Good morning. My name is Audra, and I will be your conference operator today. At this time, I would like to welcome everyone to the Hexcel Fourth Quarter 2023 Earnings Conference Call. Today's conference is being recorded. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. At this time, I would like to turn the conference over to Patrick Winterlich, Chief Financial Officer. Please go ahead, sir.

Thank you, Audra. Good morning, everyone. Welcome to Hexcel Corporation's fourth quarter and full year 2023 earnings conference call. Before beginning, let me cover the formalities. I want to remind everyone about the safe harbor provisions related to any forward-looking statements we may make during the course of this call. Certain statements contained in this call may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. They involve estimates, assumptions, judgments and uncertainties caused by a variety of factors that could cause future actual results or outcomes to differ materially from our forward-looking statements today. Such factors are detailed in the company's SEC filings and last night's news release. A replay of this call will be available on the Investor Relations page of our website. Lastly, this call is being recorded by Hexcel Corporation and is copyrighted material. It cannot be recorded or rebroadcast without our express permission. Your participation on this call constitutes your consent to that request. With me today are Nick Stanage, our Chairman, CEO and President; and Kurt Goddard, our Vice President of Investor Relations. The purpose of the call is to review our fourth quarter and full year 2023 results detailed in our news release issued yesterday. Now let me turn the call over to Nick.

