雷神技術公司 (RTX) 2003 Q4 法說會逐字稿

Good morning and welcome to the United Technologies fourth quarter conference call.

On the call today are Steve Page, Chief Financial Officer, David Porter, Director Investor Relations and Jim Geisler, Director of Planning and Analysis.

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

The company reminds listeners that the earnings and cash flow, expectations, comments concerning the benefits of acquisitions and any other forward-looking statements provided in this call are subject to risks and uncertainties.

UTC's SEC filings including it's 10-Q and 10-K reports provide details on the important factors that could cause actual results to differ materially from those anticipated in the forward-looking statement.

Please go ahead Mr. Page.

Thank you, and good morning.

And happy New Year and a prosperous New Year to all of you that I have not chatted with yet.

I think 2003 is a good example of UTC and the word "balance".

We've been talking about balance works and I think this last year is a terrific example of that.

We had another year of very weak commercial aerospace.

The year started, as you recall, with the war, the SARS, and with air travel certainly being at a level still below the 2000 level of travel.

The balance in the corporation actually was able to offset this.

Very strong performance at Otis, ROS up a point, great job by Ari and his team and the turn around at Carrier, which Geraud Darnis and his team started two years ago, continues with substantial profit improvement each of the last several quarters.

And another strong year in military, up 10%, after about a 25% improvement in 2002.

So that was the offsets to the commercial aerospace sluggishness, and we also had a very good U.S. dollar Euro relationship as we finished 2003.

All of these factors put together gave us a revenue that was up about 10%, earnings per share that was up 6%.

And we finished with very strong cash flow, as is our trademark and that cash flow allowed us to buy Chubb for well over $2 billion, allowed us to increase the dividend 30% in the last quarter, and also allowed us to have our debt-to-capital ratio down 6 points year-over-year and, again that's after a $2 billion acquisition of Chubb.

So I think it was a pretty good year.

In fact, I think it was a great year.

And we had a strong finish.

And we have the occasion in the fourth quarter to take an additional $138 million of restructuring as we point out in the press release.

This restructuring was allowed because of some tax benefits that we had in the quarter, because of the a gain that Otis had in the quarter and because of a very strong Euro.

So we finished the year strong and we're starting '04 strong.

Not only with the momentum within the divisions, but also with the MTU announcement of a few days ago.

You might recall that MTU was sold by DaimlerChrysler to KKR, and as a part of that transaction, we received a check last week for $250 million to release DaimlerChrysler from certain obligations that they had to us.

And that $250 million is in our accounts today, in certainly the bank today.

And we're going to take this $250 million non-recurring gain and announce some additional restructuring over the next few weeks.

And this restructuring, in addition to what we've announced in the fourth quarter, will help our profitability, not only later this year, but also well into 2005 and beyond.

And in addition to those two restructuring fourth quarter and first quarter, we previously told you that we expect a tax settlement, a fairly significant tax settlement, later this year.

And this tax settlement will also give us opportunity to restructure and certainly help those out years.

So, good momentum in the business as we finish last year, good momentum as we start this year with the MTU gain and the tax gain, and I think all of that adds up to is that we're very comfortable with our 2004 outlook, which we previously gave you of $5 to $5.30 a share.

And we expect earnings in the middle of that range, which is about up 10% from what we reported in the press release this morning.

And, of course, 2004, we'll have our trademark cash flow, equal to our net income before about $500 million of pension plan contributions.

Okay.

Good '03.

Looks like it's going to be a very good '04 and Mr. Porter is going to cover some more details on '03 and then Jim is going to talk about '04 and I'm going to come back at the end and talk to you about a few more items.

David.

Okay, thanks Steve.

For those of you who are following along with the webcast, I'm going to begin my comments on slide number four and start with a full year overview.

We generated $4.69 in earnings per share in the year which is a 6% increase over 2002.

Our free cash flow for the year approximated net income at 99% and included almost $1 billion in voluntary pension contributions, $875 million to the domestic plans, and over $100 million to the international plans, with most of the international plan funding occurring in the fourth quarter.

We're able to absorb these significant contributions as a result of the strong cash flow throughout the year.

Full-year revenue was $31 billion, up $2.8 billion versus the prior year, representing 10% growth with about half of that from acquisitions, including Chubb.

Turning to the fourth quarter consolidated revenues were $8.6 billion, 19% above last year.

About two-thirds of this increase was acquisitions, again primarily Chubb, but also included mid-single digit organic growth at Otis and Carrier, as well as about 5 points from foreign exchange.

For the quarter, earnings per share were $1.16, up 9%.

That's 10 cents higher than last year.

And net income was $588 million, up 10% from the prior year fourth quarter.

Fourth quarter results included the favorable impacts of a non-cash gain at Otis, and a reduction in the company's tax rate, as Steve mentioned a moment ago.

These items, together with currency translation benefits were used to fund the restructuring charges of $138 million in the quarter.

This included a number of actions throughout the company, but primarily the Carrier Syracuse and Otis actions that were previously announced.

As Steve mentioned we expect additional actions in '04.

On slide five, free cash flow at $590 million in the quarter was about equal to net income.

And, again this is after total voluntary pension contributions of $252 million.

As I mentioned earlier, given the strength of our cash flow, we were able to make sizable voluntary contributions to our international plans in the quarter.

Working capital was a source of cash, following its normal fourth quarter patterns but also benefiting from the company wide inventory reduction initiatives that we talked about in previous quarters.

CapEx is 208 million in the fourth quarter with full-year spending at about 10% lower than '02 levels.

The business units continue to focus on capacity and share investment requirements with vendors where appropriate.

