達信公司 (TXT) 2013 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Textron second-quarter earnings conference call.

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

Later, we will conduct a question-and-answer session.

(Operator Instructions)

As a reminder, this conference is being recorded.

I would now like to turn the conference over to our host, Vice President of Investor Relations, Mr. Doug Wilburne.

Please go ahead.

Thank you, Tanya, and good morning, everyone.

Before we begin, I would like to imagine we will be discussing future estimates and expectations during our call today.

These forward-looking statements are subject to various risk factors, which are detailed in our SEC filings, and also in our earnings release.

On the call today, we have Scott Donnelly, Textron's Chairman and CEO, and Frank Connor, our Chief Financial Officer.

Our earnings call presentation can be found in the Investor Relations section of our website.

Moving now to second quarter results, starting with slide number 3. Revenues in the quarter were $2.8 billion, down 6% from a year ago.

Our income from continuing operations was $0.40 per share, which compares to $0.58 in the second quarter of 2012.

Moving to cash flow, second-quarter manufacturing cash flow before pension contributions was a $362 million use of cash.

And second-quarter pension contributions were $17 million.

With that, I'll turn the call over to Scott.

Thanks, Doug, and good morning, everybody.

We saw solid revenue growth at Textron Systems in our industrial businesses, as well as strong commercial orders at Bell.

On the business jet front, demand continued to be soft, as we announced in April, we took cost reduction and pricing actions appropriate for this market environment.

Specifically, we lowered our light jet production line rates, reduced associated direct headcount, downsized our indirect workforce, and reduced our jet discount allowance.

As we expected, reduced discounting to entice customers into the market did result in lower sales volume, as we delivered 20 jets compared to 49 a year ago.

However, we achieved positive new jet pricing on both a sequential and year over year basis, which was our intent.

We still believe the overall market demand will eventually recover as global economies continue to expand.

With respect to the roll-out of our new M2, Sovereign, and Ten product lines, we're making good progress with certification testing.

The aircraft are performing extremely well, although minor delays in avionics software certification has slightly delayed initial delivery dates.

We would now expect M2 and Sovereign to begin shipping in the fourth quarter of this year, with the new Citation Ten early next year.

This will reduce total expected 2013 shipments, resulting in a new full-year Cessna revenue outlook of just over $3 billion.

Looking longer-term with new products, we're making good progress on our Latitude and Longitude platforms, planned for service entry in 2015 and 2017.

In fact, the first Latitude fuselage in those sections were mated last week, and we're on track for flight test early next year.

Market receptivity for this new model has been very good, as we conducted a 19-city tour with our mockup during the quarter.

Finally, on Cessna, we're making excellent progress in implementing our Chinese strategy to build and market Cessna aircraft through in-country joint ventures.

We completed the equipment and tooling installation for our new Chinese Caravan facility, and expect deliveries to begin before year-end.

We're also installing equipment and tooling in our newly-constructed business jet facility, and expect deliveries of XLSs to begin next year.

Moving to our finance segment, slowness in the business jet market resulted in only a few new loan originations during the quarter.

However, segment profit benefited from good credit performance, and a number of small asset transactions in our non-captive business.

In our industrial businesses, we saw good growth in each of our businesses, reflecting strong auto markets in North America, and new product introductions and expansions of our global distribution channels.

We also had good execution, with an overall incremental margin conversion of 39%.

We will continue to invest in new products in our industrial businesses, as we believe that's the best way to win in the market, and create high-value growth.

For example, during the quarter, we did introduce our redesigned TXT golf cart, updating the model's curb appeal and proven performance, while delivering new features, as well as increased durability and simpler maintenance.

During the quarter, we also closed on the acquisition of Sherman & Reilly, a manufacturer of aerial and underground electrical power distribution and transmission products, which significantly expanded Greenlee's electrical utility product line.

Moving to Systems, revenues were up, reflecting growth in our unmanned air systems and precision munition product lines.

We continue to see operational stability in our fee-for-service unmanned air vehicle systems contract, but as previously discussed, this is essentially a breakeven program at this time for us.

Our other major UAS contract is a Shadow tactical data common link retrofit program.

This program is still in the development phase, and it now appears the completion of the development program will not occur in time to allow shipments of the production units that planned for this year.

As a result, Systems 2013 revenues will probably be about $200 million lower than we previously expected.

On the precision munitions front, we continue to ship product to a Saudi program under an undefinitized contract, and expect a boost to Systems backlog in the third quarter, as we recently came to an agreement on final pricing.

At CMLS, we're making good progress on our Canadian TAPV program, as we deliver our pre-production vehicles for initial performance testing.

Across Textron Systems, we have a substantial amount of global sales activity underway for our products and continue to believe this business can maintain a flat to slightly growing top line over the next several years.

Finishing with Bell, we delivered nine V-22s and six H-1s in the quarter, flat with delivery in last year's second quarter.

We signed the second V-22 multi-year contract to deliver 99 units beginning in late 2014, with options for 23 additional aircraft, with one already exercised.

We are also in active discussions with several potential FMS customers that should lead to additional V-22 volume in the second multi-year timeframe.

Last month, our Bell V-280 tiltrotor platform was selected to participate in the US Army's Joint Multi-Role technology demonstrator program.

We believe the V-280 offers the Army the highest level of performance in [tetanus], as well as the best overall value in terms of capability, procurement costs, and operating costs.

On the commercial side, we delivered 44 helicopters in the quarter versus 47 units at last year's second quarter.

While deliveries were down, this was the result of commercial delivery timing, and not a reflection of demand, as commercial order flow remains strong in the quarter.

