Ladies and gentlemen, thank you for standing by. Welcome to the Textron Third Quarter 2017 Earnings Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] Also as a reminder, today’s teleconference is being recorded. At this time, I will turn the conference over to your host, Vice President, Investor Relations, Mr. Eric Salander. Please go ahead, sir.

Thanks, Tony, and good morning, everyone. Before we begin, I’d like to mention we will be discussing future estimates and expectations during our call today. These forward-looking statements are subject to various risk factors, which are detailed in our SEC filings and also in today’s press release. On the call today, we have Scott Donnelly, Textron’s Chairman and CEO; and Frank Connor, our Chief Financial Officer. Our earnings call presentation can be found in the Investor Relations section of our website. Textron’s revenues in the quarter were $3.5 billion, up $233 million from last year’s third quarter. During this year’s third quarter, we recorded $25 million of pre-tax special charges, or $0.05 per share after-tax. Excluding these items, adjusted income from continuing operations was $0.65 per share, up $0.04 from last year’s third quarter. Manufacturing cash flow before pension contributions was $279 million, up from $94 million in last year’s third quarter. With that, I will turn the call over to Scott.

Thanks, Eric, and good morning, everybody. Revenues were up 7% in the quarter, reflecting strong commercial demand at Bell, increased deliveries at Textron Systems and higher revenues in Industrial due to the acquisition of Arctic Cat. We saw strong execution at Bell again in the third quarter with a 13.1% operating margin, revenues were up on higher commercial volumes as we delivered 39 commercial helicopters, up from 25 in last year’s third quarter, 8 H-1’s, flat with last year, and 5 V-22’s, down from six last year. We delivered five 412s in the quarter related to the improved order flow we’ve seen over the past year. We also began deliveries of 407GXP to Shaanxi Energy Group in China on the order of 100 units that we announced earlier this year. Also during the quarter, we received an order for eight 407GXPs from Caverton Helicopters, which included Bell’s Customer Advantage Plan support solutions for each of the aircraft. Moving to military, we delivered our first two FMS H-1 aircraft for Pakistan in the quarter. On the development side, our V-280 Valor successfully achieved ground one testing at 100% RPM and remains on track for first flight this year. Our progress on this program was on full display at AUSA last week, where we featured a video of this achievement along with our full-size V-280 mockup. Our investment in this program aligns well with the Army’s stated objective to accelerate product development and realize one of its key modernization priorities future vertical lift. Moving to Systems, revenues were up on higher TAPV deliveries. At TRU, we delivered six full flight simulators in the quarter as we continue to grow this business. In Unmanned Systems, we were awarded an FMS contract in Bulgaria, marking our first international system sale of our Aerosonde platform.…

Thank you, Scott. Good morning, everyone. Segment profit in the quarter was $295 million, down $15 million from the third quarter of 2016 and a $233 million increase in revenue. Let’s review how each of the segments contributed starting with Textron Aviation. At Textron Aviation, revenues were down $44 million from this period last year. Segment profit was $93 million, down from $100 million a year ago, primarily as a result of unfavorable performance and lower volume and mix, partially offset by a favorable impact from pricing. Backlog in the segment ended the quarter at $1.2 billion, up $142 million from the second quarter. Moving to Bell, revenues were up $78 million due to higher commercial deliveries. Segment profit increased $9 million from the third quarter in 2016, primarily reflecting a favorable impact from performance and other. Backlog in the segment was $5 billion at the end of the quarter, down $413 million from the end of the second quarter. At Textron Systems, revenues were up $45 million, primarily due to higher volumes at Marine and Land Systems, partially offset by lower volume in the Weapons and Sensors product line. Segment profit was down $4 million. Backlog in the segment was $1.5 billion, down $85 million from the end of the second quarter. Industrial revenues increased $156 million, largely due to the impact of the Arctic Cat acquisition. Segment profit was down $17 million due to unfavorable volume and mix, pricing and inflation. Finance segment revenues decreased $2 million and profit increased $4 million. Moving below segment profit, corporate expenses were $30 million, down from $53 million last year, largely related to the transfer of the Scorpion program to Textron Aviation. Interest expense was $37 million, up from $35 million a year ago. Our effective tax rate in the third quarter of 2017 was 21.7%, included a net discrete tax benefit of $15 million, largely related to state income taxes. During the quarter, we recorded pre-tax special charges of $25 million. Year-to-date 2017, we have recognized pre-tax charges of $42 million under the restructuring plans that we announced last year. During the quarter, we repurchased approximately 2.5 million shares, returning $122 million in cash to shareholders. We also took the opportunity to issue 300 million of 10-year notes at a rate of 3 and 3%ish and used the proceeds for a voluntary contribution to our pension plans. To wrap up, we’re updating our adjusted full-year EPS from continuing operations guidance to a range of $2.40 to $2.50 per share. We are also increasing our expected full-year manufacturing cash flow from continuing operations before pension contributions by $150 million to a range of $800 million to $900 million, with expected pension contributions of about $355 million. That concludes our prepared remarks. So, Tony, we can open the line for questions.

Thank you very much. [Operator Instructions] And our first question will come from Sheila Kahyaoglu with Jefferies. Please go ahead.

Hi, good morning.

Good morning.

Just on the cash, sorry, the EPS guidance tightening of $0.10, can you maybe talk about where it’s coming? And if it is the industrial business, just what’s going on within the profitability there?

