GD
#Thanks, <UNK>, and good morning
<UNK> has replaced Erin Linnihan, who is now reporting to me in a different capacity
<UNK> has had a distinguished 14-year career in the finance department, most recently as the Controller for Mission Systems
We are pleased to have her here as our Staff VP for Investor Relations
As to the quarter commentary, I will keep my remarks brief since this quarter's results are relatively straightforward, quite good, and the comparisons are generally attractive
We reported earnings per share of $2.48 on revenue somewhat in excess of $7.4 billion, operating earnings of slightly over $1 billion, and net earnings of $763 million
EPS of $2.48 was $0.16 better than consensus
We estimate that about $0.06 of that $0.16 was from operations in the form of higher than expected operating margins, offset modestly by somewhat lower than expected revenue
The remainder came from a lower effective tax rate, offset slightly by a somewhat higher than anticipated share count
With respect to cash, we had $533 million net cash provided by operating activities
After capital expenditure of $62 million, we had $471 million of free cash flow from operations, $56 million more than in the year-ago quarter
While our total backlog at $60.4 billion is down $1.8 billion from year-end figures, it remains quite robust
It is also significant to observe that the important funded portion of that backlog grew by approximately $1.5 billion to $53.3 billion
An impressive 88.2% of our total backlog is funded
The general comparisons quarter over quarter reflect, as you would expect, strong operating performance
All of the comparisons I will give you are with reference to 2016 numbers as restated for the adoption of the new revenue recognition rules for this year
So, compared to the first quarter of 2016, revenue was down $35 million, or 0.5%
However, our operating earnings were up $111 million or 12% over the prior year's quarter on the strength of a 150 basis point improvement in operating margin
The operating margin in the quarter at 13.9% was particularly strong
On a sequential basis, revenue was down $213 million or 2.8%
But again, operating earnings were up $267 million or 34.8% on a 390 basis point improvement in margin
All of the foregoing is a reflection of very positive operating leverage
Finally, EPS from continuing operations was up $0.40, up 19.2% over the year-ago quarter as a result a better operating earnings and a lower tax rate and share count
Let me provide some commentary and a little perspective around the results in each of our operating segments, first Aerospace
Revenue was up by $293 million compared to Q1 2016, about 16.5%, and up $249 million or 13.6% sequentially
Similarly, operating earnings were up $111 million or 33.4% against the year-ago quarter on a 280 basis point expansion in operating margin
Sequentially, operating earnings were up $169 million on a 640 basis point improvement in operating margin
The sequential result needs to be understood in the context of the restated 2016 revenue and earnings resulting from the new revenue recognition rules
In the fourth quarter, we had nine more green aircraft receive a certificate of airworthiness than we had final deliveries to customers
This negatively impacted Q4 2016 as restated because the green deliveries were no longer recognized
By the same token, we had four more entry-into-service deliveries in Q1 2017 than we had green aircraft receive a certificate of airworthiness
That obviously helped the first quarter of 2017 and should help next quarter as well
Orders for the group were typical of a first quarter
In the quarter, net earnings were $1.4 billion, and the dollar-based book-to-bill was 0.7. This is consistent with what we have seen in the first quarter of 2012 through 2016. The Aerospace average booking for the first quarter over the last five years were $1.39 billion, a book-to-bill of about 0.7. So it was a quarter with a lot of sales pipeline replenishment
It was part of the normal cycle after a strong fourth quarter
In particular, we noted sharp increases in activity levels in Europe and improved activity in China
I should also note that the activity has been good in April and has clearly shifted in favor of large-cabin
This is quite encouraging
On the product development front, we anticipate a late-October completion of all flight test requirements for the G500. This leads us to believe that FAA certification will follow within 60 days thereafter
By the way, we are going to fly our third G600 test airplane today
Think about it this way: We are flying three test airplanes in the first 4.5 months since first flight, really quite remarkable
So we are off to a very good start in the Aerospace group, somewhat better than our guidance to you at the operating earnings level
We expected a strong first quarter for the reasons we discussed with you at the beginning of the year
However, the operating performance was better than expected
Let me turn to the defense side of the business with Combat Systems
Compared to the first quarter of 2016, sales were up $42 million or 3.4%, and operating earnings were up $18 million or 9.6% on a 90 basis point improvement in operating margin
We had particularly strong performance on a quarter to year-ago quarter basis from European Land Systems
