Graham - Q4 2023
June 8, 2023
Transcript
Operator (participant)
Greetings, welcome to the Graham Corporation Fourth Quarter 2023 financial results conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation.
If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Deborah Pawlowski, Investor Relations for Graham Corporation. Thank you. You may begin.
Deborah Pawlowski (Investor Relations)
Thank you, Christine. Good morning, everyone. We certainly appreciate your time today and your interest in Graham Corporation. Here with me on the call are Dan Thoren, our President and CEO, and Chris Thome, our Chief Financial Officer. You should have a copy of the fourth quarter fiscal 2023 financial results, which we released earlier this morning, and if not, you can access the release on our slides, on our website at ir.grahamcorp.com.
You will also find on our website the slides that will accompany our conversation today. Dan and Chris are going to provide their formal remarks, after which we open the line for questions. If you will turn to Slide 2 in the deck, I'll read you the safe harbor statement.
You should be aware that we may make some forward-looking statements during the formal discussion as well as during the Q&A session. These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what is stated here today. These risks and uncertainties and other factors are provided in the earnings release, as well as with other documents filed by the company with the Securities and Exchange Commission. You can find those documents on our website or at sec.gov.
During today's call, we will also discuss some non-GAAP financial measures. We believe these will be useful in evaluating our performance. However, you should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP.
We have provided reconciliation of non-GAAP measures with comparable GAAP measures in the tables that accompany today's releases and Slides. We also use key performance indicators to help gauge the progress and performance of the company. These key performance metrics are orders, backlog, and book-to-bill. They are operational measures, and the company's methodology for calculating these numbers does not meet the definition of a non-GAAP measure, as that term is defined by the SEC.
A quantitative reconciliation of each of these is not required or provided. You can find the disclaimer regarding our use of key performance metrics at the back of our deck in the supplemental Slides. With that, please advance to Slide 3, and I'll turn the call over to Dan to begin.
Daniel Thoren (President and CEO)
Thank you, Debbie. Good morning, everyone. We made excellent progress with our strategy in fiscal 2023. We stabilized our vacuum and heat transfer technology business in Batavia, expanded our turbomachinery operations in Denver, and further diversified our revenue with more defense, space, and new energy business.
We had record revenue of $157 million for the year, a 28% increase over the prior year. This included about $8.9 million of acquired revenue. Our revenue growth reflected the success we have had with diversifying our markets.
Defense was 42% of total revenue, our refining and petrochem markets combined were 31% of revenue. Space grew to 13% of revenue for the year, our other market category, driven by new energy, was 14% of sales. We are excited about the many opportunities we see in new energy.
The hydrogen market is developing quickly, and we provide both turbomachinery and heat transfer equipment for these applications. Another interesting market is lithium extraction from geothermal brine. We have historically provided surface condensers for geothermal power plants, but the added value of lithium extraction to the process is driving more investment into geothermal projects.
We ended the year on a strong note, with orders of $50.8 million in the fourth quarter and a record $202.7 million of orders for the year. Fourth quarter orders included the $23 million follow-on to provide power hardware for the Mark 48 torpedo. Book-to-bill for the quarter and the year was quite healthy at 1.2 and 1.3x, respectively. We continue to strengthen our operations, improve productivity, and deliver better gross margins. A better mix of business also helped.
Gross margin was 16.2% for the year, compared to just 7.4% last year, due to the impact of cost and labor overruns on our U.S. Navy programs. As we complete the remaining two first articles from orders received several years ago, and as we have more revenue from better priced contracts, we expect margins to further expand.
We aren't stopping there, though, as there is still much more work to be done to drive operational excellence, which I'll discuss after Chris presents our financials. One other topic I would like to address is related to a large space customer that filed for bankruptcy during the quarter. It was a disappointment, to say the least. This had a net impact of about $2.5 million on our results, or approximately $0.19 per diluted share.
I was very pleased at the outcome for the year, as we were able to achieve our Adjusted EBITDA guidance provided at the beginning of the year, despite this event, and it exceeded our raised revenue guidance. With that, let me turn it to Chris to go into greater detail on the results. Chris?
Christopher Thome (CFO)
Thank you, Dan. Good morning, everyone. If you turn to Slide 4, you can see that we had strong organic sales growth for our fourth quarter fiscal 2023, with record sales of $43 million. This was up roughly 8% over the prior year period, as well as the trailing third quarter. Our space market led the way with $6.9 million in revenue, which was up $4.6 million year-over-year.
This 200% increase was due to growing demand from several key industry customers, some which have multiple programs with us in this expanding market. Aftermarket sales to the refining and petrochemical markets increased 45% to $7.1 million, or 17% of total revenue. Although aftermarket was up, refining sales were down $4.2 million.
This reflects both lower capital projects in this market as well as tough comparables due to timing, as last year's fourth quarter had the benefit of a major project in India. We continue to be encouraged regarding the opportunities in the refining market, given the continued strength in aftermarket demand and the activity with our customers.
While defense sales were flat year-over-year, they were still very strong and represented 44% of our quarterly revenue, and at $18.9 million, was the second-highest quarter for fiscal 2023. For the quarter, sales in the U.S. were up 9% and represented 83% of our sales. International sales accounted for 17% of total sales and were 5.5% higher than last year.
