MOOG INC. (MOG-A) FY 2023 MD&A

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and the related notes appearing elsewhere in this report.

This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including but not limited to those under the heading “Risk Factors” in Item 1A of this report.

OVERVIEW

We are a worldwide designer, manufacturer and systems integrator of high-performance precision motion and fluid controls and control systems for a broad range of applications in aerospace and defense and industrial markets.

Within the aerospace and defense market, our products and systems include:

•Defense market - primary and secondary flight controls and components for military aircraft, turreted weapon systems, tactical and strategic missile steering controls and various defense product components.

•Commercial aircraft market - primary and secondary flight controls and components for commercial aircraft.

•Space market - satellite avionics, positioning controls and components, launcher thrust vector controls and components, as well as integrated space vehicles.

In the industrial market, our products are used in a wide range of applications including:

•Industrial market - various components and systems used in various applications including: heavy industrial machinery used for metal forming and pressing, flight simulation motion control systems, gas and steam exploration and generation products, material and automotive structural and fatigue testing systems, as well as for the electrification of construction vehicles.

•Medical market - components and pumps for enteral clinical nutrition and infusion therapy, CT scan medical equipment, ultrasonic sensors and surgical handpieces and sleep apnea equipment.

We operate under three segments, Aircraft Controls, Space and Defense Controls and Industrial Systems. Our principal manufacturing facilities are located in the U.S., Philippines, United Kingdom, Germany, Italy, Costa Rica, China, Netherlands, Luxembourg, Japan, Czech Republic, Canada, India and Lithuania.

Under ASC 606, 64% of revenue was recognized over time for the year ended September 30, 2023, using the cost-to-cost method of accounting. The over-time method of revenue recognition is predominantly used in Aircraft Controls and Space and Defense Controls. We use this method for U.S. Government contracts and repair and overhaul arrangements as we are creating or enhancing assets that the customer controls. In addition, many of our large commercial contracts qualify for over-time accounting as our performance does not create an asset with an alternative use and we have an enforceable right to payment for performance completed to date.

For the year ended September 30, 2023, 36% of revenue was recognized at the point in time control transferred to the customer. This method of revenue recognition is used most frequently in Industrial Systems. We use this method for commercial contracts in which the asset being created has an alternative use. We determine the point in time control transfers to the customer by weighing the five indicators provided by ASC 606. When control has transferred to the customer, profit is generated as cost of sales is recorded and as revenue is recognized.

Our products and technologies affect millions of people around the world. Our solutions are critical to preserving national security, ensuring safe air transportation, reducing factory emissions and enhancing patient's lives all while driving innovation. Our engineers collaboratively design and manufacture the most advanced motion control products, to the highest quality standards, for use in demanding applications. By capitalizing on these core foundational strengths, we believe we have achieved a leadership position in the high performance, precision controls market and are "Shaping The Way Our World Moves™."

By leveraging our engineering heritage and by focusing on customer intimacy to solve our customers' most demanding technical problems, we have been able to expand our control product franchise to multiple markets; organically growing from a high-performance components manufacturer to a high-performance systems designer, manufacturer and integrator. In addition, we continue expanding our content positions on our current platforms, seeking to be the leading supplier in the niche markets we serve. We also look for innovation in all aspects of our business, employing new technologies to improve productivity, while focusing on talent development to strengthen our employee operational performance.

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Our fundamental long-term strategies that will help us achieve our financial objectives center around pricing and simplification initiatives. Our pricing initiatives focus on receiving fair recognition for the value we deliver to our customers across all of our markets. Our simplification initiatives include:

•utilizing 80/20 processes to create, deliver and capture value,

•shaping our product and business portfolio to invest in growth areas and to divest those that no longer fit,

•rationalizing our manufacturing facility footprint to align with current and future business levels,

•focusing our factories so that individual sites meet the unique needs of a specific market, and

•investing in automation and technologies to improve business operations.

We focus on improving shareholder value through strategic revenue growth, both organic and acquired, through improving operating efficiencies and manufacturing initiatives and through utilizing low cost manufacturing facilities without compromising quality. Historically, we have taken a balanced approach to capital deployment in order to maximize shareholder returns over the long term. These activities have included strategic acquisitions, share buybacks and dividend payments. Today, we believe we can create long term value for our shareholders by continuing to invest in our business through both capital expenditures, as well as investments in new market opportunities. We will also continue exploring opportunities to make strategic acquisitions and return capital to shareholders.

Acquisitions and Divestitures

All of our acquisitions are accounted for under the purchase method and, accordingly, the operating results for the acquired companies are included in the Consolidated Statements of Earnings from the respective dates of acquisition. Under purchase accounting, we record assets and liabilities at fair value and such amounts are reflected in the respective captions on the Consolidated Balance Sheets. The purchase price described for each acquisition below is net of any cash acquired, includes debt issued or assumed and the fair value of contingent consideration.

Acquisitions

On February 21, 2022, we acquired TEAM Accessories Limited ("TEAM") based in Dublin, Ireland for a purchase price of $14 million, consisting of $12 million in cash and contingent consideration with an initial fair value of $3 million. TEAM specializes in Maintenance, Report and Overhaul ("MRO") of engine and airframe components. This operation is included in our Aircraft Controls segment. TEAM has been rebranded as Moog MRO Services as of July 1, 2023.

