General Dynamics Corporation (GD) Q3 2007 Earnings Report, Transcript and Summary

Good evening ladies and gentlemen and welcome to the Third Quarter 2007 General Dynamics Earnings Conference Call. My name is Karma and I will be your coordinator for today. At this time all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of the conference. [Operator Instructions]. Now I would like to turn the presentation over to your host for today, Mr. Ray Lewis, Vice President of Investors Relation. Please proceed sir

Thank you very much Karma. I'd like to welcome the members of the investment community as well as the business press we are listening today. I want to remind everyone that there maybe some forward-looking statements made today. These represents our best estimates as to what may occur but are subject of course to the same risks that have always faced any business and I would recommend that anyone who is interested in those risks take a look at our 10-Qs and 10-Ks for a more expansive description of them. With that said I would like to turn things over to our Chairman and Chief Executive Officer, Nicholas Chabraja.

Thanks Ray and good morning. The quarter was pretty straight forward so I think I can be relatively brief and spend more of my time on forward-looking things with you in each of our business segments. In the quarter as is obvious from the press release we had earnings per share of $1.34 which exceeded the analyst consensus by some $0.09 and frankly exceeded our expectations. Earnings per share are up 24.1% over the third quarter of 2006, the increase was a result of strong revenue growth coupled with marked improvement margins. By the way this is the 15th consecutive quarter of double-digit growth in earnings per share on a quarter-over-prior-year-quarter basis, something I think we are pretty proud of. Our revenue in the quarter was up 12.6% year-over-year to $6.8 billion and operating margin increased 50 basis points to 11.7% and frankly the strongest margins in my memory. Free cash flow from continuing operations was 152% on net income, which put us over a 100% year-to-date. So very good conversion in the quarter and for the year. I think in brief the quarter was excellent, in almost all respects from my point of view. Now let me spend a few minutes discussing the performance in each of the segments what we expect from each of them in the fourth quarter and then take your questions. And I think Hugh has a couple of points to make as well. Aerospace, Gulfstream, they continue to perform beautifully. Revenue exceeded $1.3 billion on volume growth across all of our models, including... I am pleased to report the G150 which is gaining considerable traction in the marketplace. We are very pleased with that product introduction. Total revenue from Gulfstream is up 21% year-over-year and 10% over the second quarter this year, last quarter. Margins improved 200 basis points largely from productivity improvements and in part from favorable pricing. As a result of revenue growth and margin improvement, operating earnings grew to $226 million, a 37% increase year-over-year. In addition to current excellent performance, Gulfstream orders continue at a strong pace resulting in a dollar denominated book-to-bill ratio of 1.67 to 1 for the quarter, so one in two-thirds to one. Gulfstream obviously had a great quarter, but I don't anticipate that the 17.2% margin rate will be repeated in the fourth quarter. I expect fourth quarter sales and earning to come in between the second and third quarter results. In other words we expect the fourth quarter to be stronger than the second quarter, but not quiet as strong as the third. Turning my attention now to Combat Systems, their revenues increased 37% year-over-year to almost $1.9 billion. Additionally Combat Systems improved margins 20 basis points year-over-year generating operating earnings of $228 million. That represents a 39% increase in earning year-over-year. Order intake during the period was strong, resulting in a $700 million increase in total backlog for the group. For the fourth quarter, I expect revenue to increase significantly, but margins will be back down in the mid 11% range. Not withstanding the reduced margins, I expect a significant increase in operating earnings on the strength of really quite a significant increased volume. You might recall that earlier in the year we have been forecasting a 40 to 50 basis point improvement in margins for the Combat Systems Group. As the year went by we changed that guidance to 10 to 20 basis points. I think it's now fair to forecast that the year-over-year improvement will be on the high side on the 20 basis point mark, which will give us a very nice operating earnings increase given the very, very strong increase in revenue that we are experiencing. Our Marine Systems Group, revenue grew a modest 2% over the same quarter last year, but I am pleased with the 8% growth in earnings. As you may recall, the third quarter of 2006 margins was 8.4% which was very good last year and that included the favorable conclusion of the BP tanker program, which added one time $11 million positive to earnings. This quarter the margins were 40 basis points higher yet at 8.8%. Operating earnings were $110 million and backlog grew during the quarter albeit modestly. All-in-all, another very solid performance in our Marine segment. They've now had two back-to-back quarters with 8.8% margins, and I expect them to end the year with a good quarter although at reduced margins. For the year we expect overall margins in this group to be between 8.2% and 8.4%, which is better than we started out the year anticipating, we were thinking about 8.1%, I think I'd given you that number repeatedly. If they make it to... and we've had a few items hanging fire here and that's why I give you a little bit of a range, but if they make it to 8.4% for the year that implies that the fourth quarter number will have an 8 in front of it, which would... I would find very satisfying. IS&T. third quarter revenue in the IS&T group was essentially flat although organic growth in the North American market was above 3% relative to the third quarter 2006. I had told you previously that we expect that IS&T margins to compress about 50 basis points for the full year against last year as a result of the acquisitions we've made last year. However, margins were only 20 basis points lower in the third quarter and only 10 basis points lower year-to-date. So from a margin perspective IS&T is doing a better job than we had guided you, and they generated operating earnings in the quarter of an impressive $254 million. We continue to have a favorable view of this business, and are pleased that orders exceeded sales this quarter resulting in backlog growth. Although volume will be up in the fourth quarter, I think margins will compress further and dampen the effect of the top-line growth. Backlog, overall, with respect to backlog, I should point out that during the quarter total backlog increased at each of the four segments for a total of $46.5 billion. About 80% of our total backlog is fully funded. With respect to cash I'll make a quick comment and then conclude, with a remark or two on guidance for the year. Free cash flow from continuing operations for the quarter was $826 million and I told you earlier that represents 152% of net income from continuing operations in the quarter, and year-to-date cash flow is running closer to 106% of net income. As is apparent in the press release, we are raising our guidance for the year to a range $5 to $5.05 per share. I should also indicate that free cash from continuing operations will exceed the net income rather nicely which is also, above the way I have been guiding you throughout the year, where I told you that it would be the equivalent of net income. In conclusion let me say that I am very pleased with our company's performance this quarter. It was a great quarter. But Hugh you have a couple of additional points to make. So, this is Hugh Redd our CFO.

