亨廷頓·英格爾斯工業 (HII) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Huntington Ingalls Industries' Second-Quarter 2014 Earnings Call.

(Operator Instructions)

As a reminder, this call is being recorded. I would now like to turn the call over to Mr. Dwayne Blake, Vice President of Investor Relations. Sir, the floor is yours.

Thanks, Nicholas. Good morning, and welcome to the Huntington Ingalls Industries' second-quarter 2014 earnings conference call. With us today are Mike Petters, President and Chief Executive Officer, and Barb Niland, Corporate Vice President Business Management and Chief Financial Officer.

As a reminder, statements made in today's call that are not historical fact are considered forward-looking statements, and are made pursuant to the Safe Harbor Provisions of the Federal Securities Law. Actual results may differ. Please refer to our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results.

Also in the remarks today, Mike and Barb will refer to certain non-GAAP measures, including certain segment and adjusted financial measures. Reconciliations of these metrics to the comparable GAAP measures are included in the appendix of our earnings presentation that is posted on our website.

We plan to address the posted presentation slides during the call to supplement our comments. Please access our website at HuntingtonIngalls.com, and click on the Investor Relations link to view the presentation, as well as our earnings release.

With that, I will turn the call over to our President and CEO, Mike Petters. Mike?

Thanks, Dwayne. Good morning, everyone, and thanks for joining us on today's call.

This morning, we reported strong second-quarter 2014 financial results, primarily driven by operating margin improvement and cash generation at our Ingalls segment. As we continue improving performance, I am confident that we will deliver on our goal to achieve 9% plus operating margin in 2015.

For the quarter, sales of $1.7 billion were up 2% from last year, and segment operating margin was 9.5% up from 8.1% last year. Operating margin at our Ingalls segment improved from 5.2% last year to 10.3%, while our Newport News segment continued to deliver solid performance at 9.2% for the quarter. Diluted EPS was $2.04 for the quarter, compared to $1.12 last year.

Additionally, we received $7 billion in new contract awards during the quarter, which increased our backlog to $24 billion, of which $14 billion is funded. The acquisition of UniversalPegasus was completed during the quarter, and we started the integration of the UPI team into the HII family. We are excited about the possibilities as we combined HII's engineering and program management core competencies with UPI's technical strength and insight in a growing commercial energy infrastructure market.

During our Q1 earnings call in early May, we expressed concern that the lack of funding in the FY15 budget proposal for the refueling and complex overhaul of CVN73 George Washington would impact the planning necessary to execute the RCOH in accordance with the current plan of record. Since that time, there have been several positive developments regarding the defense budget.

Newport News was awarded a contract to begin planning of defueling work on George Washington late last week. We view this as a another positive step toward a contract for the full RCOH in FY15.

In the House, the FY15 Authorization and Appropriation bills have been approved, including funds and authority for Newport News to perform the Washington RCOH. The House Authorization bill also supported construction of LPD-28, the 12th ship in the class, and provided incremental funding authority for that ship.

On the Senate side, both the Authorization and Appropriations Defense Subcommittees included funding and authority for the George Washington RCOH and LPD-28 in their respective bills. However, based on the current legislative calendar, it does not appear that final bills will come to the Senate floor for a full vote before the midterm elections.

Given the potential implications that decisions in these areas have on the industrial base, our workforce and other programs and the likelihood of a continuing resolution later this year. We remain engaged with the Navy Congressional Leadership and our suppliers to ensure that our positions are clearly communicated and understood.

And now I will hit a few highlights of our major programs beginning with Ingalls. LPD-26 John P Murtha is 70% complete, and the team remains on track to launch the ship in the fourth-quarter of this year. LPD-27 Portland is making steady progress through the shop, and unit manufacturing phases of construction and preparation for launch next year.

LHA-6 America completed post delivery work and departed the yard in early July, and this marks the final milestone on the last of the underperforming contracts. The Keel Laying ceremony for LHA-7 Tripoli occurred in June, and the team continues to make steady progress. In addition, Ingalls was awarded an affordability design contract for early industry involvement to reduce the construction and lifecycle costs of LHA-8.

In the National Security Cutter program, NSC-4 Hamilton completed successful builders trials in mid July, and is on track for delivery to the Coast Guard in September. The NSC-5's James is progressing through its post launch activities.

The NSC-6 Munro, early fabrication continues. We are beginning to prepare for construction of NSC-7 Kimball, and we received a contract to purchase long leave materials for NSC-8 Midget.

On the DDG-51 program, DDG 113 John Finn is continuing through the unit manufacturing and erection phases of construction, and remains on track to be delivered to the Navy in 2016. Early fabrication work for DDG 114 Ralph Johnson is progressing, and we are still preparing for construction to begin in the Fall on DDG 117 Paul Ignatius.