Divestitures

On September 30, 2022, we sold a sonar business based in the United Kingdom previously included in our Industrial Systems segment. We received net proceeds of $13 million and recorded a loss of $15 million, net of transaction costs. The loss is subject to adjustments associated with amounts currently held in escrow.

On September 20, 2022, we sold assets of a security business based in Northbrook, Illinois previously included in our Space and Defense Controls segment. We received net proceeds of $10 million and recorded a loss of $4 million, net of transaction costs.

On December 3, 2021, we sold the assets of our Navigation Aids ("NAVAIDS") business based in Salt Lake City, Utah previously included in our Aircraft Controls segment. We have cumulatively received net proceeds of $37 million and recorded a gain of $15 million, net of transaction costs. The initial gain recorded was reduced in 2023 by the recording of a reserve against the escrow receivable, which remains subject to adjustment until settlement.

For further information, refer to Note 3 - Acquisitions and Divestitures, of Item 8, Financial Statements and Supplementary Data, of this report.

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Equity Method Investments and Joint Ventures

We use the equity method of accounting to record investments and operating results of those investments in which we do not have a controlling interest, however we do have the ability to exercise significant influence over operations. We held the following equity method investments and joint ventures as of the year ended September 30, 2023.

Moog Aircraft Services Asia ("MASA") is a joint venture included in our Aircraft Controls segment in which we currently hold a 51% ownership share.

We hold a 20% ownership interest in NOVI LLC ("NOVI") that is included in our Space and Defense Controls segment.

Suffolk Technologies Fund 1, L.P., is a limited partnership included in our Industrial Systems segment.

Hybrid Motion Solutions (“HMS”) is a joint venture in our Industrial Systems segment in which we hold a 50% ownership interest.

Investments in, and the operating results of, entities in which we do not have a controlling financial interest or the ability to exercise significant influence over the operations are accounted for using the cost method of accounting, which are included in Other assets in the Consolidated Balance Sheets.

For further information, refer to Note 9 - Equity Method Investments and Joint Ventures, of Item 8, Financial Statements and Supplementary Data, of this report.

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CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Our financial statements and accompanying notes are prepared in accordance with U.S. generally accepted accounting principles. The preparation of these consolidated financial statements requires us to make estimates, assumptions and judgments that affect the amounts reported. These estimates, assumptions and judgments are affected by our application of accounting policies, which are discussed in Note 1 - Summary of Significant Accounting Policies, of Item 8, Financial Statements and Supplementary Data, of this report. We believe the accounting policies discussed below are the most critical in understanding and evaluating our financial results. These critical accounting policies have been reviewed with the Audit Committee of our Board of Directors.

Revenue Recognition on Over-Time Contracts

We recognize revenue from contracts with customers using the five-step model prescribed in ASC 606. For contracts that qualify for over time treatment, we recognize revenue as control of the promised goods or services is being transferred to the customer. This is accomplished by using the cost-to-cost method of accounting, which measures progress as determined by the ratio of cumulative costs incurred to date to estimated total contract costs at completion, multiplied by the total estimated contract revenue, less cumulative revenue recognized in prior periods. We believe this is an appropriate measure of progress toward satisfaction of performance obligations as this measure most accurately depicts the progress of our work and transfer of control to our customers. Changes in estimates affecting sales, costs and profits are recognized in the period in which the change becomes known using the cumulative catch-up method of accounting. Revenue recognized using the cost-to-cost method of accounting over time for the year ended September 30, 2023 was 64% of total revenue. Revenue and cost estimates for substantially all over-time contract performance obligations are reviewed and updated quarterly. For further information, refer to Note 2 - Revenue from Contracts with Customers and Note 22 - Segments, of Item 8, Financial Statements and Supplementary Data, of this report.

Contract Reserves

At September 30, 2023, we had contract reserves of $45 million. Contract reserves are comprised of contract loss reserves, recall reserves, and contract-related reserves. Contract loss reserves are recorded for open contracts where it is anticipated that contract costs will be greater than contract income and are determined considering all direct and indirect contract costs, exclusive of any selling, general or administrative cost allocations that are treated as period expenses. In accordance with ASC 606, we calculate contract losses at the contract level, versus the performance obligation level. Recall reserves are recorded when additional work is needed on completed products for them to meet contract specifications. Contract-related reserves are recorded for other reasons, such as delivery issues outside of the ordinary scope of the contract. For all three types of reserves, a provision for the entire amount of the loss is charged against income in the period in which the loss becomes known and can be reasonably estimated by management. For further information, refer to Note 2 - Revenue from Contracts with Customers, of Item 8, Financial Statements and Supplementary Data, of this report.

Reserves for Inventory Valuation

At September 30, 2023, we had net inventories of $724 million, or 36% of current assets. Reserves for inventory were $142 million, or 16% of gross inventories. Inventories are stated at the lower of cost or net realizable value with cost determined primarily on the first-in, first-out method of valuation.