On the last earnings call, we indicated the transition to a new ERP system had negatively impacted our productivity and aftermarket shipments.

We've improved operations such that we are now shipping spare parts at levels higher than before we implemented the new ERP system.

While we have further work to implementing these systems, I will be focused on improving operating productivity and output to reduce spare parts backlog, and return to internal production schedules.

On the new product front, we made a strategically important announcement at the Paris Air Show, when we unveiled our new Short Light Single, which essentially replaces our legacy 206 JetRanger.

With our recently-upgraded 407 and 412 models, our new 429, and the planned 525, the new SLS will fill out our product line at the lower end.

With over 4,400 JetRangers currently in service, there is meaningful existing upgrade market to support this demand.

We're exploiting development to bring this product to market as quickly as possible, with the expected first flight late next year.

To wrap up, we expect slightly lower full-year results at Cessna and Systems, and slightly higher results at Finance and Industrial.

We're maintaining our guidance for 2013, our guidance of $1.90 to $2.10 per share, we're also maintaining our projected 2013 cash flow from continuing operations of the manufacturing group, before pension, of about $400 million.

In summary, we remain focused on improving our operational execution and cost productivity, and we remain committed to continue our investments in new products and sales capability to grow the business over the long-term.

With that, I'll turn the call over to Frank.

Thank you, Scott, and good morning, everyone.

Segment profit in the quarter was $213 million, down $97 million from the second quarter of 2012, on a $180 million decrease in revenues.

Let's look at how each of the segments contributed, starting with Cessna.

Second-quarter revenues at Cessna were down $203 million on a year over year basis, reflecting lower jet deliveries.

The segment had a loss of $50 million, primarily due to the lower volumes, along with the impact of $28 million in pretax severance costs.

We would expect that expense savings would offset most of the $28 million by the end of the year.

At Bell, revenues were down $31 million, primarily due to lower commercial helicopter volume.

Segment profit decreased $17 million, reflecting the lower volume and an unfavorable mix in our commercial business.

At Textron Systems, revenues were up $33 million, primarily due to higher volumes in our UAS and weapons and sensor product lines.

Segment profit decreased $6 million, reflecting a larger mix of lower-margin service contracts.

Industrial revenues increased $45 million, reflecting higher volumes across most of the businesses, and an increase from acquisitions.

Segment profit increased $18 million, primarily due to improved performance and the higher volumes.

Moving to Finance, revenue decreased $24 million from last year's second quarter, reflecting lower finance receivables.

This segment had a profit of $15 million.

Credit performance continued to improve during the quarter, with non-accruals of $124 million, and 60-day delinquencies of $65 million.

Moving to corporate items, starting with cash flow, looking at our cash flow reconciliation, which is at the bottom of the manufacturing group cash flow schedule, which is attached to our earnings release, we've had a year-to-date use of cash from operating activities before pension contributions of $787 million.

As reflected on our June 29 balance sheet, also attached to our press release, you can see that a significant portion of this cash use was driven by an increase in working capital.

This was driven primarily by operations at Bell and Cessna.

At Bell, this was the result of inventory builds for higher second-half military and commercial deliveries, and the productivity issues that Scott discussed earlier.

At Cessna, the cash use reflected ramp-up of production for new M2, Sovereign and Citation Ten, and lower-than-expected deliveries in the first half of the year.

We expect these working capital increases to reverse during the second half of the year, as we deliver the higher volumes at Bell, and as we certify our new models and deliver higher volumes at Cessna.

Moving back to the P&L, corporate expenses were $20 million, flat with a year ago.

Interest expense was $30 million, down $5 million from last year's second quarter, primarily due to the benefits from the pay-off of our convertible notes on May 1. Our diluted average share count during the quarter was 283.8 million shares, which was 11.7 million shares lower than last year's second quarter, primarily reflecting the share repurchases in last year's fourth quarter and the convertible notes settlement.

Finally, our EPS guidance now reflects an annual effective tax rate of 28%, down from our previous guidance of 29%.

This reflects lower domestic income at Cessna and Systems, which is subject to higher US-based tax rates.

That concludes our prepared remarks, so operator, we can open the line for questions.

Thank you.

Noah Poponak, Goldman Sachs.

Scott or Frank, just to make sure I've got the production flow at Cessna about correct here.

If I slide the Ten out and the Sovereign out, as you just indicated, versus my prior model, I show second-half total deliveries down 5% to 10% and full year 2013 down something like 20% to 25% versus 2012.

Does that sound about right?

It's probably about the right order of magnitude.

Okay.

Good.

And then, could you just go back to the avionics delays that you mentioned are driving that, and maybe give us a little more detail on exactly what's going on there?

Sure, Noah.

Look, we have in both the M2, which is a Garmin 3000 cockpit and the Ten and the Sovereign, which essentially have the same Garmin 5000 cockpit, we are trying to have one basic certified software build that really underlies all three of those platforms.

The flight testing and the performance of the avionics equipment and whatnot, and for the most part has been quite good.

The aircraft are performing extremely well, making great progress on all their flight testing, but our supplier has struggled going through this first Part 25 cert, and just getting everything all lined up, and getting us a build of the software that will pass through all the final certification testings.

We think we're there, frankly.

I mean it hasn't really impeded the flight test program, the aircraft have been continuing to run, we do have the initial versions of the latest build that are in our own integration laboratories on the ground, and look very good.

Guys are very bullish that we think it has the things it needs to have in it for the final cert, and so it's a matter of just taking those now and getting them into the actual aircraft, and frankly going through the formal process and getting each of the aircraft through.

