RTX Corporation

Good day, ladies and gentlemen, and welcome to the Raytheon Technologies second quarter 2022 earnings conference call. My name is Lateef, and I will be your operator for today. As a reminder, this conference is being recorded for replay purposes. On the call today are Greg Hayes, Chairman and Chief Executive Officer, Neal Mitchell, Chief Financial Officer, and Jennifer Reed, Vice President of Investor Relations. 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 acquisition accounting adjustments and net non-recurring and or significant items 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. Raytheon Technologies 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 four 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. To ask a question, you will need to press star 1 1 on your telephone. 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.

Thank you, Lateef, and good morning, everyone. I hope everyone had a chance to see our press release this morning. From that press release, I think one of the key takeaways is we had a really strong quarter for commercial aerospace. And we continue to see very strong demand for our products and services, as evidenced by our defense book to bill in the quarter of 1.35. Incredible number. We delivered these results in the midst of, I would say, a challenging period across our industry and most of industrial America. Inflation, supply chain, and labor availability continue to be near-term constraints. We're working these things relentlessly by leveraging our scale and our portfolio to combat all of these different pressures. Before we get into the results, let me just spend a few minutes on the macro environment. On the defense side, the evolving threat environment, including the ongoing conflict in Ukraine, continues to drive global defense budgets higher. Most of our NATO allies have reaffirmed their commitment to spending at least 2% of GDP on national defense, with many countries announcing even higher spending targets over the last several months. For example, Poland has requested accelerated delivery of Patriot missile systems batteries, and both Germany and Finland have selected the F-35. As you know, the Department of Defense released its fiscal year 23 budget request earlier this year, with modernization spending growing over 4%, and with modernization accounts, specifically RDT&E, expected to grow by nearly 10%. We're also encouraged by the markups that we've seen in Congress. The House Armed Services Committee has proposed a $37 billion increase to the administration's request. That's a 9% increase over fiscal 22, excluding the supplementals. On the Senate side, the Senate Armed Services Committee went even higher, proposing a $45 billion mark, resulting in a DOD budget increase of 10% over fiscal 22, bringing the fiscal year 23 budget to over $815 billion. a lot different than what we expected two years ago we're encouraged by the support of our programs with the authorizing committees recommending significant increases in spend over the president's budget request including increases for stingers javelins next generation jammers tomahawk cruise missiles just to name a few and as i've said our key programs and technologies in space Cyber, missiles, missile defense, and non-kinetic effects are also well aligned with the U.S. and our allies' defense priorities. We ended the quarter with a defense backlog of $65 billion. That's up about $2 billion since the beginning of the year, and we expect it to grow even further in the remainder of the year. In the second quarter, we also saw a number of significant awards, including $4 billion to deliver F-135 engines for lots 15 and 16, which will power all variants of the F-35 fighter. The total contract value opportunity is about $8 billion for F-135 engines across lots 15 through 17. In addition, we received a $408 million contract for sustainment of the F-135 fleet. The F-135 engine continues to be the most advanced and I would say safest fighter engine ever produced and possesses unrivaled operational capability and mission effectiveness. As the global threats evolve, the F-135 could be upgraded to increase its thrust, range, and power thermal management to support the needs of the warfighter well into the next decade. We also received a $648 million award to deliver SM-3 missiles to the Missile Defense Agency, a $662 million award at RMD to replenish 1,300 Stinger missiles, as well as awards to replenish Javelin missiles. RIS also had a $1.2 billion bookings of classified programs. During the quarter, RMD was also down-selected by the MDA to continue developing a first-of-its-kind counter-hypersonic missile, the Glide Phase Interceptor. Just a few weeks ago, RMD, along with their industry partner Northrop Grumman, successfully completed the second flight test of the scramjet-powered hypersonic air-breathing weapon concept, or HAWC, for DARPA and the U.S. Air Force. The flight test applied the data and lessons learned from the first flight test last September and to demonstrate how rapidly we've matured affordable scramjet technology. At the same time, commercial air traffic demand continues to gain momentum with a strong start to the summer travel season. Global EQ2 revenue passenger miles reached nearly 70% of the pre-pandemic levels. In the U.S., travelers through TSA checkpoints were up 30% year-over-year in the second quarter, or nearly 90% of 2019 levels. And with