TransDigm Group Incorporated Management Discusses Q1 2014 Results - Earnings Call Transcript

Feb. 4.14 | About: TransDigm Group (TDG)

TransDigm Group Incorporated (NYSE:TDG)

Q1 2014 Earnings Call

February 04, 2014 11:00 am ET

Executives

Liza Sabol

W. Nicholas Howley - Chairman, Chief Executive Officer and Chairman of Executive Committee

Raymond F. Laubenthal - President and Chief Operating Officer

Gregory Rufus - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Secretary

Analysts

Noah Poponak - Goldman Sachs Group Inc., Research Division

Myles A. Walton - Deutsche Bank AG, Research Division

Robert Spingarn - Crédit Suisse AG, Research Division

David E. Strauss - UBS Investment Bank, Research Division

John D. Godyn - Morgan Stanley, Research Division

Robert Stallard - RBC Capital Markets, LLC, Research Division

Yair Reiner - Oppenheimer & Co. Inc., Research Division

Joseph B. Nadol - JP Morgan Chase & Co, Research Division

Michael F. Ciarmoli - KeyBanc Capital Markets Inc., Research Division

Gautam Khanna - Cowen and Company, LLC, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the First Quarter 2014 TransDigm Group Incorporated Earnings Conference Call. My name is Regina, and I'll be your conference operator for today. [Operator Instructions] As a reminder, today's event is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Ms. Liza Sabol, Investor Relations. Please go ahead.

Liza Sabol

Good morning, and welcome to TransDigm Fiscal 2014 First Quarter Earnings Conference Call. With me on the call this morning are TransDigm's Chairman and Chief Executive Officer, Nick Howley; President and Chief Operating Officer, Ray Laubenthal; and our Executive Vice President and Chief Financial Officer, Greg Rufus.

The company would like to remind you that statements made during this call, which are not historical in fact are forward-looking statements. For further information about important factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements, please refer to the company's latest filings with the SEC. These filings are available through the Investor section of our website or at sec.gov.

The company would also like to advise you that during the course of the call, we will be referring to EBITDA, specifically, EBITDA as defined, adjusted net income and adjusted earnings per share, all of which are non-GAAP financial measures. Please see the tables and related footnotes in the earnings release for a presentation of the most directly comparable GAAP measures and a reconciliation of EBITDA and EBITDA as defined, adjusted net income and adjusted earnings per share to those measures.

Let me now turn the call over to Nick.

W. Nicholas Howley

Well, good morning, and thanks again for calling in to hear about our company. Today, I'll start off with some comments about our consistent strategy, then an update on the commercial aftermarket and also on the Boeing Partnering for Success program. I'll then give an overview of the financial performance and market summary for -- in Q1 2014 and an update on the full year guidance.

Just to restate, we believe our business model is unique in the industry, both in its consistency and its ability to sustain and create intrinsic shareholder value through all phases of the aerospace cycle. To summarize some of the reasons why we believe this, about 90% of our net sales are generated by proprietary products and around 3/4 of our net sales come from products for which we believe we are the sole source provider. Excluding the small non-aviation business, about 54% of our revenue and a much higher percent of our EBITDA comes from aftermarket sales. Aftermarket revenues have historically produced a higher gross margin and provided relative stability in the aerospace cycles.

Based on our uniquely high EBITDA margins and relatively low capital expenditure requirements, TransDigm has, year in and year out, generated strong free cash flow. We have a well-proven value-based operating strategy focused around what we refer to as our 3 value drivers: new business development, continual cost improvement and value-based pricing. We also maintain a decentralized organization structure with operating unit executives who think, act and are paid like owners. We stick to these concepts as the core of our operating management methods. This consistent approach has worked for us through up and down markets while allowing us to steadily invest in new businesses and new platform positions.

We have also been successful in regularly acquiring and integrating businesses. We acquire proprietary aerospace businesses with significant aftermarket content. We have been able to acquire and improve such businesses through all phases of the cycle. We pay close attention to our capital structure and view it as another means to create shareholder value. As you know, we have been in the past and continue to be willing to lever up when we either see good opportunities or view our leverage as suboptimum for value creation. We typically begin to delever pretty quickly.

With respect to capital allocation, we will look closely through the year in our choices for capital allocation. We basically have 4. Our priorities are typically as follows: one, invest in existing businesses; two, make accretive acquisitions consistent with our strategy; these 2 are always our first choices; third, pay off debt. But given the low cost of debt, especially after tax, this is likely our last choice in the current market condition; and fourth, give the extra money back to the shareholders, either through special dividends or stock buyback.

As the year proceeds, we will look at our likely needs for acquisition and internal investment, our cash and/or debt capacity, as well as the capital market situations, all in context of our near and midterm outlook. At this time, we are not prepared to speculate on what, if any, major actions we might take. We'll see what conditions exist as the year proceeds. At the end of Q1, after closing the Airborne acquisition, based on the current capital market conditions, we believe we have adequate capacity to make about $1.5 billion of acquisitions without needing additional equity. This capacity grows as the year proceeds. This does not imply anything about acquisition opportunities or anticipated acquisition levels for 2014.

Overall, through our consistent focus on our operating value drivers, a clear acquisition strategy and close attention to our capital structure and allocation, we have been able to create intrinsic value for our shareholders for many years through up and down markets, and we anticipate being able to do so in the future.

