General Dynamics Corporation (GD) Q2 2015 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Quarter Two 2015 General Dynamics Earnings Conference Call. My name is Matthew and I will be your operator for today. At this time, all participants are in listen-only mode. We will conduct a question-and-answer session toward the end of this conference. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. And now, I would like to turn the call over to Ms. Erin Linnihan, Vice President of Investor Relations. Please proceed, ma’am.

Thank you, Matthew and good morning everyone. Welcome to the General Dynamics second quarter conference call. As always, any forward-looking statements made today represent our 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. With that, I would like to turn the call over to our Chairman and Chief Executive Officer, Phebe Novakovic.

Thank you, Erin and good morning. Well, as you may have observed from our press release, we enjoyed a particularly strong second quarter, with revenue of $7.88 billion and net earnings of $752 million. We reported EPS of $2.27 per diluted share, $0.39 ahead of earnings from continuing operations in the year ago quarter. We were also $0.21 per share better than consensus. Revenue of $7.88 billion is $408 million higher than the year ago quarter. That represents year-over-year revenue growth of 5.5%. Earnings from continuing operations of $752 million is $106 million higher on the strength of 13.7% operating margins, a 100 basis point improvement over the year ago quarter. I should note that our earnings include a modest gain on the sale of our commercial cyber products business in the IS&T segment. Excluding that gain, operating margin would be 13.4% and EPS would be $2.22 still substantially better than all comparative quarters and consensus. Sequentially, revenue was up $98 million, or 1.3%, and net earnings are up $36 million on a 50 basis point improvement in operating margins. Let me turn briefly to the first half of 2015 and compare it to the first half of 2014. Revenue was up 6.3%. Operating earnings at $2.11 billion are up 15.6%. Net earnings from continuing operations are up over 18%. In short, we are off to a very good start, well ahead of our internal plan and ahead of external expectations. That leads quite naturally to the guidance increase reflected in the press release. I will provide some additional color on that guidance shortly. Let me give you some perspective on the segment reporting for the quarter and then the half and then I will conclude with some comments on the outlook for each segment for the remainder of the year and tie that into our EPS guidance. First, Aerospace, Aerospace had a good quarter with revenue of $2.3 billion, $263 million higher than the year ago quarter and a $55 million improvement in operating earnings. Jet Aviation once again made a strong contribution with double-digit operating margins. For the first half of 2015 compared to the first half of last year, Aerospace revenue was up $246 million or 6%, operating earnings are up $82 million or 10.4% on the strength of an 80 basis point improvement in operating margins. Let me spend a moment on the business aviation marketplace. There has been much speculation about it in a lot of what I would call Rumor Intelligence, or RUMINT. From an order perspective, Gulfstream enjoyed its best discrete second quarter since the second quarter of 2008. The end result is an approximate $1 billion increase in the Aerospace group funded backlog, with Gulfstream as the primary reason. The U.S. economy remains strong particularly compared to others in the world. So, it should be no surprise that North America dominated the order book in the quarter. The sales pipeline remained steady across all models. We have seen no decline in the level of interest and a particularly encouraging return of S&P 500 companies as they seek to replenish aging fleets. I should add that the first flight of the G500 occurred in the quarter and the test program is proceeding on schedule. Next, Combat Systems, Combat had a great quarter. Revenue is $1.41 billion, $57 million less than the second quarter last year. However, a 110 basis point improvement in operating margins to 16.1% resulted in a modest increase in operating earnings over the year ago quarter, all-in-all, a very strong performance. For the first half, revenue increased 1.8% against the first half of 2014. Operating earnings are up $71 million or 19.8%, resulting in 230 basis point margin expansion against the first half of last year, pretty impressive. Marine Group revenue of $2 billion is higher than second quarter 2014 by $150 million or 8.1%. Operating earnings are up $13 million or 7.5% against the year ago quarter. Revenue was up nicely on a sequential basis and operating earnings are constant on a 40 basis point reduction in margins. For the first half, Marine Group revenue of $3.94 billion is up $492 million against the first half of 2014. This is a very strong 14.3% growth. Operating earnings are up $35 million, 10.3% on slightly lower margins. Margins were still a very respectable 9.5% for the first half. Marine Systems has been a compelling story for us and will continue to be so. We have a little work to do, however, on margins in the second half. You may recall that IS&T is a place where we expected a 5.5% contraction in revenue for the year. Well, fortunately, we are doing materially better than that. Revenue of $2.2 billion is up $52 million or 2.4% against 2014 second quarter. But the real story is operating earnings. They are up $449 million on a 200 basis point improvement operating margins against the year ago quarter. As I previously noted, the sale of our cyber products business provided some profit in the quarter. On a normalized basis, without that gain, margins would have been 9.7%, an increase of 100 basis points over the year ago quarter. The story for the first half is much the same. Revenue is up $141 million or 3.2% and operating earnings are up $83 million over 22% on a 160 basis point improvement. Once again, on a normalized basis, operating margins would have been 9.4%, a 110 basis point improvement over the first half of 2014. This is a very good news story and as you are going to hear in a moment, it will continue. So, let me provide some guidance for the year for each segment, compare this guidance to what we told you in January and then wrap it up into our EPS guidance. For Aerospace, our guidance to you in January was to expect revenue of approximately $9.4 billion and operating margins around 18%. We now believe revenue will be off by about $250 million to $300 million. On the other hand, margins are expected to be about 18.5% for the year, resulting in about the same as anticipated operating earnings. The 18.5% margin guidance for the year implies some pressure on margins in the second half due largely to mix shift, increased R&D spending, building airplanes for use in the test program, and a planned reduction in production at Jet Aviation Basel. To that point, we are performing the engineering work at Basel necessary to induct a full complement of airplanes into production in the first quarter next year. For Combat Systems, our previous guidance was to expect revenue similar to 2014 or about $5.7 billion with margins around 15%. We continue to expect revenue consistent with prior guidance. Margins, however, will be in the 40 to 50 basis point higher range resulting in higher-than-predicted operating earnings for the year. In Marine Systems, we previously guided to revenue growth of 2.5% or approximately $7.5 billion and a margin rate in the 9.5% range. We now expect revenue of approximately $7.8 billion, which translates to growth of 6.7% against last year. Margin rates will be about 10 basis points better than previously forecast. The higher revenue and somewhat better margins will once again result in higher operating earnings and earlier forecast. By the way, the operating margin result will be driven by a double-digit fourth quarter. For IS&T, we previously guided to a revenue decline of 5.5% or about $8.7 billion of revenue and a margin rate around 9%. It now appears that revenue will be between $9 billion to $9.1 billion and the margin rate should be about 70 basis points better than guidance. Once again, this will result in higher than previously expected operating earnings for the year. In summary all of this rolls into revenue for the year of $31.7 billion to $31.8 billion, an operating margin around 13% and a return on sales from continuing operations slightly in excess of 9%. So higher than previously anticipated operating earnings, a modestly lower tax rate and a lower share count permit us to increase our EPS guidance for continuing operations to be between $8.70 to $8.80. The progression through the remainder of the year is that we will see a third quarter just weaker than the second and a fourth quarter that looks very much like the second quarter. I would like to now turn the call over to our CFO, Jason Aiken.