The only reason the Ten is pushing into next year is just the timelines to get the M2 through the certification process, get the Sovereign through it, it's probably going to push the Ten into the beginning of next year.

So, it's relatively mild, modest in terms of its schedule impact.

Noah, we were originally hoping to get the first couple sales of M2s and Sovereigns late in the third quarter, and then we had always planned the Tens in the fourth quarter, and I just think with some of the relatively minor delays in getting this final software build, it's pushed them out a couple months, but that's enough to push it -- all of the deliveries of the M2s and Sovereigns into Q4.

Just realistically speaking, as we focus on getting those through the process, it will push the Tens into the first of next year.

Okay, that's very helpful.

I'll jump back in the queue.

Thanks a lot.

Joe Nadol, JPMorgan.

Thanks, good morning.

Scott or Frank, just on the cash flow, I heard what you said on the inventory build at both Bell and Cessna.

I was wondering if you could give a little more detail on what surprised you in the quarter, or if it did at all.

Are you back on track?

I know you haven't caught up at Bell for the ERP implementation, but are you back on track with where you originally would have thought you would have been?

And then, on Cessna, how are you going to make back the inventory build by the end of the year, if some of these deliveries are getting pushed into 2014?

Well, I think -- Cessna is more or less to be expected.

I mean we know we are ramping up M2s, we are ramping up Sovereigns.

We expected, as you know, to take down the light jet production volume, but obviously we are finishing up the aircraft that were in the queue.

So we certainly expected to see a significant inventory build at Cessna.

We still believe that we will get the M2 and the Sovereign deliveries that we had in the plan for the year, it's just they will all be fourth quarter instead of over the end of third and into the fourth quarter.

So the only ones that are really moving out, in total, are the Tens moving into next year.

So, for sure there is some pressure there.

On the other hand, we think there are opportunities, and we're certainly taking fewer trade-ins.

So, as we continue to work down our balance of used aircraft inventory, which we did again in the quarter, we think that helps to make up for some of that cash shortfall in terms of having the Citation Tens delayed into the first quarter of next year.

So the Cessna situation I think is pretty well understood, there's not a lot of surprises there, and we'll work our way through that.

At Bell, I would say certainly, to our plan, we're behind where we would like to be in terms of cash.

As I said, in terms of how we're doing in this ERP system, particularly with respect to a lot of our parts shipments, be it into the spares or into our final assembly factories, the improvement in that area is back to plan, but it did not catch up where we were behind in the first quarter, so that's the work we still have to do.

So we're -- the system is running, we can demonstrate that we can now ship the parts at levels at or above where we were before we put the system in, but we haven't yet achieved a level where we're able to burn down that backlog.

But we certainly have expectations that will happen through the course of the year.

And that also results in getting things around progress billings and things like that, where you don't have as much in progress that has been accomplished, and therefore you're behind on some government billings.

But again, as we get that system recovery and get it stable, and work our way through the rest of the year, we think we will recover that.

So, it's fair to say that we should see improvement, certainly in Q3, particularly at Bell, and then a lot of the improvement at Cessna comes in Q4, because that's when all the new deliveries take place?

Yes, that's exactly right.

Okay.

And then, over in industrial, margins were quite good, the highest in, I think, a very, very long time.

You had attributed it to performance and to volume.

How should we be thinking about the upside opportunity to what you've been putting up in the past, as far as the 8% level as we go forward?

Are we going to revert back to that level?

Well, as you know, our industrial businesses are each cyclical in their own nature, so I think I wouldn't expect to see 9%, almost 10% margins in the last two quarters.

But I certainly would expect to see margin expansion over what the margins have typically been in the third and the fourth quarter.

So I think performance will stay strong, the strategy we have around there, both in terms of productivity and driving more sales and new products is working, and I think it will continue to work.

So, certainly there is a seasonality, but I would expect to continue to see margin expansion in the industrial businesses.

Okay and just one more.

Scott, could you comment on demand in particular for midsize aircraft?

Have you filled those initial Sovereign slots for the new version of the aircraft, and maybe just address XLS demand?

So, Sovereign demand, I mean, we are starting, obviously, to take orders for the new Sovereign.

We just got the first production aircraft off the line only a few weeks ago, and that thing has been on a very, very steady and busy tour of flying around and doing demo flights.

So, we really didn't have the sales tool in place here until here just very recently, but the aircraft is out there, flying a lot of customers, and I'd say we have a pretty strong list of customers that are interested in the new Sovereign.

It's always been a very popular aircraft, people that have them love them, and it's very nice refresh to the aircraft.

So, we have started to take orders and put them into the backlog, but we've only really been out there, able to show people the aircraft and demo flight here in the last few weeks.

So I would say it's building some pretty reasonable momentum in terms of the customer prospect list.

XLS demand has been pretty steady through the quarter, and no real change.

In terms of the light jet market.

As I said, the market is still very soft.

And if you're not out there doing pretty aggressive discounting, trying to go to customers that are not ready to move yet, you're not going to see a lot of volume.

That's exactly what we expected to see in the marketplace.

So, there's obviously some activity, but it's still pretty soft.

Thanks.

John Godyn, Morgan Stanley.

In the release, you described the Cessna production cuts as the right actions.

I was just hoping you could elaborate on that a little bit.

Of course, demand continues to be soft, so I was just curious, with continued softness in biz jet trends from here cause you to revisit production even further and potentially reduce it again?

Or by right actions do you mean that the data that you see and the conversations that you're having suggest that you've really hit the right level, given where demand is?