Debt-to-capital was down from 37% at the end of '02, ending the year at 31%, even with the acquisition of Chubb.

The debt-to-capital ratio was also impacted by 400 million in share repurchased during the year, as well as the conversion in the fourth quarter of the ESOP preferred shares into common.

And the partial reversal of the prior year charge to equity for pensions.

Moving now into the segments and I'm on slide 6, and let me remind you that to provide a better compare of operating performance, my discussion here of segment results will exclude the fourth quarter restructuring for '02 and '03.

At Otis, operating profit was up 21% on 17% revenue growth.

Revenue increased in all regions, led by growth in north Asia, and in North America, following the Otis acquisition of Amtech earlier in the year.

About half of the revenue growth came from FX.

Operating profit increases were most notable in Asia and in Europe, with almost half of the profit improvement in the quarter due to foreign exchange.

As I mentioned earlier, Otis had a one-time $50 million non-cash gain that was offset by restructuring charges.

The gain is reported in the Otis revenue line and resulted from a transaction involving an exchange of equity interests in China.

Otis exchanged its interest in one subsidiary for an increased and controlling interest in another company, consolidating its interests and continuing its commitment in this very important market.

In the quarter, Otis won an order for 340 low-rise elevators for a major office and retail development called the Advanced Business Park.

On slide 7, Carrier revenues increased 10% in the quarter with 5 points of organic growth.

Transportation refrigeration continued to led the revenue increase with double digit volume growth and revenues improved in North American commercial eight track as well.

Markets continue to be weak in North American commercial refrigeration and in Korea and Japan.

Operating profit improved 22% with margins at 7.2%, 70 basis points higher than last year.

The operating profit improvement was driven by continued strength in transport refrigeration, better compares in North American commercial HVAC and the benefit of cost reduction and productivity initiatives as well as favorable currency.

These were partially offset by weaknesses in North American commercial refrigeration and in Korea and Japan.

You will recall Carrier's announcement in the fourth quarter to exit manufacturing in Syracuse.

The key benefit of this action was to move Transacol(ph)'s container and compressor production closer to end markets in Asia.

This program is on track with the production move on schedule.

Turning to Chubb, on slide 8, operating profit was 35 million in the quarter on revenue of 720 million.

This is an increase from the third quarter revenue run rate, reflecting currency benefits from its mostly international businesses and the benefit from some seasonal volume, principally in the guarding business.

Operating margin was 4.9% in the quarter, a slight improvement from 3Q.

Chubb is on track with it's integration efforts continuing to focusing on operating disciplines such as ace, investing in financial controls and systems, as well as in back office rationalization.

You'll hear more from Olivia Robert in March on the progress being made at Chubb.

On slide 9 for Pratt & Whitney, operating profits were down 6% from last year on 4% lower revenues.

Both operating profit and revenues declined in the large commercial engine business against a strong compare from the fourth quarter of '02.

The operating profit decline reflected lower commercial engine revenues and an additional provision of about 5 cents for a collaboration accounting case, which Steve will mention in a few minutes.

These were partially offset by R&D reimbursements related to technical programs at Pratt Canada.

Compared with the third quarter, Pratt reported a 10% improvement in operating profit, reflecting sequential improvement in commercial spares and a book-to-bill of about one.

Also in the quarter Pratt IAE joint venture announced firm customer orders for the V2500, including orders from ILFC, South African Airways, Qantas and others bringing their share in the Airbus A3-20 engine market to more than 80% in '03.

In the flight segment on slide ten, revenues and operating profit were up mid single digits year-over-year.

Hamilton Sundstrand's revenues were higher with military spares as well as improved sales in the industrial companies.

Commercial aerospace revenues were about flat year-over-year, and like Pratt, spares orders were up sequentially.

Sikorsky had slightly higher revenues, reflecting increased after market sales and higher commercial aircraft deliveries, particularly the S-76, which were partially offset by lower military helicopter sales on a tough prior year compare.

For the quarter, Sikorsky shipped 21 new and remanufactured helicopters versus 27 last year.

For the full year Sikorsky's S-76 sales reached a 20-year high.

The company received firm contracts for 34 S-76 aircraft during '03 and have options for an additional 61 over the next 5 years.

Sikorsky reported a billion dollars in after-market revenues in '03, it's highest total to date, achieving the sales target announced a few years ago.

On slide 11, I will move on to corporate items.

We continued share repurchase in the quarter totaling $100 million in share buyback and had limited acquisition activity with $75 million in acquisitions in the quarter, primarily at Otis.

We made $252 million of voluntary pension contributions, as I mentioned earlier.

For the quarter, combined customer and company-funded R&D spending was $655 million, up $33 million from the fourth quarter of last year.

The customer funding was up, while company-funded was down, reflecting the reimbursements at Pratt, which I mentioned earlier.

The effective tax rate in the quarter was 24.3%, versus the 28% reported in previous quarters, bringing the full year rate to $27.1%.

The fourth quarter rate benefited from a tax loss on a small non-core divestiture as Steve mentioned earlier.

Our plans right now contemplate a 28% rate going forward in '04 and that's before considering the rate impact of next year's anticipated tax settlement.

Corporate expenses were higher in this year's fourth quarter, impacted by UTC's higher stock price on a number of incentive programs, and additional spending on Sarbanes-Oxley readiness requirements.

You may also recall the $33 million benefit we realized in last year's fourth quarter from the resolution of an employee benefit plan exposure.

And now Jim's gong to take you through guidance for '04.

All right, thanks, Dave.

