UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
(Mark One)
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 28, 2008
OR
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-3671
State or other jurisdiction of
incorporation or organization
I.R.S. employer
identification no.
2941 Fairview Park Drive Suite 100
Falls Church, Virginia
Registrant’s telephone number,
including area code
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer þ Accelerated Filer ¨ Non-Accelerated Filer ¨ Smaller Reporting Company ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
389,848,193 shares of the registrant’s common stock, $1 par value per share, were outstanding at October 26, 2008.
INDEX
PART I - FINANCIAL INFORMATION
Item 1 -
Item 2 -
Item 3 -
Item 4 -
FORWARD-LOOKING STATEMENTS
PART II - OTHER INFORMATION
Item 1A -
Item 6 -
SIGNATURES
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PART I – FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEET
ASSETS
Current assets:
Cash and equivalents
Accounts receivable
Contracts in process
Inventories
Other current assets
Total current assets
Noncurrent assets:
Property, plant and equipment, net
Intangible assets, net
Goodwill
Other assets
Total noncurrent assets
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Short-term debt and current portion of long-term debt
Accounts payable
Customer advances and deposits
Other current liabilities
Total current liabilities
Noncurrent liabilities:
Long-term debt
Other liabilities
Commitments and contingencies (See Note J)
Total noncurrent liabilities
Shareholders’ equity:
Common stock
Surplus
Retained earnings
Treasury stock
Accumulated other comprehensive income
Total shareholders’ equity
Total liabilities and shareholders’ equity
The accompanying Notes to Unaudited Consolidated Financial Statements are an integral part of this statement.
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CONSOLIDATED STATEMENT OF EARNINGS
(UNAUDITED)
Net sales:
Products
Services
Operating costs and expenses:
Operating earnings
Interest, net
Other, net
Earnings from continuing operations before income taxes
Provision for income taxes, net
Earnings from continuing operations
Discontinued operations, net of tax
Net earnings
Earnings per share
Basic:
Continuing operations
Discontinued operations
Diluted:
Supplemental information:
General and administrative expenses included in operating costs and expenses
Dividends per share
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CONSOLIDATED STATEMENT OF CASH FLOWS
Cash flows from operating activities:
Adjustments to reconcile net earnings to net cash provided by operating activities –
Depreciation of property, plant and equipment
Amortization of intangible assets
Stock-based compensation expense
Excess tax benefit from stock-based compensation
Deferred income tax provision
(Increase) decrease in assets, net of effects of business acquisitions –
Increase (decrease) in liabilities, net of effects of business acquisitions –
Net cash provided by operating activities from continuing operations
Net cash used by discontinued operations - operating activities
Net cash provided by operating activities
Cash flows from investing activities:
Purchases of available-for-sale securities
Sales/maturities of available-for-sale securities
Capital expenditures
Business acquisitions, net of cash acquired
Proceeds from sale of assets, net
Net cash used by investing activities
Cash flows from financing activities:
Purchases of common stock
Repayment of fixed-rate notes
Dividends paid
Repayment of senior notes
Proceeds from option exercises
Net cash used by financing activities
Net (decrease) increase in cash and equivalents
Cash and equivalents at beginning of period
Cash and equivalents at end of period
Supplemental cash flow information:
Cash payments for:
Income taxes
Interest
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NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts or unless otherwise noted)
The Company
The term “company” or “General Dynamics” used in this document refers to General Dynamics Corporation and all of its wholly owned and majority-owned subsidiaries.
Interim Financial Statements
The unaudited Consolidated Financial Statements included in this Form 10-Q have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. These rules and regulations permit some of the information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (GAAP) to be condensed or omitted.
Operating results for the three- and nine-month periods ended September 28, 2008, are not necessarily indicative of the results that may be expected for the year ending December 31, 2008.
In management’s opinion, the unaudited Consolidated Financial Statements contain all adjustments, that are of a normal recurring nature, necessary for a fair presentation of the company’s results for the three- and nine-month periods ended September 28, 2008, and September 30, 2007.
These unaudited Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in the company’s Annual Report on Form 10-K for the year ended December 31, 2007.
Classification
Consistent with defense industry practice, the company classifies assets and liabilities related to long-term production contracts as current, even though some of these amounts are not expected to be realized within one year. In addition, some prior-year amounts have been reclassified among financial statement accounts to conform to the current-year presentation.
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In 2008, General Dynamics acquired three businesses for an aggregate of approximately $300 in cash.
Marine Systems
HSI Electric, Inc. (HSI), of Honolulu, Hawaii, on July 23. HSI is a marine and industrial electrical company specializing in electrical apparatus installation, maintenance, troubleshooting and repair.
Information Systems and Technology
Integrated Defense Systems, Inc. (IDSI), of Glen Rock, Pennsylvania, on February 29. IDSI produces advanced filtering technologies and broadband power amplifiers for tactical communications applications for military and other government customers.
ViPS, Inc. (ViPS), a wholly owned subsidiary of HLTH Corporation, of Towson, Maryland, on July 22. ViPS is a leading provider of high-end healthcare technology solutions, including data management, analytics, decision support and process automation that support both U.S. federal government agencies and commercial healthcare organizations.
In 2007, General Dynamics acquired four businesses for an aggregate of approximately $330 in cash.
Aerospace
WECO Aerospace Systems, Inc. (WECO), of Lincoln, California, on March 2. WECO is an aviation-component overhaul company specializing in electronic accessories and flight instrument services.
Combat Systems
SNC Technologies Inc. (SNC TEC), a wholly owned subsidiary of SNC-Lavalin Group Inc. of Montreal, Quebec, on January 5. SNC TEC is an ammunition system integrator that supplies small-, medium- and large-caliber ammunition and related products to the Canadian Forces, U.S. and other national defense customers, and law enforcement agencies around the world.
Monteria, LLC (Monteria), of Mount Airy, Maryland, on October 24. Monteria designs and manufactures technology and systems dedicated exclusively to supporting the signals intelligence (SIGINT) community.
Mediaware International Pty Ltd. (Mediaware) of Australia on November 13. Mediaware develops real-time full-motion compressed digital video processing software and systems for defense, intelligence and commercial customers.
General Dynamics funded each of the above acquisitions using cash on hand. The operating results of these businesses have been included with the company’s results since the respective closing dates of the acquisitions. The purchase prices of these businesses have been allocated to the estimated fair value of net tangible and intangible assets acquired, with any excess purchase price recorded as goodwill. Some of the estimates related to the HSI, IDSI and ViPS acquisitions were still preliminary at September 28, 2008. The company is in the process of identifying and valuing intangible and other assets acquired. The completion of these analyses could result in an increase or decrease to the preliminary value assigned to these acquired assets, as well as to future periods’ amortization expense. The company expects the analyses to be completed by the end of the fourth quarter of 2008 without any material adjustments.