Regarding the DDG 1001 deck house, the delivery date was extended into the third-quarter to accommodate additional work scope. That work has now been completed, and the deck house was delivered to the customer last week. And now that this work is complete, we are proceeding with the shutdown of the Gulfport facility.

At Avondale, unit construction for LPD-27 will continue into the fourth-quarter of 2014. Our joint study group with Kinder Morgan Energy Partners that is evaluating best use opportunities for the redeveloping Avondale is still ongoing.

As we have stated before, if an economically viable best use of the facility is determined, the companies may pursue the formation of a joint venture to redevelop the Avondale site together. However, if we are unsuccessful in these efforts, we will proceed with our plan of record and close the facility.

And now turning to Newport News. CVN-78 Ford is approximately 80% complete, and continues through the final outfitting and test phases of construction. Delivery remains on track for 2016.

For CVN-79 Kennedy, engineering and design material procurement and advanced unit construction activities continue under the construction preparation contract. Award of the detailed design and construction contract is expected later this year.

In submarines, SSN-785 John Warner, our first block III delivery boat, is making steady progress in preparation for its christening in early September. In addition, we completed and shipped to electric boat the last module on SSN-786 Illinois.

CVN-72 Lincoln has successfully completed several major milestones, and the team remains focused on activities to support undocking in the third-quarter. CVN-65 Enterprise continues to progress through its 38 month contract for the inactivation and the defueling of its eight nuclear reactors.

In closing, now that all of the Ingalls ships associated with the underperforming contracts are delivered to the customer and out of our facilities, Huntington Ingalls remains focused on continued program execution, risk retirement, and cash generation. Which positions us to achieve the goals that we established when we spun off in 2011.

That concludes my remarks, and I will now turn the call over to Barb Nilund for some remarks on the financials. Barb?

Thanks, Mike, and good morning to everyone on the call.

As I discuss key highlights from the second-quarter, please remember starting in January of this year our CMSD and AMSEC businesses were realigned under our Newport News segment. And our prior-year results reflect this change. Additionally, we have added a new other segment in our financial reporting, which reflects the results from our recent acquisition of UPI since the closing at the end of May.

Moving to consolidated results shown on page 4 of our presentation. Similar to Q1, we have a straightforward quarter, with modest sales growth and strong operating margin performance that was primarily driven by risk retirement at Ingalls.

Total revenues increased 2% for the quarter, due to increased sales at Newport News. Total operating income was $181 million, up 56% over prior year, mainly driven by increased operating income at Ingalls and a favorable FAS/CAS adjustment.

Free cash flow for the quarter of $245 million was significantly better than Q2 2013, primarily due to improvement in working capital and lower pension contributions. During the quarter, we made the remaining $84 million of our $123 million qualified pension contribution for 2014.

Capital expenditures of $27 million were $2 million more than the same period last year, and we continue to expect capital expenditures for the full year to be in the 3% of sales range. Under our share repurchase program, we purchased approximately 817,000 shares at a cost of $80 million in the quarter. And we used $226 million for the purchase of UPI, bringing our quarter ending cash balance to $592 million.

Now moving onto segment results on page 5. Ingalls has slightly lower sales, but significant operating income growth for the quarter. Sales were down 3%, due to lower volume on LHA-6 and LPD-25.

Operating margin was up 508 basis points over the prior-year quarter, primarily due to continued risk retirement on the NSC and LPD programs. As well as a $6 million favorable overhead adjustment, resulting from a change in non income-based tax liabilities.

Turning to page 6. Newport News second quarter sales increased 3%, primarily due to the acquisition of Stoller, which contributed $28 million to Q2 revenue, as well as higher volume in the submarines and energy programs. Operating margin for the quarter was 9.2%, down 40 basis points from last year. Mainly due to lower risk retirement on both the VCS programs and the execution contract for the Roosevelt RCOH, partially offset by risk retirement on Ford.

Regarding 2014, our estimates for the FAS/CAS adjustment, interest expense and taxes are not materially different from our previous guidance. In summary, we had a good quarter. And as Mike stated, we are on track to achieve our 2015 goal.

That wraps up my remarks. And with that, I'll turn the call over to Dwayne for Q&A.

Thanks, Barb.

(Operator Instructions)

Nicholas, I'll turn it over to you to manage the Q&A.

(Operator Instructions)

Joe Nadol, JP Morgan.

Hello, good morning, guys. It's actually Chris on for Joe. I was wondering if you could quantify the net positive adjustments in Ingalls? Just given you called out the risk retirements on NSC and LPD, and the margin overall was quite strong.

