Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Spirit AeroSystems Holdings, Inc. (NYSE:SPR)

February 20, 2013 9:45 am ET

Executives

Coleen Tabor

Philip D. Anderson - Chief Financial Officer and Senior Vice President

Analysts

Carter Copeland - Barclays Capital, Research Division

Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division

Carter Copeland - Barclays Capital, Research Division

All right. Welcome, everybody. I will start off, I'll kick off our aerospace coverage of the conference with Spirit AeroSystems, where we are happily joined by Phil Anderson, Chief Financial Officer; and Coleen Tabor, VP of Investor Relations. I think Coleen actually is, before we kick off, is going to read us the forward-looking statement.

Coleen Tabor

Thank you, Carter. Before we begin, I need to remind you that any projections or goals we may discuss today are likely to involve risks, which are detailed in our news releases and our SEC filings. And after our chat today, we'll also be posting a copy of our handout on our website that includes some of the concepts that we'll be discussing with you, Carter.

Carter Copeland - Barclays Capital, Research Division

Okay. Now we're legally sanitized. So we'll go ahead and get started. I want to take a second and kind of just gauge who we actually have in the room. Obviously, you've been using the audience response system this morning and I want to go to Question 1 just to figure out who we got in the room.

Question 1 is -- obviously, you'll hit 1, 2, 3, 4 after we read it. But basically, Question 1, do you currently own the stock? Yes; overweight, yes; equal weight, 3 is yes; underweight or no, not at all. Go ahead and key in your answers, and we'll see how many owners we get.

[Voting]

Carter Copeland - Barclays Capital, Research Division

All right. We've got a lot of non-owners. That's opportunity, a lot of people to sell.

So this will be a tough question then, I suppose, since we have a relatively low number of owners. But if you go to Question #2, what's your general bias towards the stock right now? 1, positive; 2, negative; and 3, neutral. Go ahead and answer.

[Voting]

Carter Copeland - Barclays Capital, Research Division

Wow. So we've got a pretty even split. So maybe there's some opportunity to win some hearts and minds. I'll start with that.

So, actually, just sort of ask a general question, I know you guys reported earnings very recently, but there may be some people in the room, obviously since we don't have a ton of ownership, who may not be familiar with all the company's gone through. You're obviously recovering from last year's tornado, there's a leadership change at the CEO position that is ongoing, you're engaged in that search at the [ph] sort of problem programs. I wonder if you might take a second, just update us on the kind of state of the union and where things stand with the company, where you've been, where you're going.

Philip D. Anderson

Sure. Thanks for having us, Carter.

I think a couple of thoughts. Number one, it's an exciting time to be in the commercial aerospace industry. The backlogs are at records if not close to records, yes, from 2006 to today. We had a $19 billion backlog in 2006; today, it's $35 billion. So backlogs have just been tremendously supportive to the industry. But it's a good question, right? The company has, certainly had some challenges as we've tried to diversify the company over the last 7 years. So I think it's appropriate to take a few moments to kind of do 3 things: One, reflect back when the company was formed, talk about what has transpired over the last 5 to 6 years from an environmental standpoint in the business and industry and then, really more important, think about the future, right? Because frankly, sitting here today, it's about positioning Spirit for the future and taking the lessons learned from the past and moving into the future, which frankly, looks very bright for commercial aerospace and our competitive position in it. So it's very exciting for me to be the finance guy there, even though it's been a really tough 3 years on my watch as the CFO, but it's still exciting. As I get out of bed every day, I think about the future, I think about how we position the company. So that's what I really want to talk about.

But let's reflect back. We were formed out of the Boeing Company in 2005, in an environment where the commercial aerospace industry was recovering in a post-9/11 world. So volumes were starting to recover after 9/11. The clean sheet designs, the new airplanes coming to market, whether it was in the large jets, biz jets, some military platforms, ton of opportunity in the clean sheet design. And in the OEMs themselves were leaning towards an outsourcing model. And that was the birth of Spirit, ultimately.