We record valuation reserves to provide for slow-moving or obsolete inventory by principally using a formula-based method that increases the valuation reserve as the inventory ages. We also take specific circumstances into consideration. We consider overall inventory levels in relation to firm customer backlog in addition to forecasted demand including aftermarket sales. Changes in these and other factors, such as low demand and technological obsolescence, could cause us to increase our reserves for inventory valuation, which would negatively impact our gross margin. As we record provisions within cost of sales to increase inventory valuation reserves, we establish a new, lower cost basis for the inventory.

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Reviews for Impairment of Goodwill

At September 30, 2023, we had $821 million of goodwill, or 22% of total assets. We test goodwill for impairment for each of our reporting units at least annually, during our fourth quarter, and whenever events occur or circumstances change, such as changes in the business climate, poor indicators of operating performance or the sale or disposition of a significant portion of a reporting unit. We also test goodwill for impairment when there is a change in reporting units.

We identify our reporting units by assessing whether the components of our operating segments constitute businesses for which discrete financial information is available and segment management regularly reviews the operating results of those components. We aggregate certain components based upon an evaluation of the facts and circumstances, including the nature of products and services and the extent of shared assets and resources. As a result, we have four reporting units.

Companies may perform a qualitative assessment as the initial step in the annual goodwill impairment testing process for all or selected reporting units. Companies are also allowed to bypass the qualitative analysis and perform a quantitative analysis if desired. Economic uncertainties and the length of time from the calculation of a baseline fair value are factors that we consider in determining whether to perform a quantitative test.

When we evaluate the potential for goodwill impairment using a qualitative assessment, we consider factors including, but not limited to, macroeconomic conditions, industry conditions, the competitive environment, changes in the market for our products and services, regulatory and political developments, entity specific factors such as strategy and changes in key personnel and overall financial performance. If, after completing this assessment, it is determined that it is more likely than not that the fair value of a reporting unit is less than its carrying value, we proceed to a quantitative two-step impairment test.

Quantitative testing first requires a comparison of the fair value of each reporting unit to its carrying value. We principally use the discounted cash flow method to estimate the fair value of our reporting units. The discounted cash flow method incorporates various assumptions, the most significant being projected revenue growth rates, operating margins and cash flows, the terminal growth rate and the discount rate. Management projects revenue growth rates, operating margins and cash flows based on each reporting unit's current business, expected developments and operational strategies typically over a five-year period. If the carrying value of the reporting unit exceeds its fair value, goodwill is considered impaired and any loss must be measured.

In measuring the impairment loss, the implied fair value of goodwill is determined by assigning a fair value to all of the reporting unit's assets and liabilities, including any unrecognized intangible assets, as if the reporting unit had been acquired in a business combination at fair value. If the carrying amount of the reporting unit's goodwill exceeds the implied fair value of that goodwill, an impairment loss would be recognized in an amount equal to that excess.

The determination of our assumptions is subjective and requires significant estimation. Changes in these estimates and assumptions could materially affect the results of our reviews for impairment of goodwill.

For our annual test of goodwill for impairment in 2023, we performed a qualitative assessment for each of our four reporting units.

We evaluated the potential for goodwill impairment by considering macroeconomic conditions, industry and market conditions, cost factors, both current and future expected financial performance, and relevant entity-specific events for each of the reporting units. We also considered our overall market performance discretely as well as in relation to our peers. The results of our qualitative assessment indicated that is more likely than not that the fair value of each of the reporting units exceed its carrying value; and therefore, a quantitative two-step impairment test was not necessary and goodwill was not impaired.

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Reviews for Impairment of Long-Lived Assets

Long-lived assets held for use, which primarily includes finite-lived intangible assets, property, plant and equipment and right-of-use assets, are evaluated for impairment whenever events or circumstances indicate that the undiscounted net cash flows to be generated by their use over their expected useful lives and eventual disposition are less than their carrying value. The long-term nature of these assets requires the estimation of their cash inflows and outflows several years into the future and only takes into consideration technological advances known at the time of the impairment test. For further information, refer to Note 6 - Property, Plant and Equipment and Note 8 - Goodwill and Intangible Assets, of Item 8, Financial Statements and Supplementary Data, of this report.

Pension Assumptions

We maintain various defined benefit pension plans covering employees at certain locations. In 2023, pension expense for all defined benefit plans, which includes the postretirement benefit plan, was $40 million. For further information, refer to Note 15 - Employee Benefit Plans, of Item 8, Financial Statements and Supplementary Data, of this report. Pension obligations and the related costs are determined using actuarial valuations that involve several assumptions. The most critical assumptions are the discount rate, the long-term expected return on assets and mortality rates. Other assumptions include salary increases and retirement age.

