Spirit AeroSystems Holdings Inc (SPR) 2011 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Spirit AeroSystems Holdings, Inc.'s first-quarter 2011 earnings conference call.

My name is [Deanna] and I'll be your operator for today.

(Operator Instructions).

And as a reminder, today's conference is being recorded for replay purposes.

I would now like to turn the presentation over to Mrs.

Coleen Tabor, Director of Investor Relations.

Please proceed.

Good morning.

Welcome to Spirit's first-quarter 2011 earnings call.

I'm Coleen Tabor, and with me today are Jeff Turner, Spirit's President and Chief Executive Officer; and Phil Anderson, Spirit's Senior Vice President and Chief Financial Officer.

After brief comments by Jeff and Phil regarding our performance and outlook, we'll be glad to take your questions.

In order to allow everyone to participate in the question-and-answer segment, we do 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 discussion 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 the web presentation.

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

With that, I'd like to turn the call over to our Chief Executive Officer, Jeff Turner.

Thank you, Coleen; and good morning.

Let me welcome you to Spirit's first-quarter earnings call.

I'll begin with a look at our business and related performance and then Phil will review the financial results.

After that we'll be glad to answer any questions you may have.

Our core businesses continue to perform well in the first quarter.

In particular, we delivered ship sets of more than 250 aircraft to our various customers.

With a solid and growing core business, we continued the implementation of our plans for rate increases across our core products.

While these plans include some investment, we're strategically leveraging our existing assets to add value for our stakeholders.

As many of our development programs progress towards certification and early stages of production, our priorities continue to be customer support and program execution.

While the additional cost growth on the CH53K program is disappointing, getting it right for the future is our focus as we position ourselves to deliver long-term value.

Overall our development teams are doing a good job working with their customers to meet commitments and leveraging our expertise and knowhow for program success.

From a market perspective, we continue to see strong demand for large commercial aircraft.

While the market remains healthy, we are watchful of the global economic and political dynamics as we execute our growth plan.

With a substantial backlog, over $28 billion, supporting Spirit's future, the long-term perspective for our company continues to strengthen as demand for our core products increases and our development programs move into early production.

Now let's talk about some of the specific accomplishments across the business during the quarter beginning on slide 3.

Fuselage Systems delivered operating margins of 8.9% on $528 million in revenue during the first quarter.

The margin was impacted by the pretax charge of approximately $28 million for the CH53K program.

It became clear during the quarter that to meet our customer commitments for the six remaining test units, we needed to revert to a more traditional two-link scheme and build scheme approach.

This resulting in this financial impact.

The Fuselage segment's fast-paced 737 production line continues to perform well as the team has now delivered more than 3,600 ship sets of the next-generation fuselages.

The 787 team also made further progress by delivering six airplanes' fuselage section in the quarter, including the forward fuselage number 37.

Additionally, our 787-9 design and development team is working closely with our customer to ensure we support the new derivative design needs as well as producibility improvements.

The fuselage team also continued its progress on the 747-8 program this quarter by delivering line unit number 27 forward fuselage.

Additionally we are pleased with our team's development activity on the Airbus A350 XWB fuselage.

Early test hardware fabrication continues in our Kinston, North Carolina facility.

On slide 4 you see the propulsion team delivered solid operating performance with margins of 14.9% on $273 million in revenue during the first quarter as the margins were improved by productivity and efficiency improvements and additional after-market volume.

Segment's core business continued to perform well and surpassed line unit 3,600 in the quarter for both 737 next-generation engine pylons and thrust reversers.

Additionally, we continue to progress on our newer configuration pylon production hardware as we shipped our 39th 787 and 23rd 747-8 engine pylon ship sets in the quarter.

The propulsion team continues to support development activities which includes the production of the Rolls-Royce BR725 engine nacelle and design activities on the Bombardier C Series and Mitsubishi Regional Jet programs.

On slide 5 you see the Wing Systems segment which primarily consists of our Spirit Europe, Spirit Malaysia and Oklahoma operations.

The Wing team achieved operating margins of 7.1% on $245 million in revenue during the first quarter.

Included in the results is an unfavorable $6 million accumulated cash-up adjustment, primarily driven by additional engineering costs on the A350 wing program, as the team refines the design in preparation for future production.

Spirit Europe continues to deliver high volumes of hardware for our Airbus customer, surpassing line unit 4,700 for the A320 wing components.

