Good day, ladies and gentlemen, and welcome to the Raytheon Fourth Quarter 2014 Earnings Conference Call. My name is Taheesha, and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Todd Ernst, Vice President of Investor Relations. Please proceed.

Thank you, Taheesha. Good morning, everyone. Thank you for joining us today on our fourth quarter conference call. There is also -- we announced this morning the audio feed of this call and the slides that we'll reference are available on our website at raytheon.com. Following this morning's call, an archive of both the audio replay and the printable version of the slides will be available in the Investor Relations section of our website. With me today are Tom Kennedy, our Chairman and Chief Executive Officer; Dave Wajsgras, our Chief Financial Officer; and Toby O'Brien, who will formally take over as CFO on March 2 of this year. We'll start with some brief remarks by Tom and Dave and then we'll move on to questions. Before I turn the call over to Tom, I'd like to caution you regarding our forward-looking statements. Any matters discussed today that are not historical facts, particularly the comments regarding the company's future plans, objectives and expected performance constitute forward-looking statements. These statements are based on a wide range of assumptions that the company believes are reasonable, but are subject to a range of uncertainties and risks that are summarized at the end of our earnings release and are discussed in detail in our SEC filings. With that, I'll turn the call over to Tom. Tom?

Thank you, Todd. Good morning, everyone. Raytheon concluded 2014 with a strong fourth quarter, driven by global demand for advanced technologies and solid executions across the company. Bookings were better than expected at $7.1 billion, yielding a book-to-bill ratio of 1.16 for Q4. Sales were up nearly 5% in the quarter as both domestic and international sales increased, and cash flow and margins were strong as well. These results were made possible by the dedicated efforts of the entire Raytheon team and I want to thank everyone on the team for the strong quarter and solid year. As I look back on 2014, I'm pleased with our overall performance. We had a book-to-bill ratio of 1.05 for the year. Bookings of $24.1 billion exceeded the high end of our expectations. The company capitalized on key domestic and international opportunities in missile defense, electronic warfare, cybersecurity, C4ISR and training. This highlights our continued alignment with our customers' priorities and our strong competitive position. Furthermore, we're especially proud that we delivered better-than-expected bookings performance, even as one of our anticipated large international Patriot awards moved into the first quarter of 2015. Operationally, we continue to focus on reducing costs, improving affordability and delivering strong returns, while at the same time, we follow through on our commitment to invest in our future. As we look forward to 2015, we expect to continue to perform well. Dave will walk you through our 2015 guidance in a few minutes. Demand from our broad base of customers continues to drive growth in our international business. Over the past few months, I continue to receive feedback from our international customers and investing in national security remains a top priority, given the global threat environment, and you can see this in both our fourth quarter and full year…

Okay. Thanks, Tom. I have a few opening remarks, starting with the fourth quarter and full year results, then I'll discuss our outlook for 2015 and after that, we'll open up the call for questions. So during my remarks, I'll be referring to the web slides that we issued earlier this morning, which are posted on the Raytheon website. Okay, if everyone could please move to Page 3. We delivered solid results in both the quarter and the full year. Fourth quarter operating margin was 14.1% and on an adjusted basis was 13%. For the full year, operating margin was 13.9% and 12.7% on an adjusted basis. Our fourth quarter EPS from continuing operations was $1.86 and on an adjusted basis, was $1.71. For the full year, EPS from continuing operations was $6.97 and our adjusted EPS was $6.12. Our sales for the quarter were $6.1 billion and $22.8 billion for the year. We also generated strong operating cash flow of over $825 million for the quarter and $2.1 billion for the year, after a $600 million pretax discretionary pension contribution, which was not in our prior guidance. Additionally, the company repurchased 7.7 million shares of common stock for approximately $750 million in 2014. The company ended the year with a strong balance sheet and net debt of $611 million. Also, as previously announced, the company acquired Blackbird technologies in the fourth quarter for approximately $425 million. If you turn to Page 4, let me go through some of the details of our fourth quarter and full year results. We had strong bookings of $7.1 billion in the quarter and $24.1 billion for the full year, resulting in a year-end backlog of $33.6 billion. Our book-to-bill ratio in the quarter was 1.16 and 1.05 for the year, and the company…

[Operator Instructions] Your first question will come from the line of Doug Harned from Sanford Bernstein. Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division: I want to make sure I understand the bookings and backlog trajectory better. And you booked $24 billion in '14, that's up from the prior year, and your book-to-bill is above 1, yet your backlog declined slightly. Can you connect those 2 so I can understand why -- how that decline happened despite the good book-to-bill?

