TAT Technologies Ltd. (TATT) Earnings Call Transcript

Good morning, and thank you for joining the TAT Technologies Second Quarter 2026 Earnings Conference Call. This call is being recorded. My name is Matt Chesler with FNK IR, a U.S.-based Investor Relations firm supporting Eran Yunger, TAT's Head of Investor Relations. Joining me today are Igal Zamir, TAT's President and CEO; and Ehud Ben-Yair, TAT's CFO. Before we begin, I'd like to remind you that certain statements made on this call may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. These statements are based on current expectations and assumptions and involve risks and uncertainties that could cause actual results to differ materially. Additional information regarding these risks and uncertainties can be found in our filings with the SEC, including our most recent Form 20-F. TAT assumes no obligation to update forward-looking statements, except as required by law. Investors are cautioned not to place undue reliance on these forward-looking statements. During this call, we may disclose certain non-GAAP measures. Reconciliations of these measures to the most directly comparable GAAP measures are available in our earnings release issued earlier today and in our Form 6-K filed with the SEC. And with that, I'll turn the call over to Igal.

Thank you, Matt. Good morning, everybody, and thank you for joining us. We appreciate your continued interest in TAT. The strong second quarter marked an important inflection point for TAT. We delivered another record quarter, converting strong demand into the highest backlog in our history and grew revenue by nearly 23%. Improving supply chain conditions allowed us to convert previously constrained customer demand into revenue, further bolstering our strong performance while continuing to expand profitability and grow our record backlog. TAT's competitive position continues to strengthen. We are becoming an increasingly important aftermarket partner to airlines, OEM and MRO providers, leveraging the breadth of our capabilities, the quality of our execution and long-standing relationship across aviation ecosystem. An important milestone this quarter was the expansion of our strategic relationship with Honeywell Aerospace. We are now Honeywell's sole global authorized distributor for spare parts for the 331-200, 250 APU platform. We also extended our MRO license for that platform to 2036 and acquired 3 Honeywell Aerospace 131-9A APUs to expand our trading and leasing business. The expanded Honeywell agreement adds a distribution capability we didn't have on this platform before. Historically, we supported the 331-200, 250 platform to MRO and serviced alone. And now we are also a part supplier, giving operators lessors and MRO partners one source across the full life cycle from parts to repair and return. Also, extending the agreement to 2036 further strengthened the long-term visibility and secure the profitability of this important business while reinforcing one of our most valuable OEM relationships. When it comes to the industry, commercial aviation fundamentals remain exceptionally healthy. Aircraft are staying in service longer than historically norms. Utilization rates are high and operators continue to prioritize reliable aftermarket support. These trends continue to support healthy demand across our repairs overall and components business. While supply chain conditions have improved significantly, they have not fully normalized. We will continue to prioritize customer support even when that requires targeted inventory investment or higher procurement costs. Although these actions have somewhat dampened our profitability gains in the short term, they help keep the aircraft in service and reinforce our reputation as a trusted aftermarket partner. We expect inventory requirement to become more efficient as supply chain continues to improve. We believe that investments we are making today will strengthen customer relationship, expand future business opportunities and create long-term value for [Audio Gap]. On the strategic priorities and M&A front, M&A remains an important component of our long-term growth strategy. We see acquisition as a way to expand our MRO capability, strengthen our thermal system business and broaden our platform portfolio and, finally, establish a greater presence in geographies that brings us closer to customers. These opportunities have the potential to enhance our competitive position while expanding our relevance across the global aviation aftermarket. We believe that we are well positioned to execute this strategy. Our strong balance sheet provides the financial flexibility to pursue acquisitions, while our operating platforms and integration capabilities enable us to successfully incorporate complementary businesses. As always, we remain disciplined on valuations and strategic fit, and we will not pursue acquisitions simply for the sake of growth. Our M&A efforts continue to move front and center. We have built a robust pipeline of potential acquisition targets, completed initial due diligence on a number of opportunities and are actively evaluating them. M&A is becoming an important focus of our team, reflecting both the quality and the opportunities we are seeing and our commitment to execute this important element of our long-term growth strategy. In terms of the outlook for the rest of the year, our performance in the second quarter and the first 6 months of 2026 demonstrates the progress we have made and the strong position TAT occupies in the industry. Customer demand remains exceptionally strong with our record backlog of $650 million, providing excellent visibility into the future revenue. Simultaneously, supply chain conditions continue to improve, giving us increasing confidence in our ability to convert our record backlog into revenue while maintaining service levels to our customers. Building on the existing relationship, we continue to strengthen our competitive position through expanding OEM relationship and broader platform coverage, highlighted by the recent Honeywell agreement, which enhanced our service offering while extending an important long-term partnership through 2036. Finally, our strong balance sheet provides the financial flexibility for strategic acquisitions that can further expand our capabilities and addressable market. Taken together, these factors reinforce our confidence in TAT's ability to continue delivering profitable growth while creating long-term value for our shareholders. With that, I will turn the call over to Ehud for a more detailed review of the financial results.