Thank you Nick. I want to address the effective tax-rate first. The effective tax-rate for the quarter was 31.2% which is 50 basis points lower than the same period last year. This rate is also slightly lower than our expectations for either the fourth quarter of 2007 or the full year. So lapse in any significant discreet events we anticipate the fourth quarter rate to be closer to 32% and that would result in the full year tax-rate being closer to 31.5%. As Nick mentioned, free cash flow from continuing operations was $826 million which represents 152% of net income and year-to-date free cash flow approximates 106% of the net-income. During the quarter strong cash flow reduced net debt from $1 billion to $500 million and obviously that lower net debt resulted in lower interest expense for the quarter. Finally during the quarter, we repurchased slightly more than 4 million shares of common stock at an average price of $77.73. Now this brings the year-to-date total to just over $6 million shares at an average price of $77.15. And these repurchase activities were consistent with our activity and our behavior in the past. We'll buy back shares opportunistically when market conditions permit. That concludes my remarks, Ray.

Thank you very much Hugh. Karma we're ready to begin the Q&A session. I'd like to remind everyone that we would prefer each questioner to make one question, and if you want to bring up another subject, get to the back of the queue, this way we can give everyone a chance to ask question during this session. And with that said Karma could you explain the folks how they can get into the queue? Question And Answer

[Operator Instructions]. And our first question comes from the line of George Shapiro from Citigroup. Please proceed.

Good morning Nick.

Good morning George.

