亨廷頓·英格爾斯工業 (HII) 2018 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q4 2018 Huntington Ingalls Industries Inc. Earnings Conference Call. (Operator Instructions) As a reminder, today's conference is being recorded for replay purposes.

It is now my pleasure to turn the conference over to Mr. Dwayne Blake, Corporate Vice President of Investor Relations. Please proceed.

Thanks, Hailey. Good morning, and welcome to the Huntington Ingalls Industries fourth quarter 2018 earnings conference call. With us today are Mike Petters, President and Chief Executive Officer; and Chris Kastner, Executive Vice President Business Manager, 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 description of some of the factors that may cause actual results to vary materially from anticipated results. Also in their remarks today, Mike and Chris will refer to certain non-GAAP 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'll turn the call over to our President and CEO, Mike Petters. Mike?

Thanks, Dwayne, good morning everyone, and thanks for joining us again today. Before we get into the details of the call, let me first thank each of our 40,000 employees for remaining steadfast to our core principles of safety, quality, cost, and schedule, which helped us produce another year of solid results. I truly appreciate the efforts you put forth each and every day. So now let me share some highlights from our fourth quarter and full year 2018 financial results, starting on Slide 3 of the presentation.

Sales of $2.2 billion for the quarter and $8.2 billion for full year were both approximately 10% higher than 2017 and represent record highs for the company. Diluted EPS was $4.94 for the quarter and $19.09 for the full year, both significantly higher than 2017. We received approximately $3.3 billion in new contract awards during the quarter, including contracts for NSC 10 and 11, which is the continuation of the stable serial production program for the Coast Guard. As a result, our backlog was approximately $23 billion at the end of the quarter of which approximately $17 billion is funded.

The 2-ship contract award for CVN 80 and 81 announced at the end of January is a significant step towards building these ships more efficiently and affordably. And this contract increases backlog by over $15 billion. It stabilizes the Newport News workforce, it enables the purchase of material and quantity, and it permits a fragile supplier base of more than 2,000 vendors in 46 states to phase their work more efficiently. In addition to this award, we have captured a significant portion of the shipbuilding contracts that were included in the FY '18 and '19 authorization and appropriations measures, including the aforementioned NSC 10 and 11 and the 6-shipped DDG contract receive last quarter.

As noted previously, these contracts combined with expected awards for VCS Block V, LPD 30 and future Flight II LPDs are forming the foundation to support this business for the next 10 to 15 years.

Now shifting to capital deployment for a moment, I am very pleased to report that we have generated $2.6 billion of operating cash flow during the first 3 years of our path to 2020 strategy. This strong performance has allowed us to invest over $1 billion in the business through capital expenditures at our shipyards, invest in our employees through significant pension contributions and make bolt-on strategic acquisitions in our technical solutions business.

At the same time, we have returned $1.6 billion of free cash flow to shareholders from 2016 through 2018.

Regarding activities in Washington, the partial government shutdown had minimal impact on our business as our current work was predominantly authorized and appropriated in prior years, including the 2019 Defense Authorization and Appropriations measures, which were enacted into law last year.

We look forward to working with the Congress during the 2020 legislative cycle to continue the serial production of submarines, destroyers, amphibious warships, and National Security Cutters to leverage high production lines and supply chains that efficiently produce warships our nation requires.

While sequestration remains the law of the land for 2 more years, we'll remain hopeful that a budget agreement will ultimately be reached that will best support defense and nondefense discretionary needs.

Now I'll provide a few points of interest on our business segments.

At Ingalls, the team completed acceptance trials on DDG 117 Paul Ignatius in December and expects to deliver the ship in the first half of this year. NSC-8 Midgett remains on track and is also expected to deliver in the first half of this year.

For LHA-7 Tripoli trials and delivery are expected around midyear, and final year focus continues on integration and testing to support planned trials and delivery at DDG 119 Delbert D. Black later this year.

At Newport News, the team is focused on completing ship erection of CVN 79 Kennedy in the spring and painting of a hull in late summer or early fall in support of launch planned for the fourth quarter of this year.

The ship is approximately 87% structurally complete with 390 of 448 lifts joined together in the dry dock and approximately 55% complete overall.

I am very pleased with the progress on this ship. In particular, the corporations of lessons learned from CVN 78 USS Gerald R. Ford and increased pre-outfitting work performed on the assembly plant and in the manufacturing shop should allow the team to continue achieving cost and schedule performance that is in line with our expectations.

