Spirit AeroSystems Holdings Inc (SPR) 2009 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first quarter 2009 Spirit AeroSystems Holdings earnings conference call.

My name is Candice and I'll be your coordinator for today.

At this time all participants are in listen-only mode.

We will conduct a question-and-answer session after management's remarks.

(Operator Instructions).

I would now like to turn the presentation over to your host, Mr.

Phil Anderson, Treasurer and Vice President of Investor Relations.

Please proceed, sir.

Good morning and welcome to Spirit's first quarter 2009 earnings call.

I am Phil Anderson and with me today are Jeff Turner, Spirit's President and Chief Executive Officer; and Rick Schmidt, Spirit's Chief Financial Officer.

After brief comments by Jeff and Rick regarding our performance and outlook, we will take your questions.

In order to allow everyone to participate in the question-and-answer segment, we ask that you limit yourself to one or two questions.

Before we begin, I need to remind you that any projections or goals we may include in our discussions today are likely to involve risks which are detailed in our news release, in our SEC filings, and in the forward-looking statement at the end of this web presentation.

And as a reminder, you can follow today's broadcast and slide presentation on our website at spiritaero.com.

With that, I will turn the call over to Spirit's Chief Executive Officer, Jeff Turner.

Thank you, Phil; and good morning.

Let me also welcome you to our first quarter earnings call.

I'll begin on slide two.

Overall, we executed our core business well during the first quarter of '09.

Our results reflect solid performance across the company as we returned to full-rate production on Boeing programs following the Machinists' strike at Boeing which occurred late last year.

Despite that strike at Boeing, we achieved first quarter sales of $887 million, operating margins of 11%, and fully diluted earnings per share of $0.45.

Financially, the impact of the strike at Boeing reduced the first quarter earnings by $0.18 per share.

During the quarter, the primary end-market for Spirit's core business continued to soften as demand for commercial air travel declined.

We have been taking the appropriate actions over the past several months as we focus on meeting our customer requirements and managing through the business cycle.

I'll discuss several of those actions we have taken in more detail in a few minutes.

During this quarter, we opened our new Spirit Malaysia manufacturing facility as planned.

Our Spirit Europe team and Wings segment leadership did an outstanding job of bringing the new facility on line and the new Malaysian team is doing a great job.

As you know, Spirit Malaysia's initial focus will be on Airbus products that over time will provide value to products across the company.

The new operation is adding value immediately in 2009.

I continue to be pleased with our performance on the 787 program.

Our team continues to work well with the customer and our suppliers regarding change management, flight test preparation and production plans.

We look forward to making solid progress on the 787 program through the remainder of 2009.

As you know, yesterday, Textron's Cessna Aircraft unit announced the suspension of the Citation Columbus program.

As a result, we are taking the necessary actions to correspondingly suspend our efforts on the program.

We will assess the financial implications of those actions during the weeks ahead and we'll provide you an update when the process is complete.

In the long term, we remain confident in the viability of this program and anticipate its restart at the appropriate time.

Spirit's backlog at the end of the first quarter of 2009 was $29.6 billion.

The backlog is down from year-end 2008 as deliveries for large commercial airplanes outpaced orders during the quarter.

Now let's talk about some of the specific accomplishments across the business on slide three.

The Machinists' strike at Boeing impacted revenues and operating margins across all three business segments during the quarter.

For the quarter, we delivered 30 fewer Boeing ship sets than we had expected prior to the strike.

Impact from the strike is now behind us as we look forward to the second quarter and full-rate production across the company.

The Fuselage team continues to execute well across programs.

They delivered the 6,000th 737 fuselage during the quarter and shipped the third 747-8 freighter forward fuselage section.

The team continues making good progress on the Sikorsky CH53K program and has suspended the development efforts on the Columbus program.

On slide four you see the Propulsion team's results for the quarter.

The Propulsion team's 747-8 pylon made its first flight during the quarter and the Rolls Royce BR725 nacelle successfully completed a series of tests.

The team continues to make good progress on the Mitsubishi regional jet and is seeing nice growth in margin contribution from sales to the aftermarket.

We continue to view the aftermarket as an attractive long-term growth opportunity niche for Spirit.

On slide five you see the Wing Systems segment which is comprised of our Spirit Europe, Malaysia and Oklahoma operations.

The core business continues to perform well while working through market and development program challenges.

As noted earlier, Spirit Malaysia is now operational, completing its first component for the Airbus A320 product during the quarter.

Spirit Europe continues to execute well while adjusting to lower business jet production rates.

And as you know, currency exchange rates provide a headwind for Spirit Europe's revenues and earnings when the dollar strengthened as it did in the first quarter.

Our Aero Structures team in Tulsa continues to execute well on core products while focusing on new program execution.

We're working closely with our customers as we move these new programs from design into production.

Now let me turn to slide six and give you a brief update on the 787.

We delivered aircraft number six in March and aircraft number seven, the entry into service airplane, is progressing through the system's installation process.

Overall, product quality remains high and we continue to work with the supply base to enable a smooth production ramp-up.

We are continuing to work closely with our customer as we incorporate the necessary engineering changes on the initial and service airplanes.

Our internal efforts remain focused on productivity improvement and increased utilization of the capability we have in place.

We expect to restart forward fuselage production later in 2009.

Now let me turn to slide seven and provide you my thoughts on the business environment.

Clearly, these are challenging times.

The global economy continues to impact air travel across regions of the world.