Thank you, Phebe and good morning. I have got just a couple of quick financial items to go over before we start the question-and-answer period. First, I will follow-up on a point we addressed in last quarter’s call and that’s impact we are seeing from foreign currency exchange rate fluctuations. When you compare our second quarter results to the year ago period, our 2015 revenues and operating earnings would have been higher by $130 million and $20 million respectively, at the exchange rates that prevailed in the second quarter of 2014 remained in effect this year. Combined with the first quarter results, our revenues and operating earnings were reduced by $250 million and $40 million so far this year as a result of the strengthening of the dollar. Stated another way, absent the headwind from the translation of our international business in the U.S. dollars, our revenue growth in the first half would have been 8%. Moving down the income statement, our net interest expense in the quarter was $20 million versus $24 million in the second quarter of 2014. The decline was driven largely by the repayment of $500 million of debt in January. For 2015, we expect interest expense to be approximately $85 million. At the end of the quarter, our balance sheet reflects a net cash position and that’s cash in excess of debt of $690 million. This is down by almost $400 million from the prior quarter due to our capital deployment activities, which I will address in just a minute. Our effective tax rate was 29.1% for the quarter, slightly lower than expected as we continue to see the benefit of higher international earnings. For the full year, we expect an effective tax rate in the low 29% range. We continue to expect cash contributions to our pension plans for 2015 to be $185 million, and most of that funding is expected to occur in the third quarter. A quick point of color on the cash flow statement is included in our release. One item you will note is cash proceeds from asset sales in the first half of just shy of $260 million. We have mentioned from time-to-time some of the small scaled portfolio shaping we have been doing and that’s what you see there. So that’s primarily the divestitures of our commercial cyber business, which Phebe mentioned just a few minutes ago and AxleTech, which closed earlier in the year. And on the subject of share repurchases. In the quarter, we purchased slightly less than 7.5 million shares for just over $1 billion. We have purchased a little more than 12 million shares in the first half for just shy of $1.7 billion. And in total, when combined with dividends paid, we returned approximately $1.2 billion in the quarter and $2 billion year-to-date, well ahead of our free cash flow for the first half. At the end of the second quarter, we have $4 billion of cash on the balance sheet and are well positioned to continue to execute our 2015 capital deployment strategy. Erin that concludes my remarks and I will turn the mic back over to for you for the Q&A.

