General Dynamics Corporation (GD) Q2 2011 Earnings Report, Transcript and Summary

Good day ladies and gentlemen, and welcome to the Second Quarter 2011 General Dynamics Earnings Conference Call. My name is Caris, and I will be your coordinator for today. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. And I would now like to turn the call over to your host for today, Ms. Amy Gilliland, staff Vice President of Investor Relations. Please proceed.

Thank you, Caris, and good morning, everyone. Welcome to the General Dynamics second quarter conference call. As always, any forward-looking statements made today represent our best estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10-K and 10-Q filings. And with that, I'd like to turn the call over to our Chairman and Chief Executive Officer, Jay Johnson.

Thank you, Amy, and good morning, everyone. General Dynamics performed well in the second quarter, delivering $7.9 billion in sales and $949 million in operating earnings. Sales and earnings improved from last quarter, with Combat Systems volumes leading the top line growth. Excellent performance across our 3 Defense groups in the quarter drove 12% company operating margins. Earnings per share totaled $1.79 on a fully diluted basis, $0.11 ahead of last year's second quarter and $0.15 ahead of last quarter. Second quarter free cash flow after capital expenditures was $658 million, nearly 100% of earnings from continuing operations. Year-to-date, free cash flow is $924 million, well ahead of last year. I expect this robust cash performance to continue in the second half. Regarding capital deployment, we took advantage of our healthy balance sheet and market conditions to repurchase 11.1 million shares of GD common stock this quarter. Through the first half, our EPS growth has been enhanced by the repurchase of 14.2 million shares. Subsequent to the quarter, we also took advantage of favorable market conditions to issue $1.5 billion in new debt. This issuance increased the average maturity of our debt, reduced our average coupon rate, covered $750 million of notes that matured 2 weeks ago and provided additional flexibility for future capital deployment. Orders this quarter were nearly $7.5 billion, $300 million more than last year's second quarter, due to particularly strong demand for our Aerospace products and services. Defense bookings were more modest than anticipated because of slower than expected award activity, following the delayed passage of the 2011 defense spending bill in late April. With that said, I anticipate healthier order activity across our Defense segments in the second half. At the end of the quarter, funded backlog was $44.3 billion up $400 million from the first quarter, while total backlog stood at $57.1 billion. Total estimated contract value, which includes opportunities to provide products and services under IDIQ contracts and options, was $78.3 billion. Now let me turn to the results and outlook for each of our groups. First, let's talk about Combat Systems. Combat Systems sales and earnings improved this quarter when compared with last quarter and the second quarter of last year. Sales totaled $2.1 billion, reflecting growing international vehicle volume, particularly foreign military sales of light armored vehicles and somewhat lower U.S. vehicle and engineering volume. Earnings were $299 million, resulting in 14.1% operating margins. This healthy operating margin reflects excellent performance across the group's portfolio of mature production programs. In addition, the group's profitability has been enhanced by ongoing continuous improvement and business optimization initiatives, aiming at ensuring that we remain a competitive, high-quality provider in a tightening market. These efforts were illustrated by several actions taken in the quarter, such as the decision to relocate our European Defense business headquarters to Spain by year-end and the consolidation and resizing of our Guns and Weapons businesses to align with anticipated demand. We also continued our focus on core businesses by divesting the successful but non-core detection business. Combat Systems' backlog totaled $10.8 billion at quarter end. Orders in some of Combat's businesses were somewhat lighter than anticipated this quarter, in part due to the impact of the sluggish contracting environment on our Ordinance and Weapons Systems businesses. Notable orders that were received included approximately $286 million for Hydra rockets, $124 million for MRAP upgrades and $62 million for Stryker Double-V hull engineering. In the second half, we expect additional U.S. awards for more Strykers, additional MRAP upgrades and a Ground Combat Vehicle development contract. We also expect international production contracts in the second half, including the Canadian LAV upgrade program, 2 awards for an FMS tank upgrade program and a possible launch customer for the newest upgrade to our PIRANHA family of vehicles. Additionally, requests for the next increments of 72 FMS LAVs and 125 Egyptian tank kits are now proceeding through the appropriate approval channels. In total, these international awards could add approximately $1.5 billion to backlog before year-end. Given year-to-date performance, current backlog and anticipated orders, Combat remains on track to achieve my guidance of around $9 billion in sales this year and a 14% operating margin. As we look to the future, the Combat Systems group will be both challenged by an uncertain market environment and bolstered by an array of opportunities. Domestically, our incumbency and unique experience in designing, producing and servicing combat-proven vehicles positions us well. For example, Stryker Double-V, which arrived in Afghanistan in early June, is already saving lives, and the Double-V hull itself is quickly becoming a survivability requirement for all armored vehicles. We will continue to leverage our investment in Double-V in order to offer more survivable, lower-cost solutions for future combat and tactical vehicle fleets. The Abrams tank offers similar potential for further adaptation and modernization. We are encouraged by the strong congressional support we have received thus far in the 2012 budget process. This support will help ensure that the U.S. maintains a healthy and reliable tank industrial base. International vehicle markets and the growth that we expect to arise from several indigenous and foreign military export programs are key to providing relative stability in Combat's outlook over the next several years. We have a $2 billion, multiyear FMS LAV program already in backlog, which helps to mitigate some softening in the U.S. vehicle program sales. In addition, the Canadian LAV upgrade program and FMS tank upgrade program and the expected Spanish 8x8 LAV program will help to further offset pressure in our U.S. vehicle market. In summary, Combat Systems is performing well and continues to build on the success of our franchise programs. As we begin to look into 2012 and even 2013, we certainly have some work to do. But with that said, I remain confident in our ability to provide best-in-class vehicles and weapon systems to U.S. and international customers at affordable prices for years to come. Next, Marine Systems. Marine Systems delivered a solid quarter. Sales in the quarter were down modestly, while earnings were consistent