Sequentially, revenue was down $374 million, but operating earnings were down only $25 million on a 210 basis point improvement in operating margin
The sequential comparison is particularly difficult on a revenue basis because this group always has a very strong fourth quarter, largely related to contract deliveries at OTS and ELS
Also in the quarter, we largely completed the transition from engineering and prototype production on our two large international vehicle programs for Canada, the Mideast, and the U.K
These programs will now enter full production and continue apace for the next several years
Even given Combat's large backlog, they had nice order activity in the quarter, with a 0.7 times book-to-bill
All in all, extremely strong operating performance once again at Combat Systems
With respect to Information Systems and Technology, we experienced very good operating leverage in the quarter
While revenue was down $182 million or 7.8% against the year-ago quarter and down $125 million sequentially, operating earnings of $236 million were essentially flat with the year-ago quarter on the strength of an 80 basis point improvement in margin
On a sequential basis, operating earnings were up $5 million, once again on an 80 basis point improvement in operating margin
These results are consistent with our guidance of an around 11% operating margin
I think it's important to note that IS&T's backlog grew by $255 million in the quarter, with a book-to-bill of 1.1 times following strong book-to-bill of 1-to-1 on average for the last four years
The significant orders in the quarter included a $415 million contract from the U.K
Ministry of Defence to design and develop its next-generation communication and information system; $85 million from the NATO Communication and Information Agency to upgrade its technical infrastructure; and $160 million from the National Geospatial Intelligence Agency for the new Campus East
So a pretty good start to the year from a new business perspective at IS&T
Finally, let's turn to Marine
Revenue of $1.93 billion was down $188 million or 8.9% compared to the year-ago quarter, but up $37 million or 2% sequentially
Operating earnings were down $23 million or 12.5% against the year-ago quarter and up $119 million sequentially
The revenue variance from the year-ago quarter was solely attributable to lower Virginia-class Block 3 material volume, offset only partially by higher Columbia-class engineering volume and higher repair volume
Earnings were driven by a delay in the scheduled delivery on one ship in Block 3 of our Virginia-class submarine program
Our performance on the Virginia-class program continues to be solid
Also at EB, we are already over 40% complete on the design of the Columbia-class ballistic missile submarine, four years before start of construction
This performance is far better than any submarine first-of-class design maturity to construction start date in history, so we are pleased
Bath's ship-over-ship performance on the remainder of the DDG 1000s is outstanding, and we have stabilized the DDG 51. NASSCO continues to show performance improvement on each of its ships
So the company is off to a very good start to the year, somewhat ahead of our expectations
We do not as a practice change guidance at the end of the first quarter
It is our practice to give you a full review of our expectations at the midpoint of the year
Suffice it to say that we are a bit ahead of the operating plan upon which our guidance was based
As always, we will continue to consolidate our improvements and strive to continue to improve our results
I'd like to turn the call over now to our CFO, <UNK> <UNK>
So let me give you our investment philosophy across the board
We invest in programs that we believe we can earn a sufficient and proper return
So to the extent that those returns become increasingly clear, that then informs our investment, and that's true across the entirety of our portfolio
So I think you need to think about our investment proposition through that lens
With respect to the increase in shipbuilding, to the extent that that materializes and we can understand both the quantum and the timing of those increases, we have the capacity to increase production in each of our shipyards, as does the majority of our supply base
But with all of these – with any increase in production, we would need to replenish as needed our workforce, the supplier base, and facilities over time
And again, all of the potential investments with respect to that growth will be determined with our customer as we begin to identify the return
So our current plan anticipates an investment in our shipbuilding program commensurate with what we see the growth to be
So we may see in the out years some cash demands as a result of those investments, but I believe it will be well within our capabilities
And remember too, the cash that's tied up at Gulfstream will begin to unwind naturally as well
So we will consider all of those puts and takes as we think about our investment into the future
You had a second part of that
So we have done a very careful plan on what our margin expectations are
And we see our margins throughout at least our initial plan period of four years as essentially flat in the mid-8% range
And that's because the increase in Columbia volume will continue to be cost-plus, and then offset somewhat by the Virginia-class submarine performance and that long-term successful program as we have continued improvement ship over ship