So a recovering marketplace, OEMs outsourcing and a lot of new product coming into the marketplace. And of course, Spirit was born as 100% Boeing 1 customer on Day 1. But there was a strong need to get some customer diversification into the mix and that was the Day 1 strategy, and that strategy actually worked quite well. The core business was increasing in line with past performance. 787 was on the drawing board, earlier days of course, and we were right in the middle of helping Boeing design that product. And then we went off and won 7 new programs, clean sheet designs, with 7 new customers in the 2005 to 2007 time frame. So all of which was the right strategy for the time.

So a recovering marketplace, lots of opportunity for a company that needed diversification in its mix. Very successful in capturing new business and have been working on those designs now for 7 years effectively, and many of them are now only starting to come into the market for serial longer term production.

So what happened in that 5 or 6 years we've been developing the customer diversification strategy? It's changed. So I think the view we had in '05, the company had in '05 was one of kind of continuing recovery in the commercial aerospace market and clean sheet designs being the order of the day, outsourcing would continue.

What's actually happened is, it is quite different than that, right? There is currently unprecedented growth in large commercial airplanes. We are at, I think, record levels on 737s, A320s, 777s, A330s. That really wasn't anticipated back in '05, '06. So record growth in the core business, product development strategies are shifting from clean sheet design, 787, A350 to investing in the current product, investing innovation in the current products, which will effectively extend the lives of the major platforms. And then thirdly, OEMs are rethinking this outsourcing model as a result of the experience over the last 5 to 7 years.

So we sit here today and think about what's the next 8-, 10-plus years look like in aerospace? And we see really 4 primary things: Sustained high-production levels in the core business over the longer term. There will be cyclicality. We just don't see the deep cycles returning that we once thought about.

Innovating current products versus clean sheet design. Clearly the 737 MAX is innovating the current product. A320, next engine option is -- or new engine option is innovating current products. We expect that pattern to continue into the bigger airplanes.

Carter Copeland - Barclays Capital, Research Division

777 at some point, something like that?

Philip D. Anderson

Absolutely. Selective clean sheet design. We don't think clean sheet design is gone forever, but we think it's going to be much more selective. And probably much more financially driven on how you get there. A lot more financial focus in the system when it comes to clean sheet designs. And then clearly OEM outsourcing model, which Spirit was born of has somewhat moderated based off experience. We don't see the outsourcing model being significant one way or the other as we move through time. We don't see the OEMs wanting to in-source if they have a very good reliable supplier that they can work with and we think Spirit fits into that picture pretty well.

So when you get through that environmental and the story and chain, you really think about Spirit in the future, which is it is a new era for Spirit. That's how we describe it. We are positioning for the future.

Carter mentioned the company and the board are in the midst of a CEO search, which is ongoing as we speak. So in 2013, there will be a new person at the top of the company. Underlying and supporting that person is a very strong, seasoned, experienced team. That have the birth certificates that would allow them to go well into the future. So I think there's a very good team there, highly motivated team and we see the value of the core business we have. And we are also applying the lessons learned, which I'm sure we'll probably talk about shortly.

So when you wrap all that up, you go, look, Spirit has got to be focused on the core business. It's got to be about extending that core business into the future. It's got to be about success on 787 and A350. And creating value, creating value with the customer diversification that we started with. And a lot of that it's in the business jet arena and other smaller-type airplanes. Those are the 3 things that we're really focused on when we think about Spirit in the future. The core business, extending the core business, success on the big airplanes 78, A350, the value creation and generating value on this diversification strategy.

Carter Copeland - Barclays Capital, Research Division

Great. So there's a lot kind of wrapped up on that, right? When you break apart particular programs, you break apart progress, when you think about that. I want to delve into that a little bit more, and I don't want to put words in the audience's mouth, but at the same time, I want to sort of gather if they are thinking about it the way I am, I wonder if we could go to Audience Response Question #6. And I think this will be instructive and not a surprise, but it's basically our key question. What do you see is the most significant investment issue for Spirit AeroSystems? 1, core growth; 2, margin performance; 3, capital deployment; 4, execution and strategy. Why don't we take a second.