The wing team continued to produce newer hardware at our Tulsa, Oklahoma site as they delivered the 27th 747-8 fixed leading-edge wing section, and the 40th set of 787 slats in the first quarter.

Early production efforts continued in Tulsa on the Gulf Stream G250 and G650 wing programs as these programs moved through the development cycle.

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

Thanks, Jeff, and good morning.

I'll begin with a look at Spirit's key financial highlights for the first quarter on slide number 7.

Revenues for the first quarter 2011 grew slightly compared to the first quarter 2010 as fewer 777 ship set deliveries were more than offset by additional wide-body deliveries and other non-production revenues.

Operating margins for the quarter were 6.6% compared to 2010 first quarter margins of 8.9%.

First quarter 2011 operating margins include a 2.7% operating margin impact associated with the CH53K charge during the quarter.

Fully diluted earnings per share for the quarter was $0.24 per share, reflecting the previously announced $0.14 per share impact related to the CH53K program, higher R&D and interest expense, along with a planned higher effective tax rate as compared to the same quarter of 2010.

Also during the quarter, we realized an unfavorable cumulative catch-up adjustment of $3 million, primarily associated with the A350 wing development effort.

This additional contract cost was partially offset by favorable performance in the Propulsion segment as we continued to work on productivity and efficiency improvements across the enterprise.

Cash from operations for the first quarter of 2011 was $128 million use of cash, driven by continuing investment in new programs and production rate increases.

Capital expenditures were $42 million for the quarter compared to $69 million during the first quarter of 2010.

Quarterly capital expenditures are expected to increase as we invest in new business and capacity expansions throughout the year.

On slide 8, first quarter R&D and SG&A expense as a percentage of sales reflect a consistent level of spend for the company.

R&D increased in the first quarter as we increased efforts on the 787-9 development.

SG&A expense as a percentage of sales was down slightly on the increase in revenue as expense management continues to be a top priority for the company.

Slide 9 summarizes cash and debt balances.

Cash balances at the end of the first quarter were $311 million as compared to the fourth quarter of 2010 balances of $482 million.

At the end of the quarter our total debt to capital ratio was 39%.

The company's liquidity position and balance sheet remained strong as we invest in new programs and capacity expansion for our core programs.

And our US defined-benefit pension plan remains fully funded while we continue to make modest cash contributions to our UK plan.

Slide 10 summarizes our inventory balances.

During the first quarter of 2011, inventory balances grew by $144 million from the fourth quarter of 2010.

Physical inventories increased by $78 million, largely driven by A350 test hardware fabrication, initial inventory build-up of Gulf Stream production, and accelerated investment in production rate increases planned for the second half of 2011.

Deferred production inventories increased by $56 million, primarily related to the delivery of 787 ship sets during the first quarter.

Pre-production inventories rose $33 million during the quarter, reflecting the initial investment in A350 Section 15 tooling for our North Carolina factory.

Non-recurring inventories decreased by $23 million driven by the CH53K charge during the period.

Inventories are expected to grow more modestly through the year as we prepare for increased production rates and deferred inventories on new programs billed, offset by expected liquidation of deferred revenues.

Slide 11 summarizes our 2011 full year financial guidance.

During 2011 we expect to increase output for our core products beginning in the second quarter as we increase delivery to support increased customer demand and move new development programs through the test phase and into initial production and begin making deliveries.

Based on current customer demand for this planned growth, our revenue guidance is unchanged for 2011 and is expected to be between $4.5 billion and $4.7 billion.

Fully diluted earnings per share remains unchanged and is expected to be between $1.70 and $1.90 per share.

This range includes the earnings associated with the planned volume increases as well as expected productivity and efficiency improvements.

Cash flow from operations for 2011 is expected to be approximately $75 million and capital expenditures are expected to be approximately $325 million as we invest in core program capacity expansion and in program growth.

We continue to expect the 2011 tax rate to be between 31% and 32%.

The R&D and SG&A accounts together are expected to be around 4.5% of sales for the full year of 2011.

And we continue to expect 2012 revenue to grow above the 2011 guidance range as demand increases for our core products and new products enter production and delivery phase.

Cash flow from operations less capital expenditures is expected to be positive in 2012 as cash advance payments decline and working capital investments stabilize.

And now I'll turn it back over to Jeff for some closing comments before we take your

Thank

you, Phil.

And I'll wrap up on Slide 12 with a few brief comments.