travel restrictions easing around the world, we expect growing demand for international travel in the second half of the year, with international revenue passenger miles growing from over 60% of 2019 levels at the end of Q2 to about 75% to 80% of 2019 levels by the end of the year. That being said, we all know the global supply chain isn't where it needs to be, and we're aggressively managing these issues every day. Microelectronics, rocket motors, structural castings all continue to pace manufacturing lines. Today we have people embedded about 330 of our suppliers to help improve performance. And we're also qualifying second, in some cases third sources for critical parts as necessary. Inflation also continues to be at elevated levels, no surprise there. However, on the commercial side, we have long-term agreements in place that cover about 80% of our spend and cover multiple years, which provides an inflation buffer, at least in the near term. On the defense side, we can price inflation into annual production contracts and flow through our rate structure. Additionally, we're driving further automation, standardization, and process improvement projects throughout the company to mitigate inflation headwinds. And lastly, and perhaps just most importantly, the availability of skilled labor is a real challenge across multiple industries right now. And we're seeing it in both at our suppliers and within our own shops. It takes time to hire and train new employees. It doesn't just happen overnight, especially in certain areas, such as much of our classified work. Despite these near-term challenges, what differentiates us is our balanced A&D portfolio. and our world-class technologies that gives us the ability to deliver on our commitments. Okay, let's just take a quick look at Q2. I'm on slide two for those of you following along. We delivered another solid quarter with sales growing 4% organically. Adjusted EPS was a little bit ahead of our expectations at $1.16, and that's up 13% versus the prior year. And free cash flow is essentially in line with our expectations. Growth in the quarter was led by strong commercial aftermarket sales that were up over 26% from the prior year. This strength was partially offset by continued supply chain and labor constraints that principally impacted the defense businesses, as well as some delays in expected contract awards. Notwithstanding these challenges, we continue to see full-year sales in the range of $67.75 billion to $68.75 billion, In adjusted EPS, we continue to see that in the 460 to 480 range. However, there are some changes within the segments. This strength in the commercial arrow will help to offset impacts in our defense businesses that Neil and Jennifer will discuss just a little bit later in the call. As far as our cash flow outlook, we continue to expect about $6 billion of free cash flow for the year. That's, of course, assuming that the R&D tax legislation is repealed. Finally, we repurchased over $1 billion of RTX shares in the quarter, putting us at about $1.8 billion year-to-date, and we remain on track to repurchase at least $2.5 billion for the year. Through the end of the second quarter, we've already returned nearly $11 billion of capital to shareholders since the merger in April of 2020, and we're more than halfway to our commitment to return at least $20 billion in the first four years following the merger. With that, let me turn it over to Neil, and I'll be back at the end for a wrap-up and Q&A. Neil?

Thank you, Greg. Before I talk about the full year, let's look at the second quarter results on slide three. As Greg noted, sales of $16.3 billion grew 4% on an organic basis versus the prior year. Our performance in the quarter was driven by the continued recovery of air travel due to the pent-up demand that was partially offset by continued supply chain constraints that, as Greg said, principally impacted our defense businesses. Adjusted earnings per share of $1.16 was up 13% year over year and was ahead of our expectations, primarily driven by strength in commercial aftermarket at Collins and Pratt and some favorable corporate items, including lower tax expense, which more than offset the impact of lower defense volume and productivity. On a GAAP basis, earnings per share from continuing operations was $0.88 per share and included $0.28 of acquisition accounting adjustments and net significant and or non-recurring items. And finally free cashflow of 807 million was generally in line with our expectations for the quarter. So let me give you some perspective on how we're thinking about the environment as we look ahead to the second half of the year. Let's turn to slide four. I'll start with some positives. The recovery in commercial air traffic remains as strong as very strong as airlines entered the summer travel season with leisure travel bookings well above 2019 levels. And the active fleet is at its highest level since the beginning of the pandemic. And as you saw, our commercial aftermarket sales continue to grow generally in line with our expectations for the quarter. Geographically, U.S. domestic demand has remained strong, while China domestic travel has lagged our expectations so far this year. That said, domestic air traffic in China began to rebound as lockdowns eased throughout the second quarter. On the international front, short-haul international travel or intra-region travel has been quite strong, fueled by a stronger