Graham Corp (GHM) Q2 2027 Earnings Call Transcript

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DATE

Thursday, Nov. 5, 2026

CALL PARTICIPANTS

• Investor Relations - Tom Cook
• President and Chief Executive Officer - Matt Malone
• Chief Financial Officer - Chris Thome

TAKEAWAYS

• Net Sales -- $69.8 million, representing a 6% increase due to the addition of FlackTek and strength in defense and space markets.
• Gross Margin -- 28.2%, expanding 650 basis points from 21.7% in the prior year period, reflecting a more favorable sales mix and improved operational execution.
• Adjusted EBITDA -- $10.3 million, a 64% increase from $6.3 million, driven by higher volume and margin expansion in the defense and space segments.
• Net Income Per Diluted Share -- $0.39, up from $0.28, while adjusted net income per diluted share rose 68% to $0.52.
• Backlog -- $561.3 million, a record for the seventh consecutive quarter, with 83% of the total attributed to defense programs.
• Defense Revenue -- $46.1 million, growing 12% and representing 66% of total quarterly sales, driven by project milestones and the FlackTek acquisition.
• Space Revenue -- $6.5 million, an increase of 59%, supported by accelerated launch cadences and the commercialization of turbomachinery.
• Energy and Process Revenue -- $18.3 million, a 17% decline reflecting softness in large international capital projects amid geopolitical uncertainty.
• FlackTek Revenue -- $9.5 million, contributing significantly to both top-line growth and portfolio-wide margin accretion during the quarter.
• Aftermarket Orders -- $18.3 million, up 91% year over year, driven by maintenance and replacement needs for the company's $1 billion global installed base.
• Space Orders -- $10.6 million, resulting in a book-to-bill ratio of 1.7x for the quarter and 2x for the first half of the fiscal year.
• Cash Position -- $71.4 million at quarter end, with no outstanding debt following the repayment of $13 million during the first half.
• Fiscal 2027 Revenue Guidance -- $285 million to $295 million, reaffirmed at an 18% increase over the prior year at the midpoint.
• Fiscal 2027 Adjusted EBITDA Guidance -- $35 million to $40 million, reaffirmed, representing 44% growth at the midpoint.
• Fiscal 2027 Gross Margin Guidance -- 25.0% to 26.0%, an increase from the previous range of 24.5% to 25.5% due to better execution and product mix.
• Capital Expenditures Guidance -- $15.0 million to $20.0 million for the full fiscal year, adjusted from $18.0 million to $22.0 million based on project timing.
• Backlog Conversion -- 30% to 35% of the current backlog is expected to convert to revenue within the next 12 months, with 20% to 25% expected in the following year.
• Operating Cash Flow -- $34.1 million for the first six months, reflecting strong collections of accounts receivable and customer deposits.
• SG&A Expense -- $13.6 million, including amortization, an increase of 34% driven by FlackTek integration and investments in personnel and systems.
• Return on Invested Capital (ROIC) Hurdle -- 20% target for all special capital projects, including the new facility expansion in Arvada, Colorado.

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RISKS

• CFO Thome stated, "Our fiscal third quarter is typically our lowest revenue quarter of the year, given the holidays and the dependence of our business on direct labor," indicating seasonal volume pressure.
• Malone warned that large capital projects in the Energy and Process segment remain soft due to global uncertainty, resulting in lower sales to customers outside the United States.
• Management noted that defense revenue was partially offset by approximately $10 million in lower material receipts during the quarter compared to the prior year.

SUMMARY

Graham Corporation (NYSE:GHM) reported significant margin expansion and record backlog levels during the second quarter, driven by sustained demand in the defense and space sectors and the successful integration of FlackTek. Management reported that the company's defense segment now accounts for two thirds of total revenue, supported by multi-decade shipbuilding cycles and strong bipartisan support for naval programs. The company stated that it is executing a three-year strategic framework intended to achieve 8% to 10% annual organic revenue growth and adjusted EBITDA margins of 14% to 16% by fiscal 2029. Management indicated that financial flexibility remains high with zero debt, allowing for continued organic investments in testing facilities and selective pursuit of strategic acquisitions.

