ESCO Technologies - Earnings Call - Q4 2025

Transcript

Operator (participant)

Okay, thank you for standing by. Welcome to the fourth quarter 2025 ESCO Technologies earnings call. At this time, all participants are on a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star 11 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 11 again. Please be advised that today's conference is being recorded. On the call today, we have Bryan Sayler, President and CEO; Chris Tucker, Senior Vice President and CFO. Now, I'd like to turn the conference over to our first speaker today, Kate Lowrey, Vice President of Investor Relations. Kate, you now have the floor.

Kate Lowrey (VP of Investor Relations)

Thank you. Statements made during this call, which are not strictly historical, are forward-looking statements within the meaning of the safe harbor provisions of the federal securities law. These statements are based on current expectations and assumptions, and actual results may differ materially from those projected in the forward-looking statement due to risks and uncertainties that exist in the company's operations and business environment, including, but not limited to, the risk factors referenced in the company's press release issued today, which will be included as an exhibit to the company's Form 8K to be filed. We undertake no duty to update or revise these forward-looking statements except as may be required by applicable laws or regulations. In addition, during this call, the company may discuss some non-GAAP financial measures in describing the company's operating results.

A reconciliation of these measures to the most comparable GAAP measures can be found in the press release issued today and found on the company's website at www.escotechnologies.com under the link Investor Relations. Now, I'll turn the call over to Bryan.

Bryan Sayler (President and CEO)

Thanks, Kate, and thanks, everyone, for joining today's call. We are pleased to meet with you this afternoon to discuss our fourth quarter results. By any measurement, we finished the year strong and closed out another great year at ESCO. Q4 was the first full quarter to include the Maritime business, which had impressive performance leading to a significant impact on our top and bottom line results. In addition to Maritime's contribution, we delivered 8% organic sales growth in the quarter. This top-line sales growth combined with 100 basis points of adjusted EBIT margin expansion at the bottom line to drive a 30% year-over-year increase in adjusted earnings per share from continuing operations to a record $2.32 per share. 2025 was a truly transformative year for ESCO. The successful acquisition of Maritime and the divestiture of VACO were both pivotal steps in the evolution of our portfolio.

We now have an expanded presence in the Navy market, offering a broader suite of products across both U.S. and U.K. platforms. With our exit from the space market, our A&D segment now has a sharper focus on serving the aerospace and Navy end markets, both of which present durable, long-term growth opportunities. Our exceptional financial results this year are a testament to the dedication and expertise of our global team. I want to extend my sincere thanks to everyone at ESCO for their hard work and dedication throughout the year. Their commitment enabled us to deliver outstanding operating performance during a period of significant change. Chris will take us through all of the financial details in the quarter, but before we do that, I want to give you a few comments on each of our segments. Let's start with aerospace and defense.

We remain positive regarding the long-term outlook for both the aircraft and Navy markets. We see fundamental drivers across both of these markets and expect increasing production rates to drive growth going forward. We continue to see positive momentum on the Navy side, as in addition to contribution from Maritime, organic sales were up 53% in the quarter and 24% year-over-year. Our U.S. and U.K. customer bases are highly focused on increasing build rates for submarines, and we see the benefits from this in our sales and our order rates. We continue to be very pleased with the Maritime acquisition, which has started off 2026 very well, already booking over $200 million in orders in the first month of the new fiscal year. We've been anticipating these orders, and it's been a really nice way to start off the new year.

In aerospace, revenue was up over 10% in the quarter and 14% year-over-year. It's been good to see Boeing successfully ramp up production and to get approval to take 737 build rates up to 42 per month. As we all know, the end market demand is there, and their customers really need more planes. We remain positive on the long-term outlook in the aircraft end markets. Switching over to the Utility Solutions Group, which had a solid quarter highlighted by record orders of over $100 million and a 29% adjusted EBIT margin. Sales growth was a little lower this quarter due to policy headwinds in the renewables market, but Doble's revenue was up over 7% over the prior year. As we have discussed previously, there are many factors driving the increase in electricity demand, and utilities need to both maintain and expand the grid.