Gross profit and margin improved measurably over last year, given our much-improved execution on our U.S. Navy projects related to our vacuum and heat transfer business in Batavia. We also benefited from higher volume and pricing, as well as improved mix with strong space and aftermarket sales.
This more than offset the $800,000 net impact to gross profit related to reserves for one of our space customers' bankruptcy that Dan discussed. Selling, general, and administrative expenses in the fourth quarter of fiscal 2023 were $7.5 million, up $1.4 million over the prior year. The increase was the result of $1.7 million in reserves related to our space customer, net of the associated performance-based compensation.
Excluding the impact of this bankruptcy, SG&A improved to 13.7% of revenue, compared with 15.4% in the fourth quarter of fiscal 2022, and reflects our improved fiscal discipline and cost containment measures. If you will turn
to Slide 5, you can see we had a net loss in the quarter of $0.05 per diluted share, or $481,000. On a non-GAAP basis, which adjusts for amortization of intangibles, adjusted diluted net income and net income per share were breakeven. The net impact related to our space customer had an approximate $0.19 per share impact on diluted earnings per share in the quarter and was not added back in the computation of our adjusted amounts.
Adjusted EBITDA was $1.2 million for the quarter, which was 200% higher than last year's fourth quarter of $400,000. I will remind you that last year's fourth quarter was impacted by higher costs associated with the investments we made to ensure we could meet our commitments for our strategic U.S. Navy programs, which is now paying dividends.
Turning to Slide 6, I will now touch on our full year results. As Dan mentioned, fiscal 2023 sales grew by 28% to a record $157.1 million, with all markets and regions showing growth. We are extremely happy with this result, as it was above the high end of our guidance that was raised last quarter.
Sales to the space industry increased 269%, or $15.4 million, to $21.2 million, and represented 13% of total revenue. Additionally, aftermarket sales to the refining and petrochemical markets increased 26% to $24.9 million.
Sales in the U.S. increased 30% to $127.5 million and were 81% of total sales for fiscal 2023. Given our shift over the last couple of years to become much more of a defense business, our geographic mix of revenue is now more heavily weighted in the U.S. International sales were also up, increasing 18% to $29.6 million. Year-over-year, gross margin improved 880 basis points to 16.2%.
This reflects an improved mix of sales related to higher margin projects, such as commercial space and aftermarket, and improved execution and pricing on our defense contracts. These increases were partially offset by the $0.8 million net impact related to our space customer.
Gross profit in fiscal 2022 included an estimated $10 million impact related to labor and material cost overruns for first article U.S. Navy projects. In fiscal 2023, we completed four first article U.S. Navy projects, which were the source of these losses, and remain on schedule to complete our remaining two first article projects by the end of the second quarter of fiscal 2024. SG&A expenses in the full year of fiscal 2023 were $24.2 million, including intangible amortization of $1.1 million, an increase of $2.9 million or 13%.
The increase reflects the $1.7 million net impact related to our space customer and $1.4 million incremental SG&A expense from the acquisition, given the two additional months of Barber-Nichols operations in our current year results.
Offsetting these increases were improved financial discipline, as well as cost containment measures, such as the reduction of outside sales agents and delayed hiring of non-critical positions, as well as the elimination of $0.6 million in acquisition and integration costs incurred last year. GAAP net income and net income per diluted share were $0.4 million and $0.03, respectively. On a non-GAAP basis, adjusted net income and adjusted diluted net income per share were $2.5 million and $0.24, respectively.
Turning to Slide 7, you can see how we are improving our balance sheet through improved profitability and fiscal discipline, all while deleveraging and investing for the future. Cash and cash equivalents on March 31, 2023, were $18.3 million, up $1 million compared with the end of the third quarter, and up $3.6 million from the end of fiscal 2022.
Cash generated from operations in the fourth quarter was $5 million and $13.9 million for the year. I should point out that cash flows for the year reflect the impact of $13 million of customer deposits received from materials related to larger defense contracts. Going forward, we expect our cash flow to be lumpy due to the nature of these large contracts.
Capital expenditures for the fourth quarter of fiscal 2023 were $1.4 million and were $3.7 million for the year, or 2.4% of sales. This elevated level reflects our expansion and productivity improvement initiatives, which will support our organic growth, which will support our organic growth opportunities.
This strong cash generation allowed us to reduce our debt by $6.6 million during the year, our leverage ratio is, as calculated in accordance with the terms of our credit facility, was 2.1x at year-end. At March 31, 2023, the amount available under our revolving credit facility was approximately $10 million, providing us ample liquidity to support our strategic investments. If you will now turn to Slide 8, I'll review our orders for the quarter and the year. We had orders of 40 point... Sorry.
We had orders of $50.8 million in the quarter, which were up $27.2 million or 115%, included the previously announced $23 million follow-on order for the MK 48 Mod 7 Heavyweight Torpedo, and a $5 million order for a vacuum system for geothermal and lithium power production.
Aftermarket orders for the refining and petrochemical markets were $11.5 million in the fiscal 2023 fourth quarter, an increase of 37%. The aftermarket business tends to be a leading indicator of future capital investments by customers in these markets. For the year, orders reached a new record of $202.7 million, driven by our defense business that was up $53.5 million to $116.7 million. This represented 58% of total orders for the year.
