General Dynamics Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
October 25, 2023

There are 14 speakers on the call.

Operator

Ladies and gentlemen, good morning, and welcome to the General Dynamics Third Quarter 2023 Earnings Conference Call. All participants will be in a listen only mode. And please note that this event is being recorded. After the speakers' remarks, there will be a question and answer session. Thank you.

Operator

And I would now like to turn the conference over to Nicole Shelton, Vice President of Investor Relations. Please go ahead.

Speaker 1

Thank you, operator, and good morning, everyone. Welcome to the General Dynamics' Q3 2023 earnings conference call. Any forward looking statements made today represent our estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10 ks, 10 Q and 8 ks filings.

Speaker 1

We will also refer to certain non GAAP financial measures. For additional disclosures about these non GAAP measures, including reconciliations to comparable GAAP measures, Please see the press release and slides that accompany this webcast, which are available on the Investor Relations page of our website, investorrelations.gd.com. On the call today are Jason Aiken, Executive Vice President, Technologies and Chief Financial Officer and Bill Moss, Vice President and Controller. With the introductions complete, I'll turn the call over to Jason.

Speaker 2

Thank you, Nicole. Good morning, everyone, and thanks for being with us. The first thing I'll note is that our Chairman and CEO, Phebe Novakovic is under the weather today, so I'll be conducting today's call along with Bill. Earlier this morning, we reported earnings of $3.04 per diluted share on revenue of $10,600,000,000 Operating earnings of $1,060,000,000 and net income of $836,000,000 Revenue was up $596,000,000 or 6% against the Q3 last year, operating earnings were down $41,000,000 or 3.7 percent, Net earnings were down $66,000,000 and earnings per share were down 6.7%. So the quarter over quarter results show significant growth in revenue, But 100 basis point contraction in operating margin.

Speaker 2

On the other hand, sequential results are quite good across the board. Here, we beat last quarter's revenue by 4.1 percent, operating earnings by 9.9 percent, net earnings by 12.4 percent And EPS by 12.6 percent. From a different perspective, we beat consensus by $0.13 per share on higher revenue and better operating earnings than anticipated. Operating margin is about the same as expected. The beat came almost entirely from operations.

Speaker 2

On a year to date basis, Revenue was up 7.2%, operating earnings were down less than 1% and diluted earnings per share were down 2.6%. We had another very strong quarter from a cash perspective. Net cash flow provided by operating activities was $1,320,000,000 Free cash flow was $1,100,000,000 which is 131 percent of net earnings. This follows very good cash performance in the first half. Order performance was good in the quarter in all segments and particularly strong at Gulfstream and the Marine segment.

Speaker 2

You'll hear more detail on cash and backlog as well as some of the other financial particulars from Bill in just a minute. In short, we enjoyed a strong quarter, Particularly so in light of the supply chain and program mix headwinds that time will cure. So let me move right ahead with some color around the performance of the business segments. First, Aerospace. Aerospace had revenue of $2,030,000,000 and operating earnings of $268,000,000 With a 13.2 percent operating margin, revenue was down $315,000,000 from the year ago quarter, driven by fewer deliveries at Gulfstream due to supply chain constraints.

Speaker 2

Operating earnings were down $44,000,000 on lower revenue and a 10 basis point contraction in margin. The sequential comparison is much better. Revenue was up $79,000,000 or 4% and operating earnings were up $32,000,000 or 13.6 On 110 basis point improvement in margin. There were 27 deliveries in the quarter, 3 more than in the 2nd quarter. To provide some additional color here, Gulfstream has made 72 aircraft deliveries through the end of the quarter.

Speaker 2

We're on track to deliver between 4045 Currently in service aircraft in the 4th quarter. All in including G700s, we anticipate in excess of 60 deliveries in the quarter, Assuming we're granted FAA certification before the end of the year. That said, as you can tell, there's a considerable amount of uncertainty as we get closer to certification. Moving to the demand environment, this was yet another positive quarter reflecting continuing strong demand. Aerospace book to bill was 1.4:one Gulfstream alone had a book to bill of 1.5:one.

Speaker 2

We continue to have vibrant sales activity going into the 4th quarter and expect strong orders. It would, however, be a stretch to get to 1 to 1 in the 4th quarter given our expectation of over 60 deliveries. A wild card in The period of significant increased aircraft demand began in mid February of 2021, over 2.5 years ago. In 2021, Gulfstream's book to bill was 1.7:one. In 2022, it was 1.5:one and year to date 2023, it's 1.3:one.

Speaker 2

This includes the Q1 of 2020 when there was a 3 week hiatus in orders as a result of the failure of several regional banks. In that quarter, we still managed a 0.9:one book to bill. All of this leads quite naturally to an astonishing build of the Aerospace backlog. It grew from $11,600,000,000 at the end of 2020 to $20,100,000,000 at the end of the Q3 2023, an increase of over 70% in 2.75 years. This all speaks to me of the underlying strength of the market for our products.