Now to address a few specific items that have to do with this first quarter. As you know, on December 19, we closed on the acquisition of Airborne Systems for about $250 million. We bought this from Metalmark Capital. Airborne is the world leader in the design and manufacture of military personnel parachutes, cargo aerial delivery systems and related products. The company's proprietary products have significant, often sole-sourced positions with the government of the United States, United Kingdom and about 50 additional nations. The primary product offerings include current generation troop parachutes, latest generation steerable parachutes for tight drop zone landings, ram-air, maneuverable parachutes used for special operation activities and precision-guided cargo chutes that are used for high-altitude GPS-driven cargo drops.

Airborne's a unique company and asset in the industry with most of its revenue from proprietary and sole-source sales, the company fits well with our criteria and value-creation model. The large number of international customers generate a majority of the company's revenues. The international content is growing and provides a buffer to the current uncertainties of the U.S. defense spending environment. I do not anticipate that this is a business that gets to the PV average EBITDA margin, but I believe it will generate significant shareholder value.

Now with respect to the aftermarket status. To reiterate, again, in the second half of fiscal year 2013, we began to see signs of a recovery. We believe the trend was roughly up about 4.5% year-over-year for the second half of 2013. This was after adjusting for certain items we discussed in prior calls. The first quarter of fiscal year 2014 commercial aftermarket revenues on a same-store basis were up about 7.5% versus the prior year Q1. Sequentially, the revenues were up about 6%, in spite of less working days.

Additionally, the bookings were up about 14% versus the prior Q1 and up about the same percent sequentially. It's too soon to declare victory, but we surely feel more positive. The recovery may not be linear. There may well be ups and downs in the quarters. Many forecasters, however, believe that our data now seems to suggest more strongly that the commercial aftermarket is now expanding. Time will, of course, tell on [ph] here.

I'd also like to comment on the Boeing Partnering for Success program. Though we have a mutual confidentiality agreement, and as I've said in the past, as a general rule, we don't share details of customer negotiations. I can make a few general statements. In January, Boeing and TransDigm reached agreement on the Partnering for Success program, and both signed a memorandum of understanding. We believe this agreement is mutually beneficial to Boeing and TransDigm. As part of this agreement, TransDigm continues and maintains its long-standing position as a valued long-term supplier in good standing for future and existing Boeing airframes. We do not expect this will have any material impact on our financial performance as a result of this agreement. We are pleased to have this concluded and look forward to continuing our large -- our long and mutually beneficial relationship with Boeing. Due to our confidentiality agreement, this will be my only comment on that subject.

Turning to our Q1 2014 performance. To remind you, this is the first quarter of our year. Our year began October 1. As I've said frequently, quarterly comparisons can be significantly impacted by mix, large orders, inventory fluctuations, little seasonality and other things. Also, to remind everyone, Airborne is not included in these numbers. We owned it for 10 working days, most of which were a holiday break period.

The first quarter of fiscal year '14 was generally a good quarter for TransDigm. Revenue, profits and margins were all strong. GAAP revenue was up 23% versus the prior Q1. Pro forma revenue, that is if we owned the same mix of businesses, was up about 9% on the quarter versus prior year quarter.

Reviewing revenues by market category, again, on a pro forma basis versus the prior Q1, that is assuming we own the same mix. The commercial aftermarket -- or the commercial market, which makes up about 3/4 of our revenue, total commercial OEM revenues were up 10.5% versus the prior Q1. This is driven by commercial transport OEM revenues, which were up a bit more than that, and the business jet revenues were about flat. Total commercial aftermarket revenue comps, as I said before, were up about 7.5% versus the prior Q1. Our individual operating units continue to be a little spotty, but most units are up this quarter.

The defense market makes up about 1/4 of our revenue. Defense revenues are up in the mid-single digit percent versus a very low prior year first quarter -- excuse me, mid-double digits versus a very low prior year first quarter. More significantly, revenues were about 5% up versus the prior year 12-month run rate. There were about $7 million of Tarian shipments almost completing the order. But even without that, removing it from both periods, the percent revenue in Q1 was still up a bit versus the prior year's average run rate.

Incoming defense orders or bookings ran slightly ahead of shipments. Ray's going to give you a little more color on this. We are pleased with the military results so far. We hope that the recent budget agreement will provide some stability, but we remain cautious about trends in these markets.

Moving on now to profitability. And on a reported basis, I'm going to talk primarily about our operating performance or EBITDA as defined. The as-defined adjustments of Q1 were primarily due to acquisition-related costs and noncash stock option expense. Our EBITDA as defined of about $244 million for Q1 was up 21% versus prior Q1. The EBITDA as defined margin was 46% of revenue for Q1. Our base business EBITDA, that is excluding the 3 acquisitions we made in 2013, was about 48%. That's up about one percentage point versus the prior year's Q1 with a very comparable market mix of products.

With respect to acquisitions, we continue looking at opportunities. The pipeline of possibilities is pretty active, about the same mix of sizes as usual. Probably the commercial versus defense mix is a little more normal now. Closings are difficult to predict, but we remain disciplined and focused on value-creation opportunities that meet our tight criteria.

Moving on now to 2014 guidance, and I think this is on Slide 6 of the package we gave out. Once again, military spending is unclear. But so far, so good. The rate of recovery in the commercial aftermarket seems to be proceeding, and the EBITDA margins are running slightly ahead. We are reflecting the Airborne acquisition in this revision. This is our best current estimate. As usual, we'll let you know if our views change one way or the other.

