Welcome to the HEICO Corporation Third Quarter 2024 Financial Results Call. My name is Samara, and I will be your operator for today's call. Certain statements in this conference call will constitute forward-looking statements which are subject to risks, uncertainties and contingencies. HEICO's actual results may differ materially from those expressed in or implied by those forward-looking statements. Factors that could cause such differences include, among other things, the severity, magnitude and duration of public health risks, such as the COVID-19 pandemic, HEICO's liquidity and the amount and timing of cash generation; lower commercial air travel, airline fleet changes or airline purchasing decisions which could cause lower demand for our goods and services; product specification costs and requirements, which could cause an increase to our costs to complete contracts; governmental and regulatory demands, export policies and restrictions; reductions in defense, space or homeland security spending by US and/or foreign customers or competition from existing and new competitors, which could reduce our sales. Our ability to introduce new products and services at profitable pricing levels, which could reduce our sales or sales growth; product development or manufacturing difficulties, which could increase our product development and manufacturing costs and delay sales; cybersecurity events or other disruptions of our information technology systems could adversely affect our business; and our ability to make acquisitions including obtaining any applicable domestic and/or foreign governmental approvals; and achieve operating synergies from acquired businesses; customer credit risk, interest, foreign currency exchange and income tax rates; and economic conditions, including the effects of inflation within and outside of the aviation, defense, space, medical, telecommunications and electronics industries, which could negatively impact our costs and revenues. Parties listening to this call are encouraged to review all of HEICO's filings within the Securities and Exchange Commission, including but not limited to, filings on Form 10-K, Form 10-Q and Form 8-K. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except to the extent required by applicable law. I now turn the call over to Laurans Mendelson, HEICO's Chairman and Chief Executive Officer.

Samara, thank you very much and good morning to everyone on this call. We thank you for joining us, and we welcome you to this HEICO third quarter fiscal '24 earnings announcement teleconference. I'm Laurans Mendelson, Chairman and CEO of HEICO Corporation. And I am joined this morning by Eric Mendelson, HEICO's Co-President and President of HEICO's Flight Support Group; Victor Mendelson, HEICO's Co-President and President of HEICO's Electronic Technologies Group; and Carlos Macau, our Executive Vice President and CFO. Now before reviewing our operating results, I would like to take a moment and thank all of HEICO's talented team members for their contribution to our record-setting performance. Your continued focus on exceeding customer expectations and operational excellence translated into excellent results for our shareholders. I continue to be very optimistic about the future of HEICO. Over the past 16 quarters we've experienced incredible growth in our commercial aviation markets after emerging from one of the darkest times in aerospace history when air travel slowed to a crawl amid the COVID-19 pandemic. I couldn't be prouder of the professionalism and tenacity of our team members, who demonstrated serving our customers during this period of rapid growth. Their ability to meet the challenge of accelerated growth is commendable, and this includes the remarkable Wencor team members who joined HEICO last year. In addition, I am pleased with the progress and effort of our team members have made serving customers in the defense industry. It is my expectation that growth in this global industry will continue despite who wins the upcoming elections, and the softer results we realized over the past few years appear to be in the rearview mirror. And now I'd like to summarize the highlights of our third quarter fiscal '24 record results. Consolidated operating income and net sales in the third quarter of fiscal '24 represent record results for HEICO and improved by 45% and 37%, respectively, as compared to the third quarter fiscal '23. I think you'll all agree that those are outstanding results. Consolidated net income increased 34% to a record $136.6 million or $0.97 per diluted share in the third quarter of fiscal '24. That was up from $102 million or $0.74 per diluted share in the third quarter of fiscal '23. The Flight Support Group set all-time quarterly net sales and operating income records in the third quarter of fiscal '24, improving 68% and 72%, respectively, over the third quarter of fiscal '23. The increases principally reflect strong 15% organic growth mainly attributable to increased demand for the Flight Support Group's commercial aerospace products and services and the impact of our profitable fiscal '23 and '24 acquisitions. Consolidated EBITDA increased 45% to $261.4 million in the third quarter of fiscal '24, up from $179.8 million in the third quarter of fiscal '23. Our net debt-to-EBITDA ratio was 2.11x as of July 31, '24, down from 3.04 times as of October 31, '23. Our excellent operating results have allowed us to early achieve the forecast we made a year ago that our net debt-to-EBITDA ratio would return to the historical level of about 2 times within roughly one year to 18 months following the Wencor acquisition. That's excluding any impact of further acquisitions. Our acquisition pipeline is extremely robust with opportunities in both Flight Support and the Electronic Technologies Group (ETG), and we intend to follow our time-tested strategy of opportunistic acquisitions that continue to expand the cash generating ability of HEICO. Cash flow provided by operating activities increased 47% to $214 million in the third quarter of fiscal '24, up from $145.9 million in the third quarter of fiscal '23. In July '24, we increased our regular semiannual cash dividend by 10% to $0.11 per share. This represented our 92nd consecutive semi-annual cash dividend since 1979. I'd like to now discuss our recent acquisition activity. You may recall, in December '23, we announced the acquisition of exclusive perpetual licenses and certain assets from Honeywell International to support the Boeing 737NG and the 777 cockpit display and legacy displays product lines, which that group has been performing extremely well for us. As a result, in May '24, we completed a second transaction with Honeywell International, under which we acquired additional licenses and certain assets to further enhance the manufacturing of these new products, including screens for the military variant of the Boeing 737NG and 777 cockpit displays and legacy displays product lines. Last week, we announced that the Flight Support Group acquired the aerial delivery and descent divisions of Capewell Aerial Systems. The purchase price of this acquisition was paid in cash, principally using proceeds from our revolving credit facility. We expect this acquisition to be accretive to our earnings within the first year following the acquisition. At this time, I’d like to introduce Eric Mendelson, Co-President of HEICO and President of HEICO Flight Support Group, and he will discuss the third quarter results of the Flight Support Group. Eric?