Speaker 2

The G700 flight test and certification program continues to move closer to Ultimate conclusion. We continue to plan for certification in the Q4 of this year, largely dependent upon the availability of FAA resources And the credit the FAA may allow for company flying. We currently are spending most of our engineering time on final reports and data submission. Operationally, Gulfstream continues to make good progress under difficult circumstances. But as a result of the supply chain issues that we've previously discussed, We plan to deliver 10 to 12 fewer aircraft this year than the 145 we had originally forecast in the beginning of the year.

Speaker 2

On the other hand, we continue to expect more service revenue than initially predicted. Next, Combat Systems. Combat Systems had revenue of $2,220,000,000 up a stunning 24.4% over the year ago quarter With growth at each of the business units, but particularly at OTS and European Land Systems, earnings were $300,000,000 which is up 10.7%. Margins at 13.5 percent represent 170 basis point reduction versus the year ago quarter. So once again, we saw powerful revenue performance coupled More modest operating margins, in large part attributable to MiX and new program starts.

Speaker 2

Some of our revenue increase is a result of These contracts to increase our artillery production capacity taken at lower margins. As you'd expect, these contracts will result in additional production at accretive margins over time. On the subject of munitions, we're working very closely with our government customer and have accelerated production faster than planned. The large capacity expansion that we're putting in place today will further increase production. We have a ways to go, but we're making progress.

Speaker 2

The increase in combat revenue also came from new international vehicle programs, the ramp up of the M10 Booker, Higher artillery program volume and higher volume on Karana and Eagle vehicles in Europe. On a sequential basis, revenue was up 300,000,000 15.6 percent and earnings were up $49,000,000 or 19.5 percent on a 50 basis point improvement in margin. Year to date revenue was up $775,000,000 or 15.1 percent and operating earnings were up $53,000,000 Combat Systems experienced very good order performance. Orders in the quarter resulted in a one to one book to bill, a very strong performance given the increased revenue And evidencing strong demand for munitions and international combat vehicles. Year to date, the book to bill is 1.3:one, which fully supports the growth outlook.

Speaker 2

Turning to Marine Systems. Once again, our shipbuilding units are demonstrating impressive revenue growth. Marine Systems revenue $3,000,000,000 was up $233,000,000 or 8.4 percent against the year ago quarter. Columbia Class Construction and Engineering drove the growth. Operating earnings were $211,000,000 down $27,000,000 versus the year ago quarter with 160 basis point decrement in operating margin.

Speaker 2

The year ago quarter had a number of favorable EAC adjustments, which did not repeat this quarter. Sequentially, both revenue and operating earnings were down somewhat. Importantly, year to date revenue was up $982,000,000 12.2 percent. However, earnings were essentially flat on a 90 basis point contraction The real driver of the margin difficulty has been the late deliveries at Electric Boat from the supply chain, which causes out of station work And internal scheduling disruptions. Electric Boat has continued to improve its throughput, but not fast enough to offset the cost of late material.

Speaker 2

We continue with the help of the Navy to work this issue. At Bath, while we're seeing signs of improved productivity, it is yet to manifest in the business' financial performance. All that said, we're looking for slow but steady incremental margin growth over time. Importantly, Marine Systems enjoyed a very good quarter from an orders perspective 2.3 to 1 book to bill. This is a very large enduring backlog.

Speaker 2

And lastly, Technologies. It was another strong quarter with revenue of $3,300,000,000 which is up 8% over the prior year and continues to build on the strong first half of the year. That growth was spread pretty evenly between GDIT and Mission Systems. In fact, each business grew both year over year and sequentially. At GDIT, we're seeing particular strength in the defense and federal civilian portfolios as our technology accelerator investments and capabilities like 0 Trust, Artificial intelligence, digital engineering and 5 gs are really resonating with customers and driving increased demand.

Speaker 2

At Mission Systems, the cyber and naval platform markets have been particularly strong. The production and delivery cadence on the hardware side appears to have stabilized, So we expect the results to be somewhat more predictable despite the lingering fragility in the supply chain that will continue to be the new normal. Based on the strength of the 1st three quarters, the group is on track to achieve our increased sales forecast of $12,700,000,000 for the year. Operating earnings in the quarter were $315,000,000 up 10.5%, yielding a margin of 9.5%. That's up 20 basis points year over year and up 70 basis points sequentially.

Speaker 2

So very solid performance on strong revenue growth in the quarter. This is a drumbeat we expect to see continue in the Q4. Backlog at the end of the quarter was $12,700,000,000 Through the 1st 9 months, the group achieved a book to bill ratio of 1:one, keeping pace with the strong revenue growth across the business. Prospects remain strong with a qualified funnel of over $125,000,000,000 in opportunities they're pursuing across the portfolio. Let me close with a review of the defense units in aggregate.

