Good morning, and welcome to the Carpenter Technology Corporation Second Quarter 2023 Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Brad Edwards of Investor Relations. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to the Carpenter Technology earnings conference call for the fiscal 2023 second quarter ended December 31, 2022. This call is also being broadcast over the internet, along with presentation slides. Please note, for those of you listening by phone, you may experience a time delay in slide movement. Speakers on the call today are Tony Thene, President and Chief Executive Officer; and Tim Lain, Senior Vice President and Chief Financial Officer. Statements made by management during this earnings presentation that are forward-looking statements are based on current expectations. Risk factors that could cause actual results to differ materially from these forward-looking statements can be found in Carpenter Technology's most recent SEC filings, including the company's report on Form 10-K for the year ended June 30, 2022, and Form 10-Q for the quarter ended September 30, 2022, and the exhibits attached to those filings. Please also note that in the following discussion, unless otherwise noted, when management discusses sales or revenue, that reference excludes surcharge. When referring to operating margins, that is based on adjusted operating income, excluding special items and sales, excluding surcharge. I will now turn the call over to Tony.

Thanks, Brad, and good morning to everyone on the call today. Let's begin on Slide 4 and a review of our safety performance. Through the second quarter of fiscal year 2023, our total case incident rate was 1.5. We did see improved performance in the second quarter, lowering the year-to-date rate. The year-over-year rate increase is largely due to the increase of employees undertaking new tasks, either as new hires or transfers into new roles. To address this, we have enhanced and expanded training procedures for any employee new to a job or task with frequent monitoring and follow-up. Our ultimate goal continues to be a zero injury workplace. We believe it is possible, and we will continue to work towards that goal. Now let's turn to Slide 5 and a review of the second quarter. Second quarter performance was driven by the strong demand environment in each of our end-use markets and the increase in productivity across our operating facilities. We continue to see solid demand conditions in each of our end-use markets, with our backlog up 9% sequentially and 107% year-over-year. This marks the eighth consecutive quarter of backlog growth. Most notably, we see the aerospace and defense end-use market ramp accelerating. As a result of the strong demand environment across our end-use markets, we continue to realize price gains. We announced another price increase on our transactional business in November and continue to raise prices through our regular contract negotiations. In order to satisfy demand, we are focused on accelerating the productivity of our labor force across our facilities, most notably by safely onboarding new employees across all our production centers. And we are working closely with our customers to deliver more material sooner. For the quarter, the SAO segment delivered operating income of $30.3 million, in line with our expectations. The improved performance was driven by the growing market demand in the aerospace and defense and medical end-use markets and continued operational improvements. The PEP segment turned in another strong performance with $9.3 million in operating income for the recent quarter. In particular, we saw strong demand for titanium products for the medical end-use market. Finally, our liquidity remains healthy as we finished the quarter with $237 million in total liquidity. Now let's move to Slide 6 and the end-use market update. All of our end-use markets were up sequentially, and with the exception of transportation, all were up year-over-year, reflecting the strong demand environment. Our near-term and long-term outlook for each of our end-use markets remains positive, and record backlog levels provide strong evidence for this bullish market outlook. Our aerospace and defense end-use market, sales were up 9% sequentially and 50% year-over-year. Global aerospace traffic continues its recovery, pushing the supply chain to continue to ramp production for new planes. As a result, we saw a strong demand in each of the commercial aerospace submarkets, in particular, the aerospace engine submarket. The defense submarket is down sequentially and year-over-year, primarily driven by the uncertain government budget horizons and extended lead times. We see this as a short-term issue as there is continued interest in our advanced alloys for next-generation platforms. Excluding defense, aerospace sales were up 12% sequentially and 57% year-over-year. More specifically, sales in the aerospace engine submarket were up 19% sequentially and up 78% year-over-year. As a result of the continued increases in demand, lead times across the industry have extended and our backlog continues to rise. Specifically, our aerospace and defense end-use market backlog is up 10% sequentially and 136% year-over-year. Notably, our backlog value remains at record levels, reflecting price increases and customer urgency to secure material. In the medical end-use market, sales were up 26% sequentially and 55% year-over-year. The higher results reflect ongoing growth in elective surgeries. Customers are increasing manufacturing activity and required stocking levels to meet demand. The overall outlook continues to be positive as medical procedures are expected to rise throughout calendar year 2023. We are seeing evidence of this replenishment in the supply chain as our medical end-use market backlog is up 11% sequentially and 150% year-over-year. In the transportation end-use market, sales were up 15% sequentially and down 4% compared to last year. Light-duty vehicle demand remains high even with the industry supply chain issues, limiting inventories. With strong demand and low inventories, build rates are expected to increase throughout calendar year 2023. In addition, we expect to see heavy-duty vehicle build rates rise in calendar year 2023, primarily driven by the increasing demand in China. In the energy end-use market, sales were up 23% sequentially and up 41% compared to last year. In the oil and gas submarket, demand continues to outpace supply, driving growth and capital investment. In addition, we are seeing growing demand for our advanced premium alloy solutions for drilling and completions activities in harsh environments. In the industrial and consumer end-use market, sales were up 15% sequentially and up 18% year-over-year. Sales growth was driven by demand for our alloys used in semiconductor fabrication and in our electronics submarket. Specifically in the electronic submarket, we continue to see growing demand in new applications for materials from our hot strip mill in Reading. Now I'll turn it over to Tim for the financial summary.

