Woodward, Inc.'s (WWD) CEO Tom Gendron on Q2 2020 Results - Earnings Call Transcript

Woodward, Inc. (NASDAQ:WWD) Q2 2020 Earnings Conference Call May 4, 2020 4:30 PM ET

Company Participants

Don Guzzardo - Vice President, Investor Relations and Treasurer

Tom Gendron - Chairman, Chief Executive Officer, President

Bob Weber - Vice Chairman and Chief Financial Officer

Conference Call Participants

Robert Spingarn - Credit Suisse

Pete Skibitski - Alembic Global

Sheila Kahyaoglu - Jefferies

Chris Howe - Barrington Research

Christopher Glynn - Oppenheimer

David Strauss - Barclays

Michael Ciarmoli - SunTrust

Gautam Khanna - Cowen and Company

Operator

Thank you for standing by and welcome to the Woodward, Inc. Second Quarter Fiscal Year 2020 Earnings Call. At this time, I would like to inform you that this call is being recorded for rebroadcast and that all participants are in a listen-only mode. Following the presentation, you will be invited to participate in a question-and-answer session.

Joining us today from the company are, Mr. Tom Gendron, Chairman and Chief Executive Officer; Mr. Bob Weber, Vice Chairman and Chief Financial Officer; and Mr. Don Guzzardo, Vice President of Investor Relations and Treasurer.

I would now like to turn the call over to Mr. Guzzardo.

Don Guzzardo

Thank you, Operator. We would like to welcome all of you to Woodward’s first quarter of fiscal year 2020 earnings call.

In today’s call, Tom will comment on our markets and related strategies and Bob will then discuss our financial results as outlined in our earnings release. At the end of our presentation, we will take questions. For those who have not seen today’s earnings release, you can find it on our website at woodward.com. We have again included some presentation materials to go along with today’s call that are also accessible on our website.

An audio replay of this call will be available by phone or on our website through May 18, 2020. The phone number for the audio replay is on the press release announcing this call as well as on our website and will be repeated by the operator at the end of the call.

I would like to refer to and highlight our cautionary statement as shown on Slide 3. As always, elements of this presentation are forward-looking or based on our current outlook and assumptions for the global economy and our businesses more specifically including the ongoing COVID-19 pandemic and related measures taken by individuals, governments and private industry. Those elements can, and do, frequently change. Please consider our comments in light of the risks and uncertainties surrounding those elements, including the risks we identify in our filings.

In addition, Woodward is providing certain non-US GAAP financial measures. We direct your attention to the reconciliations of non-US GAAP financial measures, which are included in today’s slide presentation and our earnings release and related schedules. We believe this additional financial information will help in understanding our results.

Now turning to our results for the second quarter. Net sales for the second quarter of fiscal 2020 were $720 million compared to $759 million for the prior year quarter, a decrease of 5%. Net earnings were $91 million or $1.41 per share compared to $78 million or $1.20 per share for the prior year quarter. Adjusted net earnings were $104 million or $1.61 per share compared to adjusted net earnings of $90 million or $1.40 per share for the prior year quarter.

Net cash generated from operating activities for the first half of fiscal 2020 was $52 million compared to $141 million for the prior year. Free cash flow was $23 million and adjusted free cash flow was $55 million for the first half of 2020.

Now I will turn the call over to Tom to comment further on our results, strategies, and markets.

Tom Gendron

Thank you, Don, and good afternoon, everyone. Before jumping into our business performance I would first like to take a moment to thank our exceptional Woodward team for their hard work, flexibility and dedication over the past three months as we collectively navigate through one of the most challenging times our company has seen over its 150-year history.

Our team acted swiftly in the face of growing global pandemic. We implemented rigorous health and safety protocols within our global facilities to ensure the highest protection for our employees, enable us to continue delivering essential products and services to our customers. We also transitioned the majority of our office team members to a remote work environment. On behalf of myself and the entire Woodward management team, thank you.

As with previous downturns Woodward has weathered, we have taken quick, decisive actions to mitigate negative impacts on our business. These actions include communicating daily both internally and externally with suppliers and customers, proactively revising demand and supply plans in accordance with changing market conditions and taking numerous cost cutting and cash preservation steps such as implementing layoffs and approvals, reducing company directors, retainers and officers salary through 2020, eliminating 2020 annual bonuses, increasing our dividend, restricting capital expenditures and reducing non-essential costs in working capital among other items.