We use the spot rate approach to estimate the service and interest cost components of the net periodic benefit cost for most of our plans. Under this approach the service cost is determined by applying the discount rates along the yield curve to the specific service cost cash flows to determine the present value. The interest cost component is computed by using each assumed discount rate along the curve. The discount rates used in determining expense for the U.S. Employees’ Retirement Plan, our largest plan, in 2023 were 5.5% for service cost and 5.4% for interest cost, compared to 3.3% and 2.7%, respectively, in 2022. A 50 basis point decrease in the discount rates would decrease our annual pension expense by $1 million. The discount rates are used to state expected future cash flows at present value. Using a higher discount rate typically decreases the present value of pension obligations and decreases pension expense. We use the Aon Hewitt AA Above Median yield curve to determine the discount rate for our U.S. defined benefit plans at year end. We believe that the Aon Hewitt AA Above Median yield curve best mirrors the yields of bonds that would be selected by management if actions were taken to settle our obligation.

Mortality rates are used to estimate the life expectancy of plan participants during which they are expected to receive benefit payments. We use a modified version of the mortality table and projection scale published by the Society of Actuaries, which reflects improvements consistent with the Social Security Administration, as a basis for our mortality assumptions for our U.S. plans. We believe the use of this modified table and projection scale best reflects our demographics and anticipated plan outcomes.

The long-term expected return on assets assumption reflects the average rate of return expected on funds invested or to be invested to provide for the benefits included in the projected benefit obligation. In determining the long-term expected return on assets assumption, we consider our current and target asset allocations. We consider the relative weighting of plan assets, the historical performance of total plan assets and individual asset classes and economic and other indicators of future performance. Asset management objectives include maintaining an adequate level of diversification to reduce interest rate and market risk and to provide adequate liquidity to meet immediate and future benefit payment requirements. In determining the 2023 expense for our largest plan, we used a 6.5% return on assets assumption, compared to 5.0% for 2022. A 25 basis point decrease in the long-term expected return on assets assumption would increase our annual pension expense by $1 million.

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Income Taxes

Our annual tax rate is based on our earnings before tax by jurisdiction, applicable statutory tax rates, the impacts of permanent differences, tax incentives and tax planning opportunities in the various jurisdictions in which we operate.  Significant judgment is required in determining our annual tax rate and in evaluating our tax positions.

An estimated annual effective tax rate is applied to our quarterly ordinary operating results. For certain significant, unusual or infrequent events, we recognize the tax impact in the quarter in which it occurs.

We record reserves against tax benefits when it’s more likely than not that we will not sustain a position if the appropriate taxing jurisdiction had full information and examined our position. We adjust these reserves when facts and circumstances change, such as when progress is made by taxing authorities in their review of our position. There is a considerable amount of judgment in making these assessments. There were no significant reserves taken in 2023.

Valuation allowances associated with deferred tax assets is another area that requires judgment. We record a valuation allowance to reduce deferred tax assets to the amount of future tax benefit that we believe is more likely than not to be realized. We consider recent earnings projections, allowable tax carryforward periods, tax planning strategies and historical earnings performance to determine the amount of the valuation allowance. Changes in these factors could cause us to adjust our valuation allowance, which would impact our income tax expense when we determine that these factors have changed.

At September 30, 2023, we had gross deferred tax assets of $170 million and deferred tax asset valuation allowances of $6 million. The deferred tax assets principally relate to benefit accruals, inventory obsolescence, tax benefit carryforwards, contract reserves and lease liabilities. The deferred tax assets include $8 million related to tax benefit carryforwards associated with net operating losses and tax credits, for which $6 million of deferred tax asset valuation allowances are recorded. For further information, refer to Note 16 - Income Taxes, of Item 8, Financial Statements and Supplementary Data, of this report.

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CONSOLIDATED RESULTS OF OPERATIONS

The following is a discussion of our results of operations in 2023 compared to 2022. A discussion of our 2022 results of operations compared to 2021 results can be found within Part II, Item 7. Management's Discussion and Analysis within our 2022 Annual Report on Form 10-K, filed with the SEC on November 14, 2022.

Net sales increased across all of our segments in 2023 compared to 2022. The absence of sales associated with our businesses divested in 2022 decreased sales $36 million. Also, weaker foreign currencies, primarily the British Pound, Chinese Yuan and the Euro relative to the U.S. Dollar, decreased sales $19 million in 2023 relative to 2022. Excluding these effects, sales increased 11% in 2023 compared to 2022.

Gross margin declined slightly in 2023 compared to 2022. Incremental contract charges, primarily in Space and Defense Controls and in Aircraft Controls, offset benefits of pricing initiatives across our three segments.

Research and development expenses in 2023 decreased compared to 2022 due to our prioritization of our engineering activities on funded development programs.

Selling, general and administrative expense as a percentage of sales decreased in 2023 compared to 2022, reflecting the incremental benefit of higher sales volume.

Interest expense in 2023 compared to 2022 increased due to higher interest rates on our outstanding debt balances and due to higher debt levels.

In 2023 and 2022 we incurred charges for various restructuring activities and impairments across all of our segments as we progressed on simplifying our business. In 2023, we incurred $29 million of impairment charges, inventory write-downs and restructuring charges, primarily in Industrial Systems. Additionally in 2023, we benefited from a $10 million gain from the sale of three buildings in Industrial Systems. In 2022 we incurred $31 million from various asset impairments, restructuring expenses and inventory write-down charges across all of our segments. We also incurred $19 million of losses on the sales of businesses in both Space and Defense Controls and in Industrial Systems. These were partially offset by a $16 million gain from the sale of a business in Aircraft Controls and a $9 million gain of the sale of a building in Industrial Systems.

