GD
#Thanks, <UNK> and good morning
I'd like to open by congratulating Phebe on welcoming her first grandchild into the world yesterday
Mother, son and grandmother are all doing well
Phebe is with the newest edition to her family right now, but she left us well-prepared to report our results on this call
I'd also like to welcome <UNK> <UNK>, our Vice President and Controller to the call and thank her for joining me today
Congratulations Phebe, welcome <UNK>, now let's get started
Earlier today, we reported fourth quarter earnings from continuing operations of $2.62 per fully diluted share, on revenue of $8.23 billion and earnings from continuing operations of $807 million
The results for the quarter beat analyst consensus by $0.08, mostly on a lower than anticipated tax provision
Revenue and operating earnings are up significantly against the year-ago quarter, by 5.4% and 7.8% respectively
Earnings from continuing operations are also up $43 million on the strength of a 30 basis point improvement in operating margin, offset in part by a lower effective tax rate in the year-ago quarter
Similarly, earnings per diluted share from continuing operations were up $0.22 or 9.2%
So in summary, against the fourth quarter of 2015, revenue is up 5.4%, operating earnings are up 7.8%, earnings from continuing operations are up 5.6% and fully diluted earnings per share are up 9.2%
Sequentially, the story is just as wholesome
Revenue is up $502 million or 6.5% and operating earnings are up $48 million or 4.5%
Earnings from continuing operations are also up by $40 million and similarly, earnings per fully diluted share are up $0.14. So all-in all a very solid quarter, with good performance all around
The marine group's improved performance, both quarter over quarter and sequentially, is notable
In short, we were very pleased with the quarter
For the year, we had fully diluted earnings per share from continuing operations of $9.87, on revenue of $31.35 billion and earnings from continuing operations of $3.06 billion
We had full-year margins of 13.7%, a record for GD
Revenue for the year is down $116 million, somewhat less than 0.5%
Operating earnings on the other hand are up $131 million or 3.1%, on a 40 basis point improvement in operating margins
Earnings from continuing operations are up $97 million or 3.3%
This, together with share repurchase activity and a lower than anticipated effective tax rate, led quite naturally to an 8.7% improvement in diluted earnings per share
This was a very good year, a year of continuing improvement, a year of accomplishment
Free cash flow from operations is $678 million in the quarter
For the year, we had free cash flow from operations of $1.81 billion which is 59% of earnings from continuing operations
As we had advised you at the beginning of the year, free cash flow from operations was not going to be as robust as is typical for us
It was in fact less than 100% of net earnings
This happened for two reasons
First, we were working off the very large advanced payments received in late 2014 on a major combat systems program
And second, we expected an increase in operating working capital at Gulfstream, consistent with building numerous test aircraft and pre-production parts in connection with the G500 and G600 programs
All of this will normalize and unwind quite positively, beginning this year
In 2017 we expect free cash flow to be approximately 100% of net income give or take a little
We should keep this kind of cash performance up throughout the planning horizon
Let me briefly give you some color on the quarter in each of the business groups
First, aerospace
Revenue was up both quarter over quarter and sequentially
Against the year-ago quarter, sales are up $82 million or 3.8% and operating earnings are up $26 million or 6.3%, as a result of a 50 basis point improvement in margins
On a sequential basis, revenue was up $207 million or 10.3% and operating earnings are essentially flat, as a result of the anticipated compression in operating margin
For the year, revenue is $8.36 billion and operating earnings are $1.72 billion, with an operating margin of 20.5%
This is a year-over-year reduction of 5.5% in sales, almost $500 million, but operating earnings are up $12 million for the year on 120 basis point improvement in margins
All in all, a very good year at aerospace, with strong operating leverage and decent order intake, particularly good in the last half of the year
This result was consistent with our guidance to you that we would hold earnings even with 2015. As I mentioned, earnings were actually up $12 million over 2015. Order activity in the quarter was good and pipeline activity was actually robust
The book-to-bill at aerospace in the fourth quarter was 0.8 to 1 dollar-based and 0.9 to 1 in units of green delivery at Gulfstream
All in all, the order activity going into the first quarter of this year is quite good
The second half of 2016 was actually strong from a pace of activity standpoint and interest in the G500 and G600 is increasing nicely, as we get closer to entry into service with these aircraft
At combat systems, revenue was $1.68 billion and is up $160 million or 10.5% and operating earnings are up $25 million or 10.7% on a quarter-over quarter basis
Sequentially, the story is even better
Sales are up $354 million or 26.6% and operating earnings are up $40 million or 18.3%
For the full year, sales are down $38 million or 0.7%; however operating earnings are up $32 million or 3.6%, on a 70 basis point improvement in operating margin
By the way, this performance is reasonably consistent with the guidance we provided at this time last year
We actually achieved a better result on somewhat lower revenue and stronger operating margins
