Huntington Ingalls Industries, Inc. (HII) Q1 2016 Earnings Report, Transcript and Summary

Good day ladies and gentlemen and welcome to the Huntington Ingalls Industries’ First Quarter 2015 Earnings Conference Call. At this time, all participants are in listen-only mode. Later we will conduct the question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder this conference is being recorded. I would now like to introduce the host of today’s conference Dwayne Blake, Vice President of Investor Relations. Sir you may begin.

Thanks, Darren. Good morning and welcome to the Huntington Ingalls first quarter 2016 conference call. With us today are Mike Petters, President and Chief Executive Officer; and Chris Kastner, Corporate Vice President and General Manager of Corporate Development and [indiscernible]. As a reminder, statements made in today’s call that are not historical fact are considered forward-looking statements and are made pursuant to the Safe Harbor provisions of federal securities law. Actual results may differ. Please refer to our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results. Also in their remarks today, Mike and Chris will refer to certain non-GAAP measures, including certain segment and adjusted financial measures. Reconciliations of these metrics to the comparable GAAP measures are included in the appendix of our earnings presentation that is posted on our website. We plan to address the posted presentation slides during the call to supplement our comments. Please access our website at huntingtoningalls.com and click on the Investor Relations link to view the presentation as well as our earnings release. With that, I will turn the call over to our President and CEO, Mike Petters. Mike?

Thanks Dwayne, good morning everyone and thanks for joining us on today’s call. This morning we released first quarter 2016 financial results that reflects strong overall of our operating performance driven by program execution at Ingalls. So let me share some highlights starting on page three of the presentation. Sales of $1.76 billion were up 12% from last year and diluted EPS was $2.87 for the quarter compared to $1.79 last year. Segment operating margin was 9.4%, up from 8.2% last year, free cash flow was $17 million and we ended the quarter with approximately $800 million of cash on the balance sheet. We received $1 billion in new contract awards resulting in backlog of $21 billion at the end of the quarter of which $13 billion is funded. Shifting to activities in Washington, there have been a couple of developments I want to mention. First, the Navy released its Submarine unified build strategy, which outlines the framework for design and construction of the Ohio replacement program. This strategy is the result of a coordinated effort between New Port News, General Dynamics Electric Boat and the Navy. It enables the submarine industrial base to execute on the ORP, while continuing to deliver Virginia class submarines in the most cost effective manner. The arrangement specified that New Port News will build sections of ORP consistent with the sections they build on the VCS program. At the same time, New Port News will perform additional final assembly testing and delivery work on the VCS program. We are pleased with this outcome and look forward to leveraging our VCS program expertise and experience on the ORP. Next, there appears to be some interest in Congress to accelerate the start of the LXR program from 2020, which is the plan of record to either 2019 or 2018. We support LXR acceleration as it would reduce the production gap between LPD 28 and LXR and leverage the benefits of hard production lines. It also creates a predictable and steady construction schedule for our suppliers allowing them to make investments in their workforce and facilities that lowers cost and improves efficiencies. While funding for these items in the remainder of the President’s fiscal year 2017 budget request debated, our team remains engage with the Navy, Pentagon and Congress on all of our programs. Now, I will provide a few points of interest on our business segment. At Ingalls, we experienced another strong quarter as the team continues to execute well and the programs continue to reap the benefits of serial production. Results of the LHA-8 and T-AOX competition are expected to be announced by mid-year and we still expect contract towards awards for LPD 28 and NSC-9 later this year. At Newport News, CVN-78 Ford experienced some challenges in the test program that resulted in a delay of builder’s trials, while we a bit disappointed with this outcome the challenges are not out of the ordinary for the lead ship of a class as we integrate test and troubleshoot contractor and government supplied equipment and systems and bring their ship to live. I am very pleased with the condition of the ship and I am confident that the team will continue to work closely with our Navy customer to craft the best path to delivery. Regarding the other major programs at Newport News, the Virginia-class program continues to perform well and CVN-79 Kennedy ramps up while the CVN-72 Lincoln refueling overall and CVN-65 Enterprise and activation teams continue to drive these programs toward completion. At Universal Pegasus contract awards for inspection work in the field services area were recently received, which is creating a modest increase in the backlog even with these developments we will continue reviewing operations to ensure that the business is right sized for current market conditions while preserving our key customer relationships. In closing, I want to thank the HII team for another quarter of hard work and dedication and for their unwavering commitment to safety, quality, cost, and schedule. Even though there is pressure at Newport News as they prepare to complete Ford, Lincoln, and Enterprise we remained focused on program execution, risk retirement and cash generation and supporting Washington for our key ship building programs continues to create a positive long-term outlook for the business. So that concludes my remarks and I’ll now turn the call over to Chris Kastner for remarks on the financials. Chris?