with the prior-year period at $1.6 billion and $161 million respectively. Marine sales reflect lower Destroyer, commercial shipping and T-AKE volume, partially offset by higher submarine, mobile landing platform and repair volume. The lower Destroyer volume is really a timing issue as we fully expect several Destroyer awards in the second half. Margins in the quarter were steady at 10.2%, driven primarily by improved performance on the T-AKE program. The group's funded backlog totaled $9.2 billion at the end of the second quarter, up $1.1 billion from the end of last quarter. This increase reflects funding for the second FY '11 Virginia-class submarine, several NASSCO repair contracts, additional funding for the DDG 1000 program and an $800 million award for construction of the first 2 MLP ships and long lead material funding for the third. We were very pleased to add these 2 MLPs into our backlog and look forward to another successful program. Total backlog at the end of the quarter was $18.4 billion, down modestly from last quarter. We now have an agreement with the Navy on DDG's 1001 and 1002, the second and third ships in the class, and expect a contract to follow shortly. Additionally, we are preparing a bid for the Navy's DDG 51 restart Destroyers, and anticipate an award announcement late in the third quarter or perhaps early in the fourth. We also continue to see the need for replacing aging Jones Act commercial ships, but that has yet to translate into orders at NASSCO. For the remainder of the year, group sales will grow progressively due to continued growth on the Virginia and SSBNX programs and incremental Destroyer volume once we're able to add these ships to backlog. Overall, 2011 sales should be similar to last year, consistent with my prior guidance. Given the group's performance through the first half, Marine margins for the year should be in the high 9% range, better than my earlier guidance. The group's excellent track record of taking cost out of this business and its continued dedication to process improvement, positioned it to remain a leader in designing and constructing the most affordable, reliable ships moving forward. Now to IS&T. Our IS&T group had a good second quarter. Sales were $2.8 billion, while earnings were nearly $300 million. The group's IT service business realized growth throughout the first half, primarily attributable to large IT infrastructure support projects in the DC area, such as the DoD's Mark Center, Walter Reed National Military Medical Center and the relocation of the National Geospatial-Intelligence Agency headquarters. IS&T's Tactical Communications business did experience lower volume, particularly in its Shorter Cycle Product business, which includes encryption, mobile and ruggedized computing products. This lighter-than-anticipated volume is primarily a timing issue, the result of both prolonged acquisition cycles and the aftermath of the continuing resolution. We anticipate volume to increase materially in the second half. IS&T operating margins were 10.7% in the second quarter, 20 basis points better than last year's second quarter and 90 basis points improved from the last quarter. This margin improvement is a direct reflection of the group's ongoing response to top line pressures. In reaction to the new reality of slowed acquisition cycles and less predictable customer award activity, our IS&T businesses are taking prompt action to ensure they remain competitive, including consolidating and adjusting staffing levels across the portfolio. The group's backlog totaled $9.6 billion at the quarter-end, consistent with the prior quarter as book to bill was very nearly 1x. Our IT Service business enjoyed its best order quarter in almost 3 years and helped offset the more sluggish award tempo in our Product and System Integration businesses. IS&T's opportunity pipeline is very robust, and we anticipate full year book to bill to be at or very near 1x. Even with some of the award sluggishness just mentioned, the Tactical Communications business has recently secured several notable contracts. In the United Kingdom, we received a $174 million Bowman support and enhancement contract, critical to maintaining and evolving this franchise product for the British Army. Similarly, following a key Pentagon milestone decision, we were awarded a contract for 6,250 JTRS HMS Rifleman radios and 100 Manpack radios. Our HMS products continue to perform well in testing to include success in a recent Army network integration exercise for the handheld and Manpack variants demonstrated their ability to provide transformational networking capability. The group's IT Service business was also selected from several multiyear IDIQ contracts in the second quarter, including an award to build the IT backbone for the new Department of Homeland Security headquarters. These awards drove a nearly $600 million improvement in the group's potential contract value. In the second quarter, we announced the acquisition of Fortress Technologies, a provider of secure, wireless networking equipment for the U.S. Military and other government customers. Fortress' product portfolio provides secure, Wi-Fi hotspots for battlefield logistics, convoy and command post users that do not currently enjoy this capability. We also recently announced the acquisition of Network Connectivity Solutions, a provider of enterprise services, cloud computing, and cyber information assurance solutions to the Department of Defense. IS&T's volume in the second half will exceed both last year's second half and this year's first half. For the full year, I expect group sales to be flat to modestly up from last year, a revised outlook that reflects the realities of contract award activity in the first half. Margins will be in the mid-10% range, somewhat higher than my previous guidance. Looking ahead, IS&T's highly diverse portfolio positions the group to leverage its prudent capabilities to capture new business in fast-growing market segments. Now let's move to our Aerospace segment. The Aerospace group's second quarter sales were $1.38 billion, consistent with the year-ago quarter and up modestly from last quarter. Earnings totaled $209 million, resulting in a 15.2% group operating margins. The group's operating margins are down through the first half when compared with last year's period, primarily because of the timing of R&D spending and supplier payments at Gulfstream and to performance challenges at Jet Aviation. Even with the impact of R&D expenditure timing, Gulfstream margins remain robust, and the business is performing extremely well. In my last quarterly earnings remarks, I noted the problems that Jet is confronting in its Completions business. Specifically, I highlighted that as a result of the economic downturn, Jet's OEM business jet completions volume deteriorated markedly. This loss of OEM volume is aggravated by less than optimal performance on several narrow-body, wide-body contracts. While underperformance is not related to the quality of the products delivered, it has impacted throughput and subsequent volume. Therefore, to better align jet completions to the realities of today's market, we are restructuring the business, eliminating overhead and transforming the management team. We will see continuing improvement in Jet's Completion business as the year progresses. Jet