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In the third quarter of 2008, the company announced its agreement to acquire Jet Aviation (Jet), a business-aviation services company headquartered in Zurich, Switzerland, for approximately $2.25 billion. Jet’s operating results will be included in the company’s Aerospace group from the date the acquisition closes. The company has received regulatory approval for the transaction and expects to close the acquisition in early November 2008. The company plans to finance the purchase primarily with cash on hand.
Intangible assets consisted of the following:
Contract and program intangible assets
Other intangible assets
Total intangible assets
Contract and program intangible assets represent primarily acquired backlog and probable follow-on work and related customer relationships. The company amortizes these assets over 7 to 40 years. The weighted-average amortization life of these assets as of September 28, 2008, was 17 years. Other intangible assets consist primarily of aircraft product design and customer lists, amortized over 9 and 21 years, respectively, and software and licenses, amortized over 6 to 24 years. The company amortizes intangible assets on a straight-line basis unless the pattern of usage indicates an alternative method is more representative of the usage of the asset.
Amortization expense was $36 and $103 for the three- and nine-month periods ended September 28, 2008, and $36 and $111 for the three- and nine-month periods ended September 30, 2007. The company expects to record annual amortization expense over the next five years as follows:
2009
2010
2011
2012
2013
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The changes in the carrying amount of goodwill by business group for the nine months ended September 28, 2008, were as follows:
December 31, 2007
Acquisitions (a)
Other (b)
September 28, 2008
Earnings per Share
General Dynamics computes basic earnings per share using net earnings for the respective period and the weighted average number of common shares outstanding during the period. Diluted earnings per share incorporates the incremental shares issuable upon the assumed exercise of stock options and the issuance of restricted shares.
Basic and diluted weighted average shares outstanding were as follows (in thousands):
Basic weighted average shares outstanding
Dilutive effect of stock options and restricted stock
Diluted weighted average shares outstanding
Comprehensive Income
The company’s comprehensive income was $501 and $1,746 for the three- and nine-month periods ended September 28, 2008, respectively, and $660 and $1,693 for the three- and nine-month periods ended September 30, 2007, respectively. The primary components of the company’s comprehensive income are net earnings and foreign currency translation adjustments.
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On January 1, 2008, the company adopted Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements, with respect to its financial assets and liabilities. SFAS 157 defines “fair value” in the context of accounting and financial reporting and establishes a framework for measuring fair value under GAAP. SFAS 157 is effective for the company’s non-financial assets and liabilities on January 1, 2009. The company did not have any significant non-financial assets or liabilities measured at fair value as of September 28, 2008, that have not been accounted for under SFAS 157. The following is a summary of the assets and liabilities recorded at fair value on the Consolidated Balance Sheet as of September 28, 2008:
Marketable securities
Derivative financial instruments
The fair value of each of the assets and liabilities above was determined using quoted market prices in active markets for identical instruments. The company’s marketable securities have an average duration of three months and an average credit rating of AA+.
Contracts in process represents recoverable costs and, where applicable, accrued profit related to long-term contracts that have been inventoried until the customer is billed. Contracts in process consisted of the following:
Contract costs and estimated profits
Other contract costs
Less advances and progress payments
Total contracts in process
Contract costs consist primarily of labor and material costs and related overhead and general and administrative (G&A) expenses. Contract costs also include contract recoveries for matters such as contract changes, negotiated settlements and claims for unanticipated contract costs, which totaled approximately $60 as of September 28, 2008, and $20 as of December 31, 2007. The company records revenue associated with these matters only when recovery can be estimated reliably and realization is probable. Contract costs as of September 28, 2008, and December 31, 2007, also included approximately $225 associated with the company’s contract to provide 199 Pandur II wheeled vehicles to the Czech Republic. In the second quarter of 2008, the company entered into a memorandum of understanding and a testing agreement with the Czech Republic regarding the testing and acceptance of 17 Pandur II vehicles completed by the company. These agreements are part of ongoing negotiations between the company and the Czech Republic following a notice of termination delivered by the customer in December 2007. The parties are negotiating a revised contract for the purchase of 107 vehicles, including the 17 completed vehicles, and the company expects to recover the September 28, 2008, contracts-in-process balance over the course of the revised contract.
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Other contract costs represent amounts recorded under GAAP that are not currently allocable to government contracts, such as a portion of the company’s estimated workers’ compensation, other insurance-related assessments, pension and other post-retirement benefits, and environmental expenses. These costs will become allocable to contracts generally when they are paid. The company expects to recover these costs through ongoing business, including existing backlog and probable follow-on contracts. This business base includes numerous contracts for which the company is the sole source or is one of two suppliers on long-term U.S. defense programs. However, if the backlog in the future does not support the continued deferral of these costs, the profitability of the company’s remaining contracts could be adversely affected. The company expects to bill substantially all of its September 28, 2008, contracts-in-process balance, with the exception of these other contract costs, during the next 12 months.
Inventories represent primarily commercial aircraft components and consisted of the following:
Raw materials
Work in process
Pre-owned aircraft
Other
Total inventories
Debt consisted of the following:
Fixed-rate notes due:
May 2008
August 2010
May 2013
August 2015
Senior notes due September 2008
Term debt due December 2008
Total debt
Less current portion
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As of September 28, 2008, General Dynamics had outstanding $2.1 billion aggregate principal amount of fixed-rate notes. The sale of the fixed-rate notes was registered under the Securities Act of 1933, as amended. The notes are fully and unconditionally guaranteed by several of the company’s 100-percent-owned subsidiaries. The company has the option to redeem the notes prior to their maturity in whole or in part at 100 percent of the principal plus any accrued but unpaid interest and any applicable make-whole amounts. See Note M for condensed consolidating financial statements.
The company repaid $500 of the fixed-rate notes, as well as the $150 of senior notes, at maturity in 2008.
The company assumed the term debt in connection with the acquisition of Primex Technologies, Inc., in 2001. The company made a final annual sinking fund payment of $5 in December 2007. A final semiannual interest payment is due at maturity in December 2008 at a rate of 7.5 percent annually.
As of September 28, 2008, and December 31, 2007, the company had no commercial paper outstanding but maintains the ability to access the market. The company has approximately $2 billion in bank credit facilities that provide backup liquidity to its commercial paper program. These credit facilities consist of a $1 billion multiyear facility expiring in July 2009 and a $975 multiyear facility expiring in December 2011. The company’s commercial paper issuances and the bank credit facilities are guaranteed by several of the company’s 100-percent-owned subsidiaries. Additionally, a number of the company’s international subsidiaries have available local bank credit facilities aggregating approximately $1.2 billion.
