通用動力 (GD) 2014 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q1 2014 General Dynamics earnings conference call.

My name is Adrian, and I will be your operator for today.

(Operator Instructions)

As a reminder, this call is being recorded for replay purposes.

And now, I would like to turn the call over to Erin Linnihan, Director of Investor Relations.

Please proceed, ma'am.

Thank you, Adrian, and good morning, everyone.

Welcome to the General Dynamics first-quarter conference call.

As always, any forward-looking statements made today represent our estimates regarding the Company's outlook.

These estimates are subject to some risks and uncertainties.

Additional information regarding these factors is contained in the Company's 10-K and 10-Q filings.

With that, I would like to turn the call over to our Chairman and Chief Executive Officer, Phebe Novakovic.

Thanks, Erin.

I will keep my remarks relatively brief today.

I think the numbers are pretty straightforward and largely speak for themselves.

Earlier today, we reported first-quarter earnings from continuing operations of $1.71 per fully diluted share on revenue of $7.3 billion, operating earnings of $871 million, and net earnings of $595 million.

We beat analyst consensus by $0.07, and were ahead of analyst expectations on revenue as well.

We were also somewhat better than our previous guidance, and ahead of our own expectations.

I should point out that the diluted weighted average shares outstanding was 347.2 million for the quarter, 7.4 million shares below the fourth quarter of last year.

I've asked Jason Aiken to give you a little more insight into our share repurchase activity when I conclude my remarks.

Free cash flow from operations was $341 million, approximately 57% of net income.

This is typical for the first quarter, but I should add that we expect a particularly robust second quarter from a free cash flow perspective, driven in part by advanced payments on international orders.

In many respects, the story for the quarter is about the order book, particularly in defense.

We ended the quarter with a total backlog of $56 billion, up approximately $10 billion over last quarter, with particularly impressive growth in combat systems backlog.

Marine systems backlog grew, and IS&T had a modest gain after adjusting for some of the backlog in the UK that was transferred to combat systems.

Interestingly, we have more funded backlog at the end of this quarter than we have had any time in last three years.

The same is true for total backlog.

We also look forward to a strong second-quarter intake, particularly in marine systems, with the anticipated booking of the Block IV Virginia-class multi-year contract.

The underpinning of our defense businesses are clearly solidifying.

Compared to the first quarter 2013, revenue was down less than expected, $80 million, or 1.1%.

On the other hand, operating earnings were up $24 million, or 2.8%.

Our operating costs and expenses were $104 million less than the year-ago quarter, leading to a 50 basis point improvement in margins, 11.9%.

This is very strong operating leverage.

Net earnings were up even more than operating earnings, 4.2% versus 2.8%, primarily due to a lower tax rate.

EPS was up 5.6% over the year-ago quarter, as the result of better operating earnings, lower tax rates, and lower share count.

Let me provide some commentary and a little bit of perspective around the results of our operating segments.

First, aerospace.

Sales are up over Q1 2013 by $347 million, 19.5%, and essentially flat sequentially.

Earnings out paced the year-ago quarter by $94 million, about 30%.

Compared to Q4 2013, operating earnings are up $56 million, or 16%, principally due to mix shift and continuous improvement on 6550 production and completion efficiency.

This resulted in 19% margins for the group.

Again, jet aviation's continuing profitability made a nice contribution.

Orders were not strong in the quarter, but need to be viewed in the context of a very robust fourth-quarter 2013 order book.

We are off to a very good start in the aerospace group.

Marine systems.

Revenue was off 1.5%, $25 million, compared to the year-ago quarter.

The sequential story is similar with respect to revenue.

However, operating earnings were up $7 million, 4.4%, against the year-ago quarter and the same sequentially.

The real story in the quarter is a 10.4% margin rate, which is really top-notch, and better than expected.

All of the shipyards performed well in the quarter.

Backlog grew $837 million in the quarter, with significantly more to come in the second quarter, as I mentioned a few minutes ago.

At combat systems, compared to the first quarter of 2013, sales were down $236 million, or 15.2%, and earnings were down $79 million, or 36.7%, on a margin of 10.3%.

It is important to note, however, that these results were impacted by a $29 million restructuring charge at ELS, as a result of reduction in our Austrian operations, which were consolidated into Spain and Switzerland.

If we disregard that charge, margins would be 12.5%.

Despite the restructuring charge, ELS is expected to have operating margins around 10% for the year.