• The company successfully completed its first customer test at a new cryogenic testing facility in Florida, validating performance for space and defense applications.
• Management broke ground on a new 30,000-square-foot facility at the Arvada campus in Colorado to support increasing demand for turbomachinery.
• CEO Malone noted that the defense backlog is 85% funded and highlighted the multi-year nature of submarine and torpedo programs as providing long-term visibility.
• The space segment saw orders reach twice the level of sales for the first half of the year, driven by higher launch cadences and the transition of development programs into production.
• Management indicated that FlackTek is shifting toward production-scale opportunities, with increasing demand for larger machines and higher value purchase orders.
• The company is identifying new energy opportunities in development programs for microreactors and small modular reactors where specialized engineering is required.
• Management stated that the primary naval positions on Columbia and Virginia-class submarines provide exposure to both new production and recurring fleet maintenance.

INDUSTRY GLOSSARY

• AUKUS: A trilateral security partnership between Australia, the United Kingdom, and the United States focusing on defense technology and submarine capabilities.
• Book-to-Bill Ratio: The ratio of orders received to units shipped and billed for a specific period; a ratio above 1.0 indicates strong demand.
• Cryogenic Facility: A specialized testing environment designed to validate equipment performance at extremely low temperatures.
• FlackTek: A recently acquired business specializing in advanced materials processing and centrifugal mixing technologies.
• MEGA Platform: A specific large-scale materials processing technology platform within the FlackTek product line.
• Turbomachinery: Machines that transfer energy between a rotor and a fluid, including turbines, pumps, and compressors used in space and defense.

Full Conference Call Transcript

Operator: Greetings, and welcome to the Graham Corporation fiscal second quarter 2027 earnings call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. Should anyone require operator assistance during the conference, please press star 0 on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Tom Cook, Investor Relations. Thank you. You may begin.

Tom Cook: Thank you, Sachi, and good morning, everyone. Welcome to Graham's second quarter fiscal 2027 earnings call. With me on the call today are Matt Malone, President and CEO, and Chris Thome, Chief Financial Officer. This morning, we released our second quarter fiscal 2027 financial results. Our earnings release and accompanying presentation to today's call are available on our website at ir.grahamcorp.com. You should be aware that we may make forward-looking statements during the formal discussion, as well as during the Q&A session. These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what is stated here today.

These risks and uncertainties and other factors are provided in the earnings release, as well as with other documents that are filed by the company with the Securities and Exchange Commission. You can find these documents on our website or at sec.gov. During today's call, we will also discuss non-GAAP financial measures. We believe these will be useful in evaluating our performance. However, you should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP. We have provided reconciliations of non-GAAP measures with comparable GAAP measures in the tables that accompany today's release and slides.

We also use key performance indicators to help gauge the progress and performance of the company. These key performance metrics are ROIC, orders, backlog, and book-to-bill ratio. These are operational measures, and a quantitative reconciliation of each is not required or provided. You can find a disclaimer regarding our use of KPIs at the back of today's presentation. With that, if you'll please advance to slide three, I'll turn the call over to Matt to begin. Matt?

Matt Malone: Thank you, Tom, and good morning, everyone. We appreciate you joining us to review our second quarter fiscal 2027 results. We have continued to execute on our strategic priorities, with growth in defense and space, significant improvement in profitability, another quarter of record backlog, and continued momentum in our FlackTek business. Second quarter revenue was $69.8 million, up 6% from the prior year. Adjusted EBITDA increased 64% to $10.3 million, representing a margin of 14.8%. Orders totaled $73.7 million, and backlog reached a record $561 million. This performance reflects the sustained demand for our mission-critical technologies, the contributions of FlackTek, and better execution across our entire business platform.

We are excited by the improvement in profitability while we continue to invest in our people, processes, and technology. Operational improvements on new and existing programs, a more favorable mix in defense and space work, and the addition of FlackTek are all additive to our results. Program mix and the timing of material receipts also affect our margins, and Chris will discuss those factors in more detail in a few minutes. The investments we have made across our organization to support capacity, automation, testing, and systems are increasingly supporting the business. FlackTek's integration is translating into stronger results, and we completed our first customer test at our new cryogenic test facility this quarter.

