Michael Cummings - Executive Vice President & General Manager-East Coast, Alpha IR Group Dr. Michael J.

Hartnett - Chairman, President & Chief Executive Officer Daniel A. Bergeron - Chief Financial Officer, Director & Vice President

Kristine Tan Liwag - Bank of America Merrill Lynch Steve Barger - KeyBanc Capital Markets, Inc. Lawrence R.

Pfeffer - Avondale Partners LLC Nick Stuart - Goldman Sachs & Co. David Goldsmith - Baron Capital Management, Inc.

Good morning. And thank you for joining us for RBC Bearings' fiscal 2017 first quarter earnings conference call.

With me on the call today are Dr. Michael J.

Hartnett, Chairman, President and Chief Executive Officer; and Daniel A. Bergeron, Vice President and Chief Financial Officer.

Before beginning today's call, let me remind you that some of the statements made today will be forward-looking and are made under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected or implied due to a variety of factors.

We refer you to RBC Bearings' recent filings with the SEC for a more detailed discussion of the risks that could impact the company's future operating results and financial condition. These factors are also described in greater detail in the press release and on the company's website.

In addition, reconciliation between GAAP and non-GAAP financial information is included as part of the release and is available on the company's website. Now, I will turn the call over to Dr.

Hartnett.

Thank you, Mike, and good morning to all. Net sales for the first quarter fiscal 2017 were $154.6 million versus $142.3 million for the same period last year, an 8.6% increase.

Our aerospace markets increased 11.8% on a year-over-year basis and our industrial markets increased 3.1%. For the first quarter fiscal 2017, sales of industrial products represented 35% of our net sales with aerospace products at 65%.

Adjusted gross margin for the first quarter fiscal 2017 was $57.6 million or 37.3% of net sales compared to $55.1 million or 38.7% for the same period last year. This difference is mainly attributed to mix.

Last year only two months of Sargent were represented. Adjusted EBITDA for the period was $39.1 million versus $37.3 million last year, a 4.8% improvement.

Adjusted EPS for the quarter was $0.77. In this quarter, we saw a larger component of our sales from the Sargent businesses than the same quarter last year.

These sales are normally at lower margins than the classic RBC products and we are working to improve that and we'll talk about that later. In addition, there were a few higher margin aftermarket sales as a result of order.

There were fewer higher margin aftermarket sales as a result of order timing. This will be reversing later in the year.

This market is lumpy and we can distort the normal cadence of profitability from one quarter to the next, but it should even out for the year. Looking at components of our aerospace and defense business this period, we saw aerospace OEM up a strong 23% offset by defense OEM which was up 19.8%, yielding up positive 17.3% for this sector of our business.

The defense component weakness is all attributed to delayed shipment of a complex electromechanical assemblies from a Sargent plant and support of added testing by one of our customers. This should catch up with itself in the second quarter.

We're seeing exciting customer acceptance of the RBC Sargent companies in the market, leading to a substantial number of large opportunities for the business. These opportunities fit well into our warehouse and provide an excellent path for OEM aerospace growth in future years as a magnitude of new aircraft systems reached substantial build rates.

On a consolidated basis, the above market components yielded the aforementioned 11.8% expansion for aerospace and defense side of the segment in the first quarter. Let's now turn to our industrial businesses.

Overall they were up 3.1% for the quarter. There are a lot of moving parts in the industrial franchise and I'll explain what we're seeing.

We see strength in market demand for marine, producers of semiconductor equipment, ground defense, auto and industrial gas turbines and train. We're also seeing explore on demand for mining products with a steady demand for those products having been demonstrated over several quarters.

Weakness in demand was experienced in the markets of heavy truck and oil and gas, the stronger markets are offsetting the weaker ones to show the growth that we mentioned earlier. By far the weakest demand is from the oil and gas sector, I expect a little improvement here this year.