Based on the above and assuming no additional acquisitions, 2014 revised guidance is as follows: The midpoint of the revised guidance is now $2.3 billion versus our prior guidance of a little under $2.2 billion. This is up about 6% on a GAAP basis versus the prior guidance. The revenue increase is due to the Airborne acquisition.

The midpoint of the 2014 revised EBITDA as defined guidance is $1.05 billion or about 45.5% of revenue for the year. It's up $32 million versus the prior guidance. This margin includes 1.5% of dilution from Airborne, which will begin to show in Q2. This is offset partially by some operational improvements that we saw in Q1. The dollar increase of EBITDA is about 3/4 from the 9 months of Airborne acquisition that we owned it and about 1/4 from improved base margins.

The midpoint of the EPS as adjusted is anticipated to be $7.50 a share versus the prior guidance of $7.16. This is primarily due to the same items impacting the EBITDA as defined. At this time, our 2014 guidance is still based on the same market growth rate assumptions we gave with our original guidance. We're not yet comfortable enough to increase our full year assumptions. We'll look at this again next quarter.

In summary, Q1 was a good start. Hopefully, the strengthening market conditions will continue. But in any event, I'm confident with our consistent, value-focused strategy and strong mix of businesses, we can continue to create long-term intrinsic value for our investors.

Now let me hand this over to Ray, who will discuss some of the high points and operating issues from Q1.

Raymond F. Laubenthal

Thanks, Nick. As Nick mentioned, in total, our first quarter was better than our expectations. However, we continue to tightly manage our cost structure and work our value drivers to create shareholder value. Let me explain our 2014 first quarter operational value creation a little bit more detail.

Right before their holiday shutdown, we completed the acquisition of Airborne Systems Incorporated. The value-creation transition of this business has started, and we are presently working through various productivity projects and structuring the business into our product lines with their associated value-creation metrics.

The 3 businesses we acquired last summer are also progressing well. At Arkwin, we have completed the first stage of our productivity restructuring, organized the business into product lines, focused the engineering and installed a proven Sales and Marketing Director and a Controller, who both had come from our existing operations. The Arkwin margins are moving up nicely, and we expect them to eventually reach the average TransDigm EBITDA margins.

At our Whippany Actuation business, the transition activity has been more complex as we work through the systematic decoupling from GE. However, progress today is at or above expectations. As with Arkwin, we have completed the first phase of productivity restructuring, organized the teams and the product lines, focused the engineering and installed our value-creation metrics.

To expedite the value creation and integration process, we added some proven TransDigm managers to the acquisition. Shortly after we acquired Whippany Actuation, we appointed Jack Stiffler as the President. Jack previously was the President of our MarathonNorco unit. Jack then immediately installed a new Director of Sales and Marketing who also came from one of our existing units.

The Whippany margins are also moving up, albeit at a slower rate due to their existing contracts, the nature of some of their government business and the drawdown of certain distribution inventory. We don't expect their margins to get as high as the TransDigm average. However, we do expect them to meet or exceed our acquisition model.

Lastly, our Aerosonic transition -- acquisition transition is also on track with similar progress as discussed with Arkwin and Whippany Actuation. In addition to the productivity improvements and product line work, we appointed Joe Grote as President. Joe previously was the President of our CDA unit. Joe also drew on existing TransDigm talent and installed [ph] an Internal Manager as one of the new product line managers at Aerosonic. Aerosonic's margins are also expanding.

Our internal talent development continues to serve us well. The salting of TransDigm talent into these recent acquisitions generally augments their value-creation transition. In fact, the vacancies created by moving the new presidents and managers into these acquisitions were also backfilled by internal talent, TransDigm talent. As I have said in the past, we believe our succession planning and value-creation culture are key to growing TransDigm value.

As Nick mentioned, our defense segment continues to outperform our expectations. I'd like to give this a little color. Last quarter, we stated that our fiscal 2013 defense market revenues were up a healthy 7% over fiscal 2012 revenues and that our defense market growth expectations for 2014 were flat coming off of these rather strong 2013 results. Our last 2 quarters of defense bookings have continued to be better than expected. Typically, defense bookings precede revenue by about 3 to 9 months, so this strong order rate gives us a good near-term backlog. We have upside in this segment for our first half. If this strength continues, we may also have upside in our defense revenues in all of 2014.

The strength in the recent 6 months defense segment has been more aftermarket than OEM. Generally, the uptick in OEM has been for our new products and applications on the A400M and the F-35 or the JSF. The significant aftermarket strength has been predominantly from our products on the active fleet of fighters: the F-15, F-16, the F-18, the F-4 and the A-10 attack aircraft, and also cargo aircraft, the C-130 and the C-17. We'll see how this continues as the year progresses. But so far, so good.

Now let me hand it over to Greg Rufus, our CFO, who will review the first quarter financial results in more detail.

Gregory Rufus

Thanks, Ray. As disclosed in this morning's press release and just discussed by Nick, our first quarter sales were $529 million and 23% greater than the prior year. Our organic sales were 9% higher than last year, and the growth in commercial OEM, commercial aftermarket and defense were all positive.

Our first quarter gross margin was $284 million, an increase of 19% over the prior year. The reported gross profit margin of 53.7% was 1.7 margin points less than the prior year. The dilutive operational impact from acquisitions was a little over 2 margin points. Excluding all acquisition activity, our gross profit margins in the remaining businesses versus the prior year quarter improved approximately 0.5 margin point.