The company’s financing arrangements contain a number of customary covenants and restrictions. The company was in compliance with all material covenants as of September 28, 2008.
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A summary of significant liabilities, by balance sheet caption, follows:
Salaries and wages
Retirement benefits
Workers’ compensation
Other (a)
Total other current liabilities
Customer deposits on commercial contracts (b)
Deferred U.S. federal income taxes
Other (c)
Total other liabilities
The company’s net deferred tax liability was included in the Consolidated Balance Sheet as follows:
Current deferred tax asset
Current deferred tax liability
Noncurrent deferred tax asset
Noncurrent deferred tax liability
Net deferred tax liability
On November 27, 2001, General Dynamics filed a refund suit in the U.S. Court of Federal Claims, titled General Dynamics v. United States, for the years 1991 to 1993. The company added the years 1994 to 1998 to the litigation on June 23, 2004. The suits sought recovery of refund claims that were disallowed by the Internal Revenue Service (IRS) at the administrative level. On December 30, 2005, the court issued its opinion regarding one of the issues in these cases. The court held that the company could not treat the A-12 contract as complete for federal income tax purposes in 1991, the year the contract was terminated. (See Note J for more information regarding the A-12 contract.) On the other issues in the case, the company has reached a settlement with the U.S. Department of Justice acting on
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behalf of the United States. As a result of the settlement, the company reduced its tax provision in the second quarter of 2008 by $35 (or $0.09 per share). In the fourth quarter of 2008, the company received a refund of $45, including taxable interest, and the court dismissed these cases.
The IRS has examined all of the company’s consolidated federal income tax returns through 2004. The IRS commenced its examination of the company’s 2005 and 2006 income tax returns in October 2007, and the company expects this examination to conclude in 2009. The company has recorded liabilities for tax contingencies for all years that remain open to review. The company does not expect the resolution of tax matters for these years to have a material impact on its results of operations, financial condition or cash flows.
With respect to income tax uncertainties, based on all known facts and circumstances and current tax law, the company believes that the total amount of unrecognized tax benefits as of September 28, 2008, is not material to its results of operations, financial condition or cash flows. The company also believes that the total amount of unrecognized tax benefits as of September 28, 2008, if recognized would not have a material impact on its effective tax rate. The company further believes that there are no tax positions for which it is reasonably possible that the unrecognized tax benefits will significantly increase or decrease over the next 12 months producing, individually or in the aggregate, a material effect on the company’s results of operations, financial condition or cash flows.
Litigation
Termination of A-12 Program. In January 1991, the U.S. Navy terminated the company’s A-12 aircraft contract for default. The A-12 contract was a fixed-price incentive contract for the full-scale development and initial production of the Navy’s carrier-based Advanced Tactical Aircraft. Both the company and McDonnell Douglas (the contractors) were parties to the contract with the Navy. (McDonnell Douglas is now owned by The Boeing Company.) Both contractors had full responsibility to the Navy for performance under the contract, and both are jointly and severally liable for potential liabilities arising from the termination. As a consequence of the termination for default, the Navy demanded the contractors repay $1.4 billion in unliquidated progress payments. The Navy agreed to defer collection of that amount pending a decision by the U.S. Court of Federal Claims (the trial court) on the contractors’ challenge to the termination for default, or a negotiated settlement.
On December 19, 1995, the trial court issued an order converting the termination for default to a termination for convenience. On March 31, 1998, a final judgment was entered in favor of the contractors for $1.2 billion plus interest.
On July 1, 1999, the U.S. Court of Appeals for the Federal Circuit (the appeals court) remanded the case to the trial court for determination of whether the government’s default termination was justified. On August 31, 2001, following the trial on remand, the trial court upheld the default termination of the A-12 contract. In its opinion, the trial court rejected all of the government’s arguments to sustain the default termination except for the government’s schedule arguments, as to which the trial court held that the schedule the government unilaterally imposed was reasonable and enforceable, and that the government had not waived that schedule. On the sole ground that the contractors were not going to deliver the first aircraft on the date provided in the unilateral schedule, the trial court upheld the default termination and entered judgment for the government.
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On January 9, 2003, the company’s appeal was argued before a three-judge panel of the appeals court. On March 17, 2003, the appeals court vacated the trial court’s judgment and remanded the case to the trial court for further proceedings. The appeals court found that the trial court had misapplied the controlling legal standard in concluding the termination for default could be sustained solely on the basis of the contractors’ inability to complete the first flight of the first test aircraft by December 1991. Rather, the appeals court held that to uphold a termination for default, the trial court would have to determine that there was no reasonable likelihood that the contractors could perform the entire contract effort within the time remaining for performance.
On May 3, 2007, the trial court issued a decision upholding the government’s default termination. The company believes that the trial court failed to follow the appeals court ruling and continues to believe that the evidence supports a determination that the government’s default termination was not justified. The case is currently on appeal with the appeals court. The appeal is scheduled to be argued in the fourth quarter of 2008.
If, contrary to the company’s expectations, the default termination is ultimately sustained, the contractors could collectively be required to repay the government as much as $1.4 billion for progress payments received for the A-12 contract, plus interest, which was approximately $1.4 billion at September 28, 2008. This would result in a liability for the company of approximately $1.4 billion pretax. The company’s after-tax charge would be approximately $770, or $1.91 per share, to be recorded in discontinued operations. The company’s after-tax cash cost would be approximately $685. The company believes it has sufficient resources to satisfy its obligation if required.
Other. Various claims and other legal proceedings incidental to the normal course of business are pending or threatened against the company. While it cannot predict the outcome of these matters, the company believes any potential liabilities in these proceedings, individually or in the aggregate, will not have a material impact on its results of operations, financial condition or cash flows.
Environmental
General Dynamics is subject to and affected by a variety of federal, state, local and foreign environmental laws and regulations. The company is directly or indirectly involved in environmental investigations or remediation at some of its current and former facilities, and at third-party sites not owned by the company but where it has been designated a Potentially Responsible Party (PRP) by the U.S. Environmental Protection Agency or a state environmental agency. Based on historical experience, the company expects that a significant percentage of the total remediation and compliance costs associated with these facilities will continue to be allowable contract costs and, therefore, reimbursed by the U.S. government.
As required, the company provides financial assurance for certain sites undergoing or subject to investigation or remediation. Where applicable, the company seeks insurance recovery for costs related to environmental liability. The company does not record insurance recoveries before collection is considered probable. Based on all known facts and analyses, as well as current U.S. government policies relating to allowable costs, the company does not believe that its liability at any individual site, or in the aggregate, arising from such environmental conditions, will be material to its results of operations, financial condition or cash flows. The company also does not believe that the range of reasonably possible additional loss beyond what has been recorded would be material to its results of operations, financial condition or cash flows.