Sure. When I look at -- the net contract adjustments were $64 million favorable, and we had $75 million favorable cum adjustments against $11 million unfavorable. So that's your net $64 million. And the favorable adjustments were primarily attributable to the [Regina] Class Program just risk retirement. NSC programs risk retirement, CVN-78 risk retirement.

And then on LPD delivered ships, we were able to complete deferred work on those ships for less than we had reserved for that. So we had some favorable performance there. And on the $11 million of the unfavorable adjustments, there wasn't any individual item that was significant.

Can you say how much of the $64 million was in the Ingalls segment?

We don't really break it out by program or by segment on that.

Okay. Is it reasonable, as we look at the second half -- because even excluding the $6 million overhead adjustment, you were still at [$9.3 million], but is it reasonable to assume that margin in the second half just given the mix is probably lower than that [$9.3 million], because Q2 had higher than average favorable adjustments?

That is correct, because you won't have the LPD delivered ship impact. So that is correct.

Okay. And then sticking with the margin, can you give us an idea of what margin in the other segment would have been if you didn't have the purchase accounting adjustments?

Well, I'll give you that it's a services business, and you'll still see the amortization of the purchase intangibles for a little bit. So think of normal services somewhere between the 5% and 7% range.

Okay. And then the last one, can you say how much of the $200 million or roughly $200 million LAK 6 retention was released in the quarter?

Won't give you specific numbers, but I will tell you a significant portion of it.

Okay. Thank you.

Peter Skibitski, Drexel Hamilton.

Good morning, guys, great quarter.

Thank you.

Hey, Mike, I'm just trying to figure out how your sense of how the CVN-73 RCOH plays out from here. I think typically historically when all four defense committees are very supportive of a program, typically that has a big impact on DOD thinking. And I think that Sean Stackley has made some relatively positive comments about that, but couched it in terms of 2016 the sequestration. So I'm wondering if you think that the Navy has done a 180 on the program, or if you think there are still some challenges ahead, given sequestration for that program specifically?

Well, first of all, I'm not sure that 180 accurately describes the Navy's position. I think the Navy always wanted to do it, but has been wrestling with how to pay for it. And raised the flag, and said we can't afford to do it.

Congress has now come back and said, you need to go do it. It is a priority, go figure that out. That Navy has basically said okay, but sequestration is out there, so it's still a challenge to go figure out how to pay for it.

We think all of that is given -- our preferred path would have been that there would have been none of this discussion. We think that given that it was started out as something that may not happen, and it's in a good place now. The fact that we just signed this defueling contract is a positive indication.

It's certainly not the contract to go get the refueling done, and doing it in this incremental fashion is not optimum. But I think that you're right. I think that Congress has made its intent very clear.

I think the Navy, as they are figuring out there budgets going forward, are trying to figure out how they're going to do this. And I think that it's not just the carrier, I think there are a host of programs that they're trying to figure out how to do with the prospect of sequestration looming out there 12 months from now. And I think that's what you're hearing, and that's probably a better question to ask the Navy about.

But I'm optimistic about where we have come to on this program at this point. And on both of this program, and on the LPD-28. I think that the Congress is in both cases is making its position pretty clear about the priority of those programs.

And starting from where we were at the beginning of the year, we're very pleased with where we are. We recognize that there's a lot more to be done.

Okay. Got it. And just one follow-up for Barb.

Hey, Barb, I know typically you don't like to talk too much about pension. But we are into August now, and there's a lot going on with the yields coming in, and the map 21 legislation and mortality tables.

I'm just wondering if you hold some of your key assumptions flat like ROA and whatnot, can you give us a sense of what maybe headwinds you might face on pension? Net pension in 2015, and would there be an opportunity to head that off with maybe a cash infusion in the back half of this year?

Okay. So you know I'm not going to give you anything on 2015. Too many moving parts.

I will tell you we have seen a reduction in our discount rate of about 60 basis points, so we're taking a look at that. We are looking at the Society of Actuaries the new mortality tables, which they released last week. I will tell you that from my 10,000 foot view, it will likely increase both FAS and CAS pension expense.

It will increase our liabilities, it could potentially increase our funding requirements, but it's not necessarily all equal. We did see good returns on assets through the end of June, 8.3%. We did give a little bit of back in July, so we've got to just wait till the end of the year when we do our remeasurements, and I'll give you a lot more color at that point in time.

Okay. Thanks, guys.

You bet.

Sam Pearlstein, Wells Fargo.

Good morning.

Good morning.

Barb, can I just follow up on that last comment? Don't you do some sort of a change in the third-quarter typically where you make some adjustments in terms of your FAS/CAS for this year -- (multiple speakers) plan to it?

Yes. And we've already looked at that, and right now we are seeing about a $4 million reduction in CAS. So I think I gave you on the original update, $92 million net FAS/CAS income. We're at about $88 million right now, so a small change there. That's why I said most everything held, materially speaking.

