Spirit AeroSystems Holdings Inc (SPR) 2015 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to Spirit AeroSystems Holdings, Incorporated first quarter 2015 earnings release conference call.

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

(Operator Instructions).

Please note that this conference is being recorded.

And I would know like to turn the presentation over to Mr. Ghassan Awad, Director of Investor Relations.

Please proceed.

Good morning, welcome to Spirit's first quarter 2015 earnings call.

I am Ghassan Awad and in the room with me today are Spirit's President and Chief Executive Officer, Larry Lawson, Spirit Senior Vice President and Chief Financial Officer, Sanjay Kapoor.

After opening comments by Larry and Sanjay regarding our performance and outlook, we will take your questions, and then Larry will share some closing comments.

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

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 earnings release, in our SEC filings and in the forward-looking statement at the end of this web presentation.

In addition, we refer you to our earnings release and presentation for disclosures and reconciliation of non-GAAP measures we use when discussing our results.

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

With that, I would like to turn the call over to our Chief Executive Officer, Larry Lawson.

Good morning, everyone.

Welcome to our first quarter earnings call.

We just completed the first quarter of an important year in the history of our company.

2015 marks the 10 year anniversary of Spirit.

It is been an exciting and eventful past 10 years and we're looking forward to making enterprise even better over the next 10.

We are fortunate to have a great portfolio of programs a growing long-cycle market and we're equally thankful for great workforce dedicated to delivering a quality product.

Relative to driving for improvement, in February I shared with you that our focus for 2015 is about productivity and preparation for sustained growth and I outlined our top five priorities.

They are Number 1, continued focus on improved performance, increase productivity, reducing cost and aligning our business to what we do best.

Number 2, leveraging investments as we prepare for aircraft rate increases ahead.

Number 3, continued progress on the A350.

Number 4, greater emphasis on long-term growth.

And finally, deploying capital.

Let me give you a brief update on some of these measures.

On our first objective of increasing productivity and reducing our cost, it's the most part important in defining our path forward over the next few years.

We're making good progress on our operational delivery, quality and productivity.

In addition to the investments to support rate we're investing in automation projects of over $100 million.

These automation projects will return our investment over three to four years and continue to differentiate our manufacturing capability.

In addition, we're aligning our manufacturing to focus on what we do best to fully maximize our value proposition.

In terms of preparing for rate increases, we are driving the enterprise to find the most efficient and productive approaches for rate increases on the 737, A320, 787 and A350.

As you are aware of the market demand for commercial aircraft remains robust and global traffic continues to grow.

Global air traffic grew by 5.9% in 2014 and air freight demand grew by 4.5% during the same timeframe.

With regard to the A350, we continue to make progress.

In Q1 we delivered six high-quality ship sets to Airbus.

The average deferred inventory in Q1 for A350 decreased to $3.6 million as compared to $9.5 million at the end of 2014.

Our goal is to execute a seamless ramp up as we continue to reduce cost.

Finally, we will be opportunistic in deploying capital, whether we're investing in reducing the cost of goods sold, share repurchases or other pursuits.

Now let's take a look at first quarter's results.

For the quarter we reported revenues of $1.7 billion and operating income of $235 million, which was up 21% year over year.

Operating margins were 13.5% as compared to 11.2% in the prior year.

Operating cash flow was $424 million and free cash flow was $384 million, an improvement of $392 million as compared to a year ago.

Our backlog continues to be strong at $46 billion.

With regard to 2015 guidance, we continue to support the guidance we provided you last quarter.

We expect 2015 sales to be between $6.6 billion and $6.7 billion, earnings per share of between $3.60 and $3.80.

Our free cash flow remains unchanged and is expected to be between $600 million and $700 million.

So with that, I will ask Sanjay to lead you through the financials to give you more specifics on the first quarter and then we will be happy to take your questions.

Sanjay?

Thank you, Larry.

Larry took you through some of our operational highlights, now let me add some additional financial details on our results for this quarter.

Our focus on producing predictable results every quarter is working.

And we are pleased to complete our fourth consecutive quarter with positive free cash flow.

As a result of this performance, our credit ratings were recently upgraded by Moody's and Standards and Poor's rating agencies and, as previously announced, we also refinanced our term loan B to a term loan A, reducing annual interest expense by roughly $4 million.

And we extended the term of our untapped revolver.

This now provides improved financial flexibility that is better aligned to our long-term objectives.

With that let's turn to Slide 2, which shows the first quarter consolidated sales of the company.

Overall revenues for the quarter were $1.7 billion after excluding approximately $50 million of Gulf Stream revenue in the same period last year, this represents a 4% increase in year-over-year comparable results.

The revenue increases reflect all-time high deliveries on the 737 and the A320 programs.