As we continue to implement plans to support faster production rates, we remain focused on strengthening the core operating engine of our company.

Our teams' development activities have progressed in alignment with our customers' commitments as we continue through the test phases and drive producibility and efficiency into the early production stages.

Our priorities remain focused on meeting customer commitments as well as achieving our operational and financial goals.

Moving forward, we expect to benefit from expanding demand for our core products as we help bring the next generation of large commercial airplanes and business jets to market.

With a substantial and growing foundation and a focus on execution, we are driving to meet our goal of creating long-term value for our customers, our employees and our shareholders.

We'll now be glad to take your questions.

(Operator Instructions).

The first question will come from the line of Doug Harned, Sanford Bernstein.

Good morning.

Good morning, Doug.

Could you talk a little bit about the development programs?

In your release, you talked about some higher R&D costs in the 787-9 and also some of the additional costs on the wing on the A350.

What's been the source of those higher costs?

So the dash-9 R&D is simply timing of the R&D required on that program.

The 350 on the wing, let me just back up a second and talk all our development programs.

We talked a lot in the last number of quarters now about the stack-up of these development programs.

We've got six of them in flight test and had as many as 10 of them going at the same time.

Clearly not something we would have planned for, but nonetheless it's the way it worked out.

Those programs range anywhere from virtually complete in-production to still relatively early.

And they range frankly from complete adherence to the original plan to some very significant slides and issues associated with them.

Every development program, as you know, struggles with upfront activity, getting it defined, making sure it's in the envelopes, in terms of weight and performance and those sorts of things.

So every single program has significant challenges and risks associated with it.

I mentioned specifically on the 350 some extra challenges we're facing on the 350 wing, some compressed schedules there are driving additional higher levels of staffing than we had originally planned, and not completely different from the fuselage but much more challenging in terms of the complexity of the interfaces on the wing side.

So we got kind of a mixed bag, there are fuselages.

We're pleased with the program we're making there and very much within the envelope that we forecast, and the wing a little bit outside, on the development side.

So unlike some of our programs, the development blocks are unique to the production blocks.

So we're very focused on getting it right in the development side so that we have clean production runs.

Well, on the 787-9, have you -- where do you stand in the process with Boeing in terms of defining your relationship in terms of cost and the activity on this airplane?

Is that all settled?

Do you have agreements settled on the dash-9 now?

Hey, Doug.

Yes, the dash-9 -- constructing the contract has been done for quite some time.

So we actually work with Boeing and the dash-9 development is well underway and we basically get paid as we go on that effort.

The broader contract for the program which we reached -- established an MOA at the end of last year on, we are finalizing that currently.

And as we've said previously, we expect to have that, the full contract amendment completed by the first half of this year.

And that's very much on track from my view and I think from Boeing's view as well.

And then just, if I can, lastly, on this, Boeing on the early airplane says that it's been doing a fair amount of rework, or is going to be doing a fair amount of rework.

Has this affected you all very much?

No.

There's certainly part of the discussion we've had with the MOA where we delivered units of their request, and this is early days of the program, now several years ago, but we delivered some of the airplanes less than complete.

And so clearly they accomplished some of our work statement through that process.

But it's part of a broader overall restructure of the contract that's contemplated and addressed.

And Doug, I would say specific to the dash-9, as the dash-8 matures and nears certification, the dash-9 is a derivative off of that dash-8.

So the more solid the dash-8 configuration is and becomes, the more straightforward the dash-9 derivative is.

And that one is progressing very well.

Okay, very good.

Thank you.

Thank you.

Thanks, Doug.

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

Good morning.

Good morning, Rob.

When I look -- I guess this is for, Phil, Jeff -- but Phil, when I look at the margins and I back out the $28 million and the $3 million in one-timers, here you had a nice margin, I think it's 13% at the segment level and around $9.6 million or $9.7 million after corporate expenses, but you would have to achieve that level of margin here just to hit the low end of your guidance.

In other words, if anything else happens here, you miss that guidance number, you miss the $1.70.

Yes, I think, so your math certainly is correct, Rob.

A couple of comments on the guidance range, clearly the $28 million Sikorsky charge was a little bit bigger than certainly what we ever had contemplated.

I think -- but how do we achieve the guidance range is really where you're going here.

And there's really three things to think about.

There's additional volume as we increase production with Boeing and Airbus, mainly in the second half of this year, that will be coming through.

There is also the play in productivity and efficiency improvements that you're seeing come through this quarter in Propulsion.