Okay.

It's something we continue to watch. A lot of moving parts, as you know, so we'll update you as we have more information.

Okay. And then just trying to think back on the cash flow, a nice collection in terms of the receivables. I'm trying to just understand was that LHA-6 risk retirement related, or is that somewhat sustainable? Just because if I look at the last three years, you have typically improved in the third- and the fourth-quarters in the second-quarter levels, and trying to just think about what's unusual or different this year.

No. LHA-6, when I think about the retention, it was a big retention. And when we delivered that ship, the ship was in very good shape. So we collected a significant portion of that retention, so that's a one-time event.

But when you think about it, other ships are progressing. And so their retentions are also increasing, so it's not a one for one, I got this huge benefit there.

Then the other thing, and I talked about this on prior calls, we had some outstanding Katrina-related items, cash items in terms of billing rates that we were negotiating with our customer. And we've come through part of that, so we did get an adjustment on our billing rates in the quarter. So we received some cash that they've been withholding from us for a long period of time. There's still more to come on the Katrina piece.

So those are probably the two biggest items. We're very focused on working capital. We had a great quarter, and much better than we've seen.

In quarters past, we've always been a cash user through the second-quarter the last three years. This time, we're cash providers. So we'll continue to focus on it, and continue working at it.

And if I can speak one more, and what is the remaining authorization at this point for share buyback?

In the $70 million range.

Okay. Thank you.

Okay.

John Goodwin, Morgan Stanley.

Hey, thank you for taking my question. Mike, the Company continues to execute well. I was hoping that you could just update us on your thoughts on the 9% margin target. Is there anything that you're seeing that might suggest some upside potential to that target?

The target to be at 9% for next year remains intact, and I think we're still on track for that. In fact, I think this quarter is evidence that we're strongly on track for that. I think that when you start thinking about upside to 9%, I've said many times that the healthy ship building business operates in the 9% to 10% range based on the maturity of its programs, the sustainability of its programs, and the amount of serial production versus lead ship work that you're doing.

So our view is that it's going to be in that band of 9% to 10%. That's where we plan to operate the business, because we have so many different classes of ships.

While we believe we're really solidly on track for 2015, I think that the challenge that is out there in front of us is the sustainability of that. And that's tied up in the question of sequestration in LPD-28 and CVN-73, and all of those issues, which is why this business has a horizon that's probably a little bit further out than most other businesses. I think we're going to be in the band where we think it's going to be healthy for us to operate, and we're going to persevere to stay in that band.

Fair enough. And without being too precise, there is a difference between 9% and 10%. I'm just curious, what do you think drives the top end versus the bottom end of that band as we look out the next few years?

I think that's pretty straightforward. You take a look at the product mix and the contract types. The more mature the programs, meaning the less design change there is, the more repetition there is, the more serial production there is, the more likely you can't get to the top end of that band.

The more design work that you're doing, the more lead ship kinds of things that you're doing, or the more one-off kinds of things that you're doing, the more likely you're going to be in the bottom end of that band. In our business, we have a lot of that going on. Today, we have a lead ship going on in the carrier program, for example.

And so that as the Ford moves out and the Kennedy comes on over the next five years, I would expect that you'd see a little bit different approach there. But that's going to take some time for it to play out.

It's not going to happen in a quarter or two. It's going to be over a 3- to 5-year period.

Great.

There will be an ebb and flow to it. So, yes, there's a difference between 9% and 10%, but there's a difference between 2015 and 2020 as well.

Got it. Very helpful. Thank you.

George Shapiro, Shapiro Research.

Yes.

Good morning.

Good morning. My first question is the net -- the favorable adjustments have been running more like even in good quarters like $60 million, in this quarter you did $75 million. Is a decent assumption, Barb, to assume that $15 million difference was due to the LPD issue that you addressed?

You're close. That's -- you're close.

Okay. And then going forward, would it be reasonable in good times to assume that you'd probably go back down to around the $60 million favorables, and then maybe unfavorables when you've been good is somewhere around $10 million or $11 million like we've seen this quarter? Is that a reasonable thing to look going forward?

I think that it's reasonable, it might be a little high. It's really timing. It can be lumpy.

It depends what events -- we'll have a delivery of MSC-4. You'll have launches occur, you'll have different risk retirements. So I know you don't like when I use the word lumpy, but it can vary significantly, so it's hard to -- if you want to say over an average, maybe over a long period of time, but it can fluctuate.

Okay. And then last one. The unbilled receivables have gone up at the end of 2013 from 2012. It doesn't look like you give them interim year in the Qs. But could you provide where the unbilled receivable number might be now, or where you might expect it to go by the end of the year?