Thanks, Patrick. Good morning, everyone, and thank you for joining us today as we share our fourth quarter and full year 2023 results. Hexcel completed another solid year, with double-digit sales growth, a significant year-over-year increase in our adjusted earnings per share, and strong cash generation. Although supply chain challenges limited build rates in a number of programs from increasing as fast as we expected when 2023 began, most notably narrowbody aircraft. We continue to focus on ensuring operational readiness for the expected growth ahead. This involves training new labor across our manufacturing sites, driving operational excellence programs for yield and efficiency gains, and bringing assets online for the expected increase in demand. All these efforts will position Hexcel to maximize our margin opportunity in the coming years as build rates ramp upward. We continue to emphasize investing in employee training as we increase head count in advance of program ramps. We now have around 5,600 employees who continue to gain experience and are ready and eager for the challenges ahead. In fact, even though about one-third of our direct labor workforce has less than two years of experience with Hexcel, we just completed our safest year on record. This is an outstanding achievement, and I commend every member of our One Hexcel team for their diligence and commitment to ensuring that they and their colleagues go home injury-free every day. When you couple our legacy and lightweight products and long-term customer collaborations with a talented team driven by innovation and excellence in everything we do, it is clear that Hexcel is well-positioned to benefit as the aerospace market strengthens. Many reports now show a rebound in passenger air travel to pre-pandemic levels was achieved at the end of 2023. Hexcel advanced composite materials are squarely at the center of this recovery and are benefiting the industry and society by enabling enhanced sustainability for decades to come. Now let's turn to some specifics reported in our earnings release last night. First, I'll cover the fourth quarter results and then the full year 2023. Fourth quarter sales of roughly $457 million are 6.5% higher than Q4 2022. Adjusted diluted EPS in the fourth quarter was $0.43, up 7.5% compared to last year. Turning to our three markets. Commercial Aerospace fourth quarter sales of more than $267 million represented an increase of more than 5% in constant currency on increasing widebody sales, partially offset by lower narrowbody sales year-over-year. Other commercial aerospace increased modestly in the fourth quarter of 2023, led by continued growth in business jets. Our customers continue to ramp as fast as the complex supply chains can support. There's tremendous backlog demand for narrowbody aircraft, and the OEMs continue to work to maximize their output. The widebody supply chain is ramping up robustly, and we benefited from strong sales growth in 2023, in both the Airbus A350 and Boeing 787 programs, and we expect this growth to continue in 2024. We were pleased to see at the end of 2023, the first Airbus A321 rollout from the new final assembly line that Airbus configured in France at the former site of the A380 assembly. Airbus now has 10 final assembly lines globally for the A320 family to support their rate ramp. Now for some highlights from the quarter. With the tallest and widest cabin in business aviation, the Dassault Falcon 6X entered service on November 30, following a two-year certification achieved in August. We have great content on this new 6X platform. We're also looking forward to Dassault's introduction of the large cabin 10X, which will be the first business jet with an all-composite wing made from Hexcel materials, where we will see another significant step-up in business jet content. As you may remember from previous discussions, at the end of 2021, Hexcel transferred a significant portion of our fabrication work from our Kent Washington site to Aerospace Composites Malaysia, ACM, our 50-50 joint venture with Boeing, as we shifted toward higher complexity advanced part manufacturing at Kent. Following this transition, we determined that our ownership in the ACM JV was no longer strategic for Hexcel, and as a result, we sold our 50% interest to Boeing at the end of December. The ACM joint venture with Boeing has been a tremendous business collaboration for many years, and we thank Boeing for being an excellent JV partner, going back to the inception of the ACM plant over 20 years ago. We now wish Boeing and the ACM team great success for the future. Moving to Space & Defense. Sales in this segment hit an all-time high in Q4, exceeding $152 million or an increase of about 20% year-over-year. Growth has been particularly strong in both space and classified programs. Industrial sales of just under $38 million in Q4 were down 22% year-over-year in constant currency. Year-over-year, high-level comparisons, however, masked the growing strength in our automotive and marine markets. While our Industrial business is now smaller than it has been for some years, it remains an attractive market where we are pursuing multiple value-adding technology opportunities in a number of different submarkets. Now let's turn to our full year 2023 results. Sales were about $1.79 billion, up 13% year-over-year. Adjusted diluted EPS for the year was $1.81, up more than 41% over 2022. Adjusted operating income increased 33% to $216.7 million or 12.1% of sales. Commercial Aerospace is now 60% of our total sales. And in 2023, sales of more than $1 billion represented an increase of 17%, with growth led by widebody sales, as demand for fuel-efficient and lightweight composite aircraft, especially for international travel continues to be strong. Other Commercial Aerospace increased 14.1% for the full year of 2023 compared to the same period in 2022, driven by increasing composite adoption on large cabin business jets. 2023 Space & Defense sales of about $545 million increased almost 17% in constant currency for the full year compared to 2022. This segment represented 30% of our total sales. Growth in 2023 was across numerous programs, including fixed wing and space programs globally and helicopters in Europe and Asia Pacific. Hexcel composites are the benchmark in this market, and our products are on more than 100 programs around the world, which provides us with a diversified foundation for a strong future. Finally, Industrial sales in 2023 were $176 million, representing a decrease of approximately 13% in constant currency. Industrial sales are now about 10% of our business and are led by automotive sales, primarily in high-end sports cars and carbon fiber wheels. Marine is a market with longer-term growth potential, especially in lightweight parts, such as masks that reduce reliance on fuel and reduce emissions by large ocean vessels, including crews and transport ships incorporating wind-assisted ship propulsion. We remain very disciplined about the industrial business we pursue. Our team targets growth areas where we can differentiate our technology. Reflecting confidence in our return to growth and our capacity to generate strong cash in the coming years, the Hexcel Board announced yesterday, a 20% increase in our quarterly dividend, from $0.125 to $0.15 per share. In February, we're going to hold an Investor Day in New York and via webcast, where we will discuss our roadmap for innovation and market growth in the coming years, as well as providing our medium-term outlook for the company in relation to sales, EPS, and cash generation. We're looking forward to seeing many of you there. In the meantime, for 2024, as reported in our news release last night, we are guiding to $1.925 billion to $2.025 billion in sales, with adjusted diluted earnings per share of $2.10 to $2.30. We're also guiding to greater than $200 million of free cash flow. Further details around 2024 will be provided in our Investor Day next month.

