RTX Corporation

Good day, ladies and gentlemen, and welcome to the Raytheon Technologies First Quarter 2021 Earnings Conference Call. My name is Debra, and I will be your operator today. As a reminder, this conference is being recorded for replay purposes. On the call today are Greg Hayes, Chief Executive Officer, and Neal Mitchell, Chief Financial Officer. This call is being carried live on the Internet, and there is a presentation available for download from Raytheon Technologies' website at www.rtx.com. Please note, except where otherwise noted, the company will speak to results from continuing operations, excluding net, non-recurring, and or significant items and acquisition accounting adjustments. often referred to by management as other significant items. The company also reminds listeners that the earnings and cash flow expectations and any other forward-looking statements provided in this call are subject to risk and uncertainties. RTC's SEC filings, including its forms 8K, 10Q, and 10K, provide details on important factors that could cause actual results to differ materially from those anticipated in the forward-looking statements. Once the call becomes open for questions, we ask that you limit your first round to one question per caller to give everyone the opportunity to participate. You may ask further questions by reinserting yourself into the queue as time permits. With that, I will turn the call over to Mr. Hayes.

Okay, thank you, Deborah, and good morning, everyone. Before we jump in, I'd just like to take a couple of minutes to acknowledge the news that most of you saw yesterday of Dr. Kennedy's retirement as Executive Chairman of the Board, effective June 1 of this year. As you've all heard me tell the story, it was just over two years ago that Dr. Kennedy called me to suggest that we merge our two companies. He could see then that in combining their talent, technologies, and capabilities with that we would have the breadth and scale to meet any industry challenge in aerospace and defense. Little did either of us realize then, of course, how quickly a global pandemic would put that value proposition to the test. And yet here we stand today, one year post-merger, and we've made substantial progress, not only in integrating their two heritage companies, but also managing through an unprecedented downturn in commercial aerospace, all the while identifying new technology synergies and establishing an operational rhythm It allows us to meet many of the goals sooner than what we had expected just a year ago. So I want to thank Dr. Kennedy for his leadership, partnership, and stewardship throughout this merger and congratulate him on a distinguished 38-year career with Raytheon. We wish you well, Tom. I'd also like to officially welcome Neal Mitchell in his new role as Chief Financial Officer, though most of you, of course, already know Neal. He's not new to the call. Toby O'Brien stepped down earlier this month, and we thank him for all of his contributions as we formed Raytheon Technologies. Many on this call also know that Neil was our interim CFO at UTC prior to the merger, and since then he's led the IR and financial planning functions. I'm very pleased to have him as our CFO, and I look forward to working together as we continue the integration and cost initiatives that will capture the full value of the Raytheon Technologies company. Lastly, I'd also like to welcome our new head of investor relations, Jennifer Reed. Jennifer, for the past year, has led our integration team. She was vice president of integration. She was responsible for the financial and operational planning activities related to the merger and did a wonderful job. And we'll hear more about that later. So I think that completes the HR section of the call. Let me move on to the numbers. Let's take a look at slide two, please. So as I mentioned, earlier this month, it marked the one-year anniversary of the merger's closing. And I'm proud of the major accomplishments and progress made by our employees and business leaders who came together from across our businesses to execute as a single team. Our ability to adjust to the unique circumstances and stay nimble in this very dynamic operating environment has served us and our investors and customers well. With that, let me take you through the performance and some highlights from the quarter. I'm pleased to say that we've had a really strong start to the year, and we're seeing continued momentum with signs of economic recovery and incremental improvements in domestic aerospace markets, with international markets, of course, remaining challenged. As you saw from the press release this morning, we delivered strong quarterly sales, adjusted EPS, and free cash flow, all of which exceeded our expectations from earlier this year. And while it is still earlier in the year, the rate of vaccine distribution and signs of travel recovery within key domestic markets, specifically the U.S. and China, are better than what we expected just three months ago. In the U.S., daily TSA traffic has averaged about 1.4 million people a day since the beginning of April, nearly double the levels of January of this year. So we're headed in the right direction, with key metrics improving. but we continue to monitor recovery indications around the world and engage with our customers as they prepare for this recovery. On the defense side, happy to say our backlog remains robust at more than $65 billion. These encouraging trends in commercial aerospace and our Q1 performance gives us confidence to raise the low end of our full-year sales range by a half a billion dollars to $63.9 billion, bringing our new sales range for the year at 63.9 to 65.4. We're also going to raise the low end of our full-year adjusted EPS range by a dime to $3.50. That's up from $3.40. So the new range that we expect for the year, somewhere between $3.50 and $3.70. We're going to also maintain our free cash flow outlook for the year of at least $4.5 billion. And Neil will give you a little color on all this later in the call. On the capital deployment front, after a better expected start to earnings and cash in Q1, we're also going to increase our share buyback plan by a half a billion dollars. It'll take it up to $2 billion for the year. During the first quarter, of course, we did resume our share buyback, and we repurchased about $375 million of our stock, giving us a good start to our full-year commitment. You also probably saw yesterday that we increased our dividend by more than 7% yesterday to 51 cents from 47.5 cents. Since the merger last April, we've already returned over $3.2 billion to shareholders between share buyback and dividends, and we remain on track to return at least $18 to $20 billion to shareholders in the first four years following the merger. We also continue to execute well on our synergy programs during the quarter. We achieved nearly $200 million of incremental capital RTX merger synergies, bringing the total since the merger up to $440 million. And given our strong synergy capture to date and the growing opportunities that we see in the pipeline, we're going to increase our cost synergy target by $300 million from $1 billion to $1.3 billion, and I don't think we're done yet. Collins, importantly, also achieved an incremental $40 million in acquisition cost synergies in the quarter, bringing their total acquisition-related savings to $510 million since the deal closed in November of 2018. Lastly, we continue to strategically shape our portfolio with a focus on higher growth, higher technology businesses. We did close on the force point divestiture earlier this year. That brought in about $1.1 billion in gross proceeds without the tax benefit. And we'll continue to be disciplined in M&A as we evaluate both strategic acquisitions as well as strategic divestitures. And with that, let me turn it over to Neil. Mr. Mitchell.