The big story here is the large international order that finally came through.

Total backlog is up $10.2 billion over the year-end number.

Each of the combat systems businesses built backlog in the quarter.

You should see steady revenue, earnings, and margin rate performance improvement throughout the year in this group, IS&T.

The revenue in this business group is holding up well in this difficult environment.

You might recall that our guidance to you was to expect a revenue decline of 20% year over year.

Well, it didn't happen in the first quarter.

Revenue in the quarter was off $166 million, or 6.8%, against the year-ago quarter.

It was off 15.2% sequentially.

Operating earnings of $183 million in the quarter were only $2 million less than the year-ago quarter, on a 40 basis point improvement enlargement.

On a sequential basis, operating earnings were $13 million lower, or 6.6%, on a 70 basis point improvement in margins, once again exhibiting nice operating leverage.

Total backlog for the group was down $43 million from year end, but that includes a $248 million transfer of backlog from our UK business to combat systems.

Absent that transfer, IS&T backlog actually grew.

So once again, IS&T is off to a good start.

When thinking about the rest of the year, we are increasing our EPS guidance to $7.05 to $7.10 from our initial expectations of $6.80 to $6.85.

The increase assumes currently anticipated operating performance, and the share count reduction realized in the first quarter.

Think about the quarterly performance as lower in the second, flat in the third quarter, with a strong Q4 finish.

I'd now like to turn the call over to our CFO, Jason Aiken.

Thank you, Phebe, and good morning.

I will take just a few minutes to review some financial items with you before we start the question-and-answer period.

Net interest expense in the quarter was $22 million, versus $23 million in the first quarter of 2013.

For 2014, we expect net interest expense to be approximately $90 million.

At the end of the quarter, our balance sheet reflects a net cash position, that's cash in excess of debt, of $385 million, a decrease of $1 billion from the end of 2013.

This decrease was due in large part to our activities on the capital deployment front, which I'll address in just a minute.

We don't have any scheduled debt repayments until January of next year, when $500 million of fixed rate notes will mature.

Our effective tax rate was 30.1% for the quarter, slightly lower than expected, primarily as a result of the closeout of the 2012 tax year.

For the full year, we still expect our expected tax rate to fall between 30.5% and 31%.

We expect cash contributions to our pension plans for 2014 to be around $550 million to fund our obligations.

The bulk of funding is scheduled to occur in the second half of the year, specifically during the third quarter.

As an update to our capital deployment plan, I'd like to address our activities in the first quarter.

As you will recall, we entered into an accelerated share repurchase plan in late January to repurchase 11.4 million of our shares.

This exhausted our remaining repurchase authorization, and in early February, our Board authorized the repurchase of an additional 20 million shares.

Since then, we repurchased 3 million more shares during the quarter.

In total, we deployed approximately $1.7 billion on share repurchases and dividend payments in the quarter.

In March, our Board declared a dividend increase of more than 10%.

That's the 17th consecutive annual increase.

Our intent in 2014 is to return essentially all of our free cash flow to shareholders, while maintaining a strong balance sheet.

At the end of the first quarter, we have $4.3 billion of cash on the balance sheet, and are well-positioned to execute our capital deployment strategy during the coming quarters and achieve the objective that Phebe had articulated for 2014.

Erin, that concludes my remarks, and I will turn it back over to you for the Q&A.

(Operator Instructions)

And the first question comes from the line of Jason Gursky of Citigroup.

Please go ahead.

Good morning.

Thanks for taking our call.

Just a quick question on Gulfstream.

You mentioned the bookings there being down quarter on quarter after a really nice finish to last year.

Just wondering if you can remind us of the seasonality that we typically should expect with bookings at Gulfstream?

Just to help everybody get prepared for the rest of the year, based on what you see in your pipeline at this point?

What do bookings look like on a quarter-to-quarter basis, throughout the rest of the year?

So the new aircraft sales opportunities continue to look very good, and we've got strong customer interest, but we are still seeing extended negotiation periods in order to get the order closed.

And what that drives is some difficulty in being very specific and precise about the quarterly progression.

So our orders have tended to be a little lumpier, light in the first quarter, building, with a strong fourth-quarter finish.

That's the pattern we have been looking at for a while.

And this year looks about the same, with no material difference.

But the order interest -- or the activity is very strong.

It's just when we get the closure, and that's what makes it difficult for us to be real clear and specific on quarter timing.