In 2023, we settled $41 million of our projected benefit obligation through a lump sum buyout and incurred a $13 million non-cash pension settlement charge.

Other expense in 2023 increased compared to 2022 due to a $6 million increase in non-service pension expense.

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The effective tax rates in 2023 and 2022 both include benefits of favorable provision to return adjustments for tax credits associated with the respective prior year's tax returns.

The twelve-month backlog at September 30, 2023 increased as compared with the twelve-month backlog at October 1, 2022. Within Aircraft Controls, we had higher orders for both military and commercial OEM programs. The twelve-month backlog also increased in Space and Defense Controls across our defense control programs as well as our space vehicle programs. Partially offsetting these increases was a decline in Industrial Systems' twelve-month backlog due to lower orders across our industrial automation programs.

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SEGMENT RESULTS OF OPERATIONS

Operating profit, as presented below, is net sales less cost of sales and other operating expenses, excluding interest expense, equity-based compensation expense, non-service pension expense and other corporate expenses. Cost of sales and other operating expenses are directly identifiable to the respective segment or allocated on the basis of sales, manpower or profit. Operating profit is reconciled to earnings before income taxes in Note 22 - Segments, of Item 8, Financial Statements and Supplementary Data, of this report.

Aircraft Controls

Aircraft Controls' net sales increased in 2023 compared to 2022, as the continued commercial aircraft market recovery was partially offset by lower military sales.

In 2023, sales increased $120 million across all of our commercial OEM programs. Sales increased $35 million across our widebody programs and increased $22 million across our other Boeing and Airbus commercial aircraft programs. Additionally, higher sales volumes for business jets increased sales $27 million. Also in 2023, sales increased $58 million across all of our commercial aftermarket programs. We benefited from higher amounts of spares and repair volume, primarily for the A350 program, as well as the sale of inventory on mature programs that we decided to exit as part of our simplification efforts.

Partially offsetting the commercial increases were sales declines across both our military OEM and aftermarket programs. Sales decreased $30 million in our military OEM programs as lower funded development activities reduced sales $38 million. Partially offsetting the decline was a $13 million increase in sales for the F-35 program. Also, military aftermarket sales decreased $16 million across our programs due to lower repair volume.

Operating margin increased in 2023 compared to 2022. Adjustments in 2023 included $5 million of impairment, inventory write-down and restructuring charges. Adjustments in 2022 included $15 million of impairment and $4 million of restructuring expenses, mostly offset by a $16 million gain associated with the divestiture of our NAVAIDS business. Excluding these charges, the adjusted operating margins in 2023 and 2022 were 10.8% and 10.1%, respectively. The resulting 70 basis-point increase in adjusted operating margin is largely due to the benefits of our pricing and simplification initiatives. Partially offsetting the margin increases were additional charges for military funded development programs.

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Space and Defense Controls

Space and Defense Controls' net sales increased in 2023 compared to 2022 driven by growing defense demand in both of our markets.

In 2023 sales increased $41 million in our space market due to accelerated activity on satellite avionics and components programs. Within our defense market, sales increased $34 million. Sales increased $40 million on our reconfigurable turret program, which achieved full-rate production in the first quarter of 2023. Also, new defense programs increased sales $10 million. Partially offsetting these increases was the absence of sales from our divested security business.

Operating margin increased slightly in 2023 compared to 2022. In 2023, we incurred $3 million of restructuring and impairment charges. In 2022, we incurred $4 million of restructuring and inventory write-down charges, and incurred a $4 million loss associated with the divestiture of our security business. Excluding these charges, adjusted operating margins were 10.5% and 10.9%, respectively. The resulting decline in adjusted operating margin is due to cost growth on our space vehicle development programs. Mostly offsetting the decline was the incremental margin from higher sales and improved operational performance.

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Industrial Systems

Industrial Systems' net sales increased in 2023 compared to 2022, primarily due to general market recoveries. Weaker foreign currencies, primarily the Chinese Yuan and the Euro relative to the U.S. Dollar, decreased sales $14 million. Also, sales decreased $12 million due to the absence of prior year sales associated with our sonar business that we divested in the fourth quarter of 2022. Excluding the impacts of weaker foreign currencies and the divested sales, the resulting sales increase was 12%.

In 2023 compared to 2022, sales increased across all of our markets. Sales increased $50 million for our industrial automation programs, driven by higher demand for industrial components and core products, and by new orders for our electrified construction vehicles. Sales also increased $25 million in our simulation and test programs due to higher orders for flight simulation products. Additionally, sales increased $11 million in our energy market excluding the lost sales associated with our divested business.

Operating margin increased in 2023 compared to 2022. In 2023, we incurred $13 million of impairment losses and $8 million of restructuring and write-down charges as we continued to simplify our business operations. These charges were offset by a $10 million gain related to the sales of three buildings. In 2022, we incurred a $15 million loss associated with the divestiture of our sonar business and incurred $8 million of restructuring, inventory write-downs and asset impairment charges. These were partially offset by a $9 million gain on the sale of a building. Excluding these impacts, adjusted operating margins were 11.5% and 9.5%, respectively. The resulting increase in adjusted operating margin is primarily due to the benefits of our pricing and simplification initiatives.