Thank you very much. The Flight Support Group's net sales increased 68% to a record $681.6 million in the third quarter of fiscal '24, up from $405 million in the third quarter of fiscal 2023. The net sales increase reflects the impact from our fiscal 2023 and 2024 acquisitions, and strong 15% organic growth. The organic net sales growth mainly reflects increased demand across all of our product lines. As we continue to experience excellent organic growth within the FSG, we've also been highly successful in supplementing growth through acquisitions. Last week, we acquired Capewell, a Connecticut-based leading provider of proprietary aircraft cockpit, emergency egress and aerial delivery products for both the commercial aerospace and defense markets. I am very impressed with their manufacturing process and strict adherence to high reliability and quality products, which help ensure pilot troop safety worldwide. They also have an excellent staff of people who will fit extremely well within the HEICO family. The Wencor operations continued to exceed our expectations, and we are convinced this was an excellent investment for HEICO. Wencor's entrepreneurial culture and a record of producing high-quality products continue to produce wins in the marketplace. Our customers continue to find great value in our larger aftermarket product offerings for their aerospace parts and component repair and overhaul needs. We continue to operate Wencor as a stand-alone business operation. However, we have made very good progress in working together and serving our customers in a combined seamless fashion. Some examples of how we are now working together include the utilization of all HEICO and Wencor PMAs and DERs at all of our repair stations, commercial and defense aftermarket sales cooperation, Wencor e-commerce platform listing all HEICO non-competitive PMAs, Wencor utilizing HEICO's manufacturing base, in particular, our specialty products and Electronic Technologies Group, to quote new products, engineering and regulatory cooperation, sharing best-in-class vendors, and driving various back-office synergies, such as payroll and export compliance that will help offset the cost of additional regulatory compliance. The Flight Support Group's operating income increased 72% to a record $153.6 million in the third quarter of fiscal 2024, up from $89.2 million in the third quarter of fiscal '23. The increase in operating income principally reflects the previously mentioned net sales growth and an improved gross profit margin, partially offset by an increase in intangible asset amortization expense. The improved gross profit margin principally reflects higher net sales within our aftermarket replacement parts and repair and overhaul parts and services product lines. The Flight Support Group's operating margin increased to 22.5% in the third quarter of fiscal '24, up from 22.0% in the third quarter of fiscal '23. Given that acquisition-related intangible amortization expense consumed approximately 270 basis points of our operating margin in the third quarter of fiscal '24, the FSG's cash margin before amortization, or EBITA, was approximately 25.2%, which is excellent in absolute terms and is 180 basis points higher than the comparable Flight Support Group cash margin of 23.4% in the third quarter of fiscal 2023. I am extremely pleased with these results. The increased operating margin principally reflects the previously mentioned improved gross profit margin, as well as lower acquisition costs, partially offset by the previously mentioned higher intangible asset amortization expense. Now I would like to introduce Victor Mendelson, Co-President of HEICO and President of HEICO's Electronic Technologies Group, to discuss the third quarter results of the Electronic Technologies Group. Victor?