Thanks, Mike and good morning. Starting with our consolidated results on slide four of the presentation, revenue in the quarter of $1.76 billion increased 12.3% driven by higher volumes at Ingalls and Newport News. Segment operating income in the quarter increased 29.7% to $166 million and segment operating margin improved 126 basis points to 9.4%. Total operating income in the quarter increased 26.9% to $198 million and total operating margin improvement 129 basis points to 11.2%. These increases were due to strong operating performance at Ingalls and favorable FAS/CAS adjustments. Cash from operations was $54 million in the quarter and free cash flow was $17 million. Capital expenditures in the quarter were $37 million or 2% of revenues compared to $20 million in the first quarter of last year. We continue to expect capital expenditures for the year to be in the range of 3.5% to 4.5% of revenues. In the quarter, we contributed $53 million of the planned $167 million discretionary contributions to our qualified pension plan. We will fund the balance of the discretionary contributions in the second quarter. We repurchased approximately $367,000 shares at a cost of $48 million during the quarter and paid dividends of $0.50 per share or $24 million bringing our quarter end cash balance to $793 million. Moving on to segment results on slide five of the presentation. Ingalls revenues of $576 million increased 24.9% from the same period last year, driven by higher volumes on the DDG and LPD programs and partially offset by lower volume on the NSC program. Operating margin in the quarter of 14% increased 440 basis points over first quarter 2015. Primarily due to performance improvement and risk retirement on the LPD and DDG programs. Turning to slide six of the presentation, Newport News’s first quarter revenue of $1.15 billion increased 8.7% over the same period last year, due to resolution of changes to a commercial energy contract and higher volumes on the VCS program. The increase was partially offset by lower volumes on CVN-72 RCOH and the construction contract for CVN-78. Operating margin for the quarter was 7.7%, down 105 basis points from the same period last year due to lower risk retirement on the VCS program and lower performance on CVN-78. Now the other segment on the slide seven of the presentation. The segment generated an operating loss of $5 million on revenues of $24 million in the quarter, compared to an operating loss of $10 million on revenues of $40 million in the same period of last year. The decrease in revenues was driven by the continued decline in oil and gas service. The decrease in operating loss was due to lower restructuring cost in the quarter, compared to the restructuring cost taken in the first quarter 2015. Now let me provide you with an update on our tax rate for the year. As we’ve noted in our earnings press release this morning, the Financial Accounting Standards Board issued new guidance on accounting from employee share base compensation the changes how companies for certain aspects of share based payment awards to its employees, including accounting income taxes and classification of the cash flow statement. Another new guidance income tax benefits and deficiencies will be recognize as income tax benefits or expense in the income statement, we doubt that the updated guidance effective January 1st of this year. As these are treated as discrete items, there will be volatility and variations in our tax rate during the year based on when these awards exercised and vested. For the first quarter our effective tax rate was 23.2% deferred from Federal statutory rate of 35%, primarily due to the adoption of the new guidance, which provided an income tax benefit of approximately $18 million for stock award settlement activities in the quarter. For the full-year, we now expect our effective income tax rate to be in the 30% range 32% range. That concludes my remarks for the quarter. I’ll turn the call back over to Dwayne for Q&A.

Thanks, Chris. As a reminder to everyone on the call, please limit yourself to one initial question and one follow-up, so we get as many people through the queue as possible. Darren, I’ll turn the call over to you to manage the Q&A.

Thank you. [Operator Instructions] And our first question comes from Myles Walton of Deutsche Bank. Your line is open.

Thanks, good morning.

Good morning.

Good morning.

I was hoping to just to start with the margins and obviously kind of divergent here. So, A, Chris could you give us the positive negative total [indiscernible] that will be Q, and; B, maybe Mike, can you talk about the sustainability of obviously not all the goodness here at Ingalls is really sustainable, but this is another third or fourth quarter in a row where you’re well aware about trend there. And then, how much of the builder delay was more of public trial delay was more of a one-time-ish impact to the Newport News margins in the quarter?