Well in that unbilled, you have a bunch of categories. You have Avondale restructure, you have Gulfport accelerated depreciation, you have the Katrina related matters, you have the contract retentions, and then you have progress limitations on your ships.

I would like to say that number will come down by the end of the year, but there's a lot of negotiations, got to deliver MSC-4, collect that retention. The Avondale restructure negotiations, the Gulfport accelerated depreciation negotiations, all those have to take place. The answer is, it's really just timing and it's how much we can accomplish between now and the end of the year. And I can assure you we're working very hard to accomplish some of these.

Okay. Thanks very much.

Robert Spingarn, Credit Suisse.

Good morning. I hope you can hear me, I'm in a noisy airport.

Good morning.

I want to congratulate you both, Mike and Barb, on really doing a nice job here to hit your targets and get your plan. That being the case, Mike, I wanted to start by asking you if you're at the point here where you're at that 9% level. Assuming sales are roughly stable, I understand that sequestration could throw a monkey wrench in there.

Is that the way we think about the business? Sort of a follow up to an earlier question, that you're essentially at a 9% to 10% margin on about $1.7 billion in sales going forward? And is there a point at which you'd start providing at least EPS guidance on that?

Well I think, first of all, I think that it's a little premature to say that we've completely hit the targets. We are still not in 2015 yet, and so we're -- we've had a great quarter and we're having a good year, and we are on track to make our 2015 targets. But we've got a lot of work to do between now and then to get across that finish line, and we're not going to take our eye off that ball.

Having said that, I think that it is fair to say that for the business going forward, you can think of the shipbuilding business as being a 9% to 10% business. We're excited about the possibilities that we have seen in some of the engineering work outside of shipbuilding. This year, we've acquired SM Stoller for Department of Energy work, and we just completed the UPI acquisition.

We don't expect those businesses to perform in the 9% to 10% range, but we do expect the ROI on that business to be very good. Because that's good engineering services work. And we are already seeing that's a good marriage between the bandwidth that those companies have, the access to those marketplace, and the depth that exists in our business today on the engineering side.

And so we think there's a core business of shipbuilding in the 9% to 10% range, and that there's opportunity for some incremental growth outside of that. And so if you start thinking about the business, then that's the way I think that going forward you'll be thinking about it. And it's not likely in that environment, I don't see us trying to go and parse out what the EPS guidance might be on any particular quarter, or even in any particular year yet.

I think it's better to think about this business in terms of the horizon that it sets. Our horizon that we've set, and have been tracking to has been the 2015 targets. We are on track for those, and we're closing in on those. And over the next 6 to 12 months, we'll be talking to you about our next horizon.

Okay. Fair enough.

A related question though, more from a cash flow perspective. If the Kinder Morgan JV is a go, what kind of cash capital commitment might you expect? How should we think about that? And then I have one other quick one.

That one is -- it's way too early for us to -- we're looking at such a wide range of opportunities there it would be too hard to narrow that down. I'd just say, stay tuned on that one.

Okay. And last on SS BMX, what's your review on a sole-source type of arrangement, versus the type of joint venture that you have now on Virginia class?

Well I think the way to think about the Ohio replacement program is that, the nation has a submarine industrial base that's going to produce that platform. It's not clear to me yet exactly how the business arrangement is going to be worked out with the Navy on getting that done. But the submarine industrial base, of which Newport News is a major participant in that, the submarine industrial base will be producing Virginia class submarines and Ohio replacement programs.

And we fully expect to be involved in all of that work. And so, the question of how the business arrangement works out sole-sourced, teaming arrangements, some other arrangement, I think is TBD.

So would you say that if they do go with a prime sole-source style approach that the other guy will likely participate in some fashion, material fashion anyway?

Well, as I said, I think the submarine industrial base in its entirety will be required to support this program. So we expect to be part of the program.

Okay. Thank you.

Doug Harned, Sanford Bernstein.

Yes. Good morning.

Good morning, Doug. Mike, I'd like to see if you can talk a little bit about the strategy for UniversalPegasus and the SM Stoller acquisitions. Because when we look at these, they seem to be quite different businesses than your traditional business, even though they all are involved in large engineering projects. So if you could talk a little bit about what you ultimately see as the scale of these, what benefits Huntington Ingalls brings to UniversalPegasus, for example, that could make that a stronger company in the future?

Well, I guess I would first of all disagree with your premise that they're very different from what we do, because in fact, they're not. If you step back and look at shipbuilding, and say what does it take to be a good shipbuilder? You be better darned good at engineering, you better be darned good at managing a supply chain, and you've got to be able to be good at heavy manufacturing.