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In the ordinary course of business, General Dynamics has entered into letters of credit and other similar arrangements with financial institutions and insurance carriers totaling approximately $1.5 billion at September 28, 2008. The company, from time to time in the ordinary course of business, guarantees the payment or performance obligations of its subsidiaries arising under certain contracts. The company is aware of no event of default that would require it to satisfy these guarantees.
As a government contractor, the company is occasionally subject to U.S. government audits and investigations relating to its operations, including claims for fines, penalties, and compensatory and treble damages. Based on currently available information, the company believes the outcome of such ongoing government disputes and investigations will not have a material impact on its results of operations, financial condition or cash flows.
The company provides product warranties to its customers associated with the majority of its product sales. The company records estimated warranty costs in the period in which the related products are delivered. The warranty liability recorded at each balance sheet date is based on the estimated number of months of warranty coverage remaining for products delivered and the average historical monthly warranty payments, and is included in other current liabilities and other liabilities on the Consolidated Balance Sheet.
The changes in the carrying amount of warranty liabilities for the nine-month periods ended September 28, 2008, and September 30, 2007, were as follows:
Beginning balance
Warranty expense
Payments
Reclassification
Ending balance*
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The company provides defined-benefit pension and other post-retirement benefits, as well as defined-contribution benefits, to eligible employees.
Net periodic pension and other post-retirement benefit costs for the three- and nine-month periods ended September 28, 2008, and September 30, 2007, consisted of the following:
Post-retirement Benefits
Service cost
Interest cost
Expected return on plan assets
Recognized net actuarial loss
Amortization of prior service cost
Net periodic cost
Amortization of transition obligation
General Dynamics’ contractual arrangements with the U.S. government provide for the recovery of contributions to the company’s pension plans covering employees working in its government contracting businesses. With respect to post-retirement benefit plans, the company’s government contracts provide for the recovery of contributions to a Voluntary Employees’ Beneficiary Association trust and, for non-funded plans, recovery of claims paid. The cumulative pension and post-retirement benefit cost for some of these plans exceeds the company’s cost currently allocable to contracts. To the extent recovery of the cost is considered probable based on the company’s backlog, the company defers the excess in contracts in process on the Consolidated Balance Sheet until the cost is paid, charged to contracts and included in net sales. For other plans, the amount contributed to the plans, charged to contracts and included in net sales has exceeded the plans’ cumulative benefit cost. The company has deferred recognition of these excess earnings to provide a better matching of revenues and expenses. These deferrals have been classified against the prepaid benefit cost related to these plans. (See Note E for discussion of the company’s deferred contract costs.)
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General Dynamics operates in four business groups: Aerospace, Combat Systems, Marine Systems and Information Systems and Technology. The company organizes and measures its business groups in accordance with the nature of products and services offered. These business groups derive their revenues from business aviation; combat vehicles, weapons systems and munitions; shipbuilding design and construction; and information systems, technologies and services, respectively. The company measures each group’s profit based on operating earnings. As a result, the company does not allocate net interest, other income and expense items, and income taxes to its business groups.
Summary operating results for each of the company’s business groups follows:
Corporate*
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The fixed-rate notes described in Note G are fully and unconditionally guaranteed on an unsecured, joint and several basis by certain 100-percent-owned subsidiaries of General Dynamics Corporation (the guarantors). The following condensed consolidating financial statements illustrate the composition of the parent, the guarantors on a combined basis (each guarantor together with its majority-owned subsidiaries) and all other subsidiaries on a combined basis.
Condensed Consolidating Statement of Earnings
Net sales
Cost of sales
General and administrative expenses
Interest expense
Interest income
Earnings before income taxes
Provision for income taxes
Equity in net earnings of subsidiaries
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Condensed Consolidating Balance Sheet
Property, plant and equipment
Accumulated depreciation of PP&E
Intangible assets and goodwill
Accumulated amortization of intangible assets
Investment in subsidiaries
Short-term debt
Liabilities of discontinued operations
Intercompany
Common stock, including surplus
Other shareholders’ equity
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Condensed Consolidating Statement of Cash Flows
Cash sweep/funding by parent
Net decrease in cash and equivalents
Net increase in cash and equivalents
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Business Overview
General Dynamics offers a broad portfolio of products and services in business aviation; combat vehicles, weapons systems and munitions; shipbuilding design and construction; and information systems, technologies and services. The company operates through four business groups – Aerospace, Combat Systems, Marine Systems, and Information Systems and Technology. General Dynamics’ primary customers are the U.S. military, other U.S. government organizations, the armed forces of other nations, and a diverse base of corporate, government and individual buyers of business aircraft. The company operates in two primary markets: defense and business aviation. The majority of the company’s revenues derive from contracts with the U.S. military. The following discussion should be read in conjunction with the company’s 2007 Annual Report on Form 10-K, filed with the Securities and Exchange Commission, and with the unaudited Consolidated Financial Statements included herein.
Results of Operations
Consolidated Overview
Operating margin
General Dynamics’ net sales increased in the third quarter and first nine months of 2008 over the same periods in 2007. The Marine Systems group led the company’s sales growth in the third quarter with a double-digit increase over the prior year. Sales in the Aerospace and Information Systems and Technology groups were up in the quarter on higher aircraft deliveries and increased activity on tactical communications programs. The Combat Systems group’s sales were down slightly from the third quarter of 2007 as continued growth in the group’s military vehicle business was offset by reduced sales in the group’s weapons systems business. In the first nine months of 2008, each of the company’s business groups contributed to the solid sales growth. Three of the company’s four business groups generated double-digit sales growth over the first nine months of 2007, with the most notable increase in sales in the Combat Systems group on strong demand in the U.S. military vehicle business.
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The company’s operating earnings and margins have increased significantly in 2008. Growth in operating earnings outpaced the sales growth in all of the company’s business groups in both the third quarter and first nine months of 2008. As a result, the company’s overall operating margins grew by 140 basis points in the third quarter and 130 basis points in the first nine months of 2008. The company’s continued focus on program execution has resulted in total operating margins in the third quarter of 2008 in excess of 13 percent, the company’s highest quarterly margins in eight years.
General and administrative (G&A) expenses as a percentage of net sales for the first nine months of 2008 were 6.0 percent compared with 6.2 percent in the same period in 2007. The company expects G&A expenses as a percentage of sales for the full-year 2008 to approximate the full-year 2007 rate of 6.0 percent.