than expected European recovery so far this year. And long-haul international travel, or trans-regional travel, has shown slow but steady sequential growth. And while this is encouraging, we need to see this segment of the market accelerate in the second half of the year. On the defense side, as Greg mentioned, we are optimistic about the fiscal 23 budget request and our continued alignment with the priorities of the United States and our allies. And on the cost reduction front, we remain laser focused on driving operational excellence in our structural cost reduction projects to deliver further margin expansion. In the second quarter, we achieved about $80 million of incremental cost synergies, keeping us on track to achieve $335 million this year and well on our way to $1.5 billion of total gross cost synergies since the merger. At the same time, we continue to monitor the broader geopolitical landscape. as well as the US and global tax environment. And finally, on the challenges side, we continue to see global supply chain and inflationary pressure, as well as labor availability constraints. During the second quarter, we saw a slower than expected recovery in material receipts and the resulting impacts to our shop productivity, along with increasing inflationary pressures in labor, freight, and other indirect cost areas. And while we remain focused on aggressive mitigation actions, we don't expect these pressures to ease until next year. So moving on to our outlook on slide five, we continue to expect our full year sales to be in the range of $67.75 billion to $68.75 billion. However, due to continued supply chain and labor constraints, we now expect lower sales and operating profit at both RIS and RMD for the full year. Those sales impacts are expected to be largely offset by the stronger commercial aerospace recovery we're seeing at Collins and Pratt. From an earnings perspective, we're holding our adjusted EPS range of $4.60 to $4.80 per share, but expect to be more towards the midpoint of the range as we don't expect some of the headwinds to fully recover in the year. I should also point out that we continue to work mitigations to offset the impact of ceasing business activities with Russia and minimizing any impact to our customers. I'll provide more color on the moving pieces between the businesses in a moment. And on the cash front, We continue to expect free cash flow of about $6 billion for the year. It's important to mention that our cash flow outlook continues to assume that the legislation requiring R&D capitalization for tax purposes is deferred beyond 2022, which as I've said before, the free cash flow impact of this legislation is approximately $2 billion for the year. If the legislation isn't deferred by September 15th, we will have to make an incremental cash tax payment of about $1.5 billion here in the third quarter. However, this payment is a timing issue only as we will receive a refund in 2023 for the overpayment if the legislation is ultimately deferred by year end, as we continue to expect. So with that, let's move to slide six for some color on the segment outlooks. At Collins, we continue to expect full year sales to be up low double digits versus prior year, where we now see a little stronger commercial aftermarket recovery that's partially offset by supply chain induced pressures on military sales. As a result of better sales mix and spending containment measures, we're increasing Collins adjusted operating profit from up $650 million to $800 million to a new range of up $700 million to $825 million versus last year. Turning to Pratt & Whitney, we're increasing Pratt & Whitney sales range from up high single to low double digits to a new range of up low teens versus prior year. And that's driven by stronger commercial aftermarket and better commercial OE mix. With respect to operating profit at Pratt, we're increasing Pratt's adjusted operating profit from a range of up $500 to $600 million to a new range of up $550 million to $650 million versus last year. Turning to RIS, due to the pressures we've discussed along with delays in awards, we're reducing RIS's reported sales outlook from down slightly to a new range of down mid-single digit to down low single digit versus prior year. And organically, we're reducing RIS's outlook from up low single digit and now see RIS's organic sales roughly flat versus prior year. And as a result of lower sales outlook and the impact of unfavorable development program adjustments, we're reducing RIS's full year adjusted operating profit from the prior range of flat of $50 million to a new range of down $50 million to flat versus prior year. And finally, at RMD, also due to ongoing material availability delays and the associated productivity impact, along with the anticipated cost reduction, we are reducing RMD's full year sales outlook from the prior range of up low to mid single digit to a new outlook of up slightly versus prior year. And as a result, We are reducing RMDs adjusted operating profit from a prior range of up 150 to 200 million and now expect RMDs operating profit to be in the range of down 50 million to flat versus prior year. And we also expect some improvement in some corporate spending and a lower full year tax rate. We've included an updated outlook for some of those below the line items in the webcast appendix. So with that, let me hand it over to Jennifer to take you through the second quarter segment results.