I can assure you we're working equally as hard across the whole company to capture those type of improvements as we go through this year and forward.

To the extent we accomplish productivity and efficiency improvements, the volume increases come through as planned, and we don't have any significant more development program cost issues, that takes you towards the higher end of the range.

To the extent that the volume is a little less than what we would expect, we don't capture all the productivity and efficiency, and we have sub- to modest- program development issues that will bring it to the lower end of the range.

I would tell you that earnings guidance doesn't contemplate a big development issue that we might encounter, so the way to think of it, some modest cost issues on development programs, but it's contemplated but nothing significant, of a bigger fashion.

All right.

So the idea is you can do it if you go back to the kind of performance you had two, three years ago, because you've been at those margin levels in the past, we just haven't seen it in a while.

And you can do it notwithstanding the fact that you're going to start -- that you're booking 787 at a very -- I guess at zero.

Yes.

We think we can, right?

I mean some of it is the volume leverage in the core business, and there's not a day that goes by that we're not focused on productivity and efficiencies.

I suppose it helps that --

Rob I think got it right.

We got -- we kind of, as we've said, at this crossroads of 2010, 2011 pivotal years, you've got some tailwinds beginning to pick up with rates, and you've still got some headwinds.

Several years ago we had some real tailwinds that even on things like pension over-funding.

Those have kind of gone away in the last several years and didn't turn in to heavy headwinds but certainly haven't helped us lately.

And then you've got the development programs.

And as we work through those and work off that register, then we're shifting more from headwinds to tailwinds.

That's really what's happening too through the rest of '11 and into '12.

Okay.

And then the follow-up question's on cash flow.

It's a similar question but you talked about, I think both this quarter and last, positive cash flow next year.

But how does that happen if CapEx is rising, as this year progresses?

And I think you still have to put a CapEx plan in to get 787 from seven to ten a month.

Yes, so the CapEx that we're guiding for this year is really investment in the new development programs I think which we're all briefed on at this point, as well as the additional capacity expansion for the core programs, 777, 737 primarily.

So that carries into 2012, as well as the A350 investment and Gulf Stream investments for initial production.

The cash from operations line is really what moves, where we get cash flow restarted on the 787 as we deliver units, beyond roughly unit 50, and that is a significant headwind right now that we don't -- that won't be there in 2012.

So would you expect -- what is CapEx due next year relative to this year, the work that the cash from ops would have to offset?

Yes.

No, we've guided $325 million this year.

I think as we look out into 2012, we'll probably look in a similar run rate in the 2012.

Okay.

Thanks for the help.

You bet.

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

Thanks.

As you guys look to offload some of the work on the 737, can you maybe just talk about how much work you're thinking of offloading to support the higher build rates?

And then maybe what kind of margin impact that might have.

Troy, I don't think we've talked a lot about the make-buy philosophy on the 37 other than as we go to higher rates, we will certainly need to make sure our supply base is strong and ready.

And we may do some shift.

Frankly that will depend a lot on whether the supply base is strong and ready or we need to -- if we need to shoulder that load ourselves.

Either way we're going to see the value of higher rates as we get more productive in our overheads and in our capital and continue to drive productivity in our labor force.

So we will see the impact of rates and we'll see improvements in that particular program as we will others as they increase volume.

Okay.

And then just lastly, on the A350, can you talk a little bit about what you're seeing on the fuselage side that gives you confidence that you won't experience some of these charges that you saw on the wing work?

And maybe, just maybe gauge your level of confidence in that.

Sure.

The fuselage side, less complex in terms of system integration into the section that we're building.

Awful lot of changes come later in a program when -- at the systems and structure interface points.

We're delivering an integrated structure piece but without systems.

So that will lower the risk there.

It's a pretty straightforward supply chain both for ourselves and for our customers.

So line-of-sight is better there than I mentioned on the wing side, and we're feeling good about where we are.

We're already building the early test hardware; that's going well.

The build of the factory is virtually complete; the first set of machines are all in, they're working well.

So the progress milestones are looking quite good on that, that particular piece of the program.

Okay, great.

Thank you.

Yes.

Thank you, Troy.

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

Good morning.

Good morning, David.

Back to the margin question I guess for you, Phil.

The 10% to 11% on the margin side seems to be implied by your guidance for the rest of the year.

Is that very much backend-loaded, more Q3 and Q4 and potentially even Q4 as you move to a new block on the 737?