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SEGMENT OUTLOOK

2024 Outlook – We expect higher sales in 2024, driven by the continued market recovery in our aerospace and defense markets. However, a slowdown of orders will reduce sales in our industrial market. We also expect operating margin will increase due to the continued benefits of our pricing and simplification initiatives. Partially offsetting the incremental profit is an expected higher interest expense and a higher tax rate. We expect diluted earnings per share will range between $6.60 and $7.00, with a midpoint of $6.80.

2024 Outlook for Military Aircraft Controls – In 2024, we expect sales growth in our OEM programs, in particular sales for the V-280 program. Partially offsetting the increase is an expected sales decline in military aftermarket programs as defense funding shifts from legacy refurbishments to product modernization. We expect operating margin will increase due to having a full year of activity on the V-280 program, and due to lower amounts of charges associated with funded development contracts which are winding down.

2024 Outlook for Commercial Aircraft Controls – In 2024, we expect sales growth to come from our widebody OEM programs as build rates continue to recover. We expect lower sales in commercial aftermarket as the prior year's specials won't repeat, which will also reduce our operating margin in 2024.

2024 Outlook for Space and Defense Controls – In 2024, we expect sales growth across both of our space and defense markets, primarily driven by the increased investment in defense spending. We expect operating margin will increase due to the absence of the prior year's charges associated with our space vehicles development programs.

2024 Outlook for Industrial Systems – In 2024, we expect a decrease in sales due to lower orders in our industrial automation market consistent with macroeconomic indicators for capital spending. We also expect a sales decrease associated with the lost sales associated with our footprint and portfolio initiatives. We expect operating margin will increase due to the benefits of our pricing initiatives and the savings from our simplified operations.

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LIQUIDITY AND CAPITAL RESOURCES

Consolidated Statement of Cash Flows

Operating activities

Net cash provided by operating activities decreased in 2023 compared to 2022. Accounts receivable used $64 million more of cash, as last year included a $100 million benefit from the Receivables Purchase Agreement program. Also, inventory used $102 million more of cash as all of our segments faced supply chain and labor availability challenges preventing the release of products, especially in the first half of 2023. Partially offsetting the higher use of cash was a $38 million benefit of higher customer advances across our aerospace and defense programs.

Investing activities

Net cash used by investing activities in 2023 included $173 million of capital expenditures, driven by investments in facilities and equipment to accommodate our sales growth, focus our factories and enhance our capabilities through automation. Also, 2023 included $22 million of proceeds from the sales of buildings and businesses.

Net cash used by investing activities in 2022 included $139 million of capital expenditures, as we increased investments in facilities to support our sales growth. Also, 2022 included $12 million for the acquisition of TEAM Accessories. These cash outflows were partially offset by $71 million of proceeds from the sales of two businesses and a building in 2022.

Financing activities

Net cash used by financing activities in 2023 included $26 million of net borrowings on our credit facilities. Partially offsetting the borrowings was a cash use of $34 million for dividend payments.

Net cash used by financing activities in 2022 included $68 million of net payments on our credit facilities. Additionally, financing activities in 2022 included $33 million of cash dividends and $33 million of share repurchases.

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General

Cash flows from our operations, together with our various financing arrangements, fund on-going activities, debt service requirements, organic growth, acquisition opportunities and the ability to return capital to shareholders. We believe these sources of funding will be sufficient to meet our cash requirements for the next 12 months and for the foreseeable future thereafter.

At September 30, 2023, our cash balances were $69 million, which includes $63 million held outside of the U.S. by foreign operations. We regularly assess our cash needs, including repatriation of foreign earnings which may be subject to regulatory approvals and withholding taxes, where applicable by law.

Financing Arrangements

In addition to operations, our capital resources include bank credit facilities and an accounts receivable financing program to fund our short and long-term capital requirements. We continuously evaluate various forms of financing to improve our liquidity and position ourselves for future opportunities, which from time to time, may result in selling debt and equity securities to fund acquisitions or take advantage of favorable market conditions.

We are generally not required to obtain the consent of lenders of the U.S. revolving credit facility before raising significant additional debt financing; however, certain limitations and conditions may apply that would require consent to be obtained. We have demonstrated our ability to secure consents to access debt markets. We have also been successful in accessing equity markets from time to time. We believe that we will be able to obtain additional debt or equity financing as needed.

In the normal course of business, we are exposed to interest rate risk from our long-term debt. To manage these risks, we may enter into derivative instruments such as interest rate swaps which are used to adjust the proportion of total debt that is subject to variable and fixed interest rates.

Our U.S. revolving credit facility, which matures on October 27, 2027, has a capacity of $1.1 billion and also provides an expansion option, which permits us to request an increase of up to $400 million to the credit facility upon satisfaction of certain conditions. The weighted-average interest rate on the outstanding credit facility borrowings was 6.93% and is based on SOFR plus the applicable margin, which was 1.60% at September 30, 2023.

