Good morning, everyone. And welcome to the General Dynamics' First Quarter 2019 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please also note today's event is being recorded. At this time, I would now like to turn the conference over to Howard Rubel, Vice President of Investor Relations. Please go ahead.

Thank you, Jamie, and good morning, everyone. Welcome to the General Dynamics' first quarter 2019 conference call. 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, it’s my pleasure to turn the call over to our Chairman and Chief Executive Officer, Phebe Novakovic.

Thanks Howard and good morning all. Earlier today we reported earnings of $2.56 per diluted share and revenue just shy of $9.3 billion. Operating earnings of slightly over $1 billion and net income of $745 million. Revenue was up 23% against the first quarter of 2018 due in large part to the acquisition of CSRA However, without CSRA revenue was up an impressive 9.6% on a purely organic basis. In fact, there was organic revenue growth across all five operating segments. EPS of $2.56 was $0.14 better than consensus, it would appear that revenue was some $400 million higher than anticipated by the sell - side and operating earnings were up about $40 million higher. Operating earnings of slightly over $1 billion were just ahead of the year-ago result despite modest declines at aerospace, marine and combat systems. The result benefited from the combination of CSRA with GDIT. The operating margin of 10.9% in the quarter was good, it did not compare favorably last year's stellar first quarter of 13.4% which was before the inclusion of amortization from CSRA transaction. Net earnings were down $54 million over the same quarter in 2018. Higher interest expense, somewhat higher taxes were the cause of lower net income. It follows that earnings per share from continuing operations were $0.09 below the first quarter 2018, a 3% drop. Apart from the impressive revenue growth, an important part of the story in the quarter was order intake and growth in backlog. Total backlog grew to $69.2 billion, an increase of $1.34 billion compared to the end of last year. Excluding the impact of foreign exchange, the book-to-bill for the company was an impressive 1.2. Broken down into 1.1 to 1 for defense and 1.4 to 1 for aerospace. So let me discuss each group and…

Thank you. Phebe and good morning. Net interest expense in the quarter was $117 million versus $27 million in the first quarter of 2018. The increase in 2019 is due to the debt we issued to finance the acquisition of CSRA. We're also carrying more commercial paper than anticipated due to delayed payments on one of our large international vehicle programs in Canada. Our free cash flow of negative $976 million was impacted by the payment delays and as we've discussed previously, this is a timing item. On the capital deployment front, capital expenditures of $181 million in the quarter were up about 75% from the year ago quarter as we invest in our shipyards to support the significant growth that is on the horizon. We still expect this year to be the peak at approximately 3% of revenues and returning to the 2% range thereafter. In the quarter, we paid $268 million in dividends and we spent $86 million on the repurchase of 525,000 of our shares. We plan to acquire enough shares in 2019 to ensure there is no dilution from the exercise of employee stock options. Otherwise, we anticipate deploying the balance of our free cash flow this year to pay down our short-term borrowings. We ended the quarter with a cash balance of $673 million on the balance sheet and a net debt position of $12.9 billion. Our effective tax rate was 18.6% for the quarter, which is consistent with our full year tax rate guidance. As Phebe noted, order activity and backlog were particularly strong story in the quarter, as four of our five segments posted a book-to-bill of 1 to 1 or greater, even as we grew almost 10% organically. On that note, I think it bears a reminder that not all companies report book-to-bill on the same basis. We calculate this measure based on the firm backlog as reported under Generally Accepted Accounting Principles excluding the value associated with IDIQ contracts. That's of course most relevant to Mission Systems in GDIT, each of which had a book-to-bill of 1 to 1 or greater, even under the more conservative GAAP definition. We finished the quarter with a total backlog of $69.2 billion, that's up 2% over year-end 2018 and up 11% over this time a year ago. The total potential contract value including options in IDIQ contracts with $103 billion, consistent with year-end and up almost 18% over a year ago. There is one final item I'd like to highlight, we adopted the new lease accounting standard effective of January 1, of this year on a prospective basis. We recorded a $1.4 billion liability for our operating leases along with the corresponding asset. This creates a visible change in our other assets and liabilities on the balance sheet, but otherwise has no impact on our net earnings or cash flows. Now, that concludes my remarks. I'll turn it back over to you for the Q&A.