Looking ahead to 2004, as you would expect our guidance and assumptions are unchanged from what George David told you in December.

But let me reiterate a couple of key points.

If you are following along on the presentation, this is on slide 13, actually.

We expect Otis to grow mid single digit revenues while generating operating margins up about a point.

And Carrier should generate margin improvement of between a half a point and a full point next year on mid single digit revenue growth.

We expect Chubb to generate approximately $2.5 billion in revenues on operating profit margin also up about a point.

In the aerospace businesses in total, we expect mid single digit revenue growth and margins up as much as a percentage point.

Now, all of this good business unit performance would clearly put us in a 5 to $5.30 EPS range for 2004, and as Steve mentioned earlier, makes us comfortable with 10% EPS growth in the year.

Now, as we also, I think, have discussed some in the past, this level of performance provides some contingency but there's always stretch in the business unit plans.

For example, recall Pratt and Hamilton are using an aggressive 7% revenue passenger mile growth assumption in their guidance.

And assumptions like that may result in some business units not quite reaching their guidance targets.

In addition to kind of stretch plans that we have, the inevitable bad things happen that always utilize some of the contingency.

Now last year it was SARS, for instance.

That was totally unforeseen and I'm not sure what negative factors could play out this year but they could include a muted recovery for both commercial aerospace and world economies, our labor negotiations, cancellation of a major military program and litigation.

Now, one swing factor clearly in our favor at the moment is a stronger Euro.

Now I'm not sure where it's going to go and it moves around a lot.

I noted the other day that it declined about 4% in the last week and a half.

So we extrapolate that to the year ,obviously, there wouldn't be any Euro benefit but hopefully that won't happen.

You have seen, in any event, if we have favorability like this in the past it's been our practice to take favorability such as FX in profits and reinvest it back into the business whenever possible.

Now regarding some business we've already had this quarter you heard Steve talk about the $250 million we received in connection of the sale of MTU to KKR.

Now, Steve mentioned earlier also that we'd restructure away this income and similar to income, we expect the cash from gains to roughly offset restructuring related outflows over the course of the year, again as George told you December.

However, there will be some cash benefit in the first quarter as some of the restructuring outflows will come later in the year.

And we would like to use this goodness in cash in the first quarter to get ahead of some of our pension contributions for the year.

For the full year, we continue to affirm free cash flow equal to net income before $500 million in pension contributions that are voluntary.

In terms of other cash spending for the year, we expect approximately $2 billion in acquisitions and we spent a little bit more than that in the past year.

And the pipeline is refilling with moderate-sized deals at the moment.

We would also expect share repurchase to be around $600 million and customer financing to be $250 million.

All these flows result in a debt-to-cap that should be around our year-end 31% or slightly lower by the time we get to the end of 2004.

And with that I will turn it back to Steve for some wrap-up comments.

Thanks, Jim, Dave.

I will call your attention to an item that we had in our 10-K last year, it was in the section called legal proceedings.

And we're going to update that disclosure when we issue our 10-K in about two weeks.

Now, what you are going to see is a number in there that is substantially larger than the number we had in the disclosure a year ago.

Now, let me just recap what I'm talking about, for those of you that are not familiar with this event.

The Department of Defense has been reviewing Pratt's overhead allocations for about the past 20 years.

The investigation started in 1984, this is from the footnote, and from 1984 to 1995 the government disputed the way we were allocating our overhead to government contracts.

And in 1996, the government sent us an assessment of $261 million for this over allocation of overhead to government contracts.

We, of course, do not feel that there was an issue with this and we disputed the claim, and had a hearing with the Armed Services Board of Contract Appeals.

And this took place over the last couple of years.

The Armed Services Board of Contract Appeals ruled in our favor, saying that we did not owe the government any money.

The government appealed it.

And the Appellate Court overturned the ruling of the contract's Appeals Board and remanded it to the Appeals Board for rehearing.

Since 1996 we have maintained the way we have been doing the overhead allocations and about two months ago the government sent us an additional bill which now covers 1984 through 2002.

And this is the principal plus the interest so you will see in our new footnote disclosure $755 million assessment that the government says we owe.

Again this matter is back at the Armed Services Board of Contract Appeals.

We feel, as we have for the last number of years, that we have the better case here.

And we do have appropriate reserves for this matter.

However, you will see that new disclosure in the 10-K in a few weeks.

I just wanted to be sure to bring it to your attention.

Again, we feel very comfortable with the level of reserves the corporation has as we finish '03.

Now the second matter is a Reuters story that you may have seen over the past, oh, 36 hours, Dave, I think that's where I've seen it.

And it's about Japan Airlines canceling 120 of their flights due to what they describe as engine cracks.

I've chatted with Pratt about this as recently as this morning and the facts are that JAL has, in fact, canceled 120 of their flights.

They have about 25 MD-80s on the ground because of an identified high compressor problem, which is a crack in one of the veins in the high compressor.

They have all the airplanes on the ground subject to inspection and I was told this morning by Louie Chênevert's team that some of those airplanes have been inspected and, in fact, are flying again.

We have our team fully engaged with Japan Airlines at this time to go to root cause as to what the issues are on these stated issues and we expect to have those resolved sortly.

But anyhow, a new story on that, I think we're all over it and we don't see any major issues at this time, but, of course, the investigation is continuing.

Let me just wrap up with a third item here.

We have had a fairly good run here over the past few years and certainly in 2003 had a very good year.

And, of course, this all happens because there are certain people who lead this corporation and do a terrific job in that regard.

And oftentimes are not recognized as well as they should be for this leadership.