Overall, combat systems is a story of revenue reasonably consistent with expectations and outstanding cost and margin performance
As you'll learn later in my remarks, this is a business group poised for quite significant growth in the 2017 to 2020 time frame, as we begin delivering on our backlog
Marine group revenue of $2.04 billion in the quarter is up $59 million or 3%, compared to the year-ago quarter and essentially flat on a sequential basis
Operating earnings are up $14 million or 8.1% against the year-ago quarter and up $20 million or 12% sequentially
Revenue for the year is up $189 million or 2.4%
Recall that this year's $189 million increase in annual revenue follows a $701 million increase in 2015 and a $600 million increase in 2014. That's more than 20% growth for the group over that three-year period
On the other hand, operating earnings for the year are down $3 million on a 30 basis point reduction in operating margins, so the story here is a good quarter on both a quarter-over quarter and sequential basis
On an annual basis, we experienced better than anticipated revenue, but not as good as expected operating margin which left us relatively flat year over year
In the information systems and technology group, revenue in the quarter is $2.28 billion up $123 million or 5.7% against the year ago quarter
Operating earnings of $244 million in the quarter are 6.1% better than the fourth quarter a year ago
On a sequential basis, operating earnings are down $12 million or 4.7% on a 20 basis point reduction in margins and a 2.4% reduction in sales
For the year, revenue was up $222 million or 2.5% and earnings are up $89 million or 9.9%, on the strength of a 70 basis point improvement in margins, very good operating performance
Recall that at this time last year, we forecast flat operating earnings for the group, so this was a very strong year for IS&T
On this call a year ago, on a Company-wide basis, our guidance for 2016 was to expect revenue of $31.6 billion to $31.8 billion, an operating margin rate of 13.3% and a tax rate of 29.5% and return on sales of 9.1%
We wound up the year light on revenue with $31.35 billion, but we exceeded our earnings expectation with operating margins of 13.7%, an effective tax rate of 27.6% and a return on sales of 9.8%
Last year at this time, we provided EPS guidance of $9.20. We wound up at $9.87, $0.67 better
About $0.23 of the improvement came from better than planned operating performance, $0.25 from a lower than planned tax rate and the balance, about $0.19, from a lower share count as a result of share repurchases
Certainly, a very solid year by any measure
So before we go to guidance, I want <UNK> to make a few remarks and then talk about the fundamentals of our accounting rule adoption for 2017 and the restatement of 2016 under these new revenue recognition rules
All of the guidance I'll offer you for 2017 and for 2018 through 2020 as well, will flow from the restatement of 2016 which is found in Exhibits K-1 through K-3 of the press release
Okay thanks, <UNK>
So let me provide some guidance for 2017 and some commentary on 2018 through 2020, initially by business group and then a Company-wide roll up
This year, we did a more detailed and extensive planning exercise around the three-year period subsequent to 2017, so I want to take this opportunity to share with you our expectations for that period, as well
In Aerospace, we expect 2017 revenue to be $8.3 billion to $8.4 billion, up 6.4% from 2016 as restated, but coincidentally similar to 2016 as reported
Operating earnings will be approximately $1.6 billion, with an operating margin rate of 19.1% to 19.2%
The margin rate is somewhat lower than prior experience under the legacy accounting rules, as a result of mix shift and increased R&D spending, as well as an anticipated increase in pre-owned aircraft sales
In aerospace for the five year period, 2016 through 2020, that is 2016 as restated, we expect the sales CAGR of 5.3%
That CAGR rolls up modest sales increases in 2018 and 2019, with significant growth in 2020. For the same period, the operating earnings CAGR is expected to be 5.9%
These percentages are of course imply a degree of precision that isn't possible in out-year forecasting, however, we believe they are directionally accurate
In combat systems, we expect revenue to be up 6.6% to 6.7% in 2017, with operating earnings of $920 million to $925 million
This implies a margin rate of around 15.6%
For the period 2016 to 2020, the expected sales CAGR is about 8.7% and earnings CAGR about 9.6%
Combat systems is in a period where several of our international programs are migrating from development, prototyping and low rate initial production, into full scale production
This supports the growth rates I just discussed
The marine group is expected to have revenue of $7.9 billion, a reduction of 2.6% against 2016, as restated
Operating earnings in 2017 are anticipated to be $680 million to $685 million, with an operating margin rate around 8.6%
The 2016 to 2020 sales CAGR is expected to be 5%, with the strongest year-over-year growth in 2018. The expected earnings CAGR for the marine group for 2016 to 2020 is about 9%
Finally in IS&T, we expect a modest improvement in revenue in 2017 and operating earnings of $1 billion to $1.05 billion, with a margin rate of around 11%
For this group, we see a 2016 to 2020 CAGR for sales and earnings of 4.5% and 5.3% respectively
So Company-wide, all of this rolls up to $31.35 billion to $31.4 billion of revenue, up over 2016 restated numbers by more than 2.5%
Operating earnings of $4.15 billion to $4.2 billion, up over 2016 by about 11.5%
And operating margin around 13.3%, about 110 basis points above 2016 restated
Let me emphasize that this plan is purely from operations