So think about flat in the near term
As we go out into the future, then it's our job to manage that growth appropriately
And as you can imagine, with all – when you think about shipbuilding, it's all about planning
That's really the competitive advantage and the key to success in shipbuilding
So we have put in place very, very detailed hiring plans, training plans, supplier base plans, and facility plans to support that growth
So as we sit here today, I'm very comfortable that we are both anticipating and thinking through the potential risks of growth
So with respect to Combat Systems, there has been quite a lot of discussion in this new administration about potential increases to the land forces in the United States
And to the extent again to which those increases actually occur and the timing and the amounts of those increases, we will look at that as the details emerge
But we have plenty of capacity and plenty of operating leverage both within Combat Systems and within our supply base
So I have very little doubt that we can ramp up to meet any expectations that our customers, both the Army and the Marine Corps, may have in the future
So let's talk a minute, and this might be a good opportunity to give you a little bit of color on Bath
And let me break that into two buckets, first the DDG 1000, and then to your specific question on the DDG 51. So we delivered the lead ship of the DDG 1000 last May, and the final two ships of this class are demonstrating very good levels of ship-over-ship learning in terms of labor-hour performance, which is our prime metric that we look at when we look at shipbuilding
And in fact, we experienced the best ship-to-ship learning curve we have ever seen at Bath on that program
So to the extent that there was any risk, I believe that is behind us
With respect to the DDG 51, just to give you a little bit of background, we delivered the DDG 115, which was our first ship after the four-plus year break in production
We delivered that in February
We just floated off the DDG 116. But let me give you a little color here
That four-year break caused us a bit of a challenge, which the DDG 1000 program exacerbated
And I think by way of illustration a recent example can give you a sense of how we've managed through all of this
Before the DDG 1002, we had late equipment deliveries into the shipyard that required us to rephase our production, and it created a production gap between the DDG 116 and the DDG 118. We'll see some learning from ship to ship as we realize steady-state production on this, but the costs associated with those challenges were recognized in 2016. So going forward, I'm very comfortable that the performance at Bath has stabilized
I like where they are
Well, it is our practice to refer any questions about JSTARS to the prime, Northrup
But with respect to the G550, let me take some license with a quote that Mark Twain said, that the reports of his demise were greatly exaggerated
We have sufficient orders, both on the commercial side and international orders, for the G550 to keep that production line open for the foreseeable future
So JSTARS would be additive to that if in fact the Northrup team prevails
So I very much like where we are on the G550.
So in the first quarter, our activity was pretty much as we've seen for the prior years, but we have definitely seen frankly for about the last solid year now increased interest in our aircraft
And the extent to which we execute on that interest and put all those planes into backlog, that's simply a question of timing
But we're seeing some very nice demand for our products as we have for the last few years, but I do see an uptick
So whatever set of reasons, different customers are motivated by a different economic reality
So, if you recall, the G650 was the first aircraft that we had a purpose-built manufacturing facility to outfit and bring in assembly and then outfit the airplanes
We experienced and had quite a bit of learning around that – around how we performed during that period
So when I think about the ramp up on the G500, we've taken yet another purpose-built facility, applied the lessons learned on the G650, and I expect and our plan anticipates that we'll have a very nice ramp up both in terms of volume and performance relative to the G650.
I think we'd see a little bit in terms of timing and amount a little bit faster, but step back and think about the G500 and the G600. When we entered into the test program, we had retired an enormous amount of risk even before we had our first flight
And at every step of the way on both the G500 and now the G600, we have met or surpassed our milestones and the capabilities that we had designed into that airplane
So the design maturity of even the test airplane is far in excess of what we saw on the G650. So the disequilibrium that I think I talked about back in 2013 where we had a bunch of G650s on the tarmac that we had to go back in and retrofit, we do not anticipate anything like that for the G500 and G600, simply because the test airplanes were really manufactured to production standards
So we'll all go back, and as we have had changes and updates in some design parameters, we've done those at that time
So I don't anticipate – in fact, there's nothing to indicate that we would see anything like we did on the G650. Does that answer your question?
