Jorge L. Valladares
Chief Operating Officer at TransDigm Group
Thanks, Kevin, and good morning, everyone. I'll start with our typical review of results by key market category. For the remainder of the call, I'll provide color commentary on a pro forma basis compared to the prior year period in 2021, that is assuming we own the same mix of businesses in both periods. The market discussion now includes the recent acquisition of DART Aerospace in both periods and the impact of any divestitures completed in fiscal 2021 are removed in both periods. In the commercial market, which typically makes up close to 65% of our revenue, we'll split our discussion into OEM and aftermarket. Our total commercial OEM revenue increased approximately 23% in Q3 compared with the prior year period. Bookings in the quarter were up significantly compared to the same prior year period and again strongly outpaced sales. Sequentially, total commercial OEM sales improved almost 5% compared to Q2. We're encouraged by build rates steadily progressing at the commercial OEMs. However, there have been overall downward revisions in expected future production rates by the commercial OEMs primarily due to labor shortages and supply chain issues. Our expectation remains that in the short term, the demand for our commercial OEM products will continue to be reduced. Now moving on to our commercial aftermarket business discussion. Total commercial aftermarket revenue increased by approximately 44% in Q3 when compared with prior year period. Growth in commercial aftermarket revenue was primarily driven by robust demand in our passenger submarket, which is our largest submarket, although all of our commercial aftermarket submarkets were up significantly compared to prior year Q3. Sequentially, total commercial aftermarket revenues grew by approximately 7%. Commercial aftermarket bookings were up significantly this quarter compared to the same prior year period, and Q3 bookings strongly outpaced sales.
To touch on a few key points of consideration, global revenue passenger miles are still depressed compared to pre-pandemic levels. However, revenue passenger miles have continued to trend upwards over the past months after the slight pullback in January that was primarily due to the Omicron variant. The continued recovery in air travel, especially the progress we have recently seen in international travel, confirms the pent-up demand to travel. Commentary from airlines in recent months has also been positive regarding robust passenger demand. Even with airline ticket prices higher than historical levels, passenger demand has remained strong in the summer season. The recovery in domestic travel continues to be stronger than international travel. In the most recently reported IATA traffic data for June, domestic air traffic was only down 19% compared to pre-pandemic. The U.S. and Europe continue to lead, showing strong demand for domestic travel. U.S. domestic travel is only off about 8% from pre-pandemic levels. China domestic travel is still down about 50% but is beginning to show signs of recovery from its most recent steep drop-off in air travel due to its Zero-COVID policies. The international air traffic recovery has made strides over these past few months. With many of the government-imposed travel restrictions lifted, passengers have been returning to long-haul travel. In March, international travel was still down about 50%. But in the most recently reported IATA traffic data for June, international travel was only down about 35% compared to pre-pandemic levels. For both the U.S. and Europe, international traffic is within 20% or better of pre-pandemic levels. Asia Pacific international travel is improving but continues to unfavorably impact the overall international air traffic recovery with RPKs still down about 70%. Global air cargo demand has tempered over the past few months. As of IATA's most recent data, June was another month of year-over-year decline in air cargo volumes, though they remain above pre-pandemic levels. There's optimism for improvement in air cargo as COVID lockdown measures eased in Asia, particularly in China. Business jet utilization still remains well above pre-pandemic levels. Commentary from business jet OEMs and operators reflects confidence in the demand outlook. It's possible that the pandemic brought a positive structural change to biz jet demand, but that will take some time to prove out. Now let me speak about our defense market, which traditionally is at or below 35% of our total revenue. The defense market revenue, which includes both OEM and aftermarket revenues, was about flat in Q3 when compared with the prior year period. As we've said many times, defense sales and bookings can be lumpy. Similar to the first half of 2022, our teams continue to experience delays in fulfilling orders due to supply chain shortages. The supply chain issues mainly surround the lack of availability of electronic components. Our operating units continue to implement mitigating actions to overcome these challenging issues. Also impacting our defense market revenue are the delays in the U.S. government defense spend outlays.