Thank you, Nick. I want to remind everyone that most of our sales are in dollars, while our costs are a mix of dollars, euros, and British pounds due to our significant operations in Europe, which includes manufacturing and R&D. Consequently, when the dollar appreciates against the euro and pound, our sales may decrease in translation, but our costs also reduce, giving a net advantage to our margins. On the other hand, a weaker dollar negatively impacts our financial results. We manage this currency exposure over a ten-quarter period to safeguard our operating income, so the effects of currency fluctuations are reflected in our financial outcomes over time. The year-over-year sales comparisons I will share are in constant currency to eliminate foreign exchange effects. Now, looking at our three markets. Commercial Aerospace accounted for about 60% of our total sales in the fourth quarter of 2023, with sales reaching $267.5 million, a 5.3% increase from the fourth quarter of 2022, driven by robust growth in the Airbus A350 and Boeing 787 programs. However, total narrowbody sales were lower year-over-year, with declines noted in the Airbus A320neo, A320, and Boeing 737 MAX programs. The Other Commercial Aerospace segment grew by 2.3%, thanks to an increase in business jets, although softer sales in other sectors slightly offset this growth. Space & Defense made up roughly 30% of our fourth-quarter sales, amounting to $152.3 million, up 19.7% compared to the same period last year. We observed significant growth in classified programs, along with strong performance in space initiatives, including launches, rocket motors, and satellites. Additionally, sales of European military and civilian helicopters showed notable improvement. Industrial sales constituted about 10% of fourth-quarter sales, totaling $37.7 million, which reflects a 22.3% decrease from the same quarter of 2022. While the performance-oriented automotive market exhibited strong growth, this was offset by declining sales in other industrial markets. On a consolidated basis, our fourth-quarter gross margin was 22.5%, down from 23.1% from the previous year. We have invested ahead of our customer needs to support increases in aircraft production rates, which involves spending on infrastructure, hiring, and enhancing employee training. The demand for narrowbody programs has been lower than anticipated, presenting a short-term challenge, as the full costs of our expanded infrastructure have not been covered by the sales levels achieved. We expect this challenge to ease in the first half of 2024 as the narrowbody supply chain stabilizes to support rate increases. As a percentage of sales, our selling, general, and administrative expenses and R&D expenses were 11.8% in the fourth quarter, compared to 12.3% in the same quarter last year. We remain committed to managing operating costs efficiently as our revenues grow to optimize volume leverage. Our adjusted operating income for the fourth quarter was $49.1 million, or 10.7% of sales, compared to $46.3 million, or 10.8% of sales during the same period last year. The year-over-year impact of currency exchange on adjusted operating income was favorable by about 30 basis points. In terms of our segments, the Composite Materials segment accounted for 82% of total sales with an operating margin of 14.4%, up from 12.7% in the previous year. The Engineered Products segment, which includes our structures and engineered core businesses, made up 18% of total sales and had a 9.6% operating margin compared to 14.4% last year, reflecting the influence of higher infrastructure costs to support anticipated increases in narrowbody rates. Net cash from operating activities reached $257 million for fiscal year 2023, compared to $173 million in the previous year. Working capital usage was $27 million in 2023 to back higher sales, as opposed to an increase of $72 million in the prior year. Throughout 2023, we concentrated on enhancing the efficiency of our inventory, particularly by reducing buffer stock that we previously built up during global logistics challenges. We are pleased with our team's efforts, as inventory decreased by $15.4 million from the end of the third quarter of 2023. We will continue to manage our working capital closely. Capital expenditures on an accrual basis were $121.6 million in 2023, which included approximately $38 million for the Amesbury, Massachusetts property purchases. Excluding this, accrued capital expenditures for 2023 would have been around $83.6 million, an increase from $69.8 million in the prior year. Free cash flow for 2023 amounted to $148.9 million, which includes $7.5 million in dividends from the ACM joint venture sale and a $1.9 million surplus from the UK pension transaction. In comparison, free cash flow in 2022 was $96.8 million. Hexcel achieved a strong free cash flow to adjusted net income cash conversion ratio of over 96% in 2023. Looking ahead, we anticipate the conversion ratio to reach 100% or more for some time as CapEx remains low. Our strong free cash flow generation in 2023 allowed us to eliminate our revolver balance during the fourth quarter. By December 31, 2023, our net debt was $472.5 million, leading to a leverage ratio of about 1.3 times on a net debt basis. Our target for net debt leverage remains at 1.5 to 2.0 times EBITDA. I would also like to point out the strategic derisking of our balance sheet by transferring a deferred pension plan in the UK to a third-party insurer, which takes on all associated risks and liabilities. As a result of this action, Hexcel received $1.9 million in pre-tax cash, representing the surplus in the plan, along with a non-cash charge of $70.5 million due to GAAP accounting requirements. The Board of Directors declared a quarterly dividend of $0.15 yesterday, reflecting a 20% increase from the previous level. This dividend will be payable to stockholders of record on February 9, with payment expected on February 16. We did not buy back any stock in the fourth quarter, and as of December 31, 2023, the remaining share repurchase authorization was $187 million. Reflecting on our 2024 sales and adjusted diluted EPS guidance, we are anticipating a midpoint sales growth of 10.4% and an adjusted EPS growth of 21.5% at the midpoint. In our three markets, we expect Commercial Aerospace sales to rise in the mid-teens percentage-wise. We project Space & Defense sales to increase in the mid-single digits and Industrial sales to grow in the low to mid-single digits. We expect to generate free cash flow exceeding $200 million, with more details on additional financial metrics to be shared at our February Investor Day, where we will also offer our medium-term outlook.