Usual question to look at. IS&T you mentioned 3% organic growth in North America. Do we start to see that in Q4 as the Bowman contract is kind of down?

I think you are going to see it in Q4, George, as a result of a little more volume as I indicated in my remarks. We expected increased volume in the fourth quarter let me see if I can find that for you; maybe another $150 million to $160 million of revenue, so you'll see a little more growth here.

And do we get more organic growth next year in this business?

Look, it's always hard to predict that what is that that we're seeing out there, the order book would suggest that we're going to have organic growth. Whether funds get released to fund the contract but it is another story so, let me just say I am guardedly optimistic about that.

Okay, thanks.

And the next question comes from the line of Joe Campbell from Lehman brothers. Please proceed.

Yes, good morning it's actually Carter Copeland, good quarter Nick.

Thank you Carter.

Quick question. I wonder if we could just talk really briefly about marine, I was surprised to see the margins come in at 88 again, you had said that the... you had concluded some... expecting to conclude some FSGN [ph] work and we're expecting the margins to come down a bit there this quarter. What was it that... that occurred to make them a little bit higher than you expected?

We have really strong performance at Electric Boat in the quarter that I wasn't counting on. I think it was as a result of efficiencies in the Virginia-class program and some repair volume where they did well, so...

Are those one time in nature or is this sort of... for this sort of performance we... can we count some of this going forward?

I can say that the productivity improvements in Virginia are one time nature, but repair volume for us is spotty and I don't expect the recurrence in the fourth quarter, and that's why I indicated that we should be looking in the fourth quarter to... for some compression of the margins we've enjoyed in the first two quarters. But still it will be good. And I'm hopeful that it has an eight in front of it.

Do you have any sort of update... and also in Marine do you have any sort of update on LCF?

No, I don't think there is anything to say about that one.

Fair enough, thanks.

The next question comes from the line of Steve Binder from Bear Stearns.

Yes, good morning. I am just wondering, the company-sponsored R&D was $13 million from year-ago and $15 million from the second quarter. Is it fair to say that is that pretty much all Gulfstream Nick?

I don't have any idea.

You'veno idea, okay.

I haven't parsed the company-sponsored R&D accounts in a way that would be sufficient for me to give you a detailed response.

Because assuming... I guess, I was going to say assuming it was, a chunk of it or at least an increase, it seems like the incremental margins year-over-year were certainly better than they were they were in Q2, even they worked better than in Q2, even if you factor out any change R&D. And is that just more favorable mix or if you backup pre-owned sales...

I can't... I am not at that level of weeds for you Steve.

All right. With respect... and then with respect to, this one you could probably answer, you're more aggressive in your share repurchase program obviously than the third quarter. It looks like for the full year so far just annualize your dividend where you aren't share purchase; it looks like you are going to return at least half of your free cash flow to shareholders and which is probably the most... your largest percentage we have seen since 98. I am just wondering, now what's your attitude on share repurchase these days? I know you are opportunistic but the stock kind of averaged in Q3 where it was in Q2. Do you think you are going to... are you looking to be given an improving balance sheet more aggressive now than you might have been in the first half?

Steve I thought the market made a mistake in the third quarter and I took advantage of it. Our prospects in the third quarter were better than they were in the second quarter, we announced very strong earnings and we improved our guidance for the year. The stock initially responded to that, it was a hick up that we all know about the market that I didn't believe, and I bought the stock aggressively.

All right.

When it returned to its appropriate level, we backed away. I think we... and I expect that to happen every now and then and when it happens, we'll be all over it.

Thank you.

And the next question comes from the line of Rob Spingarn from Credit Suisse. Please proceed.

Good morning Nick.

Good morning Rob.

Going over to aerospace if you could just give us a little bit more color perhaps on the fourth quarter comment you made earlier about the numbers dropping to sort of between that... between the 2Q and 3Q figures on sales and margins and perhaps you can update us on where you are with your latest aircraft development, what we can expect in terms of news there and ramp.