Net cash provided by operating activities was $2.3 billion in the first nine months of 2008, compared with $1.9 billion in the same period in 2007. The company used cash to repurchase its common stock, pay dividends, repay maturing debt, and fund acquisitions and capital expenditures. The company’s net debt – debt less cash and equivalents and marketable securities – was a net cash surplus of $665 at the end of the third quarter of 2008 compared with net debt of $559 at third quarter 2007. The company achieved this $1.2 billion improvement after deploying approximately $330 on acquisitions, $1.1 billion on share repurchases and $514 on dividends paid during the past 12 months. The company expects to generate cash from operating activities in excess of net earnings for the full-year 2008.
The company’s net interest expense in the first nine months of 2008 decreased by $17, or 29 percent, from the first nine months of 2007 due to additional interest income on a higher average invested cash balance. Net interest was essentially unchanged from the third quarter of 2007 to the third quarter of 2008. The company expects full-year net interest expense of approximately $55 to $60.
The company’s effective tax rate for the nine-month period ended September 28, 2008, was 30.9 percent compared with 31.3 percent in the same period in 2007. In the second quarter of 2008, the Joint Committee on Taxation of the Congress approved a proposed settlement between the company and the U.S. Department of Justice related to a tax refund suit. This resulted in a $35, or approximately $0.09 per-share benefit, which reduced the tax rate for the first nine months of 2008 by 130 basis points. In the first nine months of 2007, the effective tax rate was impacted favorably by the resolution of the company’s 2003-2004 federal income tax audit. This settlement resulted in an $18, or $0.04 per-share benefit, which reduced the effective tax rate in the first nine months of 2007 by 80 basis points. The company anticipates an effective tax rate slightly above 31 percent for the full-year 2008, compared with 31.7 percent in 2007. For additional discussion of tax matters, see Note I to the unaudited Consolidated Financial Statements.
The company completed the sale of its coal mining operation in the third quarter of 2007. The company’s reported discontinued operations include the operating results of this business prior to the sale in 2007 and final adjustments to the loss on the sale in 2008.
The company generated total new orders of $12.7 billion in the third quarter of 2008. As a result, total backlog grew more than 9 percent to $60.5 billion over the second quarter of 2008. Funded backlog was $49.7 billion as of September 28, 2008, up 10 percent over the second quarter of 2008. Each of the Aerospace, Combat Systems and Information Systems and Technology groups experienced strong order activity in the quarter, contributing to this backlog growth. The company’s total backlog does not include work awarded under unfunded indefinite delivery, indefinite quantity (IDIQ) contracts, unexercised options associated with existing firm contracts or options to purchase new aircraft. Management’s estimate of this potential contract value, which may be realized by the company over the next 14 years, was approximately $17.7 billion at the end of the third quarter 2008, up slightly from $17.4 billion at the end of the second quarter.
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Aircraft deliveries (in units):
Green
Completion
The Aerospace group’s sales increased in both the third quarter and first nine months of 2008 compared with the same periods in 2007 primarily on increased deliveries of green and completed aircraft. The group has steadily increased production rates to facilitate increased aircraft deliveries in response to a growing backlog of aircraft. As a result, new aircraft sales increased 8 percent in the third quarter and 12 percent in the first nine months of 2008. Aircraft services volume was essentially unchanged in the third quarter of 2008 compared with the same period in 2007. Year-to-date, the group’s aircraft services sales grew by 10 percent over 2007. There were no pre-owned aircraft sales in the third quarter of 2008 compared with $35 in the third quarter of 2007. Pre-owned aircraft sales were $17 in the first nine months of 2008, down from $78 in the same period in 2007. The group had one pre-owned aircraft available for sale at the end of the third quarter of 2008.
The group’s operating earnings improved substantially in the third quarter and first nine months of 2008, growing at a significantly higher rate than sales in both periods. Three primary factors impacted the growth in the group’s operating earnings:
Increased aircraft deliveries
Pricing, delivery mix and labor efficiencies
Total increase in operating earnings
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Operating earnings in 2008 have benefitted from higher prices on aircraft deliveries over those delivered in 2007. In addition, the group has continued to realize operational efficiencies in the aircraft manufacturing process. Year-to-date in 2008, improvements in productivity have offset supply-chain cost growth, allowing the group to fully benefit from the year-over-year pricing increases on aircraft deliveries. Earnings in 2008 also included the delivery in the third quarter of a special-mission aircraft, which had above-average margins. The group’s G&A costs remained unchanged from the third quarter of 2007 but were up for the first nine months as a result of increased selling expenses from strong order activity and higher product development costs. Operating margins increased 330 basis points in the third quarter and 250 basis points in the first nine months over the same periods in 2007.
The company expects full-year 2008 sales growth in the Aerospace group of between 12 and 13 percent based on the planned number and mix of aircraft deliveries. The company expects the group’s full-year margins to be in the mid-18 percent range based on the projected mix of aircraft deliveries and operational efficiencies realized to date.
The Combat Systems group’s net sales decreased slightly in the third quarter of 2008 compared to the third quarter of 2007 but were up significantly in the first nine months of 2008 compared with last year. The changes in the group’s sales from 2007 to 2008 were driven primarily by the group’s U.S. military vehicle and weapons systems businesses:
U.S. military vehicles
Weapons systems
Total (decrease) increase in sales
The growth in military vehicle sales in the third quarter resulted from higher activity on several contracts in support of the Abrams main battle tank, including the System Enhancement Package (SEP) upgrade and the M1A1 reset programs, as well as the Expeditionary Fighting Vehicle (EFV) program. Year-to-date sales in the U.S. military vehicle business were up significantly, due largely to increased
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volume on the group’s contracts to produce RG-31 and Cougar armored vehicles under the mine-resistant, ambush-protected (MRAP) vehicle program. The group has completed deliveries of initial orders under this program but has received an order to deliver additional units between December 2008 and April 2009. The remainder of the year-to-date sales growth in this business was generated by higher activity on several Abrams tank support contracts. Sales volume in the group’s weapons systems business decreased in the third quarter and first nine months of 2008 due to lower deliveries of systems that help protect U.S. combat forces from improvised explosive devices.
In the second quarter of 2008, the company entered into a memorandum of understanding and a testing agreement with the Czech Republic regarding the testing and acceptance of 17 Pandur II vehicles completed by the group under a contract for 199 vehicles. These agreements are part of ongoing negotiations between the company and the Czech Republic following a notice of termination delivered by the customer in December 2007. The parties are negotiating a revised contract for the purchase of 107 vehicles, including the 17 completed vehicles. The company does not believe the outcome of the negotiations will have a material effect on the group’s operating results. Due to ongoing negotiations, additional sales under this contract that the company expected to recognize in the second half of 2008 are now expected to materialize beginning in 2009.
