洛克希德·馬丁 (LMT) 2014 Q2 法說會逐字稿

Good day and welcome, everyone, to the Lockheed Martin Second Quarter 2014 Earnings Results Conference Call.

Today's call is being recorded.

At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Jerry Kircher, Vice President of Investor Relations.

Please go ahead, sir.

Thank you, Shannon, and good morning.

I'd like to welcome everyone to our second quarter 2014 earnings conference call.

Joining me today on the call are Marillyn Hewson, our Chairman, President, and Chief Executive Officer, and Bruce Tanner, our Executive Vice President and Chief Financial Officer.

Statements made in today's call that are not historical fact are considered forward-looking and are made pursuant to the Safe Harbor provisions of federal securities Law.

Actual results may differ.

Please see today's press release and our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results.

We have posted charts on our website today that we plan to address during the call to supplement our comments.

Please access our website at www.LockheedMartin.com and click on the Investor Relations link to view and follow the charts.

With that, I'd like to turn the call over to Marillyn.

Thanks, Jerry.

Good morning, everyone, and thank you for joining us today.

We're pleased to have the opportunity to review our second quarter results with you.

As today's release detailed, we had a strong quarter operationally and financially.

All reported results exceeded our expectations and we are progressing on achievement of our full-year financial objectives.

These results reflect the execution being achieved across our businesses, as the corporation operated at a very strong level in providing critical solutions to our customers while returning value to our stockholders.

Our team continued to deliver broad-based results across the corporation and I thank them for all that they do on a daily basis.

Our strong year-to-date financial performance also enabled us to, again, increase full year 2014 guidance for segment and consolidated operating profit, earnings per share, and cash from operations.

Bruce will cover the financial results in detail later.

First, I want to congratulate our Mission Systems and Training team on their successful capture of three key new business awards this past quarter, as well as recognize our Space Systems group for their capture of a multi-billion dollar extension on an essential national security program.

One of the highlights of the quarter was Mission Systems and Training's competitive win of the Space Fence program.

This contract will enable our corporation to provide a critical capability to our nation for tracking more than 200,000 orbiting space objects and increase the ability to prevent collisions with space-based debris.

MST was also notified of two significant helicopter new business events this quarter.

With announcements from the US Air Force on the Combat Search and Rescue Helicopter program award and from the Naval Air Systems Command with the award of the VXX Presidential Helicopter Replacement program.

These awards will utilize our systems engineering expertise as we provide significant capabilities on these important helicopter recapitalization programs.

Our role will be to support Sikorsky, who is the prime contractor on both these programs.

Turning to Space Systems, our team was able to expand a key franchise program with their receipt of additional production lots for spacecraft 5 and 6 on the Space Based Infrared System, SBIRS.

SBIRS spacecraft provide essential missile defense and warning capabilities to our nation and allies to counter the growing proliferation of offensive ballistic missiles around the world.

These new awards expand our backlog of work and help position our corporation for long-term growth in core markets.

In addition to the notable new business awards, we also announced two strategic acquisitions in closely aligned core business areas.

To expand our portfolio of satellite launch preparation services, we acquired Astrotech Space Operations.

Their addition complements our existing capabilities in satellite design, production, and integration.

We also announced the acquisition of Zeta Associates to further strengthen our national security capabilities in the areas of collection, processing, safeguarding, and dissemination of critical information for intelligence and defense communities.

Closing of both of these acquisitions is expected to occur in the third quarter and they will be managed by our Space Systems business area.

I would like to move to F-35 Joint Strike Fighter and provide a summary status of the program.

New business support of the program continues to grow, with announcements in this quarter from two of our cooperative partner countries to procure the F-35 for their future fighter needs.

Australia announced their decision to purchase 58 additional F-35 aircraft, bringing their total current procurement level to 72 aircraft.

Additionally, Turkey finalized their commitment to procure their initial buy of F-35 fighters, reflecting their confidence in the program to provide fifth generation fighter capability to their nation.

It's exciting to see expanding levels of international and domestic procurement of the aircraft as we work to deliver these revolutionary assets to our nation and allies.

While we had numerous accomplishments on the development program this past quarter, we were obviously disappointed with the necessary grounding of the aircraft fleet in response to an engine fire and damage to an Air Force jet at Eglin Air Force Base on June 23.

Subsequent engineering and safety analysis, including an inspection of the entire F-35 aircraft fleet, have been completed.

Flight operations were allowed to resume last week, but with some limitations until a final root cause of the engine failure and an identification of any corrective actions is completed.

I'd like to turn to some of the accomplishments achieved this quarter on the development program that included achieving over 17,000 cumulative flight hours on the program, demonstrating air-to-air combat capability and completing the first flight test with version 3i software.

Another significant accomplishment was the successful landing of a carrier-bearing aircraft at the maximum test speed and drop rate.

This success further paves the way to conducting carrier landings at sea later this year.