I think in terms of margin... I mean in terms of volume difference, it's insignificant and it has principally to do with pre-owned activity and whether or not we deliver a plane or not at the end of the year, and I would say on the... with respect to margin we just had an unusually good quarter. And one of the things I should point out to you, this is mix sensitive and we didn't deliver any 500s in the quarter or any 350s, which are of the large aircrafts, our lower margin airplanes. So we had exceedingly good mix. And we did reasonably well on pricing of the light or the mid-sized aircraft. But our forecast, I think, is perfectly clear that our margins won't be strong in... as strong in the fourth quarter, but still very good when compared to a year ago, and still leaving us well ahead of our plan in our earlier guidance to you and I feel particularly good that when we look at it as compared to our plan and as compared to a year ago about 80% of the improvement is not from pricing, its from performance, productivity that leaves us nicely positioned to continue to improve as time goes by.

And then on the new aircraft front?

We will make an announcement when we make an announcement.

Okay. Thank you.

And the next question come in a line is Heidi Wood from Morgan Stanley. Please proceed.

Good morning Nick.

Hi Heidi.

Can you give us greater granularity on the margins at our Combat Systems and talk about the percentage of international at the Combat systems year-to-date in 07 and remind us what it was in 06?

The... if I remember correctly Heidi, we anticipate that the growth in our European land systems business will be about 20% year-over-year. The remainder of the growth will come out of North American operations.

Alright. The... I want to go back to the aeronautics for a second, the G150 can talk about pricing there and the bottom end of the market we are seeing an increased number of players, is that effecting pricing for you?

Our pricing is strengthening as that, airplane... you had seen in the market in the introductory pricing is over. I think, I am surprised that how well it's taken off, how many orders we had in the quarter, and it's going to be a good airplane for us and it's... pricing is up considerably over its introductory price.

All right, great. Thanks very much.

And the next question comes from the line of Howard Rubel from Jefferies. Please proceed. Howard Rubel - Jefferies & Company: Well thank you very much, a couple of things. First Nick you talked about, productivity being an important part of the results and I would think that... and you kind of indicate us a bit on the... you were surprised or pleased. So does that set you... set the stage fro you being able to ship more aircraft next year than you originally had expected giving how late you are in this year?

Yes, look Howard, what I think of, where I think we are is we will do 82 of the large aircraft this year which is right in accordance with the plan, and, it could be one more or one less, depending on the vagaries of... Howard Rubel - Jefferies & Company: Customers and yes.

Yes. And next year as I'd once said, we were planning to do 83, we've upped that to 88. And it looks to me like in the following year we will go over 90, maybe as many as 92 or 93 and that is all as a result of productivity gains. And it is enabling increase in volume as well as improving margins. So yes, to your question, Howard, you are right on the money. Howard Rubel - Jefferies & Company: And then... thank you. And then just on... MRAP has been on the fastest tail imaginable and while I know that's only a modest part of your business, could you talk about how you have dealt with getting up to speed so fast; I think you are ahead of schedule there and what you've done in the supply chain to make it happen and does that translate anywhere else in the Combat System's area?

MRAP, we've had more volume this year than we anticipated. I think I was telling people $300 million to $400 million, now it looks $100 million to $500 million, I can't get it with a fine-toothed comb but in fact we're pleased that we're building out what we have for our customer more rapidly than the schedule they have given us and that's with respect to both products, RG-31 and the Cougar. I think we've had a lot of cooperation in the supply chain and have good partners, and we have a lot of capacity in our facilities that we've managed to bring to bare on that whole supply chain management and the production problem. So for us this is a very nice thing. We very much appreciate the order we received recently and MRAP II together with our partner, Force Protection, for our joint venture, Forced Dynamics, and look forward to having a good year in 2008 with MRAP. Howard Rubel - Jefferies & Company: Thank you. I'll let it go there.