For submarines, the team experienced higher than expected cost in preparation for launch of SSN 791 Delaware that was completed in December. They also reassess the schedule SSN 794 Montana, the first Block IV boat to be delivered by Newport News and the remaining boats in the block. As a result, the EACs for Delaware, Montana and the remaining Block IV boats were increased to address the additional cost and schedule impacts. These changes resulted in a net negative cumulative adjustment of roughly $20 million in the fourth quarter. And while this situation is very disappointing, the team has found the problem and taken the necessary actions to minimize these impacts. We expect to deliver Delaware, and achieved pressure will complete in Montana in the second half of this year.

During the Q1 call last May, I commented that we expected the return on sales for shipbuilding to be in the 7% to 9% range for 2018 and 2019. Even with the step back in the Virginia-class program, the 2018 reported return on sales for shipbuilding was 8.6%. And we expect to remain in the 7% to 9% range for 2019 and do expect to return to the historical 9% range in 2020.

Now turning to Technical Solutions. The team achieved a number of key milestones in the quarter, including the award of the O'Kane maintenance availability in San Diego and a successful transition of the Los Alamos M&O contract.

During the fourth quarter, we also completed the acquisition of G2, a Maryland-based cybersecurity solutions and services company that adds advanced cyber capabilities and key federal government customers to our portfolio.

And last month, we announced an agreement to purchase Fulcrum IT services, a Northern Virginia-based technology services provider that adds significant capabilities in the area of the C5ISR, intelligence operations, enterprises software solutions and cyber.

Now, these acquisitions are expected to be accretive to cash flow in earnings and strengthen our existing capabilities while adding new customer relationships directly supporting our strategy to optimize and expand our services' portfolio.

This includes key new customers in the intelligence and special operations communities as well as some additional defense and federal agencies. And these relationships will allow us to incrementally grow in markets that we believe are essential for the future security of the nation, and customers in these markets have another trusted partner in the Technical Solutions team.

So in closing, 2018 was another solid year for Huntington Ingalls, and I am very excited about the future for our business. Strategic investments in our facilities, people and capabilities combined with key contract awards such as the CVN 80, 81, 2-ship contract, and the 6-ship DDG multiyear contract position us to leverage a unique long-term revenue visibility and stability to produce, predictable, low-risk cash flows.

In addition, our keen focus on execution, our strong balance sheet, and our solid capital deployment strategy keep us on a path to continue creating long-term sustainable value for our shareholders, our customers, and our employees.

And now I'll turn the call over to Chris Kastner for some remarks on the financials. Chris?

Thanks, Mike, and good morning. Today, I will review our fourth quarter and full year consolidated results as well as provide you with information on some items for 2019 and 2020. For more detail on the segment results, please refer to the earnings release issued this morning and posted to our website. Turning to our consolidated fourth quarter results on Slide 4 of the presentation. Revenues in the quarter of $2.2 billion increased 10.2% over fourth quarter 2017, primarily due to higher volumes in aircraft carriers and Navy nuclear support services at Newport News as well as higher volumes in the LPD, LHA and DDG programs at Ingalls

Partially offset by lower volumes on the NSC program at Ingalls and the VCS program at Newport News. Operating income for the quarter of $213 million decreased to $18 million or 7.8% from fourth quarter 2017, and operating margin of 9.7% decrease to 189 basis points. These decreases were primarily driven by lower risk retirement and higher than anticipated cost on the VCS program.

Moving onto consolidated results for the full year on Slide 5, revenues were $8.2 billion for the year, an increase of 9.9% from 2017. This increase is primarily driven by higher volumes in aircraft carriers and Navy nuclear support services at Newport News as well as higher volumes and amphibious assault ships at Ingalls, partially offset by lower volumes in the DDG and NSC programs at Ingalls and lower volumes on the VCS program at Newport News. Operating income for the year was $951 million and operating margin was 11.6%.

This compares to operating income of $881 million and operating margin of 11.8% in 2017.

Higher operating income was driven by a more favorable operating FAS/CAS adjustment as well as the overall volume increases noted previously, partially offset by lower operating margins. The lower operating margin was largely driven by performance on the VCS program. Additionally, interest expense was $58 million for the year, a decrease $36 million from the prior year due to the bond refinancing in December 2017.

Our effective income tax rate was 3.2% for the quarter and 13.9% for the full year. This compares to 65.8% and 38% respectively from fourth quarter and full year 2017.

Taxes in 2017 were impacted by the onetime effects of tax reform and discretionary pension contributions. The lower tax rates in 2018 were driven by the lower U.S. federal income tax rate associated with tax reform and higher estimated research and development tax credits for 2011 through 2018 tax years.