Yes, sure. I think there’s two things that are contributing to sort of going towards the lower-half of our original guidance. And the first is, obviously, as you know, in the first quarter, we did take a charge associated with the TAPV program. So, the business overall has performed to our plan for the balance of the year. We expect it to perform to the balance of the year. But that charge in the first quarter is some that’s basically flowing through the full-year overall compared to our original guidance in that segment. And then on the industrial side, look, I think, we had a fairly tough quarter in industrial, particularly in our vehicle business. The Arctic Cat work is going well, but we have thrown a lot of resources, particularly people at making sure that integration goes well. And frankly, we got a little behind on some of the rest of the business in terms of line rates and production output. As we worked our way through the quarter and as we go here and in the beginning of the fourth quarter, it looks like most of the line rates are back up to where we need them to be, we’re not likely to be able to catch up on some of the miss from Q3. And so I think if you look at those two dynamics, obviously, those I think coming in stronger than the guide Aviation a little bit lighter, again, primarily driven by some lower volume that we originally expected. But those two sort of offsets or the two things that are driving really at this point are the TAPV charge we took in Q1 and just a little bit lighter volume and conversion on the vehicle business.

All right. Thank you. And then just one more, if I may, on the backlog. Within aviation, it was up slightly. Could that be attributed to the Longitude? And then just on that program, how do we think about the ramp up and entry into service?

So it’s not really driven by Longitude, Sheila. So I mean, as you know, we don’t kind of do it model by model. But it really is across other aircraft platforms, which I think is good. The Longitude, I wouldn’t expect to see a lot of backlog going into that until we start getting that production aircraft out there and a lot of people have seen the aircraft and are interested in the aircraft. But now coming out of NBAA, where we have the first customer fitted out version, as I noted in the remarks, it’s going to be flying around here for the rest of the year doing demonstration flights for perspective customers. And hopefully, we will start to see some backlog build as a result of that, but that hasn’t happened yet.

And just on the entry into service?

Oh, entry into service, I think, it’s probably going to be early next year. The flight test program is going extraordinarily well. The aircraft is performing beautifully. We had one of our key suppliers that has some obsolescence issues. And we decided that it was – it made sense to incorporate the latest and greatest new product before we went through the certification program. That’s taken us probably a couple of months longer than we were originally have liked it to, we’ll push off until probably early next year, but no material impact. So we certainly expect to see solid deliveries in 2018.

Thank you.

Thank you. Our next question will come from Carter Copeland with Melius Research. Please go ahead.

Hey, good morning, guys.

Good morning.

Just a couple of quick ones. One, Scott, I wondered if you could expand on the industrial commentary. It looks like maybe the shortfall there was sort of $25 million relative to the plan. And you – I know, you called out unfavorable volume and mix and then additional resources and people on the integration. How much should we think is each of those and how of much that is sort of temporary versus things we got to watch out for in the future?

Well, I think, on the resources piece of it, the piece specifically around Arctic Cat, frankly is going to plan. We’re very happy with how that’s proceedings, the inventory levels that we knew we needed to drive down in the dealer base or happening retail sales are up considerably. There’s obviously a lot of work going on and aligning the product lines and getting dealers up to speed on the full range of both what was in Arctic Cat, as well as what was under development in the Textron vehicle business. So I think, that’s all progressing, the factories are up and running. There are a lot of moving parts here, Carter. We decided to move our engine manufacturing facility from Germany into the St. Cloud facility. So we’re kind of centralizing all of our engine manufacturing, which is also obviously much closer to the final assembling plant in Thief River. We did move all of our dirt manufacturing out of Augusta up to Thief River, which I think is already starting to pay dividends. So, these are all things, I think, bode well for the future of the business. But they were costs some, a lot of work and distraction for the people to go pull that stuff off. In terms of the core of the business, as I said, we got a little behind in terms of line rates and nothing particularly magical, just getting our production control and logistics programs running. We have a new facility now down in Augusta, where we’re consolidating all the Jacobsen things. So there’s just a lot of moving parts that had impacts really across the rest of the core business. So, as I said, I think those line rate as we watch them here going into the quarter are getting back to where they need to be. There’s still some things to work on, but I think this is something we’ll have behind us as we hit into 2018. And clearly, we expect the Arctic Cat deal, it’s up to be accretive as we go into 2018. So certainly, a misstep. A lot going on in that business between the Jacobsen integration, bringing in Arctic Cat, a lot of internal moves, which again, we think are the right answers in terms of driving better productivity and better margins as we go forward, but certainly impact here in the quarter.

Okay. Thanks for that color. And one for Frank. Frank, was there a tax benefit of $100 million or so from the pension prefunding that we should think about?

Yes, on a cash basis, so cash tax basis, we will get a deduction for that contribution. The bulk of that will fall into this year. We’ll get some of that benefit into next year. So it’s spread between the two years.

Okay, great. Thanks, gentlemen.

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

Yes, good morning.

Good morning.

I wanted to pursue, Scott, you were saying in aviation, you had some unfavorable performance if you could provide a little more color on that?

Well, I – clearly, George, the numbers if you look year-over-year, we do have all the Scorpion spend in there. So when you look at relative performance from last quarter to this quarter, I think that – or third quarter to third quarter, the team actually did pretty well when you consider the margin rates that were delivered even with the increased spending. We still had a lot of activity going on with Scorpion and 86, frankly, as we went through this experimentation program. We continue to have a very high spend as we’re continuing in trying to finalize the Longitude certification. So on a cost base nothing really beyond what we would expect. I think the guys did a pretty good job on that. We are a little bit light, probably to volume, where we would have liked it particularly around the turboprops although they were considerably stronger than they were in the first couple of quarter. So we’re encouraged by what we saw on the market on both the King Airs and the Caravans now seeing stronger international demand which were important to both those platforms, but all-in-all still a little bit lighter and like I think part of that’s the market and part of that is what we continue to work on the pricing side, George and we are continuing to hold the line on making sure we are getting priced in the business, we saw that, you guys will see when the Q comes out, it’s falling around $22 million year-over-year, so it’s a line that’s obviously tough to hold that line in the market, but we are doing that and I think that’s going to – we’ll continue to trade that versus some volume.

