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Operator
Good day, everyone and welcome to the Boeing Company's second quarter 2005 earnings conference call.
Today's call is being recorded.
The management discussion and slide presentation, plus the analyst and media question-and-answer sessions are being broadcast live over the Internet.
At this time for opening remarks and introductions I am turning the call over to Mr. David Dohnalek, Vice President of Investor Relations for the Boeing Company.
Mr. Dohnalek, please go ahead.
David Dohnalek - VP-IR
Thank you.
Good morning and welcome to Boeing's second quarter conference call.
I'm Dave Dohnalek and with me today are Jim McNerney, Boeing's Chairman and Chief Executive Officer, and James Bell, Boeing's Chief Financial Officer.
After comments by Jim and by James who will take your questions, we ask that you limit yourself to one single-part question.
As always we provide a detail financial information in our Press Release issued earlier today and as a reminder you can follow today's broadcast through our website at www.boeing.com.
Now, before we begin I need to remind you that any projections and goals we may include in our discussions this morning are likely to involve risks, the assumptions behind our projections, and the factors that could cause actual results to vary, are detailed in the news release we issued this morning and in our various SEC filings, as well as the forward-looking statement at the end of this Web presentation.
Now, I'll turn the meeting over to Jim McNerney.
Jim McNerney - Chairman, CEO
Thanks, Dave.
And good morning, everyone.
As I complete my first month at Boeing I can tell you that I'm pleased to be here and very enthusiastic about our current position and the road ahead.
I plan to share some of my early observations with you in just a couple of minutes.
But first, I think the order of the day should be to discuss our financial results and immediate outlook, and there's no one better to do that than James Bell.
James?
James Bell - CFO
Thanks, Jim.
And good morning.
Boeing continues to perform well in the second quarter delivering excellent results across our businesses.
Integrated Defense Systems delivered another quarter of solid growth and outstanding margins while Commercial Airplanes generated double-digit revenue and earnings growth and expanded its backlog by more than 25%.
Commercial markets continue to gain strength which has enabled us to raise our financial outlook for Boeing commercial airplanes and though slower defense budget growth will affect near-term revenue growth, Boeing's defense markets remain strong.
Our businesses delivered outstanding cash flow which we've used to fund our major growth programs, continue our share repurchase program, and repay maturing debt, all of which are elements of our balanced approach to cash deployment.
With the focused set of strategies, the strong performance of the Boeing team, reinvestment of cash in key growth programs, and our large backlog, we are confident in our outlook.
Revenues rose 15% in the second quarter to 15 billion driven by a 20% increase on higher deliveries at commercial airplanes and an 8% rise at IDS.
We've earned $0.70 per share in the second quarter of 2005.
This represents significant growth over the same period last year after considering the $0.23 tax benefit we received during the second quarter of 2004 and the $0.09 charge we took this year related to the sale of our Wichita and Tulsa operations.
The results of this quarter also include significant increases in noncash pension expense and share-based plan expense.
Now moving to Slide 4.
IDS had an excellent quarter delivering strong revenue growth and outstanding margins.
Revenue increased 8% as all four segments delivered topline growth.
Aircraft and Weapons Systems led the way with 15% increase driven by higher deliveries of production aircraft.
IDS operating margins reached 10.5% as Support Systems and Aircraft and Weapons Systems turned in another quarter of solid double-digit margins.
Network Systems margins were down reflecting costs and fee estimates in the proprietary area and on the 737 AEW&C program.
IDS also delivered strong results in the Launch and Orbital Systems segment due to improved performance at commercial satellites and solid results from its NASA programs.
During the second quarter IDS hit several important milestones as Future Combat Systems passed its Milestone B review, the Multimission Maritime Aircraft completed wind-tunnel testing and the J-UCAS program completed its Systems Requirement Review.
Also during the quarter Boeing announced the United Launch Alliance joint venture with Lockheed Martin, which will combine the Government launch businesses which we will continue -- which combined the Government launch business of both companies to create additional value for our customers and our shareholders.
Despite slowing growth in the DoD budget over the next few years IDS is performing very well and is positioned for modest growth and excellent profitability with an $82 billion backlog and a broad portfolio of defense and intelligence programs.
Now turning to the highlights from Commercial Airplanes on Slide 5.
BCA performed very well in the second quarter with significant gains in revenue and earnings as its industry-leading products and continuing focus on operational efficiency generated strong results.
BCA revenues rose 20% to 6.8 billion on higher deliveries of 87 -- or 85 airplanes and a stronger twin-aisle mix.
Operating margins grew to 7% as the higher revenues and excellent cost performance offset the nonrecurring charge related to divesting the Wichita and Tulsa operations.
Excluding the Wichita charge, program margins were 8.1%.
Unit cost margins were 10.3%, and as expected, exceeded program margins as cost reductions continued to benefit current production blocks.
BCA's innovative product strategy continued to deliver outstanding sales success during the second quarter as BCA captured 376 orders bringing total growth orders for the first half to 439.
Earned backlog rose 26% to $87 billion.
In addition to strong demand for the 737, the 777, and the 787 airplanes, BCA received orders for 747s and 767 airplanes, which allows us to defer any program completion decisions into 2006 at the earliest.
The 787 program remains on track.
We've finalized the interior -- the exterior look in the second quarter as we continue to progress towards firm configuration later this year.
During the quarter, customers increased their 787 orders and commitments by 59 aircraft.