Thanks Jason. 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. Matthew, could you please remind participants how to enter the queue?

Thanks, Erin. [Operator Instructions] And your first question comes from the line of Ronald Epstein of Bank of America Merrill Lynch. Please proceed.

Hi. Yes, good morning.

Good morning.

Good morning.

Just maybe a quick question on the biz jet market, the way you characterized it, it sounds great, just – but other suppliers have said maybe not so, so my sense is are you guys picking up share, I mean you have a primary competitor who is kind of wounded out there right now and I am just curious if you are picking up share in the large jet market?

There has been an awful lot of discussion about reported weakness in that large-cabin market, but not from us. And it’s not automatic that the factors that are impacting others are impacting us. We really don’t think about share. The way we conduct our businesses is that we look at our order which was robust and our pipeline, which remained strong. So I am not in a position to comment what others are seeing, but we are continuing to see interest across all of our product lines.

Okay, great. And then if I can just a quick follow-on, something you didn’t talk about too much on your prepared remarks is how is it going on the Ohio class program now in the ship business and if you can give us an update on that and how the outlook for that looks?

So Ohio engineering and Virginia construction are really the two main drivers of increased revenue, which is not what you asked but it gives us a certain context. And let me give you some color. We are in the middle of the Ohio replacement design development program and it’s progressing on schedule. We are the prime and we are working on all of the ship arrangement systems, components, development, missile system compartment in order to support the start of the lead ship, which is in 2021. So we are doing very, very well by all indicators in our engineering design efforts.

Okay, great. Thank you very much.

Thank you for your question. Your next question comes from the line of David Strauss of UBS. Please proceed.

Good morning.

Good morning.

Phebe, during the quarter I guess last couple of quarters, we have seen some of your competitors make some moves in terms of M&A, Lockheed with Sikorsky and then Raytheon with Websense, can you talk about how you view M&A today and how you are thinking about capital deployment overall? Thanks.

So I see M&A today the way I have been seeing it. There is nothing that we are looking at now. Our capital deployment strategy is consistent with what we have been talking to you about. In the absence of accretive and good acquisition candidates in our space, we are going to continue to return cash in the form of dividends and share repurchases.

As a quick follow-up to the Gulfstream order activity in the quarter, could you give us any color in terms of by product line, what you saw maybe on the 650 and what the order activity looks like on the new products, the 500 and 600? Thanks.

So, we are not going to dissect for you the demand by product and by airplane, but let’s just – suffice it to say that we had good demand across our entire portfolio and that means our entire portfolio. And when we look at the pipeline, the interest that we see in the pipeline likewise translates to demand signal across our portfolio.

Matthew, can we take the next question please?

Thank you. Next question comes from the line of Robert Stallard of Royal Bank of Canada. Please go ahead.

Thanks very much. Good morning.

Good morning.

Phebe, just a point of clarification, did you cut your Aerospace revenue forecast by $350 million versus your previous guidance and if so what has changed that?