Thank you, Jason. As a reminder, we ask participants to ask one question and one follow-up so that everyone has a chance to participate. Jamie, would you please remind participants, how to enter the queue.

[Operator Instructions] Our first question today comes from Doug Harned from Bernstein. Please go ahead with your question.

Yes, good morning, thanks. Hi, I wanted to -- if we get a little better understanding on the margin trajectory at Gulfstream, you talked before in the last quarter about the lower margins to beginning of the year and likely very attractive margins when you get out to Q4. Could you give us a sense of what's behind that trajectory and are those higher margins at the end of the year? Are those the sort of normal margins that we might expect going forward beyond this year?

And as I said in my remarks, the margin rate is largely attributable to the mix and as we've talked about fairly frequently, that mix is driven by the increased deliveries on the G500, which carry lower margin in that first accounting lot, but we're going to be through that in the second quarter. And look, I think we've been pretty, quite transparent about this change in mix. We'll work our ways through it, as we deliver more G500s and the G600s will enter into service all with good margin. So when I think about it, our margins will improve throughout the year and as we go into next year our performance will get even better and better. As yet -- we hit full-rate production on the G500 and G600 and continue to come down our learning curves.

And then when you get out there in the G500 and G600 are mature, is it possible to give us a sense of how you might think about that between for the G550 mature margins and G650 mature margins? Where were the G500 and G600 shakeout?

Well, the G650, nothing's going to come close to that for I think all the reasons you understand. But it is our expectation that the G500 and G600 surpass the G450 and G550 peak margins. They are built and purpose-built facilities that are coming down, straight line and we have over that time continued to perfect our manufacturing processes. So I -- when we are up, we're really, really running. I think we're going to be better than those two legacy airplanes.

Our next question comes from Robert Stallard from Vertical Research. Please go ahead with your question.

Thanks so much. Good morning. Phebe, just to start off with Aerospace. You noted the good demand for the G650 in the quarter. Are you still going to stick with your plan to gradually ease G650 deliveries over time?

Yes. So a little bit this year, and then more in next year and the following year when G500s and G600s are in -- as I say, full-rate production with good margins.

Okay. And then as a follow-up on GDIT, you noted a good book-to-bill in the quarter. How sustainable do you think this is? And what's the expected conversion of that book-to-bill to revenues over time?

Well, when we put something in firm backlog, it's pretty sure conversion into revenue. But let me give you a little bit of context to it. I think it helps to understand. So GDIT in the quarter at 1.1 to 1 book-to-bill and over the last four quarters as I mentioned in my remarks they add 1 to 1. Now their win rate, they have demonstrated a win rate consecutively over those last four quarters between 70% and 75%. Against Dow's performance indicator, you've got a budget that is growing by 5%. So, I think this business is in very good stead for continued growth.

Our next question comes from Ronald Epstein from Bank of America Merrill Lynch. Please go ahead with your question.

Hey. Good morning. Maybe a bigger, excuse me, a bigger strategic question. How are you thinking about Mission Systems? Right. I mean, their performance in the quarter was pretty good. And how do you think about growing that or it seems like it's sub-scale right now, right. Do you grow it? Do you sell it? What do you do with it, I mean, when you think about it?

So, given its portfolio, I don't believe that it's sub-scale. If you think about what they really are is, they are systems integrators with a significant products business. They've got some long-term franchise programs, a number of them and those programs are growing. So I like where they are, they've got some unique positioning, in fact, best-of-class position in a number of areas, in network security, cyber protection, accuracy and position, navigation in a GPS environment, integration of systems on the ballistic missile class submarines and the fire control system. So they assist something. These are programs that they've had for a long, long time, all of which are on the growth trajectories. So, I don't really see them as sub-scale. And again, their margins are really quite nice. This is a good operating leverage company. I think they play nicely in the space therein, and we're quite comfortable with this.

Okay, great. And then maybe just one follow-on in Aerospace. Can you say when is the next available delivery slot for G650?