In the software arena, we are conducting final check out and testing of the version 2B software and are confident of being ready for initial operating capability of the STOVL aircraft in 2015 for the US Marine Corps.

We are also progressing well on version 3i software that will achieve the planned IOC for the Air Force variant aircraft in 2016.

Before leaving the F-35, I'd like to briefly outline our recently announced Blueprint for Affordability agreement with the Department of Defense on the Joint Strike Fighter program.

This agreement is designed to reduce the price of a new F-35 to under $80 million in then-year dollars by 2019, at a level at or below the price of fourth generation fighters.

Achievement of cost reductions will enable domestic and international customers to buy a fifth generation fighter with its far more advanced technology and capabilities as they capitalize their fighter fleets.

The need to replace fourth generation fighters is becoming even more acute due to the aging of the current fleet and increased strategic threats to the aircraft.

The agreement calls for our corporation and key subcontractors, Northrop Grumman and BAE Systems, to make total combined investments of up to $170 million in affordability initiatives from 2014 to 2016.

Recoupment of our investments, with an accessible return, is included in the agreement after achievement of reduced cost of F-35 aircraft in future years.

Our focus on cost reductions and affordability will be aided by this agreement, as we strive to produce the F-35 for our customers at the lowest possible price.

Beyond the F-35, I was in the United Kingdom last week at the Royal International Air Tattoo at Fairford and also the Farnborough International Airshow, where I had the opportunity to meet with many current and potential customers.

My impression from those meetings is that the demand for our portfolio products is strong and growing.

We see broad-based customer interest in areas ranging from fighter and cargo aircraft to missile defense systems, tactical missiles, C4ISR and IT solutions.

Customers are very interested in our evolving technologies, focus areas, where we are working to extend and expand the value and capabilities of our core programs.

One item that I would highlight is a demonstration of focus on providing innovative and different capabilities to an existing program.

It was seen on our LM-100J commercial airlifter program.

The LM-100J is the civil version of our proven and cost-effective C-130J Super Hercules aircraft and builds upon the legacy of the airlifter for new commercial customers.

We were particularly pleased to announce that we secured a letter of intent for our new LM-100J commercial airlifter.

This customer has the opportunity to purchase up to 10 aircraft and we believe the potential demand for this airlifter will only grow in the future.

The final topic I'd like to speak briefly about is the decision we made this past quarter outlining revisions in our defined benefit pension plan for salaried employees.

We took actions to freeze certain of our qualified and non-qualified defined benefit pension plans in a two phased approach and transitioned the affected employees to an enhanced defined contribution retirement savings plan.

Taking these actions will allow us to better manage our financial obligations at a more predictable rate, while still providing valuable retirement savings to employees.

Our goal is to offer competitive benefits that align with our global security and aerospace peers, while also attracting and retaining the talent that is so vital to our success.

These changes will provide current and future employees with an employee retirement savings plan that is very competitive in the marketplace, while positioning our pension expenses on a more affordable and sustainable level for the corporation.

I'll now ask Bruce to go through the details of second quarter financial performance and our increased 2014 guidance and then we'll open up the line for your questions.

Bruce.

Thanks, Marillyn, and good morning, everyone.

As I highlight our key financial accomplishments, please follow along with the web charts that we included with our earnings release today.

Let's start with chart 3 and an overview of the quarter.

Sales in the quarter were $11.3 billion, down slightly from last year, but actually a little ahead of our expectations.

Segment operating profit was strong at $1.4 billion and this performance, along with the improvement in our FAS/CAS pension adjustment, increased net earnings by 3% and increased earnings per share to $2.76.

We had a stronger cash quarter than expected, generating $977 million in cash from operations and we increased our full year outlook for operating profit, EPS, and cash from operations.

I think we had a strong quarter and first half of the year.

Turning to chart 4 and comparing our sales and segment operating profit results for the second quarter this year versus last year, sales were down slightly compared with last year, but as I just noted, this was ahead of our expectations.

Segment operating profit was about $100 million lower than the same period last year, but last year had the benefits of contractual resolutions that were not repeated this year.

Adjusting for these favorable item, our segment operating performance was comparable to last year and, again, was broad-based across our business areas.

Chart 5 shows that earnings per share increased by $0.12 or 5% over last year.

EPS grew despite the lower segment operating profit due to the change in the FAS/CAS pension adjustment from an expense last year to income this year.

On chart 6, we'll compare our cash from operations with the second quarter of last year.

Cash generated was just under $1 billion in the quarter or 57% higher than the second quarter last year.

The strong performance in the second quarter led to an increase in our outlook for the year, as we'll discuss on the next chart.

Chart 7 provides our current outlook compared to the one we provided in the first quarter.

We're maintaining our orders outlook at between $41.5 billion and $43 billion, but we're actually ahead of our planned order level through the first six months.