Selling and administrative expenses were 10.8% of sales for the current quarter compared to 12.8% for the prior year. The 2 percentage point decrease was primarily due to lower SG&A spending as a percent of sales relative to our sales growth and lower noncash stock comp expense versus the prior year Q1. If you recall, we accelerated this expense in quarter 3 last year, which had the impact of lowering this year's expense.

Interest expense was $81 million, an increase of approximately $18 million versus the prior year quarter. This is a result of an increase in the weighted average total debt to $5.7 billion in the current quarter versus $4.2 billion in the prior year. The higher average debt year-over-year was primarily due to the amount borrowed to distribute $1.8 billion of special dividends last year. Our weighted average cash interest rate has decreased to 5.4% compared to 5.6% in the prior year due to the lower interest rates on the new debt.

Our effective tax rate was 33.6% in the current quarter compared to 32.6% in the prior year. We still expect our effective tax rate for the full fiscal year to be around 34% and our cash taxes to be about -- approximately $190 million.

Our net income for the quarter increased $12 million or 16% to $86 million, which is 16% of sales. This compares to net income of $74 million in the prior year. The increase in net income primarily reflects the growth in net sales, partially offset by higher interest expense.

As I've discussed in the past, our earnings per share is calculated under the 2-class method versus the more commonly used treasury method. We are required to use this method because of our dividend equivalent program. As you can see on Tables 1 and 3 in this morning's press release, our GAAP EPS was $1.44 per share in the current quarter compared to just $0.66 per share last year. The prior year quarter was significantly impacted by the dividend equivalent payment of $38 million or $0.70 per share compared to the $0.07 per share this period. The higher dividend equivalent payment was associated with the $700 million or $12.85 per share dividend paid in November of fiscal '13.

Our adjusted EPS was $1.66 per share, an increase of 10% compared to $1.51 per share last year. The 10% increase is lower than our 16% increase of adjusted net income due to the higher weighted average shares in the current period, resulting from the accelerated stock option vesting mentioned earlier. Again, please reference Table 3 in this morning's press release, which compares and reconciles GAAP and adjusted EPS.

Switching gears to cash and liquidity. After the purchase of Airborne, we ended the quarter with $411 million of cash on the balance sheet. The company's net debt leverage ratio was 5.4x our pro forma EBITDA as defined. We now expect to end the year with approximately $750 million of cash on the balance sheet assuming no other acquisition activity or changes in our capital structure. We expect our net debt leverage ratio to be approximately 4.7x EBITDA as defined at the end of our fiscal year.

Now let me hand it over to Liza to kick off the Q&A.

Liza Sabol

Thank you, Greg. Operator, we are now ready to open the lines.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question today comes from the line of Noah Poponak with Goldman Sachs.

Noah Poponak - Goldman Sachs Group Inc., Research Division

Nick, on M&A and the M&A pipeline, you provided some comments on sort of what you could do right now given where the balance sheet is, but you didn't really talk about the health of the pipeline as you see it today, which you normally do. Is that something you're willing to share with us right now?

W. Nicholas Howley

Yes. No, I thought I -- you may find it unfulfilling, but I thought I said about the same thing I always did, that our pipeline is pretty active, where we remain working with -- I think I've said that there's a little more normal than we normal -- than we have been seeing in the commercial trends mix. The sizes and the stock are about what we usually see.

Noah Poponak - Goldman Sachs Group Inc., Research Division

When we see Airborne, which is essentially all military, should there be any part of us that interprets that to mean it's now proving more difficult to find reasonably priced aerospace, primarily commercial assets, that have the characteristics you're looking for, or is this more specific to what you saw in Airborne?

W. Nicholas Howley

It's more specific what we saw in Airborne. We are not -- as we've always said, we're looking for proprietary aerospace kind of products with a reasonable amount of aftermarket. And if they meet our sort of P/E kind of return, we're an interested buyer. We're not biased necessarily against defense, though I must say I don't -- I wouldn't want to move this -- we wouldn't want this to be a 50-50 defense business. But if the price is right and it has the right characteristics, we're interested in it. All things being equal, we'd probably pick a commercial business. But you deal with them as they come up, and this looks like a good, accretive transaction to us.

Noah Poponak - Goldman Sachs Group Inc., Research Division

So it doesn't sound like you're really finding it more difficult in any meaningful way to find good, reasonably priced, primarily, aerospace assets compared to 12 months ago or 18 months ago or any time.

W. Nicholas Howley

Yes, I don't think so. You can always argue what reasonably priced means. But I would say, the prices haven't changed substantively as best I can tell. The hardest issue is always finding things that meet our -- our criteria is pretty tight. We want it to be proprietary. We want to double [ph] our sole-source stuff. That's always the issue is this sorting through them to get the ones that really meet our criteria.

Noah Poponak - Goldman Sachs Group Inc., Research Division

Okay. And then just a follow-up on the base defense business where you commented that the shrink there is aftermarket, not original equipment. And I think you mentioned within that, it's fighter and cargo. Is it possible, even if rough order of magnitude, to quantify how much of your defense aftermarket business is fighter versus cargo versus helicopter? Because we've seen a number of other companies have pretty significant weakness in their defense aftermarket business, attributing it to helicopter. We've heard investors speculate that they would think that's something that would eventually impact TransDigm. It doesn't sound like that's happening, at least, yet. So if we could understand that mix a little better, I think that would be helpful.