We also broke ground on our new Arvada facility in Colorado to support our continued growth. Based on our first-half performance and expectations for the remainder of the year, we are reaffirming our fiscal 2027 revenue and adjusted EBITDA guidance. We have also increased our gross margin outlook to reflect better execution and mix. We remain focused on our three-year framework that we outlined at our June investor day, targeting 8%-10% organic revenue growth and adjusted EBITDA margins of 14%-16% by fiscal 2029. This quarter demonstrates progress towards those objectives as we work towards becoming a top quartile performer over time. Turning to our markets on slide four and starting with defense.

Revenue increased 12% from the prior year quarter and represented 66% of total sales. Growth reflected project milestone timing, new programs, expansion of existing programs, and the addition of FlackTek, partially offset by the approximately $10 million lower in material receipts than the prior year's quarter. Defense orders were up $41.8 million, and defense backlog increased 10% from a year ago. Our primary naval positions include the Columbia and Virginia-class submarine programs and the Mark 48 Mod 7 heavyweight torpedo, which are both bipartisan supported. We also supply the MK19 Mod 2 air turbine pump assemblies to support submarines' fleet spares. These positions give us exposure to both new production and the reoccurring requirements of the installed fleet.

Additionally, our thermal management and cooling technologies position us well for growth in radar and directed energy platforms, where we are seeing continued progress from development towards production. These systems are becoming increasingly more important as war is reshaped by proliferation of drones and other new technologies. From a margin perspective, we are seeing the benefits of operational excellence and a more profitable mix of work. Better execution on existing programs, together with pricing discipline on new opportunities, supports our long-term margin goals. Before turning to space, I want to spend a minute discussing the defense budget and framing Graham's interplay.

The vast majority of our programs we support have requirements that extend well beyond any individual budget or political cycle. Shipbuilding, for example, is a multi-decade cycle with strong bipartisan support, and one where America's adversaries are making strides ahead of the United States. We have appropriations, and while funding timing still matters, the multi-year nature of these programs provides visibility as we plan capacity and investments alongside our customers. Our defense backlog is 85% funded, and we are excited about the continued momentum. Moving to space, growth continues to build. Revenue increased 59% from the prior year quarter, reflecting commercialization, higher launch cadences, and the ramp of existing programs and contributions from FlackTek.

Orders were $10.6 million, representing a book-to-bill ratio of 1.7x. For the first half, space orders totaled $25 million, or 2x sales, and the space backlog was up 108% from a year ago. As customers advance their programs, demand is growing for turbomachinery, cryogenic systems, pumps, and related technologies that we provide. FlackTek adds advanced materials processing capabilities that broaden our participation in space and defense applications, including missiles. Our testing investments are also strengthening our offering. We successfully completed the first customer test at our new cryogenic facility in Florida this quarter. Together with our liquid nitrogen testing capabilities in Colorado, this allows us to validate performance under demanding conditions and deliver fully tested solutions.

That is valuable to our customers as they work through qualification and scale production. Turning to energy and process, revenue declined 17% from prior year quarter. Large capital projects remain soft amid global uncertainty, and sales to customers outside the United States were lower. Growth in the new energy and contributions from FlackTek partially offset those pressures, and we continue to manage the business with that large project environment in mind. Aftermarket remains strong and important opportunity across energy and process and defense. Combined aftermarket sales were $8.6 million, down 3% from prior quarter, while orders increased 91% to $18.3 million. Sales remained a high level, and the strength in our bookings supports future activity.

With a more than $1 billion install base of Graham equipment around the world, we have a substantial group of customers who need ongoing maintenance, replacement parts, and performance improvements. Expanding that life cycle remains a key priority. In new energy, we continue to see opportunities in development programs, supporting microreactors, small modular reactors, and other technologies. These markets are still developing, and we will continue to pursue opportunities where our engineering capabilities can solve specific customer needs. Turning now to FlackTek, which I want to highlight and I am very excited about. The integration has gone exceptionally well, and that is showing up in the business results.