We have the large C-130 multi-year order planned for late in the fourth quarter and with the size of that order, we believe it prudent to leave the order outlook unchanged.

Similarly for sales, we are tracking nicely to our current guidance.

We're increasing our outlook for segment operating profit by $125 million, reflecting the strong performance to the first half of the year.

With the changes we announced this quarter to freeze our pension plan, we were required to remeasure our pension assets and benefit obligations.

In addition to the freeze, the remeasurement incorporated a new longevity estimate along with a lower discount rate and the net effect of these changes was a $100 million increase in our FAS/CAS pension income for the next six months.

We increased our operating profit outlook by $225 million to recognize both the segment operating profit and FAS/CAS pension income increases.

We also increased our earnings per share guidance by $0.35 and we'll discuss this in more detail in a couple of charts.

Finally, we increased cash from operations by $100 million to greater than or equal to $4.8 billion.

On chart 8, we have our sales outlook for the year by business area, which remains unchanged.

Chart 9 shows our updated guidance for segment operating profit.

We increased the outlook for operating profit by $105 million for Space Systems and by $20 million for Aeronautics.

For Space Systems, this reflects strong performance to date, along with growing confidence that two large delivery events planned for the second half of the year will both happen this year.

The increase in profit for Aeronautics recognizes the performance through the first half of the year being ahead of our expectations.

Moving on to chart 10, we'll discuss the increase in our earnings per share guidance.

The $125 million increase in segment operating profit raised our outlook by $0.25 per share, while the $100 million increase in FAS/CAS pension income raised the outlook by another $0.20 per share.

In addition, we reevaluated certain tax reserve positions resulting in an increase in tax expense in the second quarter.

Netting all of these changes, our new earnings per share guidance increased a total of $0.35 for the year to a new range of between $10.85 and $11.15 per share.

On chart 11, we thought it would be helpful to describe how the pension changes we've made will affect our expectations for FAS/CAS income and pension funding and recovery over the next few years.

As with all of these projections, it's important to remember that they're all based on current regulations and include our June 2014 assumptions for discount rate at 4.25%, which is 50 basis points lower than what we used at the end of last year.

The projections also incorporate new longevity estimate assumptions, our long-term asset return of 8%, and demographics holding constant or as I like to say, current course and speed.

We expect lower FAS expense in the future and that would make our FAS/ CAS income in 2015 about twice the 2014 level and increasing the 2016 level about $0.5 billion above the 2015 level.

For pension funding and recovery, we would expect our contributions to the pension trust over the next few years to be similar to or lower than the 2014 level and the future benefits associated with the roughly $10 billion we have funded but not yet recovered would remain intact.

Recoveries in 2015 and 2016 are expected to be sequentially higher than 2014 and essentially keeping pace with the increases in FAS/CAS income over the next two years.

Finally, chart 12 provides our summary for the quarter.

We're pleased with the performance through the first half of the year, as it results from continued strong program execution, along with taking proactive measures and the benefits of a portfolio of programs that is second to none.

We expect to resume discretionary share repurchases in the third quarter and this leaves us well-positioned to achieve the higher outlooks that we provided today.

With that, we're ready for your questions.

Shannon.

(Operator Instructions) Sam Pearlstein, Wells Fargo.

I'm wondering if you could talk a little bit more about the investments you're making in terms of the F-35 to reduce the cost?

I'm wondering, does it impact your booking margin on the program and how much is it shared amongst your partners?

Because it would seem like near-term, it should have a downward effect, even if you can then recover it on the back end.

I'm just trying to understand how the mechanics of that work.

Bruce, why don't you take that?

We're calling this the Blueprint for Affordability, as Marillyn said.

The overall objective is to put our money where our mouth is, quite frankly.

Because we think there are investments that could be made that will reduce the cost of the aircraft over the next few years below what it would otherwise track to.

The thought is, as Marillyn said, about $170 million, up to $170 million, spread over a couple of years.

You should think of that, Sam, as proportional in terms of the investment contributions to the work share of our partners.

Lockheed Martin, Northrop Grumman, and BAE would be expected, although it's not required because not all of the investments, frankly, will fall along that line, but for planning purposes, you could expect it's kind of proportional to the work share we each have there.

The recovery of that is tied to achieving those cost reductions.

As Marillyn said, we would expect to recover that investment plus an appropriate return on that investment.

Sam, to your question on booking rate impact, I don't expect this to have any negative impact on the booking rates for those lots affected, unless we are unable to achieve the cost reductions that we are projecting in the basis for those investments.

If we do what we say we can do, then you would see no impact on booking rates as a result of that.

I just want to add, though, this really is an exciting acquisition reform type of an initiative.

We think it's groundbreaking in terms of bringing this to the F-35 program.

We've been working closely with the Department of Defense for the past year to come up with this agreement and it lines right up with Frank Kendall's blueprint, his better buying power 2.0.