Yeah. Sure, Miles, this is Chris. $76 million positive and $7 million negative for a net of $69 million.

And Miles, regarding the margins, we’ve been talking for five years about the healthy ship building business has a blend of programs that will keep it in the 9% range to 10% range. What you’re getting here is a peak under the hood at how that blends sometimes works. We had some really strong risk retirements at Ingalls, we’ve worked really hard over really the last eight years to get Ingalls into a serial production mode to drive high returns in mature programs Newport News is looking at three carrier in the next-year. And so, they are a little bit out of balance and we’ve been talking about that as well. Combined though, you still have a very healthy business and this is how the healthy business works. As far as, what’s happening at Newport News specifically to the Ford we’re testing this is the lead ship of a class of ships that’s going to be out there for the next -- this ship will be out there for the next 50 years. The last time we did a lead ship aircraft carrier program was in the 1970s, so as far as the test program goes. So we have 40 years of new technology in the systems that we’re testing. We’re testing each of the systems, systems that we built, systems that the government furnished to us. We’re testing the systems themselves; we’re testing how the systems interact with the each other from a network standpoint, which is not something that was even on the table really 40 years ago. And then as the lead ship there is a whole set of tests that you do that are lead ships specific, as well as, documentation for the training of the crew that will drive the performance of a whole class of ships going forward. Our ability to predict the schedule in that environment is probably limited. What our commitment is that we’re committed to keeping the quality of that test program on track and to do it in the most efficient way, keep the cost as managed as we possibly can. And so we still believe that we are in good shape there, the ship looks great. You walk on it today its really finished ship except for the folks that are testing it and it’s not just the Newport News folks that are testing it, but the navy folks that are involved in bringing that ship to live. The ship will go to sea this summer and we are targeting a delivery in September or so. So we see this -- we are on a good path right now to drive the performance of that program all the way through to completion. So how that plays out from a schedule standpoint we’ll see. But our commitment here is to make sure the test program is run correctly and we do that as efficiently as we possibly can.

Okay, that make sense. Chris, just to make sure I got it right. You said negative $7 million I think for [indiscernible] and so pretty low number which would I guess suggest that that what we are seeing in NNS is more of a underlying lower booking rate than any negative effect of [indiscernible] and maybe an absence of positives is that the correct interpretation?

Yeah, I think that’s right. There is a minor adjustment on the Ford, but really just the lower booking rate.

Yeah. Alright. Thanks guys.

Welcome.

And our next question comes from Finbar Sheehy of Bernstein Research. Your line is open.

Good morning.

Good morning.

Good morning.

I wondered if you could give us a little more on the impact of the new submarine building plan. So as you few years out of course, but when you do get the work on the ORP and then also additional work on the Virginia-Class, are we looking at that being fairly flat then revenue line for you or is it the step up or down?

I think the first thing you said is this is pretty far out. So I mean the first ship is not acquired until 2021. So starting to try to predict and think through what that means for us. We are excited about being part of the program and I think the most important part of what happen here is that now that the industry and the government have decided on a path ahead not just for the Ohio-class replacement, but also how that’s going to impact the Virginia-Class program. We as a team can then go figure out how to get all of that done. I mean one thing that’s interesting is that the Navy wants to add another Virginia-Class program in 2021. At the same time that they are going to buying the Ohio-class. We strongly support that and we have to work with our partner and the government to figure out how is the most efficient way to get that done. So trying to predict how the any sort of the revenue might project, I mean a ship that gets appropriated in 2021 actually gets built over the next five or six years. And so that’s -- we are talking about 8 to 10 years from now in terms of how that plays out. It’s a really positive development for Newport News it really indicates how confident and comfortable the Navy is with the performance of the team at Newport News and executing all of the work that they are doing.

Great, thanks.

And our next question comes from Gautam Khanna of Cowen and Company. Your line is open.

Good morning.

[Operator Instructions]. And our next question comes from Jason Gursky of Citi. Your line is open.

Hi, good morning guys. It’s actually John Raviv here for Jason.

Hi, John.

Mike, just following up on that last question Navy made some decisions how those two ships will interact. How do you see them just simply affording this in the 2020? Still kind of knock down do you think and will the Navy shipbuilding budget, where do you see things going based on this sub plan?