However, this year is an exception to that and you may have seen the last issue of "BusinessWeek" and also the last issue of "Institutional Investors" which names our Chairman and CEO, Mr. David, as one of the best CEOs in corporate America.

And I think this is great recognition for George.

It's certainly well-deserved and if George on the call today, I think he would say that it isn't a one-man effort, it is a team effort and he would be very quick to thank the leadership of UTC for these recognitions.

So let me just say thank you to the entire team for this recognition for UTC.

One final recognition, "Institutional Investor" also does a survey of the buy side, and the survey, which started about just two years ago, now recognizes Investor Relations Departments and it's with a lot of satisfaction that we here at United Technologies have been recognized as having the best Investor Relations Department for our category, for the last year.

And, again, I want to thank the buy side for their recognition and I also want to thank the Investor Relations group, who is here today, for their efforts.

And, including a couple of our previous members, Akhil Johri and Tom McKetchen(ph) for their fine leadership during this period.

So again, thank you all on the buy side for that very, very nice recognition.

Okay.

Last item.

George told you at the December meeting, and I know you have read about this over the past few weeks, that my term as CFO is about to expire.

George will be naming a new CFO in the next four weeks.

And you will all have a chance to meet him shortly thereafter and certainly for those of you who do not meet him shortly thereafter, you will see him and get a chance to chat with him at the March 18th meeting that we have scheduled for New York and I believe you all know about that.

So it's been a great 11 years for me.

It's been a great run and it's been with an absolutely unbelievably great team.

So it's been my pleasure to be here and I look forward to seeing you guys over the next few weeks and certainly I'll be there on the 18th, also.

Okay.

With that let's hear what's on your mind.

If you would like to ask a question, please press star then the number 1 on your telephone keypad.

Your first question comes from Joseph Campbell of Lehman Brothers.

Hi, good morning.

I have two easy things.

First I wondered if you could just talk generally about the areas for restructuring for the large MTU settlement expected in Q1 and the tax settlement, larger but undisclosed number, you expect later and then, two, could you give us an update on what's happening in general with R&D?

We have in Pratt & Whitney in particular, we have the A-380 spending, maybe an update on the 7E7 and there's a lot of talk about stretching out the joint strike fighter, how all of these things will affect your numbers.

Thanks very much.

Joe, on the first question on restructuring, we expect that will be used for plant downsizing.

We expect plant closures to be announced over the next several months that will effectively utilize the restructuring funds we've talked about that we've received in Q1 and also what we expect to receive in Q2 or thereafter.

About 60% of the money will go to plant restructuring, the rest will be to SG&A as we continue to improve the cost profile of the corporation.

Most of that Carrier, Steve?

No, actually, we did a lot of Carrier in the fourth quarter, Joe, obviously with the Syracuse campus.

No, this is going to be much broader.

In fact, it's going to touch every single division on the footprint reduction.

Jim, you want to talk about the R&D?

Joe, I think as we talked a little bit in December, we expect R&D to go up next year, just with some program timing as we spend on the GP-7000 and other other programs.

I think next year on the customer side, you won't see much change there because I think we've hit the kind of high watermark on JSF spending this year as we move the first production engine assembly.

I think next year we'll see R&D up a little bit on the company side, I think George David talked about as much as $100 million on the customer side, I think you will see the military will be flat next year.

Can you give us any milestones for the 7E7.

The 7E7, as you know, again, from talking to Boeing, I'm sure you have the data, Joe, as well as I do, but talking to Pratt yesterday on this, we fully expect to put in an aggressive bid in for the engine on the short range aircrafts.

I guess it looks like they're going to go with a base aircraft and a short range aircraft.

It looks like they're going to have one engine on that, as opposed to two engines, and we and the other two engine manufacturers are bidding that aggressively right now and our expectation is they will make a decision sometime in the second quarter.

So that's really all that I know about that.

Just to make sure I understood you correctly, they're going to have one engine manufacturer that they are going to choose, or they are going to choose one engine to service both the longer and shorter range aircraft?

No, Joe.

I'm sorry if I misspoke.

Right now the expectation that we have is there are going to be three airplanes, a long range airplane, a base airplane and a short range airplane.

Three airplanes.

They are going to have one engine for the base airplane and the short range airplane and another engine for the long range airplane.

They are going to ask all three of us to bid those engines.

So don't misunderstand, there's no exclusivity here.

We're going to bid one engine for two airplanes and then have another engine for the long range aircraft.

But right in front of us today is going to be the base airplane and the short range airplane.

And your expectation about whether Boeing will select for the base and short range one vendor or two?

Again, Joe, you talk to those guys.

You probably have a better insight than I do.

But I'm understanding it's going to be at least two.

Terrific.

Thank you very much, and congratulations on all the awards.

Thank you, Joe.

Your next question is from Heidi Wood of Morgan Stanley.

Thanks.

Nice quarter, guys.

And Steve, to you, thanks for doing a great job and the very best wishes to you in retirement.

Thank you, Heidi.

Questions, can you give us some detail on Chubb regionally, as well as by division, electronic security, security personnel and fire protection?

I think, Heidi, you will hear a lot more in March about Chubb, but I think we're seeing a little bit of softness around the globe right now in electronic security.

There is seasonal benefit you get in man guarding at the end of the year with demands for security around the holidays, but I think on the whole, the business is -- we bought it as a platform and it's slightly accretive in the quarter as we would have expected and you will get a much fuller debriefing on not only the fourth quarter but what we're going to do in 2004 in that business in March.

Jim, can I read from that comment then, because the Chubb sales were a little higher than I had been anticipating, that a lot of that came from man guarding and that would also account then for why margins were a little bit lighter than I was looking for?