Speaker 2

As a whole, on a quarter over quarter basis, defense had revenue of $8,540,000,000 Up $911,000,000 or 11.9 percent over the year ago quarter. On the same basis, earnings of 8 $26,000,000 were up $32,000,000 or 4%. On a sequential basis, the pattern is similar. Revenue was up $340,000,000 or 4.1 And earnings were up $57,000,000 or 7.4 percent. Year to date against the same period last year, revenue of $24,700,000,000 was up 10.2% and operating earnings were up $60,000,000 or 2.6%.

Speaker 2

In short, our defense businesses are experiencing significant growth in revenue and to a lesser degree in earnings. However, we need to continue to work with our supply chain in order to achieve appropriate operating leverage. So with that, let me turn it over to Bill.

Speaker 3

Thank you, Jason, and good morning. We had another very good quarter from an orders perspective With an overall book to bill ratio of 1.4:one for the company. This is particularly impressive with the strong revenue growth in the quarter. Marine Systems and Aerospace led the way with book to bill ratios of 2.3 and 1.4 respectively. For the Q2 in a row, this led to record level backlog of $95,600,000,000 at the end of the quarter, up 4.6% from last quarter And up 7.6% from a year ago.

Speaker 3

Our total estimated contract value, which includes options and IDIQ contracts, End of the quarter just shy of $133,000,000,000 Moving to our cash performance, this was another strong story in the quarter With over $1,300,000,000 of operating cash flow, this brings us to $3,500,000,000 of operating cash flow through the 1st 9 months of the year. Including capital expenditures, our free cash flow was $1,100,000,000 for the quarter $2,900,000,000 year to date Or 126 percent of net income through the 1st 9 months. This conversion rate was achieved on the strength of the Gulfstream orders, Additional scheduled progress payment on Combat Systems International Programs and continued strong cash performance in technologies. We are well positioned to achieve our target for the year of a cash conversion rate over 100% of net income. Looking at capital deployment, capital expenditures were $227,000,000 in the quarter or 2.1 percent of sales.

Speaker 3

For the 1st 9 months, we're at 2% of sales. We're still targeting to be slightly below 2.5% of sales for the full year, So that implies an uptick in capital investments in the 4th quarter. We paid $363,000,000 in dividends repurchased a little over a quarter 1000000 shares during the quarter, bringing the total deployed in dividends and share repurchases through the 1st 9 months to $1,500,000,000 We also repaid $500,000,000 of debt that matured in August And ended the quarter with a cash balance of over $1,300,000,000 That brings us to a net debt position of $7,900,000,000 down nearly $1,400,000,000 from year end. Net interest expense in the quarter was $85,000,000 Bringing interest expense for the 1st 9 months of the year to $265,000,000 down from $279,000,000 for the same period in 2022. Finally, the tax rate in the quarter was 15.6%, bringing the rate for the 1st 9 months to 16.2%.

Speaker 3

This is consistent with our guidance last quarter to expect a lower rate in the 3rd quarter and a higher rate in the 4th. So no change to our outlook of 17% for Full year, which again implies a higher tax rate in the discrete 4th quarter. Now, let me turn it back to Jason for some final remarks.

Speaker 2

Thanks, Bill. As far as year end guidance is concerned, we're holding a $12.65 for the year. There will be a number of puts and takes from what we published last quarter, But it should all come out about the same place. Nicole, that concludes our remarks. So I'll turn the call back to you.

Speaker 1

Thanks, Jason. Operator, could you please remind participants how to enter the queue?

Operator

Yes, thank you. And we'll take our first question from Peter Arment with Baird. Your line is open.

Speaker 4

Yes, thanks. Good morning, Jason and Bill. Jason, it sounds like there's just obviously a lot of moving parts for Q4 at Gulfstream. Is there a cutoff date if certification happens in December versus November about your ability to kind of Push out those deliveries. And then any commentary on just, I know you've had a long term forecast of 170 deliveries for 2024, whether you still think that holds.

Speaker 4

Obviously, if certification slips, there would be more potentially, but maybe just some commentary there. Thanks.

Speaker 2

Yes. Thanks, Peter. As it relates to certification, I think what we've said for some time now is that if we can achieve certification in the, Call it early to mid December timeframe, then we've got a good shot at getting the planned deliveries of G700s out the door this year. Obviously, as that pushes further to the right, that pushes

Speaker 5

puts that a little bit at risk.

Speaker 2

To your point about 2024, probably not appropriate to get into specifics about next year till we go through our plan period, which we'll engage in coming up here in the next month or 2. But I think the way to think about this is a lot of what we've been talking about this year between the supply chain challenges as well as the G700 cert timing is really timing issues. And to your point, to the extent some of the deliveries that we anticipated this year don't happen, That really just pushes into next year. So that naturally is an adder to the outlook for 2024. But what we can't do yet is declare victory on the Supply chain issues and say that by early next year they're going to be completely solved.