And the mix that you are seeing at this point, is it still favoring the large cabin versus the mid cabin?

Yes, so we have talked, the last couple calls, about understanding our mix and our order activity.

And when you have got a four-year backlog on the 650s, you are not likely to see -- in fact, it's almost possible to get a one-to-one book to bill.

So what we follow very carefully is the order activity and sign ups for our large cabin mature aircraft, the 450 and 550.

And 60% of the orders in the quarter were for those two models.

Again, very strong.

Very strong for the 450 and 550.

That's helpful.

Thank you very much.

The next question comes from the line of Robert Stallard of Royal Bank of Canada.

Please go ahead.

Thanks very much.

Good morning.

Good morning.

Phebe, just to follow up on that, I was wondering if you could comment on the sort of pricing you are seeing in the new and used business jet market at the moment?

And also if you have seen any impact from the recent activity over in the Ukraine and Russia?

Yes, so pricing is holding up nicely in the pre-owned market, and looks to be stabilizing in the large cabin market, particularly on the 550.

In the mid cabin, we see a little bit more pricing pressure, but that is nothing new.

This is consistent with what we have seen in the past.

And so far, the activities in the Ukraine and Russia have not affected our operations.

Our Moscow operations are continuing, and Gulfstream hasn't seen any material activity.

Great.

Thanks very much.

The next question comes from the line of Myles Walton from Deutsche Bank.

Please go ahead.

Thanks.

Good morning.

Good quarter.

Phebe, could you -- I could go through them one by one, but maybe the segments and your outlooks, have they been revised much?

Particularly, combat in the margin, if you want, to explicate the margin guidance you are looking for, as well as arrow guidance for margins.

And maybe IS&T sales.

Yes, so we didn't give specific updates for the segment guidance, and we are holding to it at the moment.

We will update it in the second quarter, when we have got more clarity about where exactly the puts and takes are across the business, but we are confident enough to have increased our overall guidance, and feel very comfortable with that.

With respect -- and I will just tell you, with respect to combat, which you asked in particular, we are still holding to our 14% -- low to mid 14% range.

And aerospace, we are still looking at the 17% margin range.

So nothing has changed.

And we are very confident in both of those numbers.

Okay.

And the [affirm] IS&T sales?

IS&T sales were stronger in the first quarter than we had anticipated, and we have good order activity.

But again, IS&T sales have -- are pretty lumpy, driven in large measure by our healthcare business, which is highly seasonal.

And we usually only get about a quarter of advanced notice when it comes to the customers' interest in increasing the sales volume.

Okay.

Good enough.

Good quarter.

Thanks.

Next question comes from the line of Joe Nadol for JPMorgan.

Please go ahead.

Thanks.

Good morning, Phebe.

I wanted to dig into the aerospace margin a little bit.

I hear you on maintaining the guidance for now, since it's early.

But you beat this number by a couple hundred basis points last year.

Obviously, Q1 was a very strong start.

Maybe the rate of phrases, just give us a couple of reasons why we shouldn't get too far in front of you on the aerospace margin side?

It isn't the obvious.

The -- let me talk a little bit about the margins in the quarter versus our budget, and they are attributable to two primary factors: lower than anticipated pre-owned sales, and better than expected G650 cost performance.

So going forward, we don't see that margin performance repeating, for a whole host of reasons; mix shift, supplier cost, timing of other expenses.

So when we factor all of those into our thinking at the moment, we don't see that kind of upside to margins over our guidance.

Okay.

Thank you.

The next question comes from the line of Ron Epstein of Bank of America.

Please go ahead.

Good morning, Phebe.

Hi, Ron.

Big picture question for you.

If you stand back and observe the operating profit of the Company in the quarter, nearly -- what, 46% of it was from Gulfstream.

So General Dynamics now looks like it's almost a half a commercial aerospace company and half a defense contractor.

How do you think about that strategically, and about the positioning of the Company, and when you think about deploying capital and then those sort of things?

We like our strategic positioning.

I like that balance between aerospace and defense.

And our defense businesses, as I pointed out, and we have seen now quarter over quarter through the last year, are holding up very nicely.

With implicit growth in the marine group, which we don't talk a whole lot about, and doesn't get a lot of attention.

But in addition to Block IV, we've got considerable revenue upside for the next several years, as we move increasingly into a higher replacement and we gear up even more on the two a year of Virginia-class construction.