Additionally on April 6^th, we announced the mutual termination of our merger with Hexcel Corporation, while disappointing the mutual decision by Hexcel CEO, Nick Stanage, myself and our respective boards it was made in the spirit of doing what’s best for our individual businesses as well as our employees, customers and shareholders and in order to focus on managing through this unprecedented crisis.

We also made the decision to shift Bob Weber back to the role of Vice Chairman and Chief Financial Officer. As an industry veteran with deep knowledge of our business in in-markets and confident that Bob will help us manage through these challenging conditions. By taking these necessary steps, we’re able to focus on what matters most in these uncertain times which is protecting the health and safety of our team members and maintaining our financing strength.

Now moving to Woodward second quarter. Our performance was largely in line with expectation before beginning to experience impacts related to the global disruption caused by COVID-19. Over the past three months, we’ve seen increasing uncertainty as our markets react frequent and significant disruptions including global shelter replace orders, worldwide air travel at a near standstill and historically weak oil prices which are pressuring several of our in-market.

In commercial aerospace, the largest impact in the second quarter continue to be grounding of 737 MAX which affected both OEM sales and initial provisioning. Legacy commercial aftermarket in the quarter remained strong. Through close the quarter, we began to see passenger and cargo traffic decrease significantly as a result of restriction associated with global spread of COVID-19.

In April, we saw build rates declined as a result of plant closures and the anticipated longer term impacts of the ongoing pandemic. We expect commercial aerospace to be a challenging in uncertain environment in the coming quarters. In defense, OEM and aftermarket continue to be strong. Military demand remained healthy, particularly for fixed wing platforms and defense aftermarket activity. Historically defenses remained strong during economic down cycle when we believe this will hold true through this crisis.

Turning to our industrial market. Industrial markets were mixed during the quarter. In power generation, the industrial gas turbine market continued to recover as global power demand improved and a user upgrade initiative increased. On April 30, we closed on the previously announced divestiture of our renewable power system and related business. In transportation, COVID-19 related plant shutdowns in China at the beginning of the calendar year negatively affected the production and demand for natural gas trucks in the second quarter.

Marine was negatively impacted in the quarter by decreased cruise and container ship utilization and reduced global transportation of goods. Oil and gas market continued to soften with weak customer demand and excess supply resulting in a speed decline in oil prices and a corresponding reduction in capital expenditures. For industrial we anticipate, negative impacts in almost all of our markets due to the COVID-19 pandemic and a sharp decline in oil and gas prices. However in China, a continued focus on the missions and related regulations remains favorable for natural gas truck. As a result, we’re seeing a recovery in demand as economic activity in China improves. We will continue to closely monitor developments in these market as well as all of our other markets.

In summary, although performance in the second quarter of 2020 largely met our expectations. We anticipate significant weakness in the second half. As we continue to manage through this time of uncertainty, we’re confident that we’re taking the necessary steps to preserve Woodward’s long-term growth opportunities in our financial strength. We have a strong balance sheet, substantial, available liquidity, disciplined cash management and a seasoned management team that is [indiscernible] to successfully navigate it through previous downturns. We will continue to invest in world class technologies, operational excellence and strategic growth to deliver superior shareholder value and emerge even stronger than before.

Now I’d like to welcome Bob back to the team and turn the call over to him to discuss the financials and detail.

Bob Weber

Thank you, Tom. I’m pleased to be back in the CFO role at Woodward and while I wish it were in a better environment. I have the utmost confidence in our team’s ability to successfully navigate through this time of uncertainty. To do that, we’re highly focused on maintaining the financial strength of the company throughout this downturn and have already taken proven actions to realign our cost structure and maximize cash flow.

Now turning to our second quarter performance. I’d like to first point out, the earnings for the quarter benefitted to our decisions to eliminate annual bonus payments for 2020. This resulting in the reversal this quarter of the annual bonus expense recorded in the first quarter of 2020. Speaking to our segments, aerospace segment sales for the second quarter of fiscal 2020 were $474 million, a 2% decrease from the prior year quarter. A lower segment sales were primarily the result of the prolonged 737 MAX production halt and related decline in initial provisioning.

Commercial aftermarket sales were down 4% in the second quarter of 2020, as compared to the prior year quarter as result of decline in initial provisioning. Legacy commercial aftermarket growth remained strong in the quarter. Defense OEM sales growth in the quarter was driven by solid demand and guided weapons and fixed-wing aircraft. Defense aftermarket activity was strong due to ongoing military spending, supporting US Defense initiatives to improve the combat readiness of the US fleet and Global Upgrade Programs.