Well, I mean, obviously, this is a very fluid situation, so I don't think we would ever say hey, we're done one way or the other.

So, in the case of the lights, we scaled back what we thought our target for the year would be around sales of those aircraft, and I would say at least looking into what we are anticipating for the third and fourth quarter, we think we're in the right place.

On the other hand, if you look at M2s, the market demand for that new product has stayed fairly strong, and we've actually gone in and tried to figure out how to add some additional slots into next year, because we're in a situation right now where we see some transactions happening, and the M2 would be the right aircraft for the customer, but we don't have available slots for them.

So, we've had some adjustments, obviously, that we took down this year, around some of the light models, comfortable with where we are right now.

That doesn't mean we would change it up or down, based on what we see demand changing in the marketplace, but I think what we took those down to, our view right now is that's probably the right number in terms of our current production roll.

Of course, we have the M2, where we're going to go try to find a way to insert some more available slots into 2014, because we think the demand is there.

Okay, that's very helpful.

And I was hoping you talk a bit about what the sales force is telling you the customer response was to the production rates?

Of course you had some good comments on incremental pricing, is that just sort of simple supply-demand rebalancing, or is there any kind of new or renewed sense of urgency to transact that wasn't in the customer conversations before the cuts?

Just any clarity or background there would be helpful.

Thanks.

Sure, I would categorize it as a supply-demand balancing.

So, the transactions that I felt that we were doing, that we wanted to get away from doing, we're trying to go in and do some additional discounting to get a customer who is ultimately going to upgrade their aircraft, and try to pull them forward to get them to upgrade now.

And so, as we took that sort of aggressive discount out, and didn't go try to pursue and try to get somebody to come into the market that didn't feel they were ready to come into the market, obviously those transactions are going away.

And customers are fine with that.

When you have customers that say I'm okay where I am, probably for another year or two, then that's fine.

They'll keep flying their current aircraft for another period of time.

That's great color, thanks.

Carter Copeland, Barclays.

Just a quick question on the Cessna margin in the quarter.

If you exclude the severance cost that you called out last quarter, you're still decently negative.

I wondered if there were any other cost action items there, or maybe you could comment on any impact from used aircraft in the quarter?

Any color there would be helpful.

Sure.

So, obviously the vast majority of it was associated with the severance costs, which is the $27 million that we have in there.

There were about $8 million of used aircraft residual write-downs, but other than that, it was just a very, very light delivery quarter.

And so there's just not a lot of cost absorption on 20 jets.

Okay.

And just as a clarification, when you say pricing improvement from the actions you took, is that sequential improvement versus last quarter or year-over-year?

Sequential and year-over-year, actually.

Okay.

And one final one, in Systems, you mentioned the definitization of the Saudi contract.

Does that result in any material margin impact versus what you had under the undefinitized contract before?

No, it doesn't.

We ended up with roughly the pricing that we expected, in terms of how we've been booking the deal.

So I think the only real consequential outcome you'll see of that becoming a definitized contract is it will all go into backlog, as opposed to just what was under the undefinitized contract.

Okay, great.

Thanks.

Robert Stallard, Royal Bank of Canada.

Scott, I'd like to follow-up on your comment earlier that you mentioned about continued softness in light demand.

Apparently a pickup in demand for the mid-cap.

Do think there are some sort of structural change here in terms of the business jet market that is preferring these larger jets?

Well, Robert I think we just continue to have a view of the market that says the light market, the light to small mid-market is really a small to mid-size business person, and they are more economically sensitive, and large corporations and other corporate operators of aircraft that tend to have larger aircraft.

So, I think the confidence in the economy around that small to mid-size business community has been a little more subdued.

And so, when you look at a large corporate operator, they get so many years in, they are going to roll that aircraft.

I mean, they're very worried about reliability and availability and aircraft on ground, these sorts of things.

And I think they're more inclined to accept a more difficult residual value environment, and go ahead and roll the aircraft anyway.

When you look at a light operator that, historically they like to roll it at five years or seven years, I think with residual values where they are right now, they're inclined to say they'll stick with it for another year or two.

So that's our general sense.

A lot of people we see coming in right now are coming in, they're coming from the places they usually come from in terms of light jets, they're coming out of a turboprop or a light single, and something like that.

But you don't see as much activity of the people who are current CJ operators that are doing their upgrade.

Eventually they will come, but I think a lot of it just has to do with where the residual values are.

And the used aircraft market, certainly from a volume standpoint, the number of aircraft has been dropping and dropping, but it's still a fairly significant number, and I think the biggest challenge is that we haven't really seen -- for sure, have not seen a price recovery in terms of used aircraft values.

And I think those are the things that need to happen before you're going to see -- or a significant strengthening in the economy, where people feel better about what is going on, before you are going to see a lot of activity in the light market.

And the second question, I was wondering if you could comment on the demand environment in terms of geographical region.

If you are seeing any differences versus what you said three months ago in the US, Europe or Asia?

No it's still very much US-centric.

There's a little bit of activity in Europe, very light activity, frankly, in Latin America, some in Asia, not a very strong on the lights, a lot of demand in Asia on the Caravan.

We're seeing a very strong demand for our turboprop business over there, but in terms of the jet market, it is very North American-centric.

Thanks so much.

Peter Skibitski, Drexel Hamilton.

Let me just ask a couple Bell questions, just for something different.

On the SLS, Scott, some of your competitors sell helicopters in that range, 100 to 200 helicopters a year.

Is that the kind of opportunity that you're thinking for that model?

It is.