Thanks, Patrick. As we begin 2024, we do so with the largest backlog in Commercial Aerospace history, of more than 14,800 aircraft. That currently represents almost a decade of production for the OEMs, and based on our shipset content over $9 billion of future sales to Hexcel. The demand and the need for the latest generation aircraft are quite apparent. The challenge for the industry is how fast the supply chain can ramp to meet that demand. Moreover, we recognize that a key element of the future of aerospace is lightweighting; lightweight materials for better performing, fuel-efficient, more sustainable aircraft are being pulled and driven harder than they ever have in my history with Hexcel. Hexcel has the deepest and broadest portfolio of modern advanced composites, and we are focused on delivering solutions to our customers. Our market positions, customer relationships, and sought-after technology lead our industry. Our Hexcel team is driving forward innovation to deliver lightweight and sustainable advanced composite solutions to make a better world. Everything we do at Hexcel is driven by our long-term relationships with customers who trust us to collaborate, innovate, and perform. The opportunity ahead is larger and more exciting than ever. Audra, that wraps it up for the prepared remarks. We are now ready to take questions.

Thank you. We'll go first to Michael Ciarmoli at Truist Securities.

Hey. Good morning, guys. Thanks for taking my question. I guess, Patrick or Nick, maybe, just thinking about the 2024 revenue guidance on Commercial Aero. You just did 17% growth, the guidance for mid-teens. We've got rates ramping. Obviously, MAX news is still fresh, but what would really cause growth deceleration there? And maybe could you just give us some of the expected production rates sort of underpinning that outlook by platform, if you can?

So Michael, thanks for the question. As we have exited the pandemic, clearly, the supply chain went through some challenging times with respect to deliveries, lead times, et cetera. And although those are getting better, there's still some uncertainty and some impact being driven. So I think if you look at the platforms in the commercial space, you can go down the list to A350, 320 and 220, with plans to be anywhere from 10 to 75 on the A320 in the 2026 timeframe, 14 on the 220, a similar story for Boeing getting to 10 per month on the 787 in 2025, 2026 timeframe, 50 for the 737 in the 2025, 2026 time. I think there clearly is demand for those platforms and those aircraft and their ramp rates. Again, the question we'll be working through are some near-term issues on the Boeing side, working through some continued stress and continued recovery on the supply chain. And we feel very good about our plan and the balance we put into it. And feel comfortable that we have some conservatism in there. And quite frankly, if the supply chain performs, we see a potential upside for 2024 and beyond.

Got it. Okay. Helpful. Thanks guys. I'll just stick to one. And jump back in the queue.

We'll move to our next question from David Strauss at Barclays.

Thanks. Good morning.

Good morning.

Good morning.

Nick, could you provide more details on why narrowbody aircraft were lagging last quarter, in Q3, and now down in Q4? What are you observing? Are you noticing destocking, or something else? This situation appears to be unique, as we're not hearing similar news from other companies at this time.

We’ve previously discussed the complexity of the supply chain, particularly regarding the A320, which has over 80 ship-to locations for engines, nacelles, structures, and airframes. In contrast, the 737 has about 30. This illustrates the supply chain's complexity. It’s worth noting that the A320 tends to have a higher shipset content, ranging from 200,000 to 500,000, while the 737 is at the lower end. As we entered 2023, there was an expectation that build rates would increase more quickly than they actually did, leading some in the supply chain to add buffer and safety stock to ensure they could meet customer demands. Over the year, the ramp rates did not accelerate as anticipated, and in the fourth quarter, particularly in December, some suppliers slowed down their operations to manage cash and inventory levels. Therefore, to understand what’s happening, it’s important to analyze multiple quarters rather than just looking at one to align with the original equipment manufacturers’ final assembly line activities.