Thank you, Greg. I'm happy to be on the call today in my new capacity as CFO, and I look forward to our continued partnership as we continue to capture the full value of RTX. With that, I'm on slide three. Let me take you through our financial results. I'm pleased with where we landed for the quarter, exceeding expectations on our key metrics. And as we've mentioned previously, Q1 will be the last quarter of tough compares for our commercial aero businesses, resulting from the onset of the pandemic last year. Q1 sales were $15.3 billion, above the midpoint of the outlook we provided in January. Adjusted EPS was 90 cents per share, ahead of our expectations, driven by better than expected operating profit at all four of our businesses, as well as favorability in some corporate items. On a GAAP basis, EPS from continuing operations was 51 cents per share and included 39 cents of net non-recurring and or significant items and acquisition accounting adjustments. Free cash flow of $336 million exceeded our expectations primarily due to better than expected working capital timing, most notably the timing of collections across the businesses. So with that, let me take you through the segment results. Starting with Collins Aerospace on slide four, Sales were $4.4 billion in the quarter, down 32% on an adjusted basis and down 31% on an organic basis, driven primarily by the expected adverse impact of COVID-19 on the commercial aerospace industry. By channel, commercial OE sales were down 45%, again, driven principally by the impact of the current environment. Commercial aftermarket sales were down 43%, driven by a 39% decline in parts and repair, a 66 percent decline in provisioning, and a 32 percent decline in modifications and upgrades. Sequentially, however, commercial aftermarket sales were up 11 percent, driven by growth in parts and repair and modifications and upgrades. Defense sales were down 3 percent on an adjusted basis, but up 4 percent organically. Organic growth was driven by F-35, as well as growth in several avionics product lines. Adjusted operating profit of $332 million was down $952 million from prior year and better than our expectations for the quarter, driven by continued cost control and favorable sales mix. On a year-over-year basis, cost control as well as lower E&D and SG&A were more than offset by lower commercial aftermarket NOE sales volume. Looking ahead to the rest of the year, with a solid start in Q1 and improving trends on the commercial side, we are increasing the low end of Collins sales outlook from a prior range of down high to low single digit to a new range of down mid to low single digit. And based on our first quarter cost containment measures and those improving trends on the commercial side, we're also increasing the low end of Collins operating profit outlook by $75 million to a new range of down $200 million to up $25 million. Shifting to Pratt & Whitney on slide five, Sales of $4 billion were in line with expectations. Year-over-year sales were down 24% on an adjusted basis and down 25% on an organic basis, also driven by the expected adverse impact of the current environment on the industry. Commercial OEM sales were down 40%, driven by lower deliveries across most of Pratt's large commercial engine and Pratt Canada platforms. Commercial aftermarket sales were down 35% in the quarter, driven by an expected decline in shop visits. but growth in the GTF aftermarket volume was more than offset by the impact of a reduction in legacy large commercial engine shop visits of 38% and a 28% reduction in Pratt Canada shop visits. In our military business, sales were up 1% on higher F-135 aftermarket, partially offset by lower volume across certain development programs. Pratt's adjusted operating profit of $40 million was down $475 million from the prior year, significant aftermarket volume reductions and fixed-cost headwinds more than offset continued cost containment measures, including reductions in G&A and E&D. Looking ahead, with a solid start in Q1 and improving trends on the commercial side of the business here, too, we're also increasing the low end of Pratt's full-year sales outlook from a prior range of flat to up mid-single digit to a new range of up low to mid-single digits. And we are increasing the low end of Pratt's operating profit outlook by $50 million to a new range of down $75 million to up $25 million. Turning now to slide six. First, I'll remind everyone that the percentage of completion reset at the merger date continues to impact the compares for both sales and operating profit at the legacy Raytheon businesses. With that, Raytheon intelligence and space sales were $3.8 billion, up 2% versus the prior year, on an adjusted pro forma basis, and better than our expectations for the quarter, driven by higher volume in sensing and effects, particularly airborne ISR. Operating profit in the quarter was $388 million, down $11 million year over year on an adjusted pro forma basis, and a little better than expected due to higher sales volume. It's worth noting that sequentially, the Ross at RIS improved 110 basis points to 10.3%. RIS had bookings in the quarter of $3.7 billion, resulting in a backlog of $19.2 billion. Significant bookings included approximately $1.4 billion on classified programs, as well as several other notable awards. Our Q1 book-to-bill was 1.08. And looking ahead, we remain confident in our full-year outlook for RIS, with sales growing low to mid-single-digit and operating profit growing $125 to $175 million versus adjusted pro forma 