And Scorpion R&D, as Scott you had said on the second quarter would come down a little bit, this quarter it doesn’t look like it did maybe, but if you could explain around that and how much we might expect for the year?

Well, it did come down somewhat, George, and it will come down pretty significantly here in the fourth quarter, now I think the fermentation program is done.

Okay, and if I take a look at latitude Scott, you said you delivered a 100, but if I add up all your deliveries through the year, I get about 93, I mean is that seven already in the fourth quarter, if you can reconcile the difference for me?

George, you probably have better data than I do on that then, I thought it was a 100 through the end of the third quarter was the number I was referencing, but we’ll probably have to maybe have an offline call with you and try to reconcile our database and your database first, but the number should be a 100 through the end of Q3.

Okay, and then one last one on industrial, I mean you had guided earlier to a margin of 9% and with the dilution it came down to 7%, I mean what does it look like now for the year?

Well, it’s going to be lower than that obviously, so I don’t think we’re probably prepared to give a specific number, but it’s going to be…

A bit lower than that.

…a bit lower than that.

Okay, thanks very much.

Thank you. Next question in queue is from Seth Seifman with JPMorgan. Please go ahead.

Thanks very much and good morning. Scott, I wonder if you could talk about the hemisphere program, we had the announcement of the delay on the Silvercrest engine and the source says that all options around on the table as far as that goes, how do we think about the future of this program from your point of view and how you are thinking about approaching the development next year?

Well, that’s a good question. We just learned about the issue on the Silvercrest compressor, kind of with everybody else at NBAA. We’re obviously in discussions with their team to understand and in fact as they determine, I think this is still a relatively early on in terms of their understanding of what the problem is and they are still doing the work of exploring what the range of options might be to solve the problem. So it’s probably premature to really know what that impact could be, it could be a minor impact, it could be a more significant impact, we just – we don’t know enough yet. All we’re really familiar with is sort of how it manifests itself, it certainly sounds like a high pressure compressor issue, which is exactly what they are describing I think that we need to give their engineering team a little of time here to figure out again what that range of options is. We have continued to work on hemisphere obviously with our customers and doing a lot of our ergonomic work in modeling and supplier selections and all those kind of key things which need to continue to happen. So we are running that at a rate appropriate to that and I think we’ll keep doing that and then based on where the Silvercrest is, obviously we can regulate you know what we do in terms of a program span based upon that.

Great, thanks. And then maybe one more for Frank, it looks like you are on track this year for about $68 million of pension expense. If the year ended today and we think about the contribution you just made, how do we think about the impact of the contribution on next year’s pension expense possibly offset by the – or probably offset by the additional debt that you took on?

Yes, well, I mean obviously a lot will depend on interest rates at the end of the year and returns and so on for this year. At a simplistically level if you think about kind of the 7.5% rate of return that has been our return assumption and look at the 3.375% cost of the debt, kind of that spread differential with some other kind of – there are some other impacts, but is generally ballpark type of impact having to do just with the contribution. I’d say, overall from a pension standpoint, as we talked about before, we think as we move into 2018, again, there’s a lot still to be learned about where things are set, but we should get a little bit of a tailwind associated with pension.

Okay, great. Thanks very much.

Thank you. Next question in queue comes from Jon Raviv with Citi. Please go ahead.

Hey, good morning.

Hi.

On Bell, can you just go into a little bit more on the nature of the commercial positivity. What sort of end markets is that coming from, or is a lot of it is related to those larger deals you’ve signed over the past year?

I think, it’s, I mean, the activity we’re seeing is pretty broad-based. So you do have deals out there that are fleet deals like some smaller oil and gas kind of guys, but there’s a fair bit of yet in executive transport going on. There’s a pretty broad range of EMS activity. There’s some foreign military whether it be border petrol, customs, police. It’s not concentrated in any one particular area, which is good frankly, right. I mean we don’t see just one sector, it’s some life across most of the areas, and it’s pretty broad-based geographically as well. So we’re seeing activity in Southeast Asia, we’re seeing it in Africa, we’re seeing in South America. So it’s a fairly broad-based. Again, we don’t want to basically, I think, the overall market is still weaker than it has been in previous times, but it’s much better than it was couple of years ago. And I think, our team is doing pretty well from a competitive standpoint. We’re seeing again, strength in pretty much all the models, obviously, 505 is a brand new as they come out. But sales are being good on 47s, 429s, 412. So it’s pretty much across the breadth of our platform and then do a pretty broad-based range of geographies and end applications.

Thanks for that color. And then speaking at Bell, the thinking about the margin strength this year, you laid out what’s going on there and some of the good performance? What’s the opportunity to hold on to that kind of profitability as 505 ramps up perhaps as 525 spending as the level of spending picks back up again. Can you give us some sense of how those things trend going forward?

Well, like usually – we’ve usually talked about that business being able to perform in that 10% to 12% kind of a range. Although I think 13 is sustainable over a long period of time is a pretty tough part, okay? I mean, obviously, the guys have done really well this year to drive productivity and efficiency. And yet there obviously, we had a good mix with some strong 412 deliveries this quarter as well. So I’d say, 13 is too strong, but it’s going to remain a good healthy margin business.

Thanks, Scott.

Thank you. Our next question will come from Julian Mitchell with Credit Suisse. Please go ahead.