So there's some upside in our -- versus our current sales profile on the defense side, driven primarily by marine group, but not exclusively.

We have stabilized combat, and IS&T is continuing to hold its own.

So I like where we are, with respect to our balance between our commercial aerospace and business jet market and defense.

When you think about capital deployment, I think, clearly, we need to -- we will, and we do, make investments where we believe we are likely to get a good return.

And you will see over the last, frankly, almost decade now, we have had been heavily investing in Gulfstream.

And that investment is beginning to pay off.

It was very purposeful, our capital deployment strategy at Gulfstream, because we believed, and history has proven us correct, that it was a business jet market, and our place in that market was a good market to invest in.

So I think that the rectitude of those series of decisions many years ago that we are continuing to follow makes an awful lot of sense.

So I think going forward, you can expect the same kinds of behavior for us.

Where we see an opportunity to grow very accretively and profitably, we will.

Okay, great.

Thank you very much.

Next question comes from the line of Doug Harned of Sanford Bernstein.

Please go ahead.

Thank you.

Good morning.

I'm interested in the Minsheng order, which was just announced.

And I think it's a very interesting situation, but I'm trying to understand.

The majority of the airplanes in your previous -- the 2011 order, those have still not been delivered.

And I'm curious what your expectations are, regarding the timing of the deliveries in this very large order over the next several years?

So I think the underlying assumption, which in your -- in the beginning of your question, on Minsheng, we have delivered a number of those airplanes.

Going forward, we have conservatively booked that order.

The order was for 60 aircraft, and another 20 options, and we were very conservative in our booking of those firm orders.

So as we go forward, we like that that's a perfect business for us.

Minsheng is a close partner.

We have a very good relationship with them, and we see that as steady.

It will come in episodic orders, speed orders.

But so far, we like where we are.

But I'm assuming that this is something.

This is really a long-term situation that's very tied to what happens in China, in terms of demand.

Is that fair?

Yes, it is fair, but we have a history with Minsheng that, when they place an order, they mean it.

And when we declare it, and we move it from estimated potential contract value into firm orders, we've got a lot of deposits, and we have a slot, and a delivery profile.

So that's -- again, we are -- this isn't a big pop with no substance.

When we announced these orders, when Minsheng did, the full intention is to execute.

And with all commercial exposure, right?

It's going to be driven by macroeconomic factors.

But so far, there is considerable demand for these airplanes in China.

Very good.

Thank you.

Next question comes from the line of Peter Arment of Sterne Agee.

Please go ahead.

Yes, good morning.

Nice quarter, Phebe.

Phebe, could I just ask, back to Ron's question, more of a big picture?

But now, with the budget is out, the green book out, could you maybe just give us a little -- how you think GD is positioned domestically here, both combat and marine on some of those core programs?

You touched upon it on the Virginia-class and the Ohio-class replacement, but maybe just how you are thinking about, given the DOD outlook?

So a couple of things.

Absent a significant change in the threat environment, or a return to the self-destructive government behavior of across-the-board spending cuts, we believe that we have [prossed], at least in our programs.

And I would point you to the strong backlog as a harbinger of our sales performance.

The majority of our programs are programs of record.

And as we talked about before, they tend to fare better in a funding-constrained environment.

So combat's going-forward profile is heavily dependent and tied to international orders.

We have seen those orders begin to come in.

There are more out there in our pipeline, frankly, fairly robust.

The investment spending on both the Army and the Marine Corps is at sustainment levels, and we factored that into our plans.

And we are comfortable that those programs that we have in our plan are executable, and that the funding is available.

And for marine, I touched on the two big drivers of Ohio replacement and the Virginia-class two a year.

We also see continued interest in commercial container ships and tanker markets.

So those -- again, those orders for the commercial dome back ship building tend to be a little more episodic, but we still have a healthy pipeline that we are continuing to explore with our customers.

So if I step back, in IS&T, IS&T has, again, largely, we believe, stabilized itself, with the growth engine there being GVIT, not surprisingly.

Our ISR business is stable, with long-standing programs of record, and our networking and communications business has down-sized itself in response to the revenue decline.

And again, has programs of record that they are continuing to execute on.

So across the board, I think that we are, on the defense side, very well positioned.

Again, I would point you to our backlog.

Thank you.

The next question comes from the line of Sam Pearlstein, Wells Fargo.

Please go ahead.

Good morning.

Hi, Sam.