We believe these record orders validates the investments we made, our customers' confidence in our execution, and the success we are having in winning new business across our diversified markets. This is not to discount demand growth in our other markets, including space and new energy, as well as aftermarket demand in our refining and petrochemical markets, which we are also excited about.
Aftermarket orders were up 34% for the year to $40.6 million. If you turn to Slide 9, we show our backlog, which, given the heavy weighting now to defense, provides us with strong visibility. Backlog at fiscal year-end was up 18% to $301.7 million, compared with the end of fiscal 2022. I should point out that there are no orders in backlog related to the space customer who filed for bankruptcy.
Approximately 50%-55% of orders currently in backlog are expected to convert to sales in fiscal 2024, giving us strong confidence in our ability to deliver on our revenue and margin guidance. Approximately 25%-30% of backlog is expected to convert to sales in fiscal 2025 and primarily relate to the defense industry.
Turning to Slide 10, we can review our guidance for fiscal 2024. We believe revenue will be between $165 million-$175 million, which suggests top-line growth over fiscal 2023 of about 8% at the midpoint of that range. This is right in line with our long-term strategy to grow revenue 8%-10% per year.
These expectations, as well as the results for fiscal 2023, allow us to raise our fiscal 2027 revenue goal, which is now expected to exceed $200 million, the target just set a year ago. From an Adjusted EBITDA perspective, we expect $10.5 million-$12.5 million for next year, which suggests an Adjusted EBITDA margin of about 6%-7%.
I should point out that these adjusted measures exclude approximately $2 million-$3 million related to the Barber-Nichols acquisition earn-out bonus, as well as $0.5 million-$1 million of planned ERP implementation costs for our vacuum system and heat transfer operations in Batavia. We will still be impacted in the year by the first article in lower margin projects that we entered into several years ago.
As those roll out and we start to work on our better price contracts employing our improved processes, we expect margins to expand more meaningfully in fiscal 2025 and beyond to achieve our low to mid-teen Adjusted EBITDA margin goal. With that, I will pass the call back to Dan.
Daniel Thoren (President and CEO)
Thank you, Chris. Let's turn to Slide 11. We continue to evolve our strategy as we advance the organization through steady growth and stronger profitability. Our vision is to build an exceptional company that provides mission-critical, high-compliance products to diverse markets. We believe we can succeed with our highly skilled workforce that is fully engaged because of our open culture that challenges each of us to do our best and aligned with our customers' engineering expertise, responsive service, and timely deliveries.
Our focus is on serving markets where our technology is critical to the success of our customer's process or application. This is how we have succeeded over time with our vacuum and heat transfer technology, as well as our turbomachinery equipment. Think about the critical nature of our vacuum system on a refinery's distillation column. If it doesn't work, the output of the refinery is severely compromised.
Similarly, failure of a torpedo propulsion system in an ocean conflict could be catastrophic. Space communication satellites quit working if our thermal management pumps fail. Our engineering expertise in vacuum, heat transfer, and turbomachinery, and our high compliance processes developed to create and qualify these solutions, are key to our technology differentiation. A second pillar of our strategy is operational excellence.
We have many initiatives to continually improve the processes we employ in our operations. We have been consistently upgrading information systems in our turbomachinery operation and will initiate a long-overdue ERP system upgrade for our vacuum system heat transfer operation. We are making more investments in equipment like automated welding that eliminates rework and provides quick payback. Finally, expanding our shared services to gain economic advantage will continue. A third pillar is our people.
Our people are our most valuable asset. We are committed to grow and develop them to maintain a competitive advantage. We have had good success using engagement surveys to identify gaps in engagement. We follow through with initiatives such as improved instruction, tools, communication, development programs, and other resources to fill the identified gaps.
Leadership development is actually quite advanced for a company of our size. We have expanded skilled trades training through in-house weld schools, partnerships with community and academic resources, and initiating a machinist apprenticeship program. Finally, we will leverage our external stakeholders, including our communities, our suppliers, our lenders, and our shareholders, to be a better business. This means strengthened relationships, improved communications, and finding win-win solutions.
We are making steady progress against our plan, and we're quite excited about the opportunities in front of us and encouraged with our stakeholders' support of our journey of building better companies. With that, Christine, we can open the call for questions.
Operator (participant)
Thank you. We will now be conducting a question-and-answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue.
You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment please, while we poll for questions. Thank you. Our first question comes from the line of Theodore O'Neill with Litchfield Hills Research. Please proceed with your question.
Theodore O'Neill (CEO and Senior Analyst)
Thank you, congratulations on a good quarter.
Daniel Thoren (President and CEO)
Thanks, Theo.
Theodore O'Neill (CEO and Senior Analyst)
You've got some remarkable growth in orders here. I was wondering if you could give us a little more insight into your success there. Is that new products? Is it taking market share from others? Was this business just there all along, you just started asking for it?
Daniel Thoren (President and CEO)
You know, I think it's, I think it starts with performance. As our businesses can really perform for our customers, they're rewarding us with additional orders. You know, I think both companies have an established relationship with lots of customers, and those customers continue to come back as we perform.
It just really points out the importance of the actions that we made a year and a half ago to invest in our businesses, to bleed a little bit, to make sure that our customers were satisfied. Ultimately, they're coming back to us. We are seeing some expansion in certain areas.