Look, we reduced I think between $250 million and $300 million. And there are an awful lot of moving parts in this business that as we get halfway through the year, we get some additional clarity. It’s really nothing more than across the whole line of our products and services, which is – this is really some moving around among quarters, between fiscal years. But the business is still growing. I don’t particularly see the reduction of the increase in estimates from 8% to 6% particularly its positive for any market factors. It’s simply the management of the business.

Is there particular models that have come off more than you originally anticipated, I know you don’t want to give a little detail on this, but is this generally what’s happened?

No, it’s just as we look – we have got a whole series of moving parts in that business, including building additional airplanes for the test program, mix in our service business and then the mix in any one particular quarter over the fiscal years of deliveries in large cabin and medium cabin. So, we are likely to see some medium cabin, about three or four of them moving to next year, but that’s largely a question of preference on the part of the customers. So, there is nothing material here. It’s simply an update as we get halfway through the year to give you just some more clarity of what we see.

Okay, that’s great. Thanks so much.

Thank you for your question. Your next question comes from the line of Sam Pearlstein of Wells Fargo. Please go ahead.

Good morning.

Good morning.

I wanted to go back on the Marine side, I mean, normally a fairly predictable business to go from 2% growth to 6% growth seems unusual. So, I am assuming its Ohio class. And then wouldn’t that cause kind of a negative margin shift rather than a 10 basis point increase? And I don’t know if you can highlight, you said they have a lot of work to do in the second half on the margin front. What needs to happen there?

Yes. So, it’s a couple of things that are driving – couple of programs that are driving our revenue. One is increased Virginia class construction. Ohio engineering revenue has increased quite a bit over last year, both of those. And then the commercial ship construction at NASSCO is increasing as our backlog of the ECO tankers and our construction cycles. So, those are the three factors that are increasing our outlook for the year. On margins, we just have some work to do across the portfolio. If you think about what the history has been on blocks of submarines. Block IV is still in its early stages. And so as we continue our reengineering efforts, we expect to realize some cost savings, which will improve performance and margins on Block IV. That’s going to be a longer term proposition. We historically, throughout that program, have recognized higher margins as we progress further into the construction. So, we see some long-term margin expansion opportunities there and we are seeing some – we are seeing very good performance at NASSCO on their ECO tanker construction and on the MLP for the Navy. And then we have got some margin compression at Bath Iron Works that we need to continue to work through on our DDG-1000 program. And I don’t expect that, but often typical of a new class of ships, particularly one that is as powerful and transformational warship as DDG-1000 is. So, we have got a little ways to go on that and we are working with our Navy customer on our vendors and their vendors to get that first ship into sea trials, so more to come.

Okay, thank you very much.

Thank you. Your next question comes from the line of Robert Spingarn of Credit Suisse. Please go ahead.

Good morning.

Good morning.

Phebe, I wondered if we could turn to IS&T or back to IS&T for a minute, talk about what’s driving the strength there? How you look at that business over time? And particularly, on the margins, how much of this is just – is volume driven versus cost reduction as we go forward?

There is an interesting correlation between volume increases and cost reduction. As you may recall, we have integrated two of our previous standalone businesses in IS&T and Creative Mission Systems and they had a particularly strong quarter across the board. So – and I am continuing to see good continued strength in those areas and I am particularly pleased with their margin improvement, which is driving the higher earnings and frankly allows them to increase their win rate. Their cost-cutting efforts have been exemplary and there is more to come in that business. On our service business, it’s steady year-over-year. And sequentially, they just need to work their margins hard, which is always their challenge in their highly competitive business. But all-in-all, IS&T is doing extremely well and I think will continue to do well. And again, our win rate is better, because our performance operationally is good and our costs are coming down and increasingly pace of which is increasing in cost-cutting, so very impressive.

Yes. And then just as a second question or follow-up, maybe for Jason, on the cash flow conversion for the year, how are you thinking about that relative to before especially now that the forecast is a bit higher from a performance standpoint?