Aerospace segment earnings for the second quarter of 2020 were $118 million or 24.8% of segment sales compared to $102 million or 21.1% of segment sales for the second quarter of 2019. Segment earnings benefitted from the impact of eliminating the annual bonus for 2020 which was partially offset by the lower sales volume.

Turning to industrial. Industrial segment sales for the second quarter of fiscal 2020 were $246 million compared to $276 million in the prior year period, a decrease of 11%. Industrial segment sales declined primarily as a result of expected ongoing weakness in oil and gas and the effect early in the quarter of COVID-19 on national gas truck sales in China. The sales decline was partially offset by improved sales in industrial gas turbines and renewables.

The industrial segment earnings and adjusted industrial segment earnings for the second quarter of 2020 were $26 million or 10.6% of segment sales. Industrial segment earnings were $27 million or 9.8% of segment sales for the second quarter of 2019. Adjusted industrial segment earnings for the second quarter of 2019 were $36 million or 13.1% of segment sales. The decrease in adjusted industrial segment earnings was primarily due to the lower sales volume, partially offset by the impact of eliminating the annual bonus for 2020.

Non-segment expenses were $28 million for the second quarter of fiscal 2020 compared to $27 million for the same period in the prior year. Adjusted non-segment expenses for the second quarter of 2020 were $11 million compared to $18 million for the same quarter last year. Reported and adjusted non-segment expenses benefitted from the impact of eliminating the annual bonus for 2020.

Adjusted non-segment expenses for the second quarter of 2020 excluded transaction cost related primarily to the now terminated merger agreement with Hexcel Corporation. For the second quarter of 2019 adjusted non-segment expenses excluded Duarte move related costs. At the Woodward level, R&D spending for the second quarter of 2020 was 5% of sales compared to 6% for the prior year quarter. A decline in R&D expense was primarily related to the impact of eliminating the annual bonus for 2020 in the current quarter. The effective tax rate for the second quarter of 2020 was 14.8% compared to 14% in the second quarter of 2019. The adjusted effective tax rate was 16.2% for the second quarter of 2020 compared to 16.7% for the second quarter of 2019.

Looking at cash flows. Net cash generated by operating activities for the first half of fiscal year 2020 was $52 million compared to $141 million for the prior year period. Capital expenditures were $29 million for the first half of 2020 compared to $54 million for the prior year period. Free cash flow for the first half of 2020 was $23 million compared to the free cash flow of $87 million for the prior year period.

For the first half of 2020 adjusted free cash flow which removed the M&A transaction expenses and includes the proceed from the sale of the first parcel of the Duarte property was $55 million. The decrease in free cash flow was primarily the result of higher working capital. With regard to our financial position going forward, our focus is clearly on cash flow as we manage through this challenging environment. We currently anticipate positive free cash flow in the second half of fiscal 2020 and throughout this downturn. We also have a strong balance sheet.

At the end of the second quarter, our leverage is 1.9 times EBITDA leaving significant headroom to our debt covenant of 3.5 times EBITDA. With almost $1 billion of available liquidity primarily through cash on hand and revolving capacity. We are confident that we will remain financially secure through the challenging environment ahead of us.

Lastly turning to our fiscal 2020 outlook, as we announced in our April 6, press release. We have withdrawn our full year 2020 guidance due to the unpredictable nature of the evolving COVID-19 pandemic and it’s unknown impact on our customers and suppliers. While current conditions have made accurate forecasting extremely difficult at this time. We will continue to evaluate our ability to generate an outlook for 2020 as the broader economic and industry specific impacts of this pandemic become clearer.

Operator, we’re now open for questions.

Question-and-Answer Session

Operator

[Operator Instructions] your first question comes from the line of Robert Spingarn. Please state your question.

Robert Spingam

I wanted to ask about aftermarket. I think you said legacy aftermarket was pretty strong in the quarter, provisioning not so much. But the traditional aftermarket how did that trend through the quarter and how has that trended so far through April, commercial aftermarket?

Tom Gendron

Right. Through the quarter, the legacy aftermarket was strong. The thing that was down was initial provisioning primarily tied to the MAX, not coming back to service. As we moved into April, I think everybody’s well aware with the parking of aircraft and the lack of flying. Aftermarket has started to drop significantly. We did have work in progress for example for controls, for engines that were in shop and were being completed. But we are seeing every week a further drop in demand for aftermarket activities, mainly just tied to the airlines aren’t flying.

Robert Spingam

Tom, is there a way algorithmically to tie what you expect your production cadence in aftermarket to be relative to either ASK or RPK declines?