The Combat Systems group’s operating earnings were up significantly on lower sales volume in the third quarter of 2008 and increased at almost three times the rate of sales growth in the first nine months of 2008. The substantial growth in operating earnings produced a 200 basis-point increase in operating margins in the quarter and a 220 basis-point improvement year-to-date over the same prior-year periods. The earnings and margin growth in 2008 resulted primarily from improved performance in the group’s U.S. military vehicle business, particularly on the MRAP and Abrams programs.
The company expects Combat Systems to generate sales growth of about 6 percent for the full year 2008 with margins slightly above 13 percent. Total expected sales growth for the year is lower than previously projected due to the timing of funding on several U.S. and international programs, including the Czech Pandur contract, which has pushed some anticipated revenues to 2009. The outlook for the group’s full-year operating margins has improved as a result of operational efficiencies realized to date.
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The Marine Systems group’s net sales increased significantly in the three- and nine-month periods ended September 28, 2008, over the same prior-year periods. The growth in the group’s sales consisted of the following:
Mature Navy ship production
Commercial ship production
Navy design and early-stage production
Total increase in sales
The group’s mature ship-production programs for the U.S. Navy include the Virginia-class submarine, the T-AKE combat-logistics ship and the Arleigh Burke-class (DDG-51) destroyer. The Virginia program experienced significantly higher activity in 2008 as construction continues on the remaining five ships under the fixed-price Block II contract. The final Block I ship was delivered in the first quarter of 2008, and the first Block II ship was delivered in the third quarter of 2008. Deliveries are scheduled through 2013. The company expects to finalize negotiations for an eight-ship Block III contract by the end of 2008. On the T-AKE program, construction is in process on the sixth through tenth ships of the group’s 14-ship program. The group delivered the fifth T-AKE in June 2008, and the sixth ship was delivered in October 2008. Volume on the Arleigh Burke destroyer program in 2008 is down slightly compared to 2007. The group continues construction on the remaining five ships under contract with deliveries scheduled through 2011. The next destroyer is scheduled to be delivered in the fourth quarter of 2008.
Increased commercial shipbuilding volume resulted from higher activity on the group’s nine-ship, product carrier program. Construction is in process on the first three ships, and the first ship is scheduled to be delivered in the first quarter of 2009. Volume was also up in design and early-stage production activities for the Navy in 2008 from continued design work on the group’s DDG-1000 next-generation destroyer. The volume increases in the group in 2008 were offset slightly by the completion of the group’s SSGN submarine conversion contract in the fourth quarter of 2007.
The Marine Systems group has generated substantial improvement in operating earnings and margins in 2008 compared to 2007. The group has increased its labor efficiencies at each of its shipyards and, as a result, improved its operating performance on several key programs. Most notably, the group increased program earnings rates on the Virginia-class, T-AKE and commercial product carrier programs in the third quarter of 2008. The group’s margins increased 120 basis points in the third quarter and 80 basis points year-to-date due to the improved contract performance.
The company expects the Marine Systems group’s full-year 2008 sales growth to approach 8 percent over 2007. The group expects operating margins for the full year to exceed 9 percent as the group pursues further efficiencies on its ship-construction programs.
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The Information Systems and Technology group’s sales increased in the third quarter and first nine months of 2008 compared with 2007, led by double-digit growth in the group’s tactical and strategic mission systems business. The group’s 2008 sales increase consisted of the following:
U.S. defense
United Kingdom
Commercial wireless
The group’s U.S. defense market consists of the tactical and strategic mission systems, information technology (IT) and mission services, and intelligence mission systems businesses. Sales in the tactical systems business were up as a result of increased volume on the group’s ground-based satellite communications programs and several key contracts that support the U.S. military. Most notably, activity increased on the Warfighter Information Network – Tactical (WIN-T) program, which provides warfighters fast, secure, mobile command-and-control capabilities, and the Common Hardware/Software III (CHS-3) program, which provides commercial and ruggedized computers, network equipment and software to the U.S. armed forces and other U.S. federal agencies worldwide. In the IT services business, ramp-up activity on the group’s contract to provide technology operations and maintenance infrastructure support (TOMIS) services for U.S. Citizenship and Immigration Services was offset by decreased volume on the Intelligence Information, Command-and-Control Equipment and Enhancements (ICE2) program. The group’s intelligence systems business has experienced program funding delays in 2008 that have resulted in a reduction in volume from 2007, but volume has steadied in recent quarters.
In the group’s United Kingdom operation, sales increased in the third quarter but decreased in the first nine months of 2008 compared to the same prior-year periods. Activity on the group’s BOWMAN communications program is down slightly from 2007, but the program has reached a steady-state level of volume for the foreseeable future. This scheduled decline on the BOWMAN program has been partially offset in 2008 by increased activity on various other command, control, communications, computing and intelligence systems (C4I) programs.
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Sales in the commercial wireless market stabilized in the third quarter as volume was steady compared to the same period in 2007. Year-to-date commercial wireless sales were down compared with 2007 due to reduced demand in this market.
Operating earnings and margins in the Information Systems and Technology group increased in both the third quarter and first nine months of 2008 compared to 2007. Operating performance improved in both the group’s tactical systems and intelligence systems businesses, resulting in an increase to margins of 10 basis points in the quarter and 30 basis points year-to-date.
In the Information Systems and Technology group, the company expects full-year 2008 sales growth between 4 and 5 percent. The company expects the group’s operating margins to decline slightly in the fourth quarter due to a shift in contract mix toward IT services work. Margins for the full year are expected to be consistent with those achieved in 2007.
Corporate
Corporate results consist primarily of the company’s stock option expense and a portion of the results of the company’s commercial pension plans. Corporate operating expenses totaled $20 in the third quarter of 2008 compared with $17 in the third quarter of 2007. Year-to-date corporate operating expenses were $56 in the first nine months of 2008 compared with $42 in the same period in 2007. The increase in both periods resulted from higher stock option expense. The company expects 2008 stock option expense of $75.
Backlog
The following table details the backlog and the total estimated contract value of each business group at the end of the third and second quarters of 2008:
Total
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Defense Businesses
The total backlog for the company’s defense businesses represents the estimated remaining sales value of work to be performed under firm contracts. The funded portion of this backlog includes items that have been authorized and appropriated by the Congress and funded by the customer, as well as commitments by international customers that are similarly approved and funded by their governments. The unfunded backlog represents firm orders that do not meet these criteria. While there is no guarantee that future budgets and appropriations will provide funding for a given program, the company has included in backlog only firm contracts it believes are likely to receive funding. The backlog does not include work awarded under unfunded indefinite delivery, indefinite quantity (IDIQ) contract awards or unexercised options. The estimated potential contract value represents management’s estimate of the future contract value to the company under these arrangements.