On the Doble side, revenue will vary from quarter to quarter, but the long-term growth drivers remain firmly in place. The renewables market is recalibrating right now as developers focus on completing current projects as tax credits sunset under the new legislation. This has slowed growth domestically in the near term, but we continue to believe that longer-term renewables are a cost-competitive source of generation, and we think that long-term utilities will favor a mix of generation sources and that renewables will continue to have a vital role to play as utilities work to meet increasing demand for electric power. Finally, I'll touch on the test business, which had a really nice fourth quarter with 10% revenue growth and a high teens EBIT margin. For the year, it was great to see a rebound in orders, which were up 25% over the prior year.

One of the strengths of our test business is the diversity of the end markets that it serves. With the exception of wireless, we are now seeing strong activity across all of our test and measurement and shielding industrial markets. The key takeaway here is that the test business has stabilized, and we feel good about their trajectory as we move into 2026. In summary, we're excited about the future as we continue to see robust growth drivers across our core aerospace, Navy, and electric power markets. Supported by record backlog, a strong balance sheet, and entrenched positions in our served markets, we are well positioned to deliver continued value for our shareholders. With that, I'll turn it over to Chris, who will run you through all of the financial details for the quarter.

Chris Tucker (SVP and CFO)

Thanks, Bryan. Everyone can follow along on the chart presentation. We will start on page three, which shows the financial highlights for the quarter. The bar chart on page three illustrates that this was a strong quarter for ESCO. You'll see as we go through the results a recurring theme of the Maritime acquisition having a sizable impact, but also seeing strong underlying performance from core operations. Beginning with orders, which increased by 30% on a reported basis and delivered organic growth of 13%. Sales for the quarter were $353 million, which represented 29% growth, and organic growth came in at 8%. For orders and sales, you can see it was a great quarter. Moving to profitability, adjusted EBIT improved by 100 basis points to 23.9%, and adjusted earnings per share increased by 30% to $2.32.

Next, we'll go through the segment highlights, starting with aerospace and defense on chart four. Orders were quite good, with growth of 60% on a reported basis and organic growth of 12%. In total, we delivered $142 million of orders, which led to ending backlog of just over $800 million, a good indicator of future growth for the business. Sales for A&D in the quarter came in at just over $170 million, or growth of 72% on a reported basis, and organic growth was 13%. Organic growth was driven by growth in the commercial aerospace and Navy end markets. Adjusted EBIT grew by nearly 63% in the quarter, and margins came in at 28.6%. Margins were down slightly from last year's record level in Q4, as we saw slight dilution from the Maritime acquisition and core margins down 80 basis points compared to last year's fourth quarter.

Moving to the next chart, we have the Utility Solutions Group, which once again saw good order activity and delivered 17% growth compared to last year's fourth quarter. The order growth was driven by Doble, which saw strength across the business. Backlog for the Utility group ended at just over $143 million, which represents a growth of 20% compared to prior year-end. Sales growth was more muted, with 2% growth in the quarter. Once again, the growth came from Doble, which was up 7%, while NRG was down 20%. Bryan mentioned this in his comments, but we've continued to see the renewables market scuffle a bit throughout 2025. Margins were very good for the Utility business in the quarter, with adjusted EBIT increasing 12% and adjusted EBIT margins expanding by 270 basis points to 29.1%.

This is a great performance as price increases, favorable mix, and good cost containment all contributed to the margin result. Moving to chart six, we have the test business. Order activity here was solid, with growth of 6%. This business ended the year with $187 million of backlog, so it's been a nice year of recovery here and great to see the backlog up nearly 20% compared to September of last year. Sales growth was strong in the quarter, with a 10% increase to $72 million. Adjusted EBIT margins came in at 17.5%, a reduction compared to last year's record quarter. This unfavorable mix and inflation were more than offset by leverage on the sales growth. Next is chart seven, where we show full-year results for continuing operations.