Thank you for that information. I have a follow-up regarding the margin, Patrick. It seems you're projecting around a 14% margin overall for 2024. You mentioned that improvements will occur as labor is absorbed throughout the year. Could you compare that 14% to earlier estimates of close to 15% or 16%? Additionally, several years ago, at a similar revenue level as what you're anticipating for 2024, your margins were closer to 17% or 18%. Thank you.

Yes, I want to highlight one of the key differences in our year-over-year margins and total company EPS. Specifically, I want to note the $0.09 related to ACM, which will not be present moving forward. If you compare the volume projections between our guidance and the Street's expectations, there's a noticeable volume step down. When you take all of this into account, the EPS figures start to align more closely. Regarding the operating margin, I believe we're looking at a range of approximately 13.5% to 14%, which seems accurate. There are several headwinds to consider. As Nick mentioned, we began 2023 on a strong note, with optimism around narrowbody ramps and an influx of inventory. However, in the second half of the year, we saw some adjustments and a pullback. Entering this year, we couldn't pivot quickly; we have been bringing in labor and investing in infrastructure, and our lines are operational and well-maintained. We are set up for significant growth and are prepared for an accelerated ramp rate through 2024. Unfortunately, this ongoing adjustment is a headwind affecting our margins, which has resulted in us being closer to the lower end of our desired mid-teens range of 14% to 16%. We had hoped to be in the middle or higher end of that range. Additionally, some inflation we’ve experienced over the last few years persists, posing an increased challenge compared to previous margins. There has been modest inflation in labor costs, and we've seen headwinds from raw material prices and energy costs, which, while stable, haven't dropped back to pre-pandemic levels. Comparing to 2016 and 2017 margins, we currently face an additional $50 million to $60 million in depreciation, which is necessary to support the upcoming ramp. This factor alone would account for about a 200 basis point difference in our margin performance. Overall, we believe our underlying performance is trending positively. We are strategically positioned for growth, and as we advance through 2024 and into the latter half of the year, we will focus on driving our margins and leveraging our capabilities as effectively as possible.

Thank you very much.

We'll go next to Bert Subin at Stifel.

Hey. Good morning and thanks for the question.

Good morning.

Patrick, following up on that, as we look further ahead, would you say there are any structural changes in the business today that might affect Hexcel's ability to return to its previous margin profile once sales reach those levels again? You mentioned deflation as a potential challenge, along with some material costs. Are there additional factors such as product mix, competition, or changes in production capacity that could influence your outlook?

No. We are definitely working to return to our historical performance. It is taking longer than expected, which is understandably frustrating for both us and you. However, we are intentionally supporting our customers during this time. We have established the necessary infrastructure, and we are facing a headwind that was always expected to last beyond just one quarter. We are confident that as our top line grows and the ramp rates materialize, there will be no significant changes in our product mix or competitive landscape. We are just as well-positioned as we have been in the past to promote our products and achieve greater efficiency, but we need to improve our top-line revenue first. We must account for the increased depreciation I mentioned earlier and gain leverage over our overhead by achieving economies of scale. This will happen as we move through the latter half of 2024 and into 2025, allowing us to return to our historical margin levels.

Got it. Okay. As a follow-up on the Space & Defense and Industrial segments, Space & Defense had a really strong year, but there may be a slight decrease in growth. On the other hand, Industrial faced a weaker year but is showing signs of recovery. Can you elaborate on your expectations and guidance for these segments?