[Voting]

We have the core growth. So obviously, this is a company in transition, I don't think a lot of surprise that we get execution and strategy. Interesting, core growth doesn't come up that much. I think people probably assume you've got that in the bag. It's how do you convert it to the bottom line. Let's talk about that. So we've had a handful of execution problem, development program challenges and I wondered if we could take a second and sort of take a step back and say, okay, if you were to characterize, if you were to draw a Pareto chart of what were the biggest financial impacts and what were the causes of those things? Over broadly speaking, if you think of the company in aggregate, would you attribute a lot of those to contracts or resource management or external problems or supplier management, business capture? What are the big buckets of challenges you encountered? And if you can sort of force rank so we can figure out what is a lesson learned and what is maybe some sort of structural challenges to deal with in the future?

Philip D. Anderson

Sure. Let me create a backdrop to talk about the Pareto chart. So Spirit was a new entrant into the marketplace in '05, so there was a lot of learning going on with Spirit. We're in a complex industry when it comes to design, build, it has a high level of complexity to it. And we achieved rapid growth. New company, in a complex industry, achieving rapid growth the day it was formed and the initial contracts of '05 through 2007. So that's a backdrop. You say, okay, there's going to be some interesting dynamics that are going to happen with that, with that learning environment, complexity with a lot of growth. So I would boil it down to another umbrella of just programming where a company strength of being operationally, high marks operationally, that's what it did for 35-plus years or longer, 50 years as a Boeing division.

Carter Copeland - Barclays Capital, Research Division

But the metrics of success at the time were sort of -- I know we were talking about this before, so it's on-time delivery and quality.

Philip D. Anderson

Absolutely. Those were the metrics, right, and from an operating unit inside the company. So program management that's operationally focused was fantastic. It's -- the environment I described to you of high-growth, the complexity, requires program management that is very well adept at going from quote to cash. Much broader spectrum capability required. And I think therein lies -- if you Pareto inside this program management umbrella, which were the challenging ones, I think you'll hit on some of them, right, contracting clearly Day 1 was something that we probably could have done better. Customer management, being very savvy, dealing with one customer and suddenly having 7 customers you've captured...

Carter Copeland - Barclays Capital, Research Division

Who didn't have a relationship with you at the time, didn't know you the way your core customer did.

Philip D. Anderson

Correct. The customer knew us, we knew the customer, right? A strong DNA from our heritage, but now 7 new customers and having to learn how 7 new customers design airplanes in the marketplace with a fair amount of complexity. So those 2 things by themselves were very challenging. From Contracting to new customers and then in the depths of designing new products in this industry, there's always change in the design as you adapt it to accomplish the mission for the ultimate customer. And so the change management of evolution and design engineering really created some challenges and of course not the least of which 787 was a big project inside the company at that time as well as 7 other programs.

Carter Copeland - Barclays Capital, Research Division

And the 87 had its own external challenge that added -- it was exogenous.

Philip D. Anderson

Absolutely. So the rapid growth, the 787, which we did quite well on, by the way. It was a brand-builder. It was the franchise program at the time, which we're very proud we did as well as we did even though we committed a lot more capital than we ever planned. From the brand standpoint, it's been extraordinary for us. But then it came to the execution side of the business, which was high on your survey of executing that much new work inside that 6- to 7-year time frame which we're still kind of at the end of now was very difficult. And we had programs that were timed to be implemented, I would say, in a serial fashion. And ultimately as programs moved around and schedules slid to the right, the resources required to accomplish all that new work became very challenging.

Carter Copeland - Barclays Capital, Research Division

If you look at 2 of those, I want to dig into 2 of those pretty -- a layer deeper. If you look at contracting and sort of the contracts you signed 6 years ago or 7 years ago, and maybe you can compare contrast those to contracts you engage in today, and I don't think business capture is a big focus of the business right now. But when you think about the contracting process, have you gotten better? Have you applied any of those lessons? How long do we have to live with some of these more challenging contracts that you got into quite some time ago?