Thank you, Igal, and good morning, everyone. Good afternoon for the guys in Israel. As noted, the second quarter benefited from strong demand and the record backlog. Also, the improvement in supply chain environment enabled us to convert a significant portion of work into revenue as supply constraints eased. We have won several new contracts. We are now starting to see the benefit of these wins following through our financials. All in all, it was a great quarter. That said, while profit margin improved, our operating leverage would have been higher if not for some ongoing supply chain issues and weaker exchange rate of the U.S. dollar against the Israeli shekel. Second quarter revenue was $52.9 million compared to $43.1 million in the second quarter of 2025, an increase of nearly 23%. All product segments contributed to the growth in this quarter. Demand remains exceptionally strong as reflected in a record backlog and a long-term agreement, which increased to a record of $615 million at the end of June 30, 2026. Gross profit increased by 23% year-over-year to $13.3 million with gross margin remaining above 25%. This reflected healthy pricing and operating execution despite continued supply chain inefficiencies that increased procurement costs in certain product lines. We are closely monitoring the supply chain issues, which are impacting revenue growth while we continue to maintain full expense level for this segment. We still have a low visibility of when supply chain issues within this segment will be resolved. Operating income was $5.6 million or 10.6% of revenue compared to $4.4 million or 10.3% of revenue in the second quarter of 2025. With parts availability in certain areas of our business remaining challenging, we have continued to prioritize customer delivery schedule by securing certain components at higher cost when necessary. Absent the ongoing supply chain challenges, our margin expansion would have been even stronger. We continue to invest in the company's growth, infrastructure and M&A capabilities. This led to an increase of SG&A expenses. We also continue to invest in development of future thermal system, resulting in a modestly higher R&D expenses. Net income were $8.1 million compared to $3.4 million in the second quarter of 2025. Diluted earnings per share were $0.61 compared to $0.30 in the second quarter of 2025. The second quarter of 2026 included a nonrecurring one-time gross gain of approximately $4.3 million from the sale of a minority interest in an unconsolidated entity and a nonrecurring charge of $900,000 related to tax expenses. The net impact was $3.4 million on the net profit. Excluding the nonrecurring gain from the minority interest sale, net income was $4.6 million or $0.35 per diluted share. The foreign exchange of USD against the Israeli shekel was a headwind in the second quarter of 2026. The strength of the shekel to the U.S. dollar during Q2 led to foreign exchange losses of over $600,000. We are working with our customers and suppliers on finding solution to these issues without harming the flow of operation in Israel. Adjusted EBITDA, excluding the one-time gain was $7.4 million or 14% of revenue compared to $6.1 million or 14% of revenue in the second quarter of 2025. For the cash, cash used in operating activity was $0.6 million compared to $7 million and a positive cash flow in the second quarter of 2025. A portion of the revenue that we recognized had not yet converted to cash collection by quarter end, and we expect that to convert during the third quarter. Working capital requirements are expected to remain elevated in the near term as we support the expanded distribution agreement through strategic inventory investments. We view these investments as an attractive use of capital to support future revenue growth. Briefly summing the results for the first 6 months of 2026. Revenue increased by 10.4% compared to the same period in 2025 and reached to $94.1 million. Gross profit increased by 12.4% to $23.4 million. This represents 24.8% gross margin, up approximately 40 basis points year-over-year. Operating income was flat at $8.6 million. Net income, which includes a $3.4 million one-time benefit, increased by 58.1% to $11.5 million. And excluding the nonrecurring benefit, net income would have increased approximately by 11% to $8.1 million. Diluted earnings per share, inclusive of the one-time gain, were $0.87 versus $0.64. The one-time gain represented approximately $0.26 in diluted earnings per share in the current period. Adjusted EBITDA, excluding the one-time gain, increased by 4.1% to $12.3 million or 13.1% EBITDA margin. For the balance sheet, our balance sheet remains a competitive advantage. We ended the quarter with net cash of $43 million with a 0.2 debt-to-cash ratio and 0.43 debt to last 4 quarter EBITDA ratio. We also recently secured a new $100 million 5-year revolving line of credit with several U.S.-based banks, giving us significant flexibility to support our M&A strategy and future growth of the company. Diving into the product line, heat exchanger's revenue increased by 7.8% in the second quarter of 2026 and 4.2% in the first half compared to the same period last year. Heat exchanger business is both OEM and MRO and the growth is single digit and steady according with our expectation. In APU, this quarter results are affected by the supply chain recovery as communicated on the previous earnings call as well as by new long-term contract wins. We expect to continue the positive trend. Overall, this product line grew by 22.2% in the first half of 2026 despite the supply chain impact. Trading & Leasing increased by 17% this quarter with several good trades and steady revenue from leasing activities, which will now benefit from 3 additional 131-9A and engines that were purchased, ending year at 5% of our total revenue, is still affected by supply chain constraints. To summarize, the backlog is at record level. We announced 2 new and important contracts with customers that include both the legacy platform and the new platform. Gross margins continue to be stable above 25%, and the balance sheet is positioned to support our growth strategy. The supply chain is improving and has an incremental growth, and we are very optimistic about TAT's future in general and especially for 2026 results in particular. And with that, I will turn the call back to Igal.