Thank you. Good morning. Maybe just my first question on the Aviation, King Air has had a tough time, I think, on your volume delivery profile for about 18 months now, still light in Q3. Just wondered how you’re thinking about, if you still think second-half deliveries can be flattish in aggregate for those, and how you’re seeing overall kind of order and inquiry levels if that’s giving you any optimism for the outlook for the next year?

Well, Julian, I think that, first of all, you’re right, both the King Airs, which are generally speaking have a pretty strong international marketplace. I think over the last 18 months have felt a lot of the pain of a very strong dollar and weaker economies and that’s what we’ve been experiencing. Again, I think, the good news here is that in the third quarter, while it’s not what we delivered a year ago was certainly a lot more inquiries and a lot more sales and order activity than we’ve seen for a while. So that bodes well, I think. Do I think we get the flat for the balance of the year? No, probably not. But I do think, given the level of inquiry and activity that it’s going to be stronger than it has been in the first-half of the year. So definitely we’ll finish the year here with a stronger King Air performance we saw in the first-half. And again, it’s to look into next year is pretty premature at this stage of the game, given the nature of how things orders and sales convert. But we’re certainly happier with the level of activity in the marketplace right now than what we saw for the past year, let’s say.

Thank you. And then my second question around the cash flow very good performance year-to-date on working capital, particularly versus the same period in 2016. I just wanted to clarify if all of the cash flow guidance increase was tax-related or some of that was due to working capital as well? And then maybe any color you could give on how the introduction of the Longitude should impact your working capital from here over the next six months or so?

Sure, Julian. Well, look, as Frank said, we do get some cash tax benefit here in the year. But most of this is driven by better performance in terms of just manufacturing cash flow and a big chunk of that is in fact working capital. As you know, you look at the number, we’re – we generally just the natural cyclicality of our businesses is that you usually see the working capital burn off through the fourth quarter, and we’re at a point this year, where we’re basically kind of where we started the year. So we’ve had a – the teams have done a much better job on working capital management. And by the way that includes some pressure points like ramping up Longitude. So we are already in producing aircraft, which obviously won’t sell until next year. So, but despite that, when you look across the businesses, we already have working capital back to sort of neutral in the year. And obviously, we’ll expect a considerable burn down here as we go through our normal cycle in the fourth quarter. Obviously, net working capital come down further. So the majority of it is the team delivering better manufacturing cash flow and that big chunk of that obviously is a working capital.

All right. Thank you.

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

Hi, this is Bill Ledley on for Cai this morning. Wanted to go back to aviation a little bit and book-to-bill was 1.1. And you mentioned some favorable pricing. So could you perhaps call out, what’s stronger both from a volume and pricing standpoint? Is it biz jets or King Airs? If you’d give some more color there, that would be great?

I don’t think we’re going to go sort of model by model. But we’re – the market in general has been flattish, which is kind of what we expected on the jet side of things. I think, that the pricing activities are obviously helping and we continue to hold the line on that. And as I said earlier on the call, we will trade volume to price. We just – we’re pleased with some of the increases that we have, but it’s – the price levels are still, in my view, too low to look at the amount of investment that goes into producing these aircraft and designing these aircraft. And so we’re going to continue to push on the price obviously as we go forward as well, and if that means some lower volume then we’ll take some more volume.

All right. Thank you.

Thank you. Our next question comes from Rajeev Lalwani with Morgan Stanley. Please go ahead.

Good morning, gentlemen. Thanks for the time.

Good morning.

Scott, coming back to Bell, can you talk about the government side of the business. And what are going to be the big drivers there over the next, say 12 to 24 months before submitting new products get rolled in?

Well, look, over the next year or so, V-22 is a relatively flat number in general. We expect H-1 to be up a little bit. Again, as we continue some FMS activity as we’ve seen with Pakistan this quarter that’s – I don’t think there will be huge shifts going on there, Rajeev, it’s going to be probably mostly up on H-1 and relatively flat on V-22, program performance is good. I would expect that to be a fairly stable part of Bell here in the next couple of years.

Thanks. And then moving over to the industrial side. Once push Arctic Cat aside, what’s going to be the driver there as we look forward to kind of a similar question?

Well, if you look beyond Arctic Cat, that’s the core of the business that we used to have. I think, we’re doing well in most of that segment. I think, if you look into Gulf place, these are new products with the lithium-ion batteries are doing very well in the marketplace. Frankly, it’s a new product launch, it’s gone extremely well. We continue to see strength in the what was the target market in terms of GSE. We actually had, continue to have strong order rates there. We’ve got make sure we can line our production and get the deliveries and the output out, but the market in terms of order activity is very strong. And again, the rest of that market, I think, is in good shape. Most of getting deliveries and whatnot are – for us during the quarter was a matter of getting our lines up and running and getting to higher rates.

Excellent. A quick housekeeping question for Frank. Frank, what’s the tax rate benefit in – for the year on the earnings?

Tax rate benefit, I mean, the – well, I guess, we – given the tax rate of this quarter and year-to-date, we’re looking at kind of 26.5% or so full-year tax rate. There is no tax benefit from a rate standpoint associated with a pension contribution, if that’s part of the question. It only impacts cash taxes. It’s actually a little bit of a headwind from a book tax standpoint just given some other deductions and things.

Very helpful. Thank you.

Thank you. Our next question will come from Peter Skibitski with Drexel Hamilton. Please go ahead.

Yes, good morning, guys. Hey, Scott, I think you touched on this last quarter. But can you remind us, again, why the ramp on the 505 is going so slowly? Is that, you had a lot of LOIs last I checked. So is it converting to LOIs, or is it execution at Bell?