Revenue increased to $9.5 million from $6.6 million in first quarter, and the business is contributing margins that are accretive to the portfolio. A key focus has been sales excellence. The team is following a more rigorous process to help customers understand the technology, validate its application, and move towards an order. We are seeing the time from request for quotation to order shorten, alongside greater demand for larger machines and higher value purchase orders. The key message is the shift towards production. As customers move from evaluating the technology to using it in production, the scale and the opportunity expands.

That is why we remain particularly excited about the MEGA platform and the potential to introduce FlackTek's advanced materials processing technologies to the world. FlackTek is also a useful example of how we approach M&A. We look for differentiated, engineer-led businesses with proprietary technology that can expand our addressable markets and create opportunities for profitable growth. Alongside our investments in technologies such as Xdot, our focus is on turning technical differentiation into commercial results. Turning to operational excellence on slide five, our focus continues to move from not only building capabilities, but to getting more out of those capabilities as well.

The Navy and X-ray facilities in Batavia, automated welding, expanded assembly and testing in Colorado, and the cryogenic testing facility in Florida give us a stronger base from which to serve our customers. We are also continuing to modernize our systems through our ERP initiatives. The next step is to translate those capabilities into higher utilization, shortened cycle times, and improved throughput. The operational improvements contributing to this quarter's gross margin are encouraging, and we see further opportunity as we repeat that execution across more programs. During the quarter, we broke ground on our new 30,000 sq ft facility at our Arvada campus. This expansion is intended to support increasing demand and provide additional capacity for our turbomachinery applications.

It is an investment in our ability to execute the work ahead of us and support future growth. We continue to evaluate special capital projects against our 20% ROIC hurdle rate. Our focus is on investments that expand capacity, improve productivity, and strengthen differentiated capabilities. The change in our capital expenditure outlook reflects the timing of major projects, which Chris will discuss in more detail. These investments support the execution and visibility of our backlog, which increased 12% from a year ago and represents our seventh consecutive quarter of record backlog. Approximately 83% is in defense, with many programs extending over multiple years.

Our year-to-date book-to-bill is 1.2x, together with our active pipeline, supports our confidence in the fiscal 2027 outlook and our longer-term framework. As we move into the second half, we will build on these opportunities in space, defense, and expand aftermarket support, commercialize our proprietary technologies, and improve profitability through disciplined pricing. We also remain selective as we pursue acquisitions that complement our organic growth strategy and offer attractive returns. The foundation we have built is contributing more meaningfully to our results. We are pleased with our progress through the first half of the fiscal year and recognize there is more work ahead as we continue improving execution and creating value for our customers and shareholders.

I want to thank every one of our employees for their continued commitment to our customers and seeing our vision come to life. With that, I'll turn the call over to Chris for a detailed review of our financial results and outlook. Chris?

Chris Thome: Thanks, Matt. Good morning, everyone. Turning to our second quarter results, starting on slide six. We delivered another solid quarter with continued growth in defense and space, meaningful gross margin expansion, and strong cash generation. Our results reflect the benefits of operational execution, the investments we have made to support our long-term growth strategy, and the acquisition of FlackTek. Second quarter revenue increased 6% to $69.8 million compared with $66 million in the prior year period. FlackTek contributed $9.5 million of revenue during the quarter. Defense revenue increased 12% year-over-year, primarily driven by the timing of project milestones, new programs, and continued expansion of existing programs, along with the contributions from FlackTek.

This growth was partially offset by approximately $10 million of lower material receipts compared with the extraordinarily high level of the prior year quarter. Defense represented 66% of quarterly sales. Space revenue increased 59% year-over-year and reflects the commercialization, accelerated launch cadences, and the ramp of existing programs, as well as the addition of FlackTek. Within energy and process, revenue decreased 17% from the prior year period, reflecting softness in large capital project investments amid geopolitical uncertainty and lower sales to customers outside the U.S., partially offset by growth in new energy and FlackTek. Aftermarket sales across energy and process and defense were $8.6 million, down 3% year-over-year, but remained at high levels.