Heidi, it's Dave.

Why don't I take that.

I think there's really two things that drive the revenue in the quarter versus where we were Q3 and that is there is some FX benefit there.

As you know, these are largely international businesses and benefit from the weaker dollar in the quarter and as Jim mentioned there is some seasonality in the Chubb business, particularly around the guarding business and year-end sorts of security activity.

About how much FX benefit was there, Dave.

Well, hard to give you a precise number there, Heidi, simply because there's not a year-on-year compare I can make.

But I think you ought to think about that in the same sort of context as you do the other UTC businesses that benefit from Euro. improvement in the quarter.

Okay.

Maybe we can turn to Pratt.

Maybe I can get some details there.

How many engines did you ship for 2003?

This is the engine details for us?

I know I didn't find them in the release if you had them.

Sure, I'd be glad to.

Why don't I take you through the quarter shipments, Heidi.

The large commercial business is 70, about flat with 3Q and down about 10% for the year.

The military business 36 engines, again in line with 3Q, down from last year on a pretty tough compare when we had pretty strong F-100 and F-117 shipments in the year ago quarter.

The small engine business in Canada, 350 engines, up nicely from the prior quarter and in line with the year-ago fourth quarter.

Not engine shipments but helicopter shipments, I mentioned this in my comments earlier, 21 aircraft deliveries this year 4Q, 27 last year.

That's at Sikorsky.

Okay and can you on Hamilton Sundstrand tell us on the aerospace side how much was commercial and military revenues year over year?

Why don't we get back to you on that, Heidi, I don't have that directly in front of me.

Okay, great.

I will let somebody else ask questions.

Thanks.

Thank you, Heidi.

Your next question comes from Steve Binder of Bear Stearns.

Good morning.

Good quarter.

A couple of things.

One, was, Steve, if you look at your restructuring in Q4 of '03 and what's planned for the first half of '04, I mean, arguably you're going to be at .75 of a billion dollars in restructuring charges which frankly is more than twice the level you were at in '01 and '02.

I'm just wondering a couple of things, one is, as far as the payback is concerned, if you look at the prior year restructuring, you typically get like a two-year payback almost, you know like 85 or 88% of your initial charges reaped in savings over a two-year period.

Since this is more manufacturing driven, is the payback going to be over a longer period of time?

Can you kind of quantify that.

Let me just talk about your first part of your comment and then let me come back to that.

Steve, we have been doing over $300 million of restructuring in 2001, $300 million, over $300 million in restructuring in 2002 and I think you and I chatted recently about what you saw during the first three quarters of this year, which is probably little restructuring, in fact I think it was like $45 million for the first three quarters.

So what you are seeing now is the 138 in the fourth quarter which is still, when you add it to the first three quarters, still below our run rate of the past couple of years.

If you look at what we've talked about in the fourth quarter and you add it to the first quarter and second quarter, over the two years we're sort of back to that $300ish plus run rate which is I think, what we need to do here to keep the momentum going, which is to create run rate in '05 - '06.

The paybacks that we are looking at - certainly the paybacks on the factories are a little less than they are on the SG&A.

Clearly the SG&A, if we do it right, should be about a one year payback or less.

The factories go to two years, two plus years.

But it's a mix.

We don't expect to have 100% of this restructuring that we just talked about in factories.

I think we're going to run 50 to 60% in footprint and we're still ging to have around 40 - 45% in SG&A, which will have the good payback.

You are going to see a blend of that and I think a two-year time frame is a good rule of thumb for you, Steve.

All right.

Secondly, can you maybe touch on cash flow for 2003?

You talk about the FX impact on earnings but how about on cash flow on the fourth quarter, how much of a benefit and also for the full year 2003, how much of a benefit did cash flow get from the weakness in the dollar relative to your original plan?

Steve, the cash flow benefit, of course, is reported outside of the cash flow from operations, the free cash flow numbers that we generally talk about.

So I don't have, again, don't have that number in front of me, but can get back with you.

But it is not part of the free cash flow that we report.

Steve, in terms of the restructuring outflow we had, as you would expect, kind of outflows throughout the year.

Here in the fourth quarter, though, the outflow was relatively small in the range of $40 million or so from our programs so wouldn't call it a big driver, I wouldn't call the spending of big driver to cash in the quarter.

And how much were cash taxes in the quarter?

Why don't we get back to you on that, Steve.

We can get that number for you.

Okay.

And one other thing, on new equipment orders in Otis, can you maybe touch on the fourth quarter, how they ran year-over-year, what kind of book-to-bill, if you want to just talk about percentage change?

Steve, believe it or not we have all of this information.

It's just putting our finger on it right now.

Jim, do you have that?

Yes, I do.

Just one second.

I think we've got a nice -- we can talk a little bit about the regions here.

I think we saw orders, we'll talk new equipment, up pretty good in the fourth quarter driven early by northern Europe and then Asia continues to do fairly well, and we are starting to see a recovery in orders here in North America which had been weakish throughout the last year or so..

I think, as we talked before, we had a very good year at Otis.

I think North America being the only trouble spot.

I think we're seeing a little bit more spending now on some discretionary work and we're seeing a rebound in orders there.

So if you quantified it, what was it for the fourth quarter, do you know off hand.

Yeah, it was upper single digits in total led by North America being up well over 10%.

Okay.

And Steve, congratulations on a great job.

I was actually wondering, is there any chance that you pull a Roger Clemens or a Michael Jordan here? [ LAUGHTER ]

That's a great question.

Anyway, thanks very much.

Thank you, Steve.