On margin improvement initiatives underway at the Sargent company, we are on track, as I discussed in our last call the four sources of improvement are, insourcing, evolving Sargent purchases to RBC plants, improvement of planning and manufacturing methods of Sargent plants, mixed management, and of course, continued improvements of RBC core gross margins, resulting from maturing and new cost reduction projects. I'll talk a little bit about fiscal 2017.

Today, we're seeing an increase in demand on the second half of our year. This is driven mainly by aerospace and defense sector, and is also in part governed by lead time considerations, aircraft build rate increases and in response to customer demand, customer required dates of shipment.

Regarding our second quarter, we're expecting to see sales in the second quarter fiscal 2017 in the neighborhood of $152 million to $154 million compared to $147.8 million last year. I'll now turn the call over to Dan, who will provide more details on the financial aspects.

Thanks, Mike. Since Mike's already covered sales and gross margin, I'll jump down to SG&A.

SG&A for the first quarter of fiscal 2017 was $25.8 million, compared to $23.7 million for the same period last year. As a percentage of net sales, SG&A was 16.7% for the first quarter of fiscal 2017, compared to 16.7% for the same period last year.

Excluding the one-month impact of the Sargent acquisition of $1.2 million, SG&A year-over-year increased $0.9 million, which was mainly due to $0.6 million stock compensation expense and $0.3 million in other miscellaneous items. Other operating expenses for the first quarter of fiscal 2017 was expense of $2.2 million, compared to expense of $6.7 million for the same period last year.

For the first quarter of fiscal 2017, other operating expenses were comprised of mainly $2.2 million in the amortization of intangible assets. Operating income was $29.2 million for the first quarter of fiscal 2017 compared to operating income of $22.4 million for the same period in fiscal 2016.

On an adjusted basis, operating income would have been $29.6 million for the first quarter fiscal 2017 compared to $29.5 million for the same period last year. Adjusted operating income as a percentage of net sales would have been 19.2% for the first quarter of fiscal 2017 compared to 20.7% for the same period last year.

For the first quarter of fiscal 2017, the company reported net income of $18 million compared to net income of $13.4 million for the same period last year. On an adjusted basis, net income would have been $18.1 million for the first quarter of fiscal 2017 compared to net income of $18.5 million for the same period last year.

Diluted earnings per share was $0.76 per share for the first quarter of fiscal 2017 compared to $0.57 per share for the same period last year. On an adjusted basis, diluted earnings per share for the first quarter of fiscal 2017 would have been $0.77 per share compared to a diluted EPS adjusted of $0.78 per share for the same period last year.

Turning to cash flow. The company generated $19.2 million in cash from operating activities in the first quarter of fiscal 2017 compared to $22.2 million for the same period last year.

Capital expenditures were $5.2 million in the first quarter of fiscal 2017 compared to $5.3 million for the same period last year. In the first quarter of fiscal 2017, the company paid down $20.1 million of debt and repurchased $3.4 million worth of company's stock.

The company ended the first quarter of fiscal 2017 with $37.3 million of cash on the balance sheet. I would now like to turn the call back to the operator to begin the Q&A session.

Hey, guys. Good morning.

Good morning.

Good morning, Kristine.

A couple of quick questions. First, I was looking at your SG&A in the quarter, and I was wondering whether or not this is kind of a new run rate of SG&A we should expect going forward or do we go back to the 16% range that you had before Sargent?

Yeah. I think, last year, we've finished the year at 16.5%.

And so, for the first quarter, we were at 16.7%. And our goal is to continue to work and get a little more leverage out of that number and get it back closer to that 16% range over the next 12 months to 18 months.

Great. And then the defense weakness that you highlighted in the quarter.

Can you provide a little bit more qualitative information and what drove that?

Could you ask that again Kristine, you broke up a little bit.

Is this better? For the defense weakness that you highlighted in your press release, can you talk a little bit more about what drove that and maybe give us a little bit more qualitative details?

Yeah. I mean – well, it has two components, I mean there is the defense OEM and then there is the defense aftermarket.