2020. Turning now to slide seven, Raytheon missile and defense sales were $3.8 billion, up 3% versus prior year on an adjusted pro forma basis, and better than expected due to higher volume across multiple mission areas. Adjusted operating profit was $496 million, also better than expected and down 43 million year-over-year on an adjusted pro forma basis due to the absence of a favorable prior-year contract settlement and the EAC reset impact that I mentioned. RMD's bookings in the quarter were approximately $2.5 billion, resulting in a backlog of $27.7 billion. Significant bookings in the quarter included an award of approximately $520 million for AMRAAM, for the U.S. Air Force, the Navy, and international customers, and an award of about $250 million to provide Patriot Engineering Services support for the U.S. Army and international customers. It's also worth noting that RMD's industry team was down-selected for the Next Generation Interceptor Award, and we expect to book that award in the second quarter for over $1 billion. Book-to-bill was .68 in the quarter, as expected, as we continue to deliver against the previously awarded multi-year production contracts. Before moving on, I'd also like to make a comment on the previously disclosed ongoing DOJ investigation into cost accounting matters at Legacy Raytheon Company's former Integrated Defense Systems business, or IDS, which is now part of RMD. As you'll see in our upcoming 10-Q filing later today, the investigation includes potential civil liability for defective pricing for three contracts entered into between 2011 and 2013 by IDS. We've provided for our best estimate related to this matter in connection with the finalization of purchase accounting during the quarter. Additionally, as part of the same investigation, we recently received a second subpoena relating to a different IDS contract from 2017. We do not currently believe the resolution of this matter will result in a material impact to our financial condition, and we will continue to cooperate fully with the government's investigation. So turning back to RMD's full year outlook, we continue to expect RMD sales to grow low to mid single digit and operating profit to grow $25 million to $75 million versus adjusted pro forma 2020. And finally, for your reference, we've included an updated outlook for each segment in the webcast appendix. With that, moving to slide eight, let me update you on how we see the current environment as we look ahead at the rest of the year. Starting with our merger synergies, as Greg said, we are increasing our gross merger cost synergy target to $1.3 billion, and that's due to higher expected synergy capture in our corporate office and segment consolidation, as well as additional opportunities we've identified in the supply chain, in footprint consolidation, and in IT. And keep in mind, that's on top of $600 million of Rockwell Collins acquisition synergies. Additionally, we continue to see the benefits of the cost actions we took last year. We're making solid progress on the structural cost reduction actions we previously announced, while at the same time working additional opportunities to drive further cost out of the business. And moving to the commercial side of the business, the shape of the commercial arrow recovery remains critical to our outlook. As Greg mentioned, we're encouraged by the pace of the vaccine distribution and we're seeing signs of increasing travel demand, particularly on many domestic routes. However, we continue to watch Europe and international border reopenings. While we've seen slightly better than expected results to start the year, particularly at Collins as customers prepare for a strong summer travel season, as well as evidence of increasing future travel demand, We still need to see this demand translate to strong sequential growth in RPMs and ASMs as we head into and through the peak summer travel season. As such, the second quarter remains a critical period in determining the recovery profile for the rest of the year. Looking longer term, we continue to expect that it will take until at least 2023 for commercial traffic to return to 2019 levels. For the defense side of our business, we continue to expect both domestic and international program growth to remain robust as evidenced by our over $65 billion defense backlog. Our strength with international customers, our innovative technologies, and our positions in high growth areas gives us confidence in our ability to grow these businesses even in the current domestic budget environment. And finally, our financial strength is underpinned by the strength of our balance sheet and supports our capital deployment commitments. Moving to slide nine, following our strong start to the year, we remain confident in our full year outlook. And as Greg mentioned, we are bringing up the low end of our sales range by $500 million and bringing up the low end of our adjusted EPS range by $0.10, with about $0.06 coming from the segments and the remainder coming from improvement in some corporate items. Now, let me just give you a little color on Q2. At the company level, we see sales in the range of $15.5 billion to $16 billion, adjusted EPS in the range of $0.90 to $0.95 per share, and we see sequential improvement in free cash flow. It's also worth mentioning that we've included an updated outlook for some of the below-the-line items and an updated pension outlook that includes the impact of the latest COVID relief bill in the webcast appendix. So with that, I'll hand it back to Greg to wrap things up.

