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#Let me give you ---+ from a historical perspective, also know ---+ about eight years ago our top line was being driven by the services business, which we spun off, namely Engility, because of the occasion work needed in theater.
Now, it's a different cycle right now, but readiness has become a critical issue for customers.
We have a great asset in that space, and it's a space that I don't think we should be ignoring.
We definitely want to do better with the margins on it.
But I think we've demonstrated in the quarter that we're well thought of by the customer community, and we're winning sizeable long-term work on significant platforms with significant units that are fielded.
So this is an area that has the potential to be a good driver of top line in our business base going forward.
And, believe me, the margins are something that we're focusing on.
I don't know if we know that.
Someone who we beat, obviously.
Sure.
The first one is the Fort Rucker maintenance support contract, and that happens to be our largest contract in terms of annual sales at about $450 million per year.
Our contract is scheduled to end on September 30 of 2017.
We'll be recompeting that over the next year or so, and I wouldn't be surprised to see our contract extended six to nine months, which is becoming more and more common on these recompetitions.
It's likely to be a late 2017, early 2018 item.
We're performing well in that contract and we like our chances in that recompetition.
The second one is the Army C-12 contract, which is presently doing about $180 million to $190 million in sales per year.
That's also within our Vortex Aerospace business.
The new contract should start in the fourth quarter of 2017.
Aside from those two recompetitions, we don't have any large single-contract recompetitions across the entire company for the next several years.
But that's where those two stand, <UNK>.
One thing we've ---+ this is Chris ---+ just added a slight change to our process on these larger opportunities is Mike is heading up regular quarterly reviews of these key win opportunities.
That gives us a six-, nine-, 12-month visibility so we can all agree on what teammates we align with.
We look at the draft proposals and challenge terms and conditions, to the extent that's appropriate, and we develop an outreach program to make sure that we're touching the appropriate stakeholders.
In fact, we have one of our top executives earlier this week down in Fort Rucker spending a few days just to independently talk to our customer and see how we're doing and getting some favorable reports out of that.
So I think given the significance and then maybe a little more focus at the executive level earlier in the process is going to improve our chance of winning.
To chime in on that.
There were also recompetes going on in that space where we are not the incumbent, where we will be pursuing the recompetitions to go after additional market share, so that should provide some cushion just in case.
But I think our past performance, especially on Fort Rucker, gives me a comfort level that we are in good shape there.
That's become a very critical capability for our customer, and we should have about five years under our belt of excellent performance.
So it's one that we're looking forward to being successful winning.
Sure, Rich.
I'll take that question.
I'm probably starting to sound like a broken record when it comes to our margin targets for 2017 because we've been saying the same thing now for at least a year and a half.
So I'll go through it again.
Within electronics systems, we expect margins to be somewhere between 13% and 14% for 2017.
Obviously, I'm more comfortable with the lower end, and that is a nice increase to this year's margin guidance which stands at 12.1%.
Within communications systems, the margin targets that we articulated for next year are between 10% and 11%.
Our midpoint guidance for 2016 is 10.4%, so I think we're going to be closer to the high end of that range for 2017.
Lastly, within commercial ---+ within aerospace systems, we said that the target range for margins is in the high single-digit area, which is 7%, 8% or 9%.
What we explained was, the way we get to the high end of that range for aerospace systems is more international ISR, and other international work, to grow in the business base and improving the margins of logistics, or Vertex, and we covered that in the first question.
So, clearly we're still working on those items.
And as of now, I'm more comfortable with the low end of that range for 2017.
I've got to chime in.
We've talked about this before.
Ultimately, we're all trying to get more operating income and more cash.
We're going to do that through top-line growth, we're going to do it through M&A and we're definitely going to do it through margin expansion.
But the ultimate goal here is to generate more cash, and I think that creates more value for everybody involved.
Sure, Rich.
There's primarily two risk items.
The first one concerns our voluntary return program, which we instituted in the fourth quarter of last year.
As you know, it stands at $35 million in terms of total estimated returns, and that's following the $15 million increase that we recorded to it in the first quarter of this year.
The good news with respect to the returns are, one, it's voluntary, so we could discontinue it at our discretion.
Two, it takes care of our customers.
Three, the return experience is trending in the right direction, declining.
And we now have seven plus months of experience with that voluntary return program.
We have a very robust, detailed statistical analysis, and our estimate is holding and proving to be accurate.
Like anything else, it's subject to change, if the return rate were to change for some reason.
But right now it's heading in the right direction.
The second item is that we're involved in class action lawsuit litigation on the holographic weapons sights.
We have valid defenses and we're vigorously defending ourselves.
And we're presently scheduled to go to mediation in August to try and settle that litigation.
Obviously, litigation is inherently risky, and we're not sure ---+ we can't predict if we're going to be able to settle those items and what the ultimate outcome will be.
Those are the items on the holographic weapons sights, Rich.
The placeholder is still $750 million.
But as we talked about, we're looking at several acquisition targets and opportunities.
We should be able to at least complete a couple of transactions, and when and if those occur, we'll shift some of that remaining $475 million in share repurchases to M&A.