Turning to cash flow on Slide 6 of the presentation, cash from operations was $648 million in the quarter and free cash flow was $506 million. For the full year cash for operations was $914 million and free cash flow was $512 million compared to 2017 cash from operations of $814 million and free cash flow of $453 million. Fourth quarter capital expenditures were $142 million and for the year $402 million or 4.9% of the sales. This compares to $361 million or 4.9% of sales in 2017.

Cash Contributions to our pension and postretirement benefit plans were $546 million in the year, of which $508 million were discretionary contributions to our qualified pension plans.

Additionally, we repurchased approximately 1.4 million shares in the quarter at a cost of $276 million, bringing the total number of shares repurchased in 2018 to approximately 3.6 million at a cost of $788 million, of which $48 million was not yet settled for cash as of December 31, 2018.

We also paid dividends of $0.86 per share, $37 million in the quarter, bringing total dividends paid for the year to $132 million.

Finally, during the fourth quarter, we acquired G2 for total cash consideration of $77 million.

Now turning to Slide 7, let me provide an update on pension.

We project a favorable net FAS/CAS adjustment of approximately $159 million in 2019 and approximately $161 million in 2020, the decline in the expected 2019 FAS/CAS adjustment initially provided on our third quarter earnings call update is due to higher year-end CAS interest rate and lower than projected asset returns in 2018. CAS recoveries over cash contributions are projected to be approximately $237 million in 2019 and approximately $103 million in 2020.

Now let me provide you with an update for some additional 2019 items as shown on Slide 8. We expect the noncurrent state income tax expense to be in the $9 million to $13 million, and our effective income tax rate to be approximately 21%. Interest expense is expected to be approximately $60 million for the year and capital expenditures as a percent of sales is expected to be between 5% and 6%.

Also, depreciation and amortization is expected to be approximately $210 million. Additionally, we expect capital expenditures to be between 4% and 5% of sales in 2020. We now expect our capital expenditures between 2016 and 2020 to be between $1.8 billion and $1.9 billion. As a reminder, capital expenditures are expected to return to the historical level of approximately 2.5% of sales in 2021.

That concludes my remarks. I'll turn the call back over to Dwayne for Q&A.

Thanks, Chris. (Operator Instructions)

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

(Operator Instructions) Our first question is from Myles Walton of UBS.

Mike, I was hoping you could touch on the VCS? And how much of which you're experiencing as a result of moving to the new contract structure on the Block IV? It sounds like you're kind of bridging the 2. And also the kind of the late delivery that was called at this summer, how much of that have you recovered from in these contracts? Just give us some colors that you've kind of bound to the issue. Obviously, you've adjusted that EAC accordingly? But how much of the result of transition to the Block IV? How much is a result of increase in rates? And again, give us some assurance that you've bounded the issue?

Yes, I'll start and then maybe let Chris talk to the rates issues. We have as sort of a core principle of -- at least my career is, you shall launch no ship before its time. And as we were heading up to launch on Delaware, our approach to a quality launch there, we started to recognize that to get to where we wanted to be on that ship for launch, there was both cost and schedule pressure. So we don't launch until we're ready. So when the launch got delayed, we had to step back and say what were the root causes of that and what did that mean to us, not just on this particular program, Delaware is the last ship of Block III, but is there something that we need to account for in our risk register in Block IV. And so that process is a very -- it's a routine process that we go through in our EAC process every quarter but also the risk management process is very, very disciplined. And so as we went through that process, we recognized that we needed to reflect that in the risk registers for Block IV so we did both of that. We took the program adjustment for Delaware but also adjusted Block IV. And we also accounted for it in the ongoing negotiations we're having for -- in Block V. We absolutely believe that the problem is a -- the challenge that we experience is bounded. The team is -- they recognize how this -- how they got here, and they recognize the approach to get through it. I feel very confident about where the submarine program at Newport News is. And I'm also pretty excited about the future of that program as we go forward. So I'm -- this was a routine adjustment that caught us on the cusp between Block III and Block IV. And so that's why it kind of shows up the way that it does. But I'm very confident of about where that program's going to go in the future.

And then Chris, you gave us the color on the 2021 CapEx coming to back towards the normalized level. What is the net CAS recovery after pension contributions look like in terms of post-2020? And in that deck, you're showing an uptick in the cash contributions required by the company and decline in the case of CAS. Post-2020, are those 2 things more or less neutralized?