In the face of these challenges, we are seeing our customers work to match supply with demand.

We have seen our customers announce plans to delay development programs, to reduce production rates on certain products, to forego previously planned production rate increases on other products, and indicate caution yet continued solid demand for other products.

This tailored response by our customers to the current market conditions, from my view, is a direct result of the more measured increase in production rates undertaken since 2006.

The more measured and tailored the responses to market demand with the goal of reducing the magnitude of cyclical swings, to the extent possible, benefits stakeholders across the industry.

We know that the airplane business go through cycles and we have learned much from the past that positions us well for the future.

We have structured business arrangements to share upfront development costs for new programs.

We've maintained a continuous focus on costs and inventory management as well as productivity improvement.

We've been prudently conservative in estimating future demand for products.

And we have taken aggressive, proactive action, freezing executive management and some non-management salaries and are hiring only to replace critical skills.

At Spirit, we have shown that our team can respond effectively to changing business requirements and difficult situations and do so in innovative ways that keep our company positioned to support our customers and to create long-term value.

We believe we are well positioned to accomplish this at Spirit.

Now let me turn it over to Rick who will provide more details on our financial results and outlook.

Rick?

Thanks, Jeff; and good morning, everyone.

Slide nine summarizes our financial results for the first quarter which continued to be influenced by the residual impact of the IAM strike at Boeing.

Revenues were down 14% over the prior-year period driven largely by fewer unit deliveries to Boeing as a result of the strike and the impact of a strengthening dollar on our U.K.

results.

We estimate the strike impacted Q1 deliveries by approximately 30 units or about $256 million of revenues.

Operating profit at $98 million for the quarter was down 25% as margins were impacted by lower revenues from the strike and a small negative cum catch adjustment in the quarter.

The strike impacted operating profit by an estimated $38 million.

Fully diluted earnings per share of $0.45 for the quarter were down 26% from earnings of $0.61 per share in the prior-year period largely due to the strike impact of an estimated $0.18 per share.

Cash flow from operations of a negative $149 million and capital expenditures of $54 million for the quarter reflect our continuing investment in the 787 program and other new programs, growth on accounts receivable in the beginning of the transition in 787 customer advances from cash inflows to cash outflows as the advances are liquidated.

Slide 10 highlights our progression on key P&L metrics over the trailing four quarters.

First quarter revenues were up 37% sequentially from the fourth quarter but down 14% over the prior-year period as the strike impact began to unwind in the second half of the quarter versus the full impact in the fourth quarter.

The strengthening dollar lowered first quarter revenues by approximately $40 million versus the prior-year period and approximately $11 million versus the fourth quarter.

Operating income margins were 11% in the quarter, about 160 basis points below the prior-year period largely due to the lower revenues from the strike and the small negative cum catch adjustment.

Sequentially, margins were up significantly from the fourth quarter due to higher sales volume and the absence of a $27 million negative cum catch adjustment booked in the prior quarter.

Lastly, first quarter fully diluted EPS of $0.45 is down 26% from the prior-year period for the same reasons, but up significantly on a sequential basis.

Our effective tax rate of 32.5% in the current quarter was slightly lower than the prior-year period.

On slide 11, R&D expense in the first quarter was $14 million, up $4 million in the prior-year period due to modest increases in spending for new program development in our Propulsion and Wing system segments.

Sequentially, R&D expense was about flat for the fourth quarter.

SG&A expense for the quarter was $38 million, about 3% below the prior-year period due primarily to lower non-cash stock compensation expense.

Sequentially, SG&A was up modestly from the fourth quarter.

We continue to be very focused on expense control in this uncertain environment.

The revenue decline caused by the strike resulted in SG&A and R&D in total increasing from 4.7% of sales in the first quarter of '08 to 5.9% in the current quarter, a 120-basis point decline in operating margins.

When sales returned to pre-strike levels in the second quarter, these metrics should also resume their historical relationships.

Slide 12 summarizes the P&L for the first quarter versus the same period in the prior year.

During the quarter, Spirit realized approximately $3 million of net unfavorable changes in contract estimates versus a net $2 million favorable adjustment in the prior-year period.

The majority of the negative cum catch adjustment was recorded in our Spirit Europe business which is included in the Wing System segment.

The negative adjustment was driven by the recognition of a small forward-loss on our Hawker Beechcraft 850XP business jet contract and the impact of the strengthening dollar versus the pound on our A320 contract.

The impact of the Boeing IAM strike was largely reflected in our third and fourth quarter of 2008 results based on our initial estimates for its duration and the pace of the subsequent ramp-up.

These estimates were trued-up gain in Q1 but immaterial adjustments to what had been booked previously.

As Jeff said, we now believe that the impact of the strike is now fully behind us.

Slide 13 summarizes the trailing four-quarter changes in our cash and debt balances.

Cash balances at the end of the first quarter of $116 million decreased to $101 million from the prior quarter end largely due to negative cash flow from operations which I'll explain in more detail on the next slide.

Total debt balances increased $75 million in the quarter entirely due to withdrawing our $650 million revolver driven by negative free cash flow in the quarter.

Despite the decrease in cash and the increase in debt, at the end of the first quarter our net-debt-to-capital ratio was approximately 29% versus 22% at year-end in 2008 and our net debt to 2008 EBITDA ratio was around 1.0, both indicators of a strong balance sheet and a well-capitalized company.