Turning to slide seven, gross profit increased 38% to $19.7 million compared with $14.3 million in the prior year period. Our gross margin expanded 650 basis points to 28.2% compared with 21.7% a year ago. This increase reflects operational improvements from the investments we have made, contributions from FlackTek, and a more favorable sales mix, particularly within space and defense. The comparison also benefited from lower material receipts in the second quarter of fiscal 2027 as compared to the prior year, which had lower margins. Moving to slide eight, selling general and administrative expenses, including intangible amortization, increased $3.4 million or 34% compared with the prior year period.

Approximately $2.3 million of the increase reflected incremental SG&A associated with FlackTek, and acquisition and integration expenses contributed $0.7 million to the increase. We also continue to invest in our people, our processes, and our technology. These investments are expected to total approximately $2.5 million of incremental cost in fiscal 2027 to support future growth and accelerate commercialization. These increases were partially offset by the end of the Barber-Nichols performance bonus in fiscal 2026. The prior year quarter included $1.1 million of expense related to that bonus, with no corresponding expense in the current quarter. Net income increased 50% to $4.6 million compared with $3.1 million in the prior year quarter.

Net income per diluted share increased 39% to $0.39 compared with $0.28 a year ago. On an adjusted basis, net income increased 80% to $6.2 million compared with $3.4 million a year ago. Adjusted net income per diluted share increased 68% to $0.52 compared with $0.31 in the prior year quarter. Adjusted EBITDA increased 64% to a record $10.3 million compared with $6.3 million in the prior year period. Adjusted EBITDA margin expanded 530 basis points to 14.8% from 9.5% a year ago. For the first half of fiscal 2027, revenue increased 16% to $141 million, and adjusted EBITDA increased 45% to $19.1 million, representing an adjusted EBITDA margin of 13.5%.

Overall, we are pleased with the improvement in profitability while continuing to invest to support future growth. Turning to slide nine, orders totaled $73.7 million during the quarter, resulting in a book-to-bill ratio of 1.1x. For the first six months of fiscal 2027, our book-to-bill ratio was 1.2x, and our pipeline of opportunities remains strong. Orders can be lumpy given the nature of our business, particularly large capital projects and multi-year Defense orders. Defense orders totaled $41.8 million in the quarter. As Matt discussed earlier, the vast majority of the programs we support have requirements that extend well beyond any individual budget or political cycle. Shipbuilding is a multi-decade cycle with strong bipartisan support.

While funding timing can be impacted, the multi-year nature of these programs provides visibility as we plan capacity and investments alongside our customers. Our Defense backlog is 85% funded, and we are excited about the continued momentum. Space orders were $10.6 million, representing a book-to-bill ratio of 1.7x for the quarter. For the first half of fiscal 2027, Space orders totaled $25 million, or 2x sales. Aftermarket orders across Defense and energy and process increased 91% to $18.3 million. Finally, our FlackTek business continues to build momentum, as book-to-bill was 1.3x for the first half of the year. Backlog reached another record of $561 million, up 12% from the prior year period, marking our seventh consecutive quarter of record backlog.

Defense backlog increased 10%, and Space backlog increased 108% from a year ago. Defense represented approximately 83% of backlog at quarter end. We currently expect approximately 30%-35% of quarter-end backlog to convert to revenue within the next 12 months, and another 20%-25% within one to two years, and the remainder beyond two years. This backlog continues to provide meaningful visibility into future revenue. Turning to slide 10, our balance sheet remains strong and provides significant flexibility to support our strategic priorities. Net cash provided by operating activities was $34.1 million for the first six months of fiscal 2027. The strong cash generation primarily reflects the timing of accounts receivable collections and customer deposits, along with higher cash net income.

Net capital expenditures totaled $4.9 million for the first half of 2027, as we continue to invest in growth and productivity improvements. We ended the quarter with $71 million of cash, no outstanding debt, and $75 million available under our revolving credit facility. This financial flexibility positions us to pursue both organic and inorganic growth plans. Turning to guidance on slide 11. We are reaffirming our fiscal 2027 revenue and adjusted EBITDA outlook while updating our gross margin, SG&A, and capital expenditure assumptions based on first-half performance and our expectations for the remainder of the fiscal year.