It assumes a 28% tax provision as <UNK> mentioned and assumes we buy only enough shares to hold the share count steady with year-end figures, so as to avoid dilution from option exercises
This rolls up to an EPS guidance of $9.50 to $9.55 for fully-diluted shares, up about 10% over 2016 under the new accounting rules
With respect to the quarterly progression for EPS, it's a bit more balanced than most years
Divide our guidance by four, then take $0.10 off the first quarter, $0.05 off the second quarter, add $0.05 to the third quarter and add $0.10 to the fourth quarter and that should give you the rough progression
So much like last year, beating our EPS guidance must come from outperforming the operating plan, achieving a lower effective tax rate and the effect of capital deployment
With respect to capital deployment, we anticipate using all of our free cash flow in 2017 for dividends and share repurchases which will give a boost to the EPS guidance I've just given you
The amount of that boost will depend on the timing and share price
For the period 2016 to 2020, we see a consolidated sales CAGR of 5.6% and an operating earnings CAGR of 7.1%
This is simply a roll up of the projections I've given you for the business groups, so we're quite bullish about 2018 through 2020 in all segments
Now, let me end my remarks there and we'll start taking your questions
Question-and-Answer Session
Sure, so look as it relates to order activity, as I mentioned, we really saw a very encouraging increase in velocity in the second half of the year and that really is representative across the entire model portfolio, including the new products
I think what we're seeing here is, as we expected, as both the G500 and G600 get closer to entry into service, we're starting to see that order interest continue to pick up, so we feel very good about where those airplanes are as they get closer to the EIS, their respective EIS dates
Overall as I said it's not just order activity which again we felt very good about in both the third and fourth quarters, but it's the velocity into what we think of as the pipeline
What comes in sometimes is not the same as what goes out
We have talked about extended or protracted contract negotiations and the timing it takes to get aircraft contracts signed and completed and as good as we saw the second half from an order perspective, we saw just as encouraging velocity from the pipeline perspective going into Q1 which gives us a good bit of optimism as we start this year from an order perspective
With respect to your question about the out years, as I mentioned you saw you heard the remarks on 2017 and the CAGR for the out year period, I think what we see is, as we're transitioning with the real ramp of the 500 starting in 2018 and the 600 starting in 2019, we'll see modest growth in each of those years from their respective entries into service and we'll see more of the acceleration of the growth starting in 2020, when both of them are fully up and have ramped into the production
Sure, certainly, as we've been signaling through this couple of year period, where we have seen lighter than our traditional cash flow conversion, it has been our expectation, our forecast that we would be back to our traditional 100% conversion rate starting in 2017. We have a high degree of confidence in that and we actually do see that as a sustaining trend
This is not a one-time thing, but we do expect to be able to keep up that level of conversion in that range throughout this planning horizon that I described
As it relates to free cash flow or excuse me, CapEx, typically somewhere in the ballpark of 2% of revenues is where we tend to end up around CapEx
That of course depends upon the timing and phasing of various projects across the business, so it can perturbate a little bit back and forth
But certainly what's coming on the horizon with Ohio will bring with it some investment
We're still in the very early phases of discussing what the profile and timing of that looks like with the Navy and so I don't think we're prepared to discuss any type of outsized CapEx investment in any one year, beyond what I just described
But it certainly, we do not see it affect any of that overall conversion rate through the planning horizon that I just described
Sure
So you're pretty much right as it relates to the green aircraft shifting from 2016 into 2017 and that's really what <UNK> was alluding to
Again do keep in mind that green aircraft will shift, including G500 green aircraft, will shift from 2017 into 2018. So this is something that I think is more of an issue in this immediate transition as you try to think about 2016 prior to restatement and 2016 under the restatement and then how you take that restated 2016 to then project 2017. I will point out one notion
Of the number you see in those exhibits around the difference, the delta between the green and outfitted airplanes
We do have a number of, I don't have the exact number off the top of my head, but a number of aircraft that are associated with special mission programs and those get inducted directly into the special mission process and don't go through a completion, so there's a natural delta there and I'm sure <UNK> can give you numbers after the call, if we need to get into that level of detail
As it relates to the G500 certification, we're still on track this year
Everything is going well with the flight test program and we're still targeting certification and entry into service, meaning outfitted delivery prior to the end of the year
Look, as <UNK> described there really is just one primary meaningful difference that we're talking about as it relates to the defense businesses