Yes, sure. This is Dave. Our book-to-bill in 2014 was 1.05, as you just mentioned. With that said, we did have a little over $1 billion in backlog adjustments, which was in line with the adjustments we've had over a number of years historically. And just to be clear, backlog adjustments reflect several items including currency fluctuations, under runs on completed cost type contracts and scope changes, including scope reduction on contracts and finally, contract terminations. I hope that helps. Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division: Yes, it does. And what I'm just trying to understand is you mentioned some of the areas that you're investing in and so -- to lead to top line growth but when you look at your guidance for next year, you've got a lower revenue number. And if we come in with a book-to-bill again like this and -- what I'm worried about is that you have a trajectory with backlog may continue to decline, and I'm trying to understand when we should expect to see that growth in the top line.

Yes. So Doug, for next year, we see sales essentially in line with 2014, flat to maybe down 2%. As you look beyond the 2015 time frame, we do expect to return to growth in '16 and beyond. And importantly, again, we do see very strong bookings, both domestically and internationally, again, in 2015 that we saw in '14.

And Doug, just one last one there, in 2016, we'll have ramped up on 2 major new Patriot programs, Qatar and the other one that will be coming in this quarter, and so that will generate significant revenue growth for 2016. Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division: But what I'm trying to understand on that is that the international -- a lot of the international orders, as you ramp down, say, on U.A.E, you ramp up on Qatar and others, how do you see that ebb and flow? Because you also have some coming down at the same time and it's quite difficult to track how each of these sort of adds and subtracts from your, I guess, top line.

So Doug, let me try to add something here. So you'll recall, there was a fairly significant reduction in the DoD budget as we entered into the period of sequestration. That impacted the entire industry and Raytheon was not immune from that reduction. So what happened a few years back is now making its way through the backlog and through the sales line. That's partially offset over the last few years by the strength of our international bookings and our international growth. So as we look forward, what happened from 2012 to '13 is now in the rearview mirror from an overall financial performance standpoint. And again, we do expect to return to growth beyond '15. Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division: So does this mean that your expectations for your U.S. defense revenues, you're expecting that to stabilize, which would make the international contributions more positive and allow you to grow? Is that fair?

Yes, Doug. I think you hit the nail right on the head. The bottom line is, is that the defense budget, even with the BCA restrictions in caps, does start to increase in 2016 and beyond. And so our domestic business will start to trend up at that point but at the same time, we have a very, very strong backlog on the international, which we'll also be driving forward in terms of revenue. So we think we see 2016 as a year that we start ticking up.

Your next question will come from the line of Sam Pearlstein from Wells Fargo.

Dave, can you talk a little bit about the cash flow? If I just look year-over-year, you talked about a $900 million less contribution for pension but you don't see operating cash flow go up anywhere near that. So can you just talk about some of the moving pieces as to -- cash taxes and others as to why you're not seeing as big of an increase without the pension contribution?

So Sam, I was literally 100% certain you were going to ask me that question. So let me try to summarize it for you. In 2014, we had 2 items that impacted cash flow at the end of the year. We had the discretionary pension contribution of $400 million on a net basis, and we also saw some year-end collections in Q4 that we had expected in the first quarter of 2015, that's between roughly $100 million and $150 million. So when you normalize for these 2 items, 2014, we did achieve the high end of our guidance at roughly $2,350,000,000. And for 2015, adjusting for the earlier collections, the range would be $2.4 billion to $2.7 billion. So if you look at this year-over-year on a normalized basis, 2015 is roughly $300 million to $400 million higher than '14 at the high end of the range. So I hope that clarifies it for you. I tried to give you some numbers as I was walking through this.

Yes. And then can you give an update just on the GPS OCX program just because there was a lot of press about overruns there? I'm trying to just square that as to is that any impact in why IIS margins, even without the Blackbird, are still showing a decline next year or in '15?

Let me attack that one. On the GPS OCX program, there were some issues, we have worked with the Air Force on those. It is a very complex program, technology advanced. Number one, it is a cost-plus program, development program, and it is revolutionary relative to adding information insurance capability to a very large ground station for the GPS system. And we have been working with the Air Force on that program, we believe that we have turned the corner on that program moving forward, and we don't see any impact in this year or in the out years relative to that program.

Your next question will come from the line of Howard Rubel from Jefferies.

Two questions. Nice to -- good luck, Toby.

Thanks, Howard.

But first is if we look across the board, although you set us up, Dave, a little bit for lower margins and discussed mix, it still seems as if there's a change in the trajectory of the business. And is this as much a setup for what you said is well, we beat our margins from our initial guidance? Or in fact, is there a business change?