Given that we will start out at a higher rate, perhaps the incremental improvement plane over plane may be less than what we saw on the G650, but I think that we are poised to have a very nice learning curve plane over plane in both programs
And that's how we have – all of the analysis that we have done in terms of production preplanning suggests that will be the case
So turning to our international Combat Systems vehicle orders, we have, up until this point, had milestone payments, but we move in this quarter, in the second quarter, into payment on delivery
So we anticipate that we will have a more regular order of cash on the unit of deliveries
And again, we are ahead of plan on our production
So I'm comfortable that the cash flow that we modeled at the beginning of these programs we will execute on appropriately
FirstNet, we have been careful to refer the general questions to AT&T, to whom we are a sub
But we consider this a potential growth market into the future and for many years to come
And again, it will be a nice franchise for us
So let me address in the inverse order
We had a particularly outstanding quarter
I think that was obvious
We anticipate that we'll be at about a 20% margin in the second and third quarter and then a decline in the fourth quarter
So as of today, we're still holding to our guidance
With respect to the IS&T revenue, let me talk about two things here
Remember, these are two – the two businesses in that group are short-cycle businesses, so we had anticipated a lighter volume quarter
It was a touch lighter than we had anticipated, largely because as we changed administrations, we had some slowdown in the execution of the contract line items in a number of particular programs
So our view today is that we are very much poised to recover that, and we're holding to our guidance
Let me talk to you a little bit about though – and I think this might be an opportune time – talk to you a little bit about how we built the guidance for this year and equally importantly in the out years
When we built our plans in the fall, we considered only those then-known programs
We factored them accordingly and then built into our plans the attendant cash flow
To the extent across the defense portfolio that we see additional funding, that represents upside to us
That's true in Combat, in the Marine group, and particularly in IS&T
So I think understanding the context in which we built these plans will help you get some sense of our confidence in our revenue estimates for the year as we stand today
This has been – there's nothing that has changed in our plan with respect to certification from the FAA
And I think our plan anticipated, and we're on track to do that, one delivery
We'll have multiple green airplanes, but just right now we're looking at one completed entry into service airplane on the G500, again consistent with what we have been anticipating
So our Aerospace Services business did very well in the quarter, both in terms of volume and particularly at Gulfstream in terms of volume and margin
And the service business is somewhat cyclical, but we have continued to improve our operating performance on our service end at Gulfstream
With respect to Jet, we've got a nice pipeline of opportunities in the quarter
They're a bit of a drag on a book-to-bill basis in the quarter, but we expect a strong second quarter on the completions side in terms of demand
And the demand at Jet Aviation has been pretty consistent for the last couple of years
It's somewhat lumpy, so as we – the additions into backlog of new orders have been a touch lumpy on the completions side
On the services side, we've been making a series of very targeted small investments to augment our FBO capability and our managed fleet capability
One of the things I'm particularly pleased about is that we've seen additional synergies between Gulfstream and Jet Aviation as we have matured Jet and begun to provide them additional resources and assets to support Gulfstream worldwide, and we're continuing that path
So completions business steady, lumpy in terms of order activity
But on the service side, we see nice growth in the future, and we're very pleased with the performance of the investments we've made heretofore
So when you think about margins and earnings too, but let's talk about – let's go back a couple years ago when we – as we entered into this transition from the G455 and G50 to the G500 and G600, we told you all that our goal was essentially flat earnings
And we were going to accomplish that by feathering in some additional G650. We've done that, but on top of which we've had superior cost control and nice operating leverage at Gulfstream
So that's combined to allow us to meet that commitment
As we go into next year, we are anticipating – we haven't given you specific year-over-year guidance on margins, but we're going to bring down that G650 production a touch, as you would expect as we move up the ramp on the G500 and then ultimately the G600. So when you look at – the past has to be prologue
When you look at the operating performance of Gulfstream, I am very comfortable that they'll do nicely on their margin performance
But we're not going to get into 2018 details until we get a little bit further
In fact, we'll do it at the end of the year, as is our constant practice
The Congress – the customer has made it quite clear to the Congress on the impacts on national security of failing to enact a budget
That said, we've done an analysis of a potential full-year CR, which we do not anticipate
But if we actually experience a full-year CR, the impact on our 2017 is not material
So that tells you something about the strength of our backlog, by the way
No, not yet, other than it's a little slow to execute on some of the contract task orders, but we anticipate that increasing
So I have an answer that I've been giving for the last four years now under the fifth, and it's we're not going to comment on M&A
It's simply not appropriate
You all understand the landscape, and we haven't seen much changes in valuations, so no real change
Let's answer this in this regard because any more specificity is inappropriate
You can expect that we will continue to have a robust R&D profile to fund new product development now and into the future
That's our business proposition
And in that regard, we're going to stick to our knitting
We're going to stick to our market in which we have excelled, and frankly we're the only company to fully excel
So steady as she goes, past is prologue