Your next question comes from Sam Pearlstein of Jeffries.

Good morning.

In the introduction, Jim, I think you mentioned a 5 cent provision in Pratt & Whitney, can you describe what that was.

Was that related to this litigation with the DOD or is there something else?

Sam, it's Dave.

Actually I mentioned that in my opening comments and then Steve talked about it when he went through in a little bit more detail about the overhead allocation litigation matter that he described that had been reported previously in our filed documents and he gave you an update about what to expect the next time you read our 10-K.

Okay.

And then in terms of the $250 million from the MTU settlement, if the $250 million is all a gain, is there a certain amount that's going to go back out for taxes?

I guess that's the first part and then in addition to that, trying to just think about the cash flow in 2004.

Since that settlement, I'm assuming, would be considered cash flow from operations as well as the tax benefit that you might see in later quarters, is there something that's going to offset that, is restructuring outflows enough to offset that or is that really a big factor in how you are getting to the free cash flow in '04.

I think, Sam, as George mentioned in December, I think you're going to see these cash related to these gains be offset by restructuring.

The restructuring that Steve described, the plant closures and the SG&A action, have a very large, very high cash content to them so there may be some variability between quarters but on the whole these two items should net out for 2004 and they will be inside free cash flow but they'll be about 0 net.

Sam, as you mentioned, this is a taxable gain for us and we will pay, obviously, the tax rate on the $250 million, so that will be a cash outflow in addition to what Jim said.

Okay.

And then within the Otis and the swapping of the equities so that you've now got a controlling interest, is the entity large enough to really impact the minority interest line or the equity income in terms of the Otis profitability?

No, Sam, it didn't have a significant effect on income reported through eliminations and other minority interest line, no.

Okay.

All right, thank you very much.

Your next question comes from Chris Mecray from Deutsche Bank.

Thank you.

I was hoping you could identify the percentage of sales you might be getting from China at Otis in '03 and what that might have been year-to-year growth.

The growth in China was very, very, good year over year.

It was up about 20% for the full year in the Peoples Republic.

Its percentage of Otis, let me get back to you on that in a moment.

We are seeing it being a growing piece of the UTC pie.

Or if you have Asia as a whole, perhaps?

Yes, I have Asia as a whole in terms of total sales, if I look at Asia as a whole, I'll be almost 30%.

Okay. 30%.

And I'm just wondering can you mention again, you may have said this before, your expectation of global traffic growth and whether your after-market business in aerospace as a whole would likely keep up with that or if there are unique dynamics that would allow you to feed that rate of growth.

A lot of people are calling for global traffic plus a measure of pent-up demand as has been the case in prior cycles but that may not fully incorporate the nuance of market share changes on some key engines.

How do you feel about that.

I think we heard others talking about a 7% revenue passenger mile growth and so we use that kind of external metric as our plan.

I don't think we, because of the airlines' poor financial condition, anticipate any snapback.

I think that's been something that's been talked about a fair amount.

We don't anticipate that.

But as we talked in December we do see double digit increases or we do have in the plan and the guidance for the aerospace units perhaps aggressively double digit increases in after-market.

But you don't expect a snapback, you said, so would that come from other sources other than sort of pent-up demand.

I think you see there's been deferred maintenance and there will be some of that flow out but, again, the airlines are not in a position, as they continue to lose billions of dollars, to go out and do probably the full amount of maintenance that they've deferred over the last two years.

So I think there will be some of that, but it will be like it was back in the mid '90s where there's a very strong snapback and the airlines will turn to profitability very quickly, that seems like a stretch at this point.

Lastly, there was a mention in your risk factor earlier on of a military large program cancellation, I'm not sure I've heard you mention that in the past.

I was just wondering if that signaled an enhanced risk factor on that front from prior years?

I think we talked a little bit about in December.

I think it's just acknowledgement that military has become an important piece of the puzzle at UTC.

It was very helpful to offsetting the commercial downside.

I want to respond a little bit to Heidi Wood's question.

She said how much was military up at Hamilton.

As an example, it was up almost 20% in the quarter and we saw for the year military be up almost 10%.

So these programs are just important to us.

I don't think we have any foreshadowing here of program problems.

Chris, I think that Jim's last point is a critical point here.

The joint strike fighter, based on everything we know, is a very popular important program, continues to be funded, Comanche, as far as we know, is in the same category, up 22 as far as we know, same category.

We don't see any issues today, but I think all Jim is saying is we are in these very big military programs and just to stay alert to it.

Again, we don't see anything on the horizon, and based on the DOD budget that we saw a couple of months ago, these are continuing to be funded.

Okay.

Fair enough.

Thank you.

Your next question comes from Howard Rubel from SoundView.

Thank you very much.

A couple of things.

First, could you again remind us what you're going to spend on capital this year and has that really changed given this incremental restructuring?

I think we have talked in our, Howard, we've talked a little bit about CapEx this year.

As low as we've scrubbed budgets very hard we would expect to see it maybe rise a little bit next year, back towards the levels of depreciation but as Steve has talked about on previous calls the Presidents watch cap expenditures very, very closely and we look to the opportunity to continue to keep a tight rein on that.

I think restructuring, there will probably be some capital expenditure because of plant related is associated with that, but I would consider it inside our CapEx and cash flow guidance.

So we are talking 650 - 700 million.

Yeah, again, a little bit higher this year back towards depreciation levels.

Okay.

And to follow-up, last year you had a fairly aggressive initiative to focus on working capital turns and you indicated that you've made a little progress on that, although currency sort of works against you.

What are you going to do this year on that same front.