No. So Howard, I appreciate you asking that question. So let me start out by saying at the end of last year, when Tom and I participated at the Crédit Suisse conference, we did talk about adjusted margins in 2015 being in sort of the lower 12% range. So again, we're projecting 12.1% to 12.3%. Now there's a number of areas that are important to mention here. Firstly, there is the program mix, particularly at IDS. And we talked about the cadence of the longer duration production programs coming down in '15 as we start out on the new programs that we were recently awarded and fully expect to be awarded in the first quarter and throughout the year. Secondly and maybe more importantly, we are increasing our spend in IRAD and program investments. Last -- we closed out the year last year with IRAD at just a little over 2% of sales. And as we look at 2015, we expect it to be closer to 3% of sales and that is -- those are important technology investments that Tom addressed earlier that position us well for both the top line and the bottom line growth. And then lastly, we mentioned this a little earlier as well, IIS, the acquisition of Blackbird Technologies, from an IIS standpoint, there's about 60 basis points of impact from the amortization of acquisition cost through intangibles. And at the company level, that's about 15 to 20 basis points. Now what I just went through, there is an offset there. There continues to be higher productivity as a result of the focused efforts throughout the company. But when you stand back and look at this, 2015 is a very strong year and positions us well for 2016 and beyond.

Okay. And then I'm going to switch for a moment. And Tom, I know you've been talking about a large $2 billion order for some time and it's always hard to pin down a date. Could you elaborate a little bit on what gives you increased confidence that we'll see it in this first quarter?

Yes. So last year, we had 2 big international awards that we were working to bring in. One of them, we did, which was Qatar for about $2.4 billion that came in December. This other one did slip into the first quarter and we are very close to closing on that deal. Based on the customer schedule, this one will close in this quarter, I'm highly confident of that. And that's about a $2 billion Patriot order. What's significant here, Howard, is both the Qatar and this order will be going on at the same time. So it's definitely going to give us an economic order quantity capability in terms of being able to get the best material buys for those programs. And also we'll definitely be turning the factory 3 shifts on those 2 programs over here for the next 3 to 4 years. So they are very important and are back-to-back, which is good for us.

Your next question will come from the line of Robert Stallard from Royal Bank of Canada.

Dave, we can't let you go without a question about pension.

Yes, we had a feeling that was coming as well.

I thought really, when you mentioned the discount rate had changed but also I was wondering if you could comment on how your rate of return ended up for 2014 relative to what you told us in Q3. And also, what's prompted you in this 3 months' period to change your assumed rate of return.

Sure, yes. We ended the year with a little over 6% actual return on our pension assets in '14. And looking ahead, every year, we evaluate our long-term return on asset assumptions. So in the fourth quarter of '14, we did reduce our long-term target allocation for equities and increased our target allocation for fixed income, and that's principally in order to reduce our overall exposure to equity volatility going forward. The change in asset allocation resulted in a reduction of our long-term ROA assumption of about 75 basis points, and that's basically, in a nutshell, how we see things going forward.

Okay. And then as a follow-up on the guidance. I notice you've increased your interest expense expectations. Can you give us an idea of what's behind that ? I mean, are you anticipating taking on more debt? Or is your cost of debt going higher?

Well, you'll recall that we issued $600 million of debt in Q4. $300 million in 10s and $300 million in 30s. Average cost was around 4% and that's what you're seeing impact interest expense in 2015. It's all fixed rate, that's an important thing to note. It's all fixed rate.

So you're not anticipating any additional debt movement beyond what's the announcement?

Well, look, we're always looking at our capital structure to optimize the financial foundation of the company. Standing back, we still have a very strong A- rating. We've talked about this in the past. We don't see ourselves going lower than BBB+. I think I mentioned that exactly on the third quarter call. So we could, in the future, but I'm not signaling anything. We have a very strong balance sheet and there is room to use the balance sheet from a shareholder perspective and from other perspectives. It's just a very solid foundation.

Your next question will come from the line of George Shapiro from Shapiro Research.

A question, Dave. The margins were down in '14, you're projecting them down in '15 again and then maybe a little bit better in '16. I mean, how do you look at what normalized margin should be? I mean, obviously, the investments you're making are somewhat discretionary. So I just kind of see if you have a -- what your answer to that might be.

Yes. Thanks, George. So let me start by saying our objective is to improve and grow earnings through both top line and margin improvement. So the company's focused on program execution, on cost reduction and importantly, margin performance and we've talked about this before. If you look at the company, changes in mix, the timing of program completions and program starts, all impact margin. In 2015, and I mentioned this earlier, we're making important technology investments that drive future growth in margin expansion. After 2015, we do see opportunity for margins to increase on an adjusted basis, not from only a FAS/CAS basis. And it's driven by a number of different initiatives, in addition to the overall business mix improving over time. Tom and I both talked about strategic sourcing, facility optimization, expanding what we call our Global Business Services, which is our shared service initiative internally. So when you look at all this together, I think you framed it correctly. We do see growing margins in 2016 and beyond. But at this point, we're not going to suggest a target margin profile for the company.