We delivered 134 Boeing 737 fuselages, 9 more the last year and 135 A320 wing ship sets, 7 more than in Q1 2014.

Spirit's content on these high demand aircraft continues to support solid top line sales for the company.

Also contributing to the increase was the delivery of 6 A350 Section 15 chipsets, 4 more than in the first quarter of last year.

Finally, we continue to have solid backlog providing approximately seven years sales visibility.

Now let's turn to Slide 3. Adjusted EPS for the quarter was $1 compared to $0.85 in the first quarter of last year and consistent with our guidance, this excludes the impact of the Deferred Tax Act evaluation allowance in both periods.

We continue to realize improved operating performance as we manage and challenge our costs across the board while we deliver on increased and record rates to our customers.

Over the past two years we have initiated a host of cost reduction programs on labor, on our supply chain and also every aspect of our overhead spend and all this is bearing fruit in our results that you see today.

But we still have a long way to go.

Turning to Slide 4, free cash flow was $384 million in the quarter.

While we had solid operational performance there were a few one-time benefits in the quarter.

First, this includes an approximately $170 million cash tax benefit predominately attributable to the Gulfstream divestiture.

In addition, we now benefit from the absence of these programs, which were a net consumption of cash in 2014.

We also concluded a successful settlement on the GAC arbitration in the quarter, the terms of which remain confidential.

Lastly, as a reminder, this is the last quarter that benefits from the suspension of the 787 advance repayments.

Finally, note that our quarterly cash conversion will vary given the timing of one-time events and capital expenditures that will occur throughout the year.

Let's turn to Slide 5. Total company-wide operating margin for the quarter was 13.5%.

Some highlights on our segment performance.

Fuselage segment revenues were $917 million in the quarter compared to $858 million last year, which was a healthy 7% increase given higher 737 and increased A350 deliveries.

Operating income was $165 million representing 17.9% margin on these higher deliveries was at $142 million a year ago.

We are on track for the increased rate on multiple programs in the segment.

On the 737 going to $47 million per month, a 787 increasing to $12 million per month and the A350 program, which is also increasing in rates.

Turning to propulsion, revenues are $446 million, a small decrease from the same period last due to the timing of nonrecurring revenue on development programs.

Operating income was $96 million driven by cumulative catch-up adjustments on our mature programs was at $80 million a year ago.

Bombardier CS300 accomplished its first flight in the quarter, which the [pylon] team celebrated along with our customer.

It represents a key step for that program.

The wing segment revenues were $377 million versus $414 million a year ago.

Absent the impact of the Gulfstream divestiture, sales were up 4%.

Operating income was $45 million, was at $50 million a year ago, which is a result of the timing on some trailing costs related to the Gulfstream divestiture.

The 737 line in Tulsa and A320 wing program in Prestwick continue to showcase Spirit's ability to perform at high rates.

A few other notes worth mentioning on the quarter.

The 787 program realized a net decrease of $23 million in deferred inventory on 32 deliveries, or roughly $700,000 per unit.

While we continue to make good progress on this program, as a reminder, there are plan step downs, which of course are already baked into our guidance.

On the A350 program deferred inventory grew by $22 million in the first quarter as we shipped six fuselage units to Airbus, reflecting again a significant improvement in our cost management on this program.

The cost trajectory that you are seeing this quarter shows the reduction of travel and nonrecurring engineering work we have been talking about for the last year and the improvements that Larry talked about in his remarks regarding the operating performance.

We'll continue to stress the A350 program is still early in this program life.

To date, we have delivered 33 ship sets, so while progress is very encouraging, we'll caution that there's much work in front of us.

Let's turn to Slide 6. As Larry mentioned, guidance for 2015 remains unchanged.

Revenues are forecasted between $6.6 billion and the $6.7 billion, earnings per share in the range of $3.60 to $3.80.

Free cash flow between $600 million and $700 million.

And these results are based on an effective tax rate in the range of 32% to 33%.

Our 2015 guidance excludes any year to date impact or future adjustment to the valuation allowance against the US net deferred tax assets.

We will continue to follow accounting guidance and assess the need to maintain our valuation allowance against our US net deferred tax assets on a quarter-to-quarter basis.

With that, we're happy to take your questions now.

(Operator Instructions)

Doug Harned, Sanford Bernstein and Company.

Good morning.

Morning, Doug.

Can you talk some about the 787-9?

That's becoming a much larger part of production now.

I know your on an interim agreement on this, but can you talk about how from a production standpoint a lot of work was done on this in terms of cost reduction and manufacturability, has a lot of difference from the 787-8.

Can you talk about how that's progressing?

What you see as the opportunity there for margin relative to the 787-8?