Wanted to see if you could talk a little bit more about combat systems.

And I'm just trying to understand a couple of things.

One is, an order of magnitude in terms of the advances, benefit you expect to get in Q2?

And then, trying to just think about, how do you go from a 10% margin now to a 14% margin for the year?

You mentioned the ELS restructuring charge.

Even if you take that out, you still have to have some high-teens type of margins, and I'm not sure what drives that.

Sure.

So let me talk a little bit more about the Q1 margins.

I mentioned our $29 million charge.

We also have some contract mix changes across the groups that will normalize as we go through the year, quarter over quarter.

And you will recall that we moved the specialty vehicle, the UK vehicle program, out of the backlog in IS&T and into combat.

And that is a conservatively booked program, given the state that it was in at the beginning of 2013.

So those are some of the margin pressures we saw in the first quarter.

With respect to going forward, I think that this group has amply demonstrated their ability to reduce costs faster than revenues decline.

So we have seen quite a bit of operating leverage from them.

If you think about combat systems at the height of their revenue, and I think it was 2009, crowding $10 billion, we have seen a 40% decline in margins, and yet last year we had -- in revenue.

Last year, we had 50% margins, and this year, we are looking at 14%.

And I don't see anything in our backlog or in our performance here to date that would suggest that we are going to have headwinds on margins.

Okay.

And any sense, in terms of the advance benefit you mentioned in the second quarter?

Yes, so it is going to be in excess of $1 billion.

And -- but again, much of that will be deployed quickly, obviously, to our subcontractor.

Okay.

Thank you.

Next question comes from the line of Carter Copeland of Barclays.

Quick question, Phebe, about your comment on the 650.

You noted you had better cost performance there in the quarter.

I wondered if you might give us some color on whether that was recurring or nonrecurring in nature?

How should we think about the implications there for the learning curve relative to your prior comment?

So we are continuing to come down that learning curve.

And our 650 margin performance on both the green airplanes and outfitted airplanes is improving quarter over quarter.

So very nice operating performance on the 650, and we expect that to continue.

Certainly, we are going to -- the learning curve will flatten out as we go forward.

But so far, we can -- we expect to see additional margin improvement on both green and outfitted airplanes.

But there wasn't anything in the quarter, specifically, that benefited the program --

No, these are repeatable.

Okay.

(multiple speakers) Thank you.

[Half] of our margins are repeatable.

The next question comes from the line of Robert Spingarn of Credit Suisse.

Please go ahead.

Good morning.

Phebe, if we could just dig into IS&T a little bit more?

Obviously, you did outperform the expectations and the guidance here in the quarter.

How much of that is -- it sounds like you think that is potentially sustainable.

Or is it just that the Army pressure is somewhat delayed, and maybe not even fully a 2014 event?

And I guess I'm speaking more to the C4 side.

So C4 saw the largest decline in the quarter, in line with our plan.

And, as you will recall, we talked quite a bit at the end of last year, and beginning of this year, about our attempt to de-risk our Army exposures.

C4 has done that.

So what we see right now, going forward for C4, is they have got almost everything in -- or all of their revenue in their backlog.

So I think that they can see some stability from a revenues perspective, based on our series of -- or our expectations going forward.

And, again, their programs of record, particularly WIN-T, are really doing quite nicely.

Each one of those businesses had a book to bill of 0.9 or greater, so that also tells me that there is support for our product.

So they've got -- C4, also, let's recall, has exposure to the UK and Canada, and fairly robust exposure in both markets.

So that helps offset some of the uncertainty we have had in the past about Army spending.

So the 33% reduction in sales you talked about in January, is that off the table?

Or are you are simply saying you are absorbing it well enough with strength elsewhere?

Yes, I thought I gave you around a 20% decline.

20% overall for the unit, right?

Yes.

So for -- it's too soon for us to walk back from that decline.

We had a good first quarter, a good book to bill, but I don't want to get out ahead of that because, as I mentioned earlier, one of the big drivers -- in fact, the largest driver in IS&T revenue is going to be our healthcare business.

And that is very seasonal, and we usually -- what our experience has been over the last 1.5 years, we only get a quarter worth of notice, or warning, that we are going to have to up our activity.

Right.

Maybe another way to ask the same question is, was the President's budget, with the draw-down in Army down to the mid-400,000 level, is that already contemplated in your guidance?

Does that match up with what you are planning for?

Yes.

Okay.

