雷神技術公司 (RTX) 2002 Q4 法說會逐字稿

Good morning, and welcome to the United Technology's fourth quarter, 2002 conference call.

Speakers today are Steve Page, Chief Financial Officer and Tom McEachin, Director Investor Relations, and Jim Geisler, Director of Planning Analysis.

This call is carried live on the Internet, and there is a presentation available for download from UTC's home page at www.UTC.com.

The company reminds you that the earnings and cash flow expectations and any other forward--looking statements provided in this call are subjected to risks and uncertainties, UTC SEC filings, including their 10Q and 10K reports, provide details and important factors that could cause actual results to differ materially from those anticipate in the forward--looking statements.

Please go ahead, Mr. Page.

Thank you, and good morning.

And I was going to wish all of you a happy and prosperous new year.

Yesterday I lunch with Louis Chenevert, our esteemed leader of Pratt and I said that to him, I said, "Happy and prosperous new years" and Louis said," Why don't we just wish for a healthy new year and if we have our health, we can take care of rest."

I thought that was sort of good words of wisdom for all of us and sort of something for us to think about, because we're going to spend the next hour talking about the health of United Technology Corporation.

As the operator mentioned, we do have this presentation on the web, so we will reference a slide or two as we go through this, just to be sure we're all tracking together.

So let's talk about the fourth quarter.

Earnings per share up to $1.06, well above what reported last year, and earnings for the full year were at $4.42, which again, was above the guidance that we gave you in February of 2002 and also the guidance that we gave you during the middle of the year.

So we are very pleased with the performance, not only for the quarter, but for the full year.

Free cash flow--very strong.

You saw the number of 381 million dollars for the quarter, 2.3 billion for the full year.

Full year number subtantially exceeding our net income and this after, I repeat, after, a 500 million dollar cash contribution in the fourth quarter to our pension plan

These numbers, these cash flow numbers are four percent ahead of a year ago, and I think it's a very healthy report on cash for

, but I think it's also what you expect us to do.

The result of this strong cash flow gives us a debt to capital for yearend of 37 percent, which is equal to last year, and this is after a $1.6 billion charge for the pension accounting.

This is a FAS 86 charge that I think we talked to you about last time, which is also in the 37 percent debt to capital number.

On a net debt to capital basis, we're at 25 percent -- a very good 25 percent -- which is four points lower than a year ago.

Let me spend a minute talking about the divisions, and then I'm gonna turn it over to Tom, so he can go into some more detail about the divisions.

and his team at Carrier -- we're seeing the shift starting to turn.

The team has been in place for only 12 months, and you've seen some very significant progress and improvement at Carrier during those 12 months.

A higher revenue in the quarter and higher profitability -- the margin is up 140 basis points, quarter-over-quarter -- and you've noticed that the full year is a 10 percent return on revenue.

So, congratulations to

and his team.

Otis -- very good revenue growth in a difficult environment -- seven percent revenue growth for Otis, and that's

and his team.

Really a very strong year, very well-balanced throughout our world, and again, very good results with seven percent revenue growth, in addition to another one point of operating margin improvement.

That's a great combination, as you all know.

Aerospace results -- they're down slightly, but it's very consistent with what we told you in February, what we expected.

And we see that continuing to be rather soft, and we'll talk to you a little bit more about that later.

If you think about the year, 2002, it was a very difficult business environment.

Commercial aerospace was sluggish throughout the year.

The power systems industry was very difficult.

Construction market in the U.S. was tough.

A lot of head wind for corporate America with pension costs and also insurance costs -- very high insurance premiums, year-over-year.

So, it put a lot of pressure on corporate America, and I do believe United Technologies managed through this very well because of the diversity of our business, and our geographic balance, which has really helped us.

And our military segment is really, truly a highlight of the year.

It was up 25 percent, which offsets the commercial weakness substantially, so a very good year in military.

Residential construction, which is very important to Carrier, was positive.

Asia -- very good for us, and as you know, we have a 20 percent share of our business in Asia, so very positive, very good to us.

And finally, after all these years, foreign currency is no longer something we have to overcome.

We actually have a little bit of wind at our back.

So, in light of very difficult business environment for 2002, I think we're very pleased with the way United Technologies performed, and we ended the year with a very healthy balance sheet, as we mentioned.

OK.

I'm gonna come back later with a few comments, a few closing comments, and Tom is gonna take you through some detail now with the divisions.

Tom?

OK.

If you're following along with the presentation, we're on slide six.

Starting with consolidated revenues -- $7.2 billion in the quarter.

That's three percent above last year, with increases across all of the segments.

That's about two percent higher at constant currency, and that growth is about half organic.

Full-year revenues, 28.2 billion, that's one percent above last year.

Earnings per share, $1.06 and a quarter, up 54 percent.

If we exclude the goodwill, that would be up 33 percent, and I'll take it one step further.

If you exclude the fourth quarter 2001 restructuring, earnings were up nine percent, which is a very good growth rate as we head into 2003.