Okay, thanks, Neil. So no surprise here as we think about our 2021 priorities. First and foremost, it's going to be to continue to support our employees, our customers, suppliers, and communities. all the while continuing to invest in new technology and innovation to drive industry leadership for the long term. You know, I am confident in the outlook for our company. RTX is well positioned to deliver strong sales, earnings growth, and cash flow for not just this year, but for the foreseeable future. Before we get to Q&A, just a note. We are going to have an investor day coming up, on May 18th where you get a chance to hear from our business unit leaders as well as our transformation initiatives from Mike Dume. I look forward to sharing a lot of information also on our revenue synergies and our long-term growth strategies with you at that meeting. So with that, let's turn it over to Q&A. Deborah?

Deborah?

Deborah, we're ready for the Q&A.

In the interest of time and to allow for broader participation, you are asked to limit yourself to one question. If you would like to ask a question, please press star 1 on your telephone keypad. We'll pause for just a moment to compile that Q&A roster. The first question comes from the line of Carter Copeland with Milius Research.

Gentlemen. Carter. Greg, I'm going to resist the urge to ask a numerical question and instead ask you about... I'm good with numbers, Carter. I know. I'm going to take you away from there. But in light of Toby's departure and Tom's announced retirement and, you know, we're a year on, you know, into the merger, you know, this is the biggest integration in the history of, you know, aerospace and defense mergers. And you've been, you know, obviously trying to do a lot of that virtually, you know, with respect to what still needs to be done and what has yet to be accomplished, where do things stand in that regard and where do you want them to go? Have things surprised you along the way that have led to any change relative to where the plan was? Just anything you can give us to help us understand where that is in its process aside from cost synergies and some of the numerical pieces, but more you know, the integration of the two companies culturally.

Yeah, you know, Carter, it's something that we have spent a lot of time on over these past 12 months. We're fortunate. I've got Jen Reed sitting here with me who's been leading that integration effort. I would tell you, you know, we've realized over $400 million of cost synergies, but there is a lot of work yet to do. You know, we've done many of the hard things in terms of reducing staff, making sure the policies are consistent, but, again, not done with that. I think that the biggest opportunities we still have are on the digital front, where we have a lot of work to do to reduce the number of data centers. We've just made a big investment to try and reduce the data centers from more than 30 to less than a dozen. We're also working on what we call the digital thread. That is, how do you connect everything from product development through operations, supply chain, and sustainment? And lastly, I would tell you, you know, it is really not our common thread. operating system. You'll hear more about this in May. But we do need a common operating system. We have 178 manufacturing facilities around the world, and we have work to do to consolidate those yet. We're making good progress, but it is going to take us some time. It will take us a full four years to realize the billion three of synergy savings. We've made good progress on identifying savings related to procurement, both product and non-product, cost reduction, all of those things are on track. But I would just remind you, it's too early to declare victory. And just like Collins has got now over 500 million of synergies on their way to 600, there's still work to do there. And we're not going to declare victory.

And did you find anything in the process that has, I guess, surprised you? I'm just thinking about some of the you know, the charges in the legacy Raytheon Defense segments and the comments you made around the DOJ subpoena regarding the pricing. I mean, are these things surprising to you?

Well, look, first of all, just to be clear, these are contracts from 2011 through 2013. So there's always surprises like that out there when the DOJ suggested that we defectively price some contracts. We've been doing an investigation, been working with the DOJ, and I think we've appropriately provided for those exposures, as Neil mentioned. I wouldn't call that a big surprise. I would tell you, people think about the culture, and it was not that different between the aerospace businesses at Legacy UTC and the defense business at Raytheon. The fact is, many of our customers on the defense side were the same, and the cultures were the same. I think, again, that has been a pleasant surprise in terms of how easily we have been able to integrate the two businesses culturally. And, you know, that process will continue. But I would tell you it is going remarkably well for what is probably the largest aerospace and defense merger ever. Great.

Thanks for the call, Greg.

Your next question comes from the line of Robert Spengard with Credit Suisse.

Hi. Good morning, Greg, Neil, Jennifer. Good morning. Neil, for you, you're essentially guiding to EPS of around 90 cents in each quarter this year, at least if I think about what you said for Q2 against Q1. Why isn't there more improvement from the first half to the second, especially given the buyback and maybe even a slightly lower tax rate? You mentioned Q2 is going to be key for assessing the pace of the recovery. So could you elaborate a little bit on what you're expecting, or is this just a conservative second-half guide?

No, I don't think it's that. I think there's still three quarters ahead of us, so I need you to keep that in mind as we look at the rest of the year. We did see some promising uptick as we were in March of first quarter at Collins and Pratt. Some pre-buy, I would call it, for the airlines ahead of the summer travel season. But let me give you a little bit more color on Q2 specifically. We do see segment operating profit growth somewhere between 3 and 7 cents for Q2, if you think about that sequentially. We do have some headwinds on the corporate side. So one of the things that we benefited from in the first quarter was reduced corporate expenses in part on interest as we had better than expected cash flow. And so that will lower our interest for the year. as well as we are being more efficient with our synergy investment spend. But that spending on the synergy investment will pick up here in the second quarter, so you've got a few, you know, two, three cents of headwind on that front in the second quarter as well. As it relates to the second half of the year, we'll have to wait and see a bit, but certainly the back end of our plan contemplated a real strong summer travel season, and that's why I think Q2 is going to be so important.

And then just on the cash flow cadence throughout the year, you touched on it there, but if you could just go into perhaps a little bit more detail.

Sure. You know, as you know, our cash flow tends to be back-end loaded as we ramp and then deliver through the year. As I think about the first quarter, our free cash flow was better than we expected, probably by about $600 million, all of that attributable to improved working capital. If I break that down for you, think about $300 million of that coming from better-than-expected customer collections. We were happy to see some customers pay early at the end of the quarter. We had a couple hundred million dollars of improvement in disbursements timing and $100 million better improvement, better-than-expected performance on inventory. So still a long ways to go to get to our full-year $400 million working capital improvement, but Good progress. And as I think about Q2, I would expect to see, you know, clearly some sequential growth, you know, probably at least doubling. And then, you know, more of that in the back half of the year as the sales continue to ramp and collections, as they seasonally do, you know, ramp up. Thank you. You're welcome.

Your next question comes from the line of John Ravi with Citi.

Hi, John. Hi.

