Ladies and gentlemen, good morning. Thank you for standing by today's conference assembled [ph]. Welcome to the Teledyne Technologies Second Quarter Earnings Call. [Operator Instructions] At this time, it's my pleasure to turn the conference over to our host, Jason VanWees. Please go ahead.

Thank you, Dom. This is Jason VanWees, Vice Chairman. I'd like to welcome everyone to Teledyne's second quarter 2023 earnings release conference call. We released our earnings earlier this morning before the market opened. Joining me today are Teledyne's Chairman, President and CEO, Robert Mehrabian; Senior Vice President and CFO, Sue Main; and Senior Vice President and General Counsel, Chief Compliance Officer and Secretary, Melanie Cibik. Also joining is Edwin Roks, Executive VP. After remarks by Robert and Sue, we will ask for your questions. Of course, though, before we get started, our attorneys have reminded me to tell you that all forward-looking statements made this morning are subject to various assumptions, risks and caveats as noted in our earnings release and our periodic SEC filings. Actual results may differ materially. In order to avoid potential selective disclosures, this call is simultaneously being webcast and a replay, both via webcast and dial-in, will be available for approximately one month. Here is Robert.

Thank you, Jason and thank you for joining our earnings call. In the second quarter, we achieved all-time record quarterly sales, with overall sales increasing 5.1%. Furthermore, sales as well as GAAP and non-GAAP operating profit and operating margin increased year-over-year in every segment. For the total company, GAAP and non-GAAP operating margins increased 105 and 73 basis points, respectively. Excluding foreign currency headwind, which negatively impacted second quarter sales growth by approximately 40 basis points, growth in local currency would have been 5.5%. GAAP operating margin of 18% was a second quarter record and non-GAAP operating margin was 21.4%. Second quarter GAAP earnings per share were $3.87 and non-GAAP earnings of $4.67 were also second quarter records. And finally, including continued debt repayment through July, which totaled about $620 million year-to-date, our consolidated leverage ratio declined to 2.1x. I'll now comment a bit further on the performance of Teledyne flare and the announced cost reductions and the outlook for the balance of the year. In the 2 years, since we've owned FLIR, we've resolved the most significant legacy tax matters, exited the consent agreement with the Department of State, consolidated leadership in marketing and operations for the FLIR Defense portfolio and corrected some historical product quality issues. As part of this effort, we also took a much more focused view of the Defense business, aggressively pursuing those opportunities where we have truly differentiated technology. I am pleased to report that the order book and backlog of FLIR, specialty FLIR Defense, significantly inflected during the second quarter. For reference, the commercial business across digital imaging, both DALSA to FLIR grew organically in the second quarter. While FLIR Defense sales declined year-over-year, nearly all of this was lower revenue in unmanned ground systems as we achieved the milestone of shipping our…

Thank you, Robert and good morning, everyone. I will first discuss some additional financials for the quarter not covered by Robert and then I will discuss our third quarter and full year 2023 outlook. In the second quarter, cash flow from operating activities was $190.5 million. Free cash flow, that is cash from operating activities less capital expenditures was $163.2 million in the second quarter of 2023 compared with $176.1 million in 2022. Capital expenditures were $27.3 million in the second quarter of 2023 compared with $20.8 million in 2022. Depreciation and amortization expense was $80 million for the second quarter of 2023 compared with $82.7 million. We ended the quarter with approximately $2.99 billion of net debt. That is approximately $3.35 billion of debt less cash of $364.2 million. Stock-based compensation expense was $8.4 million in the second quarter of 2023 compared with $6.4 million in 2022. Turning to our outlook. Management currently believes that GAAP earnings per share in the third quarter of 2023 will be in the range of $3.76 to $3.90 per share, with non-GAAP earnings in the range of $4.70 to $4.80. And for the full year 2023, our GAAP earnings per share outlook is $15.60 to $15.88. And on a non-GAAP basis, we are maintaining our prior outlook of $19 to $19.20. Both the third quarter and full year non-GAAP outlook excludes estimated pretax charges for further FLIR integration costs, the 2023 full year estimated tax rate, excluding discrete items, is expected to be 22.3%. I'll now pass the call back to Robert.

Thank you very much, Sue. We would now like to take your questions. Operator, if you're ready to proceed with the questions and answers, please go ahead.

[Operator Instructions] And our first question today will come from the line of Jim Ricchiuti.