Since the 787 program launch in 2004, the program has captured 252 airplane orders and commitments from 20 airlines.
BCA reached important milestones during the quarter with the launch of the 777 Freighter Program and the start of work on the first 747-400 Special Freighter.
We also completed the sale of our commercial operations in Wichita and Tulsa to Onex and entered into a long-term supply contract with the firm which will drive cost savings in our airplane business going forward.
Driven by its industry-leading 737, 787, and the 777 product lines Commercial Airplanes expects to see significant growth in airplane deliveries, revenue and earnings during the guidance period.
Now, let's take a look at our other businesses on Slide 6.
Boeing capital continues to perform well and produce solid financial results in the second quarter.
Strong revenue and earnings growth at BCC enabled the unit to contribute $150 million in cash dividends to the parent during the quarter.
Aircraft leasing rates continued to improve and BCC remains focused on managing and reducing risks.
Connexion by Boeing continues to expand its business during the second quarter with service now available on over 70 aircraft operating on more than 100 daily flights.
Orders and options for Connexion Commercial Service now totals over 500 airplanes from 11 airlines.
Connexion also signed its first maritime contract with Teekay shipping for up to 90 vessels.
Now turning to slide -- to cash flow on Slide 7.
Our cash performance remained outstanding as we delivered $2.7 billion of operating cash in the second quarter.
This performance reflected excellent quarterly earnings and strong working capital performance.
Capital expenditures increased significantly in the second quarter as the Company made planned investments in Advanced Production Systems for the 787 program and supported ongoing IDS growth.
During the quarter, we repurchased 10.3 million shares for $646 million and the Board of Directors authorized an additional buyback of 40 million shares.
We also continued to reduce our leverage and strengthen our pension plans paying down $800 million of maturing debt during the quarter and in early July, contributing an additional $550 million to our pension plans.
Now let's turn to Slide 8.
Our balance sheet and liquidity remains very strong.
We've ended the second quarter with cash and liquid investment balances totaling 7.9 billion and that's up from 6.3 billion at the end of the first quarter.
Our cash position reflected strong operating cash flow across the Company and the completion of the sale of the commercial airplanes Wichita and Tulsa operations for $900 million in cash.
Boeing's debt ratio continues to improve during the quarter driven by retained earnings and lower debt levels.
Financial strength and solid credit ratings continued to be a priority for Boeing.
We remain at the top of our industry peers with solid single A ratings.
Now let's move to Slide 9 and look at our financial outlook.
Okay, today we're updating our financial guidance to incorporate substantial improvements in operating performance across our core businesses offset by lower defense revenue growth and significant projected increases in noncash pension expense.
Please note that this financial guidance includes the Wichita and Rocketdyne transactions, but does not include any impact from the United Launch Alliance joint venture which we expect to close later this year.
Broadly speaking, we expect solid revenue and earnings growth in 2005 and 2006 driven by significant growth at commercial airplanes as the commercial markets recover, combined with modest growth at IDS supported by the unit's large backlog.
Our earnings outlook reflects strong operational performance in our core businesses, offset by increases and noncash pension expense.
At a business unit level, commercial airplane delivery forecast for 2005 remains at approximately 320 airplanes and is sold out. 40 deliveries are spread fairly evenly through the remainder of the year as production rates have increased.
We are raising our delivery guidance for 2006 to approximately 395 airplanes which is 87% sold out.
Commercial airplanes expects a further delivery increase in 2007 driven by improving market conditions.
Commercial airplanes revenue guidance for 2005 is now approximately 24.5 billion reflecting higher revenues from [features.] We are also increasing BCA revenue guidance for 2006 to between 28 and 29 billion driven by the additional airplane deliveries.
We now expect operating margins for commercial airplanes in 2005 to be approximately 7% on a program accounting basis driven by strong cost performance.
Operating margins are expected to expand to between 7.5% and 8% in 2006 despite planned increases in 787 investments.
Unit cost margins are expected to exceed program accounting margins in both 2005 and 2006 reflecting the significant growth in deliveries.
Integrated Defense Systems revenues for 2005 are now expected to be approximately $31.5 billion, primarily reflecting lower revenues from missile defense programs and the sale of Rocketdyne.
In 2006, IDS revenues are now expected to show growth of 2 to 4% down from our prior forecast due to lower revenues on missile defense and Homeland Security programs, as well as the sale of Rocketdyne.
Despite the reduction in revenues, we are increasing our IDS margin guidance to approximately 12% in 2005 and greater than 10% in 2006 driven by better performance at Aircraft and Weapons Systems and Support Systems, as well as the expected sale of Rocketdyne.
Turning to Boeing capital, our strategy to lower portfolio growth and risks is going well.
We continue to expect BCC's portfolio to be reduced by about 500 million in 2005 and remain flat in 2006.
Revenues are expected to be approximately $900 million each year.
Return on assets is now expected to be greater than 1% in 2005 and 2006 reflecting our risk reduction activities.
Additional segment guidance is provided in our Press Release which can be found on Boeing's website.
Now pulling it all together, Boeing's revenue guidance for 2005 remains at approximately $58 billion.
For 2006 our revenue guidance is now at approximately 62 billion as higher BCA revenues partially offset the sale of Rocketdyne and lower revenue growth in IDS.