Tom Gendron

Rob, right now I think those statistics normally when you look at and primarily, we look at the fleet and the flying hours on aircraft that we have significant content on. Right now, some of the traditional looks I think just aren’t relevant today, not until we get through and start seeing the airlines going back in the service side of - with a reasonable number in the aircraft. So, this is one of the reasons why we did suspend guidance, so it’s just incredibly difficult to make any correlations right now.

Robert Spingam

Right, well Bob welcome back.

Bob Weber

Thank you.

Robert Spingam

If I could just ask you a quick margin question. How should we think about decremental margins at least once we get an idea what the revenue is going to do both in aerospace where I guess incremental margins have trended in the low 20s, industrial harder to see just because it’s moved around a lot. As we’re looking forward how should we think about decremental margins in the two businesses? Thanks.

Bob Weber

Sure. Mostly I’ll talk to the Aerospace side first and we’ve kind of used guidelines, we’ve talked to you in the past about kind of 30% up and down. And this will probably have more of an impact on the aftermarket, so the decremental is maybe a little bit more on the downside as we go forward on the Aero.

On the industrial they’re very similar overall as I think we’ve mentioned in the past and we probably don’t see the same impact in terms of heaviness on the aftermarket side and aftermarket isn’t as pronounced in industrial. We have the impacts on transportation to COVID-19 and the impacts of oil and gas our investment there in CapEx [ph] and those will be similar to that 30%.

Robert Spingam

Okay, thank you both.

Operator

Our next question comes from the line of Pete Skibitski. Please state your question.

Pete Skibitski

I trust everyone’s healthy and Bob I’m sorry, your retirement was so short.

Bob Weber

Thanks Pete.

Pete Skibitski

Just on working capital, it was obviously a pretty pronounced use of cash in both the second quarter and the first half in general. I hear what you’re saying about free cash flow. Is the gist basically that you guys are just going to cut production pretty severely in the second half and just kind of deliver from inventory, so we’ll see a big spike in cash maybe by the fourth quarter. I don’t know if that gives you to one time as free cash conversion or not. But maybe you can speak to that.

Tom Gendron

Maybe I’ll start off and let Bob jump in as well. The first thing when you look at the working capital increase. We were ramping up in our aircraft market and we were also ramping up on the industrial side as we started the fiscal year. And then you got hit with the oil price collapse and then you got hit with COVID-19 on the aerospace side. What I wanted to highlight is what we’ve done, is as soon as we saw this happening we’ve gone through and where we had customer input, we used their input, where we didn’t have customer input, we used our own projections with what the market is doing.

We re-ran all of our production schedules and significantly reduced the amount of inventory we’ll be taking in going into the second half of the year and also as we move into 2021. So that’s where we said we’re going to make up the working capital that we were over and I think we were in the line with the scenarios that we believe are going to happen in our markets. So, we do expect second half to have improved cash flow. But we do have paramount uncertainty as to when we start seeing some of our markets pick up and when we’ll start seeing airlines fly. So, there’s still a lot of uncertainty. But we have I think effectively reduced the inventory that’s coming in and we’ve also been working hard on collecting receivables and managing payables with the reduced inventory.

So, Bob, I don’t know, if you want to add to that.

Bob Weber

Yes, no I think you’ve covered it Tom.

Pete Skibitski

I appreciate it guys. Just one last one from me. Just Tom, I know it’s soon kind of post-Hexcel. But as you think about things and you’re going to have your hands full obviously operationally in the next two or three quarters. But in the back of your mind, do you guys think about at some point looking at M&A again just in general or is there even a thought to maybe a year from now, if things are healthier maybe you could revisit the Hexcel topic again. I’m just wondering how you’re thinking about that overall.

Tom Gendron

Well right now, first and foremost is, what I’d say is stabilize the business. Ensure we maintain adequate liquidity. The reason I say that is, there’s enormous uncertainty in the market and we’ve run all sorts of scenarios and we’re on top of it. So, we want to make sure that. Establish what the new normal is going to be and that’s going to take probably the second half of the year and see, actually where the markets go and what fleet dynamics are going to be in the aerospace side. The recovery in industrial I think as all of you know we’re significantly tied to global industrial production growth, so we’ll be watching that.

And as soon as we see that, I would just highlight Woodward is a very strong cash generating company. Once we work through that. We’ll have our cost in place. We’re continuing to divest during this down cycle in technology, R&D. And then we’re going to turn our sights to growth again. And that growth will be first and primarily organic and then we’ll visit with the excess cash flow that we’ll start to generate inorganic opportunities that hit our strategies and the long-term plans for the company.