Where they've asked us to come up with innovative ways to drive down cost, as Bruce said, just volume will bring the cost down.

We expect that.

Probably 75-80% of the cost reduction comes through just ramping up production.

The numbers that I cited around bringing the cost of the aircraft down will depend, first and foremost, on that volume production.

But at the same time, where we make these investments and cost reduction initiatives, that will be the balance of it to bring it down to a fourth generation-priced aircraft by 2019 in then-year dollars.

We're very excited about it and we've already got projects under way.

Rob Spingarn, Credit Suisse.

Bruce, could you walk through some of the puts and takes in the pension numbers; headwinds and tailwinds?

Obviously, the discount rate, we have that from the K, but the mortality and then the upside from the freeze.

Yes.

Are you talking about the FAS/CAS income change for the next six months?

Yes.

You've netted the number to a positive $100 billion.

Yes.

Right?

Let me give you the pieces.

I should point out, Rob, what I'm going to talk through today is also going to be in the Q that you'll see, the 10-Q that you'll see filed tomorrow.

We started off with an expectation of FAS/CAS pension income of about $345 million for the year.

You should think of the design change that we are incorporating.

That comes in sort of two stages.

We have a freezing of the salary benefit effective 1/1/2016 and then we have the services benefit will freeze on 1/1/2020 and that'll be essentially a full freeze of the pension plan at that point in time.

The results of those amendment changes, if you will, is an improvement of about $435 million compared to what we otherwise would have had without that.

We actually had a positive through the first six months of the year that we recognized when we were required to remeasure assets and benefit obligations.

We did better -- our long-term assumption for the rate of return on assets is 8%.

If you just break that into two six-month chunks, you would have said the first six months should have been about a 4% return.

We actually did better than that.

That better return resulted in an $85 million net improvement.

The increased longevity impact for the year is about $265 million negative impact to the income that would otherwise have occurred this year.

The discount rate reduction, again, about 50 bps as I said earlier, is about $155 million.

Hopefully, if my math's right, that walks us from the $345 million to the $445 million pension income and that's the net $100 million benefit there.

Does that work, Rob?

I'll say yes.

Howard Rubel, Jefferies.

Marillyn, your focus on affordability is notable, I think, because the Pentagon and the Navy called out two of your business units for getting top procurement awards.

How important is that and what does that say about how you're going to push the rest of the business units to capture those sort of achievements?

Howard, thank you for your question and thanks for the recognition for the folks that are doing the right thing that the Navy and others have focused on our performance.

We're excited about that.

Frankly, affordability is a daily focus for us across the entire corporation.

Every one of our business areas is tracking to drive cost out of the business and look at how they can bring innovation forward into some of their products in order to make them more affordable for the customer.

It isn't just those that happened to get a recognition from our customer, which we highly value and appreciate, but it is across the business that we are doing this.

I know if you look back at what we've done in terms of reducing our footprint with our square footage reductions, shutting down some of our facilities, things that we're doing across our overhead structure and our expenditures and at the same time, how we're looking at making sure that we're performing on a daily basis so that if you look at our operational execution this quarter and for the past several quarters, I've never seen our programs performing better.

We're putting out quality products on time, under budget, and meeting the commitments of our customers.

The recognition that you highlighted was from the Navy, and not all of our business areas work with the Navy, so we would seek similar recognition from other services where it's warranted because we are, across the board, working on affordability.

Thanks for the question.

George Shapiro, Shapiro Research.

Bruce, I wanted to pursue a little bit more in aeronautics.

You basically have a lot of puts and takes there, like you get $40 million more F-22 sales and pick up $35 million profit.

The F R&D program is explained by, you took the charge last year.

F-35 sales are up $210 million, but no change in the profits, so is that an issue of where you are in the [elerent] program?

If you just could explain some of those comments?

Maybe I'll just hit all of the moving pieces in Aeronautics, George and hopefully I'll capture the intent of your question.

Collectively, we were up about 13% sales Aeronautics, almost $450 million, about in line with what our expectations were.

We said all along that we expected to have Aeronautics be really the only business that has any significant growth to speak of.

That, of course, was led by the F-35 program.

You mentioned about $210 million of that came from the production program.

The total F-35 program was just under $300 million with the difference coming on SDD contract.

Most of that increase on the OCD come in because we don't have the negative profit adjustment that was taken in the same quarter of last year.

C-130s were up about $75 million or so, really, it was one additional aircraft this year versus last.

C-5, a similar story, one additional aircraft and a partial -- it was up about $45 million.

That is attributable to one additional aircraft, but it was partially offset because of a little bit of lower support in spares this year as compared to last.

As you said, the F-22 is about $40 million.

Almost all of that F-22 sales volume resulted from the higher risk retirements on a number of programs within the F-35 program that were about $35 million of that $40 million in total.

I think your question was the F-35 production program up about $210 million while the profit level was flat and that's right.