Earnings per share for the year was $4.42.

That's up 15 percent, four percent, excluding goodwill.

Foreign currency provided two cents in earnings per share for the quarter, in line with expectations, and five cents for the year.

Included in fourth quarter earnings are the impacts of a lower effective tax rate, including, among other items, the utilization of an expiring capital loss carry-back and $33 million, due to favorable resolution of an employee benefit plan exposure.

This was more than offset by $125 million of restructuring cost, primarily related to headcount reductions that are spread across the businesses.

Free cash flow, cash flow from operations less capital expenditures, was $381 million for the quarter, and that's absorbing a $500 million pension plan contribution.

Within that cash flow, cash flow from operations was $563 million, and cap ex was $182 million.

As Steve mentioned, free cash flow for the full year was $2.3 billion.

That exceeded net income.

That was up four percent from a year ago.

Some of the uses of cash, we had $80 million of acquisition spending in the quarter.

For the year, $424 million.

That's a bit below 2001, but we simply didn't find enough deals we liked.

We also increased share repurchases in the quarter, spending $306 million, in total, $700 million of share repurchase for the year.

That's $100 million more than last year.

Now, turning to the segments, and I'll adjust 2001 for goodwill accounting and for restructuring cost, and for this discussion, I've also adjusted 2002 for the first and fourth quarter restructuring, since these costs were principally offset by gains outside the segments.

Second and third quarter 2002 restructuring was not material.

On slide eight, Otis, another solid quarter, with revenues up nine percent and operating profit improvement up 20 percent.

At comps and currency, revenues at Otis increased by five percent, with about half of this organic growth.

Operating profit, adjusted for currency, increased 14 percent, reflecting growth in Asia and Europe.

Otis announced a number of important awards in the fourth quarter, including metro projects in the cities of Shanghai and

, China; a metro project in Athens, Greece; and two high-rise building projects in Sydney, Australia.

Overall, another year of border growth for the company, on top of strong growth last year, despite economic weakness in many of Otis's markets.

At comps and currency, full year orders were up low-single-digits organically, and 10 percent in total, reflecting strong performance by recent acquisitions in Asia.

Otis performance was also strong throughout the year with 15 percent higher operating profit on seven percent higher revenues.

At constant currency, profit improved 13 percent, six percent from revenue growth, and revenues and profits improved in all regions led by Asia and Europe.

Turning to Carrier now, Carrier had its second consecutive quarter of revenue growth; that's good to see.

Revenues were up one percent with operating profit up 30 percent.

Our Carrier's margins improved by 140 basis points, despite a difficult pricing environment for HVAC and a weak commercial HVAC business.

Carrier benefited from cost reduction actions, a small gain from the divestiture of a non-core business and better volume.

We saw growth in transport refrigeration.

Latin America rebounded versus a weak 2001, and North America residential demand was again better year over year, although at a slower pace.

However, as we said, that commercial HVAC demand, particularly in North America and Europe remains weak.

In November, Target Corporations selected Carrier as a strategic construction partner, as part of their aggressive expansions plans, and over the next few years, Carrier could supply all of Target's air conditioning and food display refrigeration needs.

This adds to the, when we talked to you about, last time, with Sears carrying our products.

For the year, Carrier margins improved 60 basis points to 10 percent, with earnings of five percent, but one percent lower revenues.

Driven by aggressive cost reduction actions, very good performance for Carrier in this first year of their turnaround.

If you refer to slide 10, turning to Pratt and Whitney, operating profit was up two percent versus last year on five percent higher revenues.

Increased military engine shipments, during strike fighter development and other military business more than offset lower power systems and Pratt Canada business.

Pratt's large commercial spare parts orders were up in the quarter, given the easy compared to last year, finishing 2002 near the forecast that Pratt made early in the year, down about 10 percent on a year-over-year basis.

Pratt's military business has been a bright spot all year long.

In December, the government of Poland announced they would buy F16's, 48 F16's with Pratt and Whitney's power.

In fact, Pratt has won about 75 percent of all international F16 competitions over the past decade.

Also during the quarter, Pratt had a more than $600 million contract with the U.S. government to supply engines for the F22, which will extend that production into 2004.

For the year, Pratt and Whitney operating profit declined by five percent from flat revenues, essentially the growth in military and commercial aftermarket services was more than offset by lower Pratt Canada business, commercial engine spares and power systems.

In the flight segment operating profit for the fourth quarter was 14 percent higher than last year on three percent revenue improvement.

Higher after market at Sikorsky, in part from the acquisition of

earlier was partially offset by fewer helicopter sales and lower commercial Arrow OEM sales at Hamilton Sundstrand.

Hamilton's military business continued to strengthen year-over-year while the industrial businesses appear to be stabilizing, they were about flat for the quarter of Hamilton's industrial businesses.

In December Sikorsky's S92 helicopter achieved FAA type certification after completing quite a few test flight hours.

The S92 will be available in a varietyt of of configurations for commercial customers, offshore oil, VIP, airline and other missions.