Thanks, Tony. Good morning, everyone. I'll start on Slide 8, the income statement summary. Net sales in the second quarter were $579.1 million, and sales excluding surcharge totaled $420.8 million. Sales excluding surcharge increased 34% from the same period a year ago, on 17% higher volume. Sequentially, sales were up 12% on 12% higher volume. Gross profit was $70 million in the current quarter compared to $13.1 million in the same quarter of last year and $54.8 million in the first quarter of fiscal year 2023. Gross profit is up substantially compared to the same quarter last year and up 28% sequentially. The improvement in gross profit is primarily driven by higher sales and improving product mix and increased selling prices, partially offset by inflationary cost increases. SG&A expenses were $47.4 million in the second quarter, up about $3 million from the same period a year ago. Note that the SG&A line includes corporate costs, which totaled $16.4 million in the recent second quarter. The reported corporate costs increased about $2 million from the same quarter last year and are largely in line sequentially. As we look ahead to the balance of fiscal year 2023, we expect corporate costs to be $19 million to $20 million per quarter. Operating income was $22.6 million in the current quarter. When excluding the impact of special items in the prior year quarter, adjusted operating loss was $29.8 million in the same quarter last year, and operating income was $8.3 million in our recent first quarter. Our effective tax rate for the second quarter was 19.5%. As we said last quarter, as pretax levels increased throughout the fiscal year, we expect that the full year effective tax rate will be approximately 22% to 24%, but may continue to have variability on a quarterly basis. Earnings per share for the current quarter was $0.13 per share. The results demonstrate our continued momentum supported by a strong demand environment. Now turning to Slide 9 and our SAO segment results. Net sales for the second quarter were $495.8 million or $346.2 million excluding surcharge. Compared to the same period last year, net sales excluding surcharge increased 38% on 14% higher volumes. Sequentially, net sales excluding surcharge increased 13% on 11% higher volumes. The year-over-year improvement in net sales was driven by increased volume and higher prices as well as an improving product mix across our key end-use markets that Tony reviewed on the market slide. Moving to operating results. SAO reported operating income of $30.3 million in our recent second quarter, a significant improvement versus our recent first quarter and prior year second quarter results. The improving operating income results reflect continued progress towards returning to our fiscal year 2019 run rates. On a year-over-year basis, SAO adjusted operating income improved $49 million largely due to higher sales, coupled with an improving mix. On a sequential basis, operating income improved $10.4 million, which is in line with the expectations we set last quarter and driven by increased volumes as we continue to ramp our operations to meet the strong demand that we are seeing across our end-use markets. Looking ahead, our backlog grew sequentially again this quarter with steady order rates across all of our key end-use markets. As we have highlighted, we continue to see increased activity in the aerospace supply chain to meet anticipated increases in build rates by the OEMs. Our teams remain focused on ensuring that we accelerate activity levels and production flow to meet the needs of our customers for the foreseeable future. Based on current expectations, we anticipate SAO will generate operating income in the range of $41 million to $45 million in the upcoming third quarter of fiscal year 2023. Now turning to Slide 10 and our PEP segment results. Net sales in the second quarter of fiscal year 2023 were $106.7 million or $98 million excluding surcharge. Net sales excluding surcharge increased 17% from the same quarter last year and were up 12% sequentially. The year-over-year growth in net sales reflects increased demand primarily in our Dynamet Titanium and additive businesses. In our Dynamet Titanium business, net sales increased in both the aerospace and defense and medical end-use markets from the same quarter a year ago. We've also seen a significant improvement in year-over-year sales in our Additive business driven primarily by aerospace and defense market applications. The sequential increase in net sales reflects increases in Dynamet Titanium sales to the medical end-use market as well as Additive sales to the aerospace and defense and industrial consumer end-use markets. In the current quarter, PEP reported operating income of $9.3 million. This compares to adjusted operating income of $3.2 million in the same quarter a year ago, and operating income of $6.3 million in the first quarter of fiscal year 2023. The operating income improvement year-over-year and sequentially is primarily the result of increased net sales driven by strong market demand conditions. As we look ahead, we remain confident that overall demand conditions will remain strong in the coming quarters. We currently anticipate that the PEP segment will deliver operating income in the range of $9.5 million to $11 million for the upcoming third quarter of fiscal year 2023. Now turning to Slide 11 and a review of free cash flow. In the current quarter, we used $86 million of cash for operating activities. The cash used for operations in the current quarter was driven by increasing inventory. During the quarter, we increased inventory by $106 million. The increased inventory is a result of ramping up production activities to satisfy the growing demand, namely the targeted shipments for the second half of fiscal year 2023. We anticipate that as we move through the balance of fiscal year 2023, we will reduce inventories from the current levels. The reduction will be driven by increased shipments and a more balanced flow of materials across the operations. In the second quarter of fiscal year 2023, we spent $18 million on capital expenditures. Given the timing of certain projects and ongoing delays due to extended lead times, we expect fiscal year 2023 capital expenditures to be in the range of $85 million to $90 million, which is down slightly from our previous guidance of $100 million. Lastly, as I've highlighted before, we continue to fund a constant dividend to our shareholders, which we consider as part of free cash flow and an important part of our overall shareholder return. With those details in mind, we used $114 million of free cash flow in the second quarter of fiscal year 2023. Our liquidity remains healthy, and we ended the current quarter with total liquidity of $237 million, including $20 million of cash and $217 million of available borrowings under our credit facility. As I mentioned, we expect to reduce inventory in the second half of the fiscal year. The inventory reduction, combined with our expectations for continued earnings momentum, are anticipated to drive free cash flow generation in the upcoming second half of our fiscal year 2023. With that, I'll turn the call back to Tony.