Thank you, Eric. The Electronic Technologies Group's net sales were $322.1 million in the third quarter of fiscal 2024, as compared to $325.9 million in the third quarter of fiscal 2023. The slight net sales decrease principally reflects lower other electronics and medical products net sales, partially offset by increased defense, space and aerospace products net sales. This is in line with our expectations as we've commented on our earnings conference calls over the last few quarters and is consistent with inventory destocking at some customers. We continue to anticipate quarterly volatility in the ETG's defense net sales, but the overall trend remains very positive. As expected, other electronic net sales were lower during the third quarter of fiscal '24 compared to the third quarter of fiscal '23. We believe these order trends in these markets have bottomed, and we are seeing improved orders in some of our companies in these other markets. These other markets typically equate to between 25% and 30% of our sales. We continue to expect an overall return to growth in these end-markets and businesses during the first half of fiscal '25. The ETG's record backlog and strong overall orders support our optimism, and as the non-A&D markets improve, we expect a healthy tailwind into our next fiscal year. Orders for commercial aviation and defense products have been very robust, and we are very pleased with our business performance, including at Exxelia, which continues to meet our performance expectations and grow its profit margins. Further, our order book and quotation activity for fiscal 2026 is building nicely. And I did mean to say fiscal '26, in addition to '25, of course, which augments our optimism for later periods as well. The Electronic Technologies Group's operating margin improved to 23.5% in the third quarter of fiscal '24, up from 22.8% in the third quarter of fiscal '23. I'd also note that before acquisition-related intangibles amortization expenses, our operating margin was above 27% as those intangibles amortization expenses consume around 400 basis points of our margin. And that's how we judge our businesses as that most closely correlates to our cash. When we look at how our businesses are doing on an operating basis, we are very pleased with the overall margins and their continued improvement. The operating margin increase principally reflects the previously mentioned improved gross profit margin, partially offset by a lower level of SG&A efficiencies. I turn the call back over to Laurans Mendelson.

Thank you, Victor. Now for the outlook. As we look ahead to the remainder of fiscal '24, we remain optimistic about achieving net sales growth for both FSG and ETG. This growth is expected to be largely fueled by the contributions from our fiscal '23 and '24 acquisitions, along with sustained demand for the majority of our products. Additionally, we are committed to ongoing product and service innovation, further market penetration, and maintaining our financial strength and flexibility. In conclusion, I want to again express my gratitude to the exceptional team members for their unwavering support and dedication to HEICO. Our strategy of building a diversified portfolio of outstanding businesses continues to deliver positive outcomes for our shareholders. Our key markets are very strong, and fiscal '24 is shaping up to be another successful year. Thank you as shareholders for your continued trust. And as I mentioned before, I remain very optimistic about the future for HEICO. And now we'll open the floor to questions.

We'll take our first question from Robert Spingarn with Melius Research.

Well, good morning, and a very nice quarter.

Thank you very much, Rob, good morning to you.

I thought I'd start with the end-markets. Eric, FSG's organic growth rate accelerated compared to the previous two quarters. Does this reflect the maturing integration that you mentioned between HEICO and Wencor? Or is this simply a result of the market, possibly indicating strengthening demand in the end-market and aftermarket?

Yes. I think that's a great question, Rob, and I spent a lot of time in business reviews and with our sales folks, in particular, over the last month going over a lot of the details. There is no question that the market remains strong. But I do think the reason why the incredible 17% growth rate was so outstanding is because of really two factors. One, we continue to win in the marketplace. HEICO is an accumulation or a combination of a lot of individual businesses working as hard as they can, planning years in advance, developing these products, having them on the shelf and being able to hit the demand and get them sold when the market needs them. So I think that's number one. Really, everybody's sort of, if you will, all the unsung heroes who are working their rear ends off every day to make this happen. So that's probably the first reason. The second would definitely be due to the addition of Wencor and the broadening of our product line. I think in speaking with our customers, we’re viewed as a much more complete supplier. I mean, HEICO today has transitioned tremendously over the last many decades. I think our customers are very confident in purchasing additional products from us, whether it is parts, distribution, PMA, and repair. I think we are growing our market share. So it's really, I think, yes, a strong market, but more I think really focusing on the detail by our businesses and the broadening of the product line through Wencor and the 737 and 777 display unit acquisitions.

