通用動力 (GD) 2004 Q3 法說會逐字稿

Good day, everyone, and welcome to the General Dynamic's third quarter 2004 financial results conference call.

Today's conference is being recorded.

For opening remarks and introductions, I would like to turn the conference over to Mr. Ray Lewis.

Please go ahead, sir.

Thank you very much, Erica.

I would like to welcome members of the investment community as well as members of the press that are listening to this call today.

As always, I would like to remind you that there may be some forward-looking statements made today regarding potential future financial results.

These are our best estimates based on current information, but they are subject to the risks of -- that face any business.

And if you want a more detailed look at what those risks might be, I would direct you to our 10-Qs, 10-Ks and annual reports.

With that said, I'd like to turn the conference call over to our Chief Executive Officer, Nick Chabraja.

Thanks, Ray, and good morning.

A little earlier we released earnings of -- net earnings of $322 million in the quarter, $1.60 per share.

That's about 10 cents better than consensus.

Let me at the outset, before I get into some of the more prosaic information, sort of put this very strong performance in some perspective for you.

You might recall, those of you who were on this conference a quarter ago, that I was asked what the third quarter would look like.

And I told you that it would look very much like the second quarter, which was a good quarter for us.

And I fully expected that.

As a result, I think the sell side set its guidance at or about $1.50.

Well, as it turned out, we beat it considerably.

But I think I was right.

The operating side of our business was almost identical to the second quarter.

Revenue was within $2 million of being identical.

And we had 5 million more of operating earnings in the quarter.

Well, that $5 million, together with about $3 or $4 million less interest expense that was a result of the cash flow coming from the second quarter, enabling us to reduce net debt, together with other income of $3 million, as compared with $12 million of expense in the second quarter, together with a modest reduction in the effective tax rate produced the extra net earnings which turned itself into $1.60 a share.

So from an operational perspective, we were dead knots on, improved somewhat on the same volume, with which I'm very pleased.

When I turn this over to Mike Mancuso, he'll be able to give you a little more detail on the same topic that -- that I've gone over at a high summary level.

That having been said, let me get into some of the detail.

And I'll -- I'll tell you that even though the operating earnings were about as we expected them, they came from some different places than one might have anticipated at the beginning of the quarter.

But for the -- for the quarter, operating earnings increased 39% on sales growth of 8% over the year-ago period, third quarter '03.

For the 9-month period, operating earnings are up 36% on sales growth of 21%.

Our earnings per share, $1.60, 21% above third quarter '03 and on a year-to-date basis, 22% higher than last year.

Cash flow from operations, that is net of capital expenditures for the quarter is as we published, 249 million and 821 million for the 9-month period year-to-date.

The 821 equates to 93% of our net earnings.

Traditionally, the fourth quarter is a good one for us for cash generation.

So with that said, we expect that to occur again this year.

And we feel very comfortable with our target of converting 100% of net income into cash flow from operations, net of capital expenditures.

Our backlog remains strong. 40 billion, 25 billion of which is funded.

Plus we have an additional 6.5 billion of essentially sole source IDIQ awards.

We should have a good fourth quarter from a backlog perspective, because we're in negotiation to definitize a number of contracts, including some significant awards.

As you can see from our segment results, the operating earnings increase has been across the board.

Further, margin rates have increased in each of our 4 major segments.

And overall margin rate has improved for the fourth quarter in a row.

I think this is a reflection of what we had talked about together as we came to the end of last year, and some of you asked me the question of strategic deployment of capital during the year.

And I pointed out that '04 was going to be a year where we focused on operations.

And I think that that has been our focus this year.

And I think it's reflected in this performance.

But let me turn briefly to each of the segments and make a few comments.

Our IS&T segment, operating earnings are 18% higher as compared to last year, quarter 3.

We continue to enjoy a double-digit margin rates in this rapidly growing segment.

Year-to-date sales have increased 48% and earnings by 35%.

Now, of course, be mindful that we made at least 2 significant acquisitions last year.