Speaker 2

So a lot remains to be seen as to the timing of How that ultimately works itself out and I think it's that that will determine the net impact to 2024. So I think a little bit more time is going to be needed to see between what pushes Out of 2023 into 2024 and the timing of the supply chain fix, what the net impact is to that 'twenty four outlook and I think we'll have a better sense of that We'll come back to you with guidance in January.

Speaker 4

Appreciate the color. Thanks, Jason.

Speaker 2

Yes.

Operator

And we will take our next question from David Strauss with Barclays. Your line is open.

Speaker 6

Thanks. Good morning. Good morning, David. Hey. Jason, so at the beginning of the year, You guys had forecasted Marine and Combat to be relatively flat.

Speaker 6

At this point, we're looking at probably double digit growth For both of those businesses this year, does any of that as we start thinking about how those businesses could look next year, Does any of this represent any sort of pull forward that would potentially moderate the growth that we could see out of those two businesses next year?

Speaker 7

Yes. So, I think as

Speaker 2

it relates to Marine Systems, David, nothing has really fundamentally changed from the narrative that we've Talked about for some time, which is to expect roughly $400,000,000 to $500,000,000 on average per year, year over year growth in that business. Obviously, this year has turned out to be quite a bit different than we originally anticipated and that's largely attributable to the increased throughput that we've seen At Electric Boat in particular as the hiring and retention dynamics have really improved faster than we thought. So that's really driven A lot of the revenue acceleration into this year. That backlog is so large and so long term, I don't really see that having A direct effect on next year or any given year, but obviously, again, we'll have to go through the specific planning period that we're about to engage in Before we get too specific about next year, so we'll be back with more on that, but not a direct correlation in my mind from that marine systems increase in throughput. On Combat Systems, to your point, we had been expecting sort of flat to downish revenue before the threat environment really took a turn in the opposite direction.

Speaker 2

And as you've seen through the 1st part of the year, up 15% so far year to date, almost 25% in the quarter that certainly was well beyond what our original expectations were. And Frankly, we don't see that demand signal slowing down. When you think about the munition side of the business as well as the international demand we're seeing Along with the new program starts in the U. S, I don't necessarily see that as being a pull forward or something that creates a headwind into 2024. Again, not being specific about that outlook because we'll get into the planning period and get back to you in January.

Speaker 6

Okay. And as a follow-up, IRS Look, updated guidance on Section 174 R and D. What impact does that have on your cash flow outlook?

Speaker 2

Really nothing other than what we've told you before. We've actually been pretty consistent on this throughout the drama on this issue over the years. We didn't originally anticipate the law to be changed. So our guidance was predicated on the law as it is. It turned out not to be changed.

Speaker 2

And our expectation of what that would mean for us, ultimately, you can call it lucky or good. We expected the net impact from a cash perspective to be right on course With what we're seeing right now.

Operator

And we will take our next question from Ken Herbert with RBC Capital Markets. Your line is open.

Speaker 8

Yes. Hi. Good morning, Jason and Bill.

Speaker 2

Good morning.

Speaker 8

Maybe just start, Jason, again on Gulfstream. Last quarter you called out sort of 2019 is the expected 700 delivery number depending upon the CERT timing this year. Is that still a number we should expect into the Q4 assuming you get certification in time? And can you just comment on any potential risk around 2 80 production levels considering some of the uncertainty in the Middle East?

Speaker 2

Yes. So as far as the G700 is Concern 2019 is the number that we have targeted and are still striving to get to. Again, as you note, that is predicated on timing of cert. What I can tell you in terms of a little bit of color behind that is we've got 15 of those 19 that are ready to go and are in good shape and we're working toward the others. So again, Predicated on when the cert comes, we should be in good shape to be somewhere in that range for delivery this year.

Speaker 2

As it relates to the 280s, what I would tell you is the modest downtick that we that I talked about earlier this morning, in terms of our overall 2024 excuse me, 2023 deliveries, that 5 or 6 aircraft reduction from our previous guidance in July, That is largely related to G280s. I would tell you that what we plan to deliver this year, we now have in hand at our Dallas facility for completion. So there's really not any incremental risk to 2023. We will have to see obviously how the events in Israel play out and what impact that may have in 2024, but Little premature to get into that at this point.

Speaker 4

Okay, great. Thanks, Jason.

Speaker 9

You're welcome.

Operator

And we will take our next question from Robert Stallard with Vertical Research. Your line is open.

Speaker 5

Thanks so much. Good morning.

Speaker 2

Morning, Rob.

Speaker 5

Jason, on the supply chain, maybe I'm just reading too much into this. It sounds like it actually got a bit worse than what you talked about last quarter. So I don't know if you could elaborate on what you've been seeing, whether any specific pinch points that are causing you trouble?