Yes, sure. So, in Space & Defense, I mean, 2023, quite honestly, was an extraordinary year at 17%. I'm sure that's certainly a record in my time, and I think we'd have to look back a long time in Hexcel's history to find another year of such growth. There was just very solid growth across a number of platforms. We called out helicopters. We called out the classified, a lot of one-time buys there, which really do help, and then just general strength in the fixed-wing fighter jets. So, very, very solid. Now, as we go look forward, we continue to be confident. It's a great market for us and we're driving growth opportunities, CH-53K sort of down the road, the V280, but many sort of smaller platforms as well where we can penetrate. So, we're calling mid-single-digits. We think that's sensible. Obviously, there's budget challenges and other sort of geopolitical aspects to it, which make Military and Space & Defense from time-to-time lumpy, as you know, but anyway, another solid year of mid-single-digit growth. Industrial, clearly, 2023 was a tough year. Probably the first time wind has been mentioned today. They are just mentioned that. Wind is now a much smaller sort of factor in our Industrial segment. But it's come down dramatically and perhaps a little bit faster than we even expected over the last couple of years. That really is now going to stabilize, we believe. Automotive is now our largest industrial submarket. We're seeing nice growth in high-end cars, aesthetic detail, carbon fiber wheels as I think, Nick mentioned. So, we're positive, and we see continued investments. And then around things like Marine and other pure industrial plays, we will be very focused, very targeted on value-add plays. So, we don't see the sector going down further. We don't see dramatic growth. We see some small growth ahead, but hopefully no more declines.

Thank you.

We'll go next to Ken Herbert at RBC Capital Markets.

Hi, good morning Nick and Patrick.

Good morning.

Good morning, Ken.

Hey. Maybe either one of you, I wanted to start off first. You didn't buy any of your stock in the fourth quarter. And I wanted to see that reflected just maybe uncertainty around just sort of the outlook or anything else. But I guess more importantly, can you refresh us on how you would view capital allocation here in 2024 and the potential for some more return to shareholders as you look at relatively low leverage, the significant step up cash generation, and other maybe priorities as you think about investments, working capital, etc. But how should we think about the opportunity for more capital to shareholders in 2024?

Thank you for the question, Ken. I want to clarify that our outlook is unrelated to our decision not to buy back shares in the fourth quarter. In fact, we are quite optimistic about our anticipated cash generation moving forward, which we frequently discuss with the Board regarding our priorities. I want to emphasize that our focus is on utilizing our cash primarily for organic growth. This involves investing in fiber and resin technologies and advancing weaving technologies to enhance composites, making them more attractive and manageable for a wider range of part production in the future. This ultimately leads to lower-cost, lighter, and more efficient solutions for our customers. When considering products in development, think about the new platforms, wings, and the central wing box for upcoming narrowbody aircraft, new business jets, or new commercial applications transitioning from metal to composite for weight advantages. There are numerous opportunities in new engine technologies like the Rolls-Royce UltraFan, the Rise platform, and new nacelles. Our significant presence in engine and nacelles contributes to the overall shipset value. On the military side, we are focused on technologies such as the V-280, combat drones, and next-generation air dominance, which will help us secure more content in these areas. Internally, we are concentrating on infrastructure, efficiency, and productivity by modifying our assets to enhance the utilization of our legacy assets. This strategy not only makes us more cost-effective but also allows us to postpone our capital expenditures further into the future. Improvements in factory processes and productivity remain top priorities. Organic growth is clearly our main objective. We continually assess our balance sheet, debt leverage ratio, and how we manage these effectively. Share buybacks and increasing dividends are also crucial as we consider M&A opportunities and whether they can enhance our portfolio and bolster our core competencies. Overall, this sums up our current priorities. Additionally, our new Research and Technology Center of Excellence in Salt Lake City is expanding with talented scientists and technicians. This growth is driven by an unprecedented level of customer demand for both mid-term and long-term applications. That is where we are directing our investments, Ken.

Thanks Nick. Appreciate all the color.

We'll go next to Pete Skibitski at Alembic Global Advisors.

Good morning, everyone. Patrick, I have a couple of questions for clarification. Regarding the gross margin for the fourth quarter, you mentioned labor and consistent volumes for the first half of 2023. Was there any mix issue in the fourth quarter that affected the gross margin, or was it purely due to labor? Additionally, should we expect a similar gross margin in the first half of 2024?

Yes, it's not really an issue of mix. Fundamentally, it relates more to broad overhead infrastructure costs. While labor is certainly a part of this, it also includes maintaining and operating the plant, as well as various input and support infrastructure costs. This is currently the challenge we're facing, and it's why we need to leverage volume. Regarding margins, we are expecting gradual margin growth and improved leverage on infrastructure overhead as we progress through 2024 and into 2025 and beyond. There won't be an abrupt change; rather, we anticipate a steady increase, possibly with some fluctuations, as volumes rise.