Okay. And then notwithstanding the strong growth, there have been some airlines out there talking about overcapacity that's been a bit of a theme here. Are you seeing any evidence of that in the order patterns so far?

No, we really don't. In fact, a number of airlines have reduced their purchases. In hindsight, they seem to have over-ordered in 2023, taking more than they actually needed. We do have anecdotal evidence of some customers cutting back this year, but that has been offset by strength from other customers. I think we are still performing very well. This reflects the strength of the HEICO model, where our individual business units control their own outcomes. If they face a shortfall in one area, they find ways to compensate in another, and they do this in real time. In summary, the market remains quite strong for us.

Okay. And then just on the OEM side, both you and Victor have some exposure to commercial OE. Are you seeing any slowdown in orders on the OE side because of the slower than expected production ramps both at Airbus and Boeing? Or do you continue to ship at the higher target rates and they are just taking inventory?

Yes, we've definitely seen a reduction off of forecast due to their build rates. There is no question Airbus is doing, I think, better than Boeing in that area. But yes, definitely on the commercial OE production, things are softer than expected. That, of course, has been offset by our strength in the defense side, and we expect that strength to continue into 2025, 2026 and after based on our conversations with our customers and what they want there.

Okay. And then here is a question, Larry I thought I would ask you this question, but anybody please jump in. You continue to be acquisitive. You just did another deal. How would you characterize the M&A pipeline as it stands today maybe relative to the prior year or so? And is there any change in behavior from private equity folks who are out there with properties to sell?

Rob, this is Eric. I'll take that just for a moment. Of course, a year ago, we were largely focused on Wencor is our largest deal in the history of the company, over $2 billion, and that consumed tremendous amount of capital as well as effort. But I can tell you that our pipeline today remains incredibly robust. We have a lot of projects in the work. Our acquisitions teams are nonstop running around the country. I think we worked very hard to differentiate ourselves as the buyer of choice. And we'll keep our fingers crossed that some of these will come to fruition. But there is no question that in conversations, and I don't want to call out individual businesses because they have their own respective sellers and reasons for having dealt with us. But I can tell you that on all of our recent acquisitions I think HEICO's reputation has been key to getting all of those deals done and has made us a particularly attractive counterparty for our sellers and partners. And the pipeline remains very, very strong.

Rob, this is Larry. I know you asked me a question, but Eric got ahead of me. What he said is correct. Our pipeline is quite full, and we are currently considering a lot of acquisitions. This is taking up most of our staff's time, and we are primarily focusing on non-private equity deals, which are more beneficial for us. While we do see some private equity opportunities, the prices are usually very high, making it difficult for us to compete. However, we have enough non-private equity deals to meet our needs, and at this moment, it is a buyer's market for us.

Got it. Got it. And just quickly, Carlos, if I could ask you what the blended organic growth rate was in the quarter. Thank you.

You're talking about for the company as a whole?

Yes. So when you factor all in, yes.

Yes. So all in, it was a tick over 7% organic growth for the whole company.

Okay, excellent. Thank you all.

Thank you, Rob.

We'll take our next question from Bert Subin with Stifel.

Hey, good morning and thank you for the questions.

Good morning, Bert.

Maybe, Eric just to start with you on the FSG side. I think you mentioned sort of accelerating growth, organic growth of 15%, extremely impressive. Last quarter, you had talked about the aftermarket replacement parts side being, I believe, 21% growth, and you called out about one-fourth of that being priced with the discount relative to OEM being close to the widest you've ever seen it. So I'm curious, how did that change in the fiscal third quarter? Was pricing increases an element of that growth? Or does it continue to be more of a volume story?

Yes. Hi Bert. The short answer is that it's primarily a volume issue. This quarter, the growth for the parts business was 17%, compared to 21% last quarter, as you noted. Most of this growth comes from volume, with some contribution from pricing. We have been committed to passing our price increases onto customers, especially as our costs have risen due to factors like labor, special processes, and materials. So, the majority of the growth is definitely from volume, with a smaller portion attributed to price.

Eric, as you consider the future for FS, particularly regarding the aftermarket replacement parts business, we’ve heard discussions about the airline sector facing capacity reductions and lower yields. It appears that this hasn't yet had an impact. Do you see a chance to capture significant market share if we experience a slowdown, since this might make our portfolio more appealing to customers who previously purchased PMA parts at a lower rate? Alternatively, do you think pricing might adjust in relation to volume? I'm interested in your thoughts on how the next few quarters might unfold if we do encounter a slowdown.