Thanks, Tim. Now to recap our second quarter of fiscal year 2023. We are operating in a strong demand environment with positive near-term and long-term outlooks in each of our end-use markets. Notably, the aerospace submarkets continue to accelerate their recovery. As a result, our backlog continues to grow, and we expect it to remain strong for the foreseeable future. We will continue to offset inflationary pressures through our raw material surcharge mechanism and our ability to increase prices on both our contractual and transactional business. As I noted earlier, we are focused on increasing the productivity of our labor force across the facility by safely onboarding a significant influx of new employees across all of our production centers. By increasing volumes, improving mix, increasing prices, and improving productivity, we will continue to see margin expansion. As a result, we will continue to maintain a healthy liquidity position. We did build inventory at certain stages of the production flow in the first half of the fiscal year to make sure we have the necessary resources to serve our customers. As Tim mentioned earlier, we expect the inventory balance will come down as we move through the second half of the fiscal year. And looking ahead, we are positioned to achieve our goal of delivering operating income at the fiscal year 2019 run rate range in the fourth quarter of fiscal year 2023. Let's turn to the next slide and take a closer look at our full fiscal year 2023 outlook. On the last two earnings calls, we talked about our goal of achieving the fiscal year 2019 operating income run rate by the fourth quarter of this fiscal year. Let me provide more insight into how we see the next two quarters playing out. Demand remains strong across all of our end-use markets as evidenced by growing backlogs and extending lead times. We participate at the high end of attractive markets, which are driven by positive macro trends. Therefore, in terms of demand, we see minimal risk in our fiscal year 2023 projections. Specifically, over the next two quarters, we anticipate sales excluding surcharge to grow at approximately 12% to 13% per quarter, driven by increased productivity through production rate increases. The most critical variable in our continued effort to increase production rates is the pace at which we can safely train and develop the workforce, many of whom are new to their role in the last 12 months. With this in mind, we have provided operating income projection ranges for the third and fourth quarters of fiscal year 2023. Earlier, Tim communicated the SAO and PEP segment third quarter operating income outlook. Those combined with estimated corporate costs result in a total company projected operating income range of $30.5 million to $37 million for the third quarter, a strong sequential increase. For the fourth quarter, taking into account the variables I just noted, we project total company operating income to be in the range of $54 million to $60 million, a relatively small window in total dollars. It is worth noting that this represents at least a 140% operating income increase over the current second quarter results. And not to get too far ahead, but we expect the first quarter of fiscal year 2024 to have another meaningful increase in operating income compared to the fourth quarter range just given. We will give you more color on that over the coming quarters. It is an exciting time for Carpenter Technology as we are not only poised to return to pre-pandemic earning levels in the near term, but also have a path to significantly increase earnings over the coming years. Thank you for your time. And now I will turn it over to the operator to take your questions.