Philip D. Anderson

Yes. I think Coleen and I were talking about this earlier. The contracts we're executing right now, the non-Boeing contracts we're talking about here, we're all entered in between 2005, 2007. I think the exception to that was A350, I think we did it in 2008. So I can tell you over the last 3 years, my job in finance has been not really bidding new contracts, it's been trying to improve the contracts we have, execute inside the contracts and improve what we have. But I would tell you, 350 is a better executed contract than maybe some of the other ones. More thoughtful, we got a lot of collaboration with Airbus as we went through the process. I wasn't in the process, but certainly watched it unfold from the Treasury seat. It's a better contract.

Carter Copeland - Barclays Capital, Research Division

When you had a contract renegotiation with Boeing on the 87 during that time frame, so that changed?

Philip D. Anderson

We had absolutely had, given how that program had played out, we did renegotiate some terms in the 787 contract, which was actually quite successful I think from Ray Conner's point-of-view and Stan Neil's point-of-view, and our point of view. It allowed us on the 787. We're going to build this airplane for 30 years, probably, but it allowed us to join our forces when it comes to cost improvement. And so designing for cost became a major initiative that we both agreed to do, as well as working with our supply chain partners to try to improve the cost for all of us, ultimately. And it's gone fairly well.

Carter Copeland - Barclays Capital, Research Division

How do you think -- how should we think about the duration of the typical sort of contracts that you sign? Are they life-of-program contracts? Or do they run a couple hundred units? I mean, these contracts are now -- they've got a good 5, 6, 7 years on them. And you performed a lot of the work. At what point do those contracts normally naturally come up for renegotiation?

Philip D. Anderson

They are -- they tend to be requirements contracts that run out through the duration of a production run. Now the A350, I think, is technically for 800 units, but clearly, there's language that would extend that on. Some of the business jets are more requirements contracts. Of course, the Boeing contracts we have, we talked about the ones that have given us some financial pain, but the Boeing contracts are actually very good. There's a master contract for all the core business, there's the 787 contract. And the core business contracts were let [ph] by Onyx on Day 1 of the company. They are sole source let [ph] program contracts. Now pricing does adjust as we go through time, but the right to build is Spirit's sole right to do that. But the other ones are more requirements-driven.

Carter Copeland - Barclays Capital, Research Division

If you look specifically, obviously, the challenges in Tulsa for a particular problem that you encountered, can you explain to us more what that was attributable to? If it was the stacking up of programs? It sounds like it's also contracts or supplier management, but take us through what really happened and tell some what the challenges were there?

Philip D. Anderson

Sure. Again, a bit of history is in order to understand kind of what's transpired in the 7 years. Tulsa is very good at building to print, if you will, and that was the nature of the business. Tulsa was former Rockwell, North American Boeing [indiscernible], yes, I think in the mid-'90s and then had reported to the Wichita division for quite some time, I think the late '90s right [ph] until the company was formed, Spirit was formed. But they were very good at doing -- or build to print type of operations on wing leading edge components and those types of things. When Spirit was formed, it became -- we leveraged it as a growth area. So what ultimately that group bid and won were the business jet programs, the 2 wing programs for the 280 and the 650. They also had 787 work put in there again. These are design and now build. For converting a build factory to design build on 3 new programs, taking the site from right around 1,000 to over 3,000 people in a very short time frame, it gives you a sense of the growth profile of that site. Being very candid, you say, well, we overgrew the capability of the site and we could have managed it probably a little bit better. But I think therein lies the challenge in Tulsa is, and we've been working on it quite a while now.

Carter Copeland - Barclays Capital, Research Division

Yes, where does it stand today terms of -- I'm not sure who went down there, you changed the leadership there.

Philip D. Anderson

We did. David Coleal, who's our general manager of fuselage, North Carolina and Tulsa, is now in charge of Tulsa and is working pretty hard on getting it stabilized and on the path to improvement. But again, I would point back to the growth profile and the complexity of the business. And frankly, that site -- great people there, they just -- we've kind of outgrown their capability and probably haven't gotten the best leaders and the best people into the site fast enough. And I think that's what we're really focused on now, getting that thing stabilized.