We have raised our earnings per share guidance for 2005 to between $2.75 and $2.85 per share reflecting improved operating performance at BCA and IDS. 2006 earnings guidance remains between $3 and $3.20 per share as strong operating performance at BCA and IDS is offset by a significant increase and noncash pension expense.
Pension expenses in 2006 remain uncertain due to significant volatility in long-term interest rates which move lower over the past few months.
The current -- the Company currently expects pretax noncash pension expense in 2006 to be approximately $400 million higher than the $750 million we previously forecast driven by a potential reduction in the expected 2006 discount rate to 5.25%.
The Company plans to update its pension assessment including the final discount rate determination after the third quarter.
EPS guidance for both years also include the impact of noncash share-based plan expense, which is expected to be approximately $700 million in 2005 and $525 million in 2006.
We are increasing our operating cash flow guidance from 2005 to greater -- for 2005 to greater than $6 billion driven by higher earnings and strong working capital performance, particularly at BCA.
Operating cash flow guidance includes $1.6 billion in anticipated pension contributions.
Capital expenditures are expected to be approximately $1.5 billion in 2005.
For 2006 our operating cash flow guidance remains greater than 5.5 billion after a $500 million anticipated pension plan contribution.
Capital expenditures for 2006 are expected to be in the $1.7 billion range reflecting the investment to support the 787 program and growth at IDS.
We expect R&D expense to be between 2.3 and 2.5 billion in 2005, growing to between 2.5 and $2.7 billion in 2006 reflecting planned increases in 787 spending.
Now, moving to Slide 10, we provide more detail on our earnings guidance.
The increase in our 2005 EPS guidance is driven by a better performance in our core businesses.
The nonrecurring impact stemming from the divestitures of Wichita and Rocketdyne effectively wash producing our current guidance of between $2.75 and $2.85 per share.
For 2006, the significant performance improvement from higher BCA deliveries and margins is offset by an increase in noncash pension expense caused by the lower interest rates.
Despite the fact that our operating engine is expected to drive an additional $0.30 per share contribution above our prior 2006 earnings guidance, we are leaving our 2006 earnings guidance unchanged pending the final assessment of pension expense after our pension year end of September 30th.
Now, I'll turn it back to Jim who will give you his thoughts about our performance and prospects and then we'll take your questions.
Jim?
Jim McNerney - Chairman, CEO
Thank you, James.
Well, let me make a few observations and then as James said, we'll dive into the questions you've got.
Since joining Boeing on the 1st of July, I have spent most of my time visiting and meeting with Boeing leaders and employees from around the Company, as well as having taken an initial trip to Washington.
Although I have a running start from my experience on the Board, and my prior life as a Boeing partner, I have set out to quickly deepen my understanding of Boeing's business operations and to build relationships across the enterprise.
During this early stage, I have mostly been listening and learning, getting my arms more fully around the business.
What I am finding is that the Boeing team from the factory floor to the top of the Company is excited, motivated and committed.
I also see a company well-positioned in its markets with products, people, and technologies focused on the right things.
Two great examples are our commercial airplane lineup and future combat systems.
Both will be winners, and both represent product services and technologies that sharply differentiate us from our competition.
I have been diving into the detailed business program and functional reviews throughout the business, an activity that James and the business unit leaders perform as part of the normal operating rhythm of the Company.
And while it's clear to me that Boeing is building on a new focus on performance and execution throughout the organization I intend to re-enforce that behavior and accelerate our plans to take performance to higher levels.
This focus on execution is clearly evident in our results for the second quarter, which extends a positive trend we've been working on for some time now.
Because of this strong performance, built on both growth and productivity, we have, as James, said, raised our outlook for 2005 earnings and cash flow.
Looking into 2006, we now see higher growth and profitability for our commercial airplanes business, as well as our production rates and deliveries ramp up -- as our production rates and deliveries ramp up to even higher levels in that business.
At IDS we expect the excellent profitability trends to continue despite lower revenue growth in the near-term due to budget and program pressures.
The bottom line is that the operating engine of our Company is getting stronger.
However, during the second half of this year, I will be working closely with the team to establish and strengthen our growth and profitability initiatives.
I think we have some real opportunities in both of these areas.
Boeing has very strong pockets of process improvement, quality, technology sharing and leverage, sourcing, management development and more.
We plan to take those that have the most company-wide impact on growth and productivity and drive them across the enterprise.
Stay tuned.
I also continue to deepen and strengthen the functions that support our corporate functional control and compliance.
We've made good progress here and I'll be looking for ways we can do even better in this critical area as well.
So to wrap-up, I'm diving into the business, building relationships across the enterprise, and doing a fair amount of listening.
I'm committed to turning up the gain on what is already a strong focus on execution throughout our businesses.
And I am working with the Boeing team to enhance our long-term growth prospects.
Now, James and I will be glad to take your questions.
Thank you very much.
Operator
[OPERATOR INSTRUCTIONS].
Our first question comes from Cai von Rumohr of SG Cowen.
Cai von Rumohr - Analyst
Jim, you've basically kind of taken a first look, you focused on the profitability upside.
Could you give us some specifics in terms of areas you feel that give you the greatest opportunity for improvement?
Jim McNerney - Chairman, CEO
Well, I think it -- it's not as if the people in the Company aren't working on the areas I listed as part of my talk here and I'll go back to those process improvement.
There's some terrific lien work done throughout this Company.
I can see ways to expand some of that, add some additional process improvement thinking to it, to strengthen it, revitalize it over time, technology sharing and leverage.