Thank you.

No surprises there, and no reason to adjust down.

Right.

Thank you.

The next question comes from Cai von Rumohr of Cowen and Company.

Please go ahead.

Yes.

Thanks so much, Phebe.

So if we could maybe get a little more color to help us reconcile the down-tick in margins at Gulfstream, from 19% to like 17% plus, 17.6% for the year?

If, in fact, you are doing well on the G650, with more learning curve improvement to come, I would think that would be a margin plus, as we move forward.

And you also mentioned used bizjet sales being weak If they're higher, I assume they are not hugely loss leaders, and the volume looked so good in that quarter.

I still have a little trouble understanding how your guide for the year isn't quite a bit low.

So the pre-owned -- and I -- let me give you a little bit more color on this.

The pre-owned sales activity is lower in the quarter than we had anticipated, but we still expect to take pre-owned in the remainder of the year.

That, obviously, has a -- is margin headwind.

We have also going to have some mix shift that we are anticipating, timing of some other expenses, and we've got supplier costs that we are factoring into our thinking.

So it is -- 650 performance continues to be good, but as we go to produce more mid cabin, we are going to see a -- those are lower margins, particularly on the -- on both of those, 280 and the 150, and that provide -- that causes some headwinds in margin activity.

So it's really the mix shift, supplier costs and timing that make us properly cautious about the margin expectations for the year.

Okay.

But it looks like your guide, as I take it, of large cabin deliveries, you did 25.

And aren't we looking for something like 118 for the year?

And so while, yes, we do have an uptick coming in terms of the midsize, you also have it on the larger planes, and the midsize are considerably less revenue.

So I guess I am still -- you know, is it something at jet or services that is changing the mix?

Because the things you explained, just on the surface, the mix doesn't look like it's that much worse.

So our -- the 450 is a lower margin airplane than the 550.

In fact, the 650 margins have now exceeded the 450 margin, largely because of the supplier costs that we have talked about before.

And those increases in supplier costs hit the 450 pretty robustly.

So the service activity we anticipate -- continue a good, strong level of service activity.

It's very strong in the quarter.

And going forward, jet continues to be profitable.

So I really go back to our mix shift on 450s and mid cabin.

Higher pre-owned, our supplier costs, and then the timing of just some other expenses.

So it really is premature for us to get out there and project.

I don't see it at the moment, 19% or 18% margin.

Doesn't mean we also --

(multiple speakers) So your explanation is, basically, that within the large cabin, the mix is shifting pretty sharply toward the 450, which is the lower margin product?

That's right.

Not pretty sharply, but it is shifting.

(multiple speakers) and compress, for the reasons we talked about.

Okay.

The next question comes from the line of David Strauss of UBS.

Please go ahead.

Good morning, Phebe.

Hi, David.

Wanted to ask about the balance sheet.

Even with the big quarter in terms of share repo, you said in a net cash position.

I know you've committed to returning 100% of free cash flow this year, but would still be in a net cash position.

So could you just talk about thoughts on the balance sheet, any kind of leverage levels you are thinking about, or just utilizing -- looking to utilize the balance sheet a little bit more?

Thanks.

Let me give you the overarching view, and then I will let Jason give you some more color.

But we use our balance sheet when we believe that there is an appropriate opportunity to make accretive investments.

We have sufficient cash flow, for this year, to support the kind of share repurchases and dividends that we anticipate.

So I frankly like where we are.

We like our credit rating.

We want to retain it.

We don't see any reason to leverage the balance sheet to get a quick pop in share repurchases that aren't necessarily repeatable in the next year.

[Induces] too much of your future flexibility.

It's not where we want to be.

Yes, and just to add to that, in the quarter, you saw that we did, essentially, quote-unquote, use the balance sheet to the tune of $1 billion.

That was really the effect of the ASR, and fulfilling the commitment that was made last year to return free cash flow to shareholders.

So that was an effect [a use of] the balance sheet, if you will, for this year.

And as Phebe articulated, (inaudible) plan, at this point, we've got sufficient free cash flow forecasted, and plan to return that to shareholders through dividend and share repurchase.

Thank you.

The next question comes from the line of George Shapiro of Shapiro Research.

Please go ahead.

Good morning.

Hi, George.

Phebe, is it -- since you are not changing any guidance at this point on the sectors, is it fair to assume that the increase in your EPS is coming primarily from the share buyback, because you historically don't ever factor that into your guidance?