Yes. So they definitely wind down a bit. I'm not comfortable providing 2021 data at this point to try to get to '19 and '20 from a planning standpoint. But FAS/CAS and contributions start to normalize subsequent to '20 for sure, all things being equal, of course.

Our next question comes from Doug Harned of Bernstein.

I wanted to go to Ingalls for a minute. The -- you're just -- you've been getting good margins at Ingalls, and you're just in the early stages of ramping up on the Jack Lucas and the Ted Stevens. So as you get into these Flight III boats, how should we think about the margin trajectory with that transition to Flight III?

We're - as Mike indicated on his prepared remarks, we're still comfortable returning to the 9% return on sales in 2020 and the Flight III boats -- or Flight III ships are in that mix. So we're comfortable with how those ships are starting and we're comfortable with that 9% return on sales projection.

Yes, I'd go a little -- just to maybe expand on that. Across the whole business, we will be -- we're starting up now -- we're heading to launch on Kennedy but we're now behind Kennedy, we have 2 more carriers to build. We're at the very beginning of Block IV, and we're negotiating the Block V contract at Newport News. We have the steady refueling business at Newport News. We're coming through the second half of a refueling, and we'll beginning -- the beginning of the planning phase for the next refueling. At Ingalls, we have 10 destroyers now under contract to build. We are negotiating the first ship of Flight II of LPDs, and we are in a place where we just signed a contract for 2 more NCSs, NSC 10 and 11. And across the whole range of the business, all of our programs are -- we're getting the business into the production lines that are hot. And even though, there's a -- the backlog is expanding pretty dramatically, we're in a place where we feel pretty comfortable that next year, we're going to back in the 9% to 10% range, and that's going to be across the whole business. There will be pieces of it that will be -- because of the risk register, we won't be at that level. There would be other pieces that the risk registers are going to be in a good place, and we'll be above that. So at a blended rate, we believe that in very short order -- even though the backlog is expanding as quickly as it is, in very short order, we're going to be in that healthy 9% to 10% range, and we're pretty excited about that. Whether that's going to happen exactly the way we see it play out, this is shipbuilding, so we'll see. But I've said this is the most exciting time that I've seen in shipbuilding and this is when it gets really good now. With -- the orders are in the book and the team can get cut close to go execute those orders.

And then if I can just shift gears a little bit, the -- you've done 2 acquisitions in the government IT space here recently. What we've seen in that space is a lot of consolidation and arguments by some of the large players that you really need scale both for cost and for the market. And so as you pull these together, I mean, you are well below the scale of many of these other large companies. I mean, how do you think about competing at the size you're at in that space? Or do you feel -- what's the scale you think you would need to make that really successful?

Yes, good question, Doug. I think of the scale issue as -- we don't look at it the same way. We -- and that may be because we just aren't quite as smart. But I think that the approach that we've taken with our Navy customer for decades has been to understand the customer well enough to understand what capabilities they need then go and invest in those capabilities so that you can become the preferred partner for that customer. In this space, whether it's cybersecurity or data analytics and those kind of things. When we acquired Camber, we brought on several new customers, and we've gone through a pretty rigorous evaluation of what are the capabilities that those customers are going to need for where they are going to be in the future. And then we've been pretty selective about how we go and build that capability in our business. And both G2 and Fulcrum are exactly that. I don't believe that you can just be successful by being big. I think you're going to have to be intimate to the customer, you're going to have to be talking to them about what capabilities they need and then you've got to go figure out how to create that capability so that they have it when they need. And we're excited about the approach because it helps us become more intimate with these customers over time, and we become a much more trusted partner. And we think that, that's going to be the foundation of a very successful services business.

Our next question comes from Carter Copeland of Melius Research.

Just 2 quick ones, probably both for Chris. One, just explaining on Myles' question and your answer Mike, it sounds like we should be thinking the Block IV booking rate on VCS' is lower ex the various [cums] and whatnot. If you could just confirm that for us? And then secondly, on a cash flow were there any working capital elements of significance that represented a pull forward of some good guys into Q4 '18 versus '19? Anything we should be aware of?

Yes, so I'll handle the last one first. So yes, we did have a good Q4 in working capital, both receivables and payables. Got paid early on some stuff that we weren't really expecting. It's really testament to the team that was working cash over the year to ensure that we maximize it so that we did have a positive working capital quarter for sure. And Mike I don't know if you want to handle the VCS, but we don't specifically give bookings for certain program.

I mean, this was a -- I would say for the size of the program for Block IV, this is a relatively small adjustment for that.

Okay. And Chris, any chance you're going to help us quantify how big we should think some of that good news in Q4 on the cash flow was?

