L3Harris Technologies, Inc. (NYSE:LHX) Q3 2023 Earnings Call Transcript

L3Harris Technologies, Inc. (NYSE:LHX) Q3 2023 Earnings Call Transcript October 27, 2023

Operator: Greetings. Welcome to L3Harris Technologies Third Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mark Kratz, Vice President, Investor Relations. Thank you. You may now begin.

Mark Kratz: Thank you, Rob. Good morning and thank you everyone for joining us to discuss third quarter results. Joining me are Chris Kubasik, our CEO, and Michelle Turner, our CFO. Yesterday, we published our investor letter detailing our results, guidance and key company updates. So this morning’s call will be focused on answering questions. As always, we may discuss certain matters that constitute forward-looking statements. These statements involve risks, assumptions and uncertainties that could cause results to differ materially. For more information, please reference our provision found in our investor letter and our SEC filings. We will also discuss non-GAAP financial measures, which are reconciled to comparable GAAP measures in the investor letter. I’d now like to turn it over to Chris for some brief remarks.

Chris Kubasik: Okay. Thank you, Mark, and good morning, everyone. I know you’ve all had a busy week, and we appreciate you joining us this morning. The current events in the Middle East remind us that what we do at L3Harris matters. And the industry in which we operate is more critical than ever before. As a national security technology focused company, we remain committed to supporting the U.S. and its allies to deter aggression and foster stability around the world. As we embark on our fifth year since the merger of L3 and Harris, I’m proud of our achievements. We built a diverse and seasoned team that is integrating our company. L3Harris is viewed as a disruptive competitor that is reshaping the U.S. Defense industrial base.

Meanwhile, underpinning our strategy is a focus on operational excellence, delivering quality products on time, driving costs out of our system, and focusing our portfolio as a national security company. This ultimately benefits our customers and creates long-term value for our shareholders. While the macro environment has been challenging, we are making considerable progress. The business is on solid footing, and we are building operational momentum. In the third quarter, we reported 16% top-line growth, the second consecutive quarter of sequential margin improvement and strong cash generation, resulting in more than 100% free cash flow conversion. This extends our trend of generating positive free cash flow in each of the quarters since the merger.

The team and I look forward to providing more details on our strategy and our 2024 outlook at our Investor Day in December. And with that, Rob, let’s open the line for questions.

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Q&A Session

Operator: Thank you. We’ll now be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question is from Kristine Liwag with Morgan Stanley. Please proceed with your question.

Kristine Liwag: You know Chris, Michelle, after owning Aerojet Rocketdyne now for a few months. Are there any surprises to the positive or negative that you’ve seen?

Chris Kubasik: Okay, well, I expected an Aerojet question. So let me take this one and try to answer your question and maybe give a little more insight on Aerojet Rocketdyne. But just to refresh everyone’s memory, we signed and announced the deal back in December. And we’re able to close it in seven and a half months, which I think is pretty impressive in this environment. So either there was support or probably no objections, obviously from industry and in the Department of Defense to allow the acquisition to go through. So probably closed a little quicker than we expected. I think when we announced that we said it could take up to 12 months, but we did hit the ground running on day one. Deployed the L3Harris leadership team to run the business which I thought was critical to the success that we’re going to realize.

I’ll say from an integration perspective, all was going well, we’re clearly on track to get the 40 million to 50 million of cost savings that we talked about previously. We’ve shut down the Aerojet Rocketdyne headquarters in California. We’re ready for January 1 to transition all the employees to L3Harris payroll system benefits and such. The IT team is already connected all the network. So the communication and such is working well. And we obviously have a little longer term IT strategy to optimize the business from that perspective. I will say the workforce, we actually did a survey of the workforce about a month ago, and the results were actually off the charts. I was more than pleased to see the enthusiasm of the workforce, the confidence that they have in being part of L3Harris, the alignment of being a part of a larger company that’s focused on defense and national security and space.

So that’s encouraging to get those types of results. So we’ve been clear, at least internally and hopefully, externally, that our number one priority is to increase the deliveries, specifically in the rocket motor sector. So everything we’re doing is focused on increased deliveries, and we developed the plan. Myself and the leadership team has reviewed it and we’re off executing on it, includes having Centers of Excellence for [indiscernible], separately, and I think that’s going to help with production and flow and deliveries. We’ve supplemented the existing leadership teams at some of the key locations in Alabama, Arkansas and Virginia with resources and experience that I think is going to start showing immediate results. And then, we’ve deployed resources to our sub-tier suppliers.