For the flight segment, full year, operating profit was down by 3% on 5% higher revenues.

Reasons, lower commercial aerospace aftermarket and industrial business at Hamilton Sunstrand, along with higher R&D for certification of the S92 helicopter more than offset increases after market at Sikorsky.

The fuel cells business, Nisson unveiled it's first UTC fuel cells powered car in December, the

.

This is the first vehicle we have developed in our parnership with Nisson.

In addition, a bus built by Ford Industries and powered by UTC fuel cells power plant went into passenger service

the first fuel cell hybrid bus to do so.

I'll now talk about the few corporate items.

Eliminations and other income, it's unfavorable in the quarter and the year.

You will recall that 2001 results included benefits from tax settlements.

On the corporate expense line, its favorable in the quarter,

the employee benefit plan that I mentioned earlier.

Our tax rate, 22 1/2% in fourth quarter.

This brings the tax rate to 26.1% for the full year.

However, we believe a higher rate, somewhat closer to the

we saw earlier in 2002 is a more sustainable for 2003.

On the pension side, we changed our pension measurement year--end date from September 30 to November 30.

This puts us in line with most of our peers with a measurement date more closely aligned with our fiscal year end.

No 2002 P&L impact as a result.

We recorded an additional minimum pension liability of 2.4 billion and an after tax equity charge of 1.6 billion.

This is at the low end of the range this we talked to you about on the Q3 call.

As we noted last month at our December investor meeting, we've made some sizable changes to assumption in the pension plans for 2003, reducing the ROA to 8 1/2% from 9 1/4%, and that's down from just two years ago, 9 3/4%.

We will also take the discount rate down in 2003 to 6.75% from the 7.5% in 2002.

I think you will find that we're on the conservative end versus peers with these assumptions.

That's about a

of pension related head wind for 2003 consistent with what most of you have been expecting.

And now I'll turn it over to Jim for guidance.

Thanks Tom, and good morning everyone.

I'm going to take us to slide 14, now, and as Tom mentioned Make some comments on 2003.

You will see on the page that our guidance is unchanged from what George David told you in December.

We expect Otis to grow revenues in the mid single digit range, to generate operating margin improvement of a little bit more than a point.

Carrier should generate margin improvement of a little bit less than a point, assuming low single digit revenue growth.

And in the aerospace companies, revenues will likely be about level with 2002, with perhaps as much as a point of margin expansion.

Regarding aerospace, we expect continued difficulty for the commercial aerospace industry, particularly, the U.S. airlines.

And although the industry -- although some in the industry expect as much as a five percent improvement in the global airline traffic versus 2002, frankly, we're not so sure, and

hedged some of this, along with the other inevitable bad things that happen.

I think all this makes us comfortable with the year 2003 earnings per share range of $4.55 to $4.80, and the consensus estimate of $4.69 for earnings per share in 2003.

In addition, we anticipate the quarterly earnings growth rate to be pretty consistent throughout the year.

Now, despite conservative assumptions we have regarding next year, there are several elements, obviously, beyond our control.

Should there be a war, double-digit decline in U.S. housing starts or extreme airline stress, obviously, we would get back with you.

Regarding cash in 2003, we like strong cash flow and traditionally target achieving free cash flow in the range of net income.

Now, obviously, the timing of large cash flow items can drive some quarterly variability.

For instance, as you saw in this past fourth quarter, our $500 million cash contribution to the pension plan held free cash flow to below net income, yet full-year free cash flow for 2002 still exceeded net income.

Earlier in January, you probably saw that we made another voluntary $500 million contribution to our pension plans.

We hope to cover this contribution with strong cash flow in the following quarters, and again, achieve free cash flow in the range of net income for full-year 2003.

Steve?

Thanks Jim and Tom.

Over the last few weeks, months, we've had some questions from you dealing with the president's proposed tax changes.

This refers to the dividend possible reduction or elimination of double taxation on dividends, and the question is, "well, what are you gonna do about it if it should happen?"

As you know, our dividend policy has been steady increases every five quarters in line with our earnings growth.

We certainly fully expect to do that.

And as far as the president's tax proposal is concerned, we're certainly get back to you once we see how that is finalized, if that is finalized.

The other question we usually get is on stock option accounting.

I think you know, or some of you know that the FASB has, in fact, issued some new literature on stock option accounting, which just came out a few weeks ago.

They do not require stock options to be booked as an expense.

It's still on a voluntary basis.

They give you sort of multiple choice in how you want to do it.

We continue to review this.

We continue to review where corporate America is on this.

The issue that we still struggle with is the valuation of these options, and the comparability.

Given the fact that there's multiple choice on accounting, what about comparability?

We understand FASB will again this year talk, or look at stock options, and we expect further information from them and guidance, and certainly we'll continue to monitor this.

At the last slide of the package, for those that are following, on page 16 is our businesses, and what this shows, I believe, is a very balanced corporation.

Our geographic diversity -- you see on the chart 45 percent of our business is in the United States.