It was a great year for free cash flow, and we have a solid cash outlook for 2024. As you consider your midterm top line growth over the next two to three years regarding inventory, do you truly expect that you won't need to increase inventory during this period, even with the anticipated growth?

We'll discuss our medium-term growth in more detail in February. I'm not saying there will be no increase in dollar inventory, but we are focusing on a relative days metric, which measures how many days of inventory we are holding. We have the opportunity to reduce that and decrease the number of days. As our top line grows, we need to keep inventory growth minimal. While I’m not asserting it will be zero, it shouldn't grow significantly, especially at a much lower rate than the top line, which will improve our relative days of holding.

Okay. That's great. Thank you.

Next, we'll go to Robert Spingarn at Melius Research.

Hey, good morning. Nick, Patrick, Kurt. Nick, you talked about what I'm going to call destocking in the narrowbody business, first half of 2024. And we're going with this, it sounds like it gets better in the second half, but can we think about the de-stocking relative between Airbus and Boeing? Is it greater for Boeing, given what's going on there? And how much risk would you say we have when we think about the news that came out yesterday, I know Michael referred to this in the beginning, it is very fresh news. I'm trying to get an idea of when you will be at rate parity on these narrowbody programs?

Yes, Robert. Identifying one platform over another is less significant regarding the destocking happening in the first half of the year, and some of the second half's destocking is more influenced by the shipset content and their rates. There wasn't a standout issue. However, it's encouraging to see that shipments to China seem to have resumed and that the grounding of the Dash 9 appears to have been lifted. It seems Boeing and their supply chain are making progress and implementing enhancements to meet FAA requirements. Looking at our plan, we still feel positive about our guidance, even with the recent news, which we anticipate will continue to change. We believe we took a conservative approach in the right areas, and we're sticking to our projections.

I have a question regarding the 737 MAX 7 and 10 and the anti-icing issue waiver situation. With the nacelle and composite materials involved, I wanted to know if your team is engaged in that process. If there is a redesign, do you see it as a challenge or an opportunity?

Well, you can assume anything with our customers where we can help provide a solution we're going to be involved. So, it's really too early to say what a redesign might entail, what it might be involved with. But historically, any time there is an enhancement or a new engine or nacelle or component, there tend to be more composites involved, and we tend to get a greater portion of that. So again, it will take some time to work through the details there, and it'd be premature for me to comment on what direction that will go specifically.

Are you on the existing nacelle?

Yes.

Okay. Thank you.

You're welcome.

We'll take our next question from Gavin Parsons at UBS.

Thanks, guys. Good morning.

Good morning.

Good morning, Gavin.

If I'm interpreting it right, it seems like maybe there are three buckets of costs that are really impacting margins, right, you mentioned inflation, lower volume on narrowbody than you expected and costs ahead of growth. And I kind of wanted to focus on the last one. The press release talks about training new labor, driving operational excellence and bringing assets online. Is there a way to think about how much of that is abnormal or elevated costs versus normal course of business before the volume has come through?

Yes. I wouldn't describe any of it as abnormal. We prioritize strong support for our customers and aim to stay ahead of the ramp-up rate. However, it's challenging to assess this, particularly in the narrowbody market, which is quite erratic with complicated supply chains. We have multiple shipping points for both types of planes, making it complex, and we need to be proactive. It's about managing costs, training labor, and ensuring that our equipment is maintained and ready. Currently, while our machines are operational, they aren't fully utilized or efficient. It's essential to have the overall infrastructure in place to be prepared. After the first half of 2023, we were expecting a stronger second half than we experienced. We raised our guidance in July, perhaps prematurely, but the anticipated improvements didn't come to fruition. Nevertheless, we are now positioned to support our customers as we enter 2024. I wouldn't categorize the situation as abnormal; it reflects our preparation for future growth.

Okay. That's helpful. And then any sense you can give us about energy and raw material costs today relative to where they were pre-COVID?

Energy costs are still higher compared to pre-COVID levels, although they have decreased somewhat. They are not increasing now, except in minor areas. While they are not as low as they were before the pandemic, they are not significantly impacting us year-on-year. Regarding other raw materials, there is some inflationary pressure, but it is much less severe than what we experienced in the past couple of years with significant challenges. We still have elevated costs, but they are not rising. Commodity-type raw materials have improved a bit, which is beneficial. Some other costs are more persistent, but they are also not increasing.