Yes. You can think between $100 million to $150 million right at the end of the year that came in because the team is working very, very hard at it.

Our next question comes from Robert Spingarn of Crédit Suisse.

Following on what Carter just asked you. Given the strong cash on the year and the pull forwards, Chris, can you talk a little bit about the trend from this year to next year beyond pension and CapEx? How should we think about the various puts and takes into '19? And then separately, if you could give us the gross in that EAC adjustment in the segment?

So I'll give you gross and net first. Positive of $62 million and negative of $50 million. Ingalls was a positive $30 million and Newport News was a negative $18 million. From a free cash standpoint, what I attempted to do this year on this call was give you all the various factors that influence cash flow at HII, the nonrecurring type of items. So depreciation, amortization, capital, net pension cash and then everything else is just working capital, and that's timing related. And as you know, as you saw in Q4 things seemed to be a bit lumpy. So hopefully, I've given you more information where you can understand how cash will flow within the corporation.

But over the years, should we expect it to be similar in '19 from '18. In other words you have another -- you reverse some of that strong Q4 in the early part of '19 and then you catch up at the end of the year?

We're going to work very hard to ensure that happens.

Our next question comes from Jon Raviv of Citi.

Sorry to keep on this cash flow question but maybe just be a little more specific. I think at the beginning of the year, you were talking about there being specific headwind and tailwind into '19, which sort of implied $750 million of cash -- free cash in '19? Pension moved through in the year such that on the last call, some of that cash went away. Can you tell us which level set -- sort of -- at what level of free cash or you would expect to be able to sustain at over the next -- in the couple of years. What are the key features for CapEx in terms of pension?

Yes, Jonathan, I appreciate the question. And as you know, we don't provide guidance. And so what I've tried to do is give you all the components that make up cash flow. I really would rather not give you directional or my thoughts relative to how it's going to compare to 2018. But I think you can probably get there with the information that I've provided.

Okay, and then a follow-up just in terms of this idea for sustainability. Mike, you had talked about for a while your business being flattish and then up 3% and now up 10%. To what extent does this new level in '18 almost set a base which you can sustain, given all the backlog that you've been -- all the backlogs you've built or is there some risk that it'd start going down again at some point kind of even out at that risk-adjusted normalized growth rate you've talked about previously?

So Jonathan, I apologize for not hearing you very well but I think the question was about growth. This is Chris, and Mike can chime in subsequent. But we're still confident with the 3% CAGR, '17 through '22. Obviously, we had pretty good 2018 but we don't really don't expect that to continue obviously because of Los Angeles-class submarine work will finish this year and then tail end of '20 potentially. So we're still comfortable with that sort of growth rate for those years in shipbuilding.

Yes. And I would just go and point out that what's actually going to happen here beyond the persistent 3% growth in shipbuilding is that the backlog is going to put us in a place where we're going to be able to talk about not just 5 years but 10 years. And we'll be able to talk to a pretty persistent growth rate across a decade that's going to be, for work we have under contract that is by and large immune to some of the winds that might blow politically. So that gives us a lot of confidence in terms of the foundation of our business with our core customer, we think that puts us in a very unique spot.

Our next question comes from George Shapiro of Shapiro Research.

Chris, if I heard you right you had a $20 million negative adjustment from the VCS. If I exclude that the Newport margin would have been about 6%. Is that what we should expect for the quarters this year or is that on the low side?

Well, that's getting at a run rate sort of margin for -- or return on sales for Newport News in the quarter. Obviously, there will be opportunities for step ups as we achieve milestones at both shipyards. So while it is a run rate, that's not how we think about return on sales within the year.

Yes, because you had mentioned, I thought, if I caught it right, that the net adjustments at Newport were minus $18 million. So roughly taking out the $18 million, you kind of get this is the underlying base rate for Newport News? And then it's a question of what you can do on EAC adjustments, et cetera?

I think that's fair George.

Okay, and then for Mike. The 3% sales growth you've talked about in the past, had that assumed all of the business that you now seem to be getting the 2 Ford carriers and stuff? Or is there incremental from the business you've got?