Don't get me wrong, I don't want to understate what the team has done here to go through this process, because there's a lot of smaller puts and takes, but the big ticket item is this move from the prospective method of accounting for these changes in our long term estimates, to the cumulative catch up method
So the issue there is there's no one thing you can point to, that can say this is directionally indicative from a trend perspective
Because what's happening here, every quarter every year across the portfolio of these programs, we're performing updates to our estimates to complete and we're making adjustments across that portfolio to our profit booking rate margins on those programs
So as we do that in a given quarter, you're going to have some programs go up, some programs go down
As you've seen with a number of our peers who have pretty much all been on this method, even prior to this point, that can lead to somewhat more volatility under the cumulative catch up method than we have experienced under the perspective method
I think you can reasonably expect somewhere in the reporter of magnitude, if you compare them to us historically, 2 times or so the level of quarterly profit adjustment-type impacts on the results
Am I saying, that's what we will see in the future? I wouldn't be foolish enough to try and predict that but it's all going to depend what happens in a given quarter
What you saw in 2016 was that there were a handful more profit rate adjustments that had little to any impact under the prospective method in those periods, but when you take them all in one lump sum, they just drove a little bit more of that anomaly, a little bit more of that perturbation from quarter to quarter
So this is what we're going to frankly have to get into in a little more detail with you in the future, when and if these things happen
And as we said, we fully expect that somewhat increased level on volatility on a quarterly basis, to be part of our story in the future
It does
I would suggest this up front
There's nothing that's changed about anything you can infer about the historic current or future conservatism of this Company
I think the couple key points, those longer term out year CAGRs and forecasts that I directionally gave you, those are strictly rolled up from the operating plan, as submitted by our business units
So this is what each of those individual business unit presidents sees, as they look out over their horizon, mine their backlog and determine the trajectory of their businesses
We're seeing, frankly, a very good news story that we're bullish on across that period and so given the restatement here in the period and the fact that you're having to retune 2016 as you now look at and evaluate 2017, we frankly just thought it would be useful for you to get a little bit more of a picture, so you weren't left in isolation with the two data points make a trend or not, because that could be a tough expectation for anybody assessing the results
So we wanted to show you a little bit more directional color on where we see the businesses going
And we think as we see that type of growth now coming over that period across the Company and really shared by all four of our business groups, that combined with the demonstrated operating leverage we think we've been able to bring to bear, really offers us some great earnings trajectory over that midterm planning horizon
I have not heard anything anecdotal specific to that from the guys down at Gulfstream
As I said, the fourth quarter was very encouraging both from order and pipeline activity standpoint, but I certainly don't think I have enough color to attribute that either to post election or otherwise
Sure, so the planes you refer to, as I mentioned, the 16 is a little bit of an overstatement because they were somewhere in the ballpark of a half dozen or more handful of these special mission airplanes that don't flow into completions so they are done and out
But again I think the key to remember is, what we're trying to do here in the moment and this I believe is last time we'll do this, because green deliveries, will just fade out of the discussion from this point forward
But when you're trying to think about in the moment, as we transition between the old rules and the new rules, some of the instinct might be, as you've articulated, that wow you get to recount the value associated with these green airplanes that didn't deliver outfitted at the end of 2016. But you have to keep in mind, that was going to happen at the end of 2017 as well, so there's an output on the other end that's that natural flow of the business
And if you think of this as a steady in production model, the 650 to 550 to 450 to 280, you'd expect that similar cadence coming out the other end
So if you just leave it at that, it's essentially a net neutral or close to it anyway, where <UNK> articulated it as a modest headwind and when I say headwind, it's an accounting artifice headwind, it's not a business headwind
What's happening there is we would have had, if you imagine a G500 entry into service before the end of the year, there's quite naturally a handful of green G500s that are incremental to those in production aircraft, that are also going to tilt out of 2017 and into 2018, so on balance, we would see more of an outflow if you will or a tilt out of the year in 2017 on the back end, because of that phenomenon around the entry into service of the G500. Even then we're seeing as a tilt in flow from the end of 2016 into 2017. So hence our attempt to try to high pressure you understand in the moment, as we transition, what the impact of the shift of the new rules is on Gulfstream
I think really there's nothing, as I mentioned before
In the moment, when you look at individual quarterly performance and in this case try to examine the difference between how the results looked under the perspective method and the [indiscernible] catch up method it's really a function of what were the booking rate changes on those programs, in that portfolio, in the moment