I guess I, Doug, what I would say is that I reviewed the 787 every week so I'm looking at the learning curve support ratios, etc.

They're pretty much on par as it relates to the two airplanes.

They're both within our expectations in terms of managing down the learning curves.

There's a little bit content differential between the two.

We have a little more content actually in our statement of work on the 787-8 and on the 787-9 some of that has moved out.

Just part of what I'll call rationalization of the program, but I don't see a big difference in terms of the two programs.

As it relates to either, I don't know, opportunities I would say probably the reason 787-9 tier is more for long-term is just it will be a larger quantity.

But when we work one it's similar to working the other.

But right now you're at a situation where you're fairly early on the 787-9.

So I'm trying to get a sense of you're coming down the early part of learning curve on the 787-9 you should be pretty far along on the 787-8 and I'm just trying to get a sense how those two work together.

(multiple speakers)

It may surprise you.

I'm sorry, Doug, it may surprise you but they're -- we've gone down very quickly done the 787-9 curve.

They're not that dissimilar.

The fabrication -- so the way we build them a 787 is we're fabricating composite materials.

We're bonding on.

They are very, very similar in the manufacturing approach.

The differences are in the tooling and the final product, but we're pretty far down the 787-9 curve.

Okay, that's very good.

All right, thank you.

Howard Rubel, Jefferies and Company.

Thank you very much.

Sanjay, you've done a nice job of improving your credit standing, although that's really a combination of everybody, but you now have new debt covenants with this new bank agreement.

Can you elaborate on what the agreements permit you to do?

Sure.

Howard, like all companies that are healthy, we improved in our performance and we've renegotiate our debt.

Not just to lower our interest rates but also to get line with our peer group in terms of covenants that allows the flexibility to do the kinds of things that Larry has talked about in context of capital deployment.

Whether it be in our ability to do the regular things in share repurchase or dividends and things like that.

So we've created the appropriate kind of flexibility that every company has.

So it's no different than what we have from anybody else.

And, obviously like I said, we also lowered our interest rate so this was the right thing for us to do at this stage.

Thank you very much.

Carter Copeland, Barclays Capital, Incorporated.

Good morning, gentlemen.

Good morning.

Just a quick clarification and a question for you, Sanjay.

The GAC claim settlement that you said the terms were confidential, did you have any of that included in your full-year cash flow guidance originally?

Then secondly, I was just wondering about the step up in the deferred revenues, which was pretty sizable, about $40 million in the quarter and I wondered what that related to.

I don't think you've had a step like that in quite a while and I just wondered if you can give us some color there?

Sure, Carter.

So the answer to your first question, the GAC arbitration settlement.

Firstly, I will tell you we're happy with that settlement.

It was fair, we are very pleased with how that turned out.

Yes, like I have said maybe even before that was not in my guidance.

And again this is our first quarter so we will see how things shape out for the rest of the year and then we will decide what to do with it.

As far as the deferred is concerned, yes, I'm glad your asking that question.

If you recall, including in our K last year is well as in some of the questions we handled in the fourth quarter, as we renegotiated an interim arrangement with our customers on how we increased the rates from the 787, we are recording the portion of the investment dollars, the one-time nonrecurring dollars that we are receiving, as deferred revenue.

Now I told you last quarter as well, when we gave the guidance for this year that the amount of money that we're getting for the investment on the rate increases fundamentally matches the increase in the CapEx that we have this year.

So it's broadly cash flow neutral and it is part of our guidance.

The only reason it's a deferred revenue is because since it relates to the increased rate, when we deliver that increased rate we will recognize that revenue.

There is another component in that which is associated with some of the interim pricing that we have until such time as we reach a conclusive settlement, it's very small right now.

That is not in our guidance and that's also a portion of the deferred revenue.

Thank you for the color, Sanjay.

Cai von Rumohr, Cowen and Company.

Thanks so much.

So if you could give us --a two part question.

Some more color on the overall deferred, in particular why they were so much better on the A350 and whether that -- you can sustain that level and improve upon it.

And secondly, just a follow-up on Carter's point.

You've done terrific here.

You were better on the Gulfstream settlement wasn't in there, you have these extra deferred revenues and the cash flow guide didn't improve.

Did something else get worse?

Let me take the first part, Cai.

On the A350, if you think back in conversations we've had in prior calls where I kind of pointed to there were multiple moving parts to our deferred accumulation, some of that being what I'll call traveled work, that work that we were working off in country, and then I said we will get that work out by the end of the year so there was that component.

There was some nonrecurring, I'll call it nonrecurring, although it's assigned to the recurring account related to changes.

So as changes come down that helps.

The biggest factor, a big factor of course, then is just in the recurring cost component what -- helping us improve.

And rate is the largest single factor.