Yes, I think that when we first talked about the 3%, the 2-carrier contract, for instance, was being talked about but not, I think, was uncertain. The destroyer piece was uncertain at that point. I think where we are now is that we're very confident about the 3% because of the work that we've captured. There are some things out there that frankly, we'd like to see that could help this move along more. If you can do -- for instance, if you can do a 2-ship buy for aircraft carriers, you can do also do a 2-ship buy for LHAs. And we've got to figure out a way to get the LHA program back in phase because it's out of phase right now. And we got to do that as very efficiently as we can -- and from a shipbuilding perspective, we've got LHA-7 and LHA-8. But LHA-9 and LHA-10 are out there, and they're not in phase. So we've got to get to those in phase. So that remains to be seen. We're negotiating the first contract of Flight II LPDs. The best way to build the Flight II LPS would be to move to a multiyear contract so we need to go and do that. Those are things out there that would enhance our view -- the frigate program is out there, and that will enhance our view. So while we solidified around the 3% because of the work that we've done, we still are -- we're still out there doing more of this to try to be as efficient as we can.

And then just one quick follow-up. So given how much higher than 3% the growth was this year, I mean, what caused that? There were unique items in there that you didn't foresee? Or if you can explain a little further?

Yes, George, that was driven by the LA-class submarine availabilities, the 3 boats that we had in Newport News in 2018.

Our next question comes from Krishna Sinha of Vertical Research Partners.

I think in late December you won a sub-safe contract for $875 million. And then I think recently you also have the opportunity for something like $400 million on option period 3 for some amphibious ships work for the Chief of Naval Operations. Can you just talk about how those revenues flow through over the -- and over what time period you're going to see those revenues?

I'm not entirely sure the awards you're referencing, I apologize. But all of the -- all the awards we had in the fourth quarter and the perspective that Mike previously gave relative to the growth rate.

So are you seeing any incremental sort of opportunity for maintenance or MRO work? I know that's sort of ad hoc, and it comes on and off. But any -- not on the LA-class, particularly, but any other work that you're seeing coming down the pipe that could be incremental to the growth rate?

Well, I think that there is a bigger strategic issue around how is the Navy going to try to do maintenance going forward. There's been a challenge in terms of their readiness that they've talked about. And as they moved resources towards more readiness they've also been talking with the whole industry about how do we do that more strategically. We're certainly engaged in those discussions with the Navy, but it's very premature at this point to try to talk about what impact that might have on our particular business. The LA-class is actually an example of sort of the dynamics of that space in terms of -- those were pop-ups that we were available -- that we were able to do. But right now, we can't forecast what happens after that. And so -- and I think that's sort of the challenge of that space, historically, has been the unpredictability of it and the volatility of it. So I think that the discussion is going on between the government and the industry right now as how do we do this in a more efficient way, which would drive out some of the volatility. And if we can do that, then we can start to project that into our lookaheads. But we're really not able to do that right now.

And then just one, maybe one -- final one on free cash flow. Everybody's kind of harping on this. But I'm just curious from your perspective. Pension, obviously, is a noisy sort of metric, and it's going to harmonize at some point. If we just exclude the pension, if we normalize CapEx, what's the sort of underlying free cash flow that we can expect from this business on a go-forward basis. Like, what's normalized free cash flow look like for this business?

Yes, so I apologize, again, but we don't provide guidance. And what I've tried to do is give you all the variables that impact cash. And additional to that, we provide top line and where we think we're going to be from a return on sales standpoint and what the tax rate's going to be. So I think based on the information I've provided, you can get to a fairly consistent -- or number that you can count on. Obviously, working capital moves around a little bit and it can be lumpy at times. But I think with the information I provided you can arrive at a fairly reasonable number.

Our next question comes from Ron Epstein of Bank of America.

A couple of quick questions. I mean, back to the revenue growth question, I think everybody's been kind of scratching at that one. Largely because it seems with the business you've won and the business you could win that 3% number just seems really low, right? Like I mean, how could you possibly not hit that? I mean -- I guess, the question is how could you possibly not do better than that? That's the first question.

Well, the answer -- Ron, this is Chris. And I consistently said if things go perfectly, it could be better, but you have -- there are constraints within a shipyard. There's only so many boats you can build at the same time. So it's not as if we get these orders, and they provide for immediate sales growth. What they do provide for is amazing stability within our business space. So it's not as if it immediately shows up in sales and margin.

And then maybe -- I don't if this asked or not, but I'll ask it again if it was. I mean, when we think margin's regression on the 2 carriers, how should we think about that as we go from the CVN-80 to 81?

Well, I think certainly, we've got a contract here that's going to carry us out to 2032. So we have a pretty large risk register at this point. And as we -- with all of the advantages come as along are historic and very disciplined process. We're making sure that we don't retire the risk before we've actually retired it. Now what happens here is that as you're going through the first ship, it's really going to be the third ship of the class. And so you're going to be able to take advantage of what you've learned on -- from the first 2. And you'll have opportunities where you've retired risk on the first ship, and you'll decide that maybe that's not a risk on the second ship. So we'll -- it'll be a progression just like it is on any other program, it's just going to be a 13-year curve as supposed to an 8-year curve or a 5-year curve that we have on other programs.