Honestly, I'd say it's mostly that our customers are saying, "Thank you, for really helping us out, and here's more work to continue to help us out." I'll expand that answer just a little bit, Theo, and give you a sense. You know, a year and a half ago, two years ago, a year and a half ago, supply chain was a challenge, and everything was really hard to get.
We attempted to go through heroic efforts again to help our customers get the equipment that they needed in that process. That the supply chain has improved some, but we are still seeing challenges in pocket areas.
In particular, where we're seeing challenges is in some of this high compliance related stuff. You know, while lead times are still relatively long for raw material and simpler components, what we see is that whenever we're asking for something that's special, above and beyond, has high compliance, high testing requirements, et cetera, the supply chain is struggling with that. It just goes to show that, you know, if you can perform at a high level and provide some really high-level service, high-level equipment that is, you know, checked out extremely well before supplying to the customer, so they don't have problems once it's delivered to them.
That's seen as very valuable. I really like our niche of this mission-critical, high compliance equipment, and I think the world is struggling there. I think our customers are starting to see how valuable that can be.
Theodore O'Neill (CEO and Senior Analyst)
You're saying that the high compliance products that you're providing your customers is a differentiator compared to other suppliers?
Daniel Thoren (President and CEO)
Absolutely.
Theodore O'Neill (CEO and Senior Analyst)
Okay. I wanted to ask about Virgin Orbit. I just did some quick look up online during the call here. It doesn't look like that's coming back. Is that correct?
Daniel Thoren (President and CEO)
That is correct. They filed for Chapter 11. In the Chapter 11 process, they did not find a going concern bidder. They kind of transitioned to let's essentially get rid of the assets and lots. They've liquidated the majority of their assets at this point in time, and they don't appear to be coming back.
You know, probably the good news is that some of the other launch market customers were interested in some of their assets. They had bidders for their buildings, their inventory, et cetera. It's not wrapped up at this point in time. It's still an ongoing bankruptcy process.
Yeah, they were able to sell assets to other space companies.
Theodore O'Neill (CEO and Senior Analyst)
Okay, thanks very much.
Daniel Thoren (President and CEO)
Yeah.
Operator (participant)
Our next question comes from the line of Richard Ryan with Oak Ridge Financial. Please proceed with your question.
Richard Ryan (Analyst)
Thank you, and, also congrats on the good performance and, guidance for the current year, Dan and Chris.
Daniel Thoren (President and CEO)
Thanks, Richard.
Richard Ryan (Analyst)
A question on the guidance. You know, in the Slide deck, it shows all the revenue you're guiding to is already covered by what's in backlog and expected to be delivered. You know, you had this vulnerability with space customer, that doesn't appear to be included in that. Any other vulnerable areas within your backlog?
Maybe the contrary or the complementary question there would be: What could happen on the turn side of the business so that, you know, somebody could look at this and say, "Hey, there's upside to what you're currently guided?
Christopher Thome (CFO)
Yeah, Richard, you know, very good observation on your part. You know, like other companies, you know, we're still seeing pressures, as Dan just talked about a little bit, on the supply chain side as well as the labor side.
Although we have seen these conditions improve, they're still not where they were, you know, where we were pre-COVID. Really, you know, as you point out, we have the backlog, it just comes down to execution. It really just comes to our team continuing to perform and, you know, risks outside our control, such as supply chain and labor.
Richard Ryan (Analyst)
Okay. Chris, as a, as a follow on, you know, looking at the year, you've got some delivery on the remaining two first articles during Q1 and Q2. How should we look at the, you know, kind of the top line? How should the revenue line flow as we look at fiscal 2024? Any other seasonality, or as you look at projects, how should we kind of model the revenue growth for 2024?
Christopher Thome (CFO)
Sure. Well, as you know, Richard, we really don't have a lot of seasonality in our business. Our fourth quarter does, at times, tend to be a little bit higher as our teams, you know, are working to hit the goals for the year. We don't see a lot of seasonality built into our guidance.
Richard Ryan (Analyst)
Dan, on the aftermarket and the refining and petrochem side, you know, your large installed base, you know, kind of drives that aftermarket business, but you indicate, or you said that that could be a leading indicator down the road. What does new projects in the refining and petrochem space look like, either domestically or, you know, you've had some interest in expansion in China and India?
Daniel Thoren (President and CEO)
Yeah. Domestically, it is picking up. We are seeing inquiry rates and opportunities domestically continue to grow. It has been just horribly slow coming back domestically, but we're certainly seeing that coming back.
You know, as you noted earlier, we've kind of got our year already booked, and Chris indicated that it's all up to us to execute it. You know, if it doesn't come back as strongly as our pipeline has indicated, we've got plenty of work domestically for our crew here. What we're seeing internationally is, you know, China has opened up after their COVID shutdown, but it's a slow reopening.
We are seeing an increased level of requests to quotes on different programs. We are quoting on those. How fast it comes back, not entirely clear, but as it comes back, we'll start to see more orders in the second half of the year that then starts to build into our fiscal 2025.
India, we've got several different bids that are out there that are close to being announced, we're hopeful that we can continue our India presence. India looks like it kind of flattens out for a year or maybe two, as they go through their election process.