We continue to expect revenue to be between $285 million and $295 million, representing an increase of 18% over the prior year at the midpoint, and our adjusted EBITDA to be between $35 million-$40 million, representing a 44% increase at the midpoint. I should remind everyone that our fiscal third quarter is typically our lowest revenue quarter of the year, given the holidays and the dependence of our business on direct labor. Before concluding, I would like to remind everyone of the three-year financial framework that we laid out at our investor day in June.

Our objectives remain to achieve 8%-10% organic revenue growth per year and adjusted EBITDA margins of 14%-16% by fiscal 2029, supported by higher volumes, operational improvements, a more commercial mix, and continued leverage from our business investments. That framework implies approximately $340 million-$350 million in revenue and $50 million-$55 million of adjusted EBITDA by FY 2029. We remain focused on disciplined capital allocation and targeting returns above our 20% ROIC hurdle rate for our CapEx investments. Overall, we are pleased with our results through the first half of FY 2027. Our record backlog, continued execution, and strong balance sheet position us well to deliver on our full-year outlook. With that, operator, we are now ready for questions.

Operator: Thank you. We will now be conducting a question-and-answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment please while we poll for questions. The first question is from Russell Stanley from Beacon Securities. Please go ahead.

Russell Stanley: Good morning, and thanks for the question. Maybe just starting with defense orders. Not sure what you can share on this front, but we generally assume, I think, that subs and carriers drive the vast majority of that number along with torpedoes. Wondering what you can say as to the share of defense orders that are from non-Navy applications or opportunities, and just trying to understand what your objectives might be for that component as a share of the order book going forward.

Chris Thome: Yeah. Thanks, Russ. Again, another great quarter of orders, 1.1 book-to-bill, 1.2 for the full year. That's impressive given that last year's book-to-bill ratio was 1.5. We continue to see very good momentum in our backlog and our orders. As mentioned on the call today, our aftermarket orders were up 91% for the year. Our orders in space were up very significantly as well. We're just seeing health growth across all the portfolios. We did mention, we did have some larger Navy orders that are within defense, but as you know, those can be very lumpy in nature.

Russell Stanley: Got it. Moving on to Batavia, just wondering how the facilities perform, the expansion facility, how that's performed relative to expectations. Understanding you just broke ground on the Arvada expansion facility, I'm wondering what your appetite might be for additional expansion facilities in New York. Thank you.

Matt Malone: Yeah, Russ, we're definitely seeing the facility come online here. The machining centers are full during day shift, and I say that in reference to where I'm going to go after this. We continue to see the automated welders come online and all of the welding procedures get approved as we move forward. We're approaching a stance of utilization that I'd say is a critical milestone, which means we're reaching targets that are consistent with the other parts of our business. But we're not there. We got work to go do. The RT facility is also online, and we're using it. It's been fantastic.

I mean, to not have to drive an asset and then go through it in an iterative cycle outside of the facility. These things are large, and so it was driving quite a bit of churn into our business. That investment has paid off on the defense side, and obviously, we can utilize it as well more broadly. The last thing I'll note on the first part of the question is, we have the opportunity to bring on a second shift if we get to that point. It's going well, the Batavia facility. I'm going to stick Batavia for a second.

We had mentioned early on that we laid the foundation for building 15, with potentially two or sorry, building 14 with two additional bays next door, which are basically exactly the same facility. We're seeing our backlog continue to expand and opportunity for potential growth and need for growth on this campus as we move forward in the defense sector. Moving to the Colorado facility, yeah, that 30,000 sq ft facility, we have great confidence. That's really to support our increasing backlog. It's not so much, I'll say, acceleration of backlog conversion. It really is more out in supporting our future growth.

Look, we've already got plans for it, and the team's working out laying the facility, laying out the facility. It utilizes the majority of new equipment, so we don't have to relocate from an existing building. It really, it's coming along nicely. Ground's being moved, and concrete should be poured here in the next few weeks, so progressing.

Russell Stanley: That is great. Maybe one more from me, and I will get back in the queue. Just around space, congrats on the significant growth there. Looks great. A lot of media reports and media attention around the shortage of launch vehicle access, and I am just wondering if you are seeing that as a potential headwind to your growth here, either directly or perhaps a little further down the chain. Thank you.