service operations continued to do well, especially the FBO business, as flying hours increased globally. I have great confidence that new management at Jet Aviation and healthy demand for its completions, MRO, FBO and management services will help to ensure improved performance moving forward. Broader Aerospace market indicators were generally positive again this quarter, when in fact, second quarter Gulfstream orders were the largest we've seen since the economic downturn began. When combined with low customer defaults, this strong order book drove a $428 million increase in the group's backlog in the second quarter. At $18 billion, including an 18 to 24-month delivery window for our in-service large cabin aircraft, our backlog is solid and sustaining. For the year, large and mid-cabin in-production green deliveries remain on track at 80 and 15 to 20 respectively. Orders through the first half reflect the reality of today's market environment. Customer appetite for large cabin aircraft remains very healthy, while mid-cabin demand continues but at lower levels. International customers represented over 70% of our order book in the first half, with Asia Pacific customers accounting for 50%. When compared with the first half of last year, Asia Pacific orders have more than doubled their share of the order book. We were also particularly pleased to see a doubling of North American customer orders from the first to second quarter. It's good to see our domestic markets slowly coming back, particularly given recent political rhetoric, which is very harmful to our industry. Gulfstream flying hours continued to improve and have now returned to prerecession levels. This has driven additional growth in our Aircraft Services businesses, which enjoyed another quarter of record-setting service demand. Year-to-date, the group service sales are up almost 20%, with both Gulfstream and Jet Aviation delivering double-digit growth. We're working diligently to ensure that our service network remains well positioned to serve our customers and a growing installed global fleet. In pursuit of this goal, we added 2 new European warehouses this quarter, enhanced our Air Products Support program and introduced new fast teams, able to deploy around the world to deal with customer maintenance needs. Market preowned aircraft levels continued to slowly decline. We had 2 aircraft in inventory at the beginning of this quarter, took 2 additional preowned aircraft in trade during the quarter and have sold all 4 at a modest profit. On the product development front, the G650 returned to flight in late May, and our 4 test aircraft are busily progressing toward certification. While the 2-month delay in flight testing introduced some additional risk into our plan certification schedule, we are pleased with the progress we made since returning to flight. We continue to believe that we can obtain our objective of delivering 10 to 12 green G650 aircraft this year. However, it is fair to assume that these deliveries will happen later in the year than previously planned. The G280, which was recently renamed, also continues to make progress towards certification, having achieved several critical milestones in the quarter to include obtaining engine certification. For the year, I expect the group's sales to grow approximately 14% to 15%, slightly below my prior guidance. Margins will be around 15%, somewhat lower than previously expected, given Jet Aviation's performance through the first half. As we look to the future, our current order book, healthy pipeline of potential customer orders and continued investments in new aircraft development bode well for the future of our Aerospace group. In summary, General Dynamics delivered a solid first half and is well positioned for success in the second half. I now expect earnings per share from continuing operations for the year to be $7.15 to $7.20, an increase from my prior guidance. This revised guidance reflects the changes to segment guidance I provided this morning. The sale of the Detection Systems business, additional interest expense resulting from our debt issuance and share repurchase through the first half. As is our practice, this guidance does not presume further deployment of capital, although our healthy balance sheet affords us great flexibility to do so. Before I turn the call over to the Hugh, I want to comment briefly on today's dynamic business environment, particularly as it relates to our Defense businesses. As we speak, talks on resolving the nation's debt challenges continue. Although it's not yet certain today how or when the debt ceiling is raised, it is clear that defense spending will play a role in helping to ease the country's economic challenges. The President's recently announced plan, for example, would cut national security spending by $700 billion over the next 10 to 12 years. The distribution of this reduction has not yet been detailed, although it is probable that the largest cuts will target budgets in the second half of the decade, rather than those in the nearer term. The Pentagon under the guidance of the new Secretary of Defense, is in the midst of a roles in mission study, which will identify an array of options for capturing savings commensurate with the President's plan. While we have no insight into the study it is apparent that senior leadership in the Pentagon intends to make sure that any cuts are made deliberately and with known strategy and capability consequences. Secretary [Leon] Panetta who most certainly understands the multiplicity of threats facing our nation has clearly expressed that he will not create a hollow force. The Secretary has also stated that while he understands the defense cuts are necessary, he does not believe that the country must choose between strong fiscal discipline and strong national security. As we continue to closely track the conclusions of this study, which will predominantly inform the fiscal year 2013 budget submission, the 2012 defense budget request is proceeding through the Congressional approval process. We have been pleased with the support our programs have received to-date While there are several steps remaining before the 2012 defense bill is enacted, I remain confident that GD's core programs will receive solid Congressional support. Furthermore, in the event that the 2012 Pentagon budget is funded through a continuing resolution, we remain relatively confident in our outlook, given the robust funding for our programs in the 2011 spending bill. General Dynamics is particularly well positioned to excel in this fast-changing, high-pressure environment. The platform incumbency that we've established, particularly with our Army and Navy customers, will afford us significant opportunities to evolve our defense products in a manner that both addresses emergent warfighter requirements and minimizes costs in the expanding global business jet market and continued investment in our product and service portfolio will help to ensure that our Aerospace segment is the company's growth engine for the next several years. We are taking appropriate actions across this corporation to ensure that we can continue to provide the most capable and affordable products to our customers as we enhance value to our shareholders. With that, I'll now ask Hugh Redd to touch on some additional financial details. Hugh?