Carter Copeland - Barclays Capital, Research Division

I wondered if you might -- so we've talked a lot about program management. Some of the challenges, risks there and we can go back to that. But I wonder if I could switch gears and talk briefly about cash management. How that's changed, back to the earlier point about what were the incentives and what were the metrics that Boeing, Wichita, was evaluated on as part of Boeing versus what Spirit AeroSystems is about. How do you think the cash management process has changed, if it has at all. I assume that it has a lot. And are the incentives aligned appropriately in the company to drive the outcomes you want? Because we've obviously had a lot of reported earnings but not really a lot of reported cash. So how do we think about how that process has changed and how it looks going forward?

Philip D. Anderson

Sure. So as a product of the factory myself, right, there was a quality, cost, delivery, safety and morale, were the primary metrics of the operating business. And there was an annual budget. Of course you had a budget, you got it agreed to and you ran to your budget. And that's the nature of being a business unit. Two, a group -- the companies responsible from quote to cash and, being on our own, right? So big, big transition that's happened in the last 7 years. Cash focus has been, I think, something I've been beating the drum on my whole career now with Spirit. I think I arrived in 2007 as the treasurer, and creating a cash-focused culture was one of my initiatives and continues to be to this day. And I think we've made good progress on trying to focus that. But as our performance turns out, experience is the best educator sometimes.

Carter Copeland - Barclays Capital, Research Division

But if you look at the line level manager inside there, am I incentivized as the senior leader in Spirit to deliver a cash outcome over an earnings outcome?

Philip D. Anderson

Absolutely. Yes, it's towards the evolution of what we did with this cash-conscious culture several years ago now, there's the contract accounting, which we use obviously, but then there's -- we have a cash view of the company as well. And we use it, the cash view of the company, to run the internal metrics. If you are on the shop floor on a daily basis, you're status-ing factory every day and you know exactly what kind of cash flow you're expected to generate at kind of the mid-level manager up. They all have -- they know exactly what their cash goals are and that's a big improvement, right? That's from -- delivery as you said, delivery and quality to, I know what my cash goals are, which means I've got to -- I have to manage my labor inputs, my material inputs and everything in between; my travel costs, my shop supplies. We've come a long way in that regard and I think you see that playing out ultimately in our core business. The 777, the higher volume programs, are benefiting from that cultural evolution, if you will. And our challenges continue to be development programs that are in early stage of design and moving into production, where we're trying to get the costs down to where historically we should be. But the growth profile has actually, the growth profile of the company is, in some cases, the bandwidth of the team hasn't been enough to execute the growth profile of achieving historical-level costs on these new programs become [indiscernible].

Carter Copeland - Barclays Capital, Research Division

I know it will be difficult to see how much you can actually say about this. But obviously, you hinted at in your original comments, the company is less focused on diversification and more focused on simplification at this point and there are a natural small number of levers you can pull to that effect. And some of it is contract renegotiations, some of it is contract exit, maybe some of it is even business exit, in some form or fashion. How do you think about those things? Is there one more prominent than the other? Is it too early to get ahead of this, given the fact we've got a CEO change on the horizon? How should we, as investors, think about what's on the table for Spirit for 5 years from now?

Philip D. Anderson

Yes, I think we're -- from the board room on down, we're very focused on doing the things that I mentioned, positioning the company for future success, which are really about capturing the value of the core business and making sure we extend the life of our core business well. Getting 787 and 350 successful in terms of satisfying customers, of course, but also financially successful for Spirit. And then thirdly, which is where your question really goes to, is creating value with this diversification. And I think that's something we're just going to have to work through this year. Clearly, I would expect it to be on the list of the new chief executive coming in. Tom [indiscernible] board's mind on how do we create value and how much value can we create with some of these diversification strategies. And as Jeff mentioned on the call a week or so ago, that really we consider all options when it comes down to what do we do with some of the more challenged programs that we have.

Carter Copeland - Barclays Capital, Research Division

Right. If you decide they're not creating value.

Philip D. Anderson

Yes. Because it's really important, as we think about the future, what's extremely important is we apply our resources through the biggest value generators for the company, right?

Carter Copeland - Barclays Capital, Research Division

Of course.