The program that we launched last year, Howard, continues in place and I fully expect the program is part of the fiber of the company from now on.

I don't see any reason why George will change the program on the out years and we have the incentive comp formula that we talked about before also in place in the 2004 compensation plan.

So the very same plan we had last year continues in '04.

And I fully expect it will continue in '05 and beyond, which is about a half an inventory turn a year target for each of the divisions.

And then just two final questions.

One is you talked a little bit about the M&A pipeline being filled up again.

Jim, maybe you could address a little bit of what sort of markets you are focused on and what sort of fit you can see.

Howard, let me do that.

The market is fairly broad.

Clearly there are opportunities in each of our divisions that are being explored as we speak and there are domestic and global opportunities.

As you know we certainly continue to have an appetite for acquisitions.

Some of the revenue growth that we've talked about over the years will have to continue to come from acquisitions, as it certainly did in '03.

So it's global and it's all of our businesses.

But I want to conclude that comment by saying we certainly like the balance that we have now, which is sort of 60/40 commercial aerospace.

I won't go where it would lead, Steve. [ LAUGHTER ] The final thing is if we look at FX today versus where Mr. David talked about it in December and where you sort of set your plan there continues to be somewhat of a disconnect.

I mean, at some point this revenue increase that we're seeing is going to translate into a higher top line than the $33 billion.

Can you give us an indication today of how far above your plan of the FX benchmarks are, Jim?

Well, we talked in December that we used for the plan kind of a Euro at $1.15 rate.

I think today it's at $1.25, it's been as high as $1.28.

It's moved around quite a bit so I'm very reluctant to put a stake in the sand because we're 1/24 of the way through the year and to call a Euro at $1.25, I think you can understand.

But to get to the answer, I think it would add at 1.25 a couple points, probably 2 points or so of revenue growth versus what we talked about, the 33 billion or so that we talked about in December.

And also roughly adds a dime or so of EPS, again, but we talked our habit in good practice has been to take goodness in the business and reinvest it to strengthen the business over time.

And we would likely look for that opportunity to do it in addition to some of the gains we've already talked about this year.

Thank you gentlemen.

Thank you, Howard.

Thanks.

Your next comes from George Shapiro from Salomon Smith Barney.

Good morning.

I wanted to pursue a little bit the margin at Otis.

You had sequentially the margin was down from 18 to 17 points and yet revenues were up fairly substantially sequentially.

So just kind of explain what was going on there.

Well, I think, George, one of the things you see in the fourth quarter at Otis is a little heavier impact from new equipment than I saw in the third quarter which is a lower margin business at Otis than the service portfolio.

So a piece of that relates to a mix shift.

And if we go into 2004, and you're seeing some new equipment orders go up, if we still have that same mix shift and how do you overcome that to get your 100 basis point increase in margin?

George, what happens with Otis is some of the restructuring that we talked about will continue to improve the margin.

I believe we did announce in the fourth quarter that the Bloomington factory was going to be closed and actually relocated to Nogales..

So there is still ample opportunity for cost reduction.

Some of the first quarter restructuring that we've been talking about will also go to Otis, which, again, is to improve the cost profile at Otis.

So I think Ari would tell you that there's ample opportunity on the cost side, plus they do grow the acquisition portfolio.

You'll recall the Amtech acquisition was about six months ago.

They will have the full year of Amtech in the '04 numbers and, of course, Amtech is the maintenance portfolio acquisition.

One other thing, George, you mentioned margin kind of not as strong at Otis and Dave mentioned that was new equipment, which is good for the business in the longer term and as well, I would go and if we look at operating profit and we strip away the FX and foreign exchange we still had double digit growth in operating profit.

I think Otis continues to do very well on the guidance, they were up a point plus this year and we would expect something around in that neighborhood for '04.

So I think everything continues along well at Otis.

Okay, and then if I switch to Pratt & Whitney for a minute, you mentioned that the spare parts orders were flat year over year, should I assume that that meant spare sales were also flat year over year?

Yeah, George, we talked in terms of about a long book-to-bill.

So yes, that's a good assumption.

Okay.

And then the drop in R&D sequentially of about 27 million, do I assume that virtually all of that reflected the drop in Pratt as a result of the reimbursement at Canada?

Right.

Okay.

And the deliveries at Canada up a lot sequentially, is that just reflecting a strong fourth quarter, or are they seeing some specific improvement in the fourth quarter?

It was a better fourth quarter.

We had some easy compares right after 9/11 and we do expect right now Pratt & Whitney Canada to be up volumes in terms of engines to be up a little bit next year as we see that market seems to be a little bit better than the big airline OEM market for large commercial engines.

Okay.

Then in flight, you mentioned a commercial aerospace business at Hamilton Sundstrand was flat.

Now I assume that that means that spares are up a little bit and OEM was down, or they're both about flat?

That's right.

I would say spares are up a little bit but it's not a huge number.

I think both about flat is probably a better characterization.

Okay.

And on the industrial business side, how much growth did you see there, and what particular businesses of the three businesses that Sundstrand had did you see the improvement.

The industrial businesses had some good revenue growth in the quarter, a little bit of that is from acquisition, but they were up, I think, more on the pump side of the business, than any other part.

And, again, these businesses have shown a little bit of recovery this year, they tend to lag the economy a bit, but we're looking for a little bit of growth next year as well given the economic upturn.

Okay.

And deliveries at Sikorsky in '04, what are you looking at relative to '03?

We're looking for higher deliveries, I think.

We'll talk more about that in March but I think we're looking for higher deliveries in part thanks to S 76 activities which we saw very strong orders for this year.

