General Dynamics Corporation

Good morning and welcome to the General Dynamics Third Quarter 2021 earnings conference call. All participants will be in listen-only mode. If you would like to ask a question, that will be star followed by one on your telephone keypad. Please note this event is being recorded. I would now like to turn the conference over to Howard Rubel, Vice President of Investor Relations. Please go ahead.

Thank you, Operator, and good morning, everyone. Welcome to the General Dynamics third quarter 2021 conference call. Any forward-looking statements made today represent our estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10-K, 10-Q, and 8-K filings. We will also refer to certain non-GAAP financial measures. For additional disclosures about these non-GAAP measures, including reconciliations to comparable GAAP measures, please see the slides that accompany this webcast. Our earnings press release and our filings with the SEC, all of these which are available on the investor relations page of our website, investorrelations.gde.com. With that completed, it's my pleasure to turn the call over to our Chairman and Chief Executive Officer, Phoebe Nowakowicz.

Thank you, Howard. Good morning, everyone, and thanks for being with us. Earlier this morning, we reported earnings of $3.07 per diluted share on revenue of $9.6 billion, operating earnings of $1.08 billion, and net earnings of $860 million. We beat consensus by $0.09 per share on somewhat lower revenue than anticipated by the sell side. However, operating margin is up about 40 basis points more than anticipated. This led to the earnings beat. Revenue is up 1.5% against the third quarter last year. Operating earnings are up less than 1%. Net earnings are up 3.1%, and earnings per share are up 5.9%. This is all reasonably good, but the real story for us is the sequential results. Here, we beat last quarter revenue by 3.8%, operating earnings by 12.6%, net earnings by 16.7%, and EPS by 17.6%. On a year-to-date basis, revenue is up $733 million, or 2.7%. Operating earnings are up $137 million, or 4.8%, net earnings are up 140 million, and earnings per share are up 64 cents, a strong 8.5%. We had a powerful quarter from a cash perspective. Cash flow from operating activities was 1.47 billion, that is 171% in net earnings. Free cash flow was 1,275,148% of net income. This follows a very strong cash quarter performance in the second quarter. In summary, we enjoyed a good quarter in almost all important respects. So let me move right into some color around the performance of the business segments, have Jason give you additional color around cash, backlog, taxes, and deployment of cash, and then answer your question. First, aerospace. At the outset, let me remind you that in April of last year, we announced that we were cutting production as a result of certain supply chain issues. Shortly thereafter, it became clear that there was a reduction in demand related to COVID. That resulted in additional cuts to production. Those production cuts were pre-planned and implemented slowly over the ensuing months and reached their low point in the second quarter of this year. We had anticipated renewed post-COVID demand in the second half of this year and planned increased production for the second half, with 32 planned deliveries in the third quarter and 39 in the fourth quarter. In fact, demand accelerated in mid-February a full four months earlier than we had anticipated. This created opportunities, but also operations and supply chain challenges for us, particularly for 2022. On balance, it is a rich problem to have. With that, let me turn to the aerospace results in the quarter. Aerospace had revenue of $2.07 billion and operating earnings of $262 million with a 12.7% operating margin. We managed delivery of 31 aircraft as opposed to the 32 planned. One slipped into the fourth quarter on customer preference. Revenue is $91 million more than the year-ago quarter, up 4.6% on one fewer aircraft delivered. On the other hand, operating earnings are down $21 million on 160 basis point degradation in margins. This was the result of an additional $28 million in G&A expenses driven by higher R&D expenses. and around a $20 million settlement of a supplier claim related to the allocation of warranties after the end of G550 production. This was offset, but only in part, by improved gross margins on delivered aircraft and better margins in the Gulfstream service setters. The real story here is the quarter-over-quarter sequential improvement. Sales, earnings, and margins are ramping up as planned. I will not dwell on these numbers. They are available in the charts attached to the press release. From an order perspective, the quarter bordered on the spectacular. In dollar terms, aerospace had a book-to-bill of 1.6 to 1. Gulfstream alone had a book-to-bill of 1.7 to 1. The second quarter was the strongest order quarter in the number of units that we had seen in quite some time. This quarter was slightly better. As previously discussed, sales activity truly accelerated in the middle of February and continued on through the remainder of the first quarter. The pipeline that developed in that quarter rolled over into the second quarter, and increased demand continued through the third quarter. We continue to experience a high level of interest, activity, and a solid pipeline. As a result of the order activity, Gulfstream backlog this quarter is the highest in the last six years. From a new