We step back and look at who else on the planet needs folks who are good at engineering, good at supply chain management, and good at manufacturing. We see a whole lot of folks who need that kind of support. Now we recognize that in these other markets there are other ways to get things done, and there are other ways to be successful.

And we don't always have all the best solutions in our own pocket. So we've decided that we're going to, as we think our way through what are those other markets and customers look like, and how can we best serve them? We're going to be thinking our way through that thorough our engineers.

Because our engineering capability inside of our business is very deep, and very broad. And so what we've done is that in the Department of Energy Space, SM Stoller is a company that has access to a couple of dozen DOE sites, and they do engineering services in a pretty robust way for a broad set of Department of Energy customers.

We have a lot of depth to back them up, and we already have recognized that a combination of their customer access and our depth gives us opportunities that neither one of us would have been able to pursue before. And we expect that will play out for us very nicely over the next 3 to 5 years.

Relative to UniversalPegasus, we've just had them on board now for a couple of months. They also have a pretty broad perspective on engineering services in the oil and gas space, and we expect that it will play the same way as we see the SM Stoller acquisition playing for us.

Their access to these markets and customers, their intimate knowledge of what it takes to be successful. Combined with the breadth and depth of our capability, and especially in engineering, we think will give us opportunities to pursue things that neither HII nor UPI, UniversalPegasus, could have done by itself. So, there's more to come on that, Doug, but the fundamental premise that they're not like us I think is we're finding that to be completely wrong.

This engineering work is something that we know how to do, and we do it very well. They have very good engineers who have very deep market access. We think that's a marriage that will create great value for our shareholders.

Well, when you take this forward, one of the things that I know many people when they look at Huntington Ingalls are attracted by is the amount of cash that you're likely to generate over the next few years. When you look forward with these new businesses, would you see this as the first in a string of acquisitions or significant investments? I'm trying to get a sense of how this could affect cash deployment over the next few years.

Well, we have said from the beginning, that our philosophy o, cash employment is going to be, has been, and continues to be very balanced. We are always looking for ways to create value for our shareholders, and we will continue to do that. And whether that turns into adjacent acquisitions that make sense for us, or returning cash to shareholders, we're doing all of those evaluations and we continue to be and expect to be on the way forward going to be very balanced in that approach.

But as you look at this, at the first two acquisitions, how are you thinking about the next few years? Just in terms of where the scale and range of these new opportunities might head?

Well, first of all, we're thinking about the next couple of years, we frankly have to get through the Navy side of our business through 2015. And get through this whole prospect of sequestration, and that is front and center for this business.

These acquisitions, we've had Stoller to the beginning of the year, we've had UPI for just a couple of months. We think that there's great potential there. Prosecuting that potential is going to be something that we'll be very focused on, and I would say, Doug, that there's going to be more to come in the future on that.

Okay. Thank you.

Myles Walton, Deutsche Bank.

Thanks. Good morning.

Good morning.

Maybe to lead off, Barb, you mentioned the 3% or about 3% is the target for CapEx. Obviously, that would imply a huge ramp in the second half, and admittedly, the CapEx budgets are often conservative. But can you give us -- is there anything whether it's tied to the acquisitions or tied to contingencies with any outcomes on the Avondale studies, or is it really underlying core expansion that you're seeing?

This is strictly shipbuilding. It's strictly related to the Virginia class program and CVN-79, as well as we upgraded or we're in the process of upgrading our welding equipment. So it's all Navy shipbuilding.

Okay. And then, Barb, and then I'll come back to Mike for a second. But in the original roadshow, you showed an S-curve for working capital which had a neutral crossing point this year, and source of cash in the out years. Where are we on the curve in 2014?

Well, we're a little behind from that presentation. And one of the reasons is, at that time, we thought that we would have already closed Avondale and begun recovery of restructuring. So that's moved out the year.

We did know we would be closing Gulfport, okay, so that added. But the rest of it's pretty much in tact. So those two items have shifted that a little bit to the right.

So then for planning purposes, neutralization in 2015 would seem like a reasonable target.

It should be. Again, timing of negotiations, that type of thing, but yes. I'd like to get some of it this year.

We'll see how it goes. Like I said, I was very focused on working capital. And my team, I meet with them on a regular basis, and I know what working capital is by program and they are tuned in with me.

Okay. And the last one, Mike, I guess a follow up to Doug's question on the pursuits here in the adjacency. But you've made the steps into the engineering side, and Barb alluded to the margins and the services business, but their invested capital is also on the minimal side. Do you think that there is really capability or value added to go in-house manufacturing and construction at Huntington Ingalls?

I think that remains to be seen, Myles. Our experience in this, and I think the long experience with Navy shipbuilders is that when we lead with manufacturing we can sometimes break our knees. What I like about leading with engineers is that, first of all, we do have a tremendous amount of depth and capability inside of the Company.