We work on a lot of the same things with a lot of the same tools sometimes, and I think there's ways to do more of that.
Direct material sourcing, those kinds of things are all candidates, but I need to work with the team to figure out which are the ones that we're going to be committed to driving across the organization and committed to getting enhanced results for the businesses by virtue of doing that.
So that's -- those are the things we're investigating right now.
Cai von Rumohr - Analyst
Thank you.
Jim McNerney - Chairman, CEO
Yes.
Operator
Heidi Wood of Morgan Stanley.
You may ask your question.
Heidi Wood - Analyst
Jim, sort of a follow-up to Cai's question, with Boeing's strong cash flow and balance sheet, it's probably an inevitable question for us to ask you about your cash deployment philosophy.
Both can you talk to us about what might be different with respect to your approach to acquisitions and where in aerospace and defense do you see the most interesting opportunities?
Jim McNerney - Chairman, CEO
Well, I think the overall cash strategy is pretty much as James has articulated it consistently over the last couple of years, it's a pretty balanced approach along the priority list that he just articulated again.
But with regard to acquisitions, I think -- I'm a great believer in strengthening a core business, particularly one that has come off a series of acquisitions over the last few years and I see a lot of potential in strengthening our organic capability which does not mean we're not going to consider acquisitions that compliment it.
But its early days for me to begin to list the specific areas where an acquisition might or might not happen.
Give me a little time on that one.
I'm focused on some pretty good potential inside this Company right now.
Heidi Wood - Analyst
Great.
Thanks a lot.
Jim McNerney - Chairman, CEO
Yes.
Operator
George Shapiro of Citigroup.
You may ask your question.
George Shapiro - Analyst
Jim, if you could just categorize kind of your initial run through as you were saying, what have you been most positively surprised about and what have you been most negatively surprised about so far?
Jim McNerney - Chairman, CEO
Well, I mean, I think the -- on the positive side, the strength of our product positioning in our markets.
Now, it's not as if I haven't been part of that, because these are big decisions that tend to have Board visibility, so I wasn't surprised by it necessarily.
But I really haven't learned anything that dissuaded me from pretty strong near and medium term positioning with our products and I mentioned a couple of them in my talk.
On the negative side, I mean, I think -- I choose to look at it in terms of opportunities.
I mean, I think we can get more leverage from ourselves in this Company, which is what led me to my comments on initiatives we may drive here.
So there's a real opportunity there.
And as I dig into it, I'll probably find some more opportunities, but it's -- I'd rather look at it that way.
George Shapiro - Analyst
Okay.
Thanks.
Jim McNerney - Chairman, CEO
Sure.
Operator
Thank you.
Our next question comes from Steve Binder of Bear Stearns.
Steve Binder - Analyst
Yes.
James, maybe you can just touch on unit costs performance at BCAG, which was good in Q1 and turned out even better in Q2.
And it looks like if you back out the charge, it looks like your profits rose roughly $350 million.
Obviously, volume was higher.
But just wondering were there any other anomalies, a contract favorable adjustments -- contract closeout adjustments or pick up in spare part sales, model mix, customer mix; can you just touch on that?
James Bell - CFO
Yes, I'm delighted to do that Steve because it's just pure better performance and we're starting to really reap the benefits from our lien initiatives.
And we've said that what you can expect from us going forward is we're going to be more price competitive.
We're going to grow our margins.
We're going to invest in new products and that's exactly what you're seeing happening.
And obviously, the benefit of that shows up earlier in the unit margins than you'll see them in program accounting margins because of the way that works and how the unit margins are calculated.
But it's just pure performance.
It really isn't any anomalies in that growth.
Steve Binder - Analyst
Thank you.
Operator
Byron Callan of Merrill Lynch.
You may ask your question.
Byron Callan - Analyst
I wonder if you could just elaborate a little bit more on the change in guidance on IDS?
I understand Rocketdyne, but what specifically changed?
Because you guys have tended to have a more conservative outlook for the overall defense spending environment, but also imply that you could grow better than that.
And I just wonder what change -- particularly since the investor conference you had a month or two ago.
James Bell - CFO
Yes, Byron, the real change has been principally in the missile ground-based, so the defense program where the installations have been stretched out so we can have an opportunity to go and understand better what happened on the last test failures before we continue to accelerate that installation.
And I think we'll get through that over the near-term and we'll get back on track.
But what we're seeing right now is some moderation of that growth and then, obviously, the Rocketdyne leaving -- being divested of that is going to have an impact of some magnitude on the revenue performance and the guidance period.
So that -- those two things combined that have taken place subsequent to the investors' conference.
Byron Callan - Analyst
So just a follow-up, James, we shouldn't think of this new growth rate for 2006 as kind of the baseline?
You would expect to get back on a higher trend line in the future?
James Bell - CFO
Well, we think over time we'll get back into the higher -- a little higher single-digit growth rate with IDS.
But I think the thing I'd like us to focus on is really the topline growth of the Boeing Company is pretty strong and what I think it validates is our transformation strategy that's really starting to pay dividends.
And so, as we see growth moderate in IDS from some of our projections we're able to overcome that by the growth we're seeing in BCA and that's driven by, obviously, the product investment strategy we had during the downcycle and now we have the industry-leading products.
And so I'd like us to -- obviously, we're trying to give you some insight on what each of the major businesses are doing.