We have about 22, 23 percent in Europe, 20 percent in Asia, and the balance in Canada and Latin America of about 10 percent.

So, very good global balance.

Just to again refresh your memories, our Commercial-Industrial business today is 60 percent, 60 percent of United Technologies, and our Miltiary-Aerospace business is 20 percent, with 20 percent today being Commercial Aerospace.

So the company has transformed itself fairly dramatically over the past 10 years.

And again, on the aftermarket, over 40 percent of our total business is aftermarket, with a little less than 60 percent on OEM.

And this gives us a balance where we can normally wade through, and have waded through, some of the difficulties in the business environment that we have seen over the past 12 months, and we fully expect 2003 to be as difficult as 2002.

Our approach, which I think is pretty good, and it's an approach that George David and his team have used for the last 10 years is, as we go into a year, we make realistic assumptions about the year.

We're fairly aggressive about things that we can control, which obviously are costs.

And we're conservative where we don't have complete control.

And we always, as you know, we always leave room for bad things to happen.

It's one of George's famous comments, "Bad things will happen and we believe we have that in mind as we go into these years."

And then, with all of that, we just go out and we perform.

And given the balance of our portfolio, the balance of our businesses, our plasn for 2003, I feel pretty good about the way it is, the way it looks, and the numbers that Jim gave you a few minutes ago.

I think we're fairly confident that we'll be within that range.

It's a good start to a year because of the strong balance sheet at the end of '02, and we're very comfortable with where this is going to go.

To that end, we plan to see you all on February 10th in New York.

That is our annual analyst meeting.

It will be in the usual format, with all of our presidents presenting in detail things that you heard about today, and hopefully you'll have a lot more confidence that the numbers that we've talked to you about today for '03 will in fact happen.

Let me just finish with a personal note.

I've chatted with some of you over the past three months since I've returned as CFO.

You all have been really good and nice and warm, and we very much -- I very much appreciate the welcome.

I do look forward to continuing to meet with you over the next year and working with you.

And with that, let's hear what's on your mind, and we'll open it for calls.

At this time, I would like to remind everyone, in order to ask a question, please press star, then the number one, on your telephone keypad.

We'll pause for just a moment to compile the Q&A roster.

Your first question comes from Joe Campbell with Lehman Brothers.

Good morning Steve and all, and congratulations on a good year in a tough year.

I wondered if you could talk to us about, and you haven't done this before, but just give us some color on -- you've talked about cash flow now being equal to net income, which, without the amortization, is a tougher standard than you had before.

If you were to talk about cash flow by the big businesses, are there differences in terms of the ability of the different businesses to generate cash flow equal to their individual net income, and whether there's any variance across the business, businesses say '02 to '03, or you know, how do you see that going?

Well there, Joe there's probably a different by businesses.

As you know Carrier has a very seasonal business, so it's very negative early on, as they build the inventories for the year.

But we fully expect, I would say in the seasonality during the quarter, and that's the reason our quarters are a little lumpy when you look at our cash flow.

Notwithstanding the lumpiness at Carrier, we do fill that Carrier can have cash flow equal to their net income.

Otis on the other hand, is a smoother line, given their maintenance portfolio, their cash comes in fairly regularly over the year, which I think again is totally different than what you see at Carrier, but we fully expect Otis to be able to deliver net income equal to cash flow.

Jim, on the aerospace side?

I think as you look to see, it can be a little bit lumpy with shipments and progress payments in advance as of the things of those nature, but in general, I think all the companies are generating good cash flow kind of in line in the range of net income and that's helped allow the corporation to do the same.

So in, if we look across the four businesses, it isn't the case that anyone of them is subsidizing the overall corporate performance you hope to achieve and on a cash flow basis, at least, each of them is contributing cash flow that's relatively consistent with the earnings suggested by the operating profits and their net income as you compute it.

Joe, let me, yes, and you might remember our compensation system is set up with net income and cash flow.

And the guys have to meet net income with cash flow to be paid the bonuses.

So you know, we've got this whole thing worked out exactly like you've described, and there's an incentive to do that.

And the guys have been pretty good about that.

Our cash flow per business is our net income.

Terrific, and just, do you expect to have to make any contributions that are meaningful with regard to financing participation or negotiations with you know, either bankrupt carriers or potentially nearly bankrupt carriers that will affect, I guess, cash flow to financing, which is not included in these numbers.

We do not have anything like that on the horizon, Joe.

Terrific.

Thank you very much.

Thank you Joe.

Your next question comes from Don MacDougall with JP Morgan.

Good morning everyone.

Reiterate the comments on a good quarter and a tough year.

I guess the first question pretty simple, looking at 4X, it was a benefit in 2002.

I'm wondering if you held the current exchange rates constant, what that number would end up being for full year 2003?

It would be at about $1.04 or so euro Don, that would probably be in the area kind of seven cents for next year.

A little bit front-end loaded, remember last year the average, or in '02, the average euro rate was 94 cents.