I've said for a while now that the number one issue facing the industry is how does Ohio replacement program gets funded without squeezing out other programs. The Congress and the Navy are trying to work through a funding mechanism. There is the authorizers have come up with this idea for an account, the appropriators maybe not so much. My own view is that however it comes together, however I gets -- whatever the mechanics of getting it funded or whatever they are what’s most important is that it be funded without impacting other programs. And quite frankly that’s why our effort to take advantage of the hard production line on amphibs [ph] is really crucial. Because my own view is that if you start crowding out other programs significant auxiliary ships and amphibs that maybe even destroy or start to get impacted by the way that it gets paid for. So what matters here is that there would be extra money. I do not know how that happens. I’m watching the nation kind of wrestle with this whole idea of our strategic capacity recapitalization, it’s not just the Navy it’s the air force as well. And I’m watching the Pentagon try to take that on, it looks like they’re taking on in a positive way and there is a lot a support for it in Congress, but my guess is we’re going to talking about this every year for the next decade.

Well I look forward to it. And so the quick -- as a quick follow-up just on the margins I mean still fair to think that on the blended perspective, shipbuilding should be in that 9% to 10% range this year. And then beyond that as what is The Newport News looks like once Ford actually delivers.

Yeah I think that the healthy business will be in the 9% to 10% range and we’re absolutely believed that before that year our shipbuilding business will be in the 9% to 10% range without any question about that. And I think that’s pretty predictable over the next out to 2020. Newport News has got three of these deliveries, they’ve got the Ford delivery, have the Link in delivery and have the Enterprise delivery kind of staked up on each other over the next year or so. And so that’s going to -- for the next 12 months or so at Newport News it’s kind of a period of transition for them. As they work through these test programs and delivery programs, and move into the production on the Kennedy the beginning of the next refueling Block IV and the submarine program. What you’ll see at Newport News is you’ll see them start to hire people again. Frankly unfortunately they’re going to be trying to hire back some of the people that we’ve had to lay off. I mean it’s fortunate that we’re trying to hire them back its unfortunate that we had to lay them off in the first place. And so Newport News long-term is setting themselves up for a pretty good run here. And it’s just we’re in a transition period right now.

Thanks so much.

Yeah.

And our next question comes from George Shapiro of Shapiro Research. Your line is open. If your phone is muted please unmute it. Our next question comes from Robert Spingarn of Credit Suisse. Your line is open.

Good morning

Good morning.

Hey guys. I guess we’ve got couple of calls going at the same time, I think that’s what’s doing -- what's behind this. But I wanted to follow-up with Chris on Miles question and then Mike more a strategic for you. Chris the numbers that you gave us could you do that by segment?

Yeah I could. About two third of it is Ingalls related to some major milestones they accomplished in the quarter. Builders trails in LPD 26 and then launch of LPD 27. And then a third of it at Newport News related to VCS program.

Both for the positives and the negative?

The negatives were focused in Newport News.

Got it, okay. Mike continuing along the long-term strategic submarine plan and I recognize what I’m about to ask you is way out in the future. But we’ve had the opportunity it’s been quite a bit of time with the Navy over the past couple of months. And the latest we’re hearing about is not only do they talk about maintaining two Virginia classes alongside one ORP starting in the next decade, but now we’re hearing a lot about the retirement of the 688-Is and the fact that three or four of those retire per year starting around the same time. And they want to replace those on a like-for-like basis. So the numbers become staggering, if you start thinking about doing three or four attack submarines a year plus an ORP I have no idea how that would get paid for, but could we even capitalize for something like that?

Well I think the industry could support something like that. I think what you’re talking about though is a problem -- this is not a new issue. Go back I first drew the submarine four structure curve for Newport News when Newport News shipbuilding belonged to Tenneco. And you could see that if you’re buying them back in the 80s and 90s -- 70s, 80s and 90s at three and four per year. And then in the future you’re going to be buying them at one or two per year, you’re eventually going to have reduction on force that’s going to be pretty dramatic. And if your ambition is to get back to the numbers that you had in 1990, you better start on that. Now the way you do it though is you don’t show up in 2018 and say okay I want to buy four submarines this year. What you do is you start with a long-term commitment to doing something like that and then you would add one. And you would expand the capacity of the industry in a sustainable rate. That will make the capital investment flow, that will make it efficient. That’s how you build the four structure. And quite frankly that’s why the Navy puts a 30 year plan out is because they give the industry that kind of visibility to say here is where we’re going to go. Now I don’t particularly believe that we’re ever going to get to a place where we’re building four Virginia-Class Submarines in any given year at any point in the next decade, I don't see that happening. I do see that there is a real need for submarines and that there are real capabilities out there that the Navy is trying to figure out how to replace. And so we’re working with them to try to figure out the best way to do that or Ohio Replacement is one set of capabilities, the Virginia payload module brings another set of capabilities to the platform. And so how we do it, we may not do it in the same way that we did at the four with ships. We may do it with other kinds of capabilities.