Okay. And one different one, Dave. I don't want to disappoint you because you figured I'd probably ask this as well. How much was international sales up versus domestic down?

International sales in 2014 were up about 1.5% and domestic was down about 5.5%.

And how about Q4?

In Q4, I'm glad you asked that, George. International was up by about 6% and domestic was up over 4%.

Your next question will come from the line of Hunter Keay from Wolfe Research.

I appreciate all the commentary on margins. I'm going to go there again, particularly sort of at IDS. You obviously gave great color on sort of the ramping work in Patriot and all that, but is there something maybe going on? We've obviously always held the belief that international is much more profitable than domestic, which, of course, it still is and will be going forward. But is there anything that you're seeing structurally, particularly maybe in the FMS arena that's causing some degree of pressure on the international margin side, maybe it's the bidding environment getting a little more aggressive? Is it -- should we think of that sort of traditional gap between international and domestic holding as we look out over the next couple of years? Or might we see some compression on some of the international margin side?

Yes. So Hunter, I think it's probably best to let Toby O'Brien handle that question since he just spent 5 or 6 years at the business. So Toby, go ahead.

Sure, Dave. And Hunter, Dave hit some of this in his comments and I'll just try to add a little bit of color to that. I do have a good handle on the business, having been there for about 6 years, as Dave said, and know what drives it. From a big picture point of view, I can tell you it remains a very solid business. There are many things that can impact margins but really, the story with IDS margins in 2015 is driven by mix, program mix and timing. And I think the thing to understand is that we've seen this before a few years ago, where IDS margins did fluctuate year-over-year and then they did come back, okay? And at that point in time, it was the same thing, it was a combination of the mix and the timing related to the program completions and program startups, the same things that are impacting us here in 2015. So this is not a new phenomenon. We don't see any other pressures on the business related to your other question. And to reinforce what Dave said, we would expect to see the margin profile at IDS to improve after 2015 as the mix improves. And these awards that we've talked about, Qatar and the other one that we expect here in the first quarter that Tom talked about, as they move through their production cycle.

And another one on -- maybe this is sort of a backdoor M&A question, but you talked obviously, about even a sequestration comes back into play, you're going to see a higher baseline budget going forward. But obviously, the investment accounts are going to be under a little bit more pressure. Do you guys see yourselves trying to move into sort of getting a bigger chunk of say, the O&M budget to generally [ph] sort of try to offset a little bit of incremental revenue headwinds that you might see in some procurement in R&D accounts?

Well I think bottom line is in fiscal year '16, even with the BCA caps, the domestic base budget does go up. And we also, if you look at the F '15 fi-ed [ph] up, you'll see that the Administration has come in about $35 billion over what the BCA caps are for fiscal year '16. So in either case, there will be a larger base budget. And as part of that base budget the modernization is also going up. And so we believe that the domestic, we will have some uptick business. We're also seeing -- and that's why we're making some investments this year with the evolving threat out there, there's some opportunities for some -- inserting some new technology in -- starting in '16 and '17. And so that's another area why we're moving forward on that. On the LISC, the LISC is a great win for us. It's a joint venture that we have with General Dynamics, and that does give us insight into the ranges across an entire Air Force. So it's a great program for us there just on the base program itself, but giving us insight into what technologies we can bring to bear to the Air Force to help them as they move forward to get to a more affordable solution for all of the ranges. And then the other major area we have is the Warfighter FOCUS Program in terms of training. And we're working with our customers to ensure they have the appropriate training moving forward to be more efficient and from an affordability perspective.

Your next question will come from the line of Jason Gursky from Citi.

Dave, can you quantify either in dollar terms or as a percentage of revenue, the investments that you said that you're making here again in cyber, direct energy, electronic warfare, advanced propulsion? Kind of on a year-over-year basis, how much is growth that we're seeing in the spend here in 2015 and what's the spend trajectory look like for the next couple of years?

Yes. So specifically on the internal R&D, I noted it before with an earlier question, but I didn't give out the specific dollars. Let me start out again by saying in 2014, that ran a little over 2% of sales and in 2015, will be close to 3% of sales. That translates into roughly speaking, about $500 million of direct R&D spend in 2014, up to between $600 million and $650 million in R&D spend in 2015. Now importantly, that's only one element of our overall R&D focus. Every year, we book and bill, essentially, between $1 billion and $1.5 billion of customer funded R&D. And this is another important element of our overall focus on technologies. And lastly, there are occasions where we win large programs, particularly international, where part of the program win is development activity for technologies that we can leverage on the other programs in the future. So I hope that helps and clarifies the way we're thinking about the company in '15 and beyond.