I mean, I think our principal competitor in this market right now, Peter, really is the guys that have moved into the Robinson R66s, that is really the space that we're targeting.

It's that price point.

I think we have -- it will be a little different performance for us, but it's roughly in that price point, and it's probably a 200, 300 helicopter a year market.

Got it, great.

And any progress on the 429 weight approvals from the FAA?

Not from the FAA, we continue to get more countries that are approving it, based on the Canadian certification so, we see the market continue to grow internationally for it, as it's approved.

I think the situation with the FAA, Peter, is that as you may have read, there is really an activity going on right now within the FAA to look at this whole issue of, is 7,000 pounds the right number to delineate between the current certification standards, whether it's a 27 or a 29.

And this has happened in the past, by the way, where because technology changes, and what's available in the market changes, and technology has changed from the particular, is it appropriate to have a specific weight that delineates the difference?

If so, is it the right weight?

So, really what's happening right now as there's a broader review of this issue going on in the FAA, and I suspect that where we'll end up will really be reflective of where the FAA wants to go in the future, in terms of how they're going to delineate between Part 27 and 29 service.

Okay, and broadly on the Bell commercial helicopter, I guess, cycle, you mentioned timing during your opening remarks.

You don't sense that the commercial helicopter cycle is slowing at all, you just think you had a timing issue in the quarter, and overall the commercial helicopter up cycle is sort of still intact, is that your view?

It is.

There's no change to our view, the quarter actually was quite strong, in terms of order rate, so a lot of order activity.

We were light a few helicopters versus a year ago, but that really just has to do with customer delivery timing, and there's no change in our view of what's going on in the market, nor our are expectations in terms of our deliveries for 2013.

Got it.

Thank you.

Cai von Rumohr, Cowen & Company.

Yes, thank you very much.

So, Scott, you mentioned improvement in pricing at Cessna sequentially and year over year, and yet, if one looks at the used market, it looks like those prices continue to soften.

So, do you feel you have kind of hit equilibrium here, where basically the prices really have held and can get better from here, or are you concerned that the weakness in the used market is going to catch up with you?

And so you're going to have continuing pricing pressures in your business?

Well, Cai, I think what was going on with the new aircraft pricing was also driving the residual value on the used aircraft, so it's actually a little bit the other way.

And I had to guess, one thing I want to be clear about, I don't want to mislead anybody, all right?

We've got better pricing in the quarter both sequentially and year-over-year, but we're hardly taking aircraft back to list pricing.

These are still attractive prices for customers versus historical levels.

So there is still discounting going on, it's not like this has snapped back to all of a sudden people are going to be selling at list price.

So I do think that pricing will continue to reflect the tone of what's going on in the market.

It was just our view that coming, particularly out of the first quarter, I looked what was going on from a pricing standpoint, was getting to the point where it doesn't make any sense to do these deals.

So we need to go back to a level of price that is still a fair and attractive deal for our customers, but one which is also a reasonable deal for our Company to be able to continue to invest in new products, and et cetera.

So, that correction, I think, was very important.

And I'm glad that we made it, and I think it's appropriate that we make it, but these products are still very attractive in terms of how they're priced at this point, even going back modestly above where they were in 2012.

So, used aircraft pricing, Cai, absolutely I think is still going to be a challenge, but I think it's more of an impact to the ability for somebody to trade-in and what their residual value is, as opposed to how it should necessarily pressure new aircraft pricing.

Was there any change as you went through the quarter in terms of the tone of demand in any respect?

Not really.

Okay.

And then, you mentioned this avionics delay, and obviously you already were planning most of the deliveries, Sovereigns and M2s in the fourth quarter, but obviously I assume some of those have slipped into next year.

Approximately how many of those new plane deliveries that you expected this year slipped into next year?

As I said, I really still expect that we will get the M2 and Sovereign deliveries that we were expecting, they'll just be in the fourth quarter instead of getting some done in the beginning, or the end of the third quarter.

The only aircraft that I really view as moving into the next year as a result of these delays are the Tens.

Okay, great.

Thank you very much.

Jason Gursky, Citi.

Frank, just a quick question for you.

The corporate line in the income statement seems to bounce around from quarter to quarter.

I was wondering if you could give us an update on the second half?

And in your view, all else being equal at this point, stock price, and all the other inputs that go there, what we should expect on the corporate line for the second half of the year?

Yes, the corporate line kind of generally, if you look at kind of how we guided it, runs about $35 million to $38 million on average.

And it bounces around, as you say, because of that share price activity, and what that does in terms of just stock -based compensation expense.

And so, if you kind of think $38 million-ish type area per quarter, that's a normalized type of level for that expense.

Okay, and that's what baked into your guidance then for the full year is $38 million, both in the third and fourth quarters each?

Yes, that type area, $37 million to $38 million.

Okay, and then, Scott, just a quick question on Cessna and the margins there.

Can you just give us a little bit of color around your expectations on incremental margins, assuming we get some year-on-year growth going again there?

What we ought to expect from incremental margins on a go-forward basis?

I think you talked about a range in the past, and I was wondering if you can give us an update there?

Yes.

We generally expect to see 20% to 25% incremental margin on volume growth at Cessna.

Okay and these most recent actions don't change that at all?

The headcount reductions?

No, because it's largely trying to size based on what we anticipate volumes to be.

Those are the actions that we have to take if we're going to just the business accordingly, in terms of what the revenues are going to look like.

Okay, great.

And last one, Scott.

In the past, anyway, you have given us a little bit of your expectations around the biz jet market in China.

I was wondering, just generally speaking, you talked a little bit about your production actions, but can you talk a little bit about the market itself and the development of the biz jet market in China, and where we are today?