So when you look at it, the third quarter was actually higher because we had on balance favorable booking rate changes in the fourth quarter across that portfolio, on balance had some negative booking rate changes
Again under the prospective method, as you are well aware and we talked about many types that gets cast out over the future, so there's virtually nil effect in the moment when you make those changes
You can see in the results, it had more volatile effect under the cume catch up method
I don't think you can take that and translate or extend that into what does it mean for the margin rates or the business in 2017 and beyond
Those are pretty much disconnected, I think
Really it's a function of, as you know, we've experienced some cost growth at the Bath shipyard on the settlement of the A12 program and some of the work we're doing on the DDG1000, as well as restart of the 51 program there
So that's well documented and discussed and we're working our way through that and we have every expectation we'll get that shipyard back to where we want it to be, as quickly as we can
So that's one influence and the other is of course, as we add more and more volume around the cost-plus Columbia class development effort, that of course is going to be dilutive in terms of margins, with respect to how it compares to fixed price full rate production programs, so that's really more what you're seeing going forward
Sure, so look as it relates to the Defense budget, I don't know that there's anything more fundamental assumed than what we're seeing which is notionally upward directional budgets that underpin and support the defense programs across-the-board
Really what it's about more so is what's in the backlog
We've developed a historically high backlog across the Company and now we're all about executing that backlog
So a good share of what you see, particularly in combat systems and in marine systems is all about just executing on that backlog and continuing to perform the way we have
So that gives us a great deal of confidence about that trajectory that I described
As it relates to aerospace, so I alluded to before, if I had to guess and I don't want to commit Phebe but I'm fairly certain, this will probably be the last time we talk about green deliveries, because it's all about outfitted deliveries in the future
So to your point right now as we look at 2017, we're projecting somewhere in the range from a large cabin perspective of call it 90 to 95 outfitted deliveries and from a mid-cabin perspective, somewhere in the range of 25 to 30 deliveries
As you are well aware, we tend not to look out beyond one year because we set production rates and work through those customer contracts on an annual basis, so we'll continue to update that on an annual basis, but that gives you a sense of what we're seeing as we head into 2017.
Sure
So you mentioned the backlog is down just slightly sequentially and something important to point out there, particularly as it relates to combat systems
<UNK> alluded to the foreign exchange impact in that group, as it relates to our annual sales
You have to keep in mind there's equally, if not more so, an impact on what you will, the balance sheet for sales, that is the backlog
And so we saw something on the order of magnitude of a $700 million reduction in combat systems backlog in 2016, as a result of that FX headwind
So that gives you a sense of what's happening there
In terms of opportunities in the pipeline, you're right
It is quite robust, both on the domestic and the international front
We've got a number of competitions
There's an 8x8 vehicle in the UK, there's opportunities in Poland and the Czech Republic, follow-on work in Austria
Really the list goes on and on throughout both Europe and the Middle East for combat systems, as it relates to international programs
Domestically, we're looking forward to the ramp up with recapitalization efforts and so on, as it relates to Stryker ECP, Stryker Lethality, with the 30-millimeter gun, Abrams upgrades, Marine Corps Labs, really it's just a very encouraging and robust list for this group, again both domestically and across-the-board internationally
So really exciting to see
Your last part of your question, aerospace slots, I think fundamentally the thing, the way to think about this is, with the good order activity we saw in the quarter, we continue to be encouraged by our EIS next available slots for the various aircraft
The 650 remains essentially consistent with where we were last time, 24 months or so
The 550 remains in the 12 month range, 450, we actually only had one aircraft left to sell so we should get that behind us this quarter which by the way I think is a great testament to this transition and the way Gulfstream has handled this
When you think about it from both sides of the spectrum, on the one end there was the speculation about could we get the 500 into service when we said we could and doing what we said it would? And certainly, the test program it's demonstrating so far that it's meeting if not exceeding all of our expectations for what the airplane can do and Phebe mentioned a quarter ago, we've now officially pulled that EIS in from first quarter 2018 to fourth quarter 2017. So that's on one end of the spectrum, but this point about one 450 left, possibly the more difficult aspect of this transition was managing the supply chain, the order activity, the inventories and so on to close that out in a timely and secure fashion, without exposing the Company and manage this transition and so far so good
So that is really encouraging, so that's what we see on the horizon from an EIS perspective for the various aircraft