Well, it’s just ramping the production. It’s getting the certifications outside the U.S. and getting the other certification. So there’s nothing significant going on there, I mean, or different than we would really expect the LOI conversion rates are very high. So we’re not concerned about that. The order book is certainly there and the ramp is coming along.

Okay. And then can you just give us an update on kind of where we go from here on Scorpion?

Well, I think, in general here, the Air Force in terms of its experimentation program has been frankly very transparent, very open about how they saw this whole thing playing out. Dates and activities and what not were exactly as advertised. I think, the program went very well. We were obviously thrilled with how the aircraft did. We had very good feedback from Air Force pilots that flew both the Scorpion and the AT-6. And the Air Force is also very clear through the whole process that, once they finish the experimentation program, they were going to sort of take all that information and then determine what their next steps might be. And I think that’s the phase they’re in. So we’re sort of standing by, while they decide what it – or the next steps on either or all aircraft and how they want to move forward. So I think, we’re – they’re doing that and we’re just kind of standing by and see how it plays out.

Do you still need to wait for some sort of surge from them to get an international sale?

No, we don’t. I mean, I think, from an international standpoint, Peter, as we talk to customers and continue to have interaction with customers, there are certainly some that would want to see this thing have a U.S. certification or a worthiness declaration of some kind in our other customers that don’t, as a military aircraft, that’s not necessary. So, you definitely see differences in different countries and their approach to this. But there are certainly some that we’re engaged in for whom a U.S. Air Force airworthiness certification is not required.

Okay, got it. Thank you.

Sure.

Thank you. Our next question that will come from Sam Pearlstein with Wells Fargo. Please go ahead.

Good morning.

Good morning.

Just wanted to follow-up in terms of, we talked about the Bell margin before, but just on the aviation margin, given your 5.6% kind of through the nine months would seem like it’s going to be a challenge to get to your original plan of the 7% to 8%. Can you just talk about how we should think about the year? I know Scorpion R&D is supposed to be falling, which is how should we be thinking about the remainder of the year?

So, in terms of the R&D, it’s obviously going to ramp down here. Over the course of year internal Scorpion, the activities are pretty well wrapped up. We’ll have a little bit of activity going on with some international customer demonstration flights and some things of that nature, but it will be a relatively small number. In terms of the overall Aviation segment number, as I said earlier on, I think, it will be lighter them what we were originally guiding. Obviously, the guide included the Scorpion spend, but I think we’re going to be probably a couple of hundred million dollars under – from a revenue standpoint, but we’re seeing that through the course of the year, right, with particularly around the King Airs and the Caravans, and again, we continue to push on the pricing front across all these platforms. So we’ll probably be a little bit lighter on revenue than we were anticipating in our original guide.

Okay. And just in terms of pricing, I mean, what are you seeing in the marketplace now, obviously, you’re trying to hold the line, lots of others, it sounds like there’s still plenty of price discounting. Have you seen just any overall change in the trend within the marketplace?

All right. I don’t – I can’t, I don’t know how to comment on that. Any way other than to say, we still feel like we’re winning our share of the deals that are out there. We’re just holding the line on trying to be responsible in terms of what we need to do as a business. And is there any difference or change in what the other guy are doing? I can’t really speak to that nothing that has jump to the forefront. But I think our share is still strong and I think customers understand that there’s still pricing aircraft way below where it was historically. I mean, it’s a problem, and I think people appreciate. We’re investing a ton of money in the business on things like Latitudes and Longitudes and Denalis and they are – at these margin rates, so that I think the team – guys are doing a good job. And you need to have better margin rates in a business like this to be able to sustain the level of investment is good for our customers. So, we’re going to continue to hold the line on it.

Okay. And then if I can just follow one last question up on terms of the Arctic Cat and the integration. You talked about the distraction maybe impacting some of the production. But have you seen any success in moving your product into their distribution channel and anything from the going forward side that’s that showing improvement?

Yes, I think we have. In the retail, sales have been strong on a year-over-year basis. Some of that is clearing out a lot of the older inventory. But as we’ve been getting the dealers together and now being able to go into those dealers and bring not only what they may have had historically from Arctic Cat, but adding some of the Textron Off Road product, name the Stampede, you may have seen we just announced the Prowler EV. So, we’re obviously integrating these – the branding in the – at the product level and some of the technology that we bring into the EV side, as those products are rolling out. They’re doing well in the marketplace, and so we’re seeing dealers pick these up and we’re seeing retail sell-through. So, it’s still early, obviously. It’s a lot of work to go through and change – now the good news is, it’s a good change for them. It’s a much better product line. It’s a stronger product line. But I think it’s being well received and there we feel good about where it’s heading.

Okay. Thank you.

Thank you. Our next question in queue will come from Noah Poponak with Goldman Sachs. Please go ahead.

Hey, good morning, everyone.

Good morning.

Hey, Scott.

Scott, I guess, just kind of big picture top down on the business jet at market. Some of the leading indicator data has improved, flight hour growth has accelerated, used inventories come down a little bit recently, especially the youngest batch in that bucket of used inventory. But I hear you call – still calling at a flat market that’s kind of how it felt at NBAA. You had a little bit of sequential growth in backlog, but it sounds like turboprop got better and that never quite sure what’s happening with your – the movement of fractional into that, and maybe that helped out a little bit too? So it – I don’t know, I guess, sort of what’s the remaining disconnect between some of this leading indicator data and having a more definitively robust business jet market?

Well, that’s the million dollar question, so…

I asked it.

Look, let me, look, I can give you color on a couple of things. So first of all and towards the backlog, again, we don’t really go into model by model or customer by customer here. But there’s no material impact on the fractional thing, as we’ve talked about in the past, the way we tend to work with net jets, which is obviously our big customer in that space. We’re basically because of how we sort of look at the timeline of deliveries with net jets, it’s sort of more or less deliveries in a quarter equals the amount of aircraft we’re adding back into the backlog, because it’s pretty steady flow of aircraft.