Then we fully expect that it kind of comes back on. It's really interesting to kind of follow all of these different markets. They're all in kind of different places. So the ability to be flexible and be able to move with the market is something that, you know, the diversification that Graham has really been able to build over the last two years, provides a ton of value.
We're able to kind of move from one market to the other, you know, use our backlog to fill holes, and provide a lot more stability. So we're, you know, we're in a much better place than we have been in, you know, prior years.
As you know, Richard, you followed us for a long time, and you watched the cycles, and so we're in a much better place.
Richard Ryan (Analyst)
Sure. Thanks for that. One, the last one on capital allocation. You know, when you look back, Graham had a nominal dividend that was, you know, eliminated during the tough couple of years you had. Now that you're back in compliance, does the dividend come back up in the discussion format at the board level, or how should we look at, you know, your capital allocation priorities over the next few years?
Christopher Thome (CFO)
... Yeah, Richard, you know, as Dan and I laid out last year when we released our long-term strategic plan, our capital allocation, starts with organic growth, right? We feel we have an abundance of capital organic growth opportunities, you know, to take advantage, take advantage of.
You know, from there, if, you know, if we have excess capital, we'll use it to pay down debt. Hopefully, within the next few years, you know, we can start looking at M&A again. After that, we would, you know, we would look to returning that back to shareholders.
Richard Ryan (Analyst)
Sure.
Christopher Thome (CFO)
we're comfortable with the capital allocation strategy that we have.
Richard Ryan (Analyst)
Okay, great. Again, great job on the execution, guys. Thanks.
Daniel Thoren (President and CEO)
Thank you, Richard.
Christopher Thome (CFO)
Thanks, Richard.
Operator (participant)
As a reminder, if you would like to ask a question, press star one on your telephone keypad. Our next question comes from the line of Brett Kearney with Gabelli. Please proceed with your question.
Brett Kearney (Portfolio Manager and Research Analyst)
Hi, guys. Good morning, and congrats on the continued momentum.
Daniel Thoren (President and CEO)
Hey, thanks, Brett.
Christopher Thome (CFO)
Morning, Brett.
Brett Kearney (Portfolio Manager and Research Analyst)
Dan, absolutely agree with your assessment of, you know, the landscape in, you know, U.S., I guess, potentially even global manufacturing, the ability for differentiation through reliability and performance. I guess, can you talk about the opportunities you're seeing, some of the investments you're making, the ERP system, you noted some digital, and automated tools to kind of cement, I guess, that vision, for differentiation you see across the platforms?
Daniel Thoren (President and CEO)
Yeah, let me hit it generally, and then I'll give you some specific examples. This continual improvement, continual investment in our business is in our minds, extremely important. It's kind of like compounding and investing.
When we're investing capital continually and wisely in our business, it becomes incrementally stronger, kind of like your bank account does as you continue to put money in there and compound. We love the notion of continuing to invest in ourselves and building a better company in the process. If we don't, it's, you know, there's an engineering term called entropy that basically means everything starts to come apart.
Your processes drift, you don't have as well trained employees, and ultimately, you have lower performance. In investing, inflation is that entropy. If you're not continuing to invest, the value of your investment starts to become less.
You know, they kind of go hand in hand, which is really kind of interesting. We are continuing to invest in our businesses. Just last year, we put some significant money into Barber-Nichols to expand their capacity to support the Mark 48 program. That facility, our GM, Matt Malone in Denver, has told me that that facility is within a week of going live. The Navy is excited about it.
Our customer, our direct customer, SAIC, is really excited about it. You know, essentially, that kind of foresight of, you know, investing in that, is going to serve the Navy well as geopolitical tensions continue to rise, and we've all read more and more about that. That was one investment that we've made. Another one is on this automated welding equipment.
You know, as we've got more and more manufacturing expertise within Graham to review our processes and review our product and kind of look at areas to expand, we've identified, you know, in these really tough welds that are hard for a person to actually, you know, follow a very complex weld path and be very, very consistent, we think that the automated welding equipment will enable us to have less defects.
It'll go faster, ultimately better quality in these really challenging welds. This investment where it makes the most sense, where you can get good payback by investing in equipment like that is extremely important.
The ERP upgrade that you had asked about, you know, in any business, especially a manufacturing business, the flow in the business is extremely important. If there's lots of handoffs between people, there's lots of opportunities for confusion or mistakes or whatever.
As we can automate this more and more, and be working with the same information throughout the value add process, the quicker it goes and the less mistakes there are. We're really excited about being able to upgrade the ERP system in Batavia. We think that, you know, it's gonna have a significant improvement on the flow of product through our factory, as well as reduce.
some of the mistakes or, you know, process reworks essentially, that we have seen. That whole information realm is getting tougher and tougher as our customers are wanting high compliance equipment, and they want the proof to back it up, that it is high compliance.
There's a ton of information that goes along with our hardware, and making it available and trackable and findable and communicable within a digital platform is really important. We continue to think about people and process and systems and investments in those.
You know, then we've got our business unit saying, "And product, don't forget about the product," 'cause we have some really cool opportunities. You know, to Chris's point, there are a ton of, you know, organic growth opportunities in front of us that we believe that we can give stockholders a really nice return on investment as we allocate that capital appropriately.