But during the quarter, IS&T captured several new programs, most notably WIN-T for the Army, NETCENTS for the Air Force and JTRS Cluster 5, a software defined radio for all branches of the armed forces.

These programs alone have a potential value if all options are exercised of several billion dollars over the next 5 to 10 years.

Combat systems, real strong performance in the quarter.

Maybe a little bit exceeded my expectations here.

Earnings increased 15% on relatively stable sales volume.

Obviously, our margin rates improved.

And year-to-date sales and earnings are 12% ahead of last year.

Total backlog here is up 40% from last year.

Recently, the Defense Department authorized low rate initial production of 2 more variants of the highly successful Stryker family of armored combat vehicles procured by our -- produced by our land systems business.

And funding for a seventh Stryker brigade is fully supported by the United States Army.

Aerospace, another great performance.

Through cost control, tightened business process, and a little bit of help from improving market conditions insofar as price is concerned has, on relatively stable sales more than doubled their earnings and margin rates for the quarter and year-to-date.

I am guardedly optimistic that their disciplined approach, new product offerings and a recovering economic environment can result in continued improvement.

Just a moment on something a little bit forward looking here.

We're a little bit cautious about market demand.

It has picked up, and picked up considerably.

We had a good quarter from an orders perspective.

The best third quarter in Gulfstream's history, beating last year.

Last year in the third quarter was when the market sort of picked up for us.

We plan to build somewhere between 58 to 60 of the large bodied Gulfstreams next year.

That's as -- to build and deliver.

That is as compared to about 55 this year.

So you can have some sense there numerically of how we see the market demand picking up somewhat.

Our marine group, the good news is that the results this quarter are significantly better than last year's results in the third quarter.

Earnings and margin rates are better in the quarter, notwithstanding an additional $24 million charge at Nasco on their commercial tanker program.

As you know, we delivered the first of the 4 ships in August, after it performed flawlessly at sea trials.

The second ship delivers in this quarter, in December.

And the final 2, late in 2005 and in early 2006.

So we're getting pretty close to the end in terms of, you know, being able to wrap our arms around this and have a predictable result.

I wouldn't tell you that we are without risk, as to cost growth.

But it's certainly at this point very manageable.

So to summarize, we had a very good quarter and so far we're having a very strong year.

As far as 2004 earnings guidance is concerned, the consensus coming into this meeting is about 5.90.

Last quarter I told you that I was comfortable at 5.85.

The third quarter was better than I had anticipated.

So I believe our fourth quarter should be comparable to this one.

Which would put us in a range of 5.95 to $6 for the year.

So let me change our guidance to that range, 5.95 to $6.

And I'll pass to my colleague Mike Mancuso, our Chief Financial Officer, for some color on these numbers and some things he wants to point out to you.

Thank you, Nick.

And good morning, ladies and gentlemen.

I will be -- try to be brief, and just offer some comments on a few items.

I think Nick more than adequately covered all of the highlights within the segment information.

So first of all, I'd like to direct your attention to the earnings statement for the quarter, and specifically the provision for income taxes.

Last year the tax provision of $71 million or 21% was the result of having settled 3 tax-year audits with the IRS, and flowing positive adjustments therefrom through the provision.

This year, the tax provision of 146 million is a more normal 31%.

For the first half of this year, our tax rate was 33.2%.

Our best estimate at this time is that our tax rate for the year will be about 32.5%.

Thus, the 31% rate in this quarter reflects a year-to-date adjustment that will get us to 32.5 through 3 quarters.

The second subject many of you are interested in are pre-owned aircraft sales.

You can note from Exhibit G attached to the press release that we sold 5 pre-owned aircraft in the quarter, versus 9 last year.

Of the 5 aircraft we had a profit -- or on the 5 aircraft we had a profit of $5 million overall.

Typically we strive for at least break-even and last year you may recall we had a loss of $11 million on pre-owned aircraft sales, which also included an inventory revaluation.

Going into the fourth quarter, we have 10 pre-owned aircraft in inventory, 7 of which are on short-term lease, 2 are under contract for sale.