Okay.

So from a backlog standpoint, that’s not a material change. In terms of, are we seeing that activity in the market in terms of utilization rates being up? Absolutely, I mean, I think, we had a good quarter in our – in the aftermarket business, and some of that, maybe there’s a little bit of pent-up demand in there. But as you see increased flying that usually translates to increased activity in terms of the service side of our business, and we certainly saw that in the quarter, which is good. I think in the end market, look, your statistics are all correct, right, I mean used does continue to come down. I think they are – we still struggle with this notion that used aircraft pricing doesn’t seem to want to move up, right and so that does pressure customers because the trading values and the step-up to new aircraft is more challenging when these guys have low residual values and despite the fact that used aircraft availability has dropped significantly over the last ex number of years, we are not seeing that reflect in used aircraft pricing. So, that dynamic I think is still one that weighs on people and it’s a nontrivial economic impact to them. So, look, I think as we move on a lot of guys out there are flying older aircraft, they are seeing higher maintenance costs and they do want to step up and look, the challenge for us is that we can’t make up for the lower residual value of the used aircraft by lowering the value of our new aircraft, okay so that’s still a pressure point right. People want us to try to make up for that low residual value and I just can’t – I can’t do that and maintain any kind of reasonable margin and return in the business. So I think the demand is going to be out there and – but again we haven’t seen, I would love to see, we obviously don’t control those, we would love to see residual values of used aircraft coming up and that would take some pressure off these customers, but look that’s not something we control and it’s a little perplexing to us as you see tightening – when the market tightens up for those used aircraft, why you are not seeing some lift in the pricing, but we haven’t seen that yet.

To me, when I look at that chart on a long-run basis, it has come down recently and it’s been on a steady decline over the last several years, but it’s still on an absolute basis much higher than it was in any point all of last cycle and so it just – it leaves me wondering if, yes, there’s been a tightening, but on an absolute basis it’s just still too high and there are still too many options in the used market and that’s why pricing hasn’t firmed up there? I mean is that a reasonable assumption and you just have to burn it back to where it was 10 years ago or 12 years ago before you get that better pricing?

Well, I think there is a dynamic – first of all, it’s a much bigger market, right, so the number of aircraft that are in the fleet is much higher and so therefore with similar percents we are going to have for sure more aircraft that are out there and I’m sure that’s part the dynamic. You know I don’t – to think that we could get to where used available was in that 2006, 2007, 2008 timeframe, I don’t think it’s realistic, I mean it was a distortion the other way, right. People were selling used aircraft little more than new aircraft because you get one, it was a – so I think that people have to kind of get their head out of that, that’s where the world is going. I mean these aircraft do depreciate, right. There is going to be a depreciation over a period of time, it’s not going to be an asset that appreciates, which is what we saw in that, say, 2002-2003 through 2008 timeframe, I think that was a probably as I said a distortion in the other direction, so. But anyway, look, that’s – I think that is a dynamic now when you look at what people will have an aircraft and what the reality is of what that aircraft is worth as a used aircraft. But the good news is, there is a big market for those, the liquidity in the market is quite high, right, people are turning aircraft, people are buying aircraft, that’s not – this is not like it was when we were kind of in the dark days where there is an illiquid market and nobody was buying them. So there’s a lot of transactions that’s not hard to move used aircraft, people just have to get comfortable with that the reality of how these things depreciate and what that residual value is over time is different than it was if you went back into the early 2000s.

Okay, that’s really helpful. On that industrial margin, so for it to be slightly less than the seven you had previously been forecasting for the year would imply basically kind of stepping back up into the sort of seven handle vicinity in the fourth quarter, so it sounds like that 3Q number was fairly anomalous, is that the right interpretation?

Yes.

Okay.

Yes, so I think all we were saying earlier and I was like, I think we’ll get things back on track here in the quarter, but I don’t see a way to make up for the NOP loss that we had from our plan in Q3 and that’s why we’re kind of rolling that three to four year guidance.

Yes, just trying to understand the run rate given the differential between the quarter and where you kind of had been?

Yes and I think it’s fair to say that our run rate should get back up to a normalized rate in Q4.

Okay and then lastly, Frank when you were asked about tax rate, understanding there is no P&L tax benefit from what you did with pension, but there was a much lower tax rate in the quarter on the P&L. It sounds like you’re saying the new earnings guidance, P&L earnings guidance has a 26.5% tax rate in it and the prior range coming into today had a 28.5% rate in it, is that accurate?

Yes, basically roll through this quarters lower rate kind of to the full year just that type of impact, so kind of 29%, 30%-ish fourth quarter is where we sit right now.

Got it. Thank you.

Thank you. Our next question in queue that will come from Robert Stallard with Vertical Research. Please go ahead.

Thanks so much, good morning. Frank or Scott whichever one of you want to take this, you were both making comments about pricing in aviation and how you want to get better pricing, better margins going forward, and you be prepared to sacrificing volume. When volumes stabilize and since you are trying to get higher, what sort of incremental margin you think we should be expecting given this more robust stance on price?