Additionally, at the end of the first quarter, the company had about $675 million of short-term liquidity available through our unutilized revolving credit agreements and available cash balances.

We continue to believe this level of liquidity is fully adequate to more than fund projected cash flow needs.

As we'll discuss in our guidance section coming up, Spirit believes that free cash flow for the year will be a net positive and the first quarter revolver draw of $75 million plus additional borrowings projected for the second quarter will be fully repaid by the end of the year.

Slide 14 details our cash flow for the first quarter of 2009 versus 2008.

Cash flow from operations was a negative $149 million as lower profitability related to the strike, growth in working capital primarily for accounts receivable and inventory, and the liquidation of the customer advances for the 787 negatively impacted cash flows.

Accounts receivable balances typically increase significantly in the first quarter due to balances being at their low point in the year-end financial statements based on the timing of year-end shipments and scheduled Boeing payments.

Year-end 2008 was abnormally low versus other years due to the extended Christmas shutdown at Spirit related to the residual impact of the Boeing IAM strike which resulted in lower December sales.

Spirit returned to normal shipment levels towards the end of the quarter; accounts receivable balances were replenished accordingly.

Inventory grew $236 million in the first quarter due to continuing investments in new programs, primarily our two Gulfstream programs, and the 787.

I'll provide additional color on inventory growth in the next several slides.

Advanced payments were negative $24 million in the first quarter as we begin to liquidate 787 customer advances as units are shipped.

In the first quarter of 2008, we received $124 million cash inflows from 787 customer advance payments.

The difference in cash flows for accounts receivable and advance payments largely explains the total variance in cash flow from operations between the first quarter of 2009 and 2008.

Capital expenditures were $54 million in the first quarter versus $66 million in the prior-year period as the installation or production capacity for the 787-8 program continues to wind down.

Slide 15 details the growth in Spirit inventory by major category during the calendar year 2008.

In total, Spirit's inventory grew by $539 million during the year driven largely by two factors -- the 787 and our new Gulfstream programs.

Starting with the 787, inventory for this program grew about $240 million in 2008 or about 45% of total growth.

This growth was due to the anticipated ramp-up in full-rate production, which has yet to be realized, related production and efficiencies and further engineering changes.

Gulfstream inventory growth was $206 million or another 38% of the total growth.

Here, the growth was largely for capitalized pre-production engineering which will be amortized over the life of the programs.

But this also includes the ramp-up of initial purchases for the physical component parts and working process for these start-up programs.

Together, the 787 and the Gulfstream programs accounted for 83% of total inventory growth during 2008.

The remainder of the growth is attributable to spending for non-recurring engineering activity, again primarily on new programs, much of which is billable in 2009 and 2010.

Overall, inventory for legacy programs was largely flat in 2008.

Slide 16 provides the same level of detail for inventory growth in the first quarter of 2009.

Total inventory grew by $236 million with 787 and Gulfstream accounting for about half of this growth.

Increases in engineering costs for other new programs accounted for another 24% of the total increase.

As mentioned earlier, these costs will be billable in 2009 and early 2010; should not repeat in future periods.

We expect further inventory growth in the second quarter with declining balances in the second half of 2009 as 787 deliveries begin, residual inventory from the Boeing IAM strike is burned off, development spending for the Gulfstream program nears completion, and engineering costs are billed and collected.

Slide 17 summarizes our guidance for 2009 compared to 2008 actual results.

Overall our 2009 guidance is unchanged from what we provided in our year-end 2008 earnings report.

2009 revenue should be in the range of $4.25 billion to $4.35 billion, a 12% to 14% growth over 2008.

This growth will partially result from the resumption of a pre-strike level of unit deliveries to Boeing.

Ramp-up of 787 deliveries and growth in revenues from non-Boeing customers will also contribute in 2009.

Offsetting some of this growth is currency headwind for our U.K.

operations.

At the present dollar-pound exchange rate, negative currency headwind for 2009 revenues will exceed $120 million.

On this projected revenue base, Spirit expects earnings per fully diluted share of $2.15 to $2.35, an 18% growth over 2008 using the midpoint of the range.

Earnings growth should exceed revenue growth due to the non-recurrence of negative cum catch adjustments booked in 2008 and contributions from new programs.

SG&A and R&D expense are projected to remain at 5% to 5.5% of sales, consistent with what we saw in 2008.

Offsetting some of our margin expansion opportunities will be earnings headwind created by foreign exchange that I mentioned earlier, higher projected net interest expense, and a slightly higher effective tax rate in 2009.

The recent announcement by Boeing of a production rate cuts for the 777 program starting in mid-2010 should have a minimal impact on our 2009 results and is fully included in our 2009 guidance ranges.

Also, as explained in more detail in the press release, specifically excluded from our earnings guidance is any potential P&L impact associated with the suspension of the Cessna Columbus program.

We expect cash flow from operations to be significantly stronger in the second half of 2009 largely as a result of inventory growth peaking in midyear.

For the total year, we expect free cash flow to be a net positive with approximately $250 million of capital expenditures.

The suspension of the Cessna Columbus program may actually improve 2009 cash flows as we had expected additional engineering development expenses in the remainder of the year.

And now I'd like to turn it back over to Jeff for some closing comments.

Thank you, Rick.

I'll wrap up on slide 18 with just a few brief comments.

Our core business is performing well.

We are conservatively capitalized and remain financially strong.

While we are past the challenges posed by the strike, we are taking the necessary steps to successfully manage through the cycle in our core businesses and meet customer requirements on new programs.