Yes. So far, we haven't noticed any signs of a slowdown. In fact, it's quite the opposite, which is surprising. Typically, when there is a slowdown, volumes decrease, and that's when we gain additional market share as customers recognize the benefits of our cost savings on parts and repairs. During those times, we tend to capture more market share. Additionally, when the economy improves, we usually recover even more robustly than others because we've expanded our market share. Customers are very enthusiastic about the HEICO product line; they are actively seeking competition, and HEICO offers fair competition in that space. Therefore, I believe we are positioned to perform well and definitely gain market share, securing more parts and repairs if that situation arises.

Very helpful. And just one last question for Victor. Victor, if we look at the ETG business over the last several quarters, sort of bounced around from positive to negative on the organic side, sort of averaged about 0%. I think that business is meant to be sort of longer term low to mid-single-digit organic. I guess sort of a two-part question. One, I think earlier in the year, you were expecting this more significant ramp in the back half. I'm just curious what changed that outlook? And then two, as you go into FY '25 is there a potential that growth sort of exceed your longer-term growth target just as a function of recovering?

Yes. Thank you, Bert. They are good questions. I don't think where we are and so far in the back half of the year has really been a surprise to us. I think we tried to hint in the second-quarter call that we thought, for example, margins were higher in that period that we would look for an average over the course of the year. So it is not really too far out of line, maybe slightly. We are doing the budgets for fiscal '25. But when I look at our backlogs and I look at our order rate, it feels to me as though we would have a stronger growth rate in fiscal 2025. Again, it's a little premature for me to say that with certainty because our companies do their budgets now and submit them in early October. So I'm waiting on those. But right now, that's how it feels to me, yes.

Thanks very much.

We'll take our next question from Larry Solow with CJS Securities.

Thank you very much. Good morning everyone and thank you for the questions. Congratulations on your impressive growth, and Victor, it seems like your segment is also seeing good bookings growth. It appears we might be looking at a couple of positive quarters ahead. Eric, I appreciate the insights on Wencor. It sounds like you are experiencing some revenue synergies by combining various common services. I'm curious to know if you can share whether your organic growth at Wencor has kept pace with or even surpassed the overall growth of FSG in recent quarters.

I would say it aligns very well with FSG. When we examine the different Wencor businesses, their organic growth is quite consistent. There may be minor fluctuations occasionally, but overall, they are performing well and are in line with the legacy HEICO businesses.

Has the overall PMA parts offering increased? Has it grown even more? Have you expanded your overall offering? Does that contribute to growth in the last few quarters?

Yes, it has. The overall offering has grown. And we've really seen the advantages of that, and frankly, the customer enthusiasm around it.

Got you. Just a question, it sounds like the Capewell acquisition is a nice addition. Can you provide more details on that? It seems to be focused on specialty products, which are typically more niche and have higher margins, but possibly a bit more inconsistent sales with larger fluctuations in quarters. Is that the right way to view it?

It is an excellent business with two primary product lines. One focuses on the commercial and military aerial descent sector, specifically the cockpit egress business. This involves providing an exit method from the cockpit in case the door is blocked, as well as ensuring safe egress from cargo aircraft or tankers during emergencies. They offer a highly sophisticated and proven product that is used in various commercial and military aircraft, playing a crucial role in safety by allowing passengers to escape when necessary. Standard slides may be inactive or absent on certain aircraft, making this product essential. The second part of their business involves aerial descent capabilities, whether it's parachuting from an airplane or dropping tanks and equipment from C130s or C-17s, utilizing advanced parachutes and attachment mechanisms. We believe this is a great business, well-regarded by its customers, and a pioneer in this field since the 1940s when the original device allowing paratroopers to safely jump and detach upon landing was created. It's a strong, niche business that aligns perfectly with our Specialty Products Group, which integrates well with other segments of Flight Support. We are very excited about this opportunity.

Excellent. I guess just last question, maybe pass to Carlos. Just on the margin, you mentioned, respectively, on the FSG and ETG up to 25% and 27% on the cash operating margin. Perhaps not so much in the next quarter or two, but where do you see those margins over the next three to five years? I mean can they continue to pick up on the cash side you look at?