Brett Kearney (Portfolio Manager and Research Analyst)
Excellent. Actually, the follow-up I had was on this new opportunity, or I guess expanded opportunity you guys are seeing with the geothermal lithium set. Curious, you know, what the potential funnel or kind of magnitude of market opportunity you guys are seeing there?
Then, I guess, broadly, with all the developments in new energy and potentially the traditional energy markets coming back, yeah, I guess how you're thinking about resources, prioritization, both capacity and personnel across the organization.
Daniel Thoren (President and CEO)
It's a great question. You know, as you show the world that you're more and more capable, people want more out of you, and it does come down to prioritization and choosing the best programs to go after. The ones that have strategic importance, the ones that you can price higher, for the benefit of higher returns for our shareholders, those are the ones that we're kind of focusing on right now. Again, you kind of point out some really cool opportunities that, you know, hydrogen...
You know, the geothermal power has been around for a long, long time, but coupling it with this lithium extraction all of a sudden makes that a lot better for investors in those processes because there's additional yield other than the power that comes out of that, out of that process.
You know, being able to be flexible, work, with your customers to develop new equipment, that's better, suited for these new applications that come out, including hydrogen, are. You know, ultimately, what we are trying to do, as a business is make sure that we have that really strong capability, the ability to work with our customers to develop new product, modify existing product, and follow them into some of these awesome opportunities.
It's a lot of opportunity, and it comes down to prioritization and picking the right opportunities that benefit us long term, i.e., strategic, as well as, the highly profitable ones that benefit our stockholders.
Brett Kearney (Portfolio Manager and Research Analyst)
Excellent.
Christopher Thome (CFO)
Brett, just to address your comment about resources, right? We really have, you know, a top-notch human resources function within Graham at both our Arvada and our Batavia locations. You know, since last year, we increased our total workforce by 10%, and we increased our welding workforce by 25%, all that in a very difficult market.
You know, we're gonna continue to, you know, look for different ways to improve, such as our welder training program, and, you know, some of the other apprenticeship programs that we have in place and working in with our local community colleges and trade schools. You know, we're really excited about some of the opportunities that we have in front of us, and that's gonna allow us to achieve this growth.
Brett Kearney (Portfolio Manager and Research Analyst)
Excellent. Thanks so much, Chris and Dan.
Christopher Thome (CFO)
Yep. Thanks, Brett.
Operator (participant)
Our next question comes from the line of Bill Baldwin with Baldwin Anthony Securities. Please proceed with your questions.
William Baldwin (Analyst and Principal)
Thank you very much. I've got a couple areas here I'd like to focus on, if I could, Dan and Chris. On the aftermarket business, primarily, almost entirely a domestic business, for Graham in the refining and petrochemical area?
Daniel Thoren (President and CEO)
Yes.
Christopher Thome (CFO)
Yeah.
William Baldwin (Analyst and Principal)
Is that heavily weighted towards the refining side? Would that comprise the majority of the aftermarket, would be on the petroleum refining?
Christopher Thome (CFO)
Petrochemical, yes.
William Baldwin (Analyst and Principal)
How would that break out between petrochemicals and petroleum refinery, roughly? Just half and half, or?
Daniel Thoren (President and CEO)
It's gonna be heavier towards the refinery, Bill. You're exactly right. I don't know that we have that breakdown between the.
William Baldwin (Analyst and Principal)
Yeah. Yeah. Well, the, I'm just trying to get a feel for how the business breaks out, and is most of your inquiries as far as aftermarket business going forward, is that primarily weighted to petroleum refineries? Is that where the heavy inquiries are, and where you would expect the heavier capital projects that eventually unfold would be on the refinery side?
Daniel Thoren (President and CEO)
Yeah, you know, historically, the majority of our equipment has been on the refinery side.
William Baldwin (Analyst and Principal)
Uh-huh.
Daniel Thoren (President and CEO)
We would expect that the aftermarket inquiry follows that, because that's the source, the installed base is the source.
William Baldwin (Analyst and Principal)
Right. Right.
Daniel Thoren (President and CEO)
Yeah, absolutely.
William Baldwin (Analyst and Principal)
With your very strong order picture there in aftermarket, how are you performing on the execution side, would you say, Dan and Chris? Are you pretty much on time with your deliveries and so forth on that? Or here again, is raw material and labor shortages impacting the ability to handle that business as efficiently as you'd like to?
Christopher Thome (CFO)
Yeah, you hit the nail right on the head, Bill. You know, our on-time delivery isn't, you know, where we'd like it to be, because of the labor and, you know, the long lead times. You know, we're firing on all cylinders with regards to aftermarket. You know, in the current quarter, we had $7.1 million of aftermarket sales, you know, which is a record for us.
The team continues to execute and is just, you know, really firing on all cylinders at right now. You know, we're looking forward to what they can do once maybe some of these external forces free up and, you know, we get some of these process improvement and productivity initiatives in place.
William Baldwin (Analyst and Principal)
You think, compared to your competition, though, would you say that you're definitely competitive, and you're likely not to lose any potential business going forward because of these issues on delivery right now?
Daniel Thoren (President and CEO)
Yeah, the, I think everybody's struggling in some areas, with supply chain. you know.
William Baldwin (Analyst and Principal)
Right
Daniel Thoren (President and CEO)
some of the forgings, a lot of the forging houses are struggling quite a bit right now.