So, I think it’s going to be a little time before we could really put much attention to that. But we will once we get to the what I’m going to call the new normal which I think will take six months or more to really establish.

Pete Skibitski

Sure. I appreciate the color guys.

Operator

Our next question comes from the line of Sheila Kahyaoglu. Please state your question.

Sheila Kahyaoglu

Tom, this one’s for you to start. Now that Boeing and Airbus have guided and I understand visibility is limited. But they put out production rate. How do we think about production rate and delivery rates for your platforms particularly on the MAX? Does that entry into services mid this year and they’re assuming they deplete their inventory within a year? How does that go into your planning process?

Tom Gendron

Obviously, we take our customers input and as I think everybody is aware Boeing talks about the rate they want to get to and they talked about a gradual increase to get to that rate on the MAX. We’re still waiting for the details of that gradual increase so we could put our plans in. what I would say is that, we’re well positioned. We have long lead time parts in either in inventory or in the pipeline. We could flex quickly respond to their ramp. So, we’ll be monitoring that closely. Obviously, they get up to 31 aircraft a month that they talked about, that’s very positive for our company. We’ll just have to watch at, what is that gradual ramp up that they refer to and the details, we have not received yet.

Sheila Kahyaoglu

Okay, fine. I understand that. And then obviously margins in Aero where really stub [ph] stellar this quarter appreciate the reduced annual bonuses had a part to playing that. I guess what else were the driving factors and to Rob’s question, how do we think about the decrementals given aftermarkets are higher margin businesses are going to decelerate faster or how do we think about that with your new facilities and the OE production?

Tom Gendron

Yes, so in the quarter as we said legacy aftermarket was still strong. We started to see and then second half of March when we really started seeing some coming down. We have some tail going into the fiscal third quarter here as we’re still processing that. one thing I’d like to highlight and it wasn’t the prepared remarks is our defense sales are doing very well, year-over-year up, they’re strong, year-to-date on the defense side we’re up in the 20% year-to-date, on defense both OE and aftermarket and we have a huge backlog in defense.

So defense sales are - the backlog is strong, the growth is there, the margins are good. So that’s helping to offset. There’s no doubt our commercial aero aftermarket margins are healthy and that will put pressure on overall aerospace margins. I think we’ve taken proactive actions get our cost down. Today as we go in, we talk about the third quarter and fourth quarter being difficult. One of the reasons we have is, a lot of you on the call know about our Rock Cut facility. I mean it’s furloughed.

Basically, today we’ve had to - we just had to shut down production line with what our customers are doing. We are still running our aftermarket shop, we still have hardware going through there. We will feel that, but we’re kind of committed on managing cost and cash flow to keep margins still healthy in the aerospace side. But they will come down some from these margins we had last year and the first half of this year.

Sheila Kahyaoglu

Okay and then Bob one more for you, since your glutton for punishment, you keep coming back to me. On the inventory you guys maintained pretty fair level. It didn’t really blow up on in the quarter, you expect the H2 free cash flow positive. So, we shouldn’t expect a tick up in that inventory line item.

Bob Weber

I sure hope not. Normally we’ll see both receivables and inventories come down quite a bit and that’s what we anticipate in the next half as well. So, we see a lot of flow our working capital and into cash and it will probably come from AR and inventory.

Sheila Kahyaoglu

Okay, thanks.

Tom Gendron

I would just add too, also CapEx coming down further.

Operator

Our next question comes from the line of Chris Howe. Please state your question.

Chris Howe

Just a follow-up on actually that last comment, about capital expenditures. As we look at that in addition to your cost structure factoring in. what a lot of us don’t know as far as the shape of this recovery that will eventually happen, how should we look at the cost structure and capital spending once we start on the recovery? Will you keep it at relatively conservative levels or how should we think about that flexing up and down?

Bob Weber

Yes, well we’re definitely are going to take a much finer point to our pencil on capital spending and limit the investment. We will probably be below first half spending in the second half and then we’ll be very cautious probably going into 2021 because we see this extending into the coming year so we’ll be very tight on overall spending.

Tom Gendron

Just maybe to add, as you should recognize, we had put in our new facilities and we have put in the capital equipment to support the line rates that were planned for this calendar year which have stopped. So, as we go to what we’re all talking about what will be the new normal. I think we will have very adequate capacity to where we will not need to spend CapEx for that purpose. We will spend it on the need for R&D programs. Any maintenance and required to keep things operating efficiently. But capacity-wise we won’t need it and we can go quite the ways before we’re going to need to have any significant increase in the CapEx.