Well, we still have expectations that we're going to see growth in the Chinese market in terms of -- remember, I'm talking about our products, which are primarily aircraft that would be flown within China, not in and out of China.

So it's a domestic aircraft.

It is still, today, not an easy market from that standpoint, because it's not easy to fly internal just in terms of the airspace management, but we have every indication and certainly see activities going on that would lead us to believe that that's going to continue to liberalize.

So there's a lot more liberalization of lower altitude airspace that's happening.

We see this in selling Caravans, we see it in selling helicopters.

A lot of this airspace is going to become more open, but it's certainly our expectation that they'll start to open up and make it easier to fly within the country at the higher altitudes, which is really obviously the land of the jets.

So, our focus here right now is making sure we have a good sales team in place, and start to do the market development activity.

So as we continue to sell into that market, we make sure that we're present, see every opportunity, and obviously the XLS manufacturing in Zhuhai, which we expect to kick in and start deliveries next year, is specifically targeted at those opportunities.

Great, thank you.

Julian Mitchell, Credit Suisse.

I had a question on the Bell margins.

In the first half, they were down around 100 BPS year-on-year.

You had a 40%, 45% decremental.

If you're thinking about the second half, is there anything in terms of the phasing or the waiting of R&D for things like the 525, the V-280 that maybe change that dynamic or R&D is fairly well smooth through the year?

Julian.

Fairly smooth, Julian.

We're still on track for our original guidance between 13% and 14%.

Okay, got it.

And in Cessna, if we're thinking about, I understand the push outs and so on.

I mean excluding that, it sounds as if volume and pricing are tracking pretty much in line with where you would have thought back in April and May.

I wanted to check if that's the case, and more specifically, what's going on with Cessna aftermarket.

I think it was up about 9% in Q1.

Just what sort of trend do you have just now?

Is up again in this quarter, in both parts and services, so guys are still flying the aircraft, utilizing the aircraft and we're seeing I'd say reasonable growth on the service side of the business.

In terms of the volume of jet production, as I said, I think the numbers we're looking at right now in terms of the performance this quarter and our expectations here through the second half of the year, we feel like our plans in terms of production that we laid in are probably about where they need to be.

So, I'd say, at this point, we're we still have the same expectations that we had when we talked to you after the first-quarter call.

Right.

And lastly, just if you could -- obviously rates are moving around and so on.

Just a reminder on what the anticipated pension effect on earnings is for 2013?

For 2013?

Yes, if you're willing to talk about 2014, that would be great, but I just -- any view on either.

It was 130 --

For 2014, the pension expense was $225 million-ish area, which was a meaningful headwind to our 2012 level.

All in the expense budget.

Okay, and the expectation for the effect in 2013?

That, I'm sorry -- so on 2013, we had about $55 million of pension headwind, and total pension expense was about $225 million.

In 2014 we would expect, it depends on rates and lots of things between now and then, but we would expect that we would no longer see a headwind, we should see a bit of a tailwind, and obviously, that will depend on discount rates and returns for the rest of the year and lots of other factors.

But we, as we sit here today, we would not expect to continue to see a pension headwind as we move into 2014.

Great.

Thank you.

Jeff Sprague, Vertical Research.

Thank you.

Good morning, gentlemen.

Just cleaning up a few things.

Used aircraft, that charge of $8 million, or write-down of $8 million, is that on aircraft that are now no longer in-house?

And can you give us some color on the size and dollars and/or units of your used aircraft inventory?

That $8 million is a charge against our current inventory, based on the residual values.

We obviously had some sales of aircraft in the quarter, Jeff, and I don't think there was an appreciable gain or loss on sale of those guys, so they're marked roughly to the right spot.

I think there was a very modest gain this quarter.

But we don't talk about the specific numbers of aircraft on be used side.

We didn't sell quite as many as we did year-over-year, but actually dollar volume of the sales was actually a bit higher than it was year over year.

And our net inventory went down slightly.

Net inventory -- yes.

Net inventory is down?

Right.

And then, just back to Cessna.

So, effectively what you're telling us right, is M2 has slowed two-plan now through 2014.

We obviously don't know precisely what your plan is, but I'm hoping we can get kind of bigger than a breadbox type of thought process here?

If I think about M2 obviously, clearly is going to hurt M1, I think you would agree with that.

I don't know if you do.

But if I think about M1 plus M2, are we looking at unit volumes equivalent, or maybe even better than the 40-ish a year that we were seen in 2011 and 2012?

Well, I think it's a fair way to look at it, Jeff.

It's sort of an equivalent number, Mustang deliveries have been at a relatively low rate, because again, we see a relatively small number of people coming into that market.

But certainly, when you look at the total entry jet market, there is now two ways to participate in that with us.

There's the Mustang or the M2, so yes, you got to think about annualized, roughly the same number of aircraft with, I think at least in the early years, a significant mix shift towards the M2.

And then, along the same lines, your confidence on clearing the WIP inventory in Cessna obviously comes around moving the Sovs and the Tens that you're building.

Can you give us some color how you're sold on those, relative to your production plan?

On whatever horizon you're comfortable talking about, whether it's through Q2, or into 2014?

Well I guess just from a color standpoint, the Tens are pretty sold, that's been out there for a while.

We've been able to market and sell that aircraft.

On the Sovereign, we still a number of aircraft to go sell.

But as I said earlier, we really have only had the first demonstrator aircraft to take out and start doing demos and flight tours here over the past month.