There is no question these are challenging times across the commercial aviation and aerospace industry and we are well positioned to manage through them.

I believe that the current difficult economic time will pass, and when it does, Spirit is well positioned to take advantage of future growth opportunities and to create value.

We'll now be glad to take your questions.

Thank you, sir.

(Operator Instructions).

Our first question will come from the line of Howard Rubel of Jefferies.

Thank you.

Good morning, gentlemen.

Good morning, Howard.

Good morning, Howard.

I want to talk about gross margins a little bit.

I mean, it's significantly better than the fourth but not quite as good as you've done.

Could you put it in context of what you'd like to see for the balance of the year?

I mean, there are a number of offsetting items.

You have at some point a 320 rate change of 737.

You might want to be preparing for some change there and then the 787 obviously becomes a greater part of the mix.

So, how should we think about what you're going to do with them?

What you can do with gross margins to improve it from where it is and deal with some of the challenges?

Well, I think, Howard, first of all, clearly margins do come under pressure in reducing volume environment.

Also, I'd remind you of the difference in margins as we shift to newer products, specifically the 787, we've talked about that in the past.

Clearly we remain focused on working margins and productivity and our processes and so on.

But I do think we're in a period of time where margin expansion is going to be difficult and managing it to the right balance is appropriate for us as we look to manage effectively through the -- whatever downturn happens to be here and prepare ourselves for the upside.

Rick, do you have anything to add to that?

Yes.

I would add to that, Jeff.

If you just look at margins for the remainder of 2009, I think what you saw from a margin percentage standpoint in the first quarter is pretty much what you'll see for the rest of the year.

Right now all of our current contract blocks largely extend through the end of this year.

So we're approaching the end of these blocks and usually at the end of the blocks you don't have a lot in the way of the prices or adjustments in your contract profitability because most of it is driven by actual costs that are behind you.

So, pretty consistent margins in the second half.

Jeff mentioned mix.

Certainly, 787, as we've talked about in prior calls, has lower margin on our base business.

So as that picks up, that would generate some downward pressure on margins.

But offsetting that is some revenue recognition and profit recognition on some of our newer programs which have somewhat better margins than our legacy programs.

And also our aftermarket business continues to do well and it has somewhat better margins than our legacy business.

So, for the near term, we see those largely offsetting and margins being fairly consistent over the next three quarters.

Thank you, Rick and Jeff.

Thank you, Howard.

Our next question will come from the line of Doug Harned of Sanford Bernstein.

You may proceed.

Good morning.

Good morning, Doug.

I'm interested in -- on the 787.

And when you look at the design changes that you've had, and it seems like there have been a pretty consistent flow of design changes, how are you looking at now the sort of scale and the timing of when you might get reimbursed from Boeing on these?

Well, again, I think we've talked about that in previous calls, there's a long-term program and a number of pieces to that puzzle.

I think it's sufficient for us to say that we're making progress with our conversations with Boeing and we continue to work through the issues.

But you can't -- you don't know whether this would be something that is likely part of the pricing that you have when you deliver as opposed to something that you would receive in advance?

Well, we have had some advances and Rick talked about that from the impact on the financials this quarter and those will continue in the future.

But I don't have anything to announce there in what we have -- other than the fact that we continue to make progress and we continue to have discussions on a number of fronts.

Okay --

Rick, do you want to add anything to that?

I would just say, I think, Doug, you'll probably see a combination of both as these issues get resolved.

Although I would say given the kind of the current state of discussions, it would gravitate much more towards future price changes on products --

Okay.

It would be reflected over our contract block and influence the margins that we recognize in that block.

Okay.

And then second question on labor.

As you look to the Machinists' contract ending in 2010, how are you approaching that today in terms of the way you're thinking about discussions in advance?

Any kind of a timeline you may have for looking at those?

Sure.

Let me just say we've been approaching that for three and a half years now.

So we see the relationship with our employees and their representatives as a partnership that we have to work all the time.

And clearly we have a contract point mid next year but you can rest assured that conversations are underway, have been.

Clearly, we expect to reach agreements that are -- that meet the needs of our employees, that are market-based, that clearly support the long-term viability of our company and achieve goals.

It's in -- it's certainly in the interest of the company and clearly in the interest of the employees to have a viable, vibrant Spirit.

So I think we've approached that whole partnership from day one as something that we need to keep in front of us all the time.

Okay, very good.

Thank you.

Yes, thank you.

Our next question will come from the line of David Strauss of UBS.

You may proceed.

Good morning.

Good morning, David.

Good morning, David.

Rick, could you just talk about the mechanics and the program [time] and why the 777 rate changes isn't affecting you now?

I know you're close to the end of the block on the 777, but I would think given the rate change, that's going to extend out, the length of time that's going to take for you to get through the block and obviously thereby increase your costs.

Yes, actually, I mean, you're absolutely right, David.

But the way the -- our current 777 contract block ends in the first quarter of 2010.

Boeing has said that they're not going to make these rate changes until mid 2010.

So our current block is relatively unaffected.

There is some impact, going back through our fabrication, manufacturing operations, as we start to manufacture our component parts, prior to final assembly, we did factor that to some degree into our first quarter contract profitability reviews.

But by and large the primary impact is going to be reflected in our next contract blocks when they start towards the end of the first quarter.

Okay.

And any color around how you're thinking about setting the size of your future contract blocks as they come up in 2010?