Thank you, Jay, and good morning, everyone. I'd like to begin by following up on Jay's comment regarding the issuance of fixed rate notes subsequent to the quarter. As a result of the increased debt, we now project full-year interest to approximate $140 million, now that's up from our previous expectation of around $130 million. Also following the end of the quarter, we replaced our $975 million credit facility, which was set to expire in December of this year, and we replaced that with a $1 billion facility expiring on July of 2015. This, together with our facility that expires in July of 2013, maintains $2 billion in backup liquidity for our commercial paper program. Our next scheduled debt maturity is $1 billion of notes due in July -- excuse me, in May of 2013. With respect income taxes, our effective rate for the first half of the year was 30.8%, consistent with our expectations and with our current outlook for the full year of around 31%. With respect to pensions, as planned, we will make a voluntary contribution to the pension plans totaling $350 million mostly this quarter, this quarter meaning the third quarter of this year. Also, as Jay discussed, we divested the detection systems assets of our Combat Systems group during the quarter. That transaction resulted in a pretax gain of just under $40 million, which you see reported in other income on our income statement. After considering the tax impact of the transaction and adjusting for the second half earnings that were associated with these operations, the transaction has a net favorable impact of approximately $0.03 per share. And that's the impact for the full year. Finally, with the decision by the Supreme Court to remand the A-12 case to the Federal circuit and the Federal circuit's decision to remand the case to the Court of Federal Claims, we are anticipating a prolonged path to resolution. Accordingly, we accrued our estimate of the additional legal cost [indiscernible] with this revised outlook. And you see that reported in the discontinued operations net of taxes. With that, I'll turn the time back over to Amy for the Q&A.