So the answer to your question is, as we continue to grow the volume of the business, we do expect to eke out incremental margin gains consistent with our history. As the base of the business grows, the amount of overhead needed to support it is relative to that growth, it's a little lower. So I expect we'll get that. If you look back, I've quoted this before, if you look back a decade, and look at the margin gains, that's kind of what I would expect going forward once we sell into our footprint here in the FSG and ETG. And I do think you're talking about an EBITA margin, so it's pretty elevated, we were happy with it this quarter. I think that as we move forward, that should continue to stabilize and eke out improvements.

Great. Excellent, thanks everybody.

We'll take our next question from Peter Arment with Baird.

Thanks, good morning Larry, Eric, Victor, Carlos. Nice results. Victor, could you discuss the booking rates and the confidence around ETG growth for next year? Specifically, could you provide more details on the end-markets you are observing? I assume defense, which I believe is nearly 50% of your segment, is experiencing mid-single digit growth, while other areas may be facing some softness. A bit more detail on that would be appreciated. Thanks.

Yes. The defense sector and commercial aviation have shown remarkable strength, with double-digit growth reported. Our long-term bookings in defense are particularly promising, extending beyond 2025, alongside positive indications from quotes and orders. Currently, I believe defense will be a key driver for us, and commercial aviation is performing exceptionally well. When considering other markets, they are declining in line with broader trends, but it seems like those order rates are stabilizing. It appears our customers have utilized their excess inventory, and orders are starting to flow in, which, when factoring in a six-month lead time, positions us well for fiscal '25. Therefore, I anticipate a favorable boost from this next year. While I can't guarantee that, it's the current outlook I have.

Hi, Peter, this is Carlos. I want to mention that while you’re correct about the 50% figure in the segment, we are currently tracking around 40%. I’ve noted previously that once the mix stabilizes, I expect our defense numbers to approach the 50% mark over time. At the moment, our total revenues in this segment are still lagging at about 40% for defense this quarter.

Okay, that's helpful. Carlos, regarding the leverage, it has decreased to 2.1 turns as you anticipated. Given that the M&A pipeline is robust, how are you approaching the desire to reduce leverage further? Do you have any updated thoughts on your target for leverage?

We are inherently an acquisitive company and have set an aggressive timeline to reduce our debt, which we have accomplished. There are plenty of opportunities for us, provided we maintain our leverage below three. Our goal is to identify highly profitable companies that won't disrupt our leverage, particularly those with high EBITDA, which has been our track record. We prefer high-margin businesses, as more acquisitions of higher-margin companies will have less impact on our leverage. This is the direction we are focusing on when discussing deals internally.

Terrific, I'll leave it there. Thanks guys.

We'll take our next question from David Strauss with Barclays.

Good morning. Thanks for taking my question. I wanted to ask about working capital. Last year, you had a fairly big inventory build. This year, a fairly big inventory build. How are you thinking about potentially slower growth or working capital or maybe working capital just coming down on an absolute basis from here?

Hi, David, this is Eric. I'll start out with sort of the big picture and then Carlos will get into the specifics on the financial. HEICO has always been focused on customer service, making sure that we capture all of the incremental sales that we can capture. Coming out of COVID, HEICO recovered much quicker than most. As a result of not cutting our people, not trimming our inventories too much, and bottom-line, we were able to support the market when others weren't. That's really been a huge HEICO advantage. I can tell you from an operational perspective, Victor and I are very, very focused on all of our business units, reviewing working capital, understanding specifically how the inventory or the receivables have increased. Obviously, receivables, that's up due to the huge increase in sales. But with regard to inventory, our businesses have been really outstanding in terms of having the correct inventory on the shelf. There are a lot of companies where their inventory blows up and they've got the wrong stuff on the shelf and they can't sell it, and then people find out after the fact that it's a problem. HEICO has always been very, very careful not to do that. We have very robust inventory reserve policies to make sure that we are being very proactive and have the right inventory. There is no question that there is a big internal focus on inventory. We want to slow the growth. But it is really key to our business. When you look at the 17% organic growth that we had in the aftermarket business, that was really outstanding, and that can only be accomplished through increased inventories. But Carlos will get into the specifics for you.