Yes, we've said that we fully expect that the next blocks would be somewhat shorter than what we've had initially.

All of our contract blocks, we started in mid 2005, they all roughly end around the end of 2009, so roughly a four and a half year period.

We believe the next blocks ought to be a little bit shorter.

I would think they'll be in the range of two to three years on average.

But we typically set them based on a number of units rather than a point in time.

And last question.

On the inventory side, could you quantify how much you're expecting from here inventory to come down and maybe break that out in terms of the three categories that you detailed here today?

I think overall, David, as I mentioned in my comments, we do expect that we'll have some additional inventory growth in the second quarter.

A lot of that will be driven by the same factors that you've seen impact our numbers in 2008, in the first quarter that is, the 787 program, as it now starts to ramp up again as Jeff mentioned, and certainly the Gulfstream programs will complete -- largely complete their development program in the second quarter, early part of the third quarter.

So we'll see both of those influences starting to wane by midyear.

And then actually as we start to ship 787 units more towards the second half of the year -- you'll actually start to see we're not replenishing those inventories because in this case, we've had a lot of that inventory on hand.

Now, I'll just remind you that as we entered 2008 we were expecting to ship 45 units in 2008.

We ended up shipping three.

So that ended up with us carrying a fair bit of inventory, and it's going to take some time to burn that off.

But obviously we're not replenishing that inventory.

So I think what you'll see is you'll see some growth in the second quarter, peaking by the end of the second quarter and then starting to gradually decline in the second half.

You saw inventory growth -- grew by about $236 million in the first quarter.

I think for the total year we'll be in a growth -- total year growth of probably $250 million to $300 million.

So we'll see a little bit more growth in the second nine months -- in the next nine months, but again, more growth in the second quarter than starting to have declines in the second half.

And that will be a big driver of why we believe that our cash flow will be stronger in the second half of the year than it was in the first half.

It's going to follow a pattern very similar to what we saw in 2008.

In 2008 we generated over 80% of our annual cash flow in the second half of the year.

Thanks Rick, great color.

Our next question will come from the line of Troy Lahr of Stifel Nicolaus.

You may proceed.

Thanks.

You talked about margins throughout the year kind of being similar.

I thought that that was your comment.

Is that kind of after adjusting, kind of backing out some of these contract adjustments?

And how should we think about Wing Systems going -- about Wing Systems' margins going forward now that you're on a forward loss on the Hawker program?

Is that meaningful?

Well, that by itself just represents the -- what we booked in the first quarter would represent the loss that we expect for the entire contract.

So if -- including both backward -- looking backward and looking forward.

So as long as we continue to hit our cost targets that we've established now, there should be no additional forward losses.

So the provision that we established in the first quarter will basically burn off as we ship the remaining units in the contract.

To your first point about margins, no, I was talking about basically reported book margins.

We had a small negative cum catch in the first quarter, $3 million in total.

Assuming again that we don't have big changes in volumes for the rest of the year, which we really don't expect at this point, that would represent fairly consistent margins on a reported basis.

Okay.

So I mean, just so I'm clear then, I mean we should be looking at fuselage kind of in the 18% range, I think kind of excluding the profit adjustments?

Is that kind of what we -- what you should expect?

That's a pretty good number.

Yes, I think what you'll see is obviously the Wing Systems margins were negatively impacted by the large negative cum catch, and so their margins, absent an event like that, their margins will recover in the second half of the year.

But fuselage and propulsion margins should be along the lines of what you've seen in the first quarter.

Okay.

And then just lastly, on the 787, I think you said you're going to start back up later on in the year.

Has that kind of pushed out a little bit or is that originally what you're planning?

I thought you were originally thinking maybe a little sooner than that, but maybe I'm wrong.

It's pretty close to the -- I mean clearly it pushed out from where we had it planned last year, but it's pretty much in line with what our plan for '09 has been.

Okay, and do you know how many that's going to be, or can you tell us, for ship set?

Well, our guidance assumes it will ship 10 to 12 units for the total year.

Okay, thanks.

Our next question will come from the line of Ron Epstein of Banc of America Securities.

You may proceed.

Yes, hey, good morning, guys.

Good morning, Ron.

Good morning, Ron.

If we think about this quarter with the number of deliveries you had in the quarter, is this what we could expect the business to deliver if this was kind of the, I guess, the Boeing run rate?

I guess what I'm trying to say is, I mean, what you're in this quarter if Boeing was to take their deliveries down by 20%.

Could you continue to earn at this level?

Well, that would largely depend, again the nuance here is our contract blocks, the fact that starting in 2010 we're going to be entering new contract blocks that have -- that are going to reflect the volumes that we expect for the next two to three years.

Obviously volume then will be -- you'll have to compare that volume to the volume that we've had in our current blocks and then that'll really be the largest driver of what happens to the overall production activity in the shop.

But if you look at that math, that would suggest that for the 777, if the 777 rates which is the one where we've seen the rate cuts so far, if you look at the 777 rates and you assume that in the next couple of years those rates are going to stay at five a month, that would be a little bit below what our average rate was for our current blocks, so that would indicate that we would have some margin headwind on the 777 program driven by nothing other than volume.

If you look at 777 for instance, our average monthly rate on 777 in our first blocks was about 26 units a month.

Obviously it was lower at the beginning of the block, higher today, but on average it's about 26.

Three sevens.

Yes, three sevens, I'm sorry.