If you think about this as rate goes up the more airplanes we deliver it's relatively simple math.

You're taking all of the components of cost, especially the fixed cost whether that's an nonrecurring or an overhead fixed cost and your dividing it across a greater number of airplanes.

So as rate goes up, rate is a powerful tool in reducing the amount of deferred per delivery.

So rate is important to us.

It also helps us on the support labor side as well.

Your look at two of the components that's just the build labor, we're doing really well, we're on plan.

We've got a great learning curve.

We have numerous projects in place and we continue to have good success there terms of working our touch labor down and finally as this thing -- your question is can this continue?

I wouldn't expect to see the same or you shouldn't expect to see the same ratio of improvement recorded but you should expect to see improvement.

The last component of that is on the materials side.

That's really -- there's really two pieces in that.

One is, what I'll call our projects, our cost reduction projects, and we have quite a few of those.

We're working closely with Airbus on those and then, obviously, negotiations that we have with our supply base and most of that is around trying to find real organic value.

So that's the components that have created the progress you've seen.

Those same things we'll see improve going forward but as we reach the recurring piece it's not going to be -- it will reduce over time.

It's going to flatten out until we become cash positive.

Your second question.

I'm not trying to duck that question.

Nothing has deteriorated.

We're very happy with where we are today.

All I was try to point out in the quarter was they are some one-time events that had a pretty high number for cash flow in the first quarter.

In fact, quiet candidly I think, we've delivered in the first quarter would be one timers what in years past haven't done in a year.

But it's still the first quarter and we'll see how we perform in the next weeks (inaudible) in the quarter.

Thank you.

Robert Spingarn, Credit Suisse.

Good morning.

Good morning, Robert.

So regarding the guidance, returning to the earnings guidance you did $1 in the quarter.

Your interest expense is going to go down.

We understand there's moving pieces with regard to your agreements, your long-term agreements, so a couple questions.

First is where you are you on the agreements with Boeing?

Is it the case that the 787 is done?

And then why -- how should we think about the earnings with respect to the improvement in the interest expense yet the implied guidance that the quarterly earnings go down?

All right, Robert, let me handle the guidance question.

I think your talking about the earnings per share in terms of the $1 in the first quarter.

Firstly, I would tell you -- let me give you sort of a math answer first and I will give you a little bit of color on it.

But I think I shared this with you guys even last year.

If you look at the manufacturing days that we have in each quarter and this year, some what similar to last year, it's heavy in the first half and it's lighter in the second half and that's really because Q4 typically is a much shorter quarter.

So if I was to give you numbers, Q1 is 65 days, Q2 is 64, Q3 63 and Q4 is 57 days.

So that's roughly about 53% in the first half and 47% in a second half.

If you really even just use the math and use my $1 and you adjust for the kinds of things that you are talking about and you just did simple math, I think you will still get into the range that we have provided.

So that's really -- now, our objective over the course of the year, our internal plans, are always to do better.

Always.

I think I've been saying this for the last year or two now that we're trying to create a culture and a company that we always deliver to our commitments.

So we see a very good first quarter.

We see some good cost reduction that have taking place for the last two years that are manifested themselves into the margins that you are seeing and we expect see that to continue.

But just the math would suggest that this stage that we are still within the range that I guided to you.

Okay, the only other part of this, Sanjay, that maybe we should talk about is that the cume catches were little bit smaller in the quarter.

They weren't in all three segments and it might suggest that maybe those are slowing, which could explain one reason why Q1 would be higher EPS wise than the other quarters but then again this is your seasonal tendency.

So is there anything to read there on the cume catches as we progress through the year, would they go up as they normally do?

No, but, Robert, just be a little careful only because as we take into account these cume catches we've been raising our booking rates.

Remember this is a long cycle business and as we do our estimates of completion any cumulative catch-up that relates to performance improvements and efficiencies, etc., manifest themselves into higher booking rates.

You can see that, right?

If I was to elaborate a little bit on the question, last year, if you recall, I mentioned you guys that on our fuselage segment we'd see margins in the 15% to 16% and then we see maybe 150 basis points higher on the propulsion and double-digit on the wing.

And this year we're 17-ish percent on the fuselage and on an adjusted basis to about 150 basis points higher on the propulsion.

So you're seeing that in the core margin performance.

You'll see less cumulative catch ups because one of my -- one of the tasks that Larry assigned to the finance organization was get a better handle on how we do our estimates and how we do risks and opportunity management and how we bring less volatility into our business.

Right, understood.

It just simply that it contributes to that EPS nonetheless depending on how far back the reach back is.

Right and last question.

Just a clarification.

Larry, I think you were talking the $100 million in CapEx for automation.