Yes, that's certainly one of the variables, David.

It is second half focused, so I think as we realize productivity and efficiency gains, kind of quarter after quarter, I think the true volume increases hit the second half instead of the first half.

So, yeah, I think you got cash pretty accurately.

And if I understand that the deferred revenue, isn't that going to be a bit of a drag because that will come through to zero margin when you finalize the arrangement with Boeing?

That's correct.

Okay.

So you're expecting that to be a Q2 event?

Yes.

Right, we're expecting to get that MOA completed in the first half which is now Q2.

Okay.

And as my follow-up, could you just talk about 650, how the accident and potential delay in the program might impact you guys?

Sure, although I won't talk particularly, specifically about the accident or the flight test program.

We leave that clearly in the hands of our customers.

Our schedules are driven by customer pull for production and on all programs, and the 650 is certainly no different.

As you've heard I'm sure from our customer last week, that the customer continues to move forward with that program.

And what we see is a solid program moving forward and the pull signals continuing to be there.

So our plans are not changing with respect to supporting that program.

Thanks a lot.

Yes, thank you.

Thanks, David.

And the next question will come from the line of Howard Rubel, Jefferies.

Thank you very much.

Just for a moment on the CH53K, Jeff, could you kind of give us a sense of how you bounded the risks so that you feel very comfortable that what you've taken here beats the problem to death?

Sure, Howard, although I will say we did not take a zero risk approach.

There remains, as there is in any development programs, some level of risk.

We tried to take a balanced approach to that.

Clearly we, as I mentioned, we pushed the envelope in terms of our tooling manufacturing scheme.

I think we -- actually continued to think we were about to get there.

Turned out that we just pushed the producibility a little bit beyond where we felt comfortable we could get it there without spending a great deal more money.

So backing off, we've had to go back and redo the tooling scheme, redo some of the detail parts that we were -- that we had in the pipeline, and that therefore is the piece that we see going forward.

We're going to have to expedite some of the build, some of the buy that support the next six aircraft, and that, as you know, drives up cost.

I would just say parenthetically, as much as I hate doing this, we have technology in production with new programs today that we struggled and, you could argue, failed with 10 years ago.

And I believe this is a tooling manufacturing scheme that we're going to see again in future products and as we refine it.

So in a way it was a bridge too far.

I'm not ashamed of having tried it.

I hate the fact we didn't pull it off.

But we'll be in good shape, I believe, for bidding on follow-on production.

I understand that.

And then, Phil, if we kind of back out some of the charges and look at the revenue mix, are we at a point where you have something on the order of, I don't know, call it 15% to 20% of your volume right now really has zero margin?

Is that sort of the right magnitude?

No, I don't think that's really correct, Howard.

You may rise to that level as we move out in time if we don't get down the learning curve to get these things where they need to be.

Current, the current state is it's a much smaller percentage than that.

So I think all the core programs are in good shape.

787 of course is the biggest one we're talking about here.

We think, working with our customer, we think there's a path forward there.

It's going to take us a while to get there, but to the tune we're successful, the zero margin contribution from programs, if we are successful in 787, is a much smaller percentage than the 20%.

No, that's true.

I mean I'm thinking --

Probably closer to two to three, I'm guessing.

That would be the percentage?

Yes.

All right, thank you.

I'll come back to you, thank you.

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

Thanks.

Good morning, guys.

Good morning, Joe.

I was wondering if you could scope out a little bit for us the development contracts that are discrete from the production contracts on both of the programs that you took the revisions to ASCs on the quarter.

How big are the development portions?

And I guess is there anything about what you've learned through the development process that would lead you to believe that your recurring production costs have changed, that you've already kind of signed up for?

Sure.

The two contracts that are separated between the non-recurring and recurring phases of the CH53K, it's bifurcated in A350 -- both the Section 15 and the wing components.

There's a non-recurring contract phase separate from the recurring contract phase.

And specifically on the 350, that was a risk management approach that we took and the transparency -- the improved transparency approach.

So those are the two.

Everything else tends to be non-recurring and recurrings combined, is how they were contracted.

I think on the recurring question, really the effort we're talking about on the CH53K is we're spending some more money upfront to make sure you can deliver the recurring value to the customer and the value to us.

And I would argue, now is the right time to do it.

Now is the right time to get it right.

And that's what we're doing on the CH53.

A350 will be the same situation.