It comes from three things.

The -- maintaining the -- or at least anticipating the EPS, based on our current share count.

We see operating improvements that are driving about half of our current increase and our estimate on EPS.

And -- but we are not in a position to parse that -- those operating improvements with any detail among the four units.

That is why I think we are -- I am far more comfortable in giving you that kind of color on the second quarter, when we have got more clarity about where we have been through the half of the year, and where the -- and how the rest of the year shapes up.

Okay.

And one follow-up.

The 650, it's been lots of discussion in the papers that used planes are commanding a $10 million premium to what you are selling them for.

Can you -- is -- what is your plan as far as increasing the rate on that 650?

You mean the -- what do you mean?

The production rate?

Yes, increasing the production rate, given that demand seems to be so strong.

So we want to -- as you know, our past behavior will influence us going forward.

We raise our production rates when we are confident that we can execute the efficiently green deliveries and profitably; green deliveries and outfitting.

You will recall, on the 650, we spent the majority of last year working through the -- what we call the disequilibrium on the retrofit.

So that's -- we are mindful that we had a pretty steep hill to climb that we effectively put behind us.

But it seems to me a bit, I guess, imprudent to get out there and begin to pump up the production rate until we have got more experience on a quarter-by-quarter basis on both the green deliveries and outfitting.

So we are properly balanced at the moment.

We will consider increases in rates.

We do that towards -- at the end of every year, and then that's how we set our guidance for you in the following year.

Okay.

Thanks very much.

The next question comes from the line of Howard Rubel of Jefferies.

Please go ahead.

Good morning.

Hi.

Phebe, I think last year, you might have termed 2013 as a back to basics year.

And so what is 2014 going to be about?

More back to basics.

I don't think you can ever get away from the absolute requirement to improve your operating performance quarter over quarter, year over year.

And you are never good enough.

You're never done.

So that is going to be a strategic focus and tactical execution of this management team, going forward.

In addition, we are -- I think it has been clear from our behavior heretofore in the year that we anticipate.

The deployment of all -- of most, if not all, of our free cash flow, in dividends and share repurchases.

So that is something we were not able to accomplish last year that we will.

So increased focus on the shareholder-friendly cash deployment, and then more blocking and tackling on operations.

Return on invested capital, expanding margins, and managing for cash.

It's just never done.

Just a follow-up on that.

And I agree, that makes a lot of sense.

But somewhere in here you need to make sure that there is the right investment for the future of each of the businesses.

So you don't want to harvest too much to -- and you clearly talk about whether it is Jones Act ships or Ohio-class or this new opportunity internationally.

But could you be -- could you give us a couple of other examples where, in a couple of the other business units, where we are seeing new product that is also going to provide some of this basic or organic growth?

Yes, so you quite rightly point out that in the marine group, we have organic growth potential.

And therefore, as you would expect, we have invested in the marine group, largely in infrastructure and capital structures, since those are capital intensive businesses.

In combat, what we have, really, our raison d'etre of the last year, and for this year as well, is to size that business accordingly.

But we make investments, as we go along, in those lines of business where we see a profitable return.

So I think you can see that in our expectations on ELS.

We have invested, by -- fairly significant investments in restructuring.

Why?

To make that business more competitive.

And we are beginning to see the fruits of that labor.

That is also true in the UK.

We've had significant restructuring charges in the UK to make us more competitive and position ourselves for, again, organic growth.

And that is in the IS&T business.

Our Intel and ISR business, we continue to invest in, appropriate with the returns we expect in the market.

Our IT services business is a low-investment business by definition.

So I don't really see an organic requirement to invest in the IS&T business.

In C4, we invest appropriately, Canada and the UK.

And right-size the business in the United States for the demand.

Thank you very much.

The next question comes from the line of John Godyn, Morgan Stanley.

Please go ahead.

Thank you for taking my question.

We've heard a lot of questions on the aerospace segment, but I wanted to ask one more.

Phebe, last quarter, you mentioned that there would be a dramatic rise in fourth-quarter margins, as you thought about the cadence throughout the year.

Just given, with the performance in the first quarter, and what we have heard about your guidance for the full year, I am not sure if that is still valid.

I think -- I will anticipate, I think, where he was headed in this question.

We pulled some of the margin performance into the first quarter, so I expect the fourth quarter to be lighter than first quarter.

That is different than we anticipated when we gave the guidance, which was light in the first quarter and then building with a strong fourth quarter.