William Baldwin (Analyst and Principal)
Right.
Daniel Thoren (President and CEO)
You end up kind of seeing some weirdness around some of the specialty materials, like gaskets for, you know, for instance. Specialty fastener companies are struggling quite a bit. They end up being, you know, high tolerance, high, in some cases, high strength, high compliance types.
William Baldwin (Analyst and Principal)
Right
Daniel Thoren (President and CEO)
of components, and people are struggling with those. It's kind of weird, Bill. We see raw material, you know, the pricing being a whole lot more stable, a little bit longer, in lead times. You get into, you know, components that you, that we're trying to buy, and every once in a while, you just run into something, and it's like: Okay, can't buy that, you know, and can't get that in-house for six months. You know, people's inventory is not built up very well yet. We're still running into challenges in supply chain and deliveries.
Christopher Thome (CFO)
As you know, Bill, none of these challenges are unique to us.
Daniel Thoren (President and CEO)
Yep.
Christopher Thome (CFO)
It's everyone that's experiencing it.
William Baldwin (Analyst and Principal)
Right. Right.
Christopher Thome (CFO)
Yep.
William Baldwin (Analyst and Principal)
Right. Regarding the lumpiness of your cash flow, it looked like your unbilled revenues were pretty large, as you collect on those revenues, won't that offset quite a bit your customer deposit, you know, situation? I mean, customer deposits were a big source of revenues, but unbilled revenues were kind of a drain on you.
Christopher Thome (CFO)
Yeah, absolutely.
William Baldwin (Analyst and Principal)
Does that kind of balance out over time, in terms of your cash flow?
Christopher Thome (CFO)
Yeah, we think we have some upside on the unbilled levels, as you astutely pointed out. You know, that's been one of the areas of focus of mine, as well as the team's, you know, ever since I started. You know, we think that's going to start to free up over the course of this year, and will definitely be a positive cash generator for us.
William Baldwin (Analyst and Principal)
Very good.
Christopher Thome (CFO)
you know, as far as our cash flows, though, you know, given the size of these contracts and these customer deposits and, you know, the changes in the unbilled revenue, you know, we do expect our cash flows to be, you know, very lumpy. Over time, I think if you take a look at our EBITDA levels, that's, you know, more reflective of the cash that we're generating. It just is very lumpy in nature.
William Baldwin (Analyst and Principal)
Right.
Christopher Thome (CFO)
Over time, we'll be improving and increasing.
William Baldwin (Analyst and Principal)
Lastly, can you rep any potential numbers around the earn-out liability post-2024?
Christopher Thome (CFO)
Sure, Bill.
William Baldwin (Analyst and Principal)
Is there a cap on that? I know you announced something on that-
Christopher Thome (CFO)
Yeah
William Baldwin (Analyst and Principal)
quite a while back.
Christopher Thome (CFO)
It's all publicly released, so we can certainly talk about it.
William Baldwin (Analyst and Principal)
Right. I couldn't locate it, so I.
Christopher Thome (CFO)
No, that's okay.
William Baldwin (Analyst and Principal)
I'm asking you on the call.
Christopher Thome (CFO)
Yeah, no problem. Let me walk you through it. It's a 3-year program starting in our fiscal 2024, so fiscal 2024, 2025, 2026. The threshold level is $2 million and up to a max of $4 million each year. Over the 3-year period, you know, a max $6 million-$12 million in potential additional payouts, in addition to the normal employee bonuses. This was all negotiated, shortly after the acquisition, and it's all related-
William Baldwin (Analyst and Principal)
Right. I remember that. I remember that.
Christopher Thome (CFO)
Um-
William Baldwin (Analyst and Principal)
Yeah. I just couldn't find the details on it.
Christopher Thome (CFO)
In order to hit those targets, right, there's a growing EBITDA target. For fiscal 2024, the target is $8.75 million. That goes up to $9.5 million for fiscal 2025, and $10.5 million for fiscal 2026. Even though it is going to be a higher expense, you know, we're going to see a higher EBITDA level, that goes along with it. It's all performance-based.
William Baldwin (Analyst and Principal)
Okay. That's what I was looking for. Well, you fellows and your team are doing a heck of a job in building the company here. Congratulations and best of success.
Daniel Thoren (President and CEO)
Thank you, Bill.
Christopher Thome (CFO)
Thanks, Bill.
Operator (participant)
Our next question comes from the line of Gary Schwab with Valley Forge Capital Management. Please proceed with your question.
Gary Schwab (President)
Yeah. Hi, Dan, Chris. Great job, like everybody has said. A question about the lithium on the direct lithium extraction. There's a number of companies that are involved with this. Are you talking with any other companies in the U.S. or overseas?
Daniel Thoren (President and CEO)
In general, I would say that we talk to a lot of different companies that need surface condensers for their power cycle. Yeah, we do end up talking to quite a few of those folks. The Salton Sea application is unique. It's really kind of exciting.
This is the first one that we're providing equipment for. And when it's successful, I know that our customer wants to repeat it, and they've talked about that in the press. I think that there's this ongoing opportunity to continue to support that. It's. Again, geothermal power is a low-margin endeavor. It is tough to make money in geothermal power.