We understand engineering. When our engineers go outside of the government and they go talk to commercial folks who are doing engineering, they all speak the same language. And so from that standpoint, it's a little bit more of our own field that were on when we go do that.

Secondly, I think from -- you can gain keen insights into a market space through the eyes of your engineers. They can see where the opportunities are, they can see where the stuff -- where the problems that need to be solved that will require difficult solutions are. And we're frankly a Company that's going to be better suited to solve the tough problems, as opposed to be trying to line up and compete with a lot of folks who are all solving fairly simple problems.

So that's my thinking on it right now. Whether that actually translates into a significant manufacturing opportunity, I'm not sure. And it's a little hard for me to imagine that we would do a lot of that manufacturing inside of our government facilities.

We just -- the cost structures and the requirements are just so fundamentally different that I would imagine that the manufacturing would be separate. So -- but the plan now is to lead into these markets through the eyes and ears and brains of our engineers.

Okay. Thanks.

Thanks, Myles.

Jason Gursky, Citi.

Good morning, everyone.

Good morning.

I've got a couple of quick questions. First, Barb, on the Avondale recovery, is this just the case of finishing up your negotiations with the Navy? Or is it contingent upon a final decision on new uses of Avondale, and the things that you're doing with Kinder Morgan?

Well, it is contingent upon that, because we won't close it till we finish those discussions, and then talking with the Navy. So remember, there's two pieces.

There's the human capital piece, and then there's the asset piece. And so what would happen is the asset piece, if we found something to do with Kinder Morgan, the asset piece would go with that. But the human capital piece would be recovered under restructuring with the Navy.

Okay. That's helpful.

And then, Mike, on UPI, can you talk a little bit about what you view their organic growth opportunities to be? What kind of market are they operating in? And are there any large deals that they're bidding on or you think that there's some potential for that we ought to be keeping track of here over time just to give us a sense of how to track this business?

Well, sure. UPI is in a broad range of engineering support services for the oil and gas space. They do some onshore work, they do some offshore work, actually, which we find very interesting. I think that they have offices not just in Houston, but also in Calgary and Aberdeen, and all of those are places where there's growing demand for the kind of engineering service work that they do.

And so that's very exciting to us. We found as we went through this process, we came upon the notion that suddenly Keystone is very important to us, because they have a principal role in supporting TransCanada's effort on Keystone.

It's a new marketplace, and it's a new language, and a lot of new customers. And we're still working our way through all of that, but we're excited about what they have in their future. And the fundamental thing is that I think they have a bright future.

I think that they have now more opportunity, because we stand behind them. We stand behind them from the standpoint of resources. We stand behind them from the standpoint of a financial foundation, and all of that.

So between them and us, if we had tried to go and penetrate that market, if I'd gone and just tried to open an office in Calgary with some of my engineers, we would be nowhere. So having this marriage, I think is going to play out well for both of us.

And just a quick follow up to that, and maybe looping Barb discussion. And it sounds -- you suggest that their potential is now greater in light of the financial support that you might be able to offer them. Was it a business that was capital starved, and does this change the outlook for capital spending, Barb, from a percentage of revenue?

No. Absolutely not. I think it's more, customers are looking at them, and they see a nice parent behind them. They feel more comfortable that there is a depth of resources available to complete the contractual work.

Okay. Fair enough. And then the last one for me, Mike, can you just update us on your -- and Barb, as well, on the LPDs to the LXR the gap that might be created if the LPD-28 doesn't come through? If you could provide us some financial perspective what impacts we might see from both a revenue and EBIT perspective if we do end up having a gap, particularly if you need to do something with your workforce down there? Just set some sort of base case for us on what happens if we don't get an LPD-28 and we don't get some acceleration on the LXR?

Well, I don't think we have done any sort of financial parameters related to potential scenarios going forward. I think you can set the Navy's plan in front of you, and you can see that there is -- LXR right now is sitting outside of the five-year plan, outside of the fit up. And so we're finishing -- we're building LPD-26 and 27, and when LPD-27 finishes, there's a definite gap between the finish of LPD-27 and the beginning of LXR that exists today.

That (technical difficulty) if you don't have something else for that workforce to do, then you're going to be downsizing the workforce. And that is -- we started this whole amphibious discussion a couple of years ago with you guys, telling you that we thought that there's going to be a scrum for priorities and dollars and resources with the shipbuilding account.

And we felt like the amphibs were going to be in the middle of it. And we've been working that were a couple of years, and where we are today is LPD-28 it's not finished. LPD-28, if we were not where we are, LPD-28 would be a really long shot.

At this point, I'd say that we're in the game and we have a chance to get LPD-28 done. And it's critically important to the sustainability of the work that we've accomplished at Ingalls so far.