Yes, I'm not getting into that anymore, so we're really not tracking it that way. We've got a whole lot of new airplanes coming on. So those individual metrics become little less meaningful, but you need to think about what's really unusual and unique about the Gulfstream portfolio, as we have a family now of all brand new airplanes and when I say brand new, they are clean sheet, you know that better than anybody what that means, from scratch all new, nobody else has that, and that family is compelling, and we're seeing that in our consistent demand.

Our next question comes from George Shapiro from Shapiro Research. Please go ahead with your question.

Yes, good morning. On the Gulfstream, Phebe, are we seeing the trend for orders continue were strong in the second quarter here?

So we're off to a good start, but undergirding this, you raise -- undergirding your question is really a -- I think more robust demand question. And like I think I'll take this opportunity to help us think about demand a little bit more holistically. It's kind of folly to try to address demand prospectively. It's a little bit easier from a retrospective point of view, as long as one's not too myopic about the data. So what does the data tell us? That the market for Gulfstream airplane has been good over the last 12 months at a period of ramped up deliveries. The book-to-bill in the quarter was 1.5 to 1 at Gulfstream and almost 1.1 to 1 for the trailing 12 months. This tells me that we're in a period of solid, but not overheated demand. And I see nothing in the data available to me at the moment that suggests a change in that picture. So that's how you ought to think about, as we go through the year, our expectations about the demand environment.

And then just a quick one on Marine. The revenues were somewhat less than I would have thought given the guidance of up 6% for the year and the margin was somewhat better. As we get increased revenues throughout the year, do we have the opportunity that the margin turns out to be higher than your 8.5%?

Well, look we'll always work towards improved margins. But remember the revenue is simply a question of timing and mix. And as we move from the Block III to Block IV, we have accounted for those margin changes as we see in every -- by the way we see this and you know this and every one of our transition from one block to the other, because we bid down a continuous learning curve and we have a -- each one of our contracts has the same sort of target profit. And on a share lines, so we always give back some of that goodness appropriately. So did the U.S. Navy, but what does that mean? That means we've got to drive our operating performance relentlessly and continuously and we've done that now for 20 years. So, we will work very hard to consolidate and accelerate our learning on the Block IV, but at the moment we're pretty comfortable with the guidance we gave you.

Our next question comes from David Strauss from Barclays. Please go ahead with your question.

Thanks. Good morning. Phebe, want to try and put a finer point on GDIT. I think publicly it's been said that while '18 and '19 a relatively flat from a revenue standpoint that the '18 to 2020 kind of growth rate, you're still looking for is mid-single digits, is that correct?

Yes. And I don't think we've given you a whole lot of specificity about '20, but I tried to set some context to how to think about this growth profile. With that win rates, with the increasing budget and post-acquisition book-to-bill, we're in a very good place. So I look at this business as long-term good growth. In that budget it was about $100 billion, their addressable market budget is about $120 billion, 5% increase, almost 5% increase. That's pretty darn impressive. Good opportunities there.

Thanks. As a follow-up, Jason. Any quantification you can give on what the drag was in Q1 from the delay on the international side and any sort of idea around timing? I know you're expecting to reverse this year, but are this more of a second half item that you're looking for? Thanks.

Yes, so the amount that continue to push to the right, I think of it as a roughly $1 billion, David, that's what we're talking about. It's lapsed over from last year and continues to push to the right.

And I think it's important to understand that these are negotiations between two sovereign powers, that are progressing, but they're very, very sensitive, as all of diplomatic negotiations are. Progress is good, but slow. We do anticipate it resolving this year.

Our next question comes from Cai von Rumohr from Cowen & Company. Please go ahead with your question.

Yes, thank you so much. So Phebe, I thought I heard you say that the Gulfstream 500 would move into the second production block in the second quarter. If that's the case, how come the margins aren't better than the first?

I think second half is what I said.

Second half, excuse.

Yes. So I mean that's the inference from us being through that first block right, and we'll get through that in this quarter and get into the second lot in the second quarter. So, you're right.

Got it. So GDIT obviously, you're looking for pretty good bookings. It's kind of we look around, there are several very large competitions for competitor programs in the network space, GSM-O and NextGen are, how in terms of looking at your expected growth do you factor those? Because obviously you have other competitors and if you win, things are going to be a lot better and if you lose, they won't be as good as you're projecting. So how do you factor them?