IDIQ contracts are used when the customer has not defined the exact timing and quantity of deliveries that will be required at the time the contract is executed. These agreements, which set forth the majority of the contractual terms, including prices, are funded when delivery orders are placed. A significant portion of the company’s IDIQ value represents contracts for which the company has been designated as the sole-source supplier to design, develop, produce and integrate complex products and systems over several years for the military or other government agencies. Management believes the customers intend to fully implement these systems. However, because the value of these arrangements is subject to the customer’s future exercise of an indeterminate quantity of delivery orders, the company recognizes these contracts in backlog only when they are funded.
Contract options in the company’s defense businesses represent agreements to perform additional work beyond the products and services associated with firm contracts, if the customer exercises the option. These options are negotiated in conjunction with a firm contract and provide the terms under which the customer may elect to procure additional units or services at a future date. The company recognizes unexercised options in backlog when the customer exercises the option and establishes a firm order.
Total orders received in the company’s defense businesses during the third quarter of 2008 were $8.1 billion. The orders in the third quarter included several notable contract awards.
Combat Systems awards included the following:
Combined orders totaling over $900 from the U.S. Army for the production of 677 Stryker vehicles including all 10 variants. These contracts have a potential value of over $1.2 billion.
Approximately $765 from the U.S. Marine Corps for the development and manufacturing of seven new Expeditionary Fighting Vehicle (EFV) prototypes.
Initial funding of approximately $615 from the Army under the company’s $1.2 billion multi-year contract for the upgrade of M1A1 Abrams main battle tanks to the M1A2 SEP configuration.
Over $540 from the Marine Corps for 773 RG-31 Mk5E Category I vehicles and related spares under MRAP vehicle program. The vehicles are scheduled to be delivered by April 2009.
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Approximately $265 from the Army for Stryker modification kits to be used in Operation Iraqi Freedom.
Approximately $220 from the Army for Tank Urban Survivability Kits (TUSK) for the Abrams tank.
Approximately $175 from the Army to continue field support, including reset and battle damage repair, under the Stryker program.
Over $100 from the Spanish government for 100 RG-31 Mk5E mine-protected vehicles.
$85 from the Army for the production of Hydra-70 (2.75-inch) rockets. This order brings the total contract value to date to almost $800. The contract has a total potential value of over $900.
Marine Systems awards included the following:
$420 from the U.S. Navy for the modernization of LSD-class amphibious assault ships.
Information Systems and Technology awards included the following:
Combined orders totaling $850 under the ICE2 program, bringing the total contract value to date to $3.1 billion.
Combined orders totaling over $260 under the Common Hardware/Software III program, bringing the total contract value to almost $1.6 billion.
Approximately $135 to provide technical support services for the Warfighter Information Network-Tactical (WIN-T) mobile command-and-control system.
An IDIQ contract from the Naval Air Systems Command with a potential value of over $180 for integrated logistics support for foreign military sales.
The company has received significant contract awards since the end of the third quarter. The Combat Systems group received a $66 order from the Army for MK-19 grenade machine guns to be delivered between 2009 and 2012. The Army also awarded a joint venture in which Combat Systems participates one of three Joint Light Tactical Vehicle (JLTV) technology demonstration contracts. The 27-month contract has a funded value of $45 and a potential value of approximately $60. The JLTV is intended to replace the Army and Marine Corps’ fleet of High Mobility Multipurpose Wheeled Vehicles (HMMWV).
The Aerospace funded backlog represents orders for which the company has definitive purchase contracts and deposits from the customer. The Aerospace unfunded backlog consists of agreements to provide future aircraft maintenance and support services. The Aerospace potential contract value represents options to purchase new aircraft.
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In the third quarter of 2008, the Aerospace group received $4.6 billion in orders. The group’s new-aircraft book-to-bill ratio (orders divided by sales) in the third quarter was 3.9. This was the group’s tenth consecutive quarter of book-to-bill greater than one, resulting in the largest backlog in the group’s history. The group continues to experience strong demand for its large-cabin models, while orders for mid-size aircraft, particularly the G150 model, softened in the third quarter. As a result, the company will reduce production of the G150 in 2009. The company is also considering increasing its production of large aircraft in 2009.
In the third quarter, the group continued taking orders for the Gulfstream G650, a new ultra-large-cabin, ultra-long-range business jet that is scheduled to enter service in the second quarter of 2012. Demand for this new product has been very strong since its introduction in the second quarter of 2008. The group introduced the new G250 super-mid-size business jet and began taking orders in the fourth quarter of 2008.
Financial Condition, Liquidity and Capital Resources
Operating Activities
General Dynamics continued to generate strong cash flow from operating activities in the first nine months of 2008. Net cash provided by operating activities increased by $456 to $2.3 billion in the first nine months of 2008 compared with $1.9 billion in the same period in 2007. The two primary drivers of the increased cash flow in 2008 were $346 of growth in the company’s earnings from continuing operations and an increase in non-refundable customer deposits in the Aerospace group from the group’s significant order activity. Cash flows from operating activities in 2007 included approximately $270 received upon resolution of the Marine Systems group’s request for equitable adjustment on the T-AKE contract. The company ended the third quarter of 2008 with a cash balance of $2.6 billion compared with $2.9 billion at the end of 2007.
As discussed further in Note J to the unaudited Consolidated Financial Statements, litigation on the A-12 contract termination has been ongoing since 1991. If, contrary to the company’s expectations, the default termination ultimately is sustained, the company and The Boeing Company could collectively be required to repay the U.S. government as much as $1.4 billion for progress payments received for the A-12 contract, plus interest, which was approximately $1.4 billion at September 28, 2008. If this were the outcome, the government contends the company would owe approximately $1.4 billion pretax. The company’s after-tax cash obligation would be approximately $685. The company believes it has sufficient resources to pay such an obligation, if required, while still retaining ample liquidity.
Investing Activities
Net cash used for investing activities was $610 for the nine-month period ended September 28, 2008, compared with $690 in the same period in 2007. The primary uses of cash in investing activities were business acquisitions and capital expenditures. As discussed further in Note B to the unaudited Consolidated Financial Statements, in the first nine months of 2008, the company completed three acquisitions for approximately $300 in cash. In the first nine months of 2007, the company completed two acquisitions for an aggregate of approximately $300 in cash. The company used cash on hand to fund these acquisitions. The company expects full-year capital expenditures to equal 1.5 to 2 percent of net sales.
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Financing Activities
Financing activities used net cash of $2 billion in the first nine months of 2008 compared with $739 in the same period in 2007. The company’s typical financing activities include issuances and repayments of debt, payment of dividends and repurchases of common stock. Net cash from financing activities also includes proceeds received from stock option exercises.
In the first nine months of 2008, the company repaid $500 of fixed-rate debt and $150 of senior notes on the scheduled maturity dates. There were no significant debt repayments in the first nine months of 2007. In the fourth quarter of 2008, $20 of term debt is scheduled to mature. The company expects to use cash on hand to repay this indebtedness on maturity. There are no significant scheduled debt maturities until August 2010.