I don't know how much more I could add to that. I would say that the rate of increase in inventory spend has come down relative to the growth in the business. I mean, our sales are, for the quarter, up 37% comparatively and our inventory spend is not ramping at that pace. So I'm happy with that. I think what I mentioned earlier in the year, David, was that we had a fair amount of orders outstanding on firm commitment inventory that some of our subsidiaries had made two years ago just because of lead times. We made good on those. We are not the type of company that disrupts our vendor base to take advantage of a moment in time, we want to be partners with our vendors and ensure that we are good to them as they expect them to be good to us. The rate of those firm orders has come down. We are now sort of beyond that, and I do expect use of working capital, particularly inventory to come down a little bit. But it will continue to grow a little bit as the business grows, as Eric pointed out. So I wasn't as pleased this quarter with the working capital use. We expected it. And again, the rate of change in that inventory spend is down considerably compared to the first half of the year.

And also, David, just to add one other little anecdote. The purchase of the 737NG and 777 display unit business was the purchase of a product line. As a result, a good chunk of the inventory increase was due to that. So that really is an acquisition; it is a new business. It’s all good inventory. But that obviously shows up as inventory. So you have to sort of take that into account. When that is stripped out, the increase is much smaller.

Great. Thanks for the detailed answer. The other question I had on FSG margins, I know you talked about the year-over-year improvement. But margins did drop. GAAP margins did drop a little bit sequentially. What drove that 50 basis point drop sequentially? Was that mix or something else?

I think what we've shared is that there is nothing unusual regarding the sequential changes in the margin. We expect the segment to operate between 22% and possibly as high as 23%, similar to last quarter. There isn’t anything out of the ordinary. It naturally fluctuates. There’s a slight change in the mix. As Eric mentioned, some of the commercial business in Specialty Products has declined, while the parts business is performing well, which positively affects margins. The repair business is also growing, but it's slightly less beneficial to margins compared to the parts business. We will encounter various factors as the business stabilizes within the segment's verticals. I wouldn’t say there are any one-time events or unusual occurrences affecting this.

But David, this is Eric. Also the way that I look at it from an operating perspective is, a year ago, our EBITA margin in the third quarter was 23.4%. This year despite the acquisition of Wencor which was at a sort of a lower cash margin, we've been able to increase the cash margin to 25.2%. I think those numbers are really outstanding. And this, as Carlos says, they just bounce around. That's why we say it is going to be within a certain range, but that's just standard noise.

Got it. Okay, thanks very much.

Thank you.

We'll take our next question from Pete Skibitski with Alembic Global.

Good morning guys. I guess to start with, Eric. Last quarter, you guys talked about the supply chain negatively impacting the repair business. And I think maybe it sounds like it did a bit this quarter as well just because it sounds like parts kind of drove the business. So can you talk through kind of do you see any light at the end of the tunnel there or maybe more specifically what's going on the supply chain?

Yes, Pete, we are definitely experiencing supply chain issues throughout the business. Our vendors are facing challenges due to high demand, and we really need to stay on top of our supply chain and vendors to ensure we are prioritized and that they meet their commitments. We still have a significant backlog of overdue orders, largely driven by many vendors' inability to produce as promised. This remains a significant struggle, and I don't anticipate seeing much improvement in the aviation supply chain. Demand continues to far exceed supply. Many people have retired, and some businesses have shut down or lost their unique processes. Although everyone recognizes that this is a high-tech industry, many suppliers have less documented processes. During a period when they weren’t required to produce, especially due to large OEMs quickly canceling orders, many retired and these special processes went undocumented. The industry has really faced difficulties, particularly in airframe and engine manufacturing, as a result of those actions and the resulting disruption to the supply chain. At HEICO, we worked hard to retain our workforce and minimize layoffs, knowing we wanted to ensure our most valuable asset could return when the industry rebounded. I can tell you that other companies cut 40% or 50% of their workforce permanently, and when they try to bring people back, they face challenges because some have retired, others are unhappy, and there are various reasons for their absence. It's going to be a long recovery. Major manufacturers are encountering significant problems.

Okay, so you would say just going forward, you expect the parts business to grow faster because that business, you are less beholden to suppliers versus the repair business?

I wouldn't – it is hard to say which will grow faster. We are pretty confident of our growth in both. There is no question that when you ship individual parts, you are less impacted by a particular suppliers' inability to supply because you ship all the other parts that you have in stock. Whereas when you are overhauling a component or a line replaceable unit, LRU, you can only shift the component if you have all the parts. If there is a bill of material of 200 parts, and you are missing one, you're not shipping that unit. So that creates complications. Of course, when you're building a complex assembly like an airplane or an engine, then you have that problem in spades. But I think all of our businesses are performing quite well. It's just that there is plenty of past-due backlog, and sales actually could be even higher if we had those parts in from our suppliers.