And only 1 is available for sale at this point.

And finally, I want to point out our debt balance of $3 billion at the end of the quarter, which is some $846 million lower than a year ago.

And our debt to total capital rate is 35%, versus 45 last year.

Even though during this quarter we closed 2acquisitions and retired $500 million of our floating rate debt.

An already solid balance sheet continues to strengthen.

So with that said, I'll turn it back to Ray to begin the Q&A.

Thank you very much, Mike.

Erica, if you would, could you explain to folks how they can get into the queue for the Q&A.

Certainly.

If anyone does have a question or comment for our presenters, you can signal at this time by pressing star 1 on your touch-tone telephone.

If you are on a speakerphone, please pick up your handset before dialing star 1 so that we get your signal.

Again, it is star 1 to ask a question.

We'll take our first question from Cai von Rumohr with SG Cowen.

Yes.

Great quarter.

On the pre-owned, can you give us what the dollar volume was on pre-owned and maybe give us some color.

Those were really pretty spectacular numbers even with that.

Is that margin rate sustainable going forward?

It looks like you've got something like maybe 200 basis points on the Savannah production.

Is that correct?

The pre-owned, Cai, were 106 million in sales, versus 135 a year ago.

Okay.

Cai, to your part of your question that -- look, this was very good performance, the margin rate is moving up steadily.

And it will over time.

I can't tell you that quarter-to-quarter it is going to sequentially move up.

We're trying, but, you know, your product mix varies by quarter.

They're continuing to do very well.

And we will come down the learning curve on these new products.

You know, the 450s and the 550s are essentially new products, and we bumped back up the curve and we're coming back down.

So doing a very nice job on their lot costs on these airplanes, and will continue to get better.

So I'm optimistic that over time we'll not only sustain this but get modestly better.

Okay.

And I know it's a bit long call, I'll just have one more.

Marine, could you tell us the size of the adjustment on the tanker program and some of the clauses with specific reference to steel prices?

It's $24 million, Cai.

And it attempted to anticipate the labor cost growth reflected in the EAC that was done in the quarter, towards the end of the quarter.

Some increased costs coming from a subcontractor.

And steel cost growth.

We attempted to address all of those issues.

And in connection with the $24 million writeoff.

Great.

Thank you very much.

We'll move next to Howard Rubel with Schwab Soundview.

Good morning, Nick.

Hi, Howard.

Just a couple to follow up.

First, with steel, that's one area where you've seen some risk and its only been in the shipyard.

Do you have other areas where you might have similar commodity price risks?

No, Howard.

Steel was the -- was the issue for us.

And it -- it's the only risk area from a commodity point of view.

And I think that I've identified the 3 risk areas.

We feel pretty good right now about the labor cost growth.

And I think the subcontract issue.

If there is continuing risk, it's in the steel area.

Okay.

Thank you.

And then to follow-up, the Combat systems business tends to be fourth quarter back-end loaded.

Is that a fair assumption of what you're seeing?

I mean, there's substantial increase in backlog and you seem to announce a significant number of new orders.

The fourth quarter is traditionally good for us.

And what I really expect to see there is an increase in revenue in the fourth quarter.

I think the $24 question on that one, Howard, is our Combat systems group performed at a 12.5% margin rate in the third quarter, can they repeat it in the fourth?

And I expect them to do well.

But 12.5 is really -- for us to get there in the fourth quarter, we'd need a real strong performance out of Europe in the fourth quarter.

So that will be an interesting one for me to watch during the quarter.

But they'll do well.

They'll do very well.

They'll have a good fourth quarter.

Well thank you very much.

We'll hear next from Steve Binder with Bear Stearns.

Yeah.

Nick, I was just wondering, you know, touching first on Gulfstream, you know, I heard you answer Cai's question previously.

I'm just wondering, was there a more favorable mix in deliveries?

Was the 550, you know, sales higher proportionally this quarter than we might have saw in the second quarter that might have accounted for some of the sequential strength in margin?