But the real strengths of this Company is its transformation and that's what we're going to see driving our topline growth and we expect to see that in the high single-digit numbers.
Byron Callan - Analyst
Great.
Thank you.
Operator
Joseph Campbell of Lehman Brothers.
You may ask your question.
Joseph Campbell - Analyst
Yes.
Good morning and congratulations on another good quarter.
I want to go back to the money here.
I mean, the cash flow guidance is 8.3 billion.
The Company is not very levered.
The history of Boeing is they always kind of buy their shares back later in the cycle rather than earlier when they're cheaper.
Although, when you bought a lot of stock back we haven't actually reduced the share count much at all, and I wondered whether this sort of bias towards organic is possible.
I mean, the defense company can't grow too much faster than the budgets, we've just lowered the organic growth rate there.
The delivery rates for commercial are what they are.
It would seem to me that it would be more prudent to be thinking about how to spend the money earlier if it's going to be on factory purchases or dividends earlier, or to get going and thinking about what could be bought before the 8 billion becomes 20.
James Bell - CFO
So Joe, as you are well aware we do have a balanced approach and so we're looking at all of those at the same time.
Now, we have rebought obviously a number of shares in our current commitment and we got a recommitment -- a new commitment out of the Board for an additional 40 million shares.
What's really set -- the reason we really aren't making a lot of headway is because the performance has been so good and the stock prices rose so dramatically our performance shares are paying out and that's offsetting the rebuy impact.
However, we are continually looking at acquisitions and those that are strategic to some of the needs of our major businesses and we'll continue to do that.
What we've said is we're not going to do anything stupid.
We're not going to do anything dumb just because we have the money and we surely haven't seen any larger targets yet that we felt had made sense for the Company.
But with Jim here and his background in GE and 3M, I think we'll be able to integrate that experience and we'll continue to look hard at them and maybe something will pop out.
But in the meantime we're going to continue to invest in new products and drive organic growth.
We're looking at the 787 and, obviously, that's on track.
The 747 Advance, we're investing in there now also.
And then in Jim's area we're constantly making sure that we have the right capability in-house to keep growing and expanding in his marketplaces.
But having the cash is just half of the story.
You've got to have the right place to put it and we're going to be disciplined in how we go through making those determinations.
Operator
Thank you.
Our next question comes from Nick Fothergill, Banc of America Securities.
Nick Fothergill - Analyst
Hello, James, I'm looking at the table on Page 10, your financial outlook Table 8 and I'm comparing that with last quarter and I noticed that on the IDS side of the business Network Systems drops down to stable, but Aircraft and Weapons Systems goes up to slight growth and Support Systems up to strong growth.
Now, Launch and Orbital Systems we can understand what's going on there.
Could you give us a follow-up really to what Byron was asking earlier on?
Is it all ground-based missile defense which I think represents 7% of Company revenues?
You did talk a little bit about Homeland Defense.
How much can you say you're anticipating now accurately or how much are you kind of just hedging against what the government may decide to do later?
James Bell - CFO
Well, we've told you that there's a lot of pressure on the defense budget and it's only going to grow at a single-digit rate and we think that could get even more pressure as we see what's going on in Afghanistan and Iraq and the pressure that will be ongoing until we are out of those conflicts.
But clearly what we do know today, we've shared with you.
We do know that the growth is being moderated in the Missile Defense Program because they're stretching out the testing of it and the installations associated with that test, and so that's what we know.
We know what's happening in Homeland Security.
And the other stuff we'll have to wait and see how the Government deals with all its funding priorities.
But what we do think, again, we have a real good balanced portfolio of development, production, and support programs, and so from a support standpoint as we continue in those conflicts they're going to have to take care of that hardware that's deployed and we think we're well-positioned to help them do that.
Also, obviously, they're going to lose some of the platforms.
They're going to wear out and they're going to need to be replaced and we're well-positioned in our production programs there.
So the place that they're going to go is into the development programs and we understand that, but we believe that the need for the Missile Defense Program is great enough because of the threat that we're faced with that it will get back on track once we work our way through some of the issues that resulted in those test failures.
And so consequently, we believe we'll be back.
But right now, in this guidance period, this is the -- our best take on what it's going to look like.
Nick Fothergill - Analyst
Thank you.
Operator
Howard Rubel, Jefferies & Company.
You may ask your question.
Howard Rubel - Analyst
Thank you very much.
James, in Paris you talked about one of the limiting constraints to taking production rates up was the supplier base and now we're a couple months further along and a lot of the titanium producers have started to increase capacity.
That coupled with the fact that it looks like you only have 50 positions available for '06, do you have an opportunity to go back and relook at rates?
James Bell - CFO
Well, Howard, we will always look at rate at it relates to demand, but the key is not getting to a peak rate.
The key is getting to an optimum operating and efficient rate, and right now all the data we see says that the plans we have in place takes us right to that appropriate rate of production.
And so -- but we'll continue to look at that and depends on how long the market stays strong and what the demand turns out to be for what extended period of time as to whether or not we'll revisit and make a decision to go higher than we're anticipating going today.
But it's not just the supply chain.
There's a lot of factors associated with what goes in that decision and we're not constrained from a facilities standpoint within the Company.
But we really -- this is a fickle market and it's cyclical and so we want to make sure that we're able to get up to an efficient production rate and be able to operate it efficiently for a period of time before we make a decision to go any higher than that.