The data here is impressive, with strong double-digit performance on all key metrics, demonstrating the strength of our core portfolio and the clear benefits of the Maritime acquisition. You can see the note at the bottom highlighting that we have achieved record performance in 2025 on all key metrics. Orders finished in excess of $1.5 billion, growth of over 56%. Organic order growth was 11%, with double-digit organic order growth from the utility and test businesses. Reported sales increased 19% to nearly $1.1 billion, with A&D and test both delivering double-digit organic sales growth. On the profitability side, adjusted EBIT margin improvement was significant, with 20.3% representing an increase of 180 basis points. All three businesses delivered increased adjusted EBIT margins in 2025. This led to adjusted earnings per share of $6.03, representing growth of 26%. Next is chart eight with our cash flow highlights.

ESCO had a breakout year in operating cash flow, delivering just over $200 million from continuing operations, which compares to nearly $122 million in the prior year. Earnings growth and good working capital performance drove the 2025 increase. The teams across ESCO have focused sharply on working capital improvement, and we are starting to see nice benefits from that activity in our operating cash flow results. Capital spending increased to just over $36 million in 2025, as we saw modest increases from all three segments. We finished the year with an EBITDA to net debt ratio of 0.56 times, as we saw strong cash generation and also proceeds from the VACO divestiture facilitate a large debt paydown during the fourth quarter. Our last chart is number nine, which contains our fiscal 2026 guidance.

We are expecting to show another strong year financially, with reported sales growth in a range of 16%-20%. This is comprised of 6%-8% organic growth from our A&D businesses and maritime revenue in the range of $230 million-$245 million. For the utility group, we expect growth of 4%-6%, which includes Doble growing in a range of 6%-8%, partially offset by NRG. For test, we expect top-line growth to be in the range of 3%-5%. Additionally, we expect nice improvements from adjusted EBIT and adjusted EBITDA margins to drive overall adjusted earnings per share to a range of $7.50-$7.80, which would represent growth of 24%-29%. The bar charts at the bottom here show a real nice trend for ESCO on sales and adjusted earnings per share growth.

The four-year compound annual sales growth through 2025 is 16%, and the adjusted earnings per share CAGR is 27.5%. The company has delivered very well, and we feel strongly that 2026 will continue these great trends. That completes the financial summary, and now I'll turn it back over to Bryan.

Bryan Sayler (President and CEO)

Thanks, Chris. As you've heard from our commentary, FY25 was a great year, and ESCO's future remains bright as we continue to see a path for value creation and enhancement as we move forward. With that, we are finished with our prepared remarks, and we'll turn it over to Q&A.

Operator (participant)

Thank you. Ladies and gentlemen, as a reminder to ask the question, please press star one-one on your telephone. Then wait for your name to be announced. To withdraw your question, please press star one-one again. Please stand by while we compile the Q&A roster. Our first question comes from the line of Tommy Moll with Stephens. Your line is open.

Good afternoon. This is Zack on for Tommy, and thank you for taking my questions.

Bryan Sayler (President and CEO)

Hi, Zack.

Could you please give context on how we should think about growth rates and margin trends at the segment level going forward?

Yeah. If you look at the guide we had in there, I mean, we've got the A&D business on a core basis growing in that 6%-8% range, and then we've got the maritime addition on top of there. We've got what do we have for Doble? 6%-8%. 6%-8% for Doble, and then 3%-5% for test. We would expect margin improvement from all three of the segments next year. I would say generally, we see 26% as kind of on-trend with how we've communicated where the businesses all have been kind of running for the last couple of years and kind of where we are in the cycle.

Awesome. Thank you. Can you please give an update on the integration of SM&T? Obviously, there was a delay getting the deal closed, but since the close, are you tracking ahead or behind what you had planned?