Thanks, Hugh. As a quick reminder, we ask participants to ask only one question so that everyone has a chance to participate. If you have additional questions, please get back into the queue. Caris, could you please remind participants how to enter the queue?

[Operator Instructions] And your first question comes from the line of Robert Stallard with Royal Bank of Canada

Jay, you mentioned that the mid-cabin area is slightly improving for you. I was wondering if you could give us a feel of how much it's really recovered say sequentially or year-on-year and what your expectations might be for mid-cabin deliveries as we head into next year?

Well, look, we see continued activity in the mid-cabin as I highlighted, Rob. It's not -- it certainly doesn't compare with the large cabin activity, but it is -- I would categorize it as being fairly steady at this point. We're going to deliver 15 to 20 this year. I feel very confident in that. It's too early to call next year yet, but I like what we're seeing thus far. And it really is across all the models in our portfolio. I'm reading from other mid-cabin OEMs that they're seeing continued activity as well. So I think slowly but surely, we're getting ourselves back into that market. And as you know, it's not a large portion of Gulfstream, but we're encouraged by what we see across the markets there.

And as a quick follow-up on the Aircraft this is the third consecutive quarter of demand increase or backlog increase at Gulfstream. At what point do you think we can expect maybe production of the large cabin jets to head higher?

Is that part of the first question, Rob?

I was just saying that you've had 3 consecutive quarters of demand increases. But I was wondering at what point should we be expecting production of large cabin jets to increase.

Well, we keep ourselves, as you know, in the 18 to 24-month backlog, and that's kind of where we are now. We get on the long side of that, we can ramp it up an airplane or 2 and we're not afraid to do that. But for now, I kind of like where we are.

And your next question comes from the line of Michael Lewis with Lazard Capital Markets

Jay, I was wondering if you can expand a little bit more on the jet services restructuring, and more specifically when do you think the operation is right-sized.

We're in the process of doing the latter as we speak, Mike. But let me just say there are 2 pieces to this, okay? One in jet is the services business, which is doing quite well. I'll put that aside for this part of the discussion. The Completions business is challenged, as I've described this time and in previous conversation. And it really does come down to OEM volume cutbacks, which have caused us to have to reshape that business. And then the OEM -- sorry the narrow-body wide-body completions. I think the best way for me to describe that is to say that what happened to us at jet completions is that the volume in the front door overcame the throughput efficiency that we had on the deck plates, if you will. And so we brought them in the front door but couldn't get them out the back door in a timely enough manner. When they got out the back door, the quality, the product was fine, wonderful, actually, but it just -- you couldn't get them through the flow. We've taken very, very specific steps, and as I mentioned to reshape that business, to resize it we've put a lot of new talent in there to help those on the shop floor and we feel good about everything we're seeing. But as you would expect -- and, oh, by the way, while we're doing this, we wicked down, if you will, the volume coming in the front door which is, as I mentioned in my remarks, part of the issue with the rest of the year, okay? In terms of volume. That's a temporary condition that is being adjusted, in fact, as we speak to continue more volume in there, now that we're getting our processes and throughput efficiencies in the stride. That won't happen overnight. That will take the rest of the year. But one thing I am certain, as I mentioned in my remarks, with the leadership team we have in place, the management of that production facility over there, I'm very confident that 2012 is going to be a better year for us than 2011. We're just going to have to work our way through it

And your next question comes from the line of Troy Lahr with Stifel, Nicolaus Troy Lahr - Stifel, Nicolaus & Co., Inc.: I'm wondering if you can talk about the budget delays and maybe quantify how much that impacted the quarter, or maybe you could take a stab at that. And then do you see risks that some of the money actually doesn't get spent this year and you start seeing some revenue slip out into 2012.

I don't know that I can quantify it, Troy, but I mean, you heard in my remarks. We feel it particularly in IS&T, we particularly feel that in some of the short cycle pieces of Combat Systems, as I said, you're obligating 12 months worth of budget in 5 months. And contractually, that's really hard to do. So we're not the only ones that are saying this, obviously, but it's just the reality that we're dealing with. So things move to the right. Nothing's really falling off the table, but it's just going to take longer. Remember, in Combat in particular, we're ramping markedly in the second half. That's kind of always been the plan, but it's exacerbated somewhat by the CR delta that we're dealing with. IS&T, we're really pleased with the turn at 1x on book to bill or very close to it, and we project that for the year. So we'll gather stride here as we go, we are gathering stride as we go. But inevitably, we're going to push some of it to the right. We are seeing that.