Raymond F. Laubenthal

Okay. Noah, this is Ray. Well, first off, the government ordering patterns and so forth, and we've said this in the past, can be quite lumpy. So it's tough to take a comparison from one period to the next and start drawing general conclusions. We just happen to see that the aftermarket was a little stronger than the OEM. That doesn't mean the OEM was way down. We're kind of spread about 1/3-1/3-1/3 on our platforms, about 1/3 of our applications are on the helicopters, about 1/3 in the kind of fixed lean fighter area and about 1/3 in the cargo aircraft. Helicopters were strong for us in prior years, a little bit more so, not like they were as strong in the most recent period. We don't think that's any big trend, but that's just how they kind of were lumpy this time around.

Operator

Your next question is from the line of Myles Walton with Deutsche Bank.

Myles A. Walton - Deutsche Bank AG, Research Division

So the first one I have for you -- I guess -- so just maybe to follow up on the military question for a second. Was there a big difference in domestic versus international in terms of the strength of growth? I know that there was a larger international booking you had last year. I don't know if that's helping in some of the near-term sales numbers.

W. Nicholas Howley

That one is -- I think as I've said, Myles, in the lead-in, that, that was about $7 million in the quarter, would consist about the same as it was in the fourth quarter of last year. That order is almost finished. I want to say it was a $17 million or $18 million order and that we shipped about $15 million of it. But even if you strip that out of both periods, the run rate from this first quarter was higher than the average run rate for last year. And I talk about the average run rate because the first quarter was very low last year. So that's a meaningful comp, at least for us. We sort of look at the average run rate just because -- otherwise the increases is a little distorted. But clearly better than we hoped, than we thought it may be, and we feel decent about the next quarter.

Myles A. Walton - Deutsche Bank AG, Research Division

Good. And then, Greg, on the SG&A leverage, keeping in control on the cost growth lower than the sales growth, do you have a kind of thought on the target range for SG&A as a percent of sales or how much more leverage you can get out of constrained cost there?

Gregory Rufus

Well, this quarter is a good quarter. We're still planning on our total SG&A for the year to be about 11.5%.

Myles A. Walton - Deutsche Bank AG, Research Division

Okay. And that's inclusive of the -- that's not an adjusted basis. That's inclusive of the comp?

Gregory Rufus

Yes.

Operator

Your next question is from the line of Robert Spingarn with Credit Suisse.

Robert Spingarn - Crédit Suisse AG, Research Division

Nick, you talked about the lower margins at Airborne. And maybe I got to factor in more when I look at incremental in the guidance, between the added sales and the added EBIT -- EBITDA as defined, but it -- I think by my math, it's about a 25% EBITDA as defined margin for the contribution of Airborne this year. And that would seem to be a bit of a departure. Is this a one-off? Is it the nature of this military business and the parachute business, or is -- might we see some more deals at lower margins?

W. Nicholas Howley

So you'll do the math.

Robert Spingarn - Crédit Suisse AG, Research Division

I used the midpoint, and I know there might be other puts and takes in there.

W. Nicholas Howley

You're not miles off. And I'll give you the pieces, right, so you could figure it out. The -- well, it's not unusual that we bring businesses in substantially below our average. I mean, bringing the businesses in 25% EBITDA is not unusual at all for us. I would expect that's more the rule than the exception, have a business come in like that. However, I will say the nature of this business is such it's not going to pipe [ph] this long [ph] . Who knows where the future could bring, but I think it's unlikely this business gets up to 50% EBITDA.

Robert Spingarn - Crédit Suisse AG, Research Division

Okay. I guess maybe the way to ask you this, is this the before or is this the after margin or something in the middle?

W. Nicholas Howley

Well, I hope to hell it's the before. I'll be very sad if it comes down from here, Rob.

Robert Spingarn - Crédit Suisse AG, Research Division

Yes, yes. We all hope not. On -- I don't want to ask you specifically about -- any more about the deal you did with Boeing, because you said you won't talk about it. But one thing I think we're struggling for is, just abstractly, in these deals, everybody says it's a win-win for everybody. But the presumption is that somebody has to give a little more than the other. Can you just talk, from an abstract perspective, of how the horse-trading works on these things?

W. Nicholas Howley

Rob, I just can't. We have -- this is a -- it's very sensitive to Boeing, and somewhat to us, that we maintain a confidentiality agreement with how this -- and we -- we were very clear with them what we would and wouldn't say. And I really just can't go beyond it, other than to say, as we said, this is not going to have a -- we don't see this having a material impact on our financial statements or our performance. And obviously, we thought it was worthwhile deal to make or we wouldn't make it.

Robert Spingarn - Crédit Suisse AG, Research Division

Okay, fair enough. You were clear you weren't going to go there, so I just wanted to try.

W. Nicholas Howley

Maybe if you ask it weekly, I might miss the question.

Robert Spingarn - Crédit Suisse AG, Research Division

That's good wreck [ph] . I'll remember that next time. On -- I'll try this one. On the aftermarket, we've gotten some sense that aircraft, that used aircraft are being extended a little bit more than before. Aircraft coming off-lease are being re-leased, maybe having a little bit easier time getting remarketed than even 6 months ago. Does this explain any of the strength you're seeing? Do you get a sense in talking to your customers that the mix of the fleet is not shifting quite as quickly to new as we thought, not because the new aircraft aren't delivering, but because the old ones aren't retiring as quickly?