What that really results from, George, is just as you speculated, we did have a number of higher risk retirements in the second quarter of last year that were not repeated this year.

I think that's just the phasing of when those events occurred and it's not something that's causing a long-term concern on my part.

I think we're performing actually very well in the production programs at large as we sit here today.

Jason Gursky, Citi.

I just wanted to ask a question on Missile Defense and MEADS versus Patriots.

Can you just describe a little bit on where we are today with MEADS from a revenue perspective?

If we don't get an additional signed there, when does the revenue stream trail off?

Maybe just talk about the competitive environment in MEADS versus Patriots and how much you care either way, which direction this all goes.

Bruce, you take the revenue question and I'll talk a little bit about the competitive environment.

Yes.

You had the same thoughts I did there, Marillyn.

I was trying to write those down as you were talking, Jason.

Revenue stream and what's the current flow of --

Yes.

Yes.

Current revenue level.

You should think of it as fairly minimal right now.

That's primarily because the development program that has been undergoing for the better part of, I don't know, five, six, seven years or so has now sort of wound down to the end.

The actual sales or revenue that is being generated by the program this year is not all that consequential.

When that would fall off is when the development program finishes, which is, if not close to the end of this year, maybe a little bit into early next year.

That's the profile you should think of in terms of the revenue profile that we're looking at.

What we're obviously trying to do is now convert this from this program that has sort of finished the end of the development into a production contract and that's what we're trying to do.

That's what we're trying to do in Poland.

I think the next opportunity is probably going to come up in Germany.

I'll let Marillyn maybe discuss the more strategic views of MEADS versus Patriot.

Sure.

Thanks, Bruce.

We are continuing MEADS, frankly, I'll just say right upfront, we're disappointed the Polish government announced they're down selected to offerings and MEADS didn't make that down select, because we really believe it offers the best capability.

It's the most modern, mobile unit.

It's 360 degree capability, open architecture.

It's got all of the things that we think was a very good offering for the Polish government.

At the same time, as you know, Italy and Germany have invested a significant amount of their funds into the program collectively with the US government.

The next opportunity for us is to continue to work with Germany and Italy on developing their future air and missile defense systems.

Germany will be making a decision later this year.

We feel very good about how MEADS will stack up in that competition.

As I said, they've made a significant investment.

They understand the capabilities.

We expect that to be strong.

The program itself, as Bruce said, we're going to continue through the development phase on it and we also expect that the US Army will continue to review it and figure out how they can harvest some of the technology from MEADS.

Also just to highlight for you, we still benefit, as well, from the Patriot system because, as you saw, the recent opportunity with Qatar being announced and others, we are on the Patriot system with our missiles, with the PAC-3.

Both systems will have an opportunity for it, but we are front and center in the marketplace with MEADS and expect that Germany and Italy will look seriously and there are other countries as well.

Doug Harned, Sanford Bernstein.

Staying on this area, Missiles and Fire Control orders were lighter than normal during the quarter.

I wonder if you could give us a sense of how you're looking at the outlook for that group in terms of order flow?

Obviously, PAC-3, THAAD, those are important parts of that.

Maybe you can give us a sense of where the international opportunities are and how you see that unit moving over time?

Okay.

I'll take that one on, Doug.

I think the biggest near-term international order for Missiles and Fire Control is probably the PAC-3 for Qatar.

Marillyn mentioned that, as well, just a second ago.

That's probably one that we're looking for, hopefully.

I think we had a signing ceremony in the Pentagon in the last couple of weeks that will lead to a contract award to us, hopefully sometime in the third quarter.

One that might not be on your scope, Doug, it's a big sized order for us and it's one that's worth discussing is potentially about a $1 billion order for a Scout fighting vehicle in the UK.

This is basically putting a new turn and new capabilities on an existing combat fighting vehicle in the UK and that's being operated or performed by our LMUK operation.

That's a fairly sizeable opportunity that we're very excited about.

We think that actually has some export potential, even beyond the UK for that vehicle.

Those are two of the bigger ones that we're looking at in terms of international orders.

But I'll just say, just looking at the rest of the year, the expectations for Missile and Fire Control is we'll probably get back to about the similar level of backlog as where we ended the year at 2013.

Of course, we always have the fourth quarter of our calendar year being the first quarter of the new fiscal year and we tend to get a lot of our domestic orders in that quarter and I would expect that'll happen again this year.

Yair Reiner, Oppenheimer.

For Space Systems, you mentioned that the EBIT upside relative to the prior guidance is going to come from two deliveries now happening in the back half.

Why didn't that impact the sales guidance as well?

Yes.

That's a good question, Yair.

Let me just say there's probably -- I'll say maybe like three moving pieces that are going on in the Space guidance and I'll address the sales, as well here.

But first and foremost, we've had better performance year-to-date.

Some of that has come on the back of the United Launch Alliance.

That higher to-date performance is going to carry out through the rest of the year, so that's part of the increase there.