And the next question comes from the line of Joe Nadol from J.P. Morgan. Please proceed.

Thank, good morning Nick. I'd like to ask about follow-up in the balance sheet. You have paid down almost all your debt at least on a net debt basis. Buying back more stock but you are still looking at it optimistically. I am wondering if you are sort of looking a little harder for acquisitions than maybe you had. But I am wondering also even more importantly if the pricing environment has gotten more favorable since the credit crunch?

Joe you correctly identified the fact that probably by the end of the year be at zero net debt or thereabouts. So we have a powerful balance sheet. We are always looking hard at acquisitions. This is a company that was built through acquisition. So we are always looking. Pricing, I don't know, pricing is such an individual thing; it depends on how badly somebody wants a business, who all is in there competing for it, and how it fits them. So I don't know whether pricing is better or worse. There have been a couple of prices announced in the marketplace that caused me catch my breath, but transactions I won't mention. But I think it's catch or miss. I don't know that there is a trend yet that I can identify.

If nothing would have happened would you be comfortable going relatively indefinitely with a net cash positive balance sheet or detailed pressure on sort of maximizing your... the opportunities from your balance sheet?

We are going to maximize opportunities over time, Joe. I don't feel any particular pressure I get a lot of questions, but that's okay, it's a rich problem they have, and I understand the need to deploy the capital and we in fact will overtime.

Okay. Thank you.

And the next question comes from the line of George Shapiro from Citigroup. Please proceed.

Hi Nick, just a follow up. Along the big growth in Combat, was the bulk of that growth in the quarter than from the MRAP program and then that would... I would think would be higher in the fourth quarter which is kind of what you are alluding to and having significantly higher growth in the fourth quarter.

Not true George. We grew across the product line... the tanks; the tank line might strike you as a strange one. But it is... was the second largest growth product in the quarter. Stryker... and between Stryker and the tank they were considerably larger than MRAP, but MRAP was obviously a plus. We had good increases in soldier protection systems namely Chameleon. Our munitions were up significantly even absent the effect of an... the acquisition of SNC. And Europe was up significantly and in Europe that's four products: Piranha, Pandur, the Eagle, and the Duro, slightly offset by some reduction in Leopard sales to the Spanish government. So it was pretty much across the product line. The largest item was MRAP, but not... it was just spare change between MRAP soldier protection systems, tanks and Strykers. So pretty strong all the way across the board.

Okay and when you said you would be way up in the forth quarter, I mean the fourth quarter is always a seasonally strong quarter with a European business.

Yes. And that will be a lot of European sales, but on the other hand the land systems will up... way up on units of delivery. Each one of the businesses is going to up significantly in volume and the volume growth be in the magnitude of $700 million over this quarter give or take a little bit.

Okay.

Binded between $650 million and $750 million. I can't be that fine because it's units of delivery. But if we said $700 million on an average I think we would be pretty close, couple that with reduced margins. And you have a pretty good handle on it.

And then you expect continued strong growth next year, I mean you are going to get closer to the 20% more growth next year?

George I don't know yet. We won't make a call on that until we have... after we got through our budget cycle. There are lot of moving parts right now, in the army, discussions with the congress in the supplemental. So I want to do what I have done in the past and that is get through our own budget cycle which will end by mid November, and then look for an opportunity to make a forecast for next year. Most of the time I have waited until the first quarter... I mean the fourth quarter's earning announcement, so mid January. But occasionally there will be an investor conference somewhere in the year and if that gives me the opportunity, I will do it then. But I think I couldn't give you a good forecast right now. We are going to have a good year next year in Combat Systems but the question is how good. And God I have been desperately wrong. I mean one year I predicted the 22% growth, we got 12 and next year I predicted 12, we got 20. So I see that this is not a good game to play until I have a little more information.

Well you always attributed that jumping around more to the European business than the North American business?