W. Nicholas Howley

Rob, I also heard that anecdotally. But I honestly can't tell you that I can give you any good numbers or I have any numbers to give me any particular comfort in that. But I have heard that anecdotally also.

Operator

Your next question is from the line of David Strauss with UBS.

David E. Strauss - UBS Investment Bank, Research Division

Just following up on that question on the aftermarket. Off of the levels that you saw in Q1, what kind of sequential growth do you need to kind of hit your high single-digit target for the year?

W. Nicholas Howley

We didn't really give quarterly guidance. So we didn't...

David E. Strauss - UBS Investment Bank, Research Division

Yes. I'm just talking maybe if you take Q4, what...

W. Nicholas Howley

We haven't given that, Myles, by quarter, and I don't want to speculate on it now. But you could figure it out pretty well, right?

David E. Strauss - UBS Investment Bank, Research Division

Yes. I'm not -- that's the reason I asked, because it doesn't seem to apply much in the way of any sort of sequential growth or not much sequential growth.

W. Nicholas Howley

Yes. So we have to get there. If we said, 8% to 9% for the year, right, we'd have to -- if everything was linear, if you get 7.5% in the first quarter, we need to get whatever that comes to -- in the 10.5% in the fourth quarter.

David E. Strauss - UBS Investment Bank, Research Division

Yes. But I'm just talking kind of sequential off the run rate where you are today.

W. Nicholas Howley

Yes. We haven't given that, and we prefer to stay away. We don't care to give quarterly guidance on it. We did tell you -- we did give you some data on the bookings.

David E. Strauss - UBS Investment Bank, Research Division

Yes, yes. I think Ray mentioned that -- or maybe it's Greg about the increase in guidance on the EBITDA side. There's about 25% of it from the base operations. Is that some of the upside? I assume it's not upside on some of the recent acquisitions. Where exactly is that coming from?

W. Nicholas Howley

It's just the -- it's the underlying business, however you want to define it. We bumped up -- I want to say $32 million is not the number [indiscernible] , $32 million. We wanted to give you some sense how much of that was Airborne and how much was -- the margins were a little -- I feel a little better about the margins.

David E. Strauss - UBS Investment Bank, Research Division

Okay. And I'll try another one on this Partnering for Success. Yes, I'll give it a shot. I mean, is it -- the agreement that you were able to reach with Boeing, does it change anything fundamentally about your business model in terms of the kind of upside you can get from the aftermarket once you're spec-ed into an aircraft. Thinking about new aircraft that are still to come and your position on that, does it change anything from that -- in that...

W. Nicholas Howley

I just don't want to -- as I've said, we -- I do not see a material impact on our business. And so -- and we just -- we have a -- I'm just going to repeat myself now. We've been pretty clear with Boeing and Boeing with us that we'll say what we agreed to say and no more.

David E. Strauss - UBS Investment Bank, Research Division

Okay, last one. Greg, what is the D&A assumption for the year? Does the amortization step down as we go through the year?

Gregory Rufus

Well, boy, not with Airborne now, right? And, well, we haven't gone -- hold on. Our prior guidance -- where are we at? Is this your D&A and depreciation? Okay. D&A and amortization goes up about $6 million, and backlog was up about $6 million.

David E. Strauss - UBS Investment Bank, Research Division

Off the prior guidance?

Gregory Rufus

Off the prior guidance.

Operator

Your next question is from the line of John Godyn with Morgan Stanley.

John D. Godyn - Morgan Stanley, Research Division

Nick, in the prepared remarks, you mentioned sort of buybacks is one of the options. Of course, you haven't really used that in the past. I'm just curious, has the thinking evolved at all on buybacks versus special dividends?

W. Nicholas Howley

I don't -- I think it is mostly, so far with us, been a question of magnitude. We have -- the magnitude of the givebacks to the shareholders have been very big. I know it -- the first thing was 20% of the share value. The ones we did last year were about 25%. Our thinking on those has been with such big numbers, we'd be better off to give the dividend and get it over with for surety of execution and the like. If the numbers were smaller, it wouldn't be so clear to us what made sense. I mean, we're not opposed to a buyback. It's just is a -- it's a very fact- and circumstance-specific thing.

John D. Godyn - Morgan Stanley, Research Division

Okay, that's helpful. And if I could ask a question about aftermarket. Certainly, the recent trends have been strong but the guidance for the full year looks good. But I was hoping that you could offer maybe some bigger-picture sort of commentary around it. As you read the tea leaves for different product lines, what you're hearing from customers and maybe your own top-down view, I mean, what can you tell us about the sustainability of this inflection in aftermarket that we're seeing? Does this have legs?

W. Nicholas Howley

Well, as I told you, it feels to us, and our data seems to indicate and everybody else seems to indicate, that this market is now expanding and rising. We think it is. Now I would say, as I've said, a lot of times, these things aren't linear. They don't always go up in a straight line, and there could be bumps along the road. But it feels to us like this is a rising market that's got 2 legs to it.

John D. Godyn - Morgan Stanley, Research Division

Okay. And just last one on Partnering for Success, but just a clarification. I'm assuming your best estimate of that agreement is in the 2014 updated guidance. Is that true?

W. Nicholas Howley

Yes, yes.

Operator

Is from the line of Robert Stallard with Royal Bank of Canada.