So if you think rates are going to go from 31 back down to the low 20s, then volume would largely be a push between the current block and the next block.

And if you kind of go down the list of each one of our programs, you could look at volumes being relatively stable between the current block and next block.

Obviously -- there are a number of other influences that come into play there, but volume is certainly one of the key drivers and volume will not be that big of a driver from block -- current blocks that we're in to the next blocks.

Okay, okay.

And then, can you give us any more color on how we should think about the Cessna Columbus?

I mean, what do you guys have to consider and what are the contract considerations?

Sure, sure.

Let me -- first of all, I think it's important for me to reiterate that we believe strongly in the viability of this -- long-term viability of this market space, this airplane and this customer.

So it's important for us to be ready to resume work on the Columbus when the timing is right for it.

We have around somewhere in the low 20s million dollars in terms of inventory at the end of the quarter that's associated mainly with our initial design work on the program.

And like I said in my remarks, over the ensuing weeks, we'll work with our customer and our suppliers and our team and sort out the financial implications if any.

So the way I think about it is long term, good program; short term, market issue that caused its suspension.

And we'll work through what those short-term implications are and look forward to starting it up again.

Okay.

And then I guess just maybe one last question.

On the C Series, is there any more opportunity for you guys there?

We have nothing to announce on the C Series one way or the other.

Okay.

Thanks, guys.

Our next question will come from the line of Joe Campbell of Barclays Capital.

You may proceed.

Actually it's Carter Copeland.

Good morning, gentlemen.

Good morning, Carter.

Good morning, Carter.

I wondered if we could just address some of the specifics again on Columbus.

Did you have any launch-assisted payments or anything that you made that are recoverable?

Well, we did get some state incentives, state and local incentives associated with the Columbus program.

But those -- do those need to be repaid?

Or how will that work?

That's uncertain at this point, Carter, we really don't know.

And it's a fairly long time horizon...

Right.

...on those.

Okay.

And on the R&D front, presumably there's no R&D tailwind since you are already in the sort of capitalized pre-production phase of that program.

That's correct.

Relative to your prior R&D plans.

That's correct.

Okay.

And one more, on the 787, the inventory build in the quarter, how much of that was related to excess over average relative to other?

I don't have that in front of me, Carter.

But certainly the -- continuing to complete the units that are here attracts cost.

So I would say the deferred cost certainly is a large component of the increase in the quarter.

I mean, so if there were two units and we're 30 -- we have $35 million, I mean, so if there was $25 million, that's kind of $12 million a unit.

How would you imagine that trending over the remainder of the year for the units you ship?

Will it be down substantially or?

Well, certainly as we start to get a more normal drumbeat of production starting back up here on the 787 program, you're going to see the average cost per unit is going to come down dramatically.

And that the units that we have in inventory today, both those that are nearing completion and those that are further behind in our manufacturing process -- I mean these units have been here now for a couple of years.

So --

Right.

So as things continue to build up, they continue to attract costs which makes the early units much more expensive than what we'll see going forward.

But presumably the benefits come from the units that are produced once you restart production because all of the ones that are sitting there now are shouldering a lot of that cost over the past couple of years so you'll need to get through those units before you start seeing better excess over average performance.

That's absolutely right.

But as you look at that graph though, the breakpoint happens probably quicker than those people realize, is again this program has been on a stop and start mode for an extended period of time now, once we really get going, I think you'll see that the point at which we hit the average -- so right now obviously our actual costs are over the average -- but the point at which we hit the average and start in effect eating into that deferred, I think will happen fairly quickly.

It'll happen within the first 100 to 125 units.

Great, that's very helpful.

Thanks, guys.

Thank you, Carter.

Our next question will come from the line of Robert Spingarn of Credit Suisse.

You may proceed.

Good morning, guys.

Good morning, Rob.

Good morning, Rob.

Rick, your guidance range is $0.20.

Could you talk about some of the major swing variables that are in there?

Sure.

The -- yes, probably one big one that we've talked about in the past is in the R&D area.

The one variable that we still have in R&D are the 787 derivatives.

We have factored into our guidance some spending, R&D spending, for the derivatives.

How much we actually spend this year is going to be based on the schedule for -- Boeing's schedule basically for us supporting them and bringing those derivatives to market.

So that is somewhat of an unknown yet as to how much will actually fall into this calendar year.

I think at this point we've been probably on the conservative side for how much we think we'll spend this year.

So I think that's a variable.

Certainly revenues are always a variable.

Right now I think we've got a pretty good line of sight on what we think revenues are going to be the rest of the year and there's -- the big variables would be how many 787 units do we actually ship this year, how much revenue do we generate from some of our new programs.

Some of those aren't based on shipping units; they're based on completing engineering work and on milestones.

So I would say those are the big ones.

Gross profit obviously follows the revenue.

So I think the gross profit, absent some surprise that we can't foresee at this point, gross profit will be in the range that we saw in the first quarter.

SG&A tends to be fairly predictable.

We've seen a fairly constant level of SG&A over the course of the last year, year-and-a-half, so I don't expect that to change much.

So I think it's revenues, R&D expense.

Maybe a little bit in interest expense.

Obviously with the draws on our revolver that we've experienced in the first quarter, it carries some interest expense with it.

So the timing of when we're going to be able to repay those will have some influence.

But I'd say those are the big factors.

Yes, and it sounds like revenue is really the greatest visibility at least with regard to the legacy programs you're on at Boeing and Airbus, you know what those production rates are going to be at least for the rest of this year.