So, handicap that now in the $200 million, $300 million range.
We'll see what happens.
Actually, I'm glad you asked that question, <UNK>, because the targets that I just discussed for 2017 do not factor in any pension expense assumption changes.
So we're not going to set the assumptions for next year's pension expense until we get to December 31, because that's our measurement date.
The way things are trending in the interest rate markets year to date, we're looking at a meaningful reduction in the discount rate for the pension expense assumptions, somewhere in the 90 basis point range.
That 90 basis point breaks down to between a nearly 70 basis point reduction in the 10-year Treasury yield, since the end of last year, and another 20 basis point reduction due to the overall tightening of credit spreads in the investment-grade market.
So that 90 basis points reduction, if it holds, would translate into about a $45 million increase to pension expense for 2017 versus this year on a pretax basis.
This year we're funding the pension plan at $100 million, which is twice what the minimum requirement is.
And I expect that we would fund another $100 million for next year.
I don't see any other requirements beyond that, even given what's happening when interest rates.
Our asset returns for the year are doing well and tracking nicely to our full-year estimate of 8%.
I'll just say, relative to the teammates, we work with pretty much everybody in the industry.
We try to align with what we think our customer wants from a platform perspective, and then we select and work closely with that OEM.
I think in the ---+ and the trainer has been talked about, it seems, like for half a decade here.
And I think given the budget and such, it's probably a 2018 time frame.
Training, unfortunately, is one of those things that's easy to push off.
I guess JSTARS is probably in the next six to nine months.
We'll be working jointly on putting together proposals, is my expectation.
We have a great relationship, I think not only with Northrop, but a lot of the other companies.
When Mike and I were over at the air show, we spent a lot of time reconnecting with our partners, both internationally and domestically.
We're satisfied with that process.
There absolutely are.
We're working some things in the classified world, which probably is an easy answer since I can't tell you much more than that, but we're looking at all aspects.
We have opportunities in space, we have opportunities at sea, under sea and some airborne assets.
It's early to say, but I think we're in pretty good shape.
All the ISR aircraft are going to be up for recapitalization and some of them are shifting more to business jets from the larger platforms for performance and endurance and cost savings, so we're adjusting our strategies and our offerings accordingly.
But there's a lot out there, and I think we're kind of moving up the food chain a little bit, Mike, and starting to bid some of these as primes that we might not have done previously.
Part of that has to do with how the customer is pursuing the program, meaning if they want an airframe OEM to be the prime, we're not going to become an airframe OEM, obviously, but we can be a significant subcontractor on a missions system.
There are times where the mission system becomes the driver of who primes a contract.
We try to stay as flexible as we can and get ourselves on the best team or get the best members on our team where we have the best probability of a win.
We're very fortunate in the space occupy where we bring to the table not only state-of-the-art sensors and communications gear and data links, but we also have a very strong capability, as you know, in systems integration in the Greenville facility where I believe ---+ I would call it a national asset in terms of being able to integrate sensors and coms on virtually any platform.
We're very platform agnostic, which gives us the ability to partner and team anywhere we see a good opportunity on a global basis.
There certainly is a lot of activity, I was going to say, with platform OEMs looking for partners to help missionize airplanes, and we're always at the top of that list
There's a couple of areas where a modest acquisition would give us the ability to be a prime on a smaller scale, if you will, in some of the areas that Chris mentioned.
So let me turn it over to Chris for the M&A, because he's really been tracking that carefully.
But it seems to be a very broad spectrum of companies that are on the market at this point, whether it's in avionics space or whether it's in the ISR space, et cetera.
But go ahead, Chris.
Actually, all the markets, we have at least one opportunity in each of these.
We even have a couple internationally, but those would be in countries where we already have a footprint and understand the political and governmental situation.
We have some in commercial aviation, the pilot training, security and detection in defense.
We're really looking for one of three things.
We're either looking for some new technologies, as a way to jump start an area of interest to our customers as compared to spending the R&D.
Or we're looking for some new products that can enhance our existing business, and then there's occasions where we actually get access to new customers.
So it's a pretty obvious process.
We refocus first and foremost on the strategic bit.
Just last week Mike and Ralph and I were going through the list, and like I said, about a dozen of these passed the strategic hurdle, and now we're going into the next phase of making offers and starting due diligence and working the finance side.
As Ralph said, we would love to do a couple in the second half of the year.
We're not going to do a bad deal just to say we did one.
I kind of like our position and some of these, given our reputation of doing over 100 acquisitions, a lot of people come to us on a proprietary basis because they like the model.
They like the culture and they like the opportunity to be part of a bigger company.
So I'm very pleased and excited about the potential on the M&A front.
Okay.
It was those two items.
In general aviation, what I said during my comments was that last year we introduced a new product.
It's a multi-link transponder, which we call LYNX.
It's for the general aviation market, and that is geared toward responding to a new mandate that's presently in effect.
The sales on that new product, even though the mandate are in effect have been slow to materialize and they're lagging what we planned.
That's probably $20 million of the $50 million sales reduction in electronics systems guidance and the other $30 million is due to softer demand for the weapons sights at EOTech.