Philip D. Anderson

In terms have not just cash, but also talent.

Carter Copeland - Barclays Capital, Research Division

To that end, the core programs, obviously, you make a lot of money, you make a lot of cash on your core programs. I wonder if you might speak to the renegotiation of this sort of master contract with Boeing. And conceptually, how much that sort of contracting structure makes sense going forward. In my mind, it made a lot of sense as a new entity, coming out of Boeing, to -- and you had a little bit of debt. You wanted to have contractual pricing protection against the downturn. That makes sense for a new company. And maybe we could make the case that you still want some protection for a downturn, but you've been operating under these sort of one-off contracts after you went through the ceiling volume levels that were originally negotiated with -- between Onyx and Boeing. Can you continue to operate in that fashion on a kind of one-off basis, or do you need to have a big blanket contract? Conceptually, is that something you put high value on at this point in the company's life cycle?

Philip D. Anderson

Well, the big blanket contract is in place. I mean, what we're discussing with Boeing commercial is not -- we're not reconstructing the contract itself, we're simply looking at product pricing because the contract is life-of-program contracts, which includes derivatives, by the way. And the derivatives are very well -- I mean, it's very well defined what the derivative is. So we're really just talking about product pricing. The original economic of Spirit were formed around, of course, the value of the asset, the state bionics [ph] and then the pricing for the Boeing Company. So that's what's being discussed right now. Now that said, it's pretty much open, right? We could negotiate if we wanted to negotiate whatever's on the customer's mind or what's on our mind. The formulation of the current arrangements were certainly about deeply cyclical business, potentially new company, needed to have a good cash flow in a down cycle, risk mitigation for the buyer, all those are embedded in this current pricing arrangement and contract structure. But it really comes down to what we want and what the customer wants and needs. And so we, there's a lot of agreement on kind of how this works. And in general, I won't be too specific about what we're talking about, but OEMs and Spirit, big tier ones like Spirit, right? We are very attentive to the supply chain because they are broad and they are deep. And if one supplier has a problem, it can create a great deal of a problem for everyone else in that supply chain. And OEMs are no different than that. They like to have, they understand the cyclicality of the business. They want to make sure the down cycles, if they happen, when they happen, that the supply chain remains healthy. So those are things that you like to see as a bigger, bigger player in this industry. But we don't have to have all that. We're now 8 years in, we have access to the capital markets. There's no need to have any special safety nets for the company necessarily. But really comes down to, what's the best match between our customers and ourselves because we want to make sure they're successful, whether it's Boeing or Airbus. It's of our best interest, obviously, to make sure they're successful. We're just looking to find what that right solution is for the next pricing period.

Carter Copeland - Barclays Capital, Research Division

Okay. I want to open it up to questions. Yes, Doug?

Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division

[indiscernible] for guidance here, but can you give us a sense of your cash flow trajectory going forward? Maybe give us a history of the CapEx upfront investments you've been making, and I have a sense that you probably have abating CapEx going forward and potentially inventory relief that could lead to a much higher cash flows in the future. Can you give us a sense of that?

Philip D. Anderson

Sure. I think broadly speaking, we are coming through the investment cycle of these programs. As you've seen, or you know, or you're learning, they -- new development takes 6, 7, 8 years to happen. So these investment cycles can be long. What that's followed by typically though is 10, 20, 30 years of serial production. So we're managing to this investment cycle right now. And cash flows are improving, they're not robust yet, but they are improving. We continue to think of our capital just for the base business, sustaining capital, if you will, in the $100 million to $120 million range, so all the capital on top of that is really being invested in 1 of 2 places, either in core business expansion or new business expansion. 787, A350 are the biggest really consumers of new program capital at this point in time. And 2013 is, I think, will turn out to be probably one of our bigger years of capital spend. As we've gone through the last 3 years, we've been very intense on putting the capital in place for volumes at the right time, because we've seen programs moving to the right in time, so we've been very sensitive to when do we put the capital in, and we've been pretty good at calling it and not impacting our customer yet timing our capital reasonably well, and it seems to have all kind of stacked up here in '13 to some degree, where we have 10 aircraft per month, volumes going on the 787; A350 volumes are coming up; 737 is going to 42 per month. So that's all converging here in 2013. I think the inventory, again, these are -- it's contract accounting. So the investment upfront builds up the inventory balances. And as we move into serial production and come down the curve, we end up creating the cash as you get out in time in serial production. And again, we expect inventory balances to build again this year, as we're still high on some of these learning curves on the new programs. But as we move to the next couple of years, we expect to start generating the cash. And our guidance this year, excluding the severe weather repair we're continuing to do this year, is I think plus or minus $50 million on the free cash flow basis.