Or can I just conversely ask -- I mean, is it fair to say that most of the improvement we saw sequentially is coming from both pricing as well as better manufacturing performance?

I'm going to have Mike take a look right now at the mix issue.

But my view is modestly improved pricing and cost containment.

As a matter of fact, without even getting to Mike, Ray's just showing me a sheet and we're pretty much in the same kind of mix that we have been.

No more, no less.

And you would expect that.

You know, Steve, people -- I'll read commentators say, well, with the market improving I'm surprised that Gulfstream's revenue wasn't higher.

Well, that's kind of a naive assumption.

We set the production rates in the beginning of the year, and we'll produce those airplanes and deliver them in pretty much the mix that we had set in the production plan.

And it doesn't change as market conditions change.

What could change?

You could pull another plane in at the end of the year, or 2 planes from the following year.

That's a possibility sometimes.

And you could, because of customer changes, get a modest mix shift during the year.

But it's -- mostly it's going to be steady as she goes in terms of the mix, and the number.

The reason I ask is, I'm just -- I don't mean to put -- put too much emphasis on '05, but if you look at deliveries in the quarter, both green and completions, well green -- green completions and large and green -- completions was 14 planes, which is 56 planes and you said that you're going to be at 58 to 60 next year.

And if you look at the profits for the quarter, using the aircraft profits, you had a run rate of 450 million in theory from where we were in the third quarter and production will be a higher for full-year '05 than the run rate in the third quarter, I expect 2 things are positive next year, one is G550 volume might be higher in '05 and secondly, I think overall pricing might be better in '05 than we're going to see even in the third quarter of '04.

So are we really -- is there any headwinds you see from where we're at in the third quarter, because it seems like you should have a very strong year in '05 and $500 million in profits is not out of the question.

Boy, oh, boy, that was a mouthful, Steve.

You need to preach on Sunday.

We'll take 500 million if it comes our way.

That would be a stretch, it seems to me.

But we're going to try very hard.

We're going to be better next year than we were this year.

And this is really a staggering improvement from where we were 218 a year ago.

This will be quite a performance, and we will improve it next year.

We'll add a little more volume, and we think we'll get a little more margin.

Okay.

Secondly, on the tanker program, you did say back on the 10-Q, not to go back to the 10-Q, that you expected the second boat to be delivered in November and now you are saying December, so is the schedule accounting for the bump in labor costs?

And has there been any change in the timing of the '05 and '06 deliveries?

No, not -- we've moved this back a little bit, not so much because of labor growth on our side, but because of the way we're going to deliver this ship.

And this has to do with the way we'll -- one of our subcontractors will perform their work.

Okay.

So you -- this is not Nasco related, it is sub-related that is causing the delay?

It's the way we intend to finish and deliver the ship, a change in -- a modest change in methodology in order to -- in order to keep the costs where we want it to be.

Okay.

And then last question, I guess, on A12 you talked about in the queue about some -- you expect a decision by the end of the year.

Can you give an update there?

Nothing new.

I would have thought we'd have had it already.

But, you know, any time.

And has your confidence level changed at all from a few months ago?

I don't think my confidence level should be the barometer.

We're at the place now where the courts are about to decide.

Let's get a decision and react to it.

Okay.

Thank you.

Next we'll here from Heidi Wood with Morgan Stanley.

Can you talk about the -- the 58 to 60 aircraft from Gulfstream in 2005, Nick, what percentage of those slots are full?

We're about 2/3 sold out.

Is that about in line with where you've been historically at this point in time?

Maybe a little -- well, you know, history in a cyclical industry is strange.

We're ahead of where we were a year ago.

And my suspicion is that we'll be way ahead of it by the end of this year.

Put this in a slightly different perspective.

All of the planes we intend to final deliver next year, that is the customer will take possession of the plane and fly it away, are gone.

Those are -- those positions are all sold.

But when I talk about our production, I'm talking, of course, about green airplanes.

And we still have roughly 1/3 of those to sell.

And we ought to revisit that number at the end of the quarter assuming the fourth quarter order activity is in line with tradition, which is strong fourth quarter.