I wanted to talk a little bit, Robert, if I may, about digital imaging. If we exclude the acquisitions, it looks like your revenues were down year-on-year and sequentially. And some of this may be partly due to what you're seeing at FLIR. But I wonder if you could just expand on what you're seeing in digital imaging just because it's a large category that covers a lot of ground?

Well, thank you. I think what you're referring to is in the organic growth or decline year-over-year was a little over 1% decline -- 1.5% to be exact. We see several things: First, there are government programs that we have in digital imaging, especially in FLIR, that declined year-over-year. On the other hand, as I mentioned, we had a very successful first half, especially second quarter, in getting orders for products both here and in Europe. So we feel that, that part of the business is stabilized. On the rest of digital imaging, if you look at health care, which is part of our business there, there's been significant expansion in health care and medical. If you look at commercial aero, any parts of digital imaging that deal with, let's say, satellite communication there has been expansion. I think there is some headwind in the commercial part of digital imaging in the Far East but our exposure there is not that high. And we're making that up with new products in -- that includes some of our artificial intelligence capabilities. So we feel comfortable with our commercial aspect of our Digital Imaging. So in summary, I would say that -- there is a little pressure on parts of our digital imaging in the Far East, especially China but this is offset by other products that we manufacture for Europe and the U.S. So I would say machine vision, which is what I'm referring to, is going to be relatively flat, maybe a little down year-over-year. But the other parts of Digital Imaging are going to be healthy. And we feel pretty good about that. So all in all, it's a big part of our portfolio but it's a pretty varied portfolio ranging from space to medical to machine vision for automated semiconductor inspections, flat panel displays, et cetera. So it's like Teledyne is pretty resilient to various economic conditions.

And follow-up question, I wonder if you could talk a little bit about -- just an update on the rate at which you may be burning through some of that higher cost component inventory that you had. And just in general, it sounds like supply chain has gotten better and how you're seeing that part of the business?

Yes. I think you're right. As I mentioned earlier, our supply chain issues have significantly moderated. We're still paying some premiums but perhaps as much as year-to-date, 65% to 70% lower than we did at the first quarter -- second quarter of last year. So that's a positive. But we're still paying some premium and our inventory remained fairly flat between first quarter and second quarter. But as these supply chain issues relax, we're going to reduce our inventory for the remainder of the year. So I feel good about how we've dealt with the supply chain. We really didn't lose a whole lot of revenue because of that.

And if I could just slip one more in, apologies but you did talk about some pull-in from Q3. I wonder if you would size that for us.

I'm going to say approximately $10 million, not a whole lot. But when we have the opportunity and I hope we will have in the future we're going to try and do that. The flip side of that, Jim, is that a lot of our customers have also ordered a lot of inventory anticipating shortages. So -- resistent about letting us ship all the stock that they have ordered before but we're balancing that because, again, our balanced portfolio help us along in all of those directions.

Our next question will come from the line of Joe Giordano, representing TD Cowen.

I want to continue first on DI. I guess I'd say 90-plus percent of the questions I get from investors are about the margins there. So I mean, I think they -- over the last couple of quarters, they probably come in and the outlook has come in a little bit below what you thought. I know there's some elements, high-margin machine vision, probably market declines there. But can you talk about what's been slightly different than you thought on the margin side? And how should we really think about that business kind of into 2024, like what's realistic for like a baseline margin assumption is?

Let me start with second quarter margin. Actually, second quarter Digital Imaging margin is up about 28 basis points. That's a 30 basis points year-over-year. And we think for the year, it might -- it will be probably flat, maybe down about 10 or 15 basis points but relatively flat. I think what -- what's going to happen is that the flare margins are going to increase somewhat and the historic or legacy digital imaging, they're going to decline a little bit. Basically, we think year-over-year, it's going to be flat. We've had, as I mentioned before, we've had a slower revenue and lower revenue in Defense in the first half of the year. But as I mentioned earlier, that's turning around now. So I think that's going to help us for the rest of the year. That's about really all I can say about the margins. I think second quarter year-over-year, we saw an improvement of about 28 to 30 basis points. For the whole year, it might be flat or down maybe 15 basis points but not much. And again, the balanced portfolio is really going to help us. The flip side of it is, if you look at our Aerospace and Defense segment, there second quarter margins increased 247 basis points. And for the year, we're projecting 80 basis points expansion. So sometimes, when we look at Defense, yes, we differentiate Defense -- that's in digital imaging, what I've talked about before. And then -- but we have a whole bunch of Defense programs in our Aerospace and Defense portfolio, which are doing really well. So overall, I think we're, okay.