Hey, good morning everyone. On the, some that's going back to DOJ items, can you clarify the estimates that we'll see in the 10-Q, those are not material and the second subpoena, you do not expect to be material either? And just any kind of color on any connective tissue or any, you know, any narrative or rhythm or theme, I'd say, between these items, for instance, are they all FMS or tied to a particular person or team or incentive structure? and then any comments on what the functional impact of those settlements is going to be on the ongoing business for which, you know, on those contracts referenced, the 11 to 13 and also the 17 item. Thank you.

You know, John, I appreciate the question. I'm not sure we can really answer it. I will say this is an ongoing investigation by DOJ. We have begun our own investigation, and as we discover facts, we have been sharing all of those facts with the DOJ. I would tell you, again, the dollar amounts are not going to be material in our view today. Again, these are older contracts. It was alleged that we defectively priced some contracts. Again, I can't get into much more detail than that. But, again, we've looked into it. We think there is potential liability for defective pricing. Clearly, we've provided for that this quarter. and we're going to continue to work with DOJ to bring these things to a resolution. I would tell you these investigations take time. We're still going through doing some work, but we don't believe there's going to be any ongoing impact to any of the businesses as a result of these investigations. We think these were one-off events that occurred, should not have occurred, but they did, and we're going to clean it up and move on. Thank you, Greg, for that.

I'll stick to the one. Thanks, John.

Thanks, John.

Your next question comes from the line of Ron Epstein with Bank of America.

Hey, good morning, guys. Good morning. So just maybe on Pratt, I think in the hearing on Thursday on F-35, Pratt was mentioned 39 times. So I guess the question is this. How are you guys remedying the issues that the Air Force has with the F-135 engines? And do you fear that, you know, kind of all this rhetoric around the engine could offer an entree for GE to try to get a second engine in there? Because, you know, they've been raising their rhetoric on that. At least they have been with the investment community.

Well, Ron, first of all, it's nice to be mentioned 39 times. No publicity or all publicity is good in some respects. But I would tell you that the issue that I think, you know, Matthew Bromberg, who's president of our military engine business, explained this pretty well. We've actually done a good job on the production or the OEM front in terms of delivering engines. We ended the year on contract. In fact, there were about 50 engines sitting at the final assembly line for the F-35 today. Unfortunately, where we didn't do a great job was at the sustainment center, and we did not provision enough in terms of test equipment and personnel to deal with the volumes that we saw coming into the shop. As a result, there were about 20... aircraft today that are sitting there that do not have a serviceable engine. Now, one of the solutions, I think Matthew pointed this out last week in his testimony, we could take some of those engines from the final assembly line and put them over at the sustainment center and solve this problem tomorrow. But as you know, the color of money for procurement is different than it is from operations and maintenance, so it's not that easy. But we have committed in working with the customer, with the JPO, to put the equipment in place necessary to service the engines such that we get back on, I'll say, contract performance levels by the end of this year. A lot of work to do. But, again, we were caught by surprise in terms of the amount of hours that were being flown. We were surprised at the scope of the work that was required on some of these. But, again, we will catch up. As far as does this give an entree to GE to build the F-136 engine, I can't answer that question completely. I would tell you, though, that is a multibillion-dollar, multiyear effort to bring that engine back in line. And I think, again, given the cost challenges on the program, it seems unlikely that any of the services are going to spend that kind of money for an extra engine. When, in fact, our engine is actually performing quite well in service, we're meeting the reliability targets, meeting the fuel burn targets. Look, the issue with the F-35 is not capability. It's sustainment cost. And that is the other thing that we committed to work with the JPO on, is how do we reduce, working with Lockheed, the sustainment cost, because that will ultimately be the bigger cost than the initial procurement. Great. Thanks, guys. Thanks, Ron.

Your next question comes from Sheila Cayaglo with Jefferies. Good morning, guys.

Thank you. Maybe I'll ask one on Collins. You know, decrementals are still in the 40% range there. What are the moving pieces of that, and how do we think about the trajectory of margin improvement in that business, just given, you know, commercial OE start stops on 787 and the MAC?

Thanks, Sheila. I'll take that one. So, you know, You saw the decrementals today, 47% at Collins, slightly better than what we were seeing last year, so that's good. The cost containment actions that we've implemented are taking hold and continuing. As you think about the rest of the year, we continue to see the incrementals being very strong, probably in the 75% range if you'd average Q2 to Q4, but as you look at Q2, they should be in excess of 100%. because you'll recall that last year Q2 was our deepest quarter. I'm happy with what the team's doing there in terms of maintaining that cost control around E&D, SG&A, in the factories. They took some difficult steps last year, as you know. And as we started the year, the Collins team has done a nice job of containing costs the growth in those costs. We will see a little bit of that come back in the second half of the year at Collins as we reinstate merits and furloughs are reduced and volume picks up. But it should be a really good story for the back, you know, three-quarters of the year.

For that, Neal, can you just comment on what's going on with the max and the 8-7, what kind of rates you expect for the year?

Yeah, sure. So starting with the 7-8-7 rate, We are aligned with the Boeing production schedule, so you can think about that being around five shipsets per month. On 737, also aligned with Boeing, I think they're out there with 161 deliveries expected for the year. As we've talked about, Sheila, we have produced and delivered a fair amount of that, you know, a third to a half of that. So the uptick in the 737 OE deliveries will start in the back half of the year.

Well, thank you. Your next question comes from the line of Seth Sessman with JP Morgan.