And given that in my impression in anyways the submarine is the number one priority in the Navy. I think there were all these ships are priorities, but if they have to pick and chose, that’s the sense that we get. And I would think at some point surface ships might have to pay that bill. Are you able to resource in such a way and this is a somewhat long-term question, but could you do submarine work if needed elsewhere? I understand not all you are as our Nuclear certified. I just don't know how that’s works.

Well all the nuclear work would have to continue to be done in Newport News. To try to get another shipyard whether it’s Huntington Ingalls shipyard or anybody else try to get them into a place where they are capable or qualified and certified to do nuclear work is the bridge too far. So if you’re going to expand the number of nuclear ships in the fleet is going to be done from the nuclear shipyards that exists today. Now if you think about capacity in the shipyard and I think we’ve talked about this a few times. The capacity in the shipyard is -- you think of -- a lot of times when you think about factory you think of it in terms of facilities. But the real capacity in the shipyard is the workforce. And the number of people that you have your ability to train and create that workforce, your ability to create work sites for those folks to be able to do that work. And I would point out that the both of our shipyards are at lower levels of workforce today than they were 25 years ago. And so the capacity to build up the workforce there is -- I mean we have the facilities to do it. The question is really can you create the workforce and at what pace can you do it. We’re pretty good at that, and we have some really strong views as to how fast you can build a workforce. We can build the workforce faster than the Navy can appropriate the money.

Okay, thank you for the color.

You bet.

And our next question comes from Noah Popnok from Goldman Sachs. Your line is open.

Yeah hi this is Matthew Porat on for Noah. Just the division of work associated with your Ohio Replacement sort of you have the greater potential number of Virginia class. Does that have an effect on margins during that time?

It’s really early to understand that at this point. We don’t even know the ORP contracting structure as of yet. And we continue to believe the 9% plus margin business makes a lot of sense.

Got you. Thanks.

Yeah.

And, I guess, has the recent oil rally done anything UPI and sort of when might that start to contribute to operating income?

I mean, I think it’s driving -- the thing that drives UPIs success is when their customers start reinvesting from a capital standpoint. And while the prices moves somewhat -- we haven’t seen the capital projects start back up again in any consistent way. We have seen some inspection pickup, which is -- it’s kind of a phase that we are in we’re that marketplace right now is inspecting stuff that’s been previously build. And so that’s why you see the backlog going up and that’s good work for us and we’re pretty good at it, but we haven’t seen the capital projects turned back on yet in any way to be -- so that we can predict the bottom if you will.

Got you, thanks so much.

You bet.

And our next question comes from Sam Pearlstein with Wells Fargo. Your line is open.

Good morning.

Good morning.

Hi, Sam.

Chris, can you tell us what the revenue benefit was in Newport News, you talked about a resolution of commercial contract in energy?

Yeah, it was approximately $100 million.

And was there a P&L impact?

Yeah, but nothing significant and worth to mentioning. It was really the resolution of a number change orders that were outstanding on that contact. So we settle it in the quarter and that caused the variance.

So if I took that out and I said it imputed 8.5% margin that’s about the right way to think about the ship side of it?

I think, that’s fair

Okay. And then Mike, you talked about the LXR and I guess, I’ve seen the talk about accelerating and I guess, I’m just trying to think through as the options at LXR comes in the year or two or is there any chance we could actually get another LPD in there and still keep the LXR out where it was?

I think either of those are possible. From our standpoint, what we -- our position has been that we have got a really solid production line on LPDs operating right now. What that it will end before the plan of record for LXR is in 2020 starts that the congress and the navy began to build a bridge to cover that gap with LPD 28, but LPD 28 doesn’t completely close the gap. So you really have -- you have the choice, you can either bring the other side of the bridge in closer by accelerating the LXR program or if you wanted to build another LPD that would be fine too, that will absolutely fill the gap. But either of those are reasonable alternatives from our standpoint, the decision that Navy made to make the LXR platform based on the LPD haul means that this bridging is critically important to maintain the efficiency and the effectiveness of that decision. So our point of view is, let’s make sure we finish building the bridge that LPD 28 started. LXR is the plan of record, so based on the plan of record it needs to be accelerated. If we decide to build another ship instead, I’m okay with that.