Okay, thanks very much.

Thank you, George.

Your next question is from Tony Beauce of AG Edwards.

Thanks very much.

I wonder if you can just clarify the Japan Airline issue.

Were all the flights that were canceled, were they MD-80s and did they actually find an issue or did not find an issue when they inspected the planes.

All the flights that were canceled were M.D-80s, and they did.

They found two of the airplanes had, in fact, issues over the past week, and because of that, they put -- well, it started with two of the airplanes having issues over the past week.

They put all of the MD-80s on the ground, they inspected all the MD-80s and as they go through these inspections, as I mentioned earlier, they released 7 of the 25 MD-80s that they have.

They're now flying again.

The inspection will go through the balance of the fleet.

We're obviously not sure what they're going to find until they finish the entire fleet.

When I looked through your presentation, it sounded like commercial HVAC was doing better.

Have you seen an improvement there and what would you expect for 2004?

We have seen an improvement in North American commercial HVAC and I would caution it's off a very, very, low base.

That market has been down three years in a row, which is first time in the last 25 years we have seen such a trend.

But we did see sales up in both the applied and unitary market in the fourth quarter.

We think it reflects higher capital spending that you are seeing in the economy and we look for better profitability, maybe a little less pricing pressure next year.

So we're looking for that business to get better.

Is that because you've had three years of deferrals or there is other evidence of something going on there?

I think you've had three years of people being very reluctant to spend on capital or to upgrade and I think we're going to see some of that.

We've seen some of it start to flow through now.

And, again, it is off an easy compare because this has been a very poor market.

Okay.

Thanks very much.

All right.

Your last question is from Cai Von Rumohr from SG Cowen.

Yes, thanks an awful lot.

Your commercial spares at Pratt were flat.

As I recall last year you had an 8% price hike that became effective in the first quarter of '03 and may have had some impact.

Could you talk about what pricing we saw in the fourth quarter and what impact that might have had.

If you recall we did the 8%, I think, on the back of the Euro, we didn't raise prices.

It was kind of a catchup.

So I think that was usually large.

We had a price increase this year but it wasn't anywhere near that size.

It was much closer to inflation, just a little bit above inflation.

I think the price is holding right now.

And am I correct that that 8% became effective in January '01, and therefore partially bolstered the Q4 '02 bookings?

I would agree there's probably some prebuy activity in the fourth quarter of '02.

I think it's safe to say, smaller price increase, status of the airlines, we didn't see a very significant prebuy in the fourth quarter of '03.

Great.

And getting back to the defense overhead allocation, I guess you're saying five cents, 35 cents -- excuse me. 5 cents, $35 million pretax reserve in the fourth quarter.

How much were the reserves for the full year?

How much -- you know, how are you approaching this issue for 2004?

And you mentioned $755 is the total that they are asking, up from about 260.

How much of that is for the tax years '97 and beyond?

We certainly have had reserves for this issue that go all the way back, as I mentioned when we first talked about this issue in the 10-K back in 1996, at which time we had reserves.

Those reserves are adjusted annually based on facts and circumstances as we do with all of our reserves, Cai, as you know.

What Dave was talking about was the additional reserve in the fourth quarter.

That isn't to say that we did not take reserves in Q3, Q2, and Q1.

In fact we did.

We have an appropriate reserve as we end 2003.

To give you the breakdown of that, I don't have that level of detail and I'm not sure we would have that level of detail even later.

But just given that it's a relatively sizable number that you decided to kind of break out for the fourth quarter, this 5 cents, could you tell us at least how much was it for the full year 2003 and how much was it, approximately, for the full year of 2002?

Well, it was about twice that for the full year 2003.

And I don't have the 2002 number and I'm looking at Dave.

Do you have the 2002 number.

Not in front of me, Steve, and I think I would echo your comment earlier that it's part of each quarter close and year-end close, one of the things that the accounting organization does and the organization does is evaluate the appropriateness of reserves.

So Cai, we specifically identified the fourth quarter amount because it had an impact to the Pratt level.

Okay.

Terrific.

You know, going back to Howard's question, it looks like FX is a little bit bigger.

Certainly it sounds like the tone of commercial aerospace spares may be a little bit better and yet you've kept your guidance exactly the same.

I know that there's more restructuring but on the other hand, there're also these non-recurring items to kind of offset that.

So presumably that not in the P&L.

Explain to us again why you are keeping the earnings guidance the same.

I mean should we look more toward the upper end of the guidance range or are you --

No, Cai, I think what you want to do is look at the calendar.

We're 20 days into the year and my recollection is we go 365?

Yes.

I'm looking for Dave, for my numbers guy.

Cai, we're way too early to change the guidance.

George just gave you the guidance a month ago.

This is not the time after 20 days to change that.

Obviously, as I said earlier, we finished '03 strong.

We're starting '04 in pretty good shape, plus we have these two significant gains that we've talked about, which is the one in the first quarter reported and the tax gain is coming, we expect, in the second quarter, maybe a little bit thereafter.

So it feels pretty good right now, but, of course, it's 20 days and as Jim said a year ago, I don't think anybody saw SARS.

We just want to be a little cautious.

We'll see you in March and we'll have, obviously, first quarter data pretty much in hand then.

So that might be a great question for then, Cai, but really right now it's way too early to change the guidance we gave you a month ago.

Terrific.

Good answer.

Thanks an awful lot.

Thank you Cai.

Well, thank you ladies and gentlemen, as always Rick and Myron and myself will be here for the remainder of the day so feel free to contact us with questions and thank you again.

Thank you for participating in today's teleconference.

You may now disconnect.