So we're looking for probably somewhere a little bit more than a nickel, if rates stay the same, but I would caution everybody that the euros kind of peaked up now to $1.05, which is certainly near historic highs.

So as we think about our business, we think the euro may end up being at a little bit lower rate.

OK, next question, just maybe a little more, a little color on the restructuring action that you took this quarter, expected benefits and are there any other anticipated restructurings in 2003 that you see?

Let me take the 2003 question.

I think over the last 10 years, I'm trying to remember a year where we did not have restructuring.

I'm not going to recall a year, and again, I use 10 years only because that's my tenure here.

I think every year we are very opportunistic about restructuring.

We do find the wherewithal through, you know, unusual gains, given the size and complexity of our company.

There's always some unusual gain involved and, as you know, we've always covered these unusual gains with additional restructuring.

Tom, on the fourth quarter?

The fourth quarter reactions, Don, as you can see from some of the material we put up on the web, its spread across the businesses, $125 million in total, but spread across the businesses.

These are combination of small head count actions, some plant closures.

So, we think about an 18 month or so payback.

Yeah, I think its

people in the program.

So, again, just focus continuing to lean out cost in these difficult times.

Right.

So, when you say an 18 month payback, you mean the -- you'll get this money back over an 18 month period?

Yes.

OK.

So, we'll get roughly 2/3 of it this year and 1/3 next year, '04?

That's about right, Don.

Okay.

Great.

Just on the aerospace side.

I was wondering if we could maybe get a little more color on the after market and the performance and you know, the split between the performance of say, spares and service, to the extent that that is available.

Yeah, Don.

I guess I'll take that.

First of all, the after market piece for Pratt & Whitney, we talked about there.

Spares were up in the quarter, but down about 10% as far as full year.

The after market at Hamilton Sundstrand, the commercial after market of Hamilton Sundstrand was also up in the quarter, modestly, but down for the full year.

Now, on the overhaul and repair side, we did see some pretty good results at Pratt & Whitney.

That's a function of the fact that we have been selling that capability pretty hard.

So the overhauls have increased over time.

So, we had some growth in the overhaul and repair part of Pratt & Whitney in the fourth quarter and in 2002.

Thanks, guys.

Thank you, Don.

Your next question comes from Chris Willis with JP Morgan.

Good morning.

I was just wondering if you could comment on the book to bill at the commercial spares business at Pratt and then talk a little bit about how the price increases that you put through are being accepted or not accepted in the marketplace?

Sure, Chris.

The book to bill at Pratt was about 1 for the quarter.

As far as we can tell, the price increase is sticking.

It's effective January 1, and we're not evidencing any change in expectations that we'll get a good share of that.

Okay.

Great.

Thanks.

Your next question comes from Sam Pearlstein with Wachovia.

Good morning.

Just following up on Chris's question.

Last year you didn't raise prices at Pratt.

Did you get the sense that you got any sort of a pre-buy and that might have helped the fourth quarter this year in comparison?

Well, there always is some of that and I would say that some people did try to get into the head of the January 1 price increase, but not to an extremely large extent.

So, assuming commercial spares declines in '03 versus '02 or is that flattish or up?

What's your assumption?

Modestly up, I mean, in line with the expectation that we'll see some improvement in RPMs for the year, and

will lay this all out in some detail in February, but modestly up.

OK.

And back in December when we got together, my assumption was that the free cash flow number in terms of what you thought you would do this year, and maybe even into '03 was exclusive of the pension contribution.

And I guess, did I misunderstand that, or was cash flow from the core actually just doing that much better?

I think cash flow from the core is doing that much better.

And yes, the numbers you saw and then numbers you'll see in the financial statement, it is after the cash contribution to the pension plan.

We feel good about the cash flow.

Right.

It's very strong.

And what is the amount of the restructuring cash impact in this fourth quarter?

And then, what should we expect to see in 2003?

Many of the actions were executed this quarter, but, you know, obviously under the $125 million pre-tax amount, probably more in the range of $40 million or so in spending.

You'll see some of it next year, but that's factored in again to our free cash flow guidance.

I guess what I'm just trying to think about is the total number for 2002, I think, is on the order of about $250 million of outflows, and I'm trying to think what does that number look like when we go into 2003?

Most of it was spent this year.

There'll be a little bit next year.

We can talk about

the specific numbers -- I don't have them handy at the moment -- but I think most of it was born this year.

And to the extent that we have outflows next year associated with it again, that's inside the free cash flow guidance, and I think also you could pay back

offset it from these actions next year, as well.

Thank you.

And one last question and I'll let somebody else ask.

Can you give us some sort of a quantification in terms of the size of the gain at Carrier for that divestiture?

I'd say about $10 million, Sam.

OK.

Thank you very much.

Your next question comes from Steve Binder with Bear Stearns.

Good quarter.

Thanks.

A couple of things, just to follow up on Sam's question.