Thank you. We will now begin the question-and-answer session. First question comes from Gautam Khanna from Cowen. Please go ahead.

Thanks, guys. I just want to make sure I have this right, first on the guidance comments. Did you say 12% to 13% excluding surcharge sales growth in Q3 and Q4? Did I hear that right?

That's correct. Yes, Gautam. Good morning.

Good morning. Does that imply a sequential decline in sales excluding surcharge?

No. You take the second quarter sales. Third quarter will be 12% to 13% higher and then take another 12% to 13% on that.

You meant sequentially. I apologize. Okay. I just want to make sure it wasn't year-over-year. The commentary on Q4, now the range of $54 million to $60 million, previously, it was around $60 million. Is there anything specific that explains the slightly lower midpoint or low end?

Yeah. As I mentioned in my comments, the third quarter will be 12% to 13% higher than the second quarter sales, and then we expect another increase of 12% to 13% on that.

Corporate cost.

No, it's not corporate cost. It's not demand. It's really our workforce and training them safely and effectively to produce those rates to run at the rates. That's really the gating factor right now. And I've heard that from many other companies in the industry as well. If you remember, our workforce decreased significantly during COVID and now we're building that back up. So it takes some time to get them trained. Now I'm a quarter closer. I just want to give a little bit of range. If we hit what we say we're going to hit, we'll be closer to the 60% in terms of the training.

Got it. And then the Q1 comment, did you mean to suggest it will be higher than the $54 million to $60 million, so way better than normal seasonality?

Yes, I think it's important to provide some clarity for our shareholders and those who need a better understanding of our plans. I'm always trying to look a couple of quarters ahead. I may not provide all the details some would prefer, but I aim to offer some directional guidance while keeping in mind the usual risks. If everything goes as we anticipate, we expect to see improvement in the first quarter, moving up from the 50-40-60 range.

And then I was just curious on the cash use in the first half. The cash balances quite low at ending the quarter and then the leverage is a bit up. What do you think will happen with respect to free cash flow in the second half? Do you guys have an updated forecast for that?