No, that is helpful. But as you look out to '16 and '17 and beyond, are we moving our internal R&D from 2% of sales to 3% in perpetuity? Or is 2015 a special year and we go back to 2% in the future?

No, I'm actually glad you asked that. We're thinking about internal R&D in the upper 2% range for the foreseeable future.

Okay, that's helpful. And then on the yet to be named Patriot customer, can you talk about what region in the world that might be coming from?

Well, the world is a pretty big place. So let's put it this way. There's 3 regions where we have significant demand for Patriot. And one is Eastern Europe, another one is the MENA region, and the other one is Asia-Pacific. And it's in one of those regions. So I can't get into a direct -- but all I can tell you is I do have a team in country. We are -- we essentially completed all of our activities and now the customer is now going through some of their final arrangements, and we look pretty strong here for a Q1 award. And again, it is important because if you take that on top of the $2.4 billion Qatar, that's within a very short period of time, $4.4 billion of pure Patriot manufacturing where we have significant control over, how you say, efficiencies and in driving our material cost down to ensure we provide, I’d say, pretty good margins on those programs.

And can you remind us, the installed base on Patriot is 11 or 12 countries at this point, how many of them still need to have an upgrade?

So we have about -- the new addition of Qatar, we have 13 countries that have Patriot, that's with the addition of Qatar. And out of those, we have probably another 7 -- actually, it's 8, another 8 will have opportunities for the Configuration-3 upgrade. We have the upgrade we've done in Taiwan, we have done the upgrade in UAE. We're doing -- we'll be doing the upgrade in Korea moving forward, and also Qatar, we'll have that upgrade in it. And we've also been doing an upgrade in Saudi on Configuration-3 plus. And then Kuwait, if you remember at the beginning of this year to the beginning of 2014, the first quarter, we got an order for Kuwait for a Configuration-3 plus. So the bottom line is, significant opportunity within the consortium of Patriot users and again, we're up to 13 countries. And with the Polish competition, if that goes in the right direction, that will give us another country and allow us to have 14 participants in the Patriot consortium worldwide.

Taheesha, we have time for one more question.

Your last question will come from the line of Pete Skibitski from Drexel Hamilton.

Just wanted to ask about from a couple of perspectives. One, can you tell us how much Blackbird is going to contribute to revenue in 2015? And then part 2, just on the cash flow outlook, it really looks like at a reasonable level of share repurchases, it really looks like your dry powder is going to build pretty meaningfully over the next couple of years. So should we expect especially now that you've got maybe some better DoD budget visibility, should we expect M&A to accelerate kind of sharply over the next couple of years?

Let me talk about Blackbird real quick here. It is a great acquisition for us, number one, for its technology and also for its channels into both SOCOM and the Intel communities. But in terms of this year, it will give us about a 1% in terms of revenue contribution to the business. Just one other element we -- it is a very excellent management team for Blackbird and also have a great workforce of I would call some very highly skilled technical folks. So we're looking forward to the synergies that we'll be able to achieve via that acquisition.

So Pete, again, Toby O'Brien, the soon to be official CFO, it's probably best for him to talk about his thoughts on capital deployment going forward. So Toby, why don't you handle that?

Sure Dave. So Pete, as Todd mentioned, I won't officially be in the CFO seat here until early March, but capital deployment is something I've spent some time on and given some thought. And Tom and Dave have described our priorities for capital deployment for a while and they've been pretty consistent. And I do believe that our approach has and will continue to serve us and our shareholders well. So bottom line at this point, I don't foresee the need for any meaningful changes to our current approach or priorities. That said, we will continue with an active share repurchase program. We will continue to recommend annual dividend increases to our Board. And given the funded status of the pension plans and where we are now forecasting markets over the next 3 years, we are not currently seeing any need for further discretionary pension contributions. And lastly, as you know, our global growth objective, it's very key to us and will continue to be a priority. And acquisitions that create shareholder value, meaning that they have to make sense economically, they have to fill a gap from a product technology or market channel standpoint. They will become a focus more than they have in prior years and Tom just described Black Border -- Blackbird -- excuse me and that's a good example of an acquisition that met that criteria.

All right, great. Well, thank you. We'll have to leave it there. Thank you for joining us this morning. We look forward to speaking with you again on our first quarter conference call in April. Taheesha?