We do, you're right.

Another couple of small things.

When will you actually have your last seven-unit 777 month?

It's going to have to be somewhere in the next year.

Somewhere in '10 or late '09?

It would be...

It will be in '10.

First quarter.

It will be in the first quarter of '10.

Yes.

So you're about three months ahead of them?

In terms of final assembly deliveries, yes, final unit deliveries, that's about right.

Okay.

And then the other thing I wanted to ask about, you may have touched on this earlier, but how should we think about 787 cash flow as you start to ramp up deliveries?

And I'm asking this in the context of the advances that you've gotten from Boeing.

So can you walk us through how those dynamics will evolve and then ultimately change?

Well, the -- what will happen is, you might recall, we signed an MOA last year, first quarter of last year, that provided additional advances in 2008.

And the repayment obligations for those units were that -- for those advances was that -- basically -- those advances basically covered the first 45 to 50 units that we would deliver.

So in effect, Boeing has already paid us for the first 45 to 50 units that we will deliver.

So as we deliver those units, that will -- that value of that delivery will apply 100% to liquidate the advance payment.

So the $396 million that we got in 2008, that'll be repaid fairly quickly over the rest of 2009 and then it will start to ramp up in 2010 and 2011.

But once we have that behind us, then we're back to the old schedule which was the original $700 million that we got that was repaid $1.4 million a unit.

So once we get past this initial block of units, then we'll kind of revert to the schedule that we had before.

But that could carry us well into 2010, it sounds like, depending on what Boeing requires of you next year.

That's correct.

Okay.

Thank you very much.

Thank you, Rob.

Our next question will come from the line of Carter Leake of Davenport & Company.

You may proceed.

Good morning, gentlemen.

I'd like to go to the revenue guidance.

If I use the assumptions on average ship sets and load-in to pre-strike levels, I'm coming up around $200 million short.

You mentioned some reasons, other non-legacy programs that could drive that.

But is there any reason to suspect that we could see a better mix on legacy platforms, pricing on say 737 platforms?

I'm not sure in the near term that mix is going to have a lot to do with, other than the 787.

Because as we've said in prior calls, our margins on our legacy programs are fairly consistent from program to program.

Again 787 is an anomaly because it -- the initial block has lower margins because it carries the amortization of all other development costs.

But absent that, I don't think margin is -- or mix is going to be a big driver.

I think the piece that, maybe in your ship set and content calculation, the piece that is -- that would cause some additional revenues in the second half would be contributions from new programs and the fact that we'll have higher 787 deliveries.

We shipped two in the first quarter; we indicated earlier our guidance was 10 to 12 for the year, so that would indicate we've got to ship 8 to 10 in the second half of the year.

So that will create some revenue upside.

And again the rest of it will come from new programs.

And then, any update on the North Carolina facility?

Is that still, as you -- as far as timing, is that still on track as you mentioned on the last call?

It is still on track, progress being made.

If you stop by Kinston you'll see the facility coming up out of the ground as it should.

As you would expect and appreciate, we are being very prudent; it's frankly a good time in the environment to build.

So we're watching those contracts closely and clearly, being prudent as we know how to be on the timing of those expenditures.

But that project is coming along very well.

Thank you.

Yes.

Thank you.

Our next question will come from the line of Joe Nadol of JPMorgan.

You may proceed.

Thanks.

Good morning, Jeff, Rick and Phil.

Good morning, Joe.

And Rick, I just want to say off the bat, thanks for all that detail on the inventories, it's very helpful and preemptive.

First question is on Hawker, just wondering if you could give us a little more color on what's left on the contracts and what assumptions are really key now that you're at zero margin there.

If the volume there -- is there the risk that volume could come off much more dramatically than what you've assumed, that that could create another more material forward loss?

I would say, Joe, that we -- that that was part of the forward loss, was the recognition of lower ship set quantities and the fact that that would extend the duration of the block which obviously the longer the block goes, the more fixed cost it attracts.

So that was part of it.

I think at this point we've got a pretty good view of where we think deliveries for that platform are going to go and I think we've been appropriately conservative.

But that does say that it couldn't go any lower?

No, it certainly doesn't.

These are volatile times for the business jet manufacturers.

So we've given it our best estimate.

How many more units are on the contract, can you tell approximately?

Boy, Joe, I don't have that data with me, I'm sorry.

Okay.

It's not a lot.

It's not a large program for us.

Right.

Okay.

And then on the 787, can you update us on where you are in terms of your margin accruals there?

And you noted in your slides, mentioned that you're trying to get the prospective profits up there.

What exactly are you doing?

Well, right now -- right now, Joe, what we're doing is preparing to speed up production.

We've done a lot of work, if you will, analyzing the processes and looking for a list of improvement options and opportunities once we get it running.

The real key here for us to make improvements is get some production momentum.

Once we do that, then it comes off the drawing board to the reality of what's happening in the processes.

And that's when we can really go to work making real improvements.

So the most important thing for us is to get to a drumbeat on that program and then make the in-place improvements.

And so we're still in a positive margin situation here, sort of low single digits?

Is that accurate?

We are.

We're in a small positive net margin for the three packages that we have on the 787.

Okay.

And just one final note, why were there no -- or A380 deliveries in the quarter.

Was that just timing?

It's strictly timing.

Okay.

Thank you.

Thank you.

Our next question will come from the line of Cai von Rumohr of Cowen and Company.