I think our expectations for the full year are consistent with what we have said right from the beginning a weaker than – or softer than typical year. Our priority is always to pull cash forward. So, we had a pretty decent performance in the first half. I think we had close to 80% conversion rate free cash flow to net income, but we had predicted before and are still looking at a softer second half as we profile a lot of the supplier payments associated with the advances that we got on some large contracts last year and year before flowing out in the balance of the year. So, I think our expectations are essentially consistent with where we started in the year.

Okay, thank you.

Thank you for your question. Your next question comes from the line of Myles Walton of Deutsche Bank. Please go ahead.

Thanks. Good morning.

Hi.

Bonus points for using the word axiomatic, Phebe.

I am sure you didn’t have to look it up.

No, I am engineer. So the one question I have for you was on the backlog in bookings at Gulfstream, in particular. Some other manufacturers have seen the fleet buyers kind of come back and place orders. How much of the strength here is fleet buying? It sounds like it’s not, but I just want to confirm that. And also as it relates to your search for upward bias on the G650 rates, how comfortable are you with where the supply chain can take us?

So, let’s first define our terms. When we say fleet, what we mean is Fortune 500 companies coming back in and replenishing their entire fleet. And so not surprisingly, the preponderance of our backlog is in public and private companies and high net worth individuals. They comprise a majority of our backlog. I don’t track our – what you can call fractional owners, fractional buyers, but it’s not significant and I don’t really worry about it too much. It’s a very steady backlog when we look at it. We know these people in the backlog. They have been here before and a lot of strengths and consistency.

And then the supply chain for the 650?

Yes. So, the supply chain for the 650, we are thinking about feathering in the 650 over additional ones and two units over time and the supply chain can easily manage that. We have been in discussions with them. And we are not talking about massive changes in the production rate, but simply lot of these [indiscernible] the transition period.

Okay, thanks.

Thank you. Your next question comes from the line of Doug Harned of Bernstein. Please go ahead.

Good morning.

Hi, Doug.

Hi. I just wanted to follow-up on the 650 question, because as you have talked about potentially feathering in some earlier, what are you looking for as a trigger to make a decision to bring some 650s forward?

Well, when we look at our plan for the next couple of years and get some clarity around that, then we will have the ability to ramp up, again not in large order of magnitude numbers, but in ones that are easily manageable. So, that will be largely our planning process that we do in the fall and that will set the guidance that we will give you in the fourth quarter, first quarter of next year. So, there is no catalytic trigger, it’s more our internal planning.

But when you think about this also in terms of margins, you said recently that the margins had not, on the 650, quite reached the level of the 550. When you look at – how do you look at the margin trajectory now? And how does that tie into potential changes in rate?

So, the margin potential on the 650, I think we have got another year to 18 months before it eclipses the 550. So, I don’t really think about bringing forward 650s to boost our margins. I am thinking about bringing them forward to just smooth the entire business. And so there are less perturbations as we go through our transition, but we are – we have talked about this quite a bit, the margin performance on the 650 we haven’t seen how good we can get there.

Okay, great. Thank you.

Thank you for your question. Your next question comes from the line of Jason Gursky of Citi. Please go ahead.

Hi, good morning. It’s actually Jon Raviv on for Jason. A question about – I have question about Jet Aviation and the planned reduction at Basel later in the year, curious what’s driving that and what you are doing to manage that and to what extent that’s driving the lower Aerospace sales outlook?

That is a – think about it this way. We added significantly to the backlog of Jet Aviation with single aisle and double aisle airplane completions in the first half. So we need to and we are in the process of doing the engineering work, so that we can induct these airplanes in the first quarter and second quarter of next year into the production cycle. So this is a – when you have an inflow of order – orders and the completions on these airplanes require a fair amount of high level engineering on the front end, engineering and design. So to integrate that, get that engineering design done, so we’re ready to move into full rate production at a very efficient rate is I think judicious and was part of our plan all along. You need to do that in order to produce these things that – at a effective margin level and profitability. The Jet Aviation has some impact in the second quarter, if you would imagine, particularly given their double-digit contribution the last few quarters.

Alright. Thank you.

Thank you for your question. Your next question comes from the line of George Shapiro of Shapiro Research. Please go ahead.

Yes. Good morning.

Hi George.