The U.S. revolving credit facility contains various covenants. The minimum for the interest coverage ratio, defined as the ratio of EBITDA to interest expense for the most recent four quarters, is 3.0. The maximum for the leverage ratio, defined as the ratio of net debt to EBITDA for the most recent four quarters, is 4.0. EBITDA is defined in the loan agreement as (i) the sum of net income, interest expense, income taxes, depreciation expense, amortization expense, other non-cash items reducing consolidated net income and non-cash equity-based compensation expenses minus (ii) other non-cash items increasing consolidated net income.

The SECT has a revolving credit facility with a borrowing capacity of $35 million, maturing on October 26, 2025. Interest was 7.55% as of September 30, 2023 and is based on SOFR plus a margin of 2.23%.

We have $500 million aggregate principal amount of 4.25% senior notes due December 15, 2027 with interest paid semiannually on June 15 and December 15 of each year. The senior notes are unsecured obligations, guaranteed on a senior unsecured basis by certain subsidiaries and contain normal incurrence-based covenants and limitations such as the ability to incur additional indebtedness, pay dividends, make other restricted payments and investments, create liens and certain corporate acts such as mergers and consolidations.

Our Receivables Purchase Agreement, which matures on November 4, 2024, allows the Receivables Subsidiary to sell receivables to the Purchasers in amounts up to a $100 million limit so long as certain conditions are satisfied. The receivables are sold to the Purchasers in consideration for the Purchasers making payments of cash. Each Purchaser’s share of capital accrues yield at a variable rate plus an applicable margin, which totaled 6.32% as of September 30, 2023.

At September 30, 2023, we had $712 million of unused capacity, including $710 million from the U.S. revolving credit facility after considering standby letters of credit and other limitations.

We are in compliance with all covenants under each of our financing arrangements.

See Note 10 - Indebtedness, of Item 8, Financial Statements and Supplementary Data, for additional details regarding our financing arrangements.

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Dividends and Common Stock

We believe we can create long term value for our shareholders by continuing to invest in our business through both capital expenditures as well as investments in new market opportunities. We will also continue exploring opportunities to make strategic acquisitions and return capital to shareholders.

We are currently paying quarterly cash dividends on our Class A and Class B common stock and expect to continue to do so for the foreseeable future. See the Consolidated Statement of Shareholders Equity and Cash Flows, of Item 8, Financial Statements and Supplementary Data, for additional details regarding our financing arrangements.

The Board of Directors authorized a share repurchase program that permits repurchases for both Class A and Class B common stock, and allows us to buy up to an aggregate 3 million common shares. There are approximately 2.2 million common shares remaining under this authorization. See the Consolidated Statement of Shareholders Equity and Cash Flows, of Part II, Item 8, Financial Information and Part II, Item 5, Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities, of this report for additional details.

Today, we believe we can create long term value for our shareholders by continuing to invest in our business through both capital expenditures as well as investments in new market opportunities. We will also continue exploring opportunities to make strategic acquisitions and return capital to shareholders.

Off Balance Sheet Arrangements

We do not have any material off balance sheet arrangements that have or are reasonably likely to have a material future effect on our financial condition, results of operations or cash flows.

Contractual Obligations and Commercial Commitments

For further information on our contractual obligations and commitments as of September 30, 2023, see the notes referenced below, of Item 8, Financial Statements and Supplementary Data, of this report.

Right-of-use lease liabilities - See Note 7 - Leases, for details on obligations and timing of expected future payments, including a five-year maturity schedule.

Debt Obligations and Interest Payments - See Note 10 - Indebtedness, for details of our debt and timing of expected future principal and interest payments. Our current and long-term interest obligation on fixed-rate debt is $21 million and $68 million, respectively. Interest on variable-rate long-term debt, assuming the rate and outstanding balances do not change from those at September 30, 2023, would be approximately $27 million annually.

Employee Benefit Plans - See Note 15 - Employee Benefit Plans, for details on our obligations and timing of expected future payments under these plans. In 2024, we have no minimum funding requirements. However, we anticipate making contributions to defined benefit pension plans of $14 million, of which approximately $6 million is for a non-qualified U.S. plan. We are unable to determine minimum funding requirements beyond 2024. We have made no discretionary incremental contributions to our defined benefit plans in excess of minimum funding requirements. We do not plan to make additional contributions for the foreseeable future.

Income Taxes - We are unable to determine if and when any unrecognized tax benefits, which are not material, will be settled, nor can we estimate any potential changes to the unrecognized tax benefits. See Note 16 - Income Taxes, for additional details of tax obligations.

Commitments - See Note 24 - Commitments and Contingencies, for additional details.

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ECONOMIC CONDITIONS AND MARKET TRENDS

We operate within the aerospace and defense and industrial markets. Our businesses are facing varying levels of supply chain pressures from the residual impacts of the COVID-19 pandemic.

Our aerospace and defense businesses represented 70% of our 2023 sales. Within the defense market, our programs are directly affected by funding levels, which have recently increased. Our commercial aircraft market, which represented 21% of our 2023 sales, is driven by our customers' growing demand. While domestic travel has recovered, global international travel remains slightly below pre-pandemic levels.

