last one, Bob, I guess an update about how you're thinking about your cash balance and what there is to do there. I assume you don't want to be running with close to $300 million in cash on the balance sheet for too long.
Yeah, no. We've kind of talked about, A, getting back to our pre-COVID policies and directions, if you will, which is kind of 50% of net earnings being returned to shareholders in dividends and share buybacks. Most importantly, we're focused on growth. We've talked a lot about having a number of both organic growth opportunities, space and missiles was one of them we called out. Also, we have an inorganic funnel process, like so many of our peers do, and we're always looking at opportunities there. We've always been, our model is a growth model. We believe that brings the most value to our shareholders. No, we won't let the cash pile up for very long.
Great. Thanks very much.
Your next question is from Noah Poponak from Goldman Sachs. Please state your question.
Hi, good evening, everybody. Congrats, Bob and Mark, on the announcement.
Thank you.
If we just looked at the sequential growth rates you had in the quarter in aerospace original equipment and aerospace aftermarket, how would you expect the fiscal third and fourth quarter growth rates to compare to that, just directionally? About holding the same, faster, or slowing down?
Well, a little bit, chime in, Bob, as well, but a little bit, I'd say the OE rates should pick up. The aftermarket, as I was highlighting earlier, is a little challenging to predict. Probably will not be as high of a growth rate as we just saw, but will continue to be very solid growth rate going forward. Hopefully, in the next few quarters, we'll be able to give more color on that as we see things stabilize. We do anticipate continuing increases in both sides of the market, both OEM and aftermarket.
Tom, just to make sure we're talking about the same thing here, are you saying you would expect that the rate of growth you had sequentially in commercial OE, which, as David was just asking, was surprisingly high? You're saying you expect that to stay the same or even pick up? You're just saying more that production rates are going to go higher, so that's going to have some healthy growth rate for a while?
Yeah, I guess what I would say is I think the production rates are going to go up and we'll see overall still improved growth rate over the second quarter. Yeah. I think we're saying the same thing.
Okay, yeah.
I expect the rate of growth to improve. Yeah.
Interesting. Okay. With the commentary around guided weapons in fiscal 2022, are you anticipating that that will drive your total defense revenue to be down in fiscal 2022 or could it still grow?
It's going to have a flattening effect on defense sales.
Okay.
Yeah.
Makes sense.
Yeah.
Just one more on these aerospace margins. If I look back over the last several years, there's some years where the second quarter is seasonally strong, third quarter steps back down, fourth quarter back up. It doesn't happen every year, but it happens a decent amount of years. Is there any seasonal strength in the second quarter here where 3Q would step down a little and then 4Q back up, or is seasonality out the window at the moment?
There's a little bit of seasonality and it's really making sure the airlines are ready maintenance-wise for summer season and then later for holiday season. You do see a little bit of seasonality based on that.
If I use that and then I use the type of incremental margins you were just talking about a minute ago year-over-year, it would imply the third quarter aerospace margin down a little bit and then the fourth quarter maybe sort of in the zone of the second quarter. Is that?
Yeah.
I guess yeah.
Again, you know what I would say when I highlighted that's a normal year.
Okay.
With so many aircraft just getting back in service, I think the airlines, personally, I think they did a brilliant job of rotating assets and managing their maintenance costs. They did the best they possibly could during the pandemic. There is a pent-up maintenance bubble coming, and that's another thing that's hard to forecast, but I absolutely believe you're going to see that hit, and it's just exactly when it hits. I'm not sure it's going to follow normal seasonality.
Yeah.
That seasonality is real, but I'm not sure it applies this year, so I'd just be a little cautious on that.
Okay. Interesting. Okay, thanks so much.
You're welcome.
Your next question is from Peter Osterland from Truist Securities. Please state your question.
Hey, good afternoon. This is Peter Osterland on for Michael Ciarmoli. Is there any additional color you can provide just on directionally how you expect margins in industrial to trend during the rest of the fiscal year? I know you previously called out that margins would take a step back in fiscal 2022, but do you expect that from this quarter's level they should be able to start showing sequential improvement again over the next couple of quarters?
They should, yeah. We're going to have variability as we've kind of always had in the business, but some of the structural, the actions we've taken as we go forward should definitely provide the tailwind side of the equation. Now, the headwind side is we're still not seeing any sales increases, and one of the things we said we really needed to get to our targets being 16% to 16+% , was some increase in sales. Right now, I think the buzzword is we are optimistic with respect to the remaining quarters of the year and going into 2022. We really need to see the sales increase to get any leverage to be able to enhance the margins. I think we'll see a tailwind.
I don't think we're going to see our targets until we start to see much greater sales increases than we're seeing today.
Great. Thanks. Just on costs, looked like R&D was down about $4 million versus the prior quarter and SG&A down about $12 million. Just wondering what was driving that decline and what is a good run rate for us to use over the next couple of quarters?
Probably the midpoint between them. We've always got a lot of timing of things, project expenses and things like that pop in and out of the quarters, we have some variability. I would not say that the decline in both is sustainable. I think you'll see somewhere in the middle between the two as we go forward through the year. Running at about a 4.8% rate, that's pretty low for us usually. I think it was mostly timing this quarter.
All right. Thanks a lot.
We do have a follow-up question from Christopher Glynn from Oppenheimer. Please state your question.
Yeah, thanks. Just had a little housekeeping to close out. One was on the corporate spend, but I'll take your SG&A comments as the answer to that. Then tax rate for modeling purposes.
The forecasted for the full-year? That's a good one to always try to guesstimate. Tax rate adjusted was 13%, 16.2% in the prior year. We'll probably be above that 13% in the quarter, but not necessarily significantly so.
Okay. Thank you.
Mr. Gendron, there are no further questions at this time. I will return the conference back to you.
Okay. Well, thank you for everybody joining us today, and thank you for your questions. We look forward to talking to all of you during our third quarter release. Have a good day. Thank you.
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