Phebe if I look at the Aerospace margin for the six months, it’s 19.9. And I would venture for the second quarter if I took out maybe $75 million or $100 million of probably zero margin pre-owned sales, it would have been north of 20%. So what gets the margin down to 17.5% or so on average in the second half or even 17% to get you to average only 18.5% for the year?

George, for years I have enjoyed your complex questions that are built on a series of assumptions. Let me try to simplify this in the way that we think about it. In the first half, we had a number of factors that contributed to higher margins. One was a fairly significant settlement that we had with a supplier. The second was some R&D tax credit. And then going forward, we are going to increase our R&D spend. Jet Aviation is going to have significantly lower in the half earnings and margin rate as we just discussed. And we have got a whole lot of mix shift issued in the service and when airplanes come into green delivery and final delivery, so it’s awful lot of moving parts, did that help you?

Yes, that helped some. Just also is it fair to say that revenues in pre-owned were 75 to 100 in this quarter with probably zero profit contribution?

I don’t really follow that, but that would feel about right. But look, the way to think about this, there is nothing happening in the second half of this year that should cause concern to the underlying structure of the business. It’s simply a matter of different moving parts, it’s a mix in the business, the R&D spend as we build more airplanes into the test program, so I think the way to think about this specifically is there is no underlying systemic issue here, it’s just the normal puts and takes.

Okay, thanks very much.

Thank you. Your next question comes from the line of Cai Von Rumohr of Cowen and Company. Please go ahead.

Yes. Phebe terrific numbers.

Thank you, Cai.

So could you give us a little more sense of the low quarterly in Aerospace in the third, in the fourth quarter and maybe, you have two quarters here where you have beaten kind of the cautious guidance you have given us. And maybe the specific variances in the second quarter as to why in that quarter, you were so much better than you kind of indicated you might be? Thank you.

Well, we had a wholesome mix on the service side. Service revenue is up and the mix was very wholesome. And Jet Aviation had a terrific quarter. So all in all, that’s helped drive our – what you might think of this outperformance. But look, I think we have tried to talk over the last few years about the futility of attempting to get and predict precise quarterly margin rates at this business that has so many different moving parts different products, different service, mix as an issue, we have got Jet Aviation in there. So it’s – we are comfortable that we are directionally correct. Do we have, with exact precision, what third quarter margins are going to be, they are going to be less and they are going to be significantly less and a little bit better in the fourth quarter. So I think that’s reflecting – that slows down into the overall guidance that we gave you in terms of progression of EPS, which is a lighter third quarter compared to second and a fourth quarter that looks a lot like the second quarter and Gulfstream contributes to that.

That’s very helpful. And then on the order front, you have talked about the strength in the U.S. and Fortune 500 companies, you didn’t mention emerging markets, I guess there has been some talk of weakness in China, Russia, Latin America, could you talk about the foreign markets and are you seeing just overall in your Aerospace business, requests for push outs or deferrals or requests for accelerations of plants? Thanks so much.

Yes. So we have very carefully controlled and monitored our exposure to the emerging markets because of their great volatility. So we are cautious and I think you have seen that behavior in our dealing and in our interchange with emerging markets. We have some very good reliable customers in each of those markets, but they tend to be hyperbolic in their demand. They are in one quarter, out the next quarter. So there really hasn’t been much activity in the emerging market space for a number of quarters now. I would add that the Mid-East continues to be pretty wholesome for us. And – but the real powerhouse here is North America. And by the way, it’s nice not to have too much exposure to highly volatile markets. You can get yourself down in a boxed can in a big hurry.

Thank you very much.

Thank you. Your next question comes from the line of Howard Rubel of Jefferies. Please go ahead.

Thank you very much.

Hi, Howard.

Good morning, Phebe. When you became CEO, the agenda was relatively clear, set some standards and if we kind of look back for a moment, the numbers are pretty darn good today and so how do you – I mean we get the bar and the increase right now, but when we looked at sort of the numbers going forward, they are pretty darn good. So how do you raise the bar from here and what are sort of some of the agenda items, because in some cases, this year is well understood and it’s really the challenges beyond that?