Robert Stallard - RBC Capital Markets, LLC, Research Division

Nick, just a couple of quick ones on the aftermarket. First, I was wondering if you could tell us if aftermarket volumes are actually up in the quarter.

W. Nicholas Howley

Up against what? Up against the -- or you mean to strip the price out?

Robert Stallard - RBC Capital Markets, LLC, Research Division

Yes, if you stripped out the price. I think in prior quarters, you've said that -- you've talked about -- you haven't given us a number, but you said if it's up and down.

W. Nicholas Howley

You mean what is it in unit sales because -- Rob, is that what you're after?

Robert Stallard - RBC Capital Markets, LLC, Research Division

Actual units. That's a good way of putting it.

W. Nicholas Howley

You mean if you stripped out the price. Yes, they're absolutely up. It's up. That rise is greater than the average price increase.

Robert Stallard - RBC Capital Markets, LLC, Research Division

Okay. And then a second one. Last quarter, you talked about this whole issue of normalized growth, then some issues in the distribution chain. Has that all sorted itself out now?

W. Nicholas Howley

Yes. It is not a material impact or significant impact on this quarter. It's -- when we look down, there's kind of puts and takes where it was kind of all in one direction. Some of the other quarters now, whatever movement there is sort of all cancel each other out. So it looks to us like a pretty clean number.

Robert Stallard - RBC Capital Markets, LLC, Research Division

Yes. And then just finally on your OEM guidance for the year. It's obviously a bit down from where you did in the first quarter. How do you think this is going to play out, because I'd imagine you have pretty good visibility on wherever Boeing and biz jet guys, want to take their volumes over the next 12 months.

W. Nicholas Howley

I don't -- what did we say? It was 10.5% in the first quarter. It's going to add to roughly our -- what's our year? The same? Yes. So I wouldn't draw anything from that, other than it's just timing on when some things happen to ship. But if it looks like it -- if it start to look like it's a likely annual change, we'll update it next quarter. But we don't know anything other than some timing. I don't know anything about their shipment or production rates or inventory swings that would make me change something right now in the OEM world.

Operator

Your next question is from the line of Yair Reiner with Oppenheimer.

Yair Reiner - Oppenheimer & Co. Inc., Research Division

So first question on the guidance. Based on the first quarter, it seems like you might have even raised it little bit more. I was just wondering to what extent that some of the macroeconomic perturbations here in the last week or 2 maybe stage [ph] your hand a bit. And if not for that, would have guidance been a bit higher perhaps?

W. Nicholas Howley

Possibly. I would say the defense business is better than we expected. And as Ray said, probably the first half of the year is better than we expected. If that continues, that clearly could be an upside. The commercial aftermarket is a good quarter. It's just too soon for us to feel comfortable moving our yearly number up. I don't know if I could attribute that to one thing or another. Just that we don't have enough data yet. On the commercial -- on the OEM business, commercial OEM business, I don't -- I have no basis really at this point to change it, and we think it's all been just timing between the quarters.

Yair Reiner - Oppenheimer & Co. Inc., Research Division

Got it. And I guess related question. I don't think many of us would've expected that tapering would actually cost interest rates to come down a bit. But assuming that tapering ultimately gets interest rates heading in the opposite direction, to what extent do higher interest rates out in the market impact your capital allocation plans? In other words, if interest rates begin to go up, does that put a little bit more incentive on you guys to maybe pay back some of the debt over time?

W. Nicholas Howley

Well, at some point, of course, it does. But I would say, in the range of likely movements in the next 3, 6, 9, 12 months and this is always risky to say that. There [ph] were likely movements in the capital market could be. But in the range of what I think is likely, it probably doesn't change our minds a lot. Our average interest is, Greg, I want to say 5.4%, about 5.4%? It's that -- let's say that average went -- which will be very hard to do if you look at our mix. But let's say it went to 6.5% or 7%, I doubt that changes our decision significantly, particularly when it's after tax money.

Gregory Rufus

And in the short run, by the end of '14, we already have some contracts that will fix the variable. It will be closer to 70% fixed at the end of '14.

W. Nicholas Howley

Yes, yes. As of the end of '14, for the next 4 or 5 years, 75% of the debt's fixed.

Yair Reiner - Oppenheimer & Co. Inc., Research Division

Yes. I was also thinking about the fact that if you know that down the line, you're going to have to refinance that debt at some point, would you want to take some exposure down even if your rates are fixed?

W. Nicholas Howley

I don't -- I would just say I don't want to speculate. We are not working on that right now. We're forever getting people in, giving us pictures on restructuring it. We did a fair amount of restructuring last year. And at least, right now, that's not in our gun sight.

Yair Reiner - Oppenheimer & Co. Inc., Research Division

Got it. And then just one modeling question. Can you just kind of walk through the bridge between the gap and pro forma EPS this year?

Gregory Rufus

You know what? Rather than bore you to death, I think that's on Page 9, that slide that takes the EPS down and it shows the differences. When you look at our original guidance, dividend equivalent payment stays the same. Noncash stock comp's about the same, a little more. And the acquisition-related costs are up, reflecting Airborne, because there's some severance and reorganizational costs that'll be associated with that acquisition.

Operator

Your next question is from the line of Joe Nadol with JPMorgan.

Joseph B. Nadol - JP Morgan Chase & Co, Research Division

Nick, I was wondering on the commercial aftermarket if you might be able to provide a little more color like you did with defense on what types of products or what types of platforms are doing better or worse, or is it really just random and spotty like you said in your comments?