Just one quick clarification. I know the DI margins were up year-on-year but sequentially, they were down on higher revenue. So was there like a mix change going on there? And then I have a quick question on Test & Measurement.

I don't know. They were down sequentially what, about 20 basis points. I'm not so concerned about that. There's so many moving parts in there that it just balances itself out. That's not something that worries me. That's all I'll say about that. Go ahead with your other area, please.

Just curious on -- if you have any color on like the order -- the order intake for things like oscilloscopes versus the revenue delivery now? Like I know the revenue is strong, are orders starting to slow there? I'm just curious like what that revenue trend looks like? Like how much backlog do you have? How fast is that kind of coming out? And is it being replenished at the same pace?

Yes. As you know, on the Test and Measurement, we have 2 distinct product lines. One is oscilloscopes, the other is protocols. And both of those are relatively short-term revenue. So big backlog, which doesn't make a whole lot of difference. Our oscilloscopes revenue in Q2 was outstanding, really good. Our protocol revenue was relatively flat and partially, that's because new protocols are coming out in September and we expect that revenue to pick up. If you look at the whole year, we think that we're going to have something like 3.5% to 4% growth in our oscilloscope and protocol products. We think third and fourth quarter are going to be all right. They may not expand as much as the first quarter but year-over-year, we're going to be fine. In terms of just answering your question on backlog, book-to-bill in that Test and Measurement is very close to 1, it's 0.98. So I would say it's 1. So again, it's not something that concerns me right now.

Our next question will be from the line of Greg Konrad with Jefferies.

Maybe just one clarification. I mean it seems like you brought down -- you didn't change guidance for the year but brought down digital imaging. You talked about the strength in A&D. Has there been any change to the overall company margin guidance for the year just given it seems like A&D is tracking ahead and instrumentation continues to be maybe slightly above expectations?

Yes. I'd say, if you went back to April guidance versus today, probably margin is going down 10 basis points. Again, nothing significant. For the full year, we expect margin to go up about 26 to 30 basis points year-over-year. So overall, it's a -- that's not something that concerns me because as I've mentioned several times, because of our diversity of our products, for example, Instruments margin will go up 80 basis points year-over-year. Aerospace and Defense, similarly, 80 basis points. Even Engineered Systems will go up about 38 to 40 basis points. So a flat digital imaging doesn't change anything at this time.

And then, I mean, you talked about FLIR Defense and kind of what you're seeing on the order front and A&D performance top line was really strong in the quarter. I mean, what are you seeing across Teledyne as it relates to Defense? And how are you kind of thinking about runway just given orders and some of the '23 budget money coming through?

Yes. As you mentioned, there has been a change in the budget for a long time. The budgets look healthy but money wasn't coming through and it started to come through more recently. Overall, I would say we are fairly comfortable with our Defense businesses, probably across everything, mid-single and single digits growth year-over-year. We are enjoying actually pretty good margins and orders in our legacy Defense businesses. And as I mentioned, our fleece defense businesses are turning around and had a good book-to-bill in Q2. It's not just the U.S. Defense. If you look at Defense also in NATO countries, that expenditures are increasing and we have a significant amount of sales overseas, in both our Defense as well as Defense, including things like traveling wave tubes for missile defense products in places like South Korea. So it's a pretty healthy environment right now.

[Operator Instructions] And let's go to the line of Jordan Manosh with BOA [ph].

This is [indiscernible] Bank of America. So I just had a quick question on the backlog for Defense. Are you guys seeing any specific constraints that could put the deliveries at risk? And also, too, for those wins, should we expect the majority of them to come through for '23 or extend that into the out years?

Some will come to in '23 and some will come through in -- starting in Q4. For example, let me just give you one example or two. We do have some counter drone products that are going to Europe, probably about $25 million, $26 million. Most of that would come in '23. On the other hand, the Black Hornet 3 that we just announced for the U.S. Army is $94 million, only about 10% of it will come this year, the rest will come in future years. So it's a balance. I think we'll get some of it this year and a lot of it in future years.

And we'll go to the line of Guy Hardwick with Credit Suisse.

Robert, I think you said in your prepared remarks that digital imaging margins should grow considerably over time. Could you a little bit flesh that out a little bit for us, what is over time? And could this mean that digital imaging margins exceed the sort of 24% levels I think that delivered in 2021?