Secondly, recall probably in both the fourth quarter call of last year and the first quarter call this year, I talked about some continuing restructuring charges, particularly as we're shutting down some facilities and relocating operations from those facilities elsewhere within the Space Systems portfolio.

Those charges have actually turned out to be a little lighter than we expected that they would be when we set the guidance for this year.

Importantly to note, they're still back half-loaded in the year.

But the total year is expected to be lower than what we initially envisioned when we gave the guidance for 2014.

Specifically to your point on the two launch vehicles, we've probably had a little more contingency or conservatism in our profit guidance associated with those items, only because our profit guidance range is pretty narrow, frankly, for Space Systems company.

I think it's about -- what is it, $30 million or so from the low end to the high end.

These are items that are probably [bed] sized, at least, collectively.

Whereas the sales is probably contained within the $300 million range that we give already for the sales guidance.

While I recognize why that could seem like a disconnect, I think it's because of the size of the ranges of the sale versus the size of the ranges for earnings.

Noah Poponak, Goldman Sachs.

Bruce, I wanted to get a capital deployment update from you.

On M&A, you guys have been kind of doing smaller things in areas of growth.

Others in the space have suggested M&A could pick up.

I wonder if you think that's possible.

What's the probability that annual number for Lockheed moves into the billions rather than hundreds of millions?

On the share repurchase, any color you could give on the anticipated pace at which that picks back up, since you mentioned that's going to happen?

Yes.

Noah, I'll jump in a little bit on the M&A question and I'll see if Marillyn has any higher overarching thoughts than I provide.

I think the short answer, the question if I can repeat it, you've done some smaller acquisitions and what's the potential that we could end up with maybe more than a billion dollars in a year instead of several hundred millions of dollars in a year?

I think the short answer to that is it's opportunistic.

It's what we see.

We've always said, at least since I've been in this job, we look at a heck of a lot more opportunities for M&A than we ever execute on and that's because we don't think all of it makes sense, obviously.

If we find more deals that make sense for us, both strategically, financially, and operationally, then we'll close that.

There's not a certain number, if you will, that we're trying to stay below or try to exceed in getting that number.

I think historically, if you take a look at our capital deployment and our share repurchase plan, we ended the year last year at about $2.6 billion of cash on the balance sheet.

We've grown that.

I think we're about $3.4 billion or so today.

I think I said on the last call that we would probably try to get to a share repurchase level that would bring us about in line with where we ended last year with cash on the balance sheet and you can probably solve for that number better than I can, frankly.

But that's probably my best indication of what the remaining expectation, at least on our part, is for share repurchase s through the rest of the year.

I'll ask and see if Marillyn has any different thoughts on the M&A question.

Not different, Bruce.

I think you covered it well.

We will continue to look at selective acquisitions that really make sense for us.

We will look at things that give us new access to markets or some unique technology or capability or things that fit with our core or that are very near to our core, just as the ones that we have done in the past quarter line up very well with our core business.

We've recently, in the previous quarter, we bought Industrial Defender, which is the leading provider for cyber security solutions.

You can look at the things we're buying.

If they create value and they strategically and operationally line up with what we want to do, then we're going to continue to look for those opportunities.

As you can tell from what Bruce has described, we have a lot of capability on our balance sheet to do what we think makes sense.

We're just going to go along our normal process of assessing and determining if it's a good fit for us.

Rob Stallard, RBC Capital Markets.

Bruce, just a couple of quick guidance questions.

What do you expect the four year tax rate to be?

Also, what are the factors that you see weighing on the Aeronautic margin in the second half?

I think we'll be somewhere in the 32% range, maybe a little lower than that as we sit here today.

The one wild card, obviously, is whether or not we have the R&D tax credit between now and the end of the year.

I believe we'll ultimately get the R&D tax credit at some point in the future, whether it happens this year or we sort of have the retroactive event like happened last year.

I hate to predict that, but that's not included in the tax numbers that I just gave to you, Rob.

The second question was on Aeronautics and the second half of the year.

As we sit here today, we've actually had very good performance for the first six months for Aeronautics; as I said repeatedly in the opening remarks, better than our expectations.

As we look today at the guidance that we're providing, that would suggest that we're going to have lower margins in the second half of the year than the first half of the year; not hugely lower, but that's the result of probably lower planned risk retirements as we sit here today and think of how we are planning for those risk retirements in the future.

The first half had the benefit of some of those exceeding our expectations.

I think there's some potential upside that we could exceed our expectations of what we have planned for those second half risk retirements today.

The other piece that sort of has a negative push on margins in the second half is obviously the rising volume of the F-35 program at the lower margins and the overall Aeronautics margin.

That will continue to happen in the second half of the year as well.

Myles Walton, Deutsche Bank.

First is just a clarification, Bruce.

You gave us a ton of moving parts in the pension, but if you can just give us what the FAS and the CAS components were?