Chris Howe

Okay, that’s helpful. And I’ve a lot more questions here. But just parsing through some of these. You talked about defense strong growth that you’re seeing in OE and also aftermarket. If we look at that from a positive perspective, is there a way to think about expectations in that side of the business given relatively strong performance in this downturn environment as we look into the remainder of this calendar year and into next.

Tom Gendron

I think you’re referring to defense, is that correct?

Chris Howe

Yes, that’s right. Defense.

Tom Gendron

Yes, in defense side. We have a pretty good time horizon where we see orders and we have strong orders going through 2021 so from that standpoint I think the outlook for defense over the next 18 months is very healthy. On the aftermarket side, we’re looking at what can we pull in sooner with military aftermarket that is the possibility. So that is going to be a tailwind for us, offsetting some of the negatives on the commercial side.

Chris Howe

Okay, thank you. That’s all I have for now and I’ll hop back in the queue. Thanks.

Operator

Our next question comes from the line of Christopher Glynn. Please state your question.

Christopher Glynn

I’m just curious anything addressing to its receivables on the commercial aerospace side, what types of deferrals or allowances are under consideration there?

Tom Gendron

Well right now our receivables and our collections are doing well. there’s no doubt there’s pressure from airlines to push out where we’re if you want to say very diligent on that and trying to ensure we pull our collections in. we’re also being very cautious on re-establishing our credit limits and ensuring that we don’t end up with bad debt. So, this is a practice we’ve been through in the past and our team is doing I think an excellent job on this right now.

On the OE side, our OEMs are the big global players. Everybody in the industry have pressure and cash, but they’re still paying and I anticipate that will continue. So, I think we’ll be fine on receivables. But we’re being cautious. I anticipate that there will be airline bankruptcies as I’m sure everybody is and so we’re being very cautious. We’ve got a disciplined process and I think we’re going to do just fine on our receivables.

Christopher Glynn

Okay and then, thank you for that. Can you explain the baseline for thinking about decremental is about 30% segment at both segments with maybe a mix kicker at aerospace, if I heard you correctly? Could you quantify the sort of cost reductions that you’re anticipating in the back half from the spectrum of your actions?

Bob Weber

No, we haven’t made an estimate of what those are, they will take place throughout the course of the half. There’s so many different things going on across a very broad spectrum of type. So, we’re kind of giving a number of cost savings anticipated in the half would be getting a little bit too far out. So no, we haven’t as you can see, we’ve taken a lot of actions and we believe that it will ultimately get our cost of line. But in terms of where that top line is going to end up uncertain as well. So, well, we have not attempted to disclose what we believe the cost savings are specifically related to those.

Christopher Glynn

Okay, thanks for the thoughts.

Operator

Our next question comes from David Strauss. Please state your question.

David Strauss

On the aftermarket, without making you quantify what you’re thinking in terms of peak-to-trough decline, would you - I think for a while you’ve been running your aftermarket business has been running well above ASM growth or capacity growth. Would you expect your aftermarket revenues to decline more than decline that what ultimately, you’re going to see in capacity?

Tom Gendron

No and the reason first, the third quarter and maybe early in the fourth quarter are going to be very difficult. But the fleet that’s part and alike, we’re not different than other people in the industry. We’re going to see dramatic reduction in commercial aftermarket. As we recover and I call it our fleet demographics are still very strong. We were on some great program. A lot of them has the 2500, CFM56, G90 [ph] G and X [ph]. A lot of these haven’t come in even for their first engine shop visit, some of them haven’t had their second visit.

So, as we come out of this and you’re going to see, I think there’s significant amount of retirements. We’ve analyzed that. We will see some of our product on those retirements. But overall, the fleet that we believe will be applying after we come out of the pandemic and the airlines reduce total capacity will be favorable to Woodward products in the field and that we will see strong aftermarket coming again at that point.

So, we’ve talked about that over the years, as you see we’ve done better than the most players in the market and our aftermarket growth, that’s why we tied those demographics, the time, the engine shop visit. We think that will carry forward after we get out of the crisis. And then we’ll start seeing a recovery in the MAX. We’ll start shipping again. We’ll see initial provisioning coming back.

So overall I think it’s a great business, great market position and once we get out of the next six months and things start to normalize that aftermarket will come back well.

David Strauss

Okay, I guess a similar question thinking about aerospace versus industrial. I mean aerospace is pretty a lot easier brought visualized how much that might decline. But on industrial given all the different end markets. Obviously, I know oil and gas is a big headwind. When you expect the peak-to-trough drop off for industrial to be similar to what you think we’re going to see in aerospace or will industrial you think overall do better?