Yes. The answer is, yes. And the reason I say that is the margins in our legacy businesses are already around that and even higher than that. And I think FLIR margins will increase as we -- especially as we take the cost out that I just mentioned. And overall margins for Digital Imaging this year, we're projecting to be 22.3%. So to go to '24, 170 basis point expansion. Yes, we can do that.

I think last quarter, you had pointed out negative mix, lag of price increases, I think, in the Medical business. So was there any other mix effects other than Defense that you talked about in Q2? Is there anything else that we should be aware of, which may have held back margins? Because I think 3 months ago, you did expect sequential improvement and 30 basis points up for the full year?

Yes. I think in the health care business, things are really good for us. We've had significant expansion, both in our X-ray products, that is our panels as well as components that we put out for X-ray systems. And as I said before, there is some slowdown in China. If you look at China as a whole, they have had some contraction even though you don't hear about it, there has been some contraction there. On the other hand, less than 10% of our portfolio is sold to China. So again, our balanced portfolio helps us. The flip side also is that we've gotten some really good higher-margin products development programs that are helping overall Digital Imaging. Shipments have been a little slower but I think bookings are okay. So again, it's not something that worries me, where we don't have, let's say, a commercial imaging system that somebody would buy in China. On the flip side, we have custom products that we're developing, which are very profitable. Actually, more profitable than commercial. I sit here today and I'm just looking at our portfolio and I wouldn't change it with anybody else's considering all the uncertainty around the world. One area may go down a little bit but we'll pick it up somewhere else. And that's the resilience of our earnings year-over-year, quarter-over-quarter.

Just one last one for me. In Aerospace and Defense Electronics, I think previously, you had mentioned that you benefited from a particularly good mix there. Is that -- presumably, that has continued in Q2 and assume that continues in the second half given your guidance for the margin?

Yes. We think we may have a little lower revenue in the second half. On the other hand, the products that we make in Aerospace go primarily in commercial aircraft. And that market has expanded, as you well know, very close to pre-COVID. Q3, Q4 margins for Aerospace and Defense might be a little lower than Q2 but it will be higher than Q1. So again, I don't see major inflections in that area.

We'll go the line of Jim Ricchiuti with a follow-up from Needham.

You gave us some book-to-bills and I'm just wondering if you could perhaps provide us the book-to-bill in the different segments. I feel like I've got pieces of it.

Sure. Jim, in Instruments, our book-to-bill is about 1.05, so over 1, led by our Marine businesses, which are doing really well, both -- in underwater vehicles as well as oil discovery and production. In the Digital Imaging as a whole, the book-to-bill is about 1.07. In Aerospace and Defense, that's a little more =- and Engineered Systems, those are much more lumpy orders. So quarter-over-quarter book-to-bill may change but it's not affecting the revenue that much because we expect both -- revenue in both segments to grow. Overall, across the company, our book-to-bill is about 1.

Okay. And last question for me. Just given the debt pay down, I'm wondering how -- if anything has changed with respect to thinking about acquisitions, including any change in areas that you might be pursuing? And I know you can't be specific but I'm just wondering, just in general, what your appetite is for M&A as you look out over the next several quarters?

Well, as I mentioned earlier, Jim, we paid on $620 million this year effective today, let's say. That's taken our net debt-to-EBITDA ratio to 2.1%. We have about $60 million of debt left that's variable, which we pay 6%, out of the $3 billion that -- $3 billion plus that Sue mentioned, the rest of our debt is on fixed. So other than that $60 million, our interest payments are 2.1% in future years, which is a very healthy place to be because we haven't really touched our line of credit. So we have a lot of capability to acquisitions. Last year, even as we were paying our debt down, last year, we did 3 bolt-on acquisitions and spent about $160 million. We expect to continue that bolt-on acquisitions. On the flip side is that because if we don't do anything else, if we don't make acquisitions, if we don't -- doing anything, our debt-to-EBITDA ratio is going to go less than 1 in about a year and 1.5 years. So we're bullish about acquisitions, including larger ones, if we can find them. And of course, we are continuously looking at that. The last question was, what areas. Right now, I would say in the general instrumentation area is what's very attractive. We have done some digital imaging acquisitions. As you know, we made the ETM acquisition. We made acquisition for our acquisition. But I think it'd be nice if we could find some things in our Instrumentation area.

And we have no other participants queued up at this time.

Thank you, operator. I now ask Jason to conclude our conference call.

Thanks, Robert. And thanks, Thomas. To give the replay information to the audience, I would appreciate it. And again, all our news releases are available and for those who want to talk to me, please feel free to call me the number in the earnings release. Thanks, everyone. Bye.

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