No.
I think that's a good list, but we're continuing to work with the business leaders and see what makes sense.
Some of these consolidations are actual movements of facilities, and some are organizational, trying to optimize the management in the backroom operations.
We haven't actually divested anything in 2016 other than NSS, which closed in January, as you know.
The ones we're working are so small, I was almost reluctant to even mention them.
But we're going to do something ---+ I think that's a lot in one year, and we're going to continue to look where it makes sense.
And part of these acquisitions are going to fold into the strategy as to how we organize and structure depending on the size and location of them.
We'll keep you abreast of these things as we go through them.
But these aren't easy to do, and I think we've got our hand full with the ones we've announced.
We have some savings from those consolidations that are contemplated in those margin targets, <UNK>, so ---+
We hope to do better.
To the extent that it results in additional ISR assets being deployed, that would clearly bring an uptick for us, also in the comms ---+ the communications area as well.
But as of right now, the ---+ I talked about this earlier, the reduction in sales this year coming from the final run-off of the Afghanistan drawdown, which is presently at about $160 million, $165 million, is where it stands.
So the improvement that we're seeing in our DoD business in sales for this year, which is about $200 million, is not coming from that area, <UNK>.
<UNK>, we attempt to be a thought leader in this area, and one of the things that I think we've done to get ahead of the pack, if you will, is to sign a teaming arrangement with a technology-driven company on the West Coast.
I'm not going to name them, I've mentioned this in the past, that is on retainer with us in bringing some of those commercial technologies to the table and marrying them up with some of our defense technologies in terms of user interfaces, weight, power, size.
All things that are very important to the war fighter, especially if they're carrying something around.
In addition, just the type of technology that would traditionally be nurtured in the commercial environment.
As you've read, the DoD has done something in the Silicon Valley, now they've moved to open an office up here in the Northeast, near MIT.
So they are very, very focused on accelerating innovation, if you will.
And we have certainly not missed that, and we are attempting to stay ahead of the pack.
As I said during my comments, we're working on smaller form factors for our SIGINT Systems, some low-cost next-generation infrared search and tracking systems as well as our mission simulator, which will enable us to bring the war fighter training at the mission level.
Now, a lot of this technology is dependent on video graphics and things like that as well as the expertise we bring, and we've really found a great partner to help us in this area.
It's a mutual relationship, of course, but it's working very well.
And we've made this as a resource available across the Company for our group presidents where they can tap into it and bring it into their R&D programs as needed.
I see it really bearing fruit in the future for us, where it's really differentiating the things that L-3 is doing.
I think we're one of ---+ I haven't heard anybody else taking this kind of a step other than maybe on one other occasion.
And we're looking at more opportunities like that to reach out of the box, if you will, and bring some thought leadership, commercial technologies to the table to stitch into our own product offerings where we can make a big differentiator between what we're offering versus the competition.
I'll just chime in.
We've talked a little bit about the agility of L-3, and Mike and I have had several customer meetings on this topic.
The focus is on the third offset, and we have some offerings and some investments to provide some capabilities that are needed.
It's our rapid development methodology, and working with this partner that Mike mentioned, I think we're bringing some things to the forefront quicker than a lot of other guys.
I think that's going to pay off.
So we did a mid-year correction on where we're spending our R&D to try to address some of these challenges.
Again, I think we're one of the few companies that's increased our R&D spend year over year as a percentage of revenue, or however you want to mention it, and I think that's the long-term approach we're taking to growing the Company.
And I think we're going to see some benefits in the years ahead.
Certainly as you've seen, as we see almost every week now, the global threat environment continues to get worse and worse.
Different threat scenarios are occurring, whether it's an airport situation or other soft targets.
Being a thought leader in this area and how we could adapt technologies to help keep citizens safe, if you will, and help identify threats, whether it's through systems we have or things that need to get developed, we're certainly on the case right now.
Thank you, <UNK>.
With that, thanks very much for joining us this morning.
We had, what I would characterize as another strong quarter, and we continue ---+ we intend to continue to build on this progress.
As we've discussed, we are pursuing a three-pronged approach to drive growth and enhance profitability.
First, we want to achieve more organic growth and are working closely with our business development organization to better leverage our investments in R&D, as well as approaching proposals, teaming agreements and making sure that we engage in the best win strategies that we can think of.
Second, we're active in scouting out potential acquisitions to broaden our customer offerings and enhance our long-term strategic positioning.
We'll continue to take a disciplined approach, as you've seen us do in the past, but we liked having a healthy pipeline of candidates to look at and we're seeing that now.
Third, with respect to cost control, we are tightening operations, as you've heard.
We're consolidating where it makes sense, and we are engaging in other cost reduction activities to help with the margin story.
Our program execution remains strong and consistent, and we're focused on opportunities in our commercial training solutions business, ELIR, and in additional markets which will be part of our growth story going forward.
The steps we've taken are showing positive results.
Overall, we are well positioned to achieve future growth and deliver long-term value to our customers and shareholders.
So once again, thanks for joining us.
Everybody enjoy the rest of the summer, and we look forward to speaking with you again in October.
Thank you.