Yeah, but the North American business is obviously right now extremely dynamic. And there are programs moving around, a lot of issues out there, you got a eight striker brigade in some of the marks in the congress, is that going to happen or isn't it going happen, you have got some interesting plans. People discussing about strikers, you have got MRAP, you've got JLTV, you've got EFV. I have got a lot of moving parts here and to predict how all that's going to come out without seeing this bill, come out of the congress, both the appropriation and the authorizers bill, I think is foolhardy, I don't think there's... I have ever seen a time when there has been more money in play, and the delta on some of these programs is pronounced, as it is this year and the supplemental opportunities, and risks. So I think this year its more North America than Europe. Europe for next year is reasonably predictable because they have a very, very handsome backlog and are working now to deliver in Portugal and Czechoslovakia, Spain, so very good situation Europe, that's piece that I could predict continued growth on but North America is up in the air.

Okay, thanks very much Nick.

And the next question comes from the line of Ronald Epstein from Merrill Lynch. Please proceed

Hey, good morning Nick.

Good morning Ronald.

Going back to aerospace just for a minute, what percentage of the activity this last quarter was international?

Let's talk about orders first is that best way I think to measure the demand in the... 53% of our orders for outside of North America, 47% in year-to-date, 51% of the orders are what you call international, not from North America, and 49% North America. So increasing the trend to more of a north... export order book. On a delivery side, the numbers look just about flipped. We're still delivering 53%, 54% of our product into North America.

Okay, and just if you could... I don't know if you have a feel for this or not, but how sustainable a trend do you think that is going to be?

I really don't know the answer to that, these are obviously emerging markets, they're taking advantage of strong economies and growth in the economies in certain countries taking advantage of a rather handsome exchange rate. I can tell you however we think and not of these markets that we are moving out very fast to strengthen our support in these areas for our customers though this is a double blessing in some ways. Our service business is increasing to match the sale activity. Our service business this year is going to have a very, very handsome increase in revenue and margin. It's getting to be a business well north of $600 million for this year, and I expect continued growth next year.

Great, thank you.

Our next question comes from the line of David Gremmels from Thomas Weisel Partners. Please proceed.

Yes, thanks good morning. On IS&T, it does seem like the revenue recoveries have been delayed a bit from what we are originally expecting and I am wondering if that is to any extent high to what you have been talking about in terms of the dynamic budget environment, is IT funding being diverted to support war fighting and is there any risk with the delayed passage of the budget that that could hit some of the IT services businesses?

I don't know. I think this is a very large business now. It's over $10 billion. It has experienced very rapid growth till we got to this year. Things don't grow rapidly and definitely and they pick up again as I would say that the current emphasis on spending and the priority is given to those things that can be introduced immediately for the war fighter. There are very current requirements. So we've seen some slowdown in some of the networking activity although recently picked up again and some of the IT services activity. But these things tend to be cyclical and I don't think it's anything we're particularly disturbed about. But the positive indicators are the order book and activity, the program activity, the negative I would say is the rated which funds are being released to support those programs.

Thanks, and if I could just squeeze a Gulfstream question in as well. Orders obviously have stayed very strong in the third quarter but I am wondering as we get deeper into Q4 and you are talking to customers, are you seeing any evidence at all of a slowdown given some of the broader market uncertainties that have been causing some worries lately?

Nothing on toward there David. We continue to take contracts in the fourth quarter. And LOIs, we expect we will have a very good quarter from an order perspective in the fourth, that is it will be in my view equal to or exceed our billing rates, the book to bill will be one or slightly better. And I've said for a long time we could do with a little easing of demand here. It is far outstripping our capacity to service it in an efficient way. For example, a 550 customer... a new 550 customer that would enter into serious discussions today, would be looking at the second or third quarter of 2011 for entry into service of their aircraft. And a 450 buyer would be looking at the third quarter of 2010. Those are relatively extended times for delivery of new aircraft to a new customer. I would expect that alone to temper some of the order rate, but we continue to do very well, the pipeline remains strong. So I don't have yet any indication of what you were asking me.