Thank you, Ehud. Before we move to questions, I would like to thank our employees around the world. Their professionalism, especially the close coordination with our customers and the suppliers this quarter, is what makes the results like this possible. As we close, there are 3 quick takeaways. First, our fundamentals have never been stronger. Customer demand keeps growing and backlog and long-term agreements reached a new record. Second, we are deepening our competitive position. Our expanded relationship with Honeywell adds new distribution rights and extends our MRO authorization through 2036. And third, our balance sheet gives us flexibility to be growing organically, but more importantly to support our strategic inorganic growth to create long-term value for our shareholders. We are entering the second half of 2026 with more momentum, more visibility and a stronger competitive position than at any point in our history. I would like to thank you for your continued support, and we look forward to updating you in our progress. With that, I will turn over to Matt for questions.

Thank you, Igal. We're now going to open up to the Q&A session. [Operator Instructions] First question is from Jeff Van Sinderen at B. Riley Securities. Let's move on, and Jeff, you can jump back into the queue. The next question is from Josh Sullivan at Jones Trading. Let's move on to the next question. The next question is from Ben Klieve at Benchmark.

All right. Is that working? Can you guys hear me?

Yes.

All right. Well, first of all, congratulations on a very good quarter here. First, I have a question about the APU business and the parts availability dynamic. And I'm curious if you can give us a bit of context around the number of APU units that have been sitting, awaiting that parts availability to unlock. So I'm just curious if you can kind of level set us on kind of where the number of units waiting to be worked on ended your 2025, kind of where that peaked at the height of the parts challenge earlier this year and kind of where that sits right now.

I think that if you come to the Greensboro facility, give or take at any time, you will see a couple of dozens of APUs in the shop in different stages. Those of you who visited us when we had the Analyst Day in Greensboro, so back then, we had about 50, 60 in the shop on a certain day, [indiscernible] day. We peaked at the end of Q1 because we had a couple of -- we have several engines that were ready to ship but missing the last part that we couldn't farm. Obviously, all these engines were shipped during Q2. the overall amount of engines kind of normalized a little bit back. But at any point, even at the end of second quarter, if you show up at the facility, you will see 40, 50 engines easy in any certain day. I would say that now it's back to normal. You need to remember that the other factor is that we won several new businesses, which we published. So obviously, with new customers sending more engines, you should expect to see a gradual increase in the amount of engines a week in the process.

Got it. Very good. That's very helpful. And then for my follow-up, and then I'll get back in queue is also around the parts availability dynamic. I mean I'm curious, one, the degree to which the second quarter results were kind of a positive surprise for you relative to where you thought this may end up during your fourth quarter call, if the parts availability kind of came in faster than you were expecting? And then also, can you give us any kind of context around your expectations here for really when this will fully normalize on a full quarter basis, if you even have that visibility? And then I'll get back in queue.