You may proceed.

Yes, thank you, gentlemen.

On its call, Boeing described the pressures they're having from lower inflation escalation which they're unable to pass on to their suppliers and intimated they might make efforts to pass some of that pressure on.

How are you positioned regarding inflation escalation?

And how far do your contracts -- are your contracts priced looking out on the legacy Boeing programs?

Legacy Boeing programs are priced through 2012.

And I would just say parenthetically that all customers have price pressure on suppliers all the time.

Okay.

And then, Rick, you'd mentioned, as we look toward the second half, we have the adverse margin -- impact to gross margin of more 787.

But you also, I think in your inventory analysis, showed some 747-8 engineering costs that are going to get rebated and kind of get to your revenue number.

It looks like you're going to have some of those types of items.

What do they do to the mix?

You mentioned new programs are better margins, but is it better margins if it's just engineering rebate?

Or how should we think about that?

Yes, typically those kinds of billings, Cai, so for non-recurring engineering for the 747-8, they would have margins that look a lot like our production margins.

There's typically not a big difference between the margins we would recognize on engineering buildings versus production.

Okay.

And today's initial's question about the next block, if you're priced out to 2012, you should have some visibility.

I think normally we tend to think lower production rate, lower margin because of less favorable spread of adverse cost.

But, Rick, you made the comment that volume will not be a driver.

So I mean, does that mean, if things -- unless the world blows up, doing 777s at five a month, you can have comparable margins in the next block if it's -- because obviously this goes to 2012, you got most of it priced now?

Well, as you said, there are a lot of variables that go into determining the profitability of a block.

Volume certainly is an important one.

And the point I made that volumes -- again depending on where rates go, so if you -- I mentioned that in our current block, the three-seven rate on average is 26 a month.

So if you think that rates are going to go to that level, then volumes would be fairly comparable between current block and the next block.

If your projections indicate that rates are going to go well below that, then obviously that would create volume headwinds.

But absent that, I mean there are other factors, things like, we touched on the labor agreement, so you have things like labor escalation, supplier costs, material costs that enters into it.

There's a lot of other variables that come into play in determining the overall profitability of your block.

But as you say, pricing is known, largely known through the duration of our current block.

And again, depending on where you think rates are going to go, volume becomes known.

And those are two pretty big variables.

Excellent.

Thank you very much.

Thank you, Cai.

Our next question will come from the line of Robert Stallard of Macquarie.

You may proceed.

Good morning.

Good morning, Rob.

First, on the 787.

Jeff, I was wondering if you could tell us in which month you expect to start delivering again and whether the monthly rate will be ramping up for a fairly consistent rate per month.

Well, a couple of points, Rob.

One is we are delivering -- as a matter of fact we delivered unit number six in the first quarter, we have unit number seven in the final installation, systems installation area, and it's -- we'll soon be ready for its pull.

So clearly the numbers that Rick gave, we're going to have to speed up production or deliveries, if you will, to meet the demand for the rest of the year.

The point that I made is that we have had the winding of the barrels, the fabrication process shutdown for quite a while a now, and we will resume that later this year.

The exact -- I did not mention and don't at this point intend to give the specific time when we start that backup.

It will be very much dependent on the pull signals that we get for the product.

But we will be ramping up that airplane per the plan later on this year.

So if you look at the forward fuselage, it's also a little bit doubtful then when exactly it's going to start and to some extent it sounds like it's also a little bit doubtful what the exact rate will be per month as well.

Right.

Right, okay.

But again, we've got a number of units in the process now.

We've shipped through line unit six.

We've -- I think we'd told you before, we wound through line unit 22.

So it's just a question of the timing of as those pulls start and how that pulses back through our line when we fire up the winding process again.

Okay.

And just secondly, you noted that the aftermarket was up in your propulsion business in the quarter.

What was driving that?

That seemed to be in contrast to some of the other aerospace companies.

That's primarily an area that we put emphasis on.

The engine nacelles and thrust reversers for the 737 and 777 as a category are coming in to their, kind of their heavy maintenance cycles.

And our aftermarket team has been very active in both spares and repairs for those.

So that's the specifics from the propulsion segment.

And over the last year, you've also seen us announce a number of new contracts with specific airlines, so what you're starting to see now is parts flow from those contracts.

Great.

Okay, thank you.

Operator, we have time for one more question please.

Our final question will come from the line of Dana Merber of GMP Securities.

You may proceed.

Thank you, good morning.

Just, Rick, just one more question on the inventory builds.

Just in the notes, you'd mentioned that there are $67 million relating to the residual impact from the Boeing strike.

Did you mention that that had been reversed or will be reversed in the second quarter or --?

Well, it will reverse over the remainder of the contract blocks.

Okay.

So I mean those are -- we were still on a short work week for part of the quarter.

When you have that kind of environment in your manufacturing facilities, I mean that always creates certain amounts of inefficiencies which end up showing up in deferred cost.

So I mean those will be unwound over the remainder of the contract blocks.

Okay.

And just, I just want to make sure I heard this correctly.

You're expecting $250 million to $300 million cash use this year from inventory?

For the year, that's right.

For the year.

So that would indicate that, with most of the growth we're going to see for the year, we've seen in the first quarter.

That's it.

Thank you.

Okay, thank you.

Ladies and gentlemen, this concludes the question-and-answer portion of today's conference.

We thank you for your participation and you may now disconnect.

Have a great day.