And your next question comes from the line of Cai Von Rumohr with Cowen and Company

Jay, could you give us a little bit more color about the kind of the elements of profitability in the second quarter and the year at Aerospace? Specifically how much was the R&D and SG&A up sequentially, given we know the R&D was higher and presumably with the good orders, the commissions were higher and where was jet's profitability? Was it slack? What kind of level and what kind of ramp can we expect going forward? Are we going to be see more expenses in the second half, or is the profitability going to get better?

Gulfstream, as I said, Cai, it continues to do extremely well. I think that -- let's talk about the R&D for a second. Net R&D is up this quarter. That's really a function of not the R&D itself growing much at all. It's a function of the launch assistance being, for example, 1/3 of what it was last quarter. It's kind of timing. For the year, you know well we're kind of the 2% to 3% folks with our net R&D investment. We're still there. So it's a quarterly blip, if you will, against a year that's essentially a little bit higher, but not much higher than we normally see. Some of that has to do with 650, some of that has to do, in terms of our spend, some of it has to do with across the product portfolio. But the R&D expense is a little bit higher this quarter, no question about it. Jet. The profitability of Jet, as I indicated before, we were challenged, we're challenged right now. It's going to take, I would suggest, several quarters to work our way through this. But I'm encouraged by what I see and each quarter will be better than the one before it.

And your next question comes from the line of Robert Spingarn with Credit Suisse. Robert Spingarn - Crédit Suisse AG: Jay, I'd like to ask a strategic question on Marine and clearly understanding the uncertainty at hand here, perhaps this can leverage your vast naval experience. I'd like to talk about the ship plan long-term and where you see the pressure points. So for example can Virginia class and SSBN(X) crowd one another out, might they have to share funding? There has been talk that we can put ballistic missiles potentially on a Virginia class? Do you see pressure points on the carriers? How do you see this long-term? Because at some point, one would imagine that the ship plan is going to come under some pressure.

I don't disagree with you at all, Rob, on the reality that the shipbuilding budget will come under some pressure. I would suggest maybe the term -- the numbers may be different, but the shipbuilding budget, historically, has always seemed -- my experience is that it always seems to come under some pressure. But that said, the things you talk about are very relevant in that. Look you've heard this from me before, we are a global Navy, we will always be a global Navy. To be a global Navy, thou shalt have large combatant vessels, okay? You need carrier strike groups, okay? You need submarines, both attack submarines and ballistic missile submarines. And you need surface combatants and all auxiliaries attendant to that force. That's not going to change, okay? How we shape it is the challenge. And you've heard me say again, in times past on the surface combatant side, the DDG 51 is going to be, I believe, the long-term mainstay for the surface combatant Navy, okay? There's a whole new flight of ballistic missile-capable 51s that will be coming in the next tranche. And we'll be building 51s, I believe, for quite some time to come. The points you make about the submarines is a very big part of the challenge I think for the Navy, and frankly for the country, in terms of dealing with the requirement for Virginia-class submarines to replace the Los Angeles class, as well as the Ohio replacement program for the SSBN(X) or whatever they're going to end up calling it. Will they compete against each other? My sense would be yes, they would. But we're going to have to figure out a way forward that accommodates both of them because the requirements are fairly well sacrosanct. There's a lot of talk, as you highlighted, about do we put another missile and modify the Virginia class? Look, I don't know. I don't know where that's going to go. But the strategic requirement for the ballistic missile submarine is inviolate, okay? It is the most survivable leg of the strategic triad. And nobody's talking about doing anything with that. It's a question of how you manifest the Ohio replacement program going forward. As you would expect, we're in the thick of that with our electric boat engineering and development efforts, and we'll help shape that outcome as we go forward. But that will be a very robust discussion. The carriers, my background keeps me interested in carriers, but my business doesn't deal with carriers at this point. So I'll let Mike Petters talk about the carriers.

And your next question comes from the line of David Strauss with UBS

Jay, following up on that a little bit at marine. Obviously the performance in the quarter was strong. You raised the margin guidance there. But can you talk about looking forward the outlook for Marine, particularly the trade of MLP or T-AKE leaving, going away and the trade for MLP? And then as a follow-up on share repurchase, obviously a much higher level than what we see in the past. Can you talk about the sustainability of repurchasing shares of this kind of level going forward?