Tom Gendron

No. In industrial as you said it’s we have a lot more markets, a lot of different dynamics going on. As an example, oil and gas has dried up. I would say our reduction there is in the 70% to 80% reduction, right now. It’s huge. On the other hand, our China sales are growing. They’re not declining. So, second half of the year we see that happening. Then we see power generation is going to decline.

So overall the reduction it’s hard to pinpoint. But it will be 20%, 30%. So, we can’t. Actually, a little bit again - don’t take that as like fixed number. What I’m highlighting is, why we suspended guidance at the moment. It’s very difficult to forecast that with the major disruptions we’re seeing and it’s how quick global economy gets back, how quick manufacturing picks up, how quick industrial production picks up so we feel dry power generation and like - so we have a few bright spots in industrial. But we have some strong negatives overall it’s going to be a fairly, sizable, overall year-over-year reduction.

David Strauss

Okay, that’s helpful. I appreciate that. And then last one from me, Bob the decline in the crude liability so far year-to-date what does that relate to?

Bob Weber

A lot of that is the elimination of the bonus.

David Strauss

Okay because I think there also was a pretty big decline in Q1.

Bob Weber

Yes. But - yes, it’s also related to the bonus.

David Strauss

Okay, all right. Thanks.

Operator

Our next question comes from the line of Michael Ciarmoli. Please state your question.

Michael Ciarmoli

Thanks for taking the question. Glad to hear you guys are healthy. Maybe Tom just maybe trying to put finer point on you’re not going to give guidance I get that. Aftermarket it seems like near term here should we think about something in the neighborhood of capacity for aftermarket. I mean it seems like most of the peer companies out there are thinking potentially 50% declines in aftermarket some even greater than that. I mean is that sort of realistically in the realm of possibilities as you guys are looking at sort of incoming orders? Whether there’s even shop visits planned or whether what’s getting postponed and pushed out from a shop visit standpoint.

Tom Gendron

Yes, there’s no doubt. As you’ve seen a lot of our customers have furloughed their shop. So, they’re taking it down to zero right now or near zero. So, we’re - we see something in the commercial aftermarket over the next six months in the 50 plus range is realistic. Okay, we’ve modeled scenarios all the way to 80% reduction just so we can study what it means to cash and liquidity. I’m not saying that’s where it’s going, but we’ve modeled all across the board. The longer the fleets part and they’re not flying the larger that decline is going to be in the next half year. It will start picking up as the fleet starts flying again. So [indiscernible]. Like you pointed out, you can’t pinpoint that. But the decline is significant.

Michael Ciarmoli

Got it and then on the commercial OEM side. We’ve seen the rate cuts. We can certainly think about the revenue exposure. Is there going to be, is that revenue decline on OE going to be maybe a bit more pronounced if there’s buffer stock in the supply chain, the entire supply chain needs to get realigned. I mean how are you guys thinking about maybe some of those added headwinds on top of the rate reductions that we’re seeing out of Boeing and Airbus.

Tom Gendron

I mean that’s a good question in terms of understanding the supply chain. There’s no doubt there was a fair amount of inventory in the supply chain. We have analyzed and we have a good understanding the inventory of our product all through the entire supply chain and we have in our modeling factored that in to how quickly you get to these new rates, how do they deplete. We don’t know for sure how our customers will deplete inventory. But we’ve taken several scenarios at that, we think we have a good understanding, we’ve modeling it. It’s inflated into our liquidity analysis and through all that we feel we’re in good shape and have a good understanding. But we have to see how that plays out. But there is a lot of inventory in the system today.

Michael Ciarmoli

Okay, last one. Just GE obviously still a big customer for you guys. I think they’re announcing permanent workforce reductions 25%. Any implications on the JV for you guys with either what’s happening at GE. The magnitude of great reductions or even programs still in the hopper like the 9X engine.

Tom Gendron

Well the 9X engine is moving along well - second flight vehicle went up and very successful with the engine. We will see on the JV side, the impact to reduce production volumes. We will continue to support and get the 9X into service. But it won’t be immune either. It will have to adapt to the new rates as well as aftermarket revenue to the JV that, that’s tied to the large engine program.

Michael Ciarmoli

Got it. Okay, all right thanks guys. Stay safe.

Bob Weber

Thanks, you too.

Operator

[Operator Instructions] your next question comes from the line of Gautam Khanna. Please state your question.