The actual question is more on Space where this is the fourth year in a row where you put up or you're going to put up 13%, maybe better margins.

It looks like there's even some conservatism left for the second half.

Is this a 13% margin business on a go-forward basis?

Myles, it surprised me a little bit.

Space has the benefit, obviously -- I'm going to answer your second question first and I'll come back to the FAS/CAS.

Space has the benefit of getting quite a significant portion of equity earnings associated with our 50/50 joint venture and the United Launch Alliance.

The actual margins on the rest of Space's business, because we're recognizing the profit but not recognizing the sales, has a boost in the profit that's not inherent in the rest of the portfolio.

We also have a joint venture in the UK, where we're also accounting for it with equity earnings, with the atomic weapons establishment, although it's a much lower piece of it.

You should think of the two of those as adding a pretty good boost to the margins of Space.

Those have increased over the past few years over what they were, say, three, four, five years ago.

We also had the transition in Space of having a number of programs in concurrent development and almost every single one of those programs is now in full rate production; as much as I can say full rate production for Space, which is usually small quantities of spacecraft.

Programs like SBIRS, advanced ECF, [MUOS], even to a certain extent the GPS-3, we're sort of on the tail end or hopefully completed with the development of a lot of those satellites and we're now in production and you would expect to see higher margins during that performance.

Also, I'll just say the performance on a number of our special programs activities within Space has been outstanding; both from a capabilities perspective, as well as the financial performance there.

Whether or not we can continue that, Myles, I think we've got a little bit of actually negative, as I talked about earlier, in terms of the restructuring cost that eventually will go away.

You should also think, though, that we have about $40 million a year, I think, associated with the formation of ULA that is a recurring benefit that, I think, expires in 2016 or 2017.

I've lost track which.

That's associated with the gain we had on the contribution to form United Launch Alliance and got spread over 10 years.

Will those offset the restructuring charges going away into sort of that recurring benefit at the end of the 10 years?

That's the challenge for us and to see whether or not we can maintain that streak.

I think you asked specifically what are the FAS/CAS numbers?

I gave you the net at $445 million.

CAS does not change, so that's still -- think of it roughly $1.6 billion.

The FAS expense, and I'm rounding some numbers here, I think FAS expense changes to about $1.15 billion for the year.

I think that probably nets to $450 million, but that's kind of the close to the pen math.

Joe Nadol, JPMorgan.

I wanted to drill a little bit into the Mission Systems and Training segment.

First of all, if you could give a little color on the reserves you recorded on the programs in the quarter?

Secondly, maybe higher level, I think this was the first quarter where you had a negative profit adjustment since you started giving all that level of detail over the last three years.

I know you had the tough compare with the settlement of Presidential Helicopter from last year.

Higher level, what's the momentum in terms of performance in this segment because it's been so good over the last couple years?

Thanks.

Yes.

I'll try more moving pieces there, Joe.

Thanks for the question.

All of the reserve that we took in the quarter is really associated with the Training and Logistics Solutions part of the business.

This is a part of the business that really serves the variety of customers, including the US government, international customers, as well as commercial customers.

You should think of this business, at least in large part, you sort of have to have products developed and ready for the market in order to be able for it to be competitive in this marketplace, which means to me that you have to sometimes make bets in terms of the configurations, the capabilities, and the quantities of these new products.

We probably didn't make all of the right bets here and so we established some reserves in the case that some of the risk associated with some of the inventory that's on the balance sheet today simply doesn't find a home in the long term.

You talked about this being the first quarter of the negative hit there and you're right.

What I'm pleased with is, essentially even with that reserve that we established for the Training and Logistics Solutions business, they were sort of offsetting step-ups or risk retirements that mitigated essentially to the full extent that reserve that was established, such that the net change for the quarter over quarter was really just the change in the contractual resolutions that happened last year that didn't happen this year.

That's the way I think of it.

The big reserve that was established, we also have big risk retirements that were planned in the quarter that helped mitigate that.

I will say that the second half step-ups that are planned, at least from a risk retirement perspective in the second half of the year, are probably going to be comparable to what we saw in the second half of 2013.

I always say that's sort of the current planning and the current thinking as we sit here today.

Thanks for the question.

John Godyn, Morgan Stanley.

Bruce, just two clarifications, a little bit separate.

First, on international revenue as a percentage, it looks like you're going to hit your 20% target this year.

I'm curious if there is another target that we should be thinking about years in the future.

Separately, on pensions, you presented some very good detail on FAS/CAS and prepayments.

One of the areas of pushback that I sometimes hear is that you do have a lot of contributions coming that will eat into what the cash windfall might look like.

I was hoping that you could, perhaps, offer some detail on that point.

Thanks.

Okay.

First question, John, on the international revenue and where we are, I think we did right at or just under 20% in the quarter.

You're right, we are kind of hitting our number.