We'll be without risk on our production base next year.

This recent passage by Congress of the accelerated depreciation into '05, does that goose the potential deliveries by a couple of planes?

Oh, I don't know.

I don't know that it -- that it has much of an impact on us right now.

I mean, I guess you raise the possibility for final delivery, which is required by law, we're essentially sold out.

Can one of our customers put the arm on us to deliver another plane earlier?

You know, maybe, it's possible.

But there's limits to what we can do there, and we're not in any big hurry to superheat volume here.

All right.

And turning to marine, Nick, you did 7.5% margins in marine, if we take out -- back out that -- that charge, and that's versus 6, 8 a year ago, also backing out the charge.

But it sounds like with these commodity prices, it may be the 7.5 rate is not sustainable.

What do you think is a sustainable margin rate for the next couple of years at marine?

Heidi, that's a difficult question to answer.

I mean, this is a business that's moving in the low-rate production.

And it is hand-to-hand combat.

I don't talk much in terms of sustainability.

But you're -- your steel exposure is confined to the commercial side; is that correct?

Oh, yeah, but look a lot of things are going on.

This is not just a steady as she goes business.

I mean, the mix is -- we're getting a product mix.

And we're in new programs.

We're going to be in -- pretty soon into the second flight of the Virginia class, firmed fixed price contract.

We haven't performed yet on it.

You asked a question about what is sustainable.

We're at -- right at the front end.

Nasco will get through these tankers in very short order.

And begin a brand new TAKE program, brand new.

DDG is something that's, you know, nice and steady.

And we're seeing a little improvement.

But, look, I'd love to have 7% margin and work my way up until 8, but I'm not ready to get into the prediction game on this one.

This is what we're fighting for.

I don't see it getting better in the intermediate term than 8%, and we're going to struggle to keep it north of 6.5.

Let me ask you a conceptual question when I think about marine, Nick, and see if I'm looking at something in the right way, or at least get you to talk about your outlook for prospects at that.

When I look at that, the business base at BASS you have no share of deep water, you are not building LCS there.

It looks -- eventually this shipyard is going to be dependent on DDX and CGX and, again, there is a question as to whether that can get to 2 a year rate and if not, and they can't divide between the shipyards, BASS being the second yard it looks strategically vulnerable.

Are there other business opportunities that could maybe offset its dependency on DDX and CGX?

They won't build LCS in that yard.

But they will have LCS in my view.

So that's a nice piece of business for them.

And, look, I'm not worried about the strategic right now.

I think what -- where we are with the Navy is a modest pause.

I don't believe that that can be sustained.

I don't believe the Navy is going to be building at the rates of 5 and 6 ships a year over time and be a major sea power.

That won't happen.

One of these days our Navy will be funded to build ships, and path iron works will play a major part in that.

And I don't think the future is all that distant.

But right now the Navy is drawing down its fleet, and it will have to turn back to building again when it becomes required.

I think you're going to see some interesting ship building out of the Navy.

When will it be?

I don't know.

All right.

Final question, Nick, and then I'll let somebody else ask.

Can you talk a little bit about the M&A pipeline, what you're seeing?

We haven't been terribly M&A active this year, Heidi, as I've indicated.

We've been preoccupied with strengthening our operations and integrating, and assimilating things that we acquired last year.

We've bought 2 companies this year of significance, spent in excess of $400 million.

And, you know, who knows?

We might do a thing or 2 before the end of the year.

But we've been careful.

Okay.

Great.

Thanks very much.

We'll move next to Nick Fothergill with Banc of America Securities.

Yes, a couple of questions, if I may, Nick.

First of all, Combat systems.

You talked about next quarter, you know, you would struggle to get margins because of the European businesses.

The European acquisitions, how long do you think it will take for you to develop some margin upside?

And is it possible to get margin up in those businesses?

Nick, I'm not sure you understood me.

Let me go back and repeat that.

We had 12.5% margin in Combat systems in the quarter.