So if you think about us and you know us and you've known us for years. We are conservative, when we look at opportunities. We give healthy discount rates, I think that are a good thing to do for internally for the business and the forecast and guidance that we issue reflects that, those discounted rates. So the beauty of a business with 7,000 contracts is that frankly no one is positive. But I'm comfortable that they'll win their fair share. That said, we've approached this -- their pipeline through -- looking through a conservative prism.

Our next question comes from Peter Arment from Baird. Please go ahead with your question.

Yes, thanks. Good morning, Phebe. Phebe, first question on Combat I guess, you mentioned some very positive comments regarding the fiscal '20 funding levels for some of the core platforms. I guess maybe just in the context of longer-term growth, how you're thinking about how those programs are shaping up domestically? And then what some of the international opportunities that you're pursuing are for that could supplement that growth? Thanks.

Sure. So the U.S. Army is recapitalizing, after the hot wars, they have utilized a lot of their equipment and as their budget slowed down rather precipitously, they did not have the resource to go and recapitalized, but they do now and that's exactly what they're doing. So they're modernizing their existing fleet in addition to developing new potential platforms. And we -- that existing fleet is our program, right. Stryker and Abrams have seen considerable increases in their budget funding lines because the Army needs those vehicles. The Abrams remains an outstanding tank and the upgrade in the version 4, is really not your father's Abram. It is a more capable, more survivable, more lethal system as is the Stryker. So we think those twp core franchise programs for us are in very, very good stead. We work very closely with our Army customer to understand their demands and their requirements and how they think about the war fighter and so we position ourselves in our investment dollars and also, thinking about the art of the possible for them and how we can help them meet their objectives. That's certainly true on the franchise programs. I've just talked about, but also on new programs, what is in the art of the possible what's doable how fast you can do it and what it is going cost you. And the key there is to have the trust of the Army customer, who believes that the estimates that you give them are reliable. So we've had a -- we are very aligned with our Army customer, know where they're headed. And I frankly like everything that I see here. And that's on the big vehicle programs, when I look at ammunition business, ammunition business is growing. I think we grew 10% in the quarter. And we've had our book-to-bill, there that's been very wholesome because as we increase our operational training tempo, our munitions and armaments will increase demands. So outside the United States, in North America, outside of the United States we see some recapitalization in the UK and Canada, where we have decade's long presence in both of those countries, throughout NATO and heavily in Eastern European. The world is getting a more dangerous place and unfortunately, but that is -- that creates demand for our products. Our European Land Systems has multiple opportunities throughout the Former Soviet Border States and Eastern Block and domestically and elsewhere. So you know threats drive funding and they drive the need for requirements and unfortunately we live in a world have increased threat.

Our next question comes from Sheila Kahyaoglu from Jefferies. Please go ahead with your question.

Good morning and thank you for the time, everyone, good quarter. Just a bigger picture question, I mean revenues were up I think 23% this quarter and profit was sort of flattish. How do we think about that inflection and profit growth in excess of revenue growth and timing of that and any maybe impediments to that that you see.

So let's break the businesses into two distinct factors. Aerospace, I think we've just given you a pretty fulsome and I going to walk you through that again, pretty fulsome explanation of the margin compression. And on the defense side, it's really about mix. When you're growing and you've got new contracts coming in, and you've got older contracts closing, you're going to have the mix issues and we frankly because all of our defense businesses are growing we have some of that right now. So that will resolve in continuing throughout the year and then into the future years as we get -- one thing you can absolutely rely on us for is superb operating performance. We are very good at improving what we control and we control our own operations. So you can expect us to get better and better and better as time goes by.

Thanks. I appreciate that. And just one follow-up, I think you mentioned $1 billion contract in Aerospace last quarter, was that booked?

I'm sorry, where?

You mentioned in Aerospace $1 billion contract with an existing corporate customer, was that booked in the quarter?

Right. So I couldn't hear you out. Thanks.

Our next question comes from Carter Copeland from Melius Research. Please go ahead with your question.

Good morning Phebe, Jason and Howard. Just two quick ones. One on the assumed certification on the G600 Phebe, do you think there's any risk there, just given the extra scrutiny and -- on things like ODA and what not, given the incident elsewhere in the industry, just -- I wonder if you could share any thoughts on that and just help give us some color, if there's any risk?