So, is there have been discussion leading that way or is all the discussion going to be about LXRs timing?

I think, discussions going on all the time about all of this stuff, so I think the whole range of alternatives is still out there, as I said our position has been -- the bridge has been started and LPD 28 was a great move in the right direction, but it wasn’t completed.

Okay, thank you.

[Operator Instructions] And our next question comes from Pete Skibitski of Drexel Hamilton. Your line is open.

Good morning guys, nice quarter.

Good morning.

Thank you.

Hey, I guess Mike just to be a dead horse on the margin rate, I want to make sure I’m concluding the right thing here. So at Newport News as work through this transition over the next two to three quarters, is that fair to say that they will run a little bit below their historic norm, so you think maybe Ingalls are running a little bit above their historic norms, so you kind of net out at the segment level above 9% is that the right way think about that?

I mean, I -- that’s a way to think about it, I think that both of these sites are pretty lumpy in the way that these things worked out and I mean, you’ve been with us for the whole five years, you know that trying to predict what happens in any particular quarter is -- that’s a pretty risky project. What I would tell you is that by the end of the year the shipbuilding business will still be in the 9% to 10% range.

Okay, fair enough. And then just one follow-up if I could on the CapEx ramp plan. So has the ramp actually begun, is that fair to say how you guys kind of approving projects as part of the plan and are you still holding this year to that 3.5% and 4.5% guidance?

Yeah, Pete. We are right on schedule. We spent $37 million in the quarter and we are on path for 3.5% to 4.5% for the year.

Okay, thanks guys.

And our next question comes from Roman Schweizer of Guggenheim Securities. Your line is open.

Thank you very much. Good morning, guys.

Good morning.

Good morning.

So just quick question on Ohio-class obviously design activity is starting to ramp up and I guess the unified build strategy kind of covers more the production aspect of it. Can you describe how you guys are participating in the design perhaps for the modules or section that you guys were going to do?

Sure. I mean that’s what’s important about that build strategy was to optimally you would like to be in the place where whoever is building that part of the ship is doing the design work for that part of the ship and is also going to handle the procurement of equipment and material for this parts of the ship. So getting clarity around all of that on the front end of this is pretty important to the design piece. There is -- as we go forward that’s kind of the notional plan there will be puts and takes where there is some integrated systems that kind of carryover from one place to another. So we got to work through those things. But we did that on Virginia-Class, we actually did it on Ford as well. We had some support from the designers and general dynamics to help us do the Ford early on based on their experience with Virginia-Class program. So the two companies are really good at sorting out this design stuff and who is the best person to do it because that’s where both committed to driving the efficiency of the program. But notionally and nominally it’s going to be -- you are going to end up doing the design, going to do most of the design for the work that you are going to build and you are going to do most of the procurement for the stuff that you are going to build.

Great, thank you. And just as a follow-up, I think at the beginning of the year you guys were about 16% complete with Kennedy probably few points better than that now. Can you just maybe describe a little bit how you guys are tracking the plan I mean obviously the learning curve compared to Ford is going to be a little bit different probably a lot different in what you proposed under the contract. But how is that about 20% into the program how are you guys doing?

Actually that’s a great question; I appreciate the chance to talk about that. The Kennedy is not quite 20% complete yet. We took a substantial learning target or challenge on the labor side of that program and at about little less than 20% we are exactly on budget on labor. On the material side we are very -- and we are very happy about that, I mean that’s a learning curve, that is pretty -- was really indicative of the lessons that we learned from putting Ford together. The team as it transitioned its lessons learned into new facilities and new work teams and validating the work plans, getting the material side of it sorted out that has been going exceptionally well. Material side is essentially on budget. We are not quite -- I think we are about two-thirds committed, we are about little more than a third out and we are doing pretty well there too. We have a cap on Kennedy as well a cost capital in Kennedy as well for the whole program. Our piece of it we’re being very successful in supporting our piece of the cap there. So we are excited about the way that Kennedy has already started and that’s attributed to what the guys are doing down there on both the Ford and the Kennedy.

Great, thank you very much.

And our next question comes from Ronald Epstein of Bank of America. Your line is open.