Howard Rubel - Analyst
Just sort of related to that, look you talked about mix being a factor for the quarter, but it also looks like average selling prices have risen a little bit.
Is that a fair observation?
James Bell - CFO
Well, I think selling price is stabilizing in the marketplace and what I would say to you is that we have competitive pricing and we have competitive pricing while we're expanding margins and that's the way we want to run this business.
Howard Rubel - Analyst
Thank you.
Operator
Jared Muroff of Prudential Equity Group.
You may ask your question.
Jared Muroff - Analyst
Thank you.
And a very good quarter.
I wanted to ask on a couple of the defense programs I was hoping you might provide an update on the Jitters program and where that stands?
And as well if you could talk a bit about future Combat Systems, where you were in the contract renegotiations on that and what impact that might have and whether -- how that's incorporated into your guidance?
Jim McNerney - Chairman, CEO
Okay.
I'll start with the -- on the Jitters program as you know earlier in the year we got a stop recorder on essentially the production piece of that so that we could go work the technology side of that program.
And then subsequent to that we got a "show cause" letter which we then got back with our customer and responded to that as to how we would go work through our technological issues on Jitters.
And I think we have a -- we have developed with our customer a real path forward and they've started to refund that program and I think we're off and going trying to reach the right technological solution under Jitters.
So I think that's getting back on track.
Future Combat Systems program is on track, has been on track.
It's meeting all it's scheduled requirements.
It's being performed within its funding and it's on schedule.
We are in the process of changing the contract type, one from another transaction type that allows more flexibility in trying to change the contract as you develop the technology and it gets spiraled into today's forces.
And we're going to go to a more traditional far type of a contract and that's on track to get negotiated some time this year, and we'll be okay.
But the program is going well.
It's well received.
Well funded.
Well supported.
And the Government, obviously, it's what is needed today to help deal with the threat and the conflict that our forces are engaged in around the world, and so -- and we're performing and meeting all the expectations and all the requirements of our customers.
Jared Muroff - Analyst
Recently in the press there's been some indications that the new contracts on Future Combats would have a different split between award fees and the base fee.
Can you make some comments as to that and how that might --?
Jim McNerney - Chairman, CEO
Yes.
It will have a little different fee structure associated with it.
But the key thing about fee is if you perform, you'll get it, and we're performing.
And so we're not concerned about the different structure or the split of the fee because we think that based on the performance we've seen to date and the performance we would expect to have going forward we will absolutely still have the same profitability that we've seen in the past.
Jared Muroff - Analyst
Thank you.
Operator
Joe Nadol, JPMorgan.
You may ask your question.
Joe Nadol - Analyst
Thanks, good morning.
James, I was hoping you could give a little more color on your revised commercial airplane operating margin forecasts in terms of next year's margins specifically.
Is the increase all performance or is there anything else in the mix from a higher pension expense or higher volume?
And [indiscernible] to that why does your margin guidance for the back half of '05 still call for a reduction in commercial margins?
Does that include the Q3 charge on Wichita?
James Bell - CFO
Okay, so a couple of things.
Yes, the margin in '06, the increase is a result of continued good performance and also volume as the production rates increase and as we deliver more.
And we don't have guidance on the back half of the year.
We have guidance for the full year and for '05 and that guidance is now at 7%.
And so are you saying that -- are you asking me the guidance to date versus the full year is different?
Joe Nadol - Analyst
Well, your performance in '05 to date it's a little over 7% even including the Wichita charge.
So why do we expect that to go down the back half of the year?
You have a Wichita charge coming I guess in Q3.
Is that in there or not?
James Bell - CFO
No.
So what's baked in, in the second half of the year is the planned increase in R&D spending on 787 and on the 78 -- and what we're doing in the other development programs and so that's already baked in.
So it moderates what you're going to see in the second half versus the first half, but the fact of the matter is it's a point and a half above what we told you originally we were going to have for the full year.
Joe Nadol - Analyst
And the pension expense that's higher next year is that flown through your commercial segment as well?
James Bell - CFO
No, it's pension expense in general, where we had baked into our '06 assumption base, interest rates being in the 6.5% range and now it's looking more like 5.5%.
And as we've told you previously that for every 25 basis points we have $100 million impact expense, so you look at it it's going to be $400 million higher.
So that's going to really be -- that's really going to be an impact of the earnings per share, but it won't be necessarily a gross margin.
Joe Nadol - Analyst
So it's not flowing through the commercial segment in other words?
James Bell - CFO
Well, some pension does.
I mean we have the -- the piece that we allocate through on cash, but the major piece of that is going to be under FAS, so it will be on the accounting elimination line.
Joe Nadol - Analyst
Okay.
Thank you.
Operator
Doug Harned of Sanford Bernstein.
You may ask your question.
Doug Harned - Analyst
Yes, good morning.
On IDS, when you look at your guidance on Support Systems and Network Systems you've taken Support Systems up in margin, Network Systems down.
Could you talk a little bit about what's driving each of those and is Network Systems, is that all GMD or is it also -- is there some impact from FIA or other programs that's doing this?
James Bell - CFO
Network Systems has GMD and the proprietary programs and so, and it also has our AW&C programs there.
So where we've experienced some performance difficulty we've tried to accommodate that in the new guidance going forward for the year and it's been principally in the proprietary area and in -- a little in GMD and a little in the AW&C program.