Matt Malone: Yeah. With respect to space, I do not see it as a headwind. I see it more as a continued tailwind. We did not have content on Falcon, so what that allows us to do is continue to expand with that particular customer on their larger asset, as well as the assets that will replace the backfill for Falcon. We are seeing continued increase in opportunities, not only with the large rocket I will just say large rocket customers, but we are also seeing continued interest from the folks that are going to replace that smaller fleet of launch.

I would say that it is tailwind at this point, which is what is being reflected in our order pipeline, or our orders and pipeline.

Russell Stanley: That is great color. That is all for me. Thank you.

Operator: The next question is from Tomo Sano from JPMorgan. Please go ahead.

Tomo Sano: Hi. Good morning, everyone.

Matt Malone: Hi, Tomo.

Tomo Sano: Thanks for having us. Maybe just on gross margins, which improved significantly to 28.2%, 650 basis points. While your full year guidance is 25%-26%, could you unpack a little bit more about the margin expansions behind by several factors, and how should we think about the margins going forward into the back half to stay at the high level? Thank you.

Chris Thome: Yeah. Thanks for the question. Margins were a little bit higher than our normal run rate for the quarter, and that really was a function of mix as well as higher volumes. But primarily, the impact on the margin was lower material receipts. If you recall, in the second quarter of last year, we had about $10 million of extraordinarily high material receipts, which carry with them lower margins. So, you have a little bit lower than normal margin in the prior year quarter. We have a little bit higher than normal margin in the current quarter. So, we would expect that to more normalize as the year progresses.

However, it was ahead of our expectations, which is why we bumped our gross margin guidance by about 50 basis points on the bottom and top end.

Matt Malone: Yeah. What we are seeing there is we are seeing improved execution. We are seeing more favorable pricing start to come out of the backlog. We had talked before about we had to get lower margin jobs out of the backlog, and that process has been unwinding. It is a little bit of pricing, it is a little bit of improved execution, as Chris mentioned, and then it is a little bit of just mix versus material receipts.

Chris Thome: More specifically on the mix, right? Space obviously is a lot higher in the current year, which carries with it higher margins, as you know. Additionally, FlackTek was higher this quarter versus the prior year and versus the sequential quarter, and they have a higher margin business as well. One thing that may not be intuitive, within our defense business, we are starting to enter into some higher margin programs, now that we have some of the older orders off the books. It is not only the mix within the markets, but within defense itself as well.

Tomo Sano: Thank you. Then on cash flow, please. Operating cash flow was very strong in Q2, partially reflecting the timing with the receivable collections and customer deposits. What level of cash generation should we expect in the future quarters? Also, just related to that, any comments on M&A pipelines and any areas or comments appreciated. Thank you.

Chris Thome: Yeah, sure. We had an exceptionally strong cash flow quarter. The teams did a great job on receivables collection. As you know, our business is very cash flow positive, as many of our contracts we are able to bill for the materials ahead of time before we actually have to pay for them. With that said, they can also be very lumpy. We had some receivables push out from the first quarter to the second quarter, which is why the second quarter was so high. As you know, we typically like to speak to EBITDA as far as our cash flow generation, just because of the lumpiness of our cash and our working capital.

We literally can have a $5 million or a $10 million payment that shifts from one quarter or one year to the next, which can kind of skew the results from quarter to quarter, which is why we don't provide cash flow guidance and prefer to talk to adjusted EBITDA. As far as M&A.

Matt Malone: Yeah, when we look at what we're going to, I'll just say what we're prioritizing with the cash that we have, since we have no debt. First priority is continued investment in organic growth. We see that as the highest avenue for return for our shareholders, and specifically, we continue to have that 20% hurdle rate. The next in line is M&A, or it would be debt, but we don't have any, so the third in line is M&A. I'll just say, pipeline remains full. We're only focused on extremely strategic opportunities that meet the criteria that we've laid out in our investor slide deck.

Yeah, the pipeline remains full, conversations are active, and we're excited about potential opportunities on the horizon.

Tomo Sano: Great. Thank you very much. Congrats on the quarter.