Speaker 2

Rob, I'm going to guess you're talking about supply chain and aerospace. And if so, I would tell you that actually we're seeing Modest signs throughout the quarter that things are actually getting better. It's not, as you'd imagine, a straight line to the finish line on this issue. So there'll be some bumps and some curves along the way, but things are starting to trend better. What we saw here was a specific issue in terms of, As I mentioned, G280s, in terms of the reduced, in service aircraft production.

Speaker 2

But on the large cabin aircraft, We are starting to see things trend in the right direction. So I think it's a little bit maybe the other direction of what your intuition is pointing you to.

Speaker 4

Okay. Good

Speaker 5

to hear. Just as a follow-up, I was wondering if you could elaborate on where you stand on supply chain in I think Mission Systems had a few issues and also in the labor situation at Marine, how that seems to improve.

Speaker 10

Sorry, I just broke up

Speaker 2

there, Rob, at the end. You said Mission Systems Supply Chain and then Labor?

Speaker 5

And Marine.

Speaker 2

Oh, Labor and Marine. Okay. So on the Mission Systems side, I feel very good about what they've done. The supply chain, to be completely candid with you, remains and I think we expect To remain, what I'd call fragile, don't think that that's going to get back to what we saw pre pandemic for the foreseeable future. But The fact is the team at Mission Systems has fully incorporated that new reality into their outlook.

Speaker 2

And so I expect Their future to be a lot more stable and predictable as they've incorporated the new normal, if you will, in supply chain on the electronic side for them. In terms of the labor side on Marine Systems, as I mentioned earlier, I think we've seen stabilization In both, attraction and retention of labor in the shipyards at a faster rate We anticipated, so that's an encouraging sign that drives the throughput in the yard. And over time, as those new shipbuilders become more tenured, more experienced, More proficient, we would expect to at that point, that's one of the factors that will really drive over time the margin improvement in the shipyard. So it's an encouraging start for them. We just got to see that play out because as you know shipbuilding is a long term venture.

Operator

And we will take our next question from Scott Duschl with Deutsche Bank. Your line is open.

Speaker 11

Hey, good morning.

Speaker 2

Good morning. Jason, can you walk through some of the

Speaker 11

high level puts and takes for And I guess maybe to ask another way, are the right things to focus on from our perspective, the G700 mix Less out of sequence work, the learning curve on G700 is in presumably R and D either leveling off or coming down or is there anything else here that we should be considering? Thank you.

Speaker 2

I'd say you nailed most of the high nail items there for next year. And again, The G700 is a big piece of it. Obviously, we've talked about how that will come into service with favorable Entry level margins, accretive entry level margins for the group. So that's a big driver. I think the other major one And you alluded to it really is the resolution and straightening out of the supply chain issues.

Speaker 2

One of the things Gulfstream has really Work toward here and plan toward, I think very effectively and we'll see it over time, is driving the efficiency Of the operation with this new family of aircraft between the facilities that have been built, the commonality between the airplanes, the ability To service those airplanes efficiently, that is really what we are driving toward and what one of the major underpinnings behind The long term trajectory back to the mid to high teen margins, for that group. Obviously, timing of when those things get straightened out in the supply chain will be important Because that's really what's sort of inhibiting us getting to that point of efficiency. We will see a little bit of a modest Downtick in R and D, I wouldn't call that a major factor, but you should expect to see that tick down a little, as we finish up the 700 this year and get through the 800 next year, but again, Have 80400 to go. So we're not out of things yet from an R and D standpoint there. Those are the major Puts and takes, I'd say.

Speaker 2

All in all, we would expect to see revenue or excuse me, margin continuing on its trajectory again toward that mid to high teen Great. We'll see improvement here in the Q4, and I expect to see good improvement in 2024. Okay, great. And then as Follow-up,

Speaker 11

are there any major company funded growth CapEx projects still underway in 2024 and 2025? Or is most of that complete this year? If it does complete this year, does the nearly $1,000,000,000 of CapEx included in current Bloomberg consensus for 2024 and 2025 Make directional sense because that's basically still

Speaker 2

in line with 23, I think. Thank you. Yes. The major internal CapEx Projects are done this year. We've got a little bit of trailing costs and activity going on in the shipyards as we finish out that capacity expansion, particularly at electric boat, But that will wrap up next year.

Speaker 2

The investments we're making on the Army side from an artillery perspective, that's being funded by the customer. And so bottom line, we ought to see our CapEx level trend back toward 2%. We'll be below 2.5% this year, which is directionally in the right headed the right way and we'll be back toward if not at 2% headed toward 2% next year.

Operator

And we will take our next question from Kristine Liwag with Morgan Stanley. Your line is open.

Speaker 12

Hey, good morning, Jason and Bill.

Speaker 7

Good morning.