And I would add to that, that we're very aware of the potential impact. We are right-sizing as much overhead infrastructure as we possibly can at Ingalls. We're making some major moves.

I'm sure you heard that we're putting in some health centers to help get our medical costs down. And Irwin and now Brian continuously have made significant changes in overhead structure, and part of it was the fact that we were looking forward in seeing the potential of this base move a little bit. So in preparation of that, there's a lot of activity going on in that area.

Okay. Thank you both.

Brian Ruttenbur, CRT Capital.

Great. Thank you very much. Just a couple quick questions to wrap things up, because we're coming to the top of the hour. On terms of the share repurchase, can you tell us the number of shares and average price?

On the share repurchase, I think that we have repurchased 817,000. I think I've said that in there, and then average price was like $98 and change, like $98.13, and we have $75 million left on the program.

Okay. When do you anticipate increasing that? Is that something that, I know it's going to be a Board decision, but do you anticipate repurchasing shares moving forward with your extra cash flow?

Brian, we'll talk more about the cash deployment and -- later on in the year.

Okay. And in terms of Avondale, what would cause a delay in the shutdown, and the number of employees you currently have at Avondale?

Okay. In terms of number of employees left, I think we're down to like 325 employees. And then what happens, depends on what happens with the KInder Morgan study.

Okay.

Okay?

Great. Thank you very much. I appreciate it.

Thank you. We'll take one more, Dwayne.

Darryl Genovesi, UBS.

Thanks very much. Good morning.

Good morning, Darrell.

Mike, could you just offer a little bit more commentary around the business development environment? I guess (inaudible)^^^ I had two questions.

One is just to take the other side of Jason's question. If you do get an LPD-28 funded, is that enough in your view to bridge amphibious ship construction through the start of a next-generation amphibious ship program as currently planned? Or do you think you would need yet another LPD, an LPD-29 in order to get you there and hold the current workforce flat through that period?

And then the second part is, do you have any updated thoughts on what the Navy might be envisioning for that LXR program And also a next-generation small surface combatant, in terms of both design considerations within the context of your existing capability? And then also industrial-based considerations, do these programs appear likely to be a sole-source or some type of shared work agreement like you have now on DDG-51?

Good questions. I think the first thing you have to start with is the that bridge you're trying to create is the bridge from the LPD program to the LXR program, and the LXR program right now is outside the fit up. So until the LXR program shows up in the fit up, the plan of record is that it's in the first year after the end of the fit up. So the gap is fairly long, and that's what would require in our view for the production to get from LPD to LXR, LPD-28 is the only logical way to do that.

Now, it assumes that the LXR is going to look something like the LPD. And that it's going to have some of the same characteristics and requirements that the class of ships that it's replacing, the LSD class of ships, is going to line up. So there is an underlying assumption that there's a line of sight from LPDs to LXRs, and that timeframe is pretty fixed.

But I would say that LXR, not being in the fit up yet, means that there's still potential for the gap to get bigger. And so that means -- that's just makes the LPD-28 that much more important in our view.

Secondly, what we are seeing with the capability of the ships is that they're being used for a lot of things. And they're very flexible platforms, and all of that, and there's a lot of testimony that goes and supports all of that.

On the other side of it, Ingalls has come -- they have done a tremendous amount of work. Barb and I started our engagement with that operation almost 7 years ago, I think. And we have come -- we're just beaming with pride over the things that we have been putting in place over time.

It's really rewarding to see them come to fruition, and you'll see that in the performance in this quarter. You'll see that as we continue on our pace to get to our goals for next year.

The workforce there has done a tremendous job, the leadership there has done a tremendous job. And there's momentum there, and so there may be ways to capitalize on that momentum in other ways to help make sure that we get across that bridge. And more to come on that, I guess as time plays out, but 28 matters a lot.

If the bridge gets to be too far, I'm not sure that 29 is going to be something that gets put on the table. It would be fun to talk about that, but the fundamental balance between the volume of work and the craft requirement to support the capabilities that need to be put to sea, that's a balance that w-- hen it gets out of balance it's really hard to restore. And so that's what we're working really hard to do right now.

Great. Thank you very much.

Thank you. And with no further questions in the queue, I would like to turn the call back over to Mike Petters for closing remarks.

Sure, thank you, and thanks to all of you for joining us this morning. As we've pointed out, it was a great quarter for the entire Corporation. It is, as I just mentioned, it's very satisfying to see things that we've been putting in place over the last several years all coming to bear.

We've got a lot more work to do, but we are very excited about what we've accomplished, and how what we've accomplished will lead to even better things in the future. So we look forward to seeing you around town, and if you get a chance and want to visit one of our facilities, please let us know. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Have a good day, everyone.