As far as -- Jim, the restructuring outflow for the actions taken the first nine months, plus the fourth quarter -- what was the actual cash outflow in the -- was it the 40 million just of the fourth quarter actions, or in total for all the actions for the year?

I'd have to get back with you, Steve, on the actions for the full year.

I don't have that handy.

I believe it was about ...

No, I'm just saying for the fourth quarter, what was the restructuring spend in total?

I believe it was around 40 million.

About 40 million, Steve.

40 million, total.

OK.

If you look at the components of that charge -- the charges of 125, I think in the first nine months.

Severance was a little bit more than half over all, you know, charges that you took for restructuring.

Is that similar kind of, you know, mix in this charge?

Severance is higher.

This is mostly headcount, severance-related types of actions.

So, not a whole lot of asset impairment, there?

No.

OK.

And then, a couple of things just on the balance sheet.

I mean, your other assets rose close to a billion.

I guess that's partly for the pension contribution.

Do you know offhand what were some of the drivers ...

That's right.

What that is is the tax impact of the pension contribution.

You have an increase in deferred taxes of about $900 million.

That's what that number is.

OK.

And the other thing on the current liability side, your accrued liabilities fell a couple of hundred million dollars in the quarter.

Is there some re-class going on from long-term to short term?

Or, is that -- do you know what that might have been?

No,

related to pensions.

Steve, sorry to cut you off.

Essentially, that's related to pensions because we made the contribution, and there's some tax implications of that pension.

OK.

I guess, just, Steve, if you could just touch on the acquisition pipeline.

I mean, you guys seem to -- you've got an impeccable balance sheet here.

Is that changed?

I mean, you basically have been gun shy based on valuation opportunities out there.

But is that still -- is your sense it's still going to be a relatively weak year in '03 for acquisitions?

That's a tough call, Steve.

I think our discipline is pretty good here, and I think we have evidenced the fact that we're fairly patient people.

Steve, unless you've seen some dramatic reduction in valuations out there for businesses that are being sold, we certainly haven't seen that yet.

Valuations are still very aggressive.

We're going to be opportunistic, so it's hard to forecast that.

We certainly are prepared.

As you know, we have an appetite for it.

We said 1.5 billion last year when we saw you, a year ago, and we did 400 million.

We expect another 1.5 billion this year, as our expectation.

We'll talk to you in 12 months and tell you how we did.

But I think what you saw during '02 is going to repeat itself in '03, but you never know.

OK.

Good year.

Thanks, Steve.

Thanks, Steve.

Your next question comes from Cai von Rumohr with SG Cowen.

Yes, thanks a lot.

Good quarter.

Pension, you mentioned the 10 cent headwind in 2003.

Given the large contributions you made, could you update us on what your

recovery was in '02, and what you expect for '03?

Yes, I'm afraid Cai, I don't have that level of detail here.

I'll have to get back to you on that one.

OK.

But as we've talked before, the recovery does depend on your fixed price versus cost plus contracts, and a lot of our contracts do relate back to fixed-price contracts, so

recovery is not going to be that large, although I'll get back to you on that, specifically.

When you talked of a 10 cent headwind, did that include

recovery?

It's a function of all of the pension-related items, yes.

So we will be able to do that.

OK, and your revenues at Pratt were stronger than I'd guessed.

Did you have any real strength in military spares, and did you see any sort of replenishment type buying that might be related to the situation in Iraq.

Hard to measure that, but we did spares up.

That was part of the military improvement.

And most of Pratt's revenue improvement was that military strength, the combination of engine shipments, which doubled year over year, and JSF development, as well as military spares.

OK, great.

And your R&D was 3.9 percent, so it's kind of down, more or less, where it was in the third quarter.

You know, looking forward, what sort of an R&D to sales ratio are you looking for in '03, approximately, and what's your thinking?

We're looking four to five percent as we look at '03.

I think what you're seeing, Cai, is much a much more efficient engineering spend.

The guys at Carrier are doing the same thing that the guys at Otis did.

They're focusing their engineering resource.

Instead of having too many centers, they're actually focusing those centers.

So you see the cost going down, but the efficiency goes up.

So I think we're going to continue to spend in the four to five percent area.

Excellent.

Last question.

A little bit more on the tone of business, Commercial Aerospace spares.

You talked about the year over year compares.

Could you give us a little bit more color on what they might have been relative to the third quarter, both in terms of orders and shipments.

And lastly, Industrial, that that might start to be turning.

Any month to month trends that are kind of notable?

Things getting better or not getting better in November and December?

To your two questions, Cai, shipments for Pratt, sequentially were up.

The, I'd say the environment, we don't expect a lot of change in that as we go forward in 2003.

I'm talking about new engine shipments going forward, and

will have more detail on that as we go forward.

Sequentially spares were up as well 4Q versus 3Q.

OK, and the last one on the industrial ...

The Hamilton Sundstrand Industrial Businesses?

Yes.

Actually a little bit of improvement.

I don't want to call it a turnaround yet, but we've seen now two quarters in a row, last quarter was just kind of flattish, and we had some pretty good organic growth, the industrial businesses.