Speaker 12

Yes. So maybe first on the President's $106,000,000,000 It includes $3,400,000,000 for the Submarine Industrial Base. With this request out there now and with respect to August, You talked more about what this means for GD. Does this change the timing, at all?

Speaker 2

Bottom line, Christine, I think the short answer is no. Obviously, any additional support that can be provided in terms of that supplemental or other funding to shore up the industrial base is helpful. There's a lot of talk around AUKUS and obviously we're going to do everything we can to support our customer in that regard. But the fact is this supply chain still remains very fragile. We got a lot of work to do to get this whole industry back to from a submarine perspective, back to 2 per year.

Speaker 2

We got to get to that point on Virginia while delivering Columbia's and I think we got some more work to do to get there. And so any additional Funding and support, whether it's through the supplemental or other Navy support would be extremely helpful. But that's our focus today is get to that 2 per year plus Colombia and then we'll look to August beyond that.

Speaker 12

And following up on your comments on the fragile supply chain, Has there been changes in your contracting terms for the customer to reflect this? And how do we think about long term margins?

Speaker 2

So I think the main way this has been reflected in our contracting with the customers is to recognize the impacts that we've had and to price that in and accommodate What is this current state of affairs in our contracting? And one example of that is the DDG multiyear that we just saw awarded in the quarter. We feel like that's been Appropriately considered there and we'll continue to consider the state that the industry is in as we go forward. I wouldn't point to necessarily any other Macro or overarching contract structures or other terms that have changed. In terms of margins, we expect them to get better, frankly.

Speaker 2

My expectation is that this quarter would be the trough for the group. We expect to see improvement in the 4th quarter And we expect to see modest sequential incremental improvement over time in this group. That said, this is a challenging task. Shipbuilding is a challenging endeavor and so it's not going to be straightforward, but our expectation to be completely straightforward is to have gradual Increasing margins in this group over time as we march back toward that 8% to 9% plus margin range.

Operator

And we will take our next question from Seth Seifman with JPMorgan. Your line is open.

Speaker 13

Hey, thanks very much and good morning everyone.

Speaker 2

Good morning, Seth.

Speaker 13

Good morning. Maybe just to follow-up on that last topic. The Q3 margin in Marine similar to Q1. In Q1, we know there were some charges on Virginia, I believe Block 4 and Block 5. Were there significant negative EACs on Virginia in the Q3 that drove Kind of the margin that we ended up seeing.

Speaker 13

And I guess kind of any I know you talked about supply chain at Electric Boat, but any Additional color about what assumptions have really changed there and with the new assumptions, how that affects your ability to expand margins?

Speaker 2

So, in the quarter, Seth, no nothing material in terms of EACs, in the quarter. What you're seeing there, obviously, we are still .:] Experiencing pressure from delayed material coming out of the supply chain that's affecting electric boats schedule and delivery and man hour in the yard. But the other implication that you're seeing is having reduced the margin rates through the earlier EAC adjustments. We're now Seeing the aggregate impact of that in the booking rates that we are recognizing on the programs today. So it's sort of the Aggregate confluence of all those factors are driving the margin rate that you see in the quarter.

Speaker 2

But again, as we start to Continue to improve the throughput and improve the efficiency in the yards, we do expect to see incremental improvement in the margin starting in the 4th quarter. In terms of supply chain and changes, I wouldn't don't know that there's anything changing. I think it's as we go to contract, We have 2020 hindsight or full visibility, if you will, into the current state of affairs. And so we're working through that with our customer and they understand The situation we're in, so we're basically incorporating the current state of the supply chain as well as the implications of Increasing cost of skilled labor, as you've seen with a lot of the labor negotiations going on out in the market. So it's those types of factors that are being incorporated That we're putting into the new contracts and that we feel like will put us in a good position to perform from a margin perspective as we look ahead.

Speaker 13

Okay. Okay. Thanks. And then just for a clarification, when you talked about the overall company and Despite some changes, the EPS outlook being unchanged, was that sort of that was based on that new Gulfstream Delivery outlook that you talked about with the 60 plus in Q4, If the G700 wasn't to be certified this year, I assume that that's kind of a different story and kind of what's the last Date that roughly that you can see that certification happen and still kind of deliver, I don't know, double digit G700s?

Speaker 2

Yes. So the EPS reaffirmed at 12.65 It is based on the updated Gulfstream delivery number that I mentioned earlier. As I said, that's mostly the reduced number from the July Outlook is mostly associated with G280, so not as significant, an earnings impact to that. As you can imagine, some puts and takes, None of which are particularly material across the rest of the portfolio, including some upward pressure across The defense businesses from a revenue perspective as you might imagine improved service customer service revenue at the Aerospace Group and so on, Some below the line things like lower interest expense and share count, net net kind of putting us in the same place. So that's sort of why the guidance stays where it is.