I have to split my answer into 3 different levels, parallel tracks. On a macro level, what we see in the industry more and more is more parts producers or raw material producers that are extending their lead times. There is so much pain around on-time delivery and some of the vendors just choose to increase lead time, so they can meet their turnaround expectations or delivery expectations. So that's one factor that affects you because when they announced that they have a new extended lead time, all of a sudden, it creates a rupture in the system. Some of the OEMs that were used to keep very large inventory to support shops like ours are also under pressure to reduce inventory, and they are as a measure to reduce their inventory, reducing their level of inventories, more aligned with their subcontractors lead times. and the availability or ability to react fast to changing demand. We need to remember on the OEM, it's fairly easy to project and to anticipate 6 to 12 months in advance and to provide the vendors enough lead time. And general saying, we don't have problems there at all. Going to your last question, OEM stabilized as a general thing. But on the MRO, because of the nature of the business and because of the large fluctuations in power consumption between different airlines, between different times of the year, there is much more volatility. And that's more challenging. And now that the lead times are expanding, it's becoming more and more challenging. The last factor is the specific crisis that we had in Q1 with one major OEM that just couldn't ship. And when we announced it first time when we published our annual results, we said that we have a problem and we didn't see the light at the end of the tunnel, but we've been getting a lot of promises for recovery, which took a lot of time. Eventually, they caught up. So this major crisis that we experienced in Q1 is behind us. And now we are more into general supply chain challenges in MRO and aerospace with extended lead times and the need to predict much more in advance, which is difficult, what you will need and when you will need and be able to give the vendors enough time to react. So obviously, it's a challenge, and we are adjusting our systems to these new expectations and new lead times, mainly affecting landing gear and APU.

And the next question is from Alexandra Mandery from Truist.

Great results. So I was wondering how your progress is on gaining content on APU, MRO for Boeing 737 and A320 series. What is your strategy like to gain content there? And has it shifted at all over time?

I think I remember that you asked me more or less the same question 3 months ago in the last call, and it's pretty much the same. I think that we are gaining traction on the -- nice traction on the 500 engine. And on the Boeing 737 and the Airbus 320, it's more of a one-off opportunities than long-term contracts. And I believe that given the very competitive nature from the 131 and it's expected, and I don't anticipate any major -- by the way, we are competing all the time on RFPs and hoping to win some of them, but we are not targeting the large airlines as a key opportunity for growth in this platform.

All right. And then are you seeing any impacts of higher jet fuel prices or conflict in the Middle East impacting your customers or the business? And what have you heard from your airline customers?

Obviously, they are concerned about it, but we didn't see any impact. If you look at industry data, utilization of aircraft is in a very healthy position and the fleets are flying. It puts some constraint on the airline profitability, but it doesn't affect -- they need to keep the fleet flying and the utilization is high. So it doesn't affect MRO, general saying.

Let's now ask the -- answer the question from Josh Sullivan at Jones Trading, who submitted it via chat. And here's the question. With the supply chain improving here, how do we think about backlog conversion going forward? Should we expect the impressive backlog to release here? Or can it extend even as you deliver more? Can it expand even as you deliver more?

Ehud, feel free to add after, I'll give my 2 cents. But as a general thing, most -- the vast majority of the of the backlog increase, the value of the long-term agreement is long-term agreement. So we're not expecting any, I call it, miracles quarter-over-quarter. Obviously, Q1 was a one-time dip that we recover from it. But moving forward, any new win that we published is going to be spread over 3 to 5 years, and we are expecting a steady growth, not any major jump. There was a little bit of factor this quarter of specific backlogs of engines that were stuck in the bidding, and we couldn't bring them to the finish line. Obviously, we recognized them in Q2. But looking forward, I don't see -- there is no expectation. Obviously, things can change, and we may be surprised by very large intake, but I don't have any indication today that suggests that such a jump is expected. Ehud, I don't know if you have any further color to add.

Yes. I think the only thing to add is just we want to make sure that the audience and the analysts that are covering the company understand that this quarter had some catch-up from the previous quarter. So I'm suggesting all those who are trying to understand the past and try to forecast the future, obviously, is to look at the average of the first 6 months of the year rather than thinking that the second quarter is the baseline for the future. Obviously, the company will continue to grow, but I need to make sure that people understand exactly the results.

Josh's follow-up question is on M&A. He's asking what leverage levels are you comfortable with? And what areas are in the strategic interest at this point? Does the extended lead time dynamic influence your M&A thoughts as well?