In the fourth quarter, we will have higher volume by a fair chunk.

The real question is can we sustain that 12.5% rate?

I think it will slip in the U.S.-based businesses.

We may, however, manage to stay at 12.5.

And if we do, it will come out of Europe.

On a strong -- on the basis of a strong fourth quarter performance in Europe.

They're doing very well.

But they tend to be really fourth-quarter concentrated.

So did that straighten that out for you, Nick?

Yes, it certainly does.

That good to hear.

And also on the business jet side of things, obviously a tremendous margin performance this quarter.

How much do you think now is picking up or being contributed by your service business?

Which I think has expanded from -- you know, it's doubled its footprint in the last 2 or 3 years, it's now up to around, what, 17% of revenue.

And it must be doing some pretty high margin, particularly on the repair of your competitor aircraft.

Is that something that's making a reasonable contribution to the margin there?

It's running, from a margin perspective, about where it was a year ago.

A little more volume.

But from an operatings/earnings perspective, we have essentially the same revenue -- I mean, the same operating earnings in the second and third quarters that we did a year ago.

But we had a big first quarter compared to the first quarter in '03.

So overall, year-to-date, the service business has made a positive improvement and contribution.

And also, there was a -- I noticed a sizable drop in R&D over the quarter.

What's that down to, Nick?

At Gulfstream?

No, across the whole group.

Oh, I don't know.

I mean, that's spotty.

Over the -- that's very hard to predict.

Sometimes you're going along doing IRAD, independent research and development and then you get government-sponsored research, and that takes it over.

But I don't know that I have an ability to answer your question with respect to the quarter.

I think --

No problem.

So it's just lumpy and that's about it.

Yes.

As I look at it now, I'm looking, we were 74 million in the quarter a year ago, 70 million this quarter.

So pretty much about the same.

I can't really draw any distinction there.

Okay.

And then finally, if I could draw you a little bit into '05, obviously Gulfstream looks as though it's doing well, the 2 defense businesses are going extremely well, marine probably ticking along and doing the best as you said there on the margin side.

Could you do 7 bucks, do you think in '05?

If you want to give it to me.

Look, I think that that's an awful lot to ask, Nick.

You know, this is the year where we will, I think, for the year do something like 20% better than we did a year ago.

To ask us to do that again, to put a dollar on top of that, which is, what, 17 or 18%, there is nothing in the growth of this market that would suggest that to me.

I think we're going to do well next year.

But that would be a super heeded expectation.

We are not --

Fair enough.

We are not at the place yet where we can give guidance for next year and have that guidance be meaningful, because we haven't completed our operating plan and budget cycle.

So it's been traditional for us to hold off until first opportunity we get when that cycle is complete, which is usually early November, to find some public forum to give guidance.

But I don't think you're going to be hearing $7 from me.

Okay, Nick.

Fair enough.

Thanks anyway.

We would like to remind the audience that in the interest of time, please limit yourself to 1 question and 1 follow-up question and then you can requeue.

We'll move next to David Strauss with UBS.

Good morning.

Nick, could you talk about activity?

You talked about activity on the large cabin side.

Could you talk about activity on the mid-size cabin side?

What might deliveries look like there in '05 and could you get some help from bonus depreciation on the G100 and G200?

Yeah, we probably can, David.

And I don't have those numbers in my mind out of the preliminary planning information that -- that Gulfstream gave me.

And the reason that I don't is that we don't have the manufacture responsibility.

So I concern myself a little less about that.

But off the top of my head, I would expect it to look pretty much like it does this year.

But that can be more variable.

The production rate can be amended to correspond to market demand.

And that is a position where this tax bill could become helpful.

Okay.

At IS&T, it looks like the growth rate, when you back out acquisitions in the quarter was -- was less than 10%.

Are you -- are you still thinking that that business, you had talked about in the second quarter call that that business would come in, you know, high single digit, low double digit type -- type growth rate next year.

Is that -- is that what you're still thinking?

And is that number including acquisitions, or excluding acquisitions?

Well, when I talked about that, I was excluding acquisitions.