Within our industrial markets, which represented 30% of our 2023 sales, our programs benefited from increased order demand within industrial automation, simulation and test and energy markets.

A common factor throughout our markets is the continuing demand for technologically advanced products.

Aerospace and Defense

Within aerospace and defense, we serve three end markets: defense, commercial aircraft and space.

The defense market is dependent on military spending for development and production programs. We have a growing development program order book for future generation aircraft and turret programs, and we strive to embed our technologies within these high-performance military programs of the future including the Textron Bell V-280 Valor. Aircraft production programs are typically long-term in nature, offering predictable capacity needs and future revenues. We maintain positions on numerous high priority programs, including the Lockheed Martin F-35 Lightning II. The large installed base of our products leads to attractive aftermarket sales and service opportunities. The tactical and strategic missile, missile defense and defense controls markets are dependent on many of the same market conditions as military aircraft, including overall military spending and program funding levels. At times when there are perceived threats to national security, U.S. defense spending can increase; at other times, defense spending can decrease. Future levels of defense spending have increased in the near-term given the current global tensions, and are subject to presidential and congressional approval.

The commercial OEM aircraft market has depended on a number of factors, including both the last decade's increasing global demand for air travel and increasing fuel prices. Both factors contributed to the demand for new, more fuel-efficient aircraft with lower operating costs that led to large production backlogs for Boeing and Airbus. Domestic air travel has recovered from the impact of the COVID-19 pandemic, and international travel utilizing primarily widebody aircraft is close to 2019 levels. We believe Boeing and Airbus will continue to directionally match their widebody aircraft production rates with the post-pandemic air traffic volumes, which affects our demand for our flight control systems.

The commercial aftermarket is driven by usage and the age of the existing aircraft fleet for passenger and cargo aircraft, which drives the need for maintenance and repairs. We have seen a recovery in the demand volume for our maintenance services and spare parts after the COVID-19 pandemic. During the pandemic, there were very few new A350 and 787 entries into service. These delays have subsequent impacts on our aftermarket revenue, as sales are generated after the warranty period. Therefore, we expect aftermarket sales growth to be modest over the next few years.

The space market is comprised of three customer markets: the civil market, the U.S. Department of Defense market and the commercial space market. The civil market, namely NASA, is driven by investment for commercial and exploration activities, including NASA's return to the moon. The U.S. Department of Defense market is driven by governmental-authorized levels of defense spending, including funding for defense-related satellite technologies. Levels of U.S. defense spending could increase as there is growing emphasis on space as the next frontier of potential future conflicts. The commercial space market is comprised of large satellite customers, which traditionally sell to communications companies. Trends for this market, as well as for commercial launch vehicles, follow demand for increased capacity. Our launch vehicle and satellite components and systems, as well as our new space vehicle programs, will continue to develop from increased investments in these markets.

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Industrial

Within industrial, we serve two end markets: industrial and medical.The industrial market consists of industrial automation products, simulation and test products and energy generation and exploration products. The medical market consists of medical devices and medical components products.

The industrial market we serve with our industrial automation products is influenced by several factors including capital investment levels, the pace of product innovation, economic conditions, cost-reduction efforts, technology upgrades and the subsequent effects of the COVID-19 pandemic. We experience challenges from changing demands from customers that have both surged and reduced their industrial product orders, as our customers are impacted by rapidly changing international and domestic economic conditions.

Our simulation and test products operate in markets that were largely affected by the same factors and investment challenges stemming from the COVID-19 pandemic on our commercial aircraft market. However, we have seen stronger order demand for flight simulation systems as the airline training market recovers in line with domestic and foreign flight hours.

Our energy generation and exploration products operate in a market that is influenced by changing oil and natural gas prices, global urbanization and the resulting change in supply and demand for global energy. Historically, drivers for global growth include investments in power generation infrastructure and exploration of new oil and gas resources.

The medical market we serve, in general, is influenced by economic conditions, regulatory environments, hospital and outpatient clinic spending on equipment, population demographics, medical advances, patient demands and the need for precision control components and systems. Advances in medical technology and medical treatments have resulted in the greater need for medical services, which drive the demand for our medical devices and components programs.

Foreign Currencies

We are affected by the movement of foreign currencies compared to the U.S. dollar, particularly in Aircraft Controls and Industrial Systems. About one-sixth of our 2023 sales were denominated in foreign currencies. During 2023, average foreign currency rates generally weakened against the U.S. dollar compared to 2022. The translation of the results of our foreign subsidiaries into U.S. dollars decreased sales by $19 million compared to one year ago. During 2022, average foreign currency rates generally weakened against the U.S. dollar compared to 2021. The translation of the results of our foreign subsidiaries into U.S. dollars decreased 2022 sales by $44 million compared to 2021.

RECENT ACCOUNTING PRONOUNCEMENTS

See Note 1 - Summary of Significant Accounting Policies, included in Item 8, Financial Statements and Supplementary Data, of this report for further information regarding Financial Accounting Standards Board issued Accounting Standards Updates ("ASU").

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