Got you. Got you. And then maybe just one more. It'll just -- quick one. On the CapEx outlook in 2021, how many submarines does that assume are being built?

That's the current program...

That's the current port program of records. I think the question around submarines is that as the industry has been expanding itself to be able to handle the 2 submarine per year delivery rate in Virginia-class as well as support the Columbia program, discussions about future submarines and adding more submarines to the budget, I mean, that's been a very loud discussion, and we stand ready to support that. But the capital -- that sort of thing's if you just going to add 1 or 2 ships to the budget along the way and kind of option them in than that really won't require substantially more capital. That would just be putting them back into our production line and working them through the process. If the nation were to decide that it wanted to go some other build rate, we're -- let's say we wanted to go to a 3 Virginia-class, be extreme here, and go to a 3 Virginia-class per year build rate, concurrent with the Columbia-class program then that would probably require another thought on capital. But we are not seeing that being the discussion today. And so we feel pretty comfortable with the capital investments that we've made on the VCS program. And even if they add a ship here or a ship there, we think that that will be -- that we're in -- we're well positioned to support that.

Our next question comes from Seth Seifman of JPMorgan.

So the -- new to the stock, so apologize if this is pretty basic. But just thinking about that shipyard margin this year coming in at around at 8.6% and getting kind of solidly into the 9% to 10% range in 2020 and thinking about the moving pieces there. I mean, you're very much above the range at Ingalls. And so that implies, I guess, better -- significantly better margins on the carrier even as you look at it after you've signed the contract for 2. And improving margins on the Virginia, not being offset too much by the absence of that Los Angeles-class work. Is that the right way to think about the margin moments that allow you to bring up that Newport News margin?

I think the way to think about this -- and welcome to the stock. I think the way to think about our shipbuilding businesses is that brand new programs are going to be booked very conservatively because we just -- we have too many scars where we've gotten out in front of our headlights and so we are going to be conservative on new programs. Very mature programs, we can -- that -- where we understand where the risk is we will be more aggressive. Where we are right now is that we have a tremendous amount of new work at Newport News. And so as a result, we're being pretty conservative at Newport News. And on the other hand, at Ingalls, we've got some pretty mature programs there. And we're in hot production lines. So we're in a place where we can be more aggressive. Both teams are executing exceptionally well, and we're proud of the work that they are doing and the positioning that they're making to accelerate into the next decade. And that's across all of our programs. And so our view is that the healthy blended business of shipbuilding ought to be a mix of very mature product lines with the significant volume of new work and if that blended that puts you in a 9% to 10% range. We've been very consistent about that since we left Northrop Grumman, we still believe that to be the case. And we expect that even with all of the new work that we're taking in Newport News in the next -- that we've taken on now and in the -- across the rest of this year. We expect that our blended rate next year is going to be in 9% to 10% range. We're pretty comfortable with that. So we're excited about where this positions us because it does put us in the healthy place for the next 5 to 10 years.

Great. And then as a -- it is a quick follow-up for Chris. Just -- even we take out the $150 million of cash that kind of pulled into the fourth quarter, it still implies a positive working capital contribution to cash flow in 2019. Just want to make sure A, that's correct and kind of like what's driving it given that we've got this growth underway? And at some point does that become more of a neutral or a headwind on the working capital front since you're growing?

Yes, so I -- we do have good payment terms with our customers. So working capital doesn't -- as we grow working capital does not increase that much. So it's all about timing with working capital with us and what happens around the end of the month. So you're correct, relative to the pull forward. And we'll just see how 2019 goes.

Our next question comes from Gautam Khanna from Cowen.

Couple of questions. You mentioned the 7% to 9% margin range this year. Could you remind us of how many ship deliveries you have this year I think it's 5? And how that compares last year? Yes, just you're -- obviously, you guys are conservative. But typically, we've seen margins kind of move up upon delivery. Is there anything different about the programs you're delivering on this year relative to history. I'd appreciate some color.

So we have 5 ship deliveries with Delaware and then 4 at Ingalls, 2 DDGs, LHA 7 and NSC-8. So it's going to be normal course. We're going to evaluate our risk registers when those ships deliver and if we have an opportunity, we'll book some additional margin.