Yeah. I'd say that in terms of the cultural integration and financial integration, operations, and all that stuff, I think we're on plan, maybe just a little bit ahead of plan. I would say things are going very, very well on that front. In terms of financial results, I would say that the Maritime business is ahead of what we originally communicated when the deal was announced. We had some—I would say we were prudent and gave the advertised plan a little bit of a haircut. As we've gotten through the regulatory approval and into the business, what we found is that they're actually performing at or above their originally advertised plan. That has been a very welcome result. Since then, we've had some real positive new order activity in the fourth quarter and just here in the early innings of the first quarter of 2026.

Yeah, we would say that everything's going great here and probably better than we had expected.

Good to hear. That's all I had, and I'll turn it back.

Operator (participant)

Thank you.

Bryan Sayler (President and CEO)

Thanks, Zack.

Operator (participant)

Our next question comes from the line of John Tanwanteng with CJS Securities. Your line is open.

Jonathan Tanwanteng (Managing Director)

Hi. Good afternoon. Thank you for taking my questions. Really nice quarter and outlook. Really great job there. I was wondering if you could expand on the previous comment. I think you said something about $200 million in ESCO maritime orders. What programs were those associated with, number one? How are you, number two, thinking about growth going forward for that business that you've acquired?

Bryan Sayler (President and CEO)

Yeah. The $200 million, it was more than $200 million, but it came in in the first quarter. John, it's in the U.K., and we're operating under a little bit of a different security scheme there. We're not going to be able to give precise details on programs and contexts and things like that. Suffice it to say that these were U.K. submarine-related programs.

Jonathan Tanwanteng (Managing Director)

Okay. Great. Can you disclose what timeframe those are supposed to revenue over?

Bryan Sayler (President and CEO)

Yeah. Those will run out for over two years, John. We'll start to book a little bit of revenue in, let's say, the second, third quarter, and then we kind of start to ramp it a little bit in the fourth, and it would run out through 2027 and beyond. Those are long-term programs.

Jonathan Tanwanteng (Managing Director)

Got it. Thank you very much. Just on the aerospace side, are you expecting any headwinds from just the canceled flights you've been seeing with the shutdowns in the TSA, excuse me, the ATCs? Is that not really significant for you, number one? Number two, as you look into 2026, that 6%-8% growth rate, can you just tell us maybe what the underlying assumptions are, especially with the build rates at the OEMs going up as much as I think they're forecasting?

Bryan Sayler (President and CEO)

Sure. Yeah. On the shutdown, we really didn't see any impact from the shutdown, and certainly not in the aircraft manufacturing or MRO space. We are thinking that that's going to move forward without any delay. Overall, I think you asked us about the 6%-8% at Doble. What we're seeing there is continued strong spending from the utilities that are really focused on grid infrastructure. It's less about the AI piece, and it's way more about the reliability and maintaining their existing aging assets. That spending is really up. We had a record fourth quarter of orders, and here in the early part of the first quarter, it looks like that trend is continuing. We feel pretty good about the Doble business.

I think the challenge here is that the renewable side of the business is definitely seeing a little bit of a challenge as we move forward.

Jonathan Tanwanteng (Managing Director)

Got it. I think I might have misspoke. I was referring to the 6%-8% in.

Bryan Sayler (President and CEO)

For aircraft?

Jonathan Tanwanteng (Managing Director)

For aircraft, yes.

Bryan Sayler (President and CEO)

Yeah. What's happening there is we're seeing really good growth in the build rates for the various platforms that we're on. I would say from our perspective in particular, we're seeing growth on 787. We're seeing growth on 737. We are seeing broad-based growth. We are seeing some military content that's coming through to our benefit. There's more F-15s, some of the newer sixth-generation platforms. All of that stuff is really working to our benefit in the aircraft business.

Jonathan Tanwanteng (Managing Director)

Okay. Great. Thank you.