So, first the FAA and as we're targeting late June, but they've got a pretty rigorous process, so that may slip a week -- a couple of weeks or so, but I think importantly that does not impact our deliveries, which is really, I think the key underlying question. We have, not seen any new regulations or any new changes and the FAA oversight. So, we work very closely with them. Frankly, their partners and ensuring that we deliver base airplanes efficiently, and so they've got an additional workload, but so far haven't really seen much of an impact.

Okay, great. And then just as a follow-up. I noted the comments you made in the prepared remarks, around the cost progress on the missiles and the quality there, and obviously there's some uncertainty and risk when you took that work on, is there in your view the opportunity to maybe favorably retire some of that risk that you had foreseen as you continue to make progress and is this an indication maybe you're headed in that direction?

So cost is increasingly under control. The schedules, we de-risked a lot of the schedules. We're getting a lot of input from the manufacturing workforce, which will help us optimize our production, and again we're very, very good at manufacturing. So a lot of that risk is definitely behind us and it's going to get better.

Our next question comes from Seth Seifman from JPMorgan. Please go ahead with your question.

Thanks very much and good morning. So I wanted to follow up on question that Peter asked earlier about the Combat business and when we look at the budgets that have come out for Abrams over the past couple of years and what's being requested for 2020. It's kind of in $2 billion-ish range, which seems like it's probably at least 2x, if not more what the Abram sales were last year. I mean should we be expecting Abrams sales over the next couple of years to advance to this level.

You should expect them to advance. Think about it this way, for a while that in the period where the Army funding was seriously constrained, that tank plant was producing one tank a month. At the end of this year, we'll be rolling out 30 tanks a months by the end of this year. So that obviously will drive revenue growth and that backlog increase translates 1 to 1 in the revenue.

All right. And then just a follow-up 1.1, when we think about a point that you guys have made consistently in the past, is the impact of a mix shift towards domestic production on profitability in combat. Is that primarily an Abrams issue? Because you mentioned some -- that there's growth in Stryker, there's growth on the weapons and munition side. Is that primarily an Abram issue?

So there are two things. There is mix between domestic and international. And there's also the mix issue driven by older contracts and newer ones coming on board. So as Abram ramps up, remember we're also doing the mobile protective firepower. We were one of the two down select and so those -- again, we've got to move down our learning curve and that will ensue the performance over time.

And operator, we'll just take one more question, please.

And our final question comes from Myles Walton from UBS. Please go ahead with your question .

Thanks. Good morning. And Phebe, I'm curious, could you reflect on the certification process for the G500, G600 and how maybe it would influence your thinking of the next new aircraft? How you kind of publicly launch it versus privately launch it? Should we expect kind of timelines from public launch to anticipated EIS to maybe be a little bit shorter as you do more of the certification work behind the curtain?

Myles, if I told you any of that, that is just proprietary, but of -- listen, you would expect us to have lessons learned from everything we do. These have been extraordinarily successful developmental programs as these have been an extraordinarily successful test program. These airplanes are beating all of their design performance specifications. So we will continue to work closely with our FAA customer and it will continue to refine our processes going forward. But when we announce anything or how we announce that just sensitive.

Okay. And Jason a clarification, the $1 billion push to the right, you mentioned on the Canadian LAV contract for Saudi. I think in the K, you've said $1.9 billion of unbilled receivables. Curious, can you kind of square those two and also the size of the current unbilled receivable? Thanks.

Sure. So the balance between the two is basically the contract work in process. It's ongoing as you'd expect on any contract of this size. So that really is the delta there. And you'll see in the 10-Q we published later today that $1.9 billion that was reported at the end of the year is now up to $2.2 billion. End of Q&A

Operator. Thank you very much. Prior to the close, I'd like to first thank everybody for joining us today. And then secondarily, as a reminder, we refer you to our website for both the first quarter earnings release and our highlights presentation. If you have any additional questions, I can be reached at (703) 876-3117. Thank you very much.

Ladies and gentlemen, with that we'll close today's conference call. We do thank you for attending. You may now disconnect your lines.