And that really is the challenge in the munitions and rocket motor business is a couple of levels down. And we only have, in some cases, 1 or 2 certified suppliers of cases and igniters and sometimes nozzles. So that is ultimately a choke point that we need to focus on as an industry and as a country. The DPA, you’ve heard us talk about the Defense Production Act, the over $200 million that was awarded earlier this year. That’s focused on 3 main products. We have a plan, and we’re starting to execute upon that. In fact, we just leased a building in Alabama, so that we can modify and order the equipment to increase capacity at that facility. So we’ll use that as a framework. We’re going to revitalize the business, and we’ll use that for the other products that weren’t necessarily covered by the DPA money.

So all of this will contribute to 2024 starting to see a ramp-up in the output, and I would expect to have noticeable improvements by the end of 2024 and then continuing into 2025. We’ve had discussions, I’ve had discussions with our end customers. different military services, and they are very excited to have L3Harris own this asset. Obviously, they see us as the answer to the challenges and problems that they and the industry has had relative to rocket motors and we have their full support, which I expected, but is also encouraging. We don’t talk too much, but we should about the space engine business. And that’s maybe about 1/3 of Aerojet Rocketdyne, that business is operating well. The RL10 engine, which is the upper stage is performing flawlessly.

I think the run of successes goes back decades without a failure. And it’s not even sure, ever has failed. So that’s great news. We’re excited to be on the United Launch Alliance, ULA first Vulcan launch and subsequent launches. So there’s 2 RL10s per launch. And as of today, we have over 150 in backlog. So that gives us pretty good visibility and stability into the space side. So that’s kind of operationally where we are relative to Aerojet Rocketdyne, Kristine. But I also want to step back on the strategic rationale for the acquisition. It hasn’t quite been a year, but I know people are still asking questions. But at L3Harris, we, as I said, are building a defense-focused, technology-focused company. We’re taking a portfolio approach. We’re looking to acquire businesses that are aligning with our nation’s defense strategy and in growing markets.

And then, we’re divesting those businesses that don’t necessarily align with our strategy but are still good businesses but not part of our focus. So Aerojet Rocketdyne is growing faster than the legacy L3Harris business. I think when we look at everything that has happened since we signed the deal in December, there should be no dispute to demand for these products as they flow through the primes in most cases, is up significantly in the U.S. and in the world, which is why we need to focus on the increase in output. And I already mentioned the DPA money of $200 million, which will help us on these 3 particular lines, increased capacity, move production lines and digitize the engineering. So the tailwinds are there as well. So feel better about the acquisition today than I did in December to be honest with you.

And I think it’s highlighting my last point, some of the challenges in the industry. Going back to the ’80s and the peace time dividend, the industry contracted, our capacity contracted. We’re on a kind of a peace time mindset for the last several decades, and I believe, as a country, we need to ramp up to more of a wartime footing. And like I said, I think money and focus needs to go to the sub-tier suppliers that feed into not only us, but other industry partners, generally through primes and then to the end users. So maybe a longer answer than you wanted, Kristine, but I tried to hit a lot of different topics as it surrounds Aerojet Rocketdyne. So I think I’ll just end on that.

Operator: Our next question is from the line of Gautam Khanna with TD Cowen.

Gautam Khanna: I actually wanted to switch subjects and ask about Tactical RF. Maybe, if you could talk about book-to-bill in the quarter where backlog stands and give us some pipeline color, both domestically and internationally? And also if you can answer the supply chain questions, how that’s evolved in that business line? Thanks.

Michelle Turner: Yes. So thanks for the question. From an overall comps perspective, we continue to be on track to deliver to our guidance, which was double-digit growth across the business, which includes to your point, gotten about the [bidding] [ph] supply chain challenges. which we continue to see along with the acquisition of our tactical data links business. Specific to radios and comms from an overall DoD budgetary perspective, we continue to see support. We’re about 40% of the way through that modernization program. And we continue to see strong demand internationally as well. And so overall, I’d say we’re feeling like we’re in a good place from a comps perspective. And then just from looking at supply chain specifically, we continue to see hiccups like you’re hearing across the industry, but significant complements to our supply chain, our tactical communication business, Sam Mehta, Chris Abley.