Gautam Khanna

Good afternoon and good color. Just a follow-up on Mike’s question, his last question on destocking. Tom, could you talk about maybe the number - I don’t know how to frame it. But the number of customers do you sell to within the supply chain as opposed to just GE and Boeing and Airbus. I mean is it hundreds of intermediaries, sub-contract manufacturers to the OEM. Is it 10? [Indiscernible].

Tom Gendron

No, what I’ll say is - yes, it’s definitely in the 10. So, what you have to look at is, as we - obviously we sell to all the engine manufacturers and all the OEMs whether commercial, regional or business jet as well as rotorcraft. But we also sell through the Tier 1. So, all the major Tier 1’s also buy from Woodward. Those are mainly in our what we call our components and sensors business. Yes, there’s quite a few channels. I don’t know that I have on top of my head the exact count. But you know it’s - yes, it’s 10s of Tier 1s as well as the engine in the OEM’s. So, we’ve analyzed the entire - when I said that, we’ve analyzed that entire supply chain and we’re all the - inventory is in those channels of Woodward hardware.

Gautam Khanna

And do you think that you’ll go a quarter or two or three with substantially lower purchases. I mean i.e. closer to zero for some period of time just folks work on their inventory from your customers or - I’m just trying to get a sense for the magnitude of this sequential. How bad it can get and back to?

Tom Gendron

We’ve done scenarios, [indiscernible] throughout there and what would the inventory strategies be or inventory plans of our customers. I can’t tell you we’ve seen customers that are determined to keep the supply chain wet and producing, having a proactive look at that and we’ve had some customers that have brought it to zero for a period of time. So, it’s kind of across the board. But I would say going to zero is very - so far has been the rarity, but we’ve seen a few of those that have taken out orders or pushed out orders for several months. Most of them are trying to keep the supply chain wet and are very concerned if you shut off supply chain, how do you bring back up, as you start up ramping production again.

So, I think it has been very helpful that Boeing coming out with their line rates, Airbus has come out with theirs. We’re also being sensitive to the fact that those may not be final line rates. But we’re watching that closely. But with that information everybody is - if you want to say replanning all their internal line rates, their inventory strategies. They’re material planning. So just like we’re so - we have factored that in. On the OE side, it won’t be a very many of them bring this down to zero. I think that’s a long-winded answer to that question.

Gautam Khanna

I appreciate that. One other one, we’ve heard anecdotal remarks from some suppliers further downstream that they’re seeking price reductions among their suppliers. And I’m wondering if you’ve actually had it serious pressure yet from some of your key customers on rethinking the price agreements you already in place, has it been that pressure. Do you expect that to grow is that factored in how you’re thinking?

Tom Gendron

We’ve seen a few requests for that. But I’ll remind everybody on the call that, we’re almost all of our business done under long-term agreements with the pricing fixed. So, I don’t see that, that’s going to impact us.

Gautam Khanna

Okay and last one just to revisit L’Orange. It’s been a while since we talked about. I’m just curious where are we in terms of moving that technology into the US and that happened what sort of your - if you can just give us the state of state on L’Orange.

Tom Gendron

We’re still very pleased with the L’Orange acquisition and business. We have been working with all of our global engine OEMs with bringing the combination of L’Orange technology and Woodward technology together for solutions we’ve won. Quite a few programs in Asia with L’Orange now. We’ve US customers that are working with us and looking at it, so some of those programs may slow down a little bit, but we’re being successful getting new applications and we’re going to continue to be aggressive with that. But the combination of their technology with Woodward controls and actuation and valving [ph] technology is quite a comprehensive offering and customers are responding well to that.

Gautam Khanna

Thanks, and welcome back, Bob.

Bob Weber

Thank you very much.

Operator

There are no further questions at this time. I will now turn the conference back to you.

Tom Gendron

Well thank you for everybody for joining us today. We appreciate the questions and discussions. We are in very unique times. I would just highlight that, we’re addressing this crisis I think very proactively. We talked about a little bit in prepared remarks. I just want to highlight that we’re still investing for the future. Woodward is going to come out of this stronger than before and as we stabilize, we’ll be turning our focus back to growth. So, thanks for joining us, look forward to talking to you during the next quarter. Thank you.

Operator

Ladies and gentlemen, that’s concludes our conference call today. If you would like to listen to a rebroadcast of this conference call, it will be available today at 7:30 PM. Eastern Daylight Time, by dialing 1-855-859-2056 for US call or 1-404-537-3406 for non-US calls and by entering the access code 3655204.

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