Operator (participant)

Thank you. Ladies and gentlemen, as a reminder to ask the question, please press star one-one on your telephone. We have a follow-up question from the line of Jon Tanwanteng with CJS Securities. Your line is open.

Jonathan Tanwanteng (Managing Director)

Hi. I was just wondering if you could expand on the energy business a little bit. Do you see an inflection point at some point, or is there might be further downside as companies digest what the new policy is and maybe weigh it out a little bit? Yeah.

Bryan Sayler (President and CEO)

I think it's yeah. Our assessment is following. I don't think it's a big secret that the Inflation Reduction Act in 2022 really kind of turbocharged that entire industry. We were seeing 25% and 30% growth rates in 2023, 2024. With the new administration coming in, they've kind of certainly got a different perspective. With the one big beautiful bill, the tax credits that were driving a lot of that activity are set to expire, I think, mid-next year. What we're seeing from the developers there is really kind of a focus right now on trying to get everything that they currently have under construction qualified for those tax credits. The fundamentals of renewable energy relative to other forms of energy are still pretty positive from a cost and availability perspective.

Right now, the focus is really on those existing programs. What we think is going to happen is there's going to be a downstroke for the industry broadly this year. Beginning, let's say, call it this time next year, I think we would begin to see a little bit of a turn back to what I would call normal growth. That would be high single-digit growth. It's really driven by the fact that we just need a lot more generation than people are going to be able to get built out of natural gas, given all the constraints of that industry. The solar in particular, pretty affordable. I think domestically, terrestrial wind is going to be very challenged in the current environment, but internationally, it's still a pretty thriving business.

John, remember, we did not have any exposure in our business to any of the offshore wind stuff or any of the rooftop solar. That is a lot of carnage in those spaces today. Listen, we think our business right now is very well managed. We have been able to maintain margins, and we believe even though our top line is down a little bit, we think we are taking market share in a down market. We are going to be well positioned to kind of take advantage of that normalized growth when it returns in 2027.

Jonathan Tanwanteng (Managing Director)

Got it. Thank you. Last one from me. Just any thoughts on capital allocation from here? Looks like you're generating really solid cash flow. It looks like you'll have the debt from Maritime paid off in about a year. What are your priorities at this point?

Bryan Sayler (President and CEO)

Yeah. Yeah. Listen, we've been successful with the acquisition of Divestiture and put ourselves right back in a position where we've got a tremendous balance sheet and a lot of firepower. We are very active in the M&A space. I don't have anything to announce, but I would say that the M&A market has significantly improved in the last half of the year. There's definitely a lot of very attractive assets that either are coming to market or are rumored to be coming to market here in the early next year. We're looking at those things carefully. I want to be clear that we're going to continue to be pretty disciplined about this stuff. We really are most interested in businesses that would fit squarely into our aerospace, our navy, or our utility end markets.

The reason for that is because we assess that those markets have, first of all, we understand them, but second of all, we assess that those markets have very durable, long-term secular growth characteristics that provide us a really good opportunity to really grow a business like that added to our portfolio. That is kind of our focus. We've got the balance sheet to go do it, and we're starting to build that pipeline up again.

Jonathan Tanwanteng (Managing Director)

Okay. Great. Thank you again.

Operator (participant)

Thank you.

Jonathan Tanwanteng (Managing Director)

Thank you, John.

Operator (participant)

Ladies and gentlemen, I ensure no further questions in the queue. I will now like to turn the call back over to Bryan for closing remarks.

Bryan Sayler (President and CEO)

Thanks, everyone. Again, a really tremendous year, transformational. One more shout-out to all the employees of ESCO who really have made this possible. It's been a lot of work, but our team is good at their jobs, and we've been very, very successful, and we'll continue to be in the years to come. Thanks a lot.

Operator (participant)

Ladies and gentlemen, that concludes today's conference call. Thank you for your participation. You may now disconnect.