And last one, you commented on your large cabin production plans, wondering if you'd be willing to share your plan for the mid-size jets?

Yes that's a little more variable but I don't remember those off hand but let me take a look and see if I can tell you. I can't lay hands on it. But the production rates are going up on both.

Thanks very much.

Wait a minute, wait a minute; I might just have a piece of paper. Yes, we did 42 of the mid-sized a year ago, and we will do 61 more or less this year and 68 next year. So, if you want to think about it this way, think about going total, from 143 aircraft deliveries in 2007 to 156, about a 9% increase. But a greater portion of the increase is in the mid-size.

Thanks Nick.

And the next question comes from the line of Myles Walton from CIBC World Markets. Please proceed.

Thanks, good morning.

Good morning Myles.

A question for you, you brought up the spares and maintenance sales and you've mentioned year-to-date don't look quite strong, I am just wondering Nick could you put it in kind of buckets of what's driving that whether it's the service facility expansion, some coming of warranty, are you actually capturing greater percentage of your fleet?

I think that it's all of the above, except capturing a greater percentage of the fleet. It's hard to imagine that we could have a greater percentage, but what you have is more airplanes and service, more coming off of warranty that are still vital airplanes to the service. The expansion of our facility has been a great enabler. And our outreach out of the United States, of all of those things contribute to a rapidly growing service business and improving margins. So we are looking forward to continuing that.

And you mentioned that the profitability there improving, is it still between large cabin and mid-size in terms of gross margin profitability?

Within the service sector?

Yes.

I can't tell you that Myles, I don't know for sure.

Okay.

But I wouldn't think so.

Would it be higher or lower?

I would... I am guessing that it's the same.

Okay.

You are using the same labor rates and...

Myles its Ray Lewis. It can bounce around from quarter-to-quarter depending on mix considerably as I tell people sometimes that my dad was a car dealer and we've change oil for some under the low margin, so we get their transmission work when they were ready for that. And so it can move about but it's...

It would depend in a particular quarter whether you have any refurbs or high-margin opportunities and you get those on G200s just the way you do on 4s and 5s. But, I think on balance the service opportunity and margin opportunity for all the planes is similar.

Great, thanks.

And the next question comes from line of Cai Von Rumohr from Cowen and Company. Please proceed. Cai von Rumohr - Cowen & Co. LLC: Yes, thanks an awful lot. Nick could you provide some color on kind of the tone demand... you said you expect book to bill to be greater than one, but where are you getting the better price hikes and is there any opportunity to kind of switch some folks out like some folks who may be over 550 near end, will kind of give that slot up and you can move a better price plane forward?

Cai not really. The backlog has had very little activity in it. That is I hear occasionally that some people have traded their spot to someone else, but that's not apparent to us, it's not clear that that's happened. But most of our... in fact all of our customers have just flung right in there. We've had very few cancellations in the year I think one that was one in the first quarter but we had none in the second or third. And so I don't know that I can make anything of all of that Cai. Cai von Rumohr - Cowen & Co. LLC: And could you comment a little bit on relative pricing, I think, out of MBAA folks got the impression that the larger long range planes were the ones that were... where the pricing was the strongest is that... can you, which of the models were...

I think we've enjoyed price improvement across our models and probably the one that's improved the most is unique right it's the 150 and it's gone from an introductory price to what is now probably a mature price. So in percentage terms it may have grown the most rapidly. But the 550 is enjoying a very, very strong price environment.

And Karma if we could take two more questions and then I think we'll be wrapping things up.

And our next question comes from the line of David Strauss from UBS. Please proceed.

Good morning Nick.

Good morning Dave.

Could you talk about the performance at the European Land Systems business. I think you've changed the management out there, you are talking about margins in the fourth quarter being low I know that business has lower the margin. But just how is that business performing relative to your expectations?