Well, Rob…

Hi, Eric Salander here, so a lot of things going on here, just in terms of the investment in the business and R&D and what not, which obviously is quite higher this year than it was – last year was – being in there, so you can’t do the usual sort of quarter-over-quarter similar volume and expect what kind of a number. Obviously as we always talked about in the business when we really do get similar mix, which again is a significant issue here that we expect kind of 20% margin conversion, we’ve been obviously pressured by achieving that number based on a couple things, one is obviously we had higher R&D as we’ve put the Scorpion into the business and we’ve had a pretty challenging mix thing as we talked about beginning of the year, we’ve seen reductions on the turboprop side, including our military turboprop, which are our good margin business and we’ve seen a lot of our increase this year has been around the latitude. Now the good news is the latitude as we look year-over-year based on the pricing actions that we’ve been taking and cost actions and we are getting better margins, but they are dilutive to that overall 20% number, so the mix here has been a challenge, but on a normal – in a normal world, in terms of similar mix and whatnot, we would expect to see kind of those 20% numbers.

And presumably, heading into 2018 should be the case with longitude coming in, latitude being a like for like comp thinking on that?

Well, we will always have the first – hopefully a relatively small number of longitudes that are going to be more challenging, because they are the initial production units, but yes, as we get probably more towards the back of the year and you get production stable and kind of get real run rates going, yes, that would true.

Okay, and then secondly on the cash front, does this pension contribution remove any potential contributions into the future and if that’s the case, what are you going to use that additional cash flow for in terms of returns?

So it certainly helps negate any contributions, so as you look at it today kind of barring some significant market events, yes it pushes things out so that we wouldn’t expect additional required contributions other than our non-funded plans. And obviously as we’ve talked about, we’ll continue to prioritize kind of use of cash the same way we have which is continuing obviously to invest organically which is just R&D and things like that. Obviously capital for the business in terms of excess cash, we’ll return that to shareholder through share repurchase and that’s what we’ve been doing. Obviously we continued to buy stock in this past quarter and we’ll continue that return of capital as we proceed forward.

That’s great, thank you very much.

Thank you. Our next question in queue that will come from Peter Arment with Baird. Please go ahead.

Thanks, Good morning Scott and Frank. Just a quick one, as all my questions asked. On the 525, the flight test program there, how do we think about the impact on kind of margins as we get into 2018? Is it something that ramps up materially or is it something that gets fairly linear and absorb throughout the year?

I think I mean the 525 specifically, obviously we’re are back in flight test, things are going well, that will ramp up here as we get more aircraft back in the air through the balance of next year that’s – I think that’s factored into our overall R&D numbers, Peter. And again, given where the program is, it sort of has peaked, I think in terms of its R&D consumption and obviously we’re going through a flight test program here for the next year or so. So that will be baked into our plans into our guidance, I don’t see it having a material impact one way or the other. You won’t start to see deliveries of that aircraft really until 2019. So in terms of any mix issue I would not expect to see that in 2018.

Okay, that’s helpful. And then just a follow-up, on Scorpion you mentioned that you might not have to have a certification if you do some international. But if you do pursue that, how long roughly on a timeline does that take?

It’s probably something on a 18 months kind of line in terms of U.S. Air Force process, as you know we’re already working here with the U.S. Air Force entitled to all this other stuff that’s been going on. So that’s probably something on that timeline. When I talk about other countries that don’t need it, I mean obviously they do their own certification work and already talking about us how we work with them to do that. So those processes are probably a little quicker just because it’s largely internal activity, but not something that would hold up sales or an order and that would be all incorporated as part of a program with the foreign customer.

Yes, that’s helpful. Thank you.

Thank you. Our next question that will come from Myles Walton with Deutsche Bank. Please go ahead.

Thanks good morning, thanks for taking the question. First one is on Cessna and aviation general excluding the latitudes are you – or excuse me, the longitudes coming into 2018, are you expecting jet deliveries overall to be up in 2018 or is the expectation that longitude is the net add, maybe subtracting a little bit of legacy?

Myles, I can probably answer that question for you in about three months.

Okay. Well, I’ve imagined you’re working your production system, just wondering if there’s any working capital management that’s helping the cash flow this year as it relates to the aviation side or just more broad based?

No, it’s more broad based. Like I say, we’re actually having to absorb the ramp on longitude, I mean obviously the aircraft that we expect to deliver in the certainly at least the first-half of next year and really probably now into the third quarter next year our aircrafts that are already in various stages of weapon. In some cases actually are all the way to finished goods, right. So that aircraft that we’re flying around is a production unit. So there’s definitely some pressure from our working capital to support the ramp of a longitude, but that’s normal with any of our new products and we’re just working to offset that working capital everywhere else in the business.

Okay and the other one, Scott, maybe in industrial as a higher level question. But it’s over half of the industrial business is fuel systems and the trend to electrification is obviously long, long-term but you have to start thinking and position this business for the next 10 years how do you look at that piece of industrial change it to a bit just position it for what may be a different world 10, 15 years from now?

Well, Myles, I think there’s no question that the automotive industry and it’s sort of a power plant is going to change over time. And I can tell you that a lot of the work that we’re doing right now in Kautex with OEMs around the world, frankly there is already a significant shift going on in terms of how people think about hybrids, like I think the notion of a full electrification is something that’s going to be a much longer timeframe in terms of any material portion of the industry. But there’s no question that the hybrid technology is going to become a much, much higher proportion of the market here over the next 10 years. And we’re working with a lot of those customers that actually does require some different technology in terms of how you support and build fuel systems that are hybrid, there’s just a lot of – not to get into too much of the technicalities here, but the structural issues around the fuel system, the fuel tank where you don’t have a constant draw of fluids and vapors out of that tank for a normal combustion engine. But can run for long periods of time on the electric side of a hybrid does drive some difference in the technology and that’s something that we’re already working and frankly already winning a number of programs that are our new products that they’re going to have sort of these seven to 10 year horizons that we’re working on right now and have already won on the program. So we are certainly sensitive to the changes that are going on there working with the customers to do that, but a full electrification at least I think when you do look at other guys, that’s going to be a fairly small piece here over the next decade, but hybrid is a whole another issue, I think we’re going to see a significant proliferation of hybrid technology.