Hi, good morning. It’s actually Kristine Liwag calling in for Ron.

Good morning.

Good morning.

With the $1.5 billion in CapEx over the next five years, I was wondering if you would see similar uptick in company funded R&D and what’s your discussion with the Navy? How did you think about risk sharing during a development phase?

First of all, I think, on the R&D side of it what probably is a little bit different for us is that 80% of the R&D that we do is tied more to process than it is the technology in terms of the next gadget or anything like that. And the process investment that we make quite frankly is right now being driven by the capital improvements that we are making. So if you really wanted to be a poetic about it you would say that the capital improvements that we are making in our business, capital investment that we are making in our business is really R&D for this kind of business. I know that’s not exactly right, but that’s a way to think about that is you build the drydock or you can build an aircraft career you have created something that nobody else has and that’s -- it's capital, but in the same way that a new gadget would be something that nobody else has from an R&D standalone. As far as risk sharing goes, it just kind of depends on the program and what you are trying to get done and the Navy is whenever we sit down to have a discussion with the Navy about construction of the platform, we are in a discussion we all know how much has been appropriated for the platform, we are really in a discussion about how we are going to allocate risk on that between the government and the company to get us to a place where we have a reasonable contract that makes sense for both parties. If we are in some sort of development program then the government has been -- that changes kind of the risk equation, take Ford for instance there was a lot of new technology put in on the Ford, the government and the company agreed that the best way to take that risk on was through a cost type contract. Typically, our carrier programs a fixed price incentive contracts, the Kennedy for instance is a fixed price incentive contract. But being the lead ship with all of the risk that goes with that, the company and the government felt like the most efficient way to do that and the most effective way to do that was in a cost type of contract. So risk discussion and development is something that we do all the time with the government and we have very rich discussion about that, but we usually end up coming to some kind of an agreement.

Great. And the follow-up question, if I may and my follow-up is on LPD program. For my understanding in 2016, you have essentially an overlap of two LPDs with the 27 and 28, but then it just drops off to just the 28 after 2017. So I was wondering how should we think about the margin progression of that program as it goes through 2016 and 2017.

Yeah, that’s right we delivered LPD-26 this year and deliver LPD-27 next year. We don’t have to provide margin rates by program specifically, but we think on a long-term basis our ship building business will be at a 9 plus percent.

And what you are talking about on the LPD program happens to us on lots of programs all the time as we wind down one program and start-up other programs. And so, that’s why we try and not to -- we just don’t break it out by program, we are much more blended, it’s the blending of the margins that mattes.

Thanks.

And our next question comes from George Shapiro of Shapiro Research. Your line is open.

Yes, good morning.

Good morning.

Good morning.

Two questions, one on EACs they were as you said Mike $69 million this quarter, I mean that’s very high for the first quarter. I mean last year the first quarter was $55 million and before that it was lower. Is this timing or are we now going to see a higher level throughout the year?

George, this is Chris. It’s really related to hitting some major programmatic milestones primarily on the LDP program. So it’s not really a quarter-to-quarter thing when does the program reach these major milestones when they can assess their EACs and potentially retire some risk. So it was really programmatic and it will remain lumpy as you move through the year.

Okay. Because like last year your average may be for the year more like $60 million a quarter, so this quarter just probably above average then?

Not sure at this point, you have to move through the year and move through the delivery cycles for the ships and will assess the risk when we get to those major program milestones.

Okay. And Mike can you provide some color for sales for the year I mean you’ve been saying that business will be kind of flattish. But even if I take out the $100 million as a one-time benefit to New Port News the sales were still up 6% in the Florida. We’re still looking for flattish or it’s going to be higher this year?

Everything is lumpy George and I would just say that it doesn’t change might view of the business. This is a pretty flat business that’s going to operate in the 9% to 10% range.

Okay, thanks very much.

[Operator Instructions]. Our next question comes from Gautam Khanna of Cowen & Company. Your line is open.

Yes forgive me I’m juggling taking current calls.

Sure.

So just on the Kennedy if you could about some of the major programmatic milestones, we should be monitoring and what are kind of big risk items that we look through the year and perhaps next year. I think quite a potential EAP catch-up or -- I’ll leave it to you to explain it.

It’s essentially the major programmatic milestones in the lifecycle of a ship when risk can be retired. So you can look at builders trails, you can look at launch, obviously delivery so it’s essential or the important programmatic milestones in a lifecycle of a ship.