And I think it's still fair to think about IS&T as being in the high single digit growth rate area as a result of all of their wins over the last 2 years.

But let's see.

I mean, I think there's some upside here.

And let's see how that market develops.

But again, I don't want to predict growth here that's in excess of what federal budgets tell me is planned.

So this area in general is growing faster than the overall budget.

So I think that our sort of forecast to you of that growth rate is responsible.

Okay.

Thank you.

We'll move next to Joe Nadol with J.P. Morgan.

Hi, Nick.

Hi.

On the Combat business, you know, you've mentioned that you are going to get some -- a lot of volume out of Europe in Q4, and that's kind of seasonable.

But it looks like next year you should get a lot of growth for the full year as well.

So additionally, it's probably lower than average margin business.

Could you give us a sense as to how you see Combat growth overall and what might happen to margins if you have an adverse mix shift?

I don't want to get into that next year, Joe.

Because as I've indicated, I'm not prepared to give guidance.

And what -- what I'm really going on now is I'm piecemealing it, and if I really knew all the answers to those questions I'd be able to give you the guidance.

Okay.

I guess on the IS&T side, the programs you won, I know you're still saying high single digit, low double digit type growth.

But you had some, I think, very large wins in Q3 specifically which you rattled off earlier.

How much of those do you expect to hit in '05?

I mean, WIN-T, the whole reason that you won that this year was to get an early start.

Isn't that true?

It will get started.

It will get started.

All very good.

But, Joe, you know, to the extent that you're arguing that the growth rate will be higher, it's real easy to build on sand.

I mean, you'll always identify the new wins and not go back and try and figure out which programs are coming to a maturity.

Some good things that have been wonderful for us will also go away over time.

So I think that -- that the growth rate we gave you is very close to accurate.

Are there any specific programs that run off in IS&T next year?

I don't know.

Okay.

Thank you.

We'll hear next from Byron Callan with Merrill Lynch.

Yes, good morning, Nick.

I wonder if you've at all sized some the reset opportunities that might come out of Iraq, particularly for M1's and Strykers and also if there is an opportunity to maybe work on other armored vehicles being used there, other vehicles in general.

I think there will be reset.

I think that the Army hasn't formulated its plans yet, that they're in the process of doing that.

They have consulted with us from time to time about that.

But where I am right now is I don't know.

And I think, even in our planning process, we're probably leaving that aside and taking it as a potential upper to our plan.

Okay.

And then again, just looking at defense in 2005, what are some of the major open market opportunities that you are still looking at right now?

I guess there is a large encryption modernization program, that would be one that would come to mind.

Any of these other?

We had a unusually large number of defense competitions this year.

What are you looking for in the next 12 months?

Byron, I think that the -- in the last 2 years we've had an extraordinary number of competitions, a lot of bid and proposal money.

And the dealing's pretty well been done.

And I think that there are few that -- of these major competitions that we see in the next year or so.

Okay.

Great.

Thanks.

I mean, there will be some contracts awarded, and some things done.

But, you know, you are talking about the big shooting matches that you all watch and that have acronyms that are recognizable.

I think that's a little bit behind us.

Just a follow-up, Nick, with oil at record levels, historically when that's happened, you've tended to see some purchasing out of the Middle East.

I mean, is there any sign of movement out of Gulf states or even Saudi Arabia on some of the things that you've historically done in that part of the world.

I know it is good for business jets.

I was just going to tell you that part of the world is interested in airplanes.

Yes.

There has been some activity over there.

I wasn't certain that it was related to the price of oil.

But it may make defense products that they're interested in more affordable to them.

But the interest is threat-driven.

It's a part of the world that -- that obviously has concerns for its own national security.

Okay.

Thanks.

Next we'll hear from Troy Lahr with Legg Mason.

Thank you.

I'm wondering if you can talk a little bit about the margins at Combat system.

Year-over-year, you know, they're up about 130 basis points.

And incremental margins were, you know, about 50%.

Can you exactly kind of explain what exactly is going on to get you to the 12.5% margins there in the third quarter?