Thanks very much. Good morning. So maybe just to follow up on Sheila's last question, the guidance for Collins would seem to imply kind of this continuation of the mid-sevens margin that we saw in the first quarter, but You know, there's potential for an error recovery and, you know, continued efforts on efficiencies. And so, you know, why wouldn't we see that margin expand off of that level as we move through the year?

Yeah, thanks, Seth. I'll take that. You're right as you think about the guide for the rest of the year for Collins, particularly given some of the strength we saw here in the first quarter. Those margins are contained in that range. However, I will say we're being really smart about the timing of when we spend our E&D and when we reinstate some of the discretionary spending. So those will be natural offsets to what we expect to see in terms of aftermarket growth. But as that aftermarket growth comes, I would expect if it's better than our plan, then you'll see it drop through.

Okay. And then just on that, you know, I think you mentioned the sequential aftermarket growth in the quarter, 11%. You know, can you talk about what pieces of the aftermarket are showing the most strength right now and, you know, where you expect that at Collins for the remainder of the year?

Sure. Yeah, it's coming, you know, from the two places you'd expect it, parts and repair and mods and upgrades. Provisioning is lagging a little bit. But again, that tracks more closely to the commercial OE deliveries. So I'm not surprised to see that. But we are seeing you know, I'll call it cautiously encouraging signs as we exited March and started April on the repair intake in particular.

Great. Thanks very much.

Yes, you're welcome. Our next question comes from the line of Noah Popenek with Goldman Sachs.

Hi, good morning, everybody. Morning, Noah. Hey, Neil, could you just add a little more color to that last question there just in you know, with all of these questions about how the guidance implies some flattish things through the year despite, you know, some signposts for improvement with the aftermarket being the shorter cycle lever. Just how did you tackle, you know, how to decide what to include for the aerospace aftermarket given the signposts are positive but it is still uncertain? And then could you also tackle what happened with your pension? cash flow inputs, it looks like those changed less than maybe we thought based on how the inputs were revised there.

Sure. Let me try to build upon the aftermarket. As I think about the year and we think about the recent IATA data on RPMs, you know, January and February were a little bit of a slow start. You know, that definitely picked up in March and When I think about the change in the RPM forecast that we and the industry are looking at today, I think we're pretty well aligned. It looks a little bit different today than it did three months ago. You know, clearly the domestic routes, U.S. and China in particular, are much stronger. So that's helping us. But on the international side, it's a little slower than we thought. On the ASK or ASM side, you know, the available seat milestones, Those are tracking pretty consistently with what we saw in January or thought we would see in January. I think, you know, the thinking that we've had, you know, as we look at the rest of the year, and there's still a long way to go, is that we really need to see those ASMs and corresponding RPMs increase here in the second quarter. And we're thinking about a 40% sequential growth in RPMs from Q1, 21 to Q2, and then again to Q2 to Q3, and then corresponding on the ASM side, Think about 25 to 30% sequential growth between cues one and two and two and three. If we see that kind of growth, then we will likely see a stronger second half, but I think at this point it's just too early to call that. So that's how I'm thinking about that a little bit more.

Shifting to... If I could just interject there really quickly, just to make sure I have it correctly. Your guidance does not imply those types of sequential moves, or really... really close. So am I hearing you correctly that the signposts are saying that could be what happened, but just given how much uncertainty there still is with the virus and the vaccine rollout and restrictions to travel, you're feeling the need to keep the guidance fairly conservative in case things are more volatile than that.

Yeah, I think you said that exactly correctly, Noah. I mean, the fact is there's still a lot that has to go right in the back half of the year in these next eight months of the year. And so while we're optimistic based upon the vaccine rollout here and what we've seen in China, there is still a tremendous, I mean, keep in mind, 40% of Collins' aftermarket is wide body. And that market is down significantly. And it's not recovering nearly as fast as what we thought it was going to. So domestic market's better. International market's worse. Overall, though, still confident in the full year guidance. And to Neil's point, if the recovery happens faster, if the vaccine rollout and we start to see travel to Europe, for instance, in the summer season start to improve, these numbers could be better, and you'll see that in the bottom line. And so, again, we debated. There could be upside on the top line and bottom line, but it's April. And so when we see you guys in May, we'll talk about it again. You'll have a chance to talk to Steve, Tim, and to Chris Calio to see what they're seeing in the marketplace, and then we'll have a better view, obviously, by the end of the second quarter. But right now we're optimistic but still cautious. Sensible. Okay.

And let me take the pension question too. So, um, and thanks for bringing it up. So yes, we did put out some new numbers there, as you know, the, uh, relief bill that was passed, you know, reduced pension funding. We currently don't see the need to do any domestic funding in the near term. As a result of that bill, you'll recall that we pre-funded $800 million in 2020. That would have been our 2021 contribution. So there's nothing in 21 that changed. as a result of the bill. However, looking forward, we did get a little bit of improvement. So we'll have to fund a little bit less into our pension plans. We'll get a little bit less on the CAS recovery. It's about $75 million next year and I think $50 million in 2023. So good news here. The last thing I'll add is we got a little bit of a P&L benefit here in Q1 as we've rolled this lower CAS cost into our forward pricing. Probably about 70 basis points of margin improvement at the RMD segment is where it really showed up. Going forward for the rest of the year, I don't expect to see much more of that, and we've rolled that into our forward pricing.