product perspective, the G500 and G600 continue to perform well. Margins are improving on a consistent basis and quality is excellent. We have delivered 131 of these aircraft to customers through the end of the quarter, with 20 scheduled for delivery in the fourth quarter. These are the metrics of a successful program building further momentum. The G700 has approximately 1,800 test hours on the five test aircraft. The new Rolls-Royce engine is performing well, but much remains to be accomplished. We remain on track for entry into service in the fourth quarter of 2022, with the G800 to follow in six to nine months. As I mentioned earlier, we had planned 32 deliveries in the third quarter and came up one short. The slip was attributable to customer preference. We had planned for 39 in the fourth and will add one that slipped into the quarter. If everything goes as planned, we will deliver 40 aircraft in the fourth quarter. The story in combat systems, quarter over quarter, sequential and year-to-date, is all about operating excellence and continued strong margin performance. Combat systems had revenue of $1.745 billion, down 3.1% from the year-ago quarter. However, earnings are up 2.2% over the year-ago quarter on the strength of an 80 basis point improvement in operating margin. Yet another example of strong operating leverage from combat systems. Further to that theme, on a year-to-date basis, combat system revenue is up $201 million, or 3.8%, while operating earnings are up a significant 7.4% on a 50 basis point improvement in operating margins. Demand for our combat vehicles remains stable in the U.S. with a brigade of Abrams main battle tanks per year and a half a brigade of strikers per year. Domestic upside is possible from the MPF program where our vehicle is performing well. In the near term, we are stable internationally, but opportunity rich in the intermediate period with order potential in Poland, the Czech Republic, Romania, Denmark, and Switzerland. You may have read in the press about some noise and vibration issues in AJAC that have emerged during the program's test phase. We are working very closely with both the British Army and the Ministry of Defense and are confident that both technical issues can be resolved. In summary, this quarter was an impressive operating performance once again by the Combat Systems Group. Turning to Marine Systems, revenue of $2.64 billion is up $232 million, a bold 9.6% over the year-ago quarter. The current quarter revenue growth was distributed fairly evenly across the three shipyards. It is also up sequentially in year-to-date. Year-to-date revenue is up 7.5%. This is very impressive continued growth. In fact, revenue in this group has been up for the last 16 quarters on a quarter-over-year-ago quarter basis. Operating earnings are $229 million in the quarter, up $6 million or 2.7% on an operating margin of 8.7%. On a sequential basis, operating earnings are up $19 million on a 40 basis point improvement margins. Electric boats' performance remains strong, and while still early in the Columbia first ship construction contract, the program remains on cost and schedule. We had a particularly strong quarter in our ship repair business, continuing to support our Navy customer. Throughout the group, we have a solid backlog of new construction and repair work, and our programs are well supported in the FY22 budget. In summary, revenue growth is clearly visible. The real opportunity, given this steady revenue visibility, is margin improvement over time. Moving to technologies, this segment had revenue of $3,120,000,000 in the quarter, down $130,000,000 from the year-ago quarter, or 4%. The revenue decrease was attributable to mission systems from timing on several programs, in part driven by chip shortages. On the other hand, information technology grew revenue against the year-ago quarter at a rate of 1.4%. Operating earnings of $327 million or up $13 million or 4.1% on a 10.5% operating margin. EBITDA margin is a truly impressive 14.4% including state and local taxes, which are our 50 basis point drag on that result. Most of our competitors carry state and local taxes below the line. This quarter revenue decrease will impact the year and we now expect revenue to be around $12.6 billion or $400 million less than our second quarter update. Earnings will, however, remain the same on better margins. Total backlog remains relatively consistent over all comparator periods. So good order activity in the quarter with a book-to-bill of one-to-one and good order prospects on the horizon. The book-to-bill at GDIT was a little better than one-to-one and somewhat less submission systems. The pipeline remains active at both businesses. From an opportunity perspective, cybersecurity is a top priority throughout the government, and the budget calls for tens of billions of dollars in unclassified spending in both the defense and civil spaces. This is a significant opportunity for which we are well positioned to support our customers' needs, particularly as more and more customers move toward a zero-trust model. So that concludes my remarks with respect to a very good quarter and first nine months. As we look toward the end of the year, we expect performance to be in line with the update to guidance that we gave you on the last call, except as I referenced in my remarks about mission systems. However, EPS guidance remains unchanged. I will now turn the call over to our CFO, Jason Aiken, for further remarks.