Maybe, Sanjay, it was you, you talked about recovering that over three to four years.

Did I understand that right, you'll recover that over three to four years or you begin to get a return on that and three to four years?

No, we plan to recover that over three to four years.

So that's about $25 million annual improvement in profit?

Very good.

(laughter).

Okay, just checking.

Robert, like Larry said, these are fantastic projects that have a short payback and make sense like the boss said to try and help reduce our cost of goods sold.

The only thing I would say is that I'm announcing a decision to go do something, there will obviously be a timeline related to the actual implementation.

It's a pretty sizable change to the factory and, obviously, there's lead times on this automation so the return, obviously, starts once you actually implement the automation.

Okay, thank you.

Thank you.

Ron Epstein, Bank of America.

Hey, guys, good morning

Good morning.

Quick question for you.

In this quarter look like deliveries of the narrow-body aircrafts were well ahead of where production rates currently are and even if you project out on a six to nine month ramp.

So just curious what was going on there?

How come the deliveries of the narrow body stuff was so far ahead with what's going on in the ramp?

I'm not sure the head of the ramp -- I will tell you, do not forget last year, if you recall, there were six fuselage's that got disrupted in the Boeing chain and we delivered about four of those last year and a couple in this quarter.

That explains a little bit of the high push on the 737, but everything else like we said in our comments, we're all get ramping up to the 47 and the appropriate rate.

We are running at 42, Ron.

Okay, that make sense.

Another follow on question.

When do you expect to get the 727 Max pricing set for Boeing?

And if you don't get that done in the short term, does it automatically get priced at 727 and g-levels?

I mean how does that work?

Goodness.

I don't want to get into the details of the contract.

Just to say that there's provisions.

The 737 max pricing agreement is all part of this global agreement that we and Boeing have agreed to work together on and the nice thing is we're building those units and we're out in the marketplace trying to find the best deals we can in terms of our ability to acquire materials.

There's some changes still in process so it's -- there's always some volatility in the conversations when you've got changes you are trying to incorporate but it slowing down and it'll be part of the overall discussion with Boeing.

Okay, great.

Thank you.

Thanks.

David Strauss, UBS.

Good morning.

Good morning, David.

Sanjay, so you spoke of step downs two come on 787 and as result it sounds like deferred should start moving back the other way.

Can you give us a sense of the timing around these step downs?

When we can expect to see those, through?

David, again the reason I mentioned that is I want to make sure that you guys remember that.

And again, I try to take us all away from program by program level kind of -- you will see these things manifest themselves as we -- this is a combination of how we lower our cost.

The timing really that's not really -- there are different components in the timing varies on that.

I really don't want to get into that because you will see that going forward in the rest of the year, but like I said, that's all baked into my guidance.

Whether it's the improvements on the 350 or the challenges that we face near-term on the 787, that's all baked in.

I really don't want to get into what the amount is and when it physically happens and so on.

We are making -- I will tell you this we're making really good progress on our costs across the board.

And we're working hard to --.

I think you'll see it, David, you'll see in the deferred from quarter to quarter, you'll see as the deferred changes you'll be able to get a sense of the timing.

Okay.

I was just trying to try forecasting the 2015 free cash flow.

I was just trying to get if it's a 2015 event or 2016 event?

I think what we've said in general is that there will be some -- we haven't been quantitative but that in 2015 you'll see it will be flattish to negative so again it is a little bit of a race.

I think the reason we were avoiding trying to be quantitative is because we're challenging ourselves to try to stay down below the step down pricing.

We're working hard and it's hard -- especially at this point in the year say, this is the number, when we're pressing hard.

Right.

Okay.

As a follow-up, Larry, the fifth of your five objectives, capital deployment, can you just give us an update there if there is one, obviously your cash balance is now up to $750 million.

How much cash do you foresee having on the balance sheet to run the business?

Thanks.

Yes.

Those five priorities weren't meant to, or those five items, weren't meant to imply our priority, it's certainly not our least priority.

It's equal to and it is fully our intention, I think we've said, it's a high-priority to us to return capital to shareholders this year through some form or multiple forms and that hasn't changed at all.

Sanjay said, we have some mechanical things that we had to do to allow ourselves to be able to do that.

We're now, we now have the ability to do that and so I can only say to you now, without making an announcement which I'm not prepared to do, is that it's a priority.

Where we end up in terms of our cash balance, really that's a conversation we're having because, as you can see, I alluded to this, the debate for us is around -- if you're talking about sustained growth or you're talking about your financials, you have multiple opportunities.

We've historically talked about this quite a bit in depth in terms of what are your alternatives.

You can do share repurchases, which that's certainly a top priority.

But then, accordingly I think, you're going to see a spend a lot of energy focused on internal investments.