There's often a lag between U.S. government defense spend authorizations and outlays and the lag is hard to predict, but these delays are longer than typical. As Kevin mentioned earlier and for the reasons I just discussed, we're revising down the expectation for our defense market revenue growth to about flat for fiscal 2022. We were previously expecting low single-digit percent range growth. I'd like to wrap up by expressing how extremely pleased I am with our strong operational performance this quarter. Our teams have continued to put forth significant efforts in overcoming the negative impacts of the pandemic and supply chain disruptions. We remain focused on our value drivers and executing with operational excellence. With that, I'd like to turn it over to our Chief Financial Officer, Mike Lisman. Good morning, everyone. I'm going to quickly hit on some additional financial matters for the quarter and also our expectations for the full fiscal year. First, in regard to profitability for our third quarter. EBITDA as defined of about $696 million for Q3 was up 25% versus prior year Q3. EBITDA as defined margin in the quarter was 49.8%. This represents year-over-year improvement of about 390 basis points. Sequentially, EBITDA as defined margin, increased by 210 basis points. Next, a few quick comments on select financial metrics for the quarter and also year. Organic growth was 17% for the quarter, driven by the growth in our commercial OEM and aftermarket end markets. On taxes, we still expect our GAAP and cash rates to be in the 21% to 23% range and our adjusted tax rate to be in the 24% to 26% range for the year. Moving to cash and liquidity. We had another quarter of positive free cash flow. Free cash flow, which we traditionally define at TransDigm as EBITDA as defined less cash interest payments, capex and cash taxes, was roughly $400 million. For the full fiscal year, we now expect to generate free cash flow in excess of the $1 billion target previously provided. During the quarter, we used $245 million of cash to repurchase shares at a weighted average purchase price of about $554 per share and ended the quarter with $3.8 billion of cash on hand. We view these share repurchases just like any other capital investment, such as the acquisition of a new business, and expect a similar rate of return. With regard to the dividend, the $18.15 per share payment announced this morning represents a gross payout amount of about $1.070 billion. The record date for the dividend is August 19, and the payout date is expected to be August 26. Additionally, in the 10-Q that is filed later today, you'll see that our strong sales growth resulted in net working capital being a $119 million use of cash this quarter. As mentioned previously, we have the cash to fund this investment and are glad to see our primary commercial end markets rebounding and therefore driving this need. As we continue to recover from COVID's impact on air travel and rebound to 2019 global activity levels, we'd expect an additional $100 million to $175 million of cash to go back into net working capital. The time line over which this will happen remains uncertain but should generally track the recovery. Moving on to leverage levels. Our net debt-to-EBITDA ratio is currently at 6.3 times. Pro forma for the dividend, our leverage level will be just over 6.7 times net debt-to-EBITDA. We expect to continue running free cash flow-positive during our fourth quarter, and this ratio will therefore come down from the 6.7 times level by the end of the fiscal year, barring any additional capital market transactions or shareholder distributions. We are watching the rising interest rate environment closely, and we remain 85% hedged on our total $20 billion gross debt balance through a combination of interest rate caps and swaps through calendar year 2025. This provides us adequate cushion against any rise in rates for the time being. Finally, as Kevin mentioned, we are pleased to have allocated $2.4 billion of capital thus far this year across the range of options available to us: acquisitions, buybacks and dividends. Consistent with our past practices, we'll continue to evaluate this full range of options with regard to all of our future capital deployment actions. The priorities are unchanged: first, reinvesting in our own businesses; second, acquisitions; third, returning capital to shareholders via dividends or share repurchases; and finally, paying down debt, which seems unlikely at this time but remains an option. From an overall cash liquidity and balance sheet standpoint, we believe we remain in a strong and good position going forward. With that, I'll turn it back to the operator to kick off the Q&A.