How far into the future did it take down the domestic funding?

It's pretty far out. You know, I'd say for the next three to five years right now, and of course that depends on a lot of other assumptions that could change, but all things equal for the next several years at least.

Okay, thank you.

You're welcome.

Our next question comes from Miles Walton with UBS.

Thanks. Good morning. I was wondering if we could pick up where we left off on RMD. It outperformed on margins. And, Neal, thanks for the clarity on the pension contribution there. But still, I think it was running hot and obviously no change to the full year. And then maybe talk about the bookings trends there, which obviously look lighter and when you think that that could turn around, give more confidence to at least stability in the segment from a revenue perspective run, right?

Sure, no problem. So, yeah, as you saw, you know, 13.1% RMD margins in the quarter. We are very happy with that. As I mentioned just a minute ago, I think about 70 basis of that is a little pension tailwind that won't repeat. We also had about 40 basis points, I'd say, of international mix, some acceleration of award timing that came through with CFR liquidation. That helped RMD here in the first quarter. And so, If you kind of adjust for those two items, you'll see continued margin progression, again, as the productivity improves through the year. So we're still, you know, seeing that margin growth that we would expect absent those couple of items. And I'm sorry. The bookings trends. The bookings trends, yes. So, you know, listen, a year ago and in the past 18 months, RMDs had some significant, you know, multi-year buys. So, you know, as we burn down the backlog there, you know, our book to bill is a little bit lower. But later this year, you know, we do expect Next Generation Interceptor. We talked about that. That'll be over a billion-dollar booking that we'll book here in the second quarter. LRSO and some other international Patriot Awards that are forthcoming, you know, later in the year. So all in all, I still expect on a full year basis to book the bill of about 1.0 for RMD and RIS for that matter. Okay. All right. Thank you. You're welcome.

Your next question comes from the line of Peter Armit with Bayard.

Hey, Greg. Good sequential improvement from Pratt & Whitney on the kind of the large engine inductions. How are you thinking about, or at least planning or visibility-wise, in the second half or at least as we move forward on the recovery. And then also maybe you could just highlight how Pratt & Canada is doing, just given that we're seeing kind of a resurgence in bizjet flying activity. Thanks.

Yeah, Peter. So if you think about engine inductions, Vs, I think we had about 118 Vs into the shop in the first quarter, which is exactly on plan. And we accept that will accelerate, we think, throughout the year as domestic travel increases Right now, only about 60% of the V fleet is flying. Again, it will come back. Compare that to the GTF-powered fleet, which is in the high 80s. So, again, there's a little bit of a lag in demand, but we fully expect we're going to see a big sequential improvement. We're not going to get back to 1,000 engines this year, probably not for two more years on the V fleet. But we're clearly going to trend that way as people need more lift in these domestic markets. So that's actually very encouraging. As far as the rest of the aftermarket, let's talk about Pratt Canada. Again, good traction in their aftermarket. We're seeing bizjet flying hours are up, as you would imagine, significantly. That's translating into some higher aftermarket trends. Keep in mind, most of the engines that we have out there are on a power-by-the-hour arrangement, so we don't actually recognize the revenue or the cost until we see those engines come back in. So flight hours are up, aftermarket is up, but it's not as much as you might think just because of the nature of the contracts. The one area at Pratt Canada that continues to be a challenge is in the regional marketplace, the PW100, the PW150 for regional transports. That market has been slower to recover. It's, again, something we expect to see next year, but certainly not a big uptick this year. Bizjet deliveries, engines are very solid. Helicopter engine deliveries, solid. It's really just the regionals that are the challenge right now for Pratt Canada. Appreciate the color.

Peter, it's Neil. Just to go back on the Pratt shop visits, we still expect Q2 to Q4 deliveries. shop visit growth up in the 25% to 30% range. So, you know, all that's holding, as Greg mentioned, you know, good start to the first quarter, and then we'll see that back half growth. The other point I would throw out there is, you know, we're watching Europe, obviously, but the majority of that V fleet and our planning around those shop visits, I'd say 80% or more, 85% or more, is not in the Europe, you know, region. So I feel pretty good about that outlook.

Appreciate those comments. Thanks, Neil.

Your next question comes from the line of David Struess with Barclays.

Thanks. Good morning. Good morning, David. So I think you mentioned that the Collins aftermarket was up 11% sequentially. I would imagine January, February weren't very good. Can you talk about what you saw in March in terms of how quickly the airlines can turn it back on, and then maybe also what you're seeing in April.

Yeah, Dave, I don't know that we want to get into the month-by-month compares. I would say that directionally that is absolutely correct. January and February were a little scary because, again, we saw an uptick in China in the virus, and the U.S. was going through the last wave. And so air traffic was not picking up as fast as what we had expected it to. That all turned around in March. With the vaccine rollout, with China getting the pandemic under control, things got remarkably better. And what surprised us a little bit was typically when we see a recovery in RPMs, it's usually three to six months before we see a recovery in demand for parts and repair. But in this case, because you've got so many parked aircraft out there, think about 11,000 out of 30,000 around the world are parked today. And yet demand is coming back very quickly in the U.S. and in China. The airlines are actually being proactive in getting the aircraft ready for service in the summer selling season. And that's really what drove March, what's driving April. And I think which will benefit second quarter is the airlines are not waiting to see the RPMs. They see it in their advanced bookings, and they know they need the lift. This is a very different kind of recovery than what we have seen in the past.