We really have some opportunities where we can invest in ourselves as we look forward to continue to improve our operations.

Then I would say every other opportunity other than those are more opportunistic.

That is if the right things happen, if something pops up you certainly want to be able to respond to that.

There's nothing I can tell you, imminent or on the desk, I think is the term I've used in the past, that would indicate that we're off getting ready to do something, but what we're really focused on is improving our own operation.

And we will settle around -- you'll see those numbers go up and then we'll deploy capital and we'll find our place in terms of what we feel comfortable with.

I appreciate the color.

Thank you.

Thank you.

Sam Pearlstein, Wells Fargo Securities.

Good morning.

Good morning, Sam.

Could you talk a little bit more about the A350?

Just given the sequential improvement we're seeing, I guess I'm trying to just project out when do you see yourself hitting zero or are there step downs that we should be expecting also, as we progress either through this year or into early part of next year?

This has been probably the one common thread.

I understand why.

It is an important question.

I think my answer had been historically that -- normally I would say if you asked anyone who builds airplanes or built a lot of airplanes would probably tell you ship set 100 is the point at which you know your cost, you are far enough down the curve, your high enough rate, and you've had time to either work or define the projects that you're going to implement and negotiate cost and all of that.

So historically people have targeted chip set 100.

We are at chip set 33.

So at chip set 33 we're on plan.

That's the interesting thing.

One of the variables, I think I talked to rate being probably one of the most powerful variables, so what's incredibly important, at least year to year, is how you manage that rate increase.

And frankly, you want to see it happen and so for us it's kind of a balancing act.

We staff up for the next rate break, which is coming here soon.

Then we march up in terms of our ability to hit those spans and hit those rates.

Then the question is there's another one this year and we start preparing for that.

You don't want to find yourself in and over supported, overstaffed.

You don't want to overdrive you're inventory, so there's a whole lot -- I've got to tell you, you would be shocked if I sit down and lay it all out for you; it's a lot of stuff, including shipping.

Which I have to tell you the logistics costs are not inconsequential and so, for example, we'll actually build up inventory probably on 350 to be able to create some agility in the system around our ability to hit rates and work against these shipping milestones.

Those are all the things in play and like I said, rates being the most important of all those but everything else's down.

And do I think we're on track to understand by ship set 100, I think we'll probably do better than that.

I think given the certainty of where we are, I think we'll precede that.

Am I ready to pick a ship set and say we'll know by this ship set?

Not yet.

Is there any big step down this year?

No.

So this is really about us marching to plan and working closely with Airbus in terms of the cost reductions, as well as the managing of our own factory.

Again, achieving rate.

Thank you and if I can just follow up with a quick question.

Speaking of low rates, the 7478, I was surprised even though it's small there was a favorable cume adjustment.

Can you just talk a little bit about what's going on or what was going on that program?

Sure, Sam.

That's just again -- remember we've tackled it at a program by program level in terms of the efficiency of how we manage our labor and our overtime and our support ratio, but we've also across Spirit manage how we tackle our overheads.

And as the overhead expenses come down the allocations to these programs that benefit from that as well.

On the 747 there's a little close block on that so we basically had some improved efficiencies and as we mitigate our risks that's what happened, that's small and it'll be nice to see.

Thank you.

Jason Gursky, Citi.

Hi, good morning.

It's actually John Raviv on for Jason.

When you talked about growing your business is that referring mostly organically and inorganically, especially as it pertains to the sense you notice you brought on some defense, some more defense experts I should say, and just what's the cash call going to be on growing into different markets beyond the core air transport that you are doing now?

Obviously, the organic growth that we're seeing in commercial is the fundamental driver for us, but, and will always be the principal part of our business, so when I think about this and I kind of layout -- today I'm looking, say a six years strategy.

But so commercial, organic growth we've been very clear that if the right opportunity came along we would expand our business.

Our priorities in terms of expanding our commercial business would be to create a diversification either a product or customer.

And on the product side we would look at things that weren't too far adrift for us.

I don't think you'll see us in the food service business.

Although you would be surprised at the number of suggestions that I get.

But it doesn't have to be aerostructures either.

Will it most likely be?

Yes.

Most likely we'll try to find the right thing that's a broader part of the airplane to tag on.

But those things they come as opportunities you don't just go take them.

New starts in this business only come along every 20, 25 years.

So there's only certain mechanisms to grow that part of your business.

On the defense side it is an interesting thing, we're in the cycle where there's a lot of pressure on overall federal budgets.

There's a big debt, so obviously, I think most people feel -- well you can see frankly the declining revenues in defense and we'll see what happens with sequestration, etcetera.

But there are a few new starts in defense and in particular in our segment in the aero side of defense and we're going to try to participate there.