And so that's where the moderation there is in that profit in the earnings guidance going forward.
Now, on the Support Systems, what we're seeing is just good performance on those programs and we would expect that to continue, so what we've recognized in our guidance is just that.
We think now we're going to be -- we're going to end the year stronger from an earnings standpoint in that segment and so it's reflected there.
Doug Harned - Analyst
Okay.
Great.
Thank you.
Operator
Robert Toomey of EK Riley Advisors.
You may ask your question.
Robert Toomey - Analyst
Hi, good morning.
I was wondering if you could comment on the -- sort of the color -- the tone of the cycle relative to other cycles, particularly with respect to the 787?
Did you see the cycle being stronger than previous cycles because of the 787?
Jim McNerney - Chairman, CEO
The -- this is Jim.
I'll take a swing at that one.
I think the real story on the 78 is not the cycle.
It's the relative competitiveness of the product.
Now, we could have a debate on what's driving it, but the fact is, we've got a lot more orders -- we have close -- 250 orders roughly on this airplane with about 60 or 65% of the world ordering them.
The U.S. still isn't in the game and in today's productivity driven world as a -- from an airline perspective, just the fundamental productivity of that plane, whether it's fuel efficiency or whether it's maintenance, whether it's comfort for the passenger in terms of point-to-point in the roots is a big deal.
And so it's hard to say because the cycle hasn't played out yet whether it's stronger or weaker.
I think this is going to be a relatively strong cycle.
That's one man's opinion, but I think the story here is the competitiveness of the product.
Robert Toomey - Analyst
Thank you.
Operator
David Gremmels of Thomas Weisel Partners.
You may ask your question.
David Gremmels - Analyst
Thanks.
Good morning.
My question is on the guidance for the Support Systems and Aircraft and Weapons Systems segments.
Your full year margin guidance implies a fairly steep decline in margins in the second half, I'm just wondering why that is?
Are there some timing factors at work or just being conservative?
Or what's behind that?
James Bell - CFO
Are you talking the segment guidance?
David Gremmels - Analyst
That's right.
Yes.
James Bell - CFO
It's just -- we're going to have good performance for that whole year.
But you're implying that they're going down from where they are?
David Gremmels - Analyst
Well, the -- your guidance implies that, yes.
James Bell - CFO
No, I think it's -- we had some one-timers early in the first quarter.
I think what we're going to see now is just that moderates over the rest of the year and then, but -- it's going to be really good performance still flowing through.
But it's really the quarter all together is that.
I mean, the guidance for the year, I think, is solid, but it really isn't moderating other than for the one-time events that we had earlier in the year.
David Dohnalek - VP-IR
Okay, Operator, I think we have time for one more question from analysts.
Operator
Brandon Woodward of CSFB.
You may ask your question.
Brandon Woodward - Analyst
Good morning.
Just wanted to follow-up on a previous question.
Looking at the cycle, you view 2005 as sort of a peak year for orders, and is this an opportune time for the U.S. carriers to reenter the game?
Do you view this as a good entry point for domestic carriers?
James Bell - CFO
Obviously, we see '05 as a great year for orders.
We don't know if it's the peak or not because the domestic hasn't come back yet.
We believe that this cycle is behaving a little differently where you just won't see a real peak.
You'll see it gradually increase and stabilize over time because we do think that domestics will come back, and they really aren't in what we've seen in a significant way yet and the order performance we've seen this year.
So it just depends when they come back.
So we just don't know if this was a peak or not.
Clearly it's going to be a good order year for us.
We're hopeful that this will be sustainable into '06.
Brandon Woodward - Analyst
Thank you.
David Dohnalek - VP-IR
Operator, we're ready to move over to media.
Operator
Thank you.
That completes the analyst question-and-answer session.
For members of the media, [OPERATOR INSTRUCTIONS].
I will now return you to the Boeing Company for the introductory remarks by Mr. Tod Hullin, Senior Vice President of Communications.
Mr. Hollin, please go ahead.
Tod Hullin - SVP-Communications
Thank you and good morning.
We will continue now with the questions from the Press for Jim and James, and Operator, we're ready for the first question and in the interest of time I'll ask you to try to limit to one question, please.
Operator
Thank you.
Our first question comes from Christian Plum of Reuters.
Christian Plum - Media
Yes.
Good morning.
I was just wondering, I didn't hear a precise reference to whether you're actually officially launched the 747 Advance, although, you referred to it as a important ongoing priority.
Is that program now officially launched?
Jim McNerney - Chairman, CEO
No.
I mean, we are out in the marketplace talking to a lot of people.
If the discussions go as well as we hope, we would anticipate a launch by the end of the year, but we're not there yet and so we have a lot of promising discussions going on right now though.
Cargolux has announced on their own that they're negotiating with us as one of the launch customers and that's a very promising discussion, obviously.
Operator
August Cole of MarketWatch.
You may ask your question.
August Cole - Media
Good morning.
This question for either Jim -- I guess, Jim if you'd like to answer this, but it's about the Quadrennial Defense Review.
The tempered revenue growth that you guys are talking about could that possibly change with the Quadrennial Defense Review at the end of the year?
Jim McNerney - Chairman, CEO
It could change based on a lot of things, the review being one factor.
But clearly it's going to be based on what the threats -- what the needs are in terms of where the defense budget ought to be allocated.
And so we're obviously in today in two major conflicts which have to be supported.