Speaker 2

In terms of the 700 outlook, I think the key issue is and the question so many people have around why the uncertainty is we don't have a date certain. This is the FAA's process. We need to let them go through that process. We are supporting them in that process. They're going through flying now And we're doing the necessary paperwork and reporting to support that.

Speaker 2

And so we have a path. We have an expectation to get there in early to mid December, but there's not like A red line or a date certain on the calendar that we're looking at this point.

Operator

And we will take our next question from Doug Harnett with Dean, your line is open.

Speaker 10

Good morning. Thank you.

Speaker 2

Good morning, Doug.

Speaker 10

I wanted to go back to Marine because when you look at Electric Boat, Your backlogs have been have built way up. As you mentioned, the Navy wants to be at 2 VCS deliveries per year. Can you describe like what scenarios you can even look at here? I mean, my understanding is it's about 1.2 now. It's way off what clearly Congress wants, what the Navy wants.

Speaker 10

Are there scenarios that you think about In terms of how soon in a good situation we might get to that 2 per year What would be a negative scenario? What's the range of outcomes here?

Speaker 2

No, you point out the landscape appropriately, Doug. I think way I think about that is prior to COVID, if you look at the couple of quarters leading up to 2020, we were as a team, We were right on the threshold of getting to 2 per year on the Virginia class program. So it is imminently doable in terms of And the team that's working that program. Obviously, COVID set us on our heels, as well as the generational changeover in Shipbuilders in terms of retirements and new hires. I think the way to think about that now is there's a number of factors that are going to help us get back to that point.

Speaker 2

1 Is the again, the maturing and tenuring of that new workforce to get the efficiency in the workforce to get us back to where we were. The investments that the Navy is making in the industrial base, which are extremely helpful to stabilize that. And then other initiatives like what we call strategic sourcing where we're trying to take bottlenecks out of the shipyards and move subsystem construction and capacity Into other facilities and other yards around the country so that we can take some of the pressure off of the 2 main production and assembly yards. Those are the types of things that are going to drive us back toward 2 per year. I'd be remiss to try and give you a timeline on when it's going to be to get there.

Speaker 2

This is long term challenging stuff. But I think with us and our partner and the Navy all working in the same direction and in a very strong partnership, I feel optimistic about our path to get there.

Speaker 10

And then as a follow-up, if you add one more factor into this, which is Columbia Class, obviously, in a very different stage in the program, but Also, you've got an overlapping supply chain. How does Progress on the Columbia class right now look and how does that affect your ability to Push forward on this VCS ramp?

Speaker 2

Yes. Colombia, as you know, is the Navy and the DoD's number one priority. So that's going to continue To be the case and I don't see that being a trade off necessarily to get to the 2 per year for Virginia. Right now, we're a little over 40% complete on the first boat and we're right on schedule for the targeted completion of that first boat. We still got obviously about 4 years to go before delivery.

Speaker 2

So a lot of the way to go and a lot can happen between now and then. But all the resources that can be brought to bear Or on that priority. I think the way to think about it is because of its priority position, it is essentially a headwind to those other factors that I gave you about what we're But those are some of the puts and takes. Columbia will be the priority and it's our job to make Virginia happen, notwithstanding that priority.

Operator

And we will take our next question from Cai von Rumohr with TD Cowen. Your line is open.

Speaker 7

Yes. Thank you very much and good quarter.

Speaker 2

Good morning, Kai.

Speaker 7

Jason, you said you're still looking for 12 point 7 in Technologies. But when I look at all of your defense numbers, you really beat in revenues Across the board. So maybe if you could kind of if I look at where the model was before, it looks like we have a softer 4th quarter To get us home, but that doesn't seem realistic given on spectacular revenues you had here in the Q3. So maybe update us if you could on Where you're looking for revenues in each of the defense sectors for the year and have should we feel a bigger step up Next year? So I think the way

Speaker 2

to think about the Q4, Cai, is there's as I alluded to earlier, There is obviously some upward pressure on the revenue on the defense side. Nothing to get too specific about. And I don't know that it's particularly material with Just a couple of months to go here in the year. But one way to think about this is, this year, let's talk group by group. In Technologies, you may remember last year we had a significant surge in the Q4 because we had had a big backup On the supply chain side, admission systems through the Q3 and a lot of that flowed through in the Q4.

Speaker 2

So really a big Hockey stick or upswing in the Q4. That's not the pattern this year. As I mentioned before, they've been on a more regular order and a more regular drumbeat. And so we'll see A more steady state revenue pattern for Technologies in the Q4. In Combat, likewise, It's historically for some time now been sort of the traditional seasonal pattern for Combat to rise throughout the year and have its biggest quarter in the Q4 and we saw that again last year.