Okay. Thank you.

Next, we'll go to Noah Poponak at Goldman Sachs.

Hey, good morning, everyone.

Good morning, Noah.

Good morning, Noah.

Are Boeing or any of the Tier 1 suppliers on the MAX that you sell into, communicating any change to the master schedule through the year to you at this point?

We primarily collaborate with the OEs regarding rates. While we observe signals from the supply chain, they do not offer guidance. I can say that Boeing remains closely aligned with us, and they keep us updated regularly.

Okay. Fair enough. On the widebody side, and equally complex supply chain, but also fewer units. And those facilities sort of look very ready to go to higher rates, and the order pace there has been surprisingly strong. I guess, what are the prospects for getting to the planned rates faster or going higher than you recently were thinking on the widebody side?

Yeah, Noah. So again, if you look at the widebodies and how they've ramped since 2021, how smoothly they've ramped without issues, granted lower volume, but scale much larger. We have great confidence. We're not seeing or hearing anything that indicates that there's going to be bottlenecks or challenges. Obviously, time will tell and we'll stay aligned with our customers. But we're very optimistic and very bullish on, number one, all the orders that are coming in on widebodies as well as the expected ramp rates over the next two to three years.

Okay. And then just lastly, in your Defense business, the growth rate is just kind of step function higher. I know you talked about that being diversified, but I guess I'll just ask again to try to better understand it. Is there any one mean program driver? Is that the Floral lamp? What's behind that kind of tripling of the growth rate?

Hi, Noah. I’ll take that question. It's definitely not the main focus at this point; that's likely a few years away from having any real effect. Our primary driver has been the CH-53K over the past two to three years, and it will continue to be a significant focus. We have strong content, with chipset revenue between $2.5 million and $3.5 million from that platform, and we're still adding new elements and expanding our involvement. This is probably the most important program to highlight. Additionally, we've seen some growth in Europe recently, particularly in 2023, which is encouraging for us. We're involved in numerous programs, making it challenging to pinpoint one specific driver, but I want to emphasize the CH-53K, the positive developments in Europe, and the overall good momentum. Also, 2023 was remarkable, with a 17% growth in Space & Defense. We’re expecting growth to moderate to mid-single digits moving forward, and we'll do our best, but 2023 was truly exceptional.

Okay. Thank you.

Thanks, Noah.

And we'll take our final question today from Myles Walton at Wolfe Research.

Thanks. Good morning. I was wondering if you could say whether or not the level of composite materials, Commercial Aerospace sales was about what you expected, or is it a situation where the pull is just not coming through in real-time, or are you just seeing it and you have the ability to see that it's slow, you hope it gets better, but just trying to reconcile those two.

I think there's nothing that really surprised us other than what we've mentioned, and that's around the narrowbodies and the ramp being more challenged than what we expected when we entered the year. And again, not knowing all the issues that are driving that. I can tell you, it's not Hexcel's capability or capacity. We have not been a bottleneck for our customers. But clearly, there are supply chain and/or internal challenges that just prevented those rates from getting where we expected. Other than that, Myles, I think we've got very good visibility. I believe the supply chain is improving. I believe the narrowbody rates are going to increase. There may be some bumps in the road, but we cannot be caught short. We will not be caught short. And that's what's driving the pre-investment, the pre-training, to make sure we deliver to our highest potential here in the coming quarters and years.

Is it fair to think that you've done the hiring that you did for 2024 and 2023 already, given what you experienced?

In certain areas, we have; there certainly will be additional hiring, but the scrutiny and the focus the team has on getting the line efficiencies. Again, remember, we've got multiple lines and we've been bringing them up, and that takes more headcount, and with the amount of direct labor that has minimal experience, it just takes a little bit more to get that efficiency where we're accustomed to back to pre-pandemic levels. Clearly, we're confident that it's going to come, and we will get there, and we're working to make that happen as fast as possible. But it's not a step change. You'll grow into it, and I like the trajectory. I like where we are on the efficiency gains I'm seeing in the plant. And I know the team will do the right thing on managing the cost going forward.

Okay. Thank you.

Thanks, Myles.

And this concludes today's conference call, I want to thank you for your participation. You may now disconnect.