And over the next couple of years on the Kennedy you’re going not see too many of those really big high visibility kinds of milestones inside of our risk registers. We look at where should we be when we take that unit into the drydock in terms of how complete is it, we complete that we wanted to be, how much work did we differ to the dry dock, how much work did we complete in advance of it going into the drydock. We build these big units out in an area we called the platen area. One thing that I’m really excited about Kennedy is that the units that when we build them in the platen area. But then we take them through the drydock. Ford was good, because we had more complete units on Ford going into the drydock than we have had on previous carriers. But even in the case of Ford, we were still had material issues and qualification of vendors and things like that that typically go on with the lead ship. We’ve got most of that behind us at this point and so the units that are going into the dock on Kennedy today are even more complete than they were on Ford when Ford went in. And we need that to happen to drive the performance the way we wanted to go. And that’s why you see that even with the big learning curve in labor that we’ve taken to drive efficiency on Kennedy. We’re achieving that right now because we’re getting that kind of completion on these kinds of milestones. They’re not terribly visible they’re not going to be anything that you can track really. Because we don’t have a press conference every time we take a unit into the drydock. But it is -- we’re very encouraged by the way it’s going right now.

But I guess to sum up, you don’t view this year as a big [indiscernible] there is not a lot of these risk retirement milestones.

It’s early in the Kennedy program and the Kennedy is going to delivering ‘21 or ‘22 I guess. So our classic approach is to not take credit for risk retirement until we actually retire it. Taking units to the drydock is great, but you got to get through the ship launch, you got to get through the test program there is a whole lot of stuff to work through over the next six or seven years out there for Kennedy.

Okay, I appreciate that. And maybe you’ve covered this, but if you haven’t any comments on where icebreaker stands?

The Coast Guard is talking about an icebreaker program. We’re very interested in that program. And have been working to understand more what their requirements are. And as we move down that path it’s kind on the very front end of the program at this point. The Coast Guard is talking to the industry about what’s the art of the possible. And we’re engaging in that conversation and we’ll see how that plays out and when it becomes a real program.

Thank you very much, guys.

And we have a follow-up question from Robert Spingarn of Credit Suisse. Your line is open.

Mike just while we are on the discussion of the carriers. One of the things we had heard was that on Ford there is a I don’t know maybe the numbers aren’t up-to-date but a couple of hundred rooms that are undone or incomplete. And understandings it’s a lead ship and these things take time. How does that factor in for the company in terms of finishing that work. Is that your work, does that belong to other contractors does that extend revenue to a certain point and then are there any cost per divisions that we might need to think about.

Rob frankly this is the normal kind of pass through delivery for an aircraft carrier. I think you’re talking a city of 5,000 people with its -- complete with its own airport that actually travels around the people at high speed. And so when the ship delivered there is a discussion between the company and the Navy about what are the things that you know enough to do right now there is some things that you won't finish now because the technology is not available to uncertain that space. And so you’ll reserve instead of building the space so you can tear it apart and put something new in it, you just reserve the space until the system or whatever it is the Navy wants to put in there is available. So this goes on in every carrier delivery to figure out exactly what the delivery condition will be and then how does it get moved ahead in terms of get work done do other contractors come in and get to do some of that work it depends on the system. I don’t know exactly really what to say about that except that if you think about the amount of technology -- how fast technology changes. The design and build the detailed design and construction contract for the Ford was signed in 2008. So there is bound to be things that we have not thought about in 2008 that need to be done on the ship before it deploys. And so working with the Navy to make sure we do that as efficiently as possible as part of the normal process.

But to the extent that that work is yours is that like 9% margin work as it comes in or 8% or is it potentially a source of a drag like what we...

What I would tell you is you won’t see it. It’s in the thickness of a pencil in terms of our overall results.

So it’s minutia from a relevant perspective. Got it, okay thanks.

At this time I’m showing no further questions. I would now like to turn the call back to Mike Petters for closing remarks.

Well thank everybody for their interest today. We’re very proud of the work that we’ve done this quarter we’re very proud of the work we’ve done for the last five years. And I think you've gotten a chance now to see in some detail how the blending of mature programs and new programs come together to keep a healthy business in the 9% to 10% range. We look forward to working with you guys over the rest of this year and we hope you all have good day. Thank you all very much.

Ladies and gentlemen thank you for your participation in today’s conference. This concludes the program you may now disconnect. Everyone have a great day.