Carter Copeland - Barclays Capital, Research Division

I'm going to go to another question, if we have one out there.

Unknown Analyst

Can you please describe the ongoing challenges of the A350 program and what you see is the biggest risk for you on that program going forward?

Philip D. Anderson

I didn't hear the whole question, but I think...

Carter Copeland - Barclays Capital, Research Division

Biggest risk to A350 ongoing, describe ongoing challenges.

Philip D. Anderson

Yes. The challenges we're facing on the A350, I think, are not dissimilar to other programs as far as engineering change. It's in that stage of development where the design, the big component design is fairly stable, but there's a lot of systems type [indiscernible] and things that are still being defined for the first time, in some cases redesigned. So engineering change continues to be the challenge we face there. As Airbus wants to clearly move into their next phase of development, which is ground test and flight test, and so we've been struggling to kind of keep up with that flow, given the engineering change in the system. Longer term, I think it comes down to the program challenges. Again, it's a heavily procured aircraft, and so we use the supply chain heavily. And the supply chain is very busy. With the volumes we're describing, the volumes we talked about, we happen to have to go out and procure our A350 long-term contracts in a very busy supply chain with composite orientation on much of it. So I think that's probably the biggest challenges that we look out over the next several years on the 350. It tends to be supply chain.

Carter Copeland - Barclays Capital, Research Division

Another one.

Unknown Analyst

Just 2 questions. The first one going back to Carter's question on the 737 renegotiation with Boeing. I think that's viewed among the investment community kind of as a risk to the Spirit investment case, and I'm just wondering if you can comment, as we renegotiate prices, is the thought the price comes down and hopefully you can cut cost and go down on the learning curve to try to maintain margins. And then adjacent to that, are there any opportunities to renegotiate the cash profile of the contract, given that the cash profile of the company is not very good right now, because you're in a high investment phase? That's the first question. And then the second one is just on your EAC process of no mature programs. In Q1 this year, 777 blocked closed a program you've been executing on for a while and you took a charge, which gives us as investors, a little bit lack of confidence at the EAC process on even known mature programs is not robust and conservative enough. So as CFO, what can you say to kind of give us confidence that redundant leasing charges on known mature programs?

Philip D. Anderson

Yes. I think the charge you're referring to is 747-8 and the 767.

Unknown Analyst

I think it's Q1, but it was Q1 '12 777 block closed.

Philip D. Anderson

Ah, Q1. Okay.

Coleen Tabor

It was positive, positive...

Philip D. Anderson

[Indiscernible] But mature programs. 747, 767, I mean, we did have that experience here in the fourth quarter. They are slower rate programs, so I think slower rate programs, less volume coming through the system. It can be challenging. 747-8, is again, it's a new derivative airplane, which we've experienced more cost on than the -400 version of it. And then the 767, again, slow rate, but it was very specifically on the nacelle package, which is the Thrust Reverser for Pratt & Whitney engines. We build these one every couple of years. So it's like a cold production line that we've had to restart for customers ordering Pratt & Whitney engines on the 767. And it just tends to be more challenged when you have to restart production. That's the nature of the business.

Carter Copeland - Barclays Capital, Research Division

But wouldn't you know that to a certain extent? I mean, how many of the -- how may have you built?

Philip D. Anderson

So you don't, right? We do quarterly EACs. So we're reviewing these contracts as they change through time to make sure we're capturing cost as we move through and perform and the market changes. So whenever a 67 Pratt enters the firing order, the production line, if it's not already in it, then we have to build the cost into it. And so I'm not sure when that shows up, it's clearing the cost when the firing order change, but I think it was the fourth quarter, actually [indiscernible] guestimate.