So, as I said, we have started to take orders, we have started to close deals, but we still have more aircraft to sell here for the 2013 plan, but we think we have a pretty reasonable level of interest in the customer community, and a lot of people that are talking to us, a lot of people doing demo flights.

But that process is still fairly early.

Right and just finally for me, Bell commercial, can you give us a rough percentage delta, what you think full-year volumes look like versus 2012?

I think it would be up significantly, and I think that's how it's playing out.

Okay, so notwithstanding a little hiccup in Q2, the back half looks very strong?

Yes, the Q2 -- we line up with customer delivery dates.

So unfortunately in Q2 there were a number of aircraft, particularly larger aircraft, that were more heavily weighted towards the third and fourth quarter.

And I'm sorry, just finally one more, so just thinking about all this, actually the incrementals in Cessna with the charge and the used aircraft and everything, aren't awful, actually, for as much as production is down, I would say it's kind of admirable.

A tough market for you.

But, should we think of Cessna and Cessna should be breakeven or better in Q3?

Is that a reasonable expectation?

Jeff, it's so sensitive to the volumes of aircraft, and without having any of the M2s or Sovereigns in Q3, I think that's going to make that a challenge.

Obviously, that's what we're trying to do.

Look, the bottom line here is, the team out there, I think, is doing a heck of a job in a pretty tough environment.

They have driven a lot of cost productivity, and I think that's part of what you're seeing.

We're not just saying well, it's a bad market, so everything is going to be a disaster.

We can't possibly be happy about anything that has a red number associated with it.

But the guys are simultaneously trying to drive as much productivity and go through the challenges of reducing and eliminating an awful lot of jobs to respond to what's going on in the market.

At the same time they're trying to invest a ton of money in developing a bunch of new products that will help us both this year, next year and into the future.

So, it's a tough balancing act, but I think those guys are doing a heck of a job, trying to do everything they can to manage cost, and make sure that we do as well as we can in a tough market.

And obviously, I think position us so that when this thing does play itself through on the cycle, things will come out very well.

Okay, great.

Thank you very much, good luck.

George Shapiro, Shapiro Research.

Yes, just a follow-up on a couple of numbers.

Scott, you said aftermarket sales at those were up.

Were they up in the 5% to 10% area, like they were in the last quarter?

They were up 16%, but keep in mind that we had some M&A over the past year in the service center, so on an organic basis, it was high single digit.

And, the used plane sales that were in the quarter?

I'm sorry, George, what about the used aircraft in the quarter?

Can you just give us what the sales volume was?

I don't think we've given the specific numbers, George.

I will say we were down a couple in terms of units, but on a year-over-year basis, we were actually up in terms of the sales volume.

So, they were more expensive, larger aircraft.

Okay, and then Scott, the CJ4 was particularly weak this quarter.

I mean, you have been running double digits, and it dropped to four.

Is there any reason for it, for is it just succumbing to the light weakness, and then would you expect that to rebound some in the third quarter?

I think, George, it probably is a reflection a bit of this notion that people that already have CJs aren't going to do an upgrade at this time.

And we see a lot of people that are going to the CJ4s that might be current CJ2 or 3 operators right now, so I think that's probably a little bit -- a good example of, if you don't see a lot of upgrade activity going on, you're probably not going to see as many people moving into the 4s.

Third-quarter deliveries, what's able to drive it significantly higher, or maybe it's only a little bit higher than the 20 that we saw in the second quarter?

I'd have to say, George, it's probably just sort of the normal cyclicality of people buying aircraft.

We look at what's going on in the customer community and the number of deals, the number of prospects on every aircraft type, so we're not particularly guiding a specific number of aircraft in the third quarter, but I would, looking at it right now, would certainly expect it to be higher than the 20 that we saw in the second quarter.

Okay then just a more general one.

Scott, you had mentioned after the first quarter you weren't going to cut price, and we clearly saw that in lower orders this quarter, although better quality orders.

The fact that you didn't succumb to that temptation at the end of the quarter, does that change people's minds sufficiently that we go into the third and the fourth quarter here, that they recognize that they're going to have to pay a better price if they want an airplane?

Can you talk about that mentality that's out there?

Well, George a very good question, it's part of the theory of the case that we have, that we don't know the answer to that yet.

Without a doubt, some calls happen at the end of the quarter, saying, hey are you ready to make a deeper discount to get a deal done, and answer to that question is no.

And so for sure, there's some deals that probably could have happened this quarter that didn't, because we're not prepared to go those price levels.

As I said earlier with Cai, we're not going to go back to list pricing, but these are still attractive prices and we're certainly helpful that those customers who want to upgrade, have a reason they want to upgrade to a new aircraft will consider coming in and paying a reasonable price.

But we're not going to go do that kind of aggressive discounting at the last moment to try to get a deal across the goal line.

So, whether that actually happens in practice versus just theory remains to be seen, but certainly there were some people that were looking for bigger discounts to try to make a deal happen, and again, that goes back to price levels that don't make sense for us.

So, I think, I hope we're at a point now where the number that we can put on the table for that customer is a very fair and reasonable number, and it's a number that they'll be comfortable with, and ultimately will trade in or buy the aircraft.

Okay.

Thanks very much.

Myles Walton, Deutsche Bank.

Thanks, good morning.

So, I guess the first one, on high-level Cessna EBIT margin guidance for the year, is the full year anticipated to be still better than breakeven though?

That's certainly our objective.

Again, it's going to be very volume sensitive, but certainly our plan would be to get it above the breakeven line on the year.

Okay, and then Bell aftermarket in the first quarter had the ERP issues and was down.

What was it like in the second quarter?