Better performance.

At Europe or just in the U.S.?

In the United States.

Okay.

So it's not really a product mix or anything like that?

Well, you -- you get a little bit of that.

You've got the Stryker program maturing.

We do a better job of producing those vehicles.

You know, we just -- we're getting better, taking cost out of the business.

Okay.

The -- can you -- what kind of impact is the -- the low rate initial production for the mobile gun system and the nuclear biochem vehicle for Stryker?

Is that going to -- when it is that going to start ramping up.

It's going to happen next year.

We're going to build 14 vehicles and do some advanced procurement of another -- I can't remember the number, but I think 58, another 58.

So that will hit in next year.

You should also remember that this year we -- our volume on Stryker was down a little bit, just because of the way they were sequenced.

And the volume on Stryker will go up next year.

Okay.

And just one last question.

When is Israel going to make their decision, I guess they're testing the Stryker right now.

I have absolutely no -- no knowledge on that subject.

Okay.

Thanks.

We will move next to Rob Spingarn with Wachovia.

Good morning.

Nick, you implied that the fourth quarter is pretty good for business jet orders, and I think that in the third quarter it seems like you had a book-to-bill of around 1 or possibly better.

A little bit better.

Are you expecting -- then are you expecting a book-to-bill of more than 1 for the year?

That's where we'd like to go.

If -- if you go -- here's the custom in usage in the business, if you can stay close to book-to-bill over the first 3 quarters, and we're running close, we were ahead in the third quarter but we are in excess of 90% book-to-bill.

And it's well in excess, depending on whether you're talking about units or dollars.

If you can stay in that range through the first 3 quarters, and have a solid fourth quarter, you effectively build backlog.

And that, in turn, informs your build rate for the following year.

And you are thinking, even about '06.

So that's where we are right now.

We're poised to do good things, if the fourth quarter is strong as we anticipate it will be.

Last week at MBAA there -- there really wasn't much activity from the fractional guys, and I think in general that area of the market continues to be weak.

Would you say your fractional backlog is diminishing?

Are they a significant portion of what you -- what you've got firm for next year?

They -- it's only diminishing in this sense.

You'll notice that we have at Gulfstream both funded and unfunded backlog.

Occasionally they exercise an option that reduces it.

And then as they take airplanes, it reduces that backlog.

And that has been going on.

So from my -- from a fractional point of view, our backlog to them is reducing, as well it should.

Because their tendency is to come in and give you large orders spread over time.

That is offset by backlog improvements with respect to the rest of our universe.

Can you quantify the fractional percentage of next year's deliveries?

I could, but I'd have to calculate it.

It's actually picking up a little bit.

Let me see if I can take a look. 1, 2, 3, 4.

Let me take a look here.

Why don't you get this from Ray off-line?

It's relatively significant.

With -- no, that's -- I don't want to do that.

Okay.

I'd have to do too many calculations here.

That's not a fact that I walk around with in my hip pocket.

But it has been running around 10, 12%.

And I suspect it won't be materially different next year.

Okay.

Can you give us any color on this new tax law change for naval ship builders that passed through Congress over the last 2 weeks, any big implications for you?

I don't think so.

It's -- I don't know too much about it.

It was -- it is a form of what we used to know as the completed method -- completed contract method of accounting.

And that is that taxes will be due and payable on a ship building contract when the contract is completed.

As opposed to as the ship is progressed.

I don't understand the full ramifications of it.

But I saw a press report that it was worth $500 million of deferrals to the industry.

Right.

And I don't know where that press report was getting its stuff.

But -- but you all get to see the operating earnings reports out of the industry.

You tax effect those and kind of figure out what it's worth, not that kind of number for sure.

Thanks very much.

Erica , if there are no more questions, it's just about the end of our time here.

If anyone would like to chat me with me, Ray Lewis, staff Vice President, Investor Relations, my number is 703-876-3195 and thank you all for being on the call.

That does conclude today's conference.

We thank you for your participation and you may now disconnect.