The goal is clearly to be higher.

One thing frame of reference-wise is if we do what we believe we'll do from an orders perspective this year and we end up at the backlog level that we're hoping for, probably 30% of that backlog could be international business.

I'll probably defer to Marillyn as far as setting the new goal for the Company.

But I would like to think that if we haven't hit the 20%, we're real close and I would think that just by virtue of the backlog that we expect to have, we should have a higher number than that in the years to come.

Now, probably the best time for us to describe that is in October when we give you trend information for next year and, frankly, we're kind of smack in the middle of our planning process right now.

I'll probably hesitate to pick the number directly until we've had a chance to take a look at that planning information and get back to you in the October timeframe.

I think your second question was on the contributions coming and is that ahead?

I tried to give you some visibility into that as far as the future contributions that we have planned in 2015 and 2016, at least, where I said they'd either be sort of equal to or lower than the 2014 level.

That's probably about as much insight as I want to give right now.

I think the important part is the net cash, at least as I like to think about that, and net cash is going to be increasing pretty substantially.

I may have spoken in a little bit of code when I gave that information, but hopefully you followed the information that we were providing there and that is expecting to continue.

The flip side that I like to always remind people, and I talked about this in the earlier remarks, we have this $10 billion or so of advanced funding that has yet to be recovered.

Just a year ago or so, that was like $9 billion.

Those assets are sitting in our pension trust today and they're accruing interest at the same rate as our asset return is making.

One different way to think of that, possibly, is we're doing a whole lot better with those assets invested in our pension trust than if they were doing nothing other than sitting on the balance sheet.

I don't think it's a bad use of that cash.

As long as we can continue to satisfy the constituents in terms of dividends, repurchases through our shareholders, doing the investments we need to make with our customers, I think that's a good use of our overall cash employment, as we sit here today.

I'd just add to Bruce's comments on the international side, while we're not going to give you a specific number today, aspirationally, we're going to continue to grow in our international area.

We're very much focused on that expansion of our business.

It is where the growth opportunities are for us.

We think we're extraordinarily well-positioned with our portfolio for growth.

F-35 certainly is one area, because we see in the next five years, almost 50% of the orders are going to come from the international arena.

But in addition to that, as we've talked about, our Missile Defense there's expanding for that around the world.

We see a lot of opportunities in the full range of our capabilities and we're going to continue to grow.

We even realigned our organization such that we have more leadership and focus and resources from an enterprise standpoint so that we can win in that marketplace.

I think that's a good thought, Bruce, that we come back in the fall to give them that new target.

But, believe me, it'll be about 20%.

Carter Copeland, Barclays.

I wondered if you could expand a little bit on this pension piece?

The delta in the FAS number would most likely related to the actuarial amortization, not service and interest cost, I would assume, since those aren't changing into benefits until 2016 and 2020.

Where does that bring the plan now that you've remeasured from a funded status on a PBO basis?

When you look longer term, if that's substantially lower, does that have a material impact on the longer term CAS reimbursements you'd expect to see, as these prepayment credits are then collected and you look beyond that?

You've got your money's worth for the question, Carter.

I try my best.

I think I'll answer your second question first.

On a FAS basis, amazingly enough, our funded level ends up at about the same point as we ended the end of the year last year, at about 78% with all of the moving pieces.

On an ERISA basis, which is, obviously, the more important one because that actually determines our funding level, we stay at about the 90% level just, again, as where we ended the year last year.

I'm not sure I follow, frankly, the first part of your question, Carter, but I'll just go back to the details that I gave and I can't remember who I provided that to, frankly.

The pieces of the $100 million and the various components of that in terms of pension change, the remeasurements that we took are affecting both service costs and actuarial losses to use speak of the FASB and the 10-K and 10-Q disclosures.

Those did affect both the service costs and the actuarial losses this year and they affected it just for the last six months of the year.

You should think of those as increasing in future years, only because there will be a full year's worth of cost or service benefit versus a half year's for the same items there.

I think your last question had to do with how does this affect recovery.

What I've tried to convey is that I think our recovery remains strong and I think I gave some insight as to what that would look like.

Clearly, relative to this $10 billion that we keep talking about in terms of pre-funding or funding in advance of the requirements, that is going to continue to drive our overall cash collections for the next decade or so.

You're starting to see that materialize now and in the not too distant future.

Shannon, I think that's getting us on top of the hour, here.

Maybe, Marillyn, some final thoughts.

Sure.

Let me wrap up.

I just want to conclude today's call by reiterating that we had another excellent quarter and we, in my view, continue to be very well-positioned to deliver even higher value to our customers and our stockholders in 2014.

We want to thank you, again, for joining us on the call today and we look forward to speaking to you at our next earnings call in October.

Shannon, that concludes our call today.

Thank you.

Ladies and gentlemen, this concludes today's conference.

Thanks for your participation and have a wonderful day.