We think our value proposition is very attractive.

We have a very high-quality engineering team.

And great manufacturing capability.

You've seen other examples of leveraging commercial into defense.

Boeing did that with the tanker and they did it with the P-8 and there's been other examples of that.

And when you look at our cost, it's pretty attractive and our capability.

So we think we're a natural.

So what you do for us is, I think for us, most of our focus will be on finding the right new starts to participate in.

Great, thanks, I'll stick to one.

George Shapiro, Shapiro Research.

Yes, a couple of quick questions.

On the A350 deferred coming down, you had mentioned on the fourth quarter that part of the reason it looked as poor as it did was, one, delivery got put into Q1 so effectively, obviously, we see the benefit of that this quarter.

So my question is, in the second quarter will we continue to see the A350 be at this level or lower?

We would predict you'll see it to be at this level or lower.

Okay.

Then a follow-up, Sanjay, if you could just provide maybe a little more color on the wing margin you said was depressed because of some leftover Gulfstream costs.

If you just maybe spell out roughly what that magnitude was so we can get an underlying look at the margin?

Sure.

And again, George, the challenge on that segment, it's a small segment.

And just a few million dollars is the trailing cost so it's in the low single digits kind of a number.

But going forward, again, I can see the margin on the wing segment creeping up to th 13%, a little higher than that, but that's what I see.

Nothing else happened in that segment other than what I just mentioned.

Okay, thanks very much.

Peter Arment, Sterne, Agee CRT.

Yes, good morning, Larry.

Sanjay.

There I guess just a quick question, follow-on to the automation that, obviously, sounds like money well spent in terms of the recovery period.

How about other either portfolio shaping or outsourcing opportunities when you look to improve the cost base?

Maybe just give us an update there.

Thanks.

Yes, Peter, boy I've got to tell you -- that is -- when I talk about make by and I talk about doing what we do best, that's exactly what I'm talking about.

I would rather describe the process to you than give you a prediction.

Because it takes time to get this right.

What you want to do in this whole structuring your thinking about how you make, you optimize your business.

You're sitting looking at what you do best and how you differentiate yourself in the marketplace and what you do that others can't do and then you look at the things that you do that you might be able to buy more efficiently, if you do it correctly.

So, what I would describe our process as being, number one, is we have a lot of suppliers.

We buy a lot of fabricated parts.

I always describe our business as skill and scale.

On the scale side what you really want to do is pick the people who do a good job for you.

What's vital to us, obviously, from a reputation standpoint and to our customers, is a surety of supply.

We need to deliver quality product to our customers and so that's a vital.

So when we look at our suppliers it's the same thing.

We are looking at people that we're confident can give us a surety of supply.

The second thing we're looking at is, and it's also quality.

The next we're looking for is we are saying is we do this make buy or we reparse our buy, we're looking for folks who have excess capacity because one of the difficulties of just negotiating down, negotiating down, is every time you go up in rate, you're paying the capital cost, you're creating a difficult situation; so what we do is we tend to try to figure out where can you put things where you can minimize or get the real organic leverage.

So we have been doing this and then once you figure that out for yourself, then of course, you have to engage the folks and get into the details.

So these things take time.

We say we're doing them, they take time to do.

We're working them -- I have to tell you we spend a lot of time on this.

We're working it hard and it's always the thing that you have to be a thoughtful about in increasing rate structure where you're going up in rate, you just have to be incredibly diligent about the detail in terms of how you do these things, because you never put your rate in jeopardy.

But that's the process that we're going through and I can understand maybe people's impatience with not seeing all of the results.

You're seeing some of the incremental results of decisions that we made that are reflective in some of the improvements that you are seeing, but I believe we can continue to make progress here, but again we're not there yet.

That's very helpful.

Thank you.

Ken Herbert, Canaccord Genuity.

Hi, good morning.

Good morning, Ken.

I just wanted to follow-up, Larry, again on the A350 on your comment specifically on the materials side.

It sounds like you're maybe incrementally a little more confident in the curves on the A350, but as you look at the projects you're doing with Airbus and then specifically your supplier negotiations, on either one those can you provide any more details in terms of, either what percent of your supplier negotiations might be done, or when you might expect to have these things wrapped up?

Because it sounds like your visibility on these has probably gotten better, certainly just as we're three months further into the program.

But any more detail on those would be helpful.

I really would prefer not.

I would say -- I think probably where you're seeing increasing confidence isn't just in our negotiations with our suppliers, which it certainly helps, but it's also in the fidelity of the projects that we have that we're working with Airbus on.

I think we're gaining confidence in the projects themselves and the paybacks of those projects.

Early in the process it's not that difficult to identify here's the things you can do.

You have to get the conversation along to these are the things we're going to do.