Okay. And I wanted to ask about the legacy Raytheon businesses and the margin expectation there. Okay. You know, those businesses were around 13% on average, you know, blended together pre, you know, the accounting adjustments and all of that. Is there anything structurally in terms of anything different about how we should think about where those margins can get to as you're able to start booking EACs again?

Yeah, let me give you a couple of thoughts. I mean, first of all, you've got to keep in mind that as we implement all these synergies, which are great, they do come with, you know, a give back to our customer, which is great because it also makes us more competitive. So that's a factor that you've got to think about in the margins. But, you know, both those businesses are laser focused on driving, you know, productivity and cost reduction throughout their their businesses. We do see the opportunity for margin expansion. It's going to be a great question for Wes and Roy at our upcoming Investor Day in May, where they'll talk a little bit more about that. You know, we've talked about the EAC reset. We do expect that issue to be largely behind us as we exit the year, so you could see a little bit more margin expansion throughout this year. But, you know, These are great businesses. As we get into longer-term production contracts on the RMD side in particular, you'll see, you know, margin expansion there. But you do have a replenishing of some of the programs. And so we've had the Patriot Missile Program, you know, very good program for us. That will get replaced with the LTAMs in the future. So there will be a little bit of a mix shift as the margin sort of transitions between those early LRIP contracts, you know, when you get into late 23 and 4, and we get out of the more mature programs that we've been in today. But a lot of potential there.

All right. Thanks very much, Neil and Greg. You're welcome.

Your next question comes from the line of Robert Stahl with Vertical Research.

Thanks so much. Good morning.

Good morning. Good morning.

I just wanted to follow up on Peter's question about Pratt & Whitney and the other side of the engine portfolio there. I was wondering if you could tell us what you've been seeing on some of the older aircraft variants, engine variants that are out there, and how freight has perhaps been helping those older aircraft out. Thank you.

Yeah, so if you think about the freighters, if you think about Pratt's installed base of 11,000-plus engines or so, about 10% of that is freighters. Those are old PW4000s. Those are the 94-inch 767s and 747s. That has actually been a pleasant surprise, I would tell you, because freighter traffic, as everybody knows, is up significantly year over year, given the... push of e-commerce and global supply chain. So as we think about the aftermarket for Pratt, it's not all bad news. Freighters' traffic is good. At the same time, you know, we've started to see some retirements of some of the older engines out there. Not a significant number this year, but pretty much in line with what we had expected, especially, I think, on the 112-inch. That's the 777. We saw JAL retiring their fleet. Not a surprise that 12 months before we originally thought they were going to retire it, but that will be putting those aircraft down. But those engines will still end up in service someplace else, probably in a freighter configuration. So, again, the older stuff is still out there. It's still a meaningful piece of the aftermarket.

I think it's about 20. About 25%. So it's still very significant, and, you know, frankly, that cargo – Traffic that you all know is considerably higher than it was even pre-pandemic has helped the shop visits at Pratt in 21.

And a quick follow-up, if I may. I mean, it's a tough question, but how sustainable do you think this freight demand is likely to be?

Look, as I look at how sustainable is e-commerce and this trend towards e-commerce, global supply chains. I think this is here to stay. The fact is, you know, global supply chains are stretched thin today, and freighters are the most efficient way to get parts from point A to point B. So I think this is not just a temporary phenomenon.

That's great. Thanks, Greg. Thanks. Deborah, we'll take one more question, please. Thank you.

And your final question comes from the line of Kaivon Rimmer with Cowan.

Yes, thanks so much. So at our conference in February, Toby talked of 15% to 30% growth in commercial aftermarket at Collins over Q2 to Q4. That kind of seems like it fits with your full-year guide, but it implies that commercial aftermarket moves up from the first quarter by something like $250 million. If it's an orderly build, could you give us some more color on kind of maybe the margin headwinds we look at? Because you had this huge profit gain at Collins on basically lower volume sequentially from Q4 to Q1. And as Seth brought out, you know, your guide for the rest of the year assumes basically not much margin improvement at all. sequentially, and yet you should have very strong growth in your more lucrative part of your business.

Well, thanks, Guy. Just a couple thoughts here. So as I think about the sequential growth in commercials aftermarket, Collins commercial aftermarket for the rest of the year, it's a little bit lower than what we talked about in the first quarter, and that's because we've de-risked that a bit by the performance we've seen. So think about you know, 5% in, you know, Q1 to Q2, maybe 10% Q2 to Q3, and, you know, another 5% or 8% in the, you know, 3 to 4. In terms of growth, in terms of thinking about the strength that you saw in the first quarter, a lot of really good work on the cost containment. E&D and SG&A combined about $60 million of, you know, improvement. And that will come back because the team is phasing that investment forward. during the year because we're trying to be very prudent about, you know, the discretionary elements of our spending until we see the recovery take a strong hold. So that's what I can share with you there. Appreciate the question.

Thanks so much.

I would now like to turn the conference back over to Mr. Hayes for closing remarks.

Okay. Thank you, everyone, for listening in today. I know it's a busy earnings day out there, but I appreciate everybody's time. Jennifer and Neil and the whole IR team will be available all day today to answer your questions, and we look forward to seeing you or talking to you on the 18th of May. Take care. Bye-bye. Bye.

This does conclude today's conference call. Thank you for participating. You may now disconnect your lines.