I mean the wing has got a little bit of an issue we're dealing with.

Again now is the time to get it right over the next 24 months on that program, ensure we can deliver value on the recurring side of the contract.

But so you're locked into production prices on all of these or you're not?

I know you are on the A350 wing, but how about the CH53K?

Yes, there's production pricing contemplated, but ultimately the change clauses that are in the contract, so that's how they're structured typically.

And on the CH53K, there's production yet -- production yet to bid.

Okay.

So the risk, if I might, it seems like the risk maybe is greater on the A350 wing than it is on the CH53K because your -- the degree to which you're locked in to pricing seems to be a little bit higher.

Is that a fair characterization?

Which is typical for a commercial bid.

Okay.

Therefore, from our perspective, makes getting the development done effectively upfront worth the extra cost we're going to have to spend on it.

Yes, understood.

Okay.

And then, what is your line of sight right now on just overall considering everything and including volume, most prominently volume increases, pricing, everything, on the next 737 block margin?

I mean, that's too much of your volume?

What have you learned I guess recently?

Where do you think we might go, be able to get to?

Well, we don't obviously comment on specific programs' margins.

We have said this is a volume-driven business, and then as we move into the next block of volume, is up nicely and we expect to leverage some of that operating volume and work productivity and efficiency.

So, all those things we think bode pretty well for next contract blocks.

Okay.

I'll ask one more so -- that wasn't a huge answer.

Could you, in the sort of a flat trajectory of CapEx this year and next year, the $325 million each year, could just characterize maybe the moving pieces to the degree that you can or want to?

What are the -- just maybe build very simplistically what comprises the $325 million in each of the years and what changes?

Sure.

So a base level of $100 million, $120 million of just sustaining investment in our business.

And then you layer in 787 capital for $10 million a month , the A350 installation of that capacity, and then the additional core business growth of 737, 777, then the Gulf Stream

And that's consistent both years really?

Yes, it's really pretty much consistent, Joe.

Yes.

Okay.

All right, thanks.

Okay.

Thank you.

Your next question will come from the line of Cai von Rumohr, Cowen & Company.

Thank you.

If we could take another cut at the margin question.

You missed consensus by $0.08, $0.02 of that was the net impact of the A350 and the other plus because everyone had in their number the $28 million on the CH53.

And sequentially your gross margin is 14.5% versus 15.5% in the fourth quarter.

Mix doesn't look a whole lot different.

How come it was so low?

The mix -- well, I think the CH53K of course was $0.14 which hit the fuselage margins.

Right.

That's -- I mean taking it -- if I take out the CH53, if I take out the $3 million net, you did 14.5%, you did 15.5%, if I take out all (background noise) the fourth quarter, you're down 100 bps, how come?

I'm really not sure what the fourth -- where you've gotten your fourth quarter numbers.

I think I'm -- we should probably follow up with you on that, because I don't know that I see a sequential downturn like that.

Well, if I adjust to take out all of these -- let's turn it around.

I mean to follow up on Rob's question, just to get to your low end, your margins -- actually gross margin has to be up.

And to follow up on Dave's comment, you're going to have, what, $150 million-odd of no profit revenue which takes that down, so the margins definitely have to be up a fair amount.

I mean from this 14.5% gross -- adjusted margin, have to be up in the second half 100, 150 bps.

Is that right?

And is that the representative run rate that we get in the second half that we should think about in 2012 without problems?

No.

So that is the way to think about it.

I think it's -- we expect margins to expand as we bring on the volume from the core business.

We're implementing productivity and efficiency improvements that we expect to come in throughout the year.

And yeah, those are the things that we think will bring margin expansion.

That's right.

How much of that, you know, you mentioned the productivity, you mentioned the volume, how much of that are those factors and how much of it is crossover which by my calculation happens in September, October to the new 737 block which will be at a substantially higher average run rate?

Yes.

The volume is a large part of it.

777 volumes are returning, A320 volumes are coming up, 737 volumes increase later in the year, and then the A350 development effort, which as Jeff alluded to, was going quite well for us.

All those are significant revenue volume drivers in the second half.

Okay, great.

Thank you.

Thank you, Cai.

And the next question will come from the line of Eric Hugel, Stephens.

Hey, good morning, guys.

Thanks for taking my question.

Hey, can you update us real quick on the G250 program?

In reading the 10-K, it's talking about sort of cost pressures in that program, I guess in the production side.