Matt Malone: Thanks, Tomo.

Chris Thome: Thank you.

Operator: As a reminder, to ask a question, please press star one. The next question is from Robert Brooks from Northland Capital Markets. Please go ahead.

Robert Brooks: Hey, good morning, team. Thank you for taking my question. As we think of the increasing needs for more power dense items in high-stress environment, that really kind of plays right into your favor and what you guys specialize in, right? I was just curious to hear, any new orders you would like to highlight so far in year-to-date for your fiscal 2027 that exemplify that thesis in action?

Matt Malone: Yeah. Something that just gets me jazzed. Bobby, I will talk through a few examples at a high level. The first, specifically I want to hone in on even a sub-sector of nuclear. If you look at microreactors, I am talking containerized reactors that could be deployed at a hyperscale level. Look, it is not going to happen overnight, but we do still feel optimistic. Barber-Nichols does design some of the most, and produce some of the most power-dense rotating machines on the market. With the microreactor, power density matters. You have got to be able to fit the rotating machine that cools the reactor within the shipping container.

We are seeing a number of opportunities that have entered into our design environment and now production environment that meet those needs. That is one example in the microreactor space. The next area where we're seeing it is on the Defense side. If you look specifically, you hone in and you say radar, we've had some opportunities this year that have converted that have to do with increasing the visibility on the battlefield from a directional radar platform to 360 degrees. I would specifically say we've talked about that at our investor day, but what's happening is it's starting to scale to low rate and now rate production. We're starting to see the scaling effect of that.

Lastly, on the Space side, Barber-Nichols has had heritage on the Space side with complex rotating machines, and more specifically, power-dense rotating machines for now 20+ years. We're seeing opportunities in space to cool. I'll say we have had bookings and opportunities to cool launch vehicles as well as satellite systems, as well as astronaut backpacks. Some of that's been a long conversation. Some of it's converted more recently. I would just say it's an area that power-dense electrified rotating machines is the differentiator, and we're seeing it connect with the market need.

Robert Brooks: That's really helpful color there. Just as we maybe step back or expand the view, obviously you have a really strong position within supplying U.S. Navy programs. I was just curious to get a sense of maybe what are the key hurdles for you guys to clear to win Defense business with American allied Navy programs? Is that something that's not really on the table and you kind of focus that there's better opportunities domestic?

Matt Malone: No, it's a great question. We do it today. The nice thing is we do it through the folks that buy it. Our integrator, our prime, or upstream is actually the one that then regulates it to where it goes to foreign allies. We basically have increased content. Use shipbuilding as an example. It gets integrated at a prime, and then it could go to AUKUS, which is other different avenues for usage. Other examples of that, we do supply spare parts for different submarine solutions globally. I would just say, it is a part of our business today, and we continue to see opportunity there for growth.

Robert Brooks: That's great to hear. Then maybe just the last one for me on the capa... like, it seems like you're not necessarily capacity constrained today, but the Arvada expansion is more about better, not about throughput, but about growing the business in the future. I was a little confused there. I just want to clear up my understanding.

Matt Malone: Okay, think of it this way. We're not capacity constrained today, but when you overlay the backlog that's been growing for seven straight quarters, you get to a situation in the future where current capacity doesn't meet it. So you essentially have to build ahead to meet the capacity constraints, because you can't build a facility overnight. It's just leveling up to meet the backlog overlay in our portfolio, and that's what we've done really well for the last number of years.

Robert Brooks: That's definitely the case. Appreciate the time, and congrats on another strong quarter.

Matt Malone: Thanks, Bobby.

Chris Thome: Thanks, Bobby.

Matt Malone: You're welcome.

Operator: This concludes the question and answer session. I'd like to turn the floor back over to Matthew Malone for closing comments.

Matt Malone: Thank you. Overall, we are pleased with the solid start to the first half of the year. With that said, we recognize there is still significant work ahead, and we remain focused on disciplined execution, profitable growth, and getting better every day as we work towards becoming a top quartile performer in creating value for our customers and shareholders. As always, please reach out with any questions. Thank you, everyone, for joining us today and your interest in Graham.

Operator: This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

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