And I think we have going confidence about the fact that we can make these things happen.

To be very candid, I'll tell you where that comes from.

Early in production you're very, very busy.

Everyone is very busy and just trying to get the product out the door.

You're transitioning from development to production.

There's a lot of change traffic coming out to flight task and you're just -- it's just a churn every day just to make the schedule.

Just to make your FOB dates and it's actually difficult for us and more difficult for others.

So it's difficult then to have a conversation about let's introduce more change in the system to address cost.

But it's an important thing to do early in the program while rate is low.

Because it's, again, really hard to do at high rate.

So I think that's where you're probably hearing in my voice a little more comfort around the fact that these conversations have matured dramatically from ideas to specifics.

Okay, that's helpful and would you be comfortable giving a number as to maybe what percent of your suppliers on this program are now under long-term agreements versus what percent you are still purchasing on the spot market so to speak for the A350?

No.

I'm not going to get into that level of detail, but I appreciate the question.

But what I would suggest you do, is just follow our deferred quarter to quarter and then you'll get the chance to see -- you'll actually get to see the result.

And at some point maybe I'll think about -- I don't know whether we can at some point, when we get to a point where we feel like saying a number we'll do that, but right now, I would as soon just say watch us.

We're telling you we're improving this.

We've been pretty clear how and I think you've seen the progress.

This time last year I think our deferred was $28 million per ship set.

We made a lot of progress to get to $3.6 million.

Great progress.

I appreciate the color.

Thank you.

Yes, thank you.

Myles Walton, Deutsche Bank.

Thanks, good morning.

Great amount of progress on allocated cost containment here in the quarter just from a run rate basis for the rest of the year.

Are you able to contain it to this 4% of sales type level on a go-forward basis and, in particular, if you can comment around SG&A and the opportunity there?

Sure, Myles, yes, can I contain that?

Yes, absolutely.

These are fundamentally our warranty accruals and so, yes.

As far as SG&A is concerned, again compared to last year, in Q1 last year, you may or may not remember, but in Q1 of last year we had some charges associated with some consultants that we brought in to help us.

But can I see around $52 million about 3% of sales as my G&A going forward?

Absolutely.

This is what we've talked about.

When Larry launched challenges on cost reduction, it was across the board.

We don't just look at cost reductions on labor or on the factory floor, et cetera.

We're looking at cost management across the board.

I would tell you including in my own department, including finance.

And it's everything from trying to lower interest rates, which we've done, to trying to improve the way we manage our SG&A spend, etcetera.

So, absolutely.

I'm pretty confident we can hold this where we are.

That's great.

Just one clarification, Sanjay, when the $135 million of retainages your carrying get trued up to the GAC settlement, was there any negative effect through the P&L at Wing Systems or was it all just the $3 million trailing cost that you talked about?

No, that was just the trailing cost.

There was an immaterial benefit associated with the GAC settlement on the P&L.

Okay, thanks.

We have time for one more question please.

Steven Cahall, RBC Capital Markets.

Thank you.

Good morning.

Just first one on the global agreement.

I know it's very complex and there's a lot of moving parts to that, but as you sit down in the program reviews can you give us any sense of maybe even just qualitatively what the level of progress is?

Are you halfway there?

Are you most of the way there, what can you guide us in terms of how you're feeling about the progress on that?

The negotiations with our customers are a continuous process.

I will tell you that.

And I think you're right, these are complicated.

There are multifaceted and particularly when you get to a global context then you have to strive for -- the [lot] of action items in terms of trying to figure out what data says and what you're doing in terms of cost reductions and so on and so forth.

I couldn't sit here I'm tell you 10% there or 30% there.

When we are there, you'll know about it, that we are there.

I will tell you we work really, really hard with both of our customers and we want to be their best partners.

We want to bring the best value to them and the context of our negotiation is always based on solid performance, quality deliveries on time, the best value proposition and try to do so fair and equitable arrangements in terms of looking at the future.

So that's the context under which we do the continuous negotiation with them.

Maybe just one final clarification on what you said on the trailing cost on the wing, is that done now after Q1 or do we have a couple more quarters of that to fully --.

We better be done.

We're done with the Gulfstream wings.

We have transitioned services arrangements with the new owners, which we provide them but there's nothing -- hopefully we're done with these trailing costs that came in.

It's like in any system you sometimes you have some old purchase orders and costs that flow into the year after the transaction was done.

Great, thank you.

I will now turn the call over to our President and Chief Executive Officer, Larry Lawson for some closing comments.

I know you have a busy day, so I'm surprised that we managed to use the entire time, but want to thank you all for participating on the call.

I will see many of you in the coming weeks and we're looking forward to having a great year.

Thank you.