Obviously the situation hasn't gotten much worse or we'd see a charge.

But has it gotten better?

I guess maybe are you less likely today to see a charge or going to a forward-loss situation than you were say 90 days ago?

I think I would characterize it that, Eric, we're about in the same place.

We have some robust plans in place to improve efficiency on that program.

It's been a challenging program, as you know, from the start, and we've got heavy emphasis on efficiency activities there.

So we're holding that in the wrist register at the same spot we did three months ago.

And hopefully we'll see some improvement on that in the next few quarters.

But it's a tough one and we're fighting our way through it.

And we still have the question on that market, that segment of the market.

There's been a little bit of bright spots on that.

But we'll see as we go forward.

Great.

And in terms of CapEx, I mean you had Q1 look pretty light.

Should we just a gradual build or is there going to be sort of a big lump sort of hit at some point?

And sort of when if so?

No, I think you're going to see a little bit lighter in the first half and heavier in the second half.

Right, great.

Thanks a lot, guys.

Yes, thanks, Eric.

Thank you, everyone.

We actually have time for one more question.

And the next question will come from the line of Sam Pearlstein, Wells Fargo.

Good morning.

Hey, Sam.

Can you just talk a little bit about Wing Systems in particular and about the volume?

Because it seems like I think a lot of the Airbus ends up there.

And the ramp-up in revenue just seems to be somewhat slower, because we haven't -- sequentially the revenues in that segment were down $40 million or so from December to March.

And so, why would that have not kind of continued from the path where we were in December?

Yes, we had some lighter A320 deliveries in the fourth quarter.

So the volume is kind of back up to a run rate we anticipate going forward.

Now we do increase A320 production later in the year which will bring that up.

And as you correctly pointed out, the Gulf Stream business share programs are in that segment.

So as they come on line, the revenue growth will be there, as well as a piece of the A350.

And I just think parenthetically as well, Sam, that particular segment has the highest percentage of our new development activity, and in terms of number of programs and frankly breadth of customers.

So it's a statement that's got more than its share of challenges with all the new programs that -- I think has got four or five of the programs, there'll be six that's in flight test right now.

Okay.

And then in terms of the Boeing settlement, we're now in the middle of Q2.

Is that still on track for closing in this quarter?

And then, when it comes to you reporting the second quarter, what are the moving pieces we actually see?

I know some of that went into deferred revenue.

Can you just talk about what we're going to see when it comes to the P&L and maybe the cash flow in the second quarter related to that?

I'll answer the timing.

We do anticipate that that will close in the first half, and so therefore in the second quarter.

And Phil is very involved in that, so I'll let him answer the details of your question.

Yes, the P&L, we'll recognize the revenue.

Again that will be zero margin revenue for us when we do book it.

We'll relieve the deferred revenue account and the inventory.

All right.

And then one last question, Jeff.

I guess I'm just trying to think about the charges on the development programs, and really are you doing anything differently today and going forward so that perhaps we don't see future charges?

And I know it's a different issue on the G250 versus the CH53 and the A350, but just -- is anything different about that such that perhaps we can get ahead of that going forward and make it a little bit more predictable?

Well, a couple of things I mentioned earlier, Sam, I think 10 development programs that ended up concurrent -- consecutive, is an overarching issue on development programs for us.

Hopefully going forward we won't have that many stack up on top of each other.

That was clearly not the plan but it's how things worked out.

So that's one thing we have -- we put a lot of emphasis on recruiting and training and support of our program management and engineering resources and production startup resources.

We clearly put a lot of pressure on them.

That's beginning to alleviate as we get through this development process.

The biggest factor frankly is we're going to get through this cycle and be on the other side of the development programs.

And then as we look forward, what we bid on and contingencies that we put in place in terms of maybe contingency planning and what ifs.

There have been some things that have happened to us in the last five years we hadn't contemplated, that drove a lot of this concurrency.

So those are some things that we can put in the change process, we have a change process bucket, we have an enhancement skills bucket, we have the experience and learning bucket.

And then just have the fact that we're going to get through these and be on the other side of them.

So all those things are in place.

It doesn't take all the risks away; development programs are inherently risky.

But my view is we have to do them, and do our best to do them cost-effectively to get to the production programs, because that's clearly where we create our value.

Okay.

Thank you.

Thank you.

And ladies and gentlemen, this concludes today's presentation.

Thank you for your participation.

You may now disconnect.

And have a great day.