Okay, that's helpful. I appreciate that. Victor, you mentioned it earlier, but could you elaborate on the medical and other areas in ETG? It seems we could separate them because the medical segment experienced a surge related to COVID, and now it appears to be normalizing. I expect that normalization will continue over the next quarter or two. However, is the broader economy having a negative impact on the other medical segment and others, or is that part growing at a faster rate than the medical segment?

Yes. In the medical sector, we experienced strong orders in 2021 and 2022 initially, but while some products performed better, many were underwhelming. There was a significant increase in elective procedures that were postponed during that time and into part of 2023. Eventually, manufacturers realized they had excess inventory, and some anticipated orders from end-users didn’t come through as expected or were delayed. They had to manage that inventory. Now, we’re seeing more customers reaching out to us, asking if we can expedite shipments instead of pushing them back. They’re shifting from deferring orders to wanting them sooner. We are having those kinds of discussions now. I’m not sure if this reflects trends in the broader economy, which is a complex question. However, it seems to be a typical situation of over-ordering combined with higher expectations for healthcare delivery from manufacturers.

Okay, so it sounds like you think that the destocking is about over in the next quarter or so, it sounds like?

Yes. That's how it feels to me. I would say we've seen some signs, some green shoots, so to speak, but it feels more kind of in this bottom or bottoming mode. We are seeing much higher quote activity. Not always but usually, that's an indication that gets followed up by orders not long after.

Okay, great. Thanks guys.

We'll take our next question from Louis Raffetto with Wolfe Research.

Hi, good morning gentlemen.

Good morning Louis.

Maybe I can just start with, I guess, a couple of things I noticed. Impairment charge, not something we see from you guys. So just was curious if you had any sort of additional information about that. And is that at all related to the change in the contingency consideration as well? Just not sure if those kind of offset each other on the income statement or if one was in one spot and one was somewhere else.

So this is Carlos. The impairment charge and the contingent consideration reversal both occurred within the ETG segment and pertained to two different subsidiaries. One involved a business in the space industry where changes in some end markets led to lower revenue projections. This is classified as a trade name impairment, and it's essentially a numerical adjustment. The business itself is performing well; however, our initial valuation expectations for the trade name were higher when we acquired it. We determined this quarter to slightly impair that trade name. The contingent earnout was affected by changes in circumstances at one of our subsidiaries, making it unlikely for them to achieve the earnout targets. It was structured as an all-or-nothing earnout, and this realization occurred this quarter. These events coincided but affected two different subsidiaries. They both involved selling and general administrative expenses, effectively offsetting each other, making the situation more or less a non-event.

All right. Appreciate the color, Carlos. And then maybe just the Capewell deal. I know it is not hugely material, but anyway, just to size at least from a cash usage in the fourth quarter?

I don't believe it's going to require a significant amount of cash. We primarily borrowed for the acquisition, and it should be beneficial for us. It's a profitable business that focuses on niche aviation parts and some military components. We'll have more information soon. Overall, it's a minor acquisition for HEICO, so we aren't disclosing extensive financial details. However, it won't negatively impact the segment margins.

Yes, I can tell you I'm really excited about this business, the technology, the people, and the capability. Looking at the two businesses, one is the cockpit or aircraft egress, which are critical and very cost-effective solutions. Without these solutions, if an airplane catches on fire in certain situations, the consequences could be severe. These solutions are proven and work extremely well. We are pleased to have them in the HEICO portfolio. Next time you enter a cockpit on a 737 or NG, take a quick look and you'll see our six big screens. This provides excellent visibility for the pilots and within the airline. We have received very positive responses from customers so far. They are glad that HEICO has entered this business, and we will deliver the turnaround time and quality they expect. Therefore, I am very optimistic about this.

Really appreciate it. Thank you.

And at this time, I will turn the conference back to Laurans Mendelson for any additional or closing remarks.

I believe we're experiencing a technical issue. This is Eric. I want to thank everyone for joining our third quarter earnings call. We look forward to connecting with you on our fourth quarter call at the end of December. If you have any questions, please feel free to reach out to Carlos, Victor, myself, or our dad, and we would be happy to assist you and answer any further inquiries you have. We greatly appreciate your interest in HEICO. We hope you recognize the excellent results we've shared today and look forward to a strong fourth quarter. Take care and enjoy the rest of your summer. Thank you very much. This wraps up the call.

Thank you, and thank you for your participation. You may now disconnect.