So that, looks like it might be stabilizing trend going forward.

So, and that was by month, because I know Parker Hannifin I guess had a tough December after better numbers in October and November?

Yes, I don't know.

I'm looking at the quarter numbers, but I'd say that the quarter's probably representative of the month as well.

Terrific, thanks a lot.

Thanks Cai.

Your next question comes from Chris MecRay with Deutsche Banc.

Yes, hi, great quarter.

Since you have pretty high visibility in the military side of your business, you know, what's your overall outlook top line in '03 there given you know, shipments, maybe spares staying strong and what you know about bit programs like JSF?

Well at this stage, we'd say not a lot of growth, I mean certainly not to where the kind of growth that we saw, you know, over 25 percent growth in military this year.

Not a lot of growth going in to 2003, at least for the visibility we have now.

And I presume that on the commercial side, your plan would be less of a drop than '02, so maybe just overall more stability to get to the top line guidance there?

Yes.

OK, fair enough, and I guess when you were saying four to five percent in '03 on spending, what that specifically company-funded R&D?

I just didn't catch that.

Yes, it's company-funded R&D four to five percent.

Was that on the aerospace only or the whole company?

No, that's the comment on the whole company.

OK, great.

Thank you.

Thanks Chris.

Your next question comes from

with Capital International.

Morning folks.

Got some questions on cash and cash flow.

I want to make sure I understand the changes that you've made.

You used to have something called available cash flow, which was somewhat different than other folks, but actually, it's probably a little more meaningful in terms of telling someone how much cash was actually available to be invested for growth opportunities.

You now are using something called free cash flow, which I think you've told us is the GAAP operating cash flow less capital spending.

Yes.

That's correct?

That's correct.

So I just want to go through the differences between available cash flow and free cash flow.

I'm trying to size them.

One of the things that happens is year-over-year, which would have affected both of those numbers, because it's in operating cash flow is the cessation and amortization of goodwill, so that's kind of a ...

No

, that wouldn't be in operating cash flow.

That would be taken out, if you will.

Amortization's not a cash.

Yes, OK, well, keeping going there, you used to include in available cash flow the benefit of any kind of proceeds from option exercises.

Yes, if I could help, I think the two big differences in available cash flow and free cash flow is the dividend and we're not ...

About 650.

Right.

And then the benefit of any stock option exercise.

Dividend's a big piece.

So just about 650 goes away and 250 goes away as well, but that was a

650 was the use of the 400 benefit.

Now, what about customer financing?

Isn't that included in operating cash flow?

No, it would be neither one of them, Gene.

So, you're putting that down as a financing item?

That's right.

In fact, it might be helpful for the rest of the audience if I could just talk you through it afterwards?

I could do that.

Sure.

Now the other thing is, when I look at your balance sheet, I can, you know, you have a very high level of cash on the balance sheet.

Can you kind of run through, or explain why so much cash is necessary to be, you know, in that form on the balance sheet?

You've always had a fair amount of -- some of this has to do with tax issues and repatriation issues, I imagine, but.

Gene, you know, just to remind you, because we operate in so many countries around the world, we have multiple businesses, multiple balance sheets, multiple P&Ls.

So, when you look at geography of this cash, it is global cash and it's the amount of cash, I think if you go back historically, it's always been about a billion, billion and a half dollars.

So, this is actually what we needed to operate the business on a global basis, again, it's because only 45% of our business is in the United States, and the balance of it, of course, being global, has a large impact on this number.

Yeah, but I do note in this year, I mean, it has gone up 500 million dollars, say, year over year.

Right.

That's correct.

And we, as you noted, from Tom's comments earlier, we took 500 million dollars of that cash in January last week and we made a contribution to the pension plan because of the very strong cash flow that we've talked about that has been generated by our businesses.

So, just going back to the free cash or available cash, kind of the net change there, in definition is about 400 million dollars.

A bigger now.

compared to net income, I think part of the offset ...

... available cash before the net income ...

FAS 142 net income.

And now under free cash flow, we compare to a reported net income, which I think is the right way to do it and the way that people kind of intuitively think about it, so there is a benefit when you swap out the dividend for the common stock.

But the net income also rises and are kind of compared to try to keep things roughly equal and I think part of the reason for the shift is we've got enough free cash flow.

That's what other people always talk to us about and it's a very -- focused on operations, so you're not always moved around by cash from stock option exercise or other financing or investing activity.

But we can, again, it's a conversation and we should take off line kind of the pros and cons of ACF versus free cash flow as we move into a free cash flow world.

The point of me bringing it up was simply to say that it looks to me like you've got about a 200 million dollar a year easier

, $150 to $200 million a year easier

.

Not sure, we, again, maybe kind of an academic debate offline.

Not sure we necessarily agree with that, because, again, some of these things and these outflows, inflows are things we don't control.

Common stock exercise three years ago was much, much higher with a bull market then it is today, so what might be true in one period may not be true in another.