And is that a place where you’re willing to put incremental capital in terms of acquisitions, despite the unknown about where the market goes in the next 20 years, or is this an organic you can adapt to the hybrid move?

This is purely organic.

Okay.

Purely organic. Obviously, it’s a different pooling. It’s like a normal new platform, where you’ve got to invest in new tooling and downstream and things like that, but this is purely organic. And to us, while it’s a different technology is not different really from a business model or business process than what we do today.

Okay. Thank you.

Sure.

Thank you. Our next question in queue will come from Ronald Epstein with Bank of America. Please go ahead.

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

Hi, Kristine.

Scott, last month, GE announced that it’s grounding its fleet of corporate jet. But your conversations with your corporate customers, do you think we’ll see another wave of strategic change of how corporates look at their fleets? And if so, how much of the headwind do you think this could be in market recovery?

Look, I don’t think that it is. I think when companies look at this thing from an economic standpoint. I think, they recognize the productivity in the value of using corporate there and the timing that saves. I mean, it’s a huge productivity boost. I think if you talk to any of the customer trade groups, the NBAAs, people have them and use them, it’s a huge productivity boom for the company. As to whether you use your own aircraft fleet or fractional or charter is driven by economics around how many hours a year you use those aircraft. So, looking our view the GE thing doesn’t make any sense, unless you’re going to stop flying corporate aircraft, when you fly that many hours, the economics is on your own aircraft is the right way to go. And I think that’s the feedback we get from our corporate customers.

That’s helpful. And then maybe following up on your comments on pricing in aviation and you discussed how you’re using volume to manage some of the pricing expectations in the market. What’s been your customer feedback and how do you approach customers that have been used to seeing discounts in the market to start getting them to believe that pricing is not coming down from here?

So we’ve been doing that by not lowering our prices. Frankly, look, I mean, customers are always going to look for the best deal, I think, everybody does. And as we have these conversations, there are always easy conversations. But we try to impress upon us, look, we’re trying to run a business just like they are. And when you look at that relative price to market, it’s – these aircraft are a great deal even at the current price levels compared to what they have historically been, and it’s a great value. It’s performance, it’s economics that work for them. So I think customers are starting to believe it, because we’re not getting the ends of quarters and giving lower discounts to move aircraft. We’ll – as I say, we will take the trade on having a lower value – or I’m sorry, having the lower volume on those aircrafst. And I think, certainly, we’ve had customer test that. And we just say guys, look, it’s a great deal and we want to do business with you, and – but we’re – I’m not going to drop this pricing. It’s just, it’s not sustainable to be able to make the kind of investments that we need to make to support our customers and to have those next generations of products and not have reasonable margins on the products we’re selling today. So, yes, tough discussion, but I think, these things are still an incredible value at these price levels. And, as you can see, we still – we get a lot of deal done. But there are some more guys are still going to continue to test. And that’s fine, we just won’t close those deals.

That’s very helpful. Thank you.

Thank you. Our next question comes from Drew Lipke with Stephens. Please go ahead.

Good morning guys, thanks for squeezing me in here. Real quick on systems, the margins there managed to hold flat sequentially despite no Sensor Fuzed Weapon in sales and the unfavorable mix of TAPV, I’m curious what drove the margin strength there and what’s kind of the outlook for the rest of the year?

Well, I think the other parts of the system business, our unmanned business, our support and services businesses, our fee-for-service flight businesses continue to deliver solid performance and I mean that’s really what’s making the difference. As you know we had higher volume, our higher margin is driven around some of the SFW sales which are obviously not going to be here in the back half of the year, but I think we’re trying to stabilize the TAPV program and again just to kind of get that thing behind us, but strong performance in other parts of the systems, namely in unmanned systems and support solutions and these areas that are helping to make up for the loss of having the SFW program here in the back half.

Great and then on Bell, just maybe directionally looking at backlog there, can you parse out the commercial backlog and the changes that you are seeing maybe on a year-over-year and sequential basis, again just directionally?

No, we don’t. You know as you guys know the dynamic of the Bell backlog goes through this cycle because we don’t add the next multi year by – or the next year is multi-year component until we get into the process in the fourth quarter, so it’s basically just doing its normal cycle that’s all.

Okay, and then just last one, aviation aftermarket, can you talk about what steps if any you are taking to maybe capture more within the aftermarket and then as we think about the ADS-B mandate in that March theoretical backlog of work there, do you think that’s going to be a meaningful driver to spur aftermarket demand going forward and how should we think about that impact?

Well, I think the AD is a bigger driver in terms of what we’ll see in the aftermarket side of things. As you know we’ve in general been open to taking back some of our aftermarket in terms of service centers and we’ve played that out in a number of locations and that’s gone well and we would always kind of look for opportunities to do that in the future as well, because I think that we have some good third-party service guys, but as we have opportunities to increase doing more and more of that direct, we will continue to look at those opportunities as we have done in the past, that strategy has worked out well. ADS-B is not a huge deal for us, I mean it’s a huge deal to our customers and the cost, but really the lion’s share of that is I mean we do a lot of those installations, we’re doing those as we speak. So it does drive visits into the shop to do it, but a lot of those dollars obviously are the equipment which is being installed as opposed to the service labor which is really our content of doing that. So, it’s not a – it is a significant cost to our customer, but it’s not a big upside to us by any means.

Okay, all right. Thanks, guys.

Okay, ladies and gentlemen, that concludes our call. Thank you for joining us and we’ll talk to you next quarter.

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