On March 5, 2008, the company’s board of directors declared an increase in the company’s regular quarterly dividend to $0.35 per share – the 11th consecutive annual increase. The board had previously increased the regular quarterly dividend to $0.29 per share in March 2007.
In the first nine months of 2008, the company repurchased approximately 14.4 million of its outstanding shares on the open market, including approximately $150 that will settle in the fourth quarter. In the first nine months of 2007, the company repurchased approximately 6 million of its shares. On October 1, 2008, the company’s board of directors increased the number of shares authorized for repurchase to 10 million. As of November 3, 2008, the company had approximately eight million remaining shares authorized for repurchase, about 2 percent of its total shares outstanding.
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Free Cash Flow
Free cash flow from operations for the first nine months of 2008 was $2 billion compared with $1.6 billion for the same period in 2007. Management defines free cash flow from operations as net cash provided by operating activities from continuing operations less capital expenditures. Management believes free cash flow from operations is a useful measure for investors, because it portrays the company’s ability to generate cash from its core businesses for purposes such as repaying maturing debt, funding business acquisitions, repurchasing its common stock and paying dividends. The company uses free cash flow from operations to assess the quality of its earnings and as a performance measure in evaluating management. The following table reconciles free cash flow from operations with net cash provided by operating activities from continuing operations, as classified on the unaudited Consolidated Statement of Cash Flows:
Free cash flow from operations
Cash flows as a percentage of earnings from continuing operations:
With free cash flow from operations projected to exceed earnings from continuing operations for the full-year 2008, General Dynamics expects to continue to generate funds from operations in excess of its short- and long-term liquidity needs. Management believes that the company has adequate funds on hand and sufficient borrowing capacity to execute its financial and operating strategy.
Additional Financial Information
Environmental Matters and Other Contingencies
For a discussion of environmental matters and other contingencies, see Note J to the unaudited Consolidated Financial Statements. The company does not expect its aggregate liability with respect to these matters to have a material impact on its results of operations, financial condition or cash flows.
Application of Critical Accounting Policies
Management’s Discussion and Analysis of the company’s Financial Condition and Results of Operations is based on the company’s unaudited Consolidated Financial Statements, which have been prepared in accordance with U.S. generally accepted accounting principles (GAAP). The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates, including those related to long-term contracts and programs, goodwill and other intangible assets, income taxes, pensions and other post-retirement benefits, workers’ compensation, warranty obligations, and contingencies and litigation. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances. The results of these estimates form the basis for making judgments about the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates under different assumptions or conditions. For a full discussion of the company’s critical accounting policies, see the company’s Annual Report on Form 10-K for the year ended December 31, 2007.
New Accounting Standards
In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities – An Amendment of FASB Statement No. 133. SFAS 161 expands and enhances required disclosures related to derivatives and hedging instruments. SFAS 161 is effective in the first quarter of 2009. The company does not expect the adoption of SFAS 161 to have a material effect on its results of operations, financial condition or cash flows.
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In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements - An Amendment of ARB No. 51. SFAS 160 establishes new accounting for noncontrolling interests in a subsidiary and for the deconsolidation of a subsidiary. SFAS 160 is effective in the first quarter of 2009. The company does not expect the adoption of SFAS 160 to have a material effect on its results of operations, financial condition or cash flows.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations. SFAS 141R changes the requirements for accounting for business combinations, including the determination of purchase price and assignment of purchase price to acquired assets and assumed liabilities. SFAS 141R is effective for the company’s acquisitions that are completed after December 31, 2008. The company does not expect the adoption of this standard to have a material effect on future acquisitions.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes with respect to this item from the disclosure included in the company’s Annual Report on Form 10-K for the year ended December 31, 2007.
ITEM 4. CONTROLS AND PROCEDURES
The company’s management, under the supervision and with the participation of the Chief Executive Officer and the Chief Financial Officer, evaluated the effectiveness of the company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended) as of September 28, 2008. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of September 28, 2008, the company’s disclosure controls and procedures were effective.
There were no changes in the company’s internal control over financial reporting that occurred during the quarter ended September 28, 2008, that have materially affected, or are reasonably likely to materially affect, the company’s internal control over financial reporting.
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This quarterly report on Form 10-Q contains forward-looking statements that are based on management’s expectations, estimates, projections and assumptions. Words such as “expects,” “anticipates,” “plans,” “believes,” “scheduled,” “estimates” and variations of these words and similar expressions are intended to identify forward-looking statements. These include but are not limited to projections of revenues, earnings, segment performance, cash flows, contract awards, aircraft production, deliveries and backlog stability. Forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, as amended. These statements are not guarantees of future performance and involve certain risks and uncertainties that are difficult to predict. Therefore, actual future results and trends may differ materially from what is forecast in forward-looking statements due to a variety of factors, including, without limitation:
general U.S. and international political and economic conditions, including the current global credit market dislocation;
changing priorities in the U.S. government’s defense budget (including the outcome of supplemental defense spending measures, and changes in priorities in response to terrorist threats, continuing operations in Afghanistan and Iraq, and improved homeland security);
termination or restructuring of government contracts due to unilateral government action;
differences in anticipated and actual program performance, including the ability to perform under long-term fixed-price contracts within estimated costs, and performance issues with key suppliers and subcontractors;
expected recovery on contract claims and requests for equitable adjustment;
changing customer demand or preferences for business aircraft, including the effects of economic conditions on the business-aircraft market;
potential for changing prices for energy and raw materials; and
the status or outcome of legal and/or regulatory proceedings.
All forward-looking statements speak only as of the date of this report or, in the case of any document incorporated by reference, the date of that document. All subsequent written and oral forward-looking statements attributable to the company or any person acting on the company’s behalf are qualified by the cautionary statements in this section. The company does not undertake any obligation to update or publicly release any revisions to forward-looking statements to reflect events, circumstances or changes in expectations after the date of this report.
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ITEM 1. LEGAL PROCEEDINGS
For information relating to legal proceedings, see Note J to the unaudited Consolidated Financial Statements contained in Part I, Item 1 of this quarterly report on Form 10-Q.
ITEM 1A. RISK FACTORS
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table provides information about the company’s third quarter repurchases of equity securities that are registered pursuant to Section 12 of the Securities Exchange Act of 1934, as amended:
Average Price
Paid per Share
6/30/08 - 7/27/08
7/28/08 - 8/24/08
8/25/08 - 9/28/08
The company did not make any unregistered sales of equity securities in the third quarter.
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ITEM 6. EXHIBITS
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
/s/ John W. Schwartz
Dated: November 4, 2008
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