Okay. But Chris, you also -- I mean, the cash flow question has been asked many, many times. But obviously, when we look out to -- in the past, you've talked about Avondale recovery being sort of a nonrecurring plus in 2018 and then maybe it bleeds into 2019. Could you just refresh our understanding of whether that's behind us now and what it was in terms of absolute dollar value last year, 2018?

Sure. Avondale is behind is now. We've recovered that I think it was $50 million went into AR from inventory related to Avondale. But we can get you that information, Gautam. So that is absolutely behind us. We sold the facility, the restructuring is fully dealt with, and that's recovered.

Okay. And so just putting it all together, ex the working capital dynamic in Q4, I just want to be clear because I think there is some confusion. It's looks like the cash flow -- the things you've identified there is about $200 million -- maybe a little $220 million year-to-year plus between the slinging, the mismatching cash pension versus contribution, the CAS recovery versus contribution, the increase in tax rate and the slight increase in CapEx year-to-year in '19. Is that fair something in the $220 million range ex working capital changes?

Yes. So I'm not going to comment on where I think it's going. I've given you all the information. I would on the tax rate -- we have not -- that's book tax. The cash tax will -- that will settle out '19 or '20 when we get an agreement with the IRS. So I'm being punished by giving too information here, unfortunately. So I tried to give you all the factors that influence cash flow. You saw what happened at working capital in 2018 and that potential impact that could have for 2019. And I think there's enough information there for you to derive a reasonable estimate for '19 and '20.

Okay. Last one for me on CVN 79. If you could just give us any sort of commentary on EACs in the quarter? And whether that was the source of any variance either way?

Nothing material. We're pleased with how 79 is progressing, for sure.

Right. yes, we've been -- as we've been -- the program team set up a target for launching the ship earlier and moving the launch into 2019 from 2020. They've been pretty steady and persistent at achieving the things that they need to achieve to get that done. And we're encouraged by that. And it's been holding the line for quite a while now. So that program is coming together. And I think even more importantly now, with more 2 behind it, it becomes a really important key foundation for the future of the business.

Our next question comes from David Strauss of Barclays.

Following up on that in terms of the Kennedy launch. So it safe to assume -- or I guess you guys are assuming that the launch does occur in '19 in your margin guidance for 7% and 9% margins? And how big of a swing factor is that in terms of margins in '19 as to whether that occurs or not?

Yes, we don't give specific projections of what we think that might be. We have to execute it and then evaluated it. And it's not necessarily baked in. We can -- even without the launch, we believe we can get to the 9% to 10% return on sales range...

for next year, for next year...

For next year. There's a lot of things going on in 2020.

Okay. Question on CAS recovery. It seemed like on the last call -- I don't think you were on it Chris, but it seemed like there was hinting at the idea that CAS would drop off. You forecast some pretty big CAS drop off in '19 from '18. And it sounded like in the prior call you were potentially talking about another big drop off in 2020, but that's not what we're seeing here. Is that a result of the performance in '18? Or how do we think about CAS recovery levels longer term?

Yes. Like -- I'll give you a '19 and '20. '21 it does come down a bit, and that's a little less than what we thought in '20, driven by discount rates and asset returns. But you should see it beyond '20 metering down a bit along with FAS and contributions.

Our next question comes from Joseph DeNardi of Stifel.

Just a quick one for Chris. Does the fact that you have the Block V for CVN effective program accounting for 79 in any way?

No.

Okay. And then Mike, you've talked about how a healthy shipyard should be 9% or 10% margin on average, I think. Maybe, I'm coming up with the on average part of that. But you're, obviously, a little bit below that now. I'm wondering if you have kind of line of sight into when margins could be better than that just based on a lot of it being the Block V. If CVN can go from kind of a dilutive margin to an accretive margin in 4 or 5 years? Whether you actually have line of sight into a few year period where margins can actually be better than average?

Yes. I would -- an interesting question. Frankly, my view is that if we get too far above the 10% range, what that will indicate is that we're not backfilling the work. And so while it would feel really good because you got a really good number. It's not exactly the healthiest place for you to be. And so our intent, our focus will be getting the risk registers retired so that we can optimize the return on these programs. And if we see that we have a different outlook at that point, we will. But more importantly, we're going to be working hard to kind of continue to backfill the work so that we keep blended rate in the healthy range.

And at this time, I'm showing no further questions. I'd like to turn it over to Mike Petters, President and CEO, for any closing comments.

Well, we thank you all for your interest in the business. We continue to focus on execution and the work that's happening across the full range of our business. We appreciate your interest and your time today, and we look forward to seeing you in the future. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may now disconnect. Everyone, have a great day.