W. Nicholas Howley

Yes. When we say spotty -- I'd say spotty, but mostly up. But everything's not up. The -- I can't tie this to one platform or another. I can say, some of the discretionary things that weren't moving as well in last year started to move this quarter. We'll see whether that's a pattern or not.

Joseph B. Nadol - JP Morgan Chase & Co, Research Division

Okay. And then just over on Airborne, understanding that we've already talked about the military versus commercial and the margins. But just stepping back, the product type seems very different than almost everything else that you have in your portfolio. I'm just looking at a page in your annual report right now and something you've had on your slides with all the different types of hardware. Most of it is bolted on to something that flies. This is kind of its own -- my understanding is its own kind of self-contained system. So when you think about pricing power and all the things that you guys typically go after, channel to markets, the competitive landscape, how would you characterize -- how do you get comfortable with something that's a little different in that respect?

W. Nicholas Howley

No, we had to get through the -- to try to understand it, as best we could on any, and model it. We think there is our value drivers, which are new product development, cost reduction and pricing opportunity, we think they're sum of all here. The -- and -- the -- we -- so when we go through and do the math, even on a constant multiple, we see our private equity-like return on it, which we -- as I think you know how we do that. We define that as we roughly capitalize something about -- at our average, our long-term average, and assume the rest is equity. So we saw pretty good return, even in a constant multiple. And also, frankly, we are -- we bought it at a pretty good price. So I mean, it has a fair amount of the attributes that we like to see in the business.

Joseph B. Nadol - JP Morgan Chase & Co, Research Division

When you think about your pricing power in the competitive landscape specifically -- I mean, maybe if you could just characterize the competition. Is this something you go out and you're able to raise the price every year?

W. Nicholas Howley

Well, that's -- it's different in the different segments. But we see opportunity there or, frankly, we wouldn't have bought it. And I don't want to start speculating on where it might make sense and where it might not. But I would say the opportunities in the domestic market may not be as good as they are in foreign markets. But this is a business that is majority outside the U.S. and growing outside the U.S.

Operator

And your final question comes from the line of Michael Ciarmoli with Keybanc.

Michael F. Ciarmoli - KeyBanc Capital Markets Inc., Research Division

Nick, maybe just one more on Partnering for Success. Can we assume that any future acquisitions that you guys make are going to be incorporated into this sort of contract or is there any renegotiation that has to happen?

W. Nicholas Howley

Michael, I think I have to say for Partnering Success, I think you've got about all you're going to get.

Michael F. Ciarmoli - KeyBanc Capital Markets Inc., Research Division

All right, fair enough. I figured you'd might. On -- then on the aftermarket, can you sort of -- as you look at the airlines, can you guys point to any sort of are there restocking trends? Are you seeing maybe the average dollars spent on shop visits ticking higher? Can you give us any kind of qualitative color as to maybe what you're seeing from the behavior of the airlines?

W. Nicholas Howley

Well, I can say that if you guys were to look through with the distribution, we were having all kinds of inventory movement around. That seems to have settled down. So as I said, through the puts and takes sort of cancel each other out. We still have the situation with the GE business we acquired that we knew we're going to have to draw down inventory, but that's not material and it's offset by some other things. I can say we saw more activity in the discretionary products, which isn't a big part of our business. But what it is, we saw more activity this quarter than we had in the past, which would lead us to think that people must feel better. As far as average order size, I don't know that I can speak to that with any specificity. Though presumptively, it's a little higher.

Michael F. Ciarmoli - KeyBanc Capital Markets Inc., Research Division

Okay. Okay, that's helpful. And then last one. You guys mentioned a couple of times, just the EBITDA margins and you kind of went back and referenced the core TransDigm margins. Should we be thinking about, in aggregate, your EBITDA margins for that target coming down as you continue to make these acquisitions? I mean, Airborne is going to be a part of the business. You guys are acquisitive. I mean, structurally, should we think about your EBITDA margins coming down a couple of hundred basis points?

W. Nicholas Howley

I don't want to -- I really don't want to speculate on that because it's very dependent on what we buy, the rate at which we buy them and the rate at which they can be improved. I mean, generally, if we slow down the acquisitions, when things slow down, the margins start to expand quicker. I think for the full year this year, if you strip out the 3 acquisitions last year and Airborne, I think the rest of the business, we think, will expand about 1.5 margin points. So maybe that gives you some sense.

Operator

You have additional question that is queued up from the line of Gautam Khanna with Cowen and Company.

Gautam Khanna - Cowen and Company, LLC, Research Division

Just wondering if there's any difference by geography you can speak to in the aftermarket, regionally.

W. Nicholas Howley

We're seeing different trends in geographic. I don't know -- truthfully, I don't know enough to -- I don't know the answer to that for these past 90 days. I mean, I could - I would speculate that it's probably more movement in the Pacific Rim than Europe, but I don't know the number.

Gautam Khanna - Cowen and Company, LLC, Research Division

Okay. And just any change by channel distribution versus direct MRO?

W. Nicholas Howley

No.

Operator

There are no further questions in queue at this time, so I'll turn the call back over to management for any closing remarks you'd like to make.

Liza Sabol

Thank you, everyone, for calling in this morning, and we plan to file our 10-Q sometime tomorrow. Thanks.

Operator

Ladies and gentlemen, thank you so much for your participation today. This will conclude the presentation, and you may now disconnect. Have a great day.

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