It's performing very well and still not at the level of our [indiscernible] American operations but we've made a significant improvement there and we've taken some charges as you know in earlier quarters on our commercial trading business. That's part of the reason that Combat Systems Group is only going to be say 20 basis points better than a year ago to the full year. But they've have made marked improvement quarter-over-quarter and the fourth quarter will be their strongest. And in the fourth quarter they will be our margin rate leader. So, they have come a long way for the year. For the full year they will have lowest margin rate of anybody in the group, but in the fourth quarter they will in fact be the margin rate leader if things play out the way we think they are going to play out. So we counting on them to do a big job in the fourth quarter.

Great that's great color. You kind of talked about what's in front of congress on the armor vehicle side as they kind of finalize the 08 budget. Could you talk about maybe from the ship building side? I know in conference they are looking at potentially accelerating multi-year procurement for Virginia class. What do you kind of see as the big issues in conference on the Navy side?

I don't know about from the Navy's perspective, I can tell you from my perspective.

Sure.

Submarine, submarine, submarine, submarine, one, two, three, four. That is the issue. We are also interested in T-AKEs and support of the DDG 1000. I suppose the LCS at some level is important to us. But our number one priority as I have been saying for four or five years now is to get the two submarines here and there's enough activity in front of all four committees, the authorizers in both the senate and the house and good language in the bills and the appropriators that I think, there is a fair opportunity that we are going to get the multi-year procurement and strong support for the Submarine. That is the key I think to the continued prosperity of the Marine group and growth again in growth in revenue and in margins overtime.

And just one last one is getting that potentially a year earlier than you might have thought, what impact might that have on the Marine business?

Well it will start to grow earlier. There will be advanced procurement much sooner and so you will have additional volume and additional margin opportunities. Much sooner it will be... it will fit into our planning... our current planning horizon and you will get a more robust plan out of us for Marine System growth for the next three, four years.

Okay, great. Thanks a lot Nick.

And the final question comes from the line of Robert Stallard from Banc of America. Please proceed.

Good afternoon.

Good afternoon.

Nick just a big picture question. Your Combat System division has clearly done well from the current military activities. If the U.S. forces were to start coming back from Iraq next year, what do you think the likely impact would be on General Dynamics?

I don't think that there will be a lot of impact. I just listened to Secretary of Defense, Gates, talk a week or two ago to the annual convention of the Association of the United States Army and their trade show, and he made about four points about the army budget. He said, first he expects persistent conflict around the world, as far as his eye can see. Second, he believes that the army was under-funded going into Iraq, and that that cannot continue as a mater of share of the budget. Third he said, the army and the Marine Corps must reset, and they can't reset for the past, they have to reset for the future. And he made a fourth point, yes... the fourth point was, it's very vital for the army and the Marine Corps to proceed with their modernization or transformation programs with a look towards the future. I think for all of those reasons, our Combat Systems business remains vital to the security of this country, and our aspirations as a world power. So I don't think that the end of the conflict of having negative economic impact on us. It will certainly change the mix of our work, but we have a lot of things going here in the near term.

Okay. And just to wrap things up, it was mentioned earlier you have got a very strong balance sheet at the moment. How has your pipeline for M&A changed over the last quarter?

People always talk about pipelines. That's a word that's sort of foreign to me. I think it's a word that probably has common parlance for venture capitalists where they work on a portfolio of transactions. I kind of take them one at a time. And look, there's activity out there... there's companies out there that want to be sold and we are always looking.

Okay. Thank you.

And I want to thank everyone for joining us today, I know you have other calls you need to listen to. So we want wrap this up. My name is Ray Lewis, I am Staff Vice President of Investors Relation. After a quick bite, I will take your question. If you'd like my number is 703- 876-3195 and a very able associate Amy Gilliland who also will be taking questions at 703-876-3748. And again thank you for being with us today and goodbye.

This concludes your presentation for today. Ladies and gentleman you may now disconnect. Have a wonderful week.