Well, I'll tell you this, Tim mentioned it on the call. I think I mentioned it as well that we intend to reduce inventory in the second half. We're not going to do that randomly. The demand is expected to be higher, which will draw down that inventory. Consequently, the earnings will also be significantly higher, right? I mean that $54 million to $60 million. If you reach that, it's 140% higher than what we just did. Therefore, your free cash flow will reflect those two factors. I think you'll see quite healthy free cash flow compared to the first half.

Okay. And just stepping back on backlog, you mentioned a 9% increase. Could you just talk a little bit about engines versus fasteners versus other structural components in aerospace? And then maybe just give some flavor for where you're seeing the order strength maybe sustain and improve, and if you're seeing any areas that are a little bit softer?

Currently, I don't see any weak areas. All of our customers are requesting more products sooner. Specifically, year-over-year, our engines backlog has increased by over 180%, which is faster than the 160% growth previously. Looking at it sequentially, there's an increase of about 8% to 9%. This reflects significant growth in our backlog. However, it’s important to note that the backlog may not be as meaningful anymore since we've surpassed 52 weeks. There is strong demand out there, and we are now experiencing a backlog that is twice what we had back in fiscal year '19, a period of significant demand.

Thanks, Tony.

Thank you, Gautam.

Our next question comes from Joshua Sullivan from the Benchmark Company. Please go ahead.

Good morning. As we think of that labor influx now to support that step up into the fourth quarter, will you need additional labor inputs to get to the Q1 numbers and beyond? Or is there a leveling off at some point in headcount?

That's a great question, and I appreciate you bringing it up. Let me provide a few key points on this. As I mentioned earlier, like most companies during the COVID pandemic, we significantly reduced our maintenance production workforce due to attrition, which included an increased rate of retirements during that time. Over the past year, we have been actively bringing back employees at all our locations, resulting in a less experienced workforce. For example, at our largest facility, around 30% to 35% of employees in some critical work centers have less than a year of experience, which poses a challenge in achieving the desired production rates. Despite a tight labor market, I believe we are making strong progress. We offer fulfilling jobs, competitive wages, and attractive benefit plans. Currently, we're approximately 85% to 90% of the workforce we need, with a few more hires needed in certain critical work centers. To reassure you, it's not in the thousands, but rather about 200 to 300 additional employees out of roughly a 2,500-person workforce in SAO.

Got it. And then any commentary out of the aerospace supply chain, they can't get enough engine-related materials. But from Carpenter's perspective, what takes aerospace sales incrementally higher from here? Is it increased capacity on your end? Or is it increased pull from customers just given where you guys supply chain?

We have three key focus areas to discuss. First, we are focused on enhancing our productivity, which includes the contributions from our Athens facility. We anticipate that demand will continue to grow. We are also seeing organic productivity improvements at our current plants, coupled with advancements from Athens. Additionally, as markets like aerospace and medical show greater strength, we plan to shift more of our resources toward them and reduce less profitable segments more decisively than before. The third major factor is pricing. We've successfully raised prices significantly. A quick calculation based on our sales and shipments indicates that pricing is likely about a pound higher than in fiscal year '19, which was one of our strongest financial years. Many people overlook pricing when considering how we will enhance productivity and capacity, yet pricing and market management are crucial components of our strategy.

Yeah. And then just on the defense impact you mentioned, can you just highlight some of the dynamics there? What types of alloys or defense products is that impacting? And then how might we see that rebound?

Sometimes, it's such a small piece that you sometimes wonder whether that's even really relevant in the whole scheme of our earnings release. I don't see any issues there. You know the areas that we provide in defense were more on the munition side than armament, but we have a variety of alloys that we sell into defense. And quite frankly, we see defense as a growth area for us going forward. But because of the dynamics, you'll see some variability up and down every quarter. It was only a couple of quarters ago, I think that it was a big increase in defense, and I said not to get too excited about that; that's just the normal variability inside the defense submarket.

Yeah. Thank you for the time.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Brad Edwards for any closing remarks.

Thanks, Jason. I appreciate it. Thanks, everyone, for joining us today for our fiscal 2023 second quarter conference call. We appreciate your time and support and look forward to connecting with all of you in the near future. Thanks again, and have a great rest of your day.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.