And, again, with our broad set of programs we could get more funding to do different things either in our production area or support area as it moderates in the R&D area.
So it depends on the number of factors, but right now what we see over the guidance period is the moderation that we have embedded in our guidance.
Operator
Thank you. [OPERATOR INSTRUCTIONS].
Our next question comes from Stanley Homes of BusinessWeek.
Stanley Homes - Media
Good morning.
Jim, could you -- in your prepared remarks you talked about the Future Combat System as one of the programs and products that you believe will be a winner.
I was wondering if you could elaborate more on why you think that?
What differentiates that program from other traditional platform centric defense programs?
And then finally, are you concerned at all that because defense procurements spending and R&D spending will likely be reduced considerably in the near future, do you see that at all affecting revenues and money going towards FCS program?
Jim McNerney - Chairman, CEO
Stanley, I think the -- I don't have much to add to the overall view of this defense spending that James has already given you.
I think those programs that will do well in a moderating environment will be the ones that are delivering, and are the ones that are important to the customer.
I think FCS is both of those things and, therefore, has a better chance of withstanding overall budget pressure than those that aren't performing and those that aren't central to the thinking of the customer.
I think what makes it a special program and I know you know this program as well as most, the network centricity and its application is what really makes it special.
I mean, there is real stuff spinning out off that program now that it is being applied in places around the world.
And the milestones are being met and the war fighter is being supported in unique and new ways.
And I think -- which is only reinforced, at least in my brief tenure here, only reinforced by discussions with the customers.
So we're feeling good about that program and it's an ambitious program, but one that we're achieving success on.
Stanley Homes - Media
Thank you.
Jim McNerney - Chairman, CEO
Thank you, Stanley.
Operator
Dominic Gates of Seattle Times.
You may ask your question.
Dominic Gates - Media
Good morning.
You mentioned spending CapEx and R&D investment in both the 787 and supporting IDS Advance Technologies, I think the guidance for 2006 for CapEx was 1.7 billion and for R&D was 2.5 to 2.7 billion.
James Bell - CFO
That's correct.
Dominic Gates - Media
Is it possible to indicate within that those two buckets how much of that is Boeing investment in the 787, maybe not a precise number but at least indicate what proportion of that roughly is devoted to the 787 investment?
James Bell - CFO
No.
Dominic Gates - Media
Can you differentiate between CapEx and R&D?
Is most of the spending in R&D or is there a big CapEx?
James Bell - CFO
We have differentiated between CapEx and R&D.
The capital is a 1.7 billion and R&D is going to be --.
Dominic Gates - Media
No, I mean in terms of 787 applications.
James Bell - CFO
No.
Absolutely not.
Dominic Gates - Media
All right.
James Bell - CFO
And we can but will not.
Let me put it -- let me be clear.
That's competitively sensitive and we would not share that data.
Dominic Gates - Media
All right.
Well, one other thing.
The "M" has always been over the year to talk about double-digit margins.
Can you reach that for BCA?
James Bell - CFO
Yes.
It won't be in the guidance period, but we're clearly on that track.
As you heard and saw in our release we're now at 7% this year in between 7.5 and 8% next year.
And the intent is obviously to get them to double-digit as soon as feasibly possible and they're working very hard to do that both towards harvesting their cost initiative, and then also regaining market share which is -- is going to be a key element of that as they are able then to sustain our production rates.
Dominic Gates - Media
Thank you.
Operator
Thank you.
Our next question comes from James Gonzales of Bloomberg News.
James Gonzales - Media
Yes, Mr. McNerney, I was hoping you could answer this question.
You said you had been to D.C. once in your -- at least beginning days as CEO.
When you were there, which agencies are you meeting with or can you share with us who you're meeting with on what issues, defense or WTO-related, and how are you being received there?
Jim McNerney - Chairman, CEO
I think the -- my initial trip focused more on the Hill than the agencies.
It was an overview introduction kind of a visit that touched on a number of issues broadly.
I'll be making many more trips to Washington, obviously, but this was more of a "get introduced" established dialog kind of thing.
James Gonzales - Media
Thanks.
Operator
Thank you. [OPERATOR INSTRUCTIONS].
Our next question comes from John Liang of InsideDefense.com.
John Liang - Media
Good morning, folks.
Could you give us a little more information or flesh out a little bit more when you were talking about the Missile Defense Program and, specifically, what do you mean by near-term as far as getting that program back on track, number one?
And number two, why you think this program can still be profitable for you folks?
Jim McNerney - Chairman, CEO
Well, we expect to get it back on track soon, like this year.
Obviously, the fact of the matter is, is because we had two test failures back to back, we have to work in, and we know basically if it doesn't have anything to do with the overarching complex technology, there was some quality production issues.
So we've got to go work our way through those and then demonstrate that it will work.
And then we will then get back on an installation track that will allow us to recover that program.
So I think within this year, next year we'll be back on track.
But clearly, the revenue that we intended that we would have had as a result of being on the old schedule is now something that's not going to be in the game plan for this year and next and so we reflected that in the guidance.
But the program will continue even though the profitability has moderated a bit, it will continue to be a profitable program for us.
John Liang - Media
Okay.
Thank you.
Tod Hullin - SVP-Communications
Operator, I think that will conclude the media questions for the call.
Again, for members of the media, if you have further questions please don't hesitate to call our media team at 312-544-2002.
Thank you and have a good day.