In the defense aftermarket, they only buy products when they need them and it's hard to predict in any given quarter, when they're going to buy those and we took in – a fairly nice amount of orders in the first quarter for those products, which we can't deliver – there's a lead time associate with those orders. So those products will come out later in the year and those are for sort of traditional systems that we've been sourced down for more than a generation from the basis of the current defense aircraft business.

The OEM component is – a lot of the new OEM systems that are coming out, defense OEM systems are early in their cycle. They're extremely complex products, electromechanical, hydraulic assemblies that – they're very sophisticated.

And so there's a great deal of care required and oversight required. In order to make sure that that system once it's shipped performs exactly as it was designed.

And so – and it's really a learning curve maturity thing and we're right at the beginning of that learning curve and we see the – you can see that the JSF, Joint Strike Fighter numbers, really start picking up in terms of production rates in the next few years. And we have a substantial part of that business.

And so that's what we're working on.

Great. And maybe lastly for me.

Can you discuss your gross margin progress and three facilities that you had previously mentioned from Sargent that they were kind of below overall company margins in Miami, Canada and Torrance. Is there an update for those facilities and are they closed now to company level gross margins?

Yeah. I think on those three facilities, Miami has made great progress and we're very optimistic about what they're doing down there and the progress that they are making and it's a little beyond – it's definitely beyond what our expectations were for that business at this stage.

So we're very encouraged by what we see in Miami. Canada, really we've just begun working on the Canada project in a serious mode here in the last quarter and so we don't have – we haven't changed the results of Canada yet at all.

And Torrance is on the bubble right now and so we're trying to study how to bring Torrance – how to improve Torrance's margin another 5% over the next 12 months and I think we have a pretty good line of sight on how to do that and so that's currently in the works. Torrance's margin, I believe has increased the acquisition somewhere around 6% or 7% and I think there is probably another 5% to 10% in there and so we've targeted the next 5%.

Great. Thank you very much.

Hi, good morning, guys.

Good morning, Steve.

Good morning, Steve.

We're hearing from some other companies through the reporting season that the aero aftermarket supply chain is still having some disruption. Could you tell us what the most recent activities are there and any changes that you're seeing in order or payment patterns?

I have to do a little research there. That supply chain for us in terms of shipments in the quarter was definitely down, but it's in no way alarming, because of – it's an up again, down again kind of business profile for them, and it has been for years.

There's been a lot of management changes in that sector over the past 24 months. And I think the new management is really just getting into the saddle and learning the business.

So I suspect that some of that up and down has been a result of order patterns that were delayed and shouldn't have been. So that's kind of what we're seeing.

So you don't think there's anything structural going on, you think this will work itself out?

Well, I think structurally what's going on is, the Boeing TFS is having an impact on that sector. People can't afford to be buying from some of the distributors, are trying to go to the OEM direct and buy around what used to historically be the distributor channel.

So I think there's some – they're facing some headwinds. And I can't tell you that I understand the amount of headwinds that they're facing.

We are seeing a pickup in our OEM business that here and there would normally come through the distribution channel. So there is definitely some shifting going around.

Right. But the net effect isn't too negative for you?

No. I mean what we don't pick up on the distributor channel, we pick up from the OEM.

So there's no negative impact.

And so no effect really on working cap in terms of either inventory or payables as you work through that?

None that we're aware of.

Okay. Most industrial companies are coming in light on revenue across most end markets.

Any particular bright spots or areas of weakness that you want to highlight?

Well, I think I'll just kind of go over what I said earlier. I think that kind of summarizes it.

But the bright spots are definitely, as we classify, marine and semiconductor, industrial gas turbines is certainly a bright spot. A floor for mining products, mining is an important part of what we do and seeing a nice solid floor there is good for us.

And ground defense has been fairly steady. So those are the strong parts.

The weak point parts are heavy truck, which is sort of backing off a little bit. I think everybody kind of knows the profile of what's going on in the heavy truck business, right, and new orders are down 30%, build rates are down 30%.