And can you give us some perspective on the military aftermarket in particular?

If you look at the total aftermarket, we were on what our original plan was for the quarter.

So the system, we have figured out how to operate with the new system, in some cases with the system, around the system, going through the usual things you go through on one of these big system implementations.

But anyway, the operation is certainly back, and while it's -- we have our share of challenges, we're able to deliver what we need to deliver.

The only unfortunate part is we did not eat into the miss that we had in the first quarter.

So, what was aftermarket sales in the quarter in terms of directionally up, down how much?

On a year-over-year basis it was --

Single digits.

Up, but up modestly on a year-over-year basis.

Okay.

And then last one, just confirming, so on the R& D expectation for the full year, I think you'd expect to be somewhere in the low $500 million range.

That hasn't moved as a result of the development timelines?

Is that still the right placeholder?

Yes.

These issues on certification really don't have much of an impact on the R&D front at this stage of the game.

Most of the R&D is invested, it's simply timing on going through the final certification.

If you look at Cessna, a lot of R&D now has moved into the Latitude program, and as Doug said earlier, the Bell, Bell is on track, and relatively level load in terms of its R&D investments driven by the 525 and now the SLS and V-280.

And only one other one.

Another manufacturer have similar issues with delays in avionics, caused the avionics suppliers to forward advances to the manufacturer.

Is that something you are pursuing as a result of the delay in certification?

No, it's not.

I think our supplier has been very genuine in their efforts to get this thing done.

I think that there were some deals made with other customers, because frankly, they said look, we've got more on our plate than we can handle and we're going to go focus on getting this deal done for Cessna, because we were first in the queue.

So I think we are the guy, I believe that's getting the top priority and getting the energy put into it.

Look, in the grand scheme of things I don't like having the certification date slip out but this is a relatively mild, modest slip, and I do believe these guys are dedicating their resource and everything they can to keep it on track.

So no, at this point we're not in position to try and go look for any kind of damages.

I think they're in good faith doing everything they can to get us going.

Okay, thanks.

Ron Epstein, Bank of America.

Hi, good morning this is Kristine Liwag calling in for Ron this morning.

I guess my question comes about Systems margins.

So, margins were down about 200 basis points this quarter, even though revenue was up 8.5%.

I was just wondering if you can walk through maybe the factors that drove the margin contraction in this quarter?

Well I think the most significant element is that these fee-for-service contracts we're basically booking at zero profit.

So we had taken a charge last year and basically did a total program or task order estimate at complete that took it from a loss contract and basically booked forward on a breakeven basis.

And so, obviously there's dilution to our overall margin rates associated with that.

So I think if you look at the margins in our other businesses, they are standing where we would expect them to be in the double digit, above double digit margin rates, but we're seeing dilution from our UAS business, principally.

The other place we saw a little bit of margin impact there from a volume and mix standpoint is in our armored security vehicle, where we're doing more recent volume relative to production volume than we had in some previous quarters.

We saw some additional ASB volume that was reset volume with lower mix rather than production.

And last week, we heard from Defense Secretary Hagel that sequestration could cut investment accounts by 15% to 20% in fiscal year 2014, so starting October 1. This cut is larger than we have heard before, so are you seeing any customer behavior changes, or do you see further downside risk to your defense outlook for the rest of the year, particularly in the second half?

I'm sorry, for the rest of this year?

Yes, because right now, fiscal year 2014 would start on October 1.

Yes, no, I don't think we would expect that.

For us, it's principally driven by the fact that we have a multi-year deal around V-22, so we know what those unit volumes look like.

Our other big deals at Cessna are -- at Bell rather, are around H-1, and the unit volumes on the production side of that have been stable.

Obviously our armored security vehicle businesses, our precision mission businesses are virtually all international businesses at this point, so they would have no exposure.

The area that we're probably the most sensitive with respect to sequestration issues is around our unmanned air vehicle business, and some of our intelligence software and geospatial analysis and intel businesses, which are funded more on a year-to-year basis.

When they change budgeting, those things can be affected year-to-year, and we see some pressure in those businesses.

But not something I would say is material, and we certainly don't have any reason to believe there would be any material change to this calendar year with respect to further sequestration discussions.

I guess last question --

Kristine, I think we're going to need to move on to the next question, we are coming up to the hour here, and we've got one more person in queue.

So, we will call you back with a follow-up.

Operator, we will take one must question, please.

Steve Levenson, Stifel.

Can you give us an update on the timetable for the 525, please?

Sure.

The 525 is progressing very nicely.

We'll be flying that aircraft next year, which was our original plan in 2014.

We are obviously in work with the FAA around certification dates.

We have not announced the certification date yet for that aircraft, but I think it's still our expectation that we will be flying it next year and we'll likely certify -- we haven't given a hard date to customers yet, but probably some time out in 2015.

Okay, thanks.

And last, what stage are on partnering on the V-280, or is it a little premature for that still?

We have a number of partners that are part of the V-280 program, and to be honest, I don't know how much we have publicly announced, so I got to be careful here that I don't announce something we haven't announced.

We have several partners, it's not a structure like we had with Boeing on the V-22, where it is a Bell-Boeing function, but we have a number of very strong partners that will have portions of the V-280 product, and those discussions are, frankly, pretty mature at this point.

But we just haven't publicly announced them yet.

Okay, thanks very much.

Thank you very much ladies and gentlemen.

Go ahead, Tanya.

Thank you.

Ladies and gentlemen that does conclude your conference for today, we thank you for your participation and for using AT&T Executive Teleconference Service.

You may now disconnect.