But again, a fair conversation, just maybe we ought to move on to another question.

Sure, go ahead.

OK,

, I think we have time for two more.

Your next question comes from George Shapiro with Salomon Smith Barney.

Good morning.

Good numbers.

A couple of ones.

What was customer financing in the quarter?

20 million, George.

20.

That's 20 million?

20 million, correct.

OK.

And then, the actual tax benefit I tried to back out -- is that somewhere around $85 million in the quarter?

You might be a little bit high, there.

We think maybe two to three cents of net restructuring costs flowed into -- impacted us this quarter.

OK.

And then, if you looked at the cash flow, are there any tax benefits that you would have had in the quarter from paying the 500 million to the pension plan?

There are some, yes.

It doesn't begin to offset, obviously, the contribution in taxes

in terms of the, you know, the outflow and the inflow.

But, some benefit, but again, not anywhere near the amount of 500 million.

OK, and also, on the tax benefit in the quarter, was that actual cash that you got in the quarter?

No.

No.

It's a book entry, George.

And -- let's see.

The drop in R&D, Steve ...

Yes.

... with the 24 million -- I assume that most of that, again, occurred at Pratt in the quarter?

Yeah.

Pratt -- that's a 6,000.

Basically, a lot of the work that we saw in the 6,000 and prior quarters is now down, and also Carrier.

And I mentioned earlier about Carrier really looking at their engineering operations around the world and consolidating for efficiency reasons, George.

And just going forward, Pratt Canada looked like it was particularly weak this quarter.

I mean, how do you size up the business jet area?

Is that still deteriorating modestly from what the Pratt Canada people would say?

I don't know if I would use those words, but clearly it's not in recovery, and, you know, Pratt Canada could be looking at less shipments next year, as well.

OK.

Very good.

Thanks, again.

Thanks, George.

Thanks, George.

, our last question, please?

Your final question comes from Howard

with Soundview Technology.

Good morning, gentlemen.

Hey, Howard, welcome.

How are you?

One moment, sir.

Well,

, could we find Howard?

One moment, sir.

I apologize for that.

I think we're just gonna have to ...

I think the question has been withdrawn, sir.

... the rest of the calls.

No, it hasn't.

Oh, there he is.

OK, sir.

All right.

We'll give this a shot.

Just a couple of things.

In the third quarter, you talked about your reserves at Pratt with respect to the airlines, and, you know, you talked about being adequately covered for bankruptcies of customers.

And since then, we've at least had one.

What did you do with reserves in the final quarter of the year?

Did you look at them?

I mean, the U.S. carriers are still struggling.

Yes, Howard, we do that at the end of each quarter, and the reserves in the fourth quarter are down very slightly from the reserves that we had at the end of the third quarter.

OK.

And that could have been just nothing more than just a realization of some of the -- you know, a realization of some of the losses that you assumed would have happened?

That's correct.

When we were in Pratt, at Pratt Canada in May, we kind of got the sense of down 20, down 25 percent for PWC.

As you sort of look out today versus six months ago or so.

Is the environment a little more challenging?

No, I'd say we thought back at that time it was going a tough, tough environment, down, as you said, 20 to 25.

That's certainly come to fruition and we don't see a recovery out in the '03 time period.

So, are you telling me, Jim, that your normal conservative business could still -- I mean, even though you were conservative, you might find the floors a little bit lower?

It could be, again, we try to plan conservatively, but again, as George mentioned in September, kind of hold that next coming year's hedge largely against continued aerospace instability.

Oh, I agree.

I understand.

Just two more things.

One, do minority interests continue to -- well, I mean, it looks like your overseas business continues to perform very well.

Is there any color there that you might be able to add?

I mean, was it things like Carrier Japan, or was it Otis, some of the particular items?

The two were Otis in Europe and then the Pratt & Whitney in Asia.

Right, so you've done a nice job of improving the overhaul and repair ...

Correct.

... there.

And then, last, could you address the F92, I mean, it's nice that it's been certified and all of that, but I mean, you're sort of short customers there.

What's the -- and also, could you address the fact that you sort of lost a number of international competitions?

A)Does the dollar help, and B)How do you sort of get the F92 on the same track that the UH60 was?

Well, I think you're right, Howard.

You know, we haven't gotten any launch customers to date, although we did get aircraft types certification, which was crucial for us.

We're marketing the aircraft right now.

We have 14 kind of soft LOIs and deposit agreements, but we hope to firm some of those up very soon and have launch customers and launch orders shortly.

We have some lost some campaigns, clearly, int he last two or three years, but this is an aircraft that's going to be around for 20-plus years, we hope in production like the UH60.

So, again, we hope to have some good news for you very soon, and a program that's going to last a very long time.

Thank you very much, gentlemen.

OK, and

, we're going to have to stop the call now.

I appreciate everyone coming in, all their questions.

Of course, the IR staff will be available for the rest of the day to answer any other questions you may have.

So thanks a lot, and bye for now.

Thank you for participating in today's conference call.

You may now disconnect.