So that's not completely unexpected. And oil and gas, I mean, today no one is making a profit pumping energy from the ground in the United States.

There's a tremendous supply demand imbalance and it began inventory overhang and fracking has completely changed the game and an overcorrection is inevitable. There's too much capacity has been liquidated in that entire oil service industry to support a normal steady state run rate in the oil services – in the oil business.

So you're going to see oil in the $80 to $100 a barrel range spiking as soon as imbalance is created. It's not going to stay there, but there's going to be a big supply imbalance, and of course, everybody will be rushing for the bar for a free drink on that one.

But the future is really going to revolve around fracking and the economics of fracking and can offshore oil compete with the economics of fracking. I don't know if I'd want to be in Transocean business.

And can the tar sands compete with fracking economics? I don't think I'd want to be in Suncor's business.

So there is going to be some big changes afoot and right now we're trying to study exactly how to position our product lines for the other side of this when supply and demand become balanced and fracking is the flywheel of the economics behind oil. So that's how we see oil and gas, and right now on the oil service equipment side, nothing is going on.

Right. No, I think that's good point in terms of thinking about how to position and I guess that just from a broader sense, can you talk about new quoting activity that you have out there and how quote conversion is running for new product lines that you may be trying to get into.

For the industrial, aerospace, or both?

Both.

Both. Well, for the aerospace side, we're seeing really substantial demand for products that will be shipping 2018 and beyond.

And actually it's requiring us to do a capacity, demand analysis by plan and we call that kind of a layer cake analysis here. We're going to definitely need to have capacity expanded in some of our plants.

We're trying to determine, given the build rates, what we've acquired in terms of contracts, where we are highly likely – have been told, we're highly likely to receive major new contracts, exactly what capacity additions we're going to need in which plants in order to service this business in 2018 and beyond. So build rate increases and increase in mix and some shuffling going on in the aircraft supply chain on who's going to make which product for Boeing and Airbus is – we seem to be a big beneficiary of that right now.

I think on the industrial side, I think for the short-term, it's probably going to be more of the same. And I think for the longer term, we have some really big projects that will come into commercialization in the late 2017, 2018, 2019 timeframe, which by that could add revenues in the low eight figures for us, so...

(24:18)

Yeah. We've had some really nice projects that we've been either awarded or primary on that we have a high confidence we will be awarded.

So the industrial has got long-term good and in short-term, it's more of the same.

So just to follow-up on a couple points there. One, where your beneficiary of the mix and build rate exposure, can you tell us what are those different bearing product lines that you're taking from another OEM?

Are they related products that are coming through the Sargent acquisition? Just where are you seeing that increased content?

Both. They're bearing products that we've been supplying for a long time for these systems and build rate increases that's in Excel spreadsheet project, right?

Right.

We've got so much content for plane, for bearing size and how many planes and what does that mean for – what the plant produced last year, what kind of produce in 2018, what's the delta look like, and do we have enough horsepower to get our leg over the wall on that delta or do we need to do something about it? So that's the layer cake analysis that we're going through.

It's a five-year analysis by plan. So we're seeing more volume as a result of the build rate increases.

On bearings, we're seeing more volume as a result of new bearing product lines that we've introduced over the last five years that are part of the contract that weren't part of previous contracts and we're seeing more demand from some of the Sargent areas, because of – the relationship between RBC and the aircraft majors is really beneficial to Sargent. And so a lot of that Sargent product is being endorsed and absorbed by the big aircraft builders.

So...

So, when you say – sorry, go ahead.

So, we have a lot of pots boiling right now.

Yeah, no, it sounds good. The new bearings, are they truly new products to you that are engineered into brand new applications are they new product lines to you and you're becoming an alternative supplier?

They're both. There are new products for the aircraft that are introduced to solve certain technical problems that the existing product lines by the existing suppliers were unable to satisfy, and their new products that to us that our existing products to others that we've achieved approvals on and have secured contracts on.