2013 pricing, so cost reduction is always on our mind, obviously. This is a cost-driven business. Airbus and Boeing compete very aggressively on single aisles and big airplanes. If you're not successful managing costs in this business, it becomes very, very difficult. And we've had good success on managing it. And it's also a volume-driven business, so we're seeing some of the benefits coming through from volume on the new programs. From a price standpoint, we simply -- it's not always just about price, right? And this is the discussion with Boeing and ourselves. It is about capability, it's about reliability, it's about dependability, all of which we think we're a fairly efficient supplier to the Boeing Company at this point on serial production and the Airbus products out of our Europe facility. We have a lot of characteristics. They know they can rely on us. But it really comes down to how -- we try to get a deep understanding of what the customers need to compete in the marketplace. And then how much we can contribute to success because that translates to our success. Meanwhile, working very, very hard in reducing cost. And that's the approach to it. And we're about enduring relationships too, not about just capturing the value over the next 24 months at the sake of alienating customers over the long term. So we're very much focused on helping our customers succeed.

Carter Copeland - Barclays Capital, Research Division

Just to expand on, one of those pieces, could you change the cash profile of some of those contracts so that you better align the company's needs? Right now, I mean I know, you probably have to trade for short-term cash, you got to probably trade a little bit of long-term profit, which is a risk, right? But given where you are today, is that something you'd consider?

Philip D. Anderson

Well, I think there's -- the OEMs and the short answer is, we do consider it, right? Last year with Airbus, so you know, on the A350, we had a $250 million cash advance in their economics where that made sense for us and them. So yes, we will do that from time to time. But not every time. I think the OEMs tend to be cash, cash rich, with the construct of the industry with advanced payments and such. So they will always want to give you a cash advance for price, that you have to pay back over some period of time.

Carter Copeland - Barclays Capital, Research Division

They'll make that transfer [ph]?

Philip D. Anderson

Those trades are there, we've made them, but it's not just a foregone conclusion.

Carter Copeland - Barclays Capital, Research Division

Okay. We might have time for one more if there are any more. I'll have one more then. So the elf in the room is the 787 and the battery issue and obviously, you are a big 787 supplier. I'm not sure if the battery's actually installed when Section 41 leaves your facility. But obviously, this program we've seen it be a big drag on cash when it stops and the production rate was very, very slow. But if we were to have a production stoppage at these higher rates, it would be very impactful. How do you think about -- I mean, I know we're going with not a lot of data here and we're barreling forward with production, but how do you think about contingency planning? Should this drag on a bit longer than we're all thinking?

Philip D. Anderson

Well, we do, do contingency planning. We are doing contingency planning. But, the customers' demand is still there. They still want the product, and we're still building the product. And I don't mean to suggest we just close our eyes and hope for the best. That's not the case, right? But the fact is, we have a contract to deliver product to, as well. And we're not deep inside that review they're doing, right? The corrective situation. You're quite correct, the battery is not installed in our facility. All the power systems are. We do continuity checks on all the power system, but not with the battery, with the external power source. It's how it's done in our factory and the batteries are actually installed in the final assembly, either in South Carolina or Everett.

Carter Copeland - Barclays Capital, Research Division

So we're wait-and-see?

Philip D. Anderson

Yes, I think so, I think so. And hopeful. Look, I think the Boeing Company has a long history of solving technical issues. And so I think the chances are it's short term, we hope. And it makes no sense to turn off supply chains in the short term. If it's something more significant, if it turns out, then I think we'll have to address that.

Carter Copeland - Barclays Capital, Research Division

Okay. With that, we are out of time. And I really thank you both for joining us. Thank you, all, for joining us and we'll hope to hear more from you soon.

Philip D. Anderson

Great. Thank you.

Coleen Tabor

Thanks, Carter.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Spirit AeroSystems Holdings, Inc. Presents at Barclays Industrial Select Conference, Feb-20-2013 09:45 AM
This Transcript
All Transcripts