Speaker 2

In this case, in 2023, it's a much more steady drumbeat. Again, steady demand, Strong volume, but not the traditional sort of seasonal 4th quarter uptick in combat. And in Marine, again, we've already seen tremendous Volume well in excess of our expectations. We're up $1,000,000,000 through the almost through the 1st 9 months, which is roughly what we expect for the year. And so again, I'd say more stable quarter to quarter.

Speaker 2

So to summarize, we're seeing more stable volumes across all three of the defense segments From Q1 to Q4, whereas in the past they've risen from 1st to 4th. So a little bit of an aberration in the pattern. I do expect, again, not to get ahead of the planning process we're going through, but I Each of the businesses to show growth going into next year. Can't get more too much more specific about that at this point, but you should see growth in the defense business Across all three of the segments going into 2024.

Speaker 7

Very helpful. And then maybe a quick comment Israel Hamath has created additional demand. We have this $106,000,000,000 request From the President, can you give us some general color in terms of areas where you think you could see Incremental acceleration in demand?

Speaker 2

The Israel situation obviously It's a terrible one frankly and one that's just sort of evolving as we speak. But I think if you look at the incremental demand Potential coming out of that, the biggest one to highlight and that really sticks out is probably on the artillery side. Obviously, that's been a big pressure point up to now with Ukraine, one that we've been doing everything we can to support our Army customer. We've gone from 14,000 rounds per month to 20,000 Very quickly, we're working ahead of schedule to accelerate that production capacity up to 85,000 even as high as 100,000 rounds per month. And I think the Israel situation is only going to put upward pressure on that demand.

Speaker 2

So that's the biggest stick out that I can see.

Speaker 1

Abby, I think we have time for just one more question.

Operator

Excellent. Thank you. We will take our final Question from Ron Epstein with Bank of America. Your line is open.

Speaker 9

Hey, good morning.

Speaker 2

Good morning,

Speaker 9

Ron. Maybe just 2, right. On Land Systems, given Truly the surge in demand relative to where everybody thought it would be. From a capacity point of view, from a labor point of view, How are you guys set up there to handle it all?

Speaker 2

I have to give a hand to the guys in the Combat Systems Group in general and Land Systems Specifically, they you've really not heard us talk about supply chain bottlenecks, labor capacity or other issues in that group, and that does not mean they have not faced them. They are just they stand out amongst even a spectacular crowd in the way they've handled it. So, I don't have any Expectation that we'll see any issues as we look ahead even as the demand for their product both here U. S. Domestically as well as internationally continues to grow.

Speaker 9

And then maybe just changing gears a bit, nobody really asked a heck of a lot about GDIT.

Speaker 2

Thank you for that. Finally.

Speaker 9

Let's talk about that. It's a big piece of the company, right? Yes. You know a lot about it, right, in particular. So when we think about a path to double digit margins, I mean, how do we get there?

Speaker 9

And then maybe from an operational point of view, why does not integrating Mission and GDIT together kind of makes sense because there's this bigger demand for software driven solutions and software and hardware. And You're seeing this synergy coming out, particularly with the application of AI The legacy systems and so on and so forth.

Speaker 2

So on the margin side, just to be clear, as I think Double digit margin for the group, not specifically GDIT, it's the mix of the 2 of them together. I absolutely expect This group to be on the march back to low double digit margin. It's where they've been historically. I think if anything I could articulate as a headwind to that. It's to the extent that the GDIT side grows faster than the Mission Systems side, That obviously creates a bit of a macro mix issue that could be a little bit of a headwind, in terms of how long it takes us to get there.

Speaker 2

But frankly, I expect to see us get back into the double digit margin range here in the Q4 and we'll see how quickly we can get there in the outlook Look at 2024 and beyond, but I do expect them to get back on the trajectory toward low double digit margin. In terms of integration, the way we see this is these are they're very symbiotic businesses and they are dealing with a market that's dealing with a convergence to your point in terms of their capabilities, We think that having them separate is appropriate because the investment thesis and the way you run a inherently people business Versus an inherently technology development hardware and production business are fundamentally different and take different leadership, different priorities And sort of different investment thesis. The good news is that by having them together in the same group and in a coordinated way, We are making investments and addressing the evolving technologies jointly as a group. And we are making sure we're being efficient at that and effective at that, not duplicative, not missing anything and bringing the requisite skills to your point from end to end, Whether it's the hardware side, the services, the software capabilities, solutions as a service, software solutions and so on together And joint capability.

Speaker 2

So I think we get the best of both worlds that way in terms of the way we manage and run the businesses, but also the way we can bring combined capability to the customer set.

Speaker 1

Great. Everyone, thank you for joining our call today. As a reminder, please refer to the General Dynamics website for the Q3 earnings release and highlights

Operator

And ladies and gentlemen, this concludes today's call and we thank you for your participation. You may now disconnect.

Powered by Quartr
Earnings Conference Call
General Dynamics Q3 2023
00:00 / 00:00