We still expect a strong fourth quarter, but not at the same level, for all of the reasons that we have articulated this morning.

And perhaps the more important takeaway from this is, I think that had given some investors confidence that, as we thought about 2015, the exit rate was robust, and we would be set up for continued margin expansion in aerospace.

Is that framework still right?

(technical difficulty)

Hi, this is John.

Can you hear me?

Yes.

It's a good thing that our communications products are more reliable than this thing.

(laughter) Who knows what happened?

Technical difficulty.

Glad to have you back.

Phebe, what I had asked was, I think the comment about fourth quarter seeing a ramp had given some confidence on continued margin expansion in aerospace in 2015.

Is that still the right framework to use today, with the new guidance?

So I think as we think about 2015, it is obviously too soon to tell.

And we will -- there are a lot of factors that will emerge during the course of the year that will influence and inform our margin guidance, but we anticipate that aerospace will continue to have very strong margin performance, both at Gulfstream, both this year and -- but equally important in 2015, at Gulfstream, as the 650 continues to come down its learning curve.

And also at jet aviation, which is increasingly profitable.

So nice performance at jet, and they are positioned to increase their order book.

They solved their operating challenges, and so I expect more upside and margin ignition from jet.

Great.

Thank you.

Just to [talk] about the future, yes.

Adrian, I think we have time for one more question.

The next question comes from Pete Skibitski of Drexel Hamilton.

Please go ahead.

Yes, good morning.

Just want to ask one more on marine, and maybe a follow-up.

Phebe, it looks like marine repair, that business has been a real great growth driver for you over the last four or five years.

I know you've done some deals there, but I'm just wondering, with the Navy fleet staying at a pretty low level, and being tasked increasingly around the world, is repair an ongoing growth story for you, from that perspective?

Yes, so I think somebody asked -- I know somebody asked a question earlier about investments.

This was a place where we made an investment.

I was EVP at the marine group, and I felt very strongly at the time that we needed to expand our repair footprint, and we did that, so that we are now bi-coastal.

In fact, we are heavily represented in four of the five Navy home ports.

And we did that purposefully, with the expectation that, as the fleet ages, repair work will increase.

I, frankly, like repair work in general.

It is steady.

It's fairly predictable performance, very predictable performance, if you know what you are doing, and we do.

So it has been a nice -- on the surface side, it's been a nice growth engine for us.

We also just recently won, up in the Pacific Northwest, a very large repair contract for CVM.

So that, again, expands our footprint bi-coastally.

On the submarine side, submarine work -- repair work tends to come from two sources.

One, excess workflow from the public yard, and second, emergent demands as the fleet experiences issues while undersea.

So in both of those instances, we have seen -- fairly lumpy, but when we get it, pretty profitable submarine repair work.

(multiple speakers) Your assumption is quite correct, that we have liked those investments, and the return on those investments that we've made, in the surface repair businesses.

Got it.

Thank you.

And just one follow-up on marine.

I'm just wondering, as you ramp in commercial volumes, you guys won a lot of orders there, if there's going to be any negative impact to marine margin?

And then a similar issue on marine margin -- or a similar question about this recent Virginia submarine payload module issue, if that would be any impact to margin rate?

So the -- for very high-performing shipyards, which our three shipyards are, margins change, quarter over quarter or year over year, almost entirely based on mix.

So you would expect that when we get increased -- when we get a new order, we are going to see some margin compression.

As we come down our learning curve, you will see margins expand.

That is true on both the Naval shipbuilding side, as well as the commercial shipbuilding side.

So NASSCO has had very good margin performance on both its Navy and commercial shipbuilding work revenue, largely driven by just performance improvement, quarter over quarter, day after day.

The payload issue, we don't anticipate any margin compression on the issues that have come up with the North Dakota.

We have discovered that, in concert with our Navy customer, and are addressing the requirements to do a complete inspection.

So no real -- I mean, it was a surprise, and unfortunate, but we are -- the Navy has got that with a flow on under control and it's a -- frankly, it's a supplier issue.

And we will address it.

Got it.

Very helpful.

Thank you.

And Adrian, thank you so much.

Thank you, everybody, for staying with us through the technical difficulties.

If you need to reach me, I'm at 703-876-3583.

Thank you so much.

Thank you for today -- participating in the conference.

This completes the presentation.

You may now disconnect.

Have a good day.