So, let’s give a little bit of retrospective since this management team took over. In 2013, we were largely focused on improving our operations and retiring a considerable amount of risk that we found in the company. We did all of that, so 2014 and continuing into this year was about building that backlog, taking the lower-cost structure that we had invested in and the cost reductions that we have made, along with our strong operating discipline and increasing our backlog very significantly and that worked. And we are not done. You never can take your eye off of operations. Without solid operating performance, everything else becomes ephemeral. So we got to continue to focus on taking costs out, continuous improvement reengineering, efforts aren’t done. And we are – so we take those that low cost basis. And given the backlog, we are poised for growth this year, next year and through my current planning horizon. Our defense companies are growing. We have talked about the transition in Aerospace, but fundamentally, these defense companies across the board, they have the backlog in Combat and Marine and IS&T to continue to grow. So, now it’s about growing earnings, it’s about growing EPS based on increases in revenue and then it’s our productivity. So, I think they are going to see more of the same, focus on the core, blocking and tackling, might not be the sexiest thing, but boy it really makes all the difference in performance.

Well, I don’t think you are going to get too many complaints. You have talked about – or Jason talked about the strength of the dollar, but that’s a strength of your European operations, they now become lower costs on the international market and we did see recent order of I think it was out of Denmark. But could you talk for a moment about how that integration has worked? And what kind of aperture that has opened up in terms of opportunities both there and you do a little bit of IS&T also and how that’s being pulled through, please?

So, when we look ex-U.S. and ex-North America, our efforts in the UK and our European Land Systems have been exemplary and they really are the sort of the parable that describes what the journey the General Dynamics has been on. We take ELS, for example. We always knew that we were going to have to invest in that business, because when we purchased it, it had excess infrastructure. So, we made that investment and their cost structure and the wrap right now is at highly competitive levels. That was the competency of that management team. They are really performing. And all of our expectations were realized, because they did what they needed to do and we supported them in that. So, they have increasingly won every bit that they have been in. And the Denmark win was significant for them. It’s a replacement of the M113 fleet about $500 million. We have been in Denmark for a while, but it was European Land Systems. Both their design excellence, operating performance and their understanding of that very important customer that allowed them to execute and win. In the UK, that’s really been out of the Phoenix, right? I mean, out of the ashes rose the phoenix.

Yes.

We had to dismantle that entire business and turn it over to Land Systems to run the FB program, so the guys you knew how to build Combat vehicles actually were building the Combat vehicle and returned over the remaining IS&T businesses to Mission Systems and both have done a superb job of taking cost out increasing their competitiveness. So, I think you may just have heard, I think it’s earlier this week, maybe even last week, the UK government announced another $630 million service and support contract for the SC program. You don’t get that unless that you demonstrate your performance and we had a very affordable cost structure so that you can support the needs of your customers. So, that to me is as I said it’s a parable of what can go right when you do what you need to do.

Thank you.

Matthew, I think we have time for one more question.

Thank you. Your next question comes from the line of Carter Copeland of Barclays. Please proceed.

Hey, good morning Phebe.

Thanks, Carter.

How are you doing? I noted Myles liked the word axiomatic, but I preferred the phrase purported weakness, I thought that was quite concrete.

Yes, well it helps to have been a liberalized measure. I do know the English language and I have known it quite specifically.

I like it. I wondered if you might expand a little bit on the brief comment you made around DDG-1000 and the work you have there. Is your plan and the rates, the booking rates there dependent on holding schedule or is there the potential for rework of significance there? Any color you can give us about what remains to be done there in terms of milestones and where the program stands?

So, the next major milestone for the first ship, cost plus ship is going to sea trials. And the Navy, we have worked very, very closely with. They have, by the way, retained the integration responsibility for this partnership. So, we work very closely with them to work schedule and production so that we have minimized any lever, which is particularly challenging on the first acquired ship, but we are not seeing enormous amounts of rework. This is simply integrating, building and integrating a significantly – this is a huge, huge warship with an array of new technologies. And so that’s some of the challenge. That said the fleet is anxious to get it, because of its clear war fighting capability. So, this is a three class – three-ship class and our close relationship with the Navy has been important in all of us working together to get this war fighting battle start out to the fleet.

Thanks a lot.

Okay. Thank you for joining our call today. If you have additional questions, I can be reached at 703-876-3583. Have a great day.