Got it. And my last question on the industrial side, when you're talking about adding revenue in the low 8 figure range, is that for traditional machinery.

Whether it's construction equipment or mining equipment or where are the end markets that you'll be serving?

That's probably going to be in the auto and heavy truck area.

Okay.

There may be some construction business there and that's substantial too and it's too early to tell. We have a new product line, that's very well tested and endorsed by some of those people, but we really haven't put any numbers around or contracts around it yet.

All right. That's great detail.

Thanks so much.

Good afternoon, guys.

Good morning, Larry.

Good morning. So on the gross margin side, and I know last quarter you talked about 100 basis points of improvement for the full year.

I know it's been a long- held annual goal. How do you look at that playing out over the course of the year?

I mean, obviously some of these are lumpy margin improvement programs, but I guess just from a modeling standpoint, how would you anticipate gross margins moving over fiscal 2017?

Well, we ended last year at 37.8%, so our internal target this year is to hit 38.8% and it's definitely going to be more heavily weighted toward the second half of the year.

Okay. And then looking at the aero ramp in the second half of the year, how do you think about that in terms of airframe versus engine?

Well, I mean it's coming from both areas. You mean, you want a percentage of what how much is airframe, how much is engine?

Yeah. I guess, I was trying to get a feel for the magnitude of increase on both of them in the second half.

Yeah. I can't say that I know that number, I'd say it's biased heavily to airframe though.

Okay. And then, Dan, just kind of a housekeeping question.

What would be the organic revenue growth has been just on the core RBC in the first quarter?

For total sales, organic would've been around 2.6% to about 3%, but it's again to that point where, when you're merging product lines together, these two divisions, it's hard to get to a good number.

Right.

And you talk on one month here between the two years.

Yeah. Okay.

Well, thanks for questions, guys.

Hey, guys. This is Nick Stuart on for Sam.

Thanks for taking my questions.

Hey, Nick

Just piggybacking on that last question. Can you break out what organic was in the aero and industrial markets for core RBC ex the Sargent acquisition?

Yeah. For total industrial the growth for the quarter was 3.1% and classic RBC, which is going to be a little while, but this is the number we're using because we merged some product lines here, is down 5.4%, and Sargent is up 105%.

Got it. And then on the aerospace side?

On total aerospace, it's up 11.8% and organic is 2.9%, classic RBC around 5.6% and Sargent 24.3%.

Great. Super.

And helpful. And then...

Once again there's a lot of movement now between plants so...

Understand.

Probably not as good a number as we would have given you last year number when (32:32) on a quarterly basis.

Got it. And then I just wanted to dig into the mining comments you made earlier about finding a floor there.

Is that primarily mining OE or mining aftermarket or what's driving the resilience there?

It's mining aftermarket.

Got it.

There is not very much happening on the OE side.

Okay. And then to – my last question on the oil and gas comments that you've made obviously still a lot of weakness in that end market.

But have you seen any early indications just given that rig counts have sort of bottomed there potentially increasing sequentially. Have you seen any improvement in that end market at all?

No.

Got it. That's helpful.

That's it for me. Thank you.

Hi, guys. You called out costs associated with acquisition activity in the quarter, can you just frame the pipeline of acquisition opportunities, what you're seeing out there.

Thanks.

Well we see a continuous flow of acquisition candidates coming from the banking houses that are trying to make their way in the world. And so – and we have a little of a flow from some internal sources that we use.

We don't have anything that's going to close in the next 90 days, but we have – we do have businesses that we're active on. We are visiting, we're bidding, and we're in basically some early stages of that now with things that are in the $25 million to $50 million revenue ranges.

Whether it – if we succeed in the bid and whether we succeed in the diligence, there's a lot of slips between the cup and lip, right.

Thanks.

Okay. Well, I want to thank everyone for their interest today in RBC Bearings and for participating in today's discussion and the excellent questions that you had.

And we'll speak again I'm sure in early November. Good day.