Okay. Look, let me take them backwards. The share repurchases, you know that we're tactical share repurchasers. We've always done it that way. We'll continue to buy shares when the market tells us that it's appropriate to buy our shares. So whenever that's the case, we'll be in the market. I mean, we keep the authorization up and we're very, very pleased with the value we're creating with our share repurchase program, particularly when you look at us with the Aerospace growth engine that we've got and what's coming in the next 5 to 7 years, buying back our shares right now, we think is a really good move for our shareholders. That said, now let's talk about T-AKE and MLP. They're actually feathering together -- my words, not Fred Harris' words, they're feathering together very nicely out at NASSCO and will flow one right into the other to be followed by, I believe yet to be detailed, but followed by the TAOX program. So that part of NASSCO, the Navy build at NASSCO if you will, looks very positive for us going forward. The T-AKE performance is superb. You heard me say that, you see it in the numbers, I would suggest that the MLP performance will be likewise very, very, very strong because the design for that MLP is that it was as complete, is as complete as any ship we've ever built. So we know exactly what we're doing as we build that series of 3 vessels, and are very confident in our ability to generate really good margins out of it, okay? So don't forget also that we've got other volume impacts, if you will, out at NASSCO. One is the repair work, which is steady and actually increasing, which I think last year was like a quarter of their sales and earnings. That will continue, as I said. The commercial side is still out there. I mean if you look at the addressable market in Jones Act ships alone, nearly 100 ships. Sooner or later, that market is going to have to get serviced because the Jones Act ships are getting very old and they're going to have environmental, et cetera, challenges as you know, single-hull, double hull. We've talked about some of that before. We have not translated any of that into contract yet, but that market will come back. So we think NASSCO is in a great position right now, and as you know there are premier shipyards. So we're proud of what we're doing at T-AKE. Underway, I saw my first picture. I haven't been out there yet to see it, but I saw my first picture of MLP yesterday and it's real, okay? It's in the build, MLP 1 is very real. So we're anxious to get it in the water.

And your next question comes from the line of Howard Rubel with Jefferies. Howard Rubel - Jefferies & Company, Inc.: Jay, could you talk a little bit about the 650 and sort of the changes that have been brought about as a result of the accident and where you go from here? I know you sort of said it'll be a little tight to get the year done, but how is the airplane performing? And I mean, some of the other things that I'm sure you had questions that you've not heretofore been able to answer.

Well, listen, I'm very pleased with what's happening with 650 as I said in my remarks. I mean, we're back in the air, we're flying our test points and proceeding towards certification. Yes, it's going to be later in the year. I'm not aware, Howard, I'm not aware of anything material, shall we say, or significant that's been changed or that we're doing to the airplane that would cause certainly a need to be concerned about it. It's performing beautifully. So off we go. I still, as reflected in the guidance that I delivered today, I still am really confident that we're going to get 10 to 12 green deliveries this year. And so I'm still on the 650 bullishness if you will. The backlog in 650 continues to increase, okay? We're taking orders for 650, so it's still a great program for us.

And your next question comes from the line of Sam Pearlstein with Wells Fargo

Jay, you mentioned, I guess, in Combat Systems about relocating the headquarters and resizing the Gun and Weapons Systems. And then also in Jet, talking about the restructuring and reduction overhead. Can you just talk about what kind of costs you might be absorbing in both of those businesses for those restructuring, either whether it was in the second quarter or just prospectively? And then I guess within Gun and Weapons, is that also potentially an allowable cost as well?

I'm not going to quantify any cost. I mean, these are good business leaders that are running their businesses to become more efficient, given the realities of the world. I mean the savings and the macro terms are probably de minimis. But it's important for them to maintain their competitiveness and efficiency, and that's exactly what they're doing. It made sense for us to move the headquarters of our European Land Systems out of Vienna into Madrid. Why? Because European Land Systems' core of business is resident in Spain. It's things like that, that just make good business sense. More opportunities will come to us with the Spanish headquarters for ELS than was the case previously. So it's the charge I give to the business leaders. It's a charge I give to the business leaders to run their businesses to be more competitive and efficient that will continue. There are others I didn't even talk about this morning in IS&T and other places where we've resized some of the businesses to maintain our competitiveness.

And your next question comes from the line of Heidi Wood with Morgan Stanley.

Yes, Jay, on the G650, a question in a different way, can you talk about how the production is going on the plane? And I'd like to get some thinking about how you plan to make rate decisions. Is it going to be based on milestones or is it going to be calendar? Are you waiting to see the number of planes built before you make a right decision?