Coupling this lithium extraction, with that process, is really kind of nice from an economic perspective. The process itself is a lot cleaner and more efficient than the standard, you know, put it all out into a lake bed and start to evaporate water. It's pretty cool. It's fun to be connected with that for a lot of different reasons.
Gary Schwab (President)
Okay. You mentioned hydrogen, I think, three times in the presentation, but you really didn't expand on that. What kind of projects are you working on in hydrogen?
Daniel Thoren (President and CEO)
Hydrogen, as you know, can be pretty challenging. First of all, it's cold in its liquid form. Then, you know, from a material perspective, there's a limited types of material that you can use in hydrogen. It ends up being some pretty specialty equipment that is used in hydrogen operations.
Barber-Nichols is a turbomachinery house, and they have built cryogenic pumps for, gosh, over 40 years. Barber-Nichols has been involved in providing cryogenic pumps, liquid argon, hydrogen, helium, you know, all types of stuff.
With the major air products, players have supplied turbo machinery to those major air products types of players. We see opportunities from them, and I can't name anything specific, but we see opportunities with them to provide turbo machinery.
Graham has some unique heat exchange capability with their Heliflow heat exchanger that can handle some really extreme temperature ranges. It's very applicable to hydrogen service. Again, we have been supplying these heat exchangers to various companies that are involved in, you know, the production, the transportation, the distribution, the fueling side of the hydrogen economy.
Everybody's kind of working on their best solution to enabling the hydrogen economy. As you've seen, there's a lot of chatter in this market, and people are spending some big dollars to invest in it and develop the capability to support it. We're in there, and we're participating. Still too early to say, you know, what'll come out of it, but again, a great place to be at this point in time.
Gary Schwab (President)
Okay, great. Let me just ask a couple of bookkeeping questions. On the K, you said there remains approximately $1 million-$2 million in potential additional exposure. We're talking about Virgin Orbit, related to the space customer.
Depending on the outcome of these proceedings and the asset sales, depending on the outcome of these proceedings and the asset sale, it says, "However, at this time, the company does not expect any further impact in 2024 or beyond." Does that mean that the $1 million-$2 million could be recaptured?
Christopher Thome (CFO)
I know it's a little bit confusing, Gary, let me walk you through it. During the quarter, we reserved $3.1 million for inventory and accounts receivable related to Virgin Orbit. That $3 million charge resulted in a $600,000 reduction in performance-based compensation, since all our bonus programs are performance-based. The net impact to the quarter and the year was $2.5 million.
As you know, bankruptcy proceedings are complicated, and they take some time to work themselves out, you know? We still have a little bit of exposure left on our balance sheet, which we feel very comfortable with what we reserved during the quarter.
Again, you know, these proceedings and us being able to capture value from what we have left on our balance sheet, you know, it is uncertain. We feel very comfortable with where we're reserved at the end of the quarter and don't see any more impact for 2024. You know, never say never. We wanted to at least put that qualifier out there.
Gary Schwab (President)
Okay. There's no recapture. You just don't expect any more reserve?
Christopher Thome (CFO)
Yeah. Let's say the team is 100% focused on this and, you know, if there is an ability to recapture, we're gonna try to go after it, and we're gonna get it recaptured, but it's just too soon to tell. You know, we wanted to make sure that we were adequately reserved.
Gary Schwab (President)
Okay. One last thing. In the third quarter, you know, you were talking about your backlog, and you said that of that backlog, 40%-50% should be converted in 12 months. This quarter, you're saying that going from 40%-50% to 50%-55%. What sped up the delivery schedule?
Christopher Thome (CFO)
You know, it's just the mix of, you know, the contracts that we have out there. As you recall, in the third quarter, you know, we had some larger defense programs that we received, which we're not gonna work on until, like, fiscal 2024 through fiscal 2026.
That extended it out a little bit, you know. In the current quarter, we received, you know, the Mark 48 modification, so that brought it back in a little bit. Those numbers typically won't shift too much over time, but, you know, but can vary a little bit. Typically, we see around that 50% level that's gonna convert.
Gary Schwab (President)
Okay.
Christopher Thome (CFO)
-year.
Gary Schwab (President)
Okay. Actually, there is one other thing. In the Artemis, you know, they've been talking about the Artemis Moon program, scheduled for 2024 and then 2025. Is Barber-Nichols involved in that in any way?
Daniel Thoren (President and CEO)
You stumped me on that one. I do, I don't think so, but I don't know that for sure.
Gary Schwab (President)
Okay. All right, well, that's all I have. Thanks very much.
Christopher Thome (CFO)
Thanks, Gary.
Daniel Thoren (President and CEO)
Thanks, Gary.
Operator (participant)
We have no further questions at this time. I would like to turn the floor back over to management for closing comments.
Daniel Thoren (President and CEO)
Thank you. Thank you, everybody, for your time. I just want to reiterate the three key themes we hope you take away from our call. First, we are delivering on our promises, and while we have several years to achieve our fiscal 2027 goals, we are demonstrating our ability to get there. Second one is we have successfully diversified the business and have expanded our customer base.
Even with the event, with our one space customer, we're able to absorb that and still deliver for the year. Third is, we have a large opportunity set in front of us, and we have the strategy and team to continue to drive growth and improve profitability. I hope you all enjoy the rest of your day. Thank you very much.
Operator (participant)
Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.