No, I mean -- the rate decisions -- we have given you the rates that I see for the next several years are really going to be determined by how our -- as I use the words, how our battle rhythm develops down in the production facility at Gulfstream, how the vendors and the supply chain feed into that production center that you've seen down there. That's really going to determine, I think, the pace. As we've talked many times in the past, when you've got over 200 in backlogs, the desire to increase the rheostat of production is a very real one, but you don't want to do it before you're ready. So I'm very comfortable with the pacing we've got right now, but the production is going just fine. There's no -- we're moving along, we're building airplanes, it's full. The production facility has lots of G650s in there right now. We'll go see them next week, as a matter-of-fact. So I'm very encouraged by what I see down there. But again, we're going to pace the production to our ability to deliver what we say we're going to deliver

And your next question comes from Joe Nadol with JPMorgan. Joseph Nadol - JP Morgan Chase & Co: Jay, on the 650, is it still operating or flying under a restricted envelope or has that been lifted? And as we look at the margins for the business, your guidance implies 14% in the second half of the year, and I know the problem's at Jet, but you said that's going to improve every quarter. And so, what else is going on there? Why are the margins down on the second half? Are you lowering your expectations for 650 margins?

No, Joe, the 650 -- I'm still where I was in probably our earlier discussions on 650. That's going to hit with margins that are accretive to the group, but not certainly what we see in our in-production large cabin aircraft. And we'll work our way over time through the latter of those 2. So I'm fine there. What it really boils down to, to your specific point on the second half, is Jet still -- okay, and I mentioned earlier, it's going to take us several quarters to work through this. But it's also at Gulfstream side, a little bit of mix, okay? More I said we're going to do 15 to 20 on the mid-cabin. And I think the number we had in the first half was 7. So we're going to have a little mix shift there. And I think in the second half, we've also got perhaps a little bit more 450 than we had in the first half. So you're going to see some of that less liquidated damages and a little bit higher as I said before R&D expense in the second half. But overall, the Gulfstream side is very strong with the elements I just mentioned. And we're going to work our way through Jet, okay. Now to your other point, about the restricted envelope, I believe that is still the case. But it is certainly not affecting our ability to proceed along our test path if you will, and at the appropriate point if they need to adjust, I'm sure between Gulfstream and the FAA, they'll adjust. But for now, we're proceeding apace and I like everything I'm hearing about our 650 test program. And I mentioned it in my remarks as well, but I thought that since you asked about 650, I would also suggest that the 280 side is proceeding very nicely toward certification as well. That's a sweet airplane, as I've talked before.

And your next question comes from the line of Noah Poponak with Goldman Sachs.

Jay, I was wondering if we could get you to reset your -- or give us the latest sort of medium- to long-term kind of 3- to 4-year outlook for Combat. And I feel like there was a period where you all were describing combat as a steady, low single-digit grower over the medium- to long-term. And it is unclear that you still feel that way. Is that the case and can you just update us there?

I think the way I'd characterize it was suggested in my remarks, Noah, that it's a very dynamic environment. And I think I certainly am confident in what I see this year as I reaffirmed this morning. I've got a pretty good sight line, I think, based on what went in and what next year's going to look like. But then I think we need to see a couple of things. One, we need to see what our customer, our army customer does with their combat vehicle review that's ongoing and should come out before too much longer, which will inform us. And so their views of basically all the major platforms. And then I think we all, all of us, need to look at what happens with what's going on right now in terms of the debt ceiling and all appended to that. And very specifically, as it applies to the Defense businesses, the roles and mission study that's underway. And I think that will be the best source of look-ahead knowledge if you will beyond say the year 2012. I mean, I just think anybody who said they've got a clear sight line on 2013 and beyond I think is making it up.

And the next question comes from the line of Myles Walton with Deutsche Bank.

Jay, I was hoping you could help me out with the IS&T margin performance. I think you said the IT business was actually up and growing, the C4 is where you're seeing the top line pressure. And I'm just trying to understand, obviously a good performance on the margin side given what I would expect would be an otherwise adverse mix. So have IT margins really structurally gotten better or is there anything in the quarter? And then a clarification on repo. I think you authorized another 10 million shares in the quarter. But it seems like you exhausted that. Just curious, is this going to become more of a flow authorization of share repurchase than anything else?

We have not gone through our authorization. That's just a fact. I mean, we've got more repo we could do if the market talks to us appropriately. But as your IT margins, they, like everyone else, are very aggressively taking costs out of their business and reshaping and performing extremely well. And I give that the most credit, that We're very competitive and we're very good at what we do across that very diverse portfolio. So all elements of our IS&T business are performing very well right now. So I mean, they're mature programs, Tactical Communications, good execution in IT service, bringing home some big contracts and outperforming those contracts. I'm very pleased with what we've seen in IS&T. Very bullish on the whole group.

I want to thank everyone for joining the call today. If you have additional questions, I can be reached at (703) 876-3748. Have a great day.

Ladies and gentlemen, that concludes today's presentation. Thank you for your participation. You may now disconnect. Have a wonderful day.