Lockheed Martin Corporation (LMT) Earnings Call Transcript & Summary

Good morning, everyone. My name is Jon Raviv. I'm Citi's aerospace and defense analyst. We'll continue this morning with day 1 of Citi's Global Industrials Conference. You just heard from Airbus. And now we're coming stateside. We'll hear from Marillyn Hewson from Lockheed Martin. We're very thankful to be -- grateful for her being here. I should just mention that despite the humidity outside, I am still trying to get my voice back up. To answer your question, no, I went to sleep at 9:30 p.m. last night, so it's not that. But thank you for being here. Worst-case scenario, Ken, the CFO, will come up here and take my place, ask some questions. So we'll have the next 40 minutes to have a little conversation in terms of where Lockheed Martin is. But first thing, again, thank you for being here, Marillyn. We'll flip through some slides here first, I think, which are very brief forward-looking statements.

Yes. Thank you, Jon. If I could just thank you, first of all, for inviting us to be here. It's great to be with all of you today and to join you in this session. I want to just start with our safe harbor statement. This is our forward-looking -- I'm going to be making some forward-looking statements and some projections that may not line up with actual results. So I point you to this chart, but I'd also point you to our filings with the SEC, our 10-Q and our 10-K to look at what risk we see for the industry and for our company so that you're well aware of those as investors. Thank you.

All right. Thank you very much. So again, Marillyn, you certainly had a good 2019. And this year, it looks like it's shaping up pretty nicely too. But it is 2020, so perhaps it would be a good way to have you start and sort of frame up where you see the company going or where you see the company now, where you see it going over the next decade of the 2020s.

Great. Thanks, Jon. Well, I would say, first of all, I think we have a pretty good growth story right now going. I mean when you look at what our revenue growth has been over the last couple of years, it's pretty strong. We were up 8% between 2017 and 2018 and then up 11% last year, '18 to '19. And this year, we're projecting 6%. So a good growth story. I think that points to a lot of things that are happening for us. And we've had some good wins where we hit a record backlog at the end of last year at $144 billion, and so that sets us up well for continued growth. And that backlog is one that we see -- generally, we have a normal turnover, but this one is actually a little more extended because of the composition of that backlog and some of the big wins that we had that rolled up into that. And then if you can just look at what's been happening with defense spending, we see that it's been on an upswing. Now the most recent budget request, we'll talk about that. But I would just say that we've seen good growth in defense spending, a real recognition from a bipartisan support that there is a need to continue to modernize and to continue to invest in defense. And we've been investing in some new programs that are coming to fruition, so things like hypersonics. We've won some significant classified work. F-35 continues to be a good, strong growth story for us. If you look at last year, we delivered 134 aircraft. We're going to deliver roughly 140 this year, continuing to ramp up to 170 by 2022 and then even upwards to 180 if -- as our -- as we continue to grow on that program. And then some good wins and good growth in things like our Next Gen OPIR and GPS-III and a lot of our tactical missiles and our air and missile defense. Good growth along that line. I would just -- as we're looking at this year, I would say we see a good, strong year, particularly based on the backlog that we have in place and the continued growth in the company. I'm not going to talk about the decade. I mean we'll see how the decade rolls out, but...

It's a long-cycle business, a 2030 guidance would be an option here, but we'll leave it at that.

Okay.

We did get lucky this year, with the White House actually submitting its budget on time for once. So now we can talk about it a little bit. Not much surprise on the top line with respect to growth, that was sort of baked in last year. Things are flattening out a little bit top line. But the security requirements, they continue to grow. So how is Lockheed positioned to grow profitably while also delivering affordability in this environment?

Well, you're right. We were pleased to see that we sort of stayed on schedule with the President's budget submission that came out last week for FY '21, and it's $741 billion, that's compared to last year's $738 billion. So it's some slight growth but, as you said, some flattening. We don't know yet what Congress will do because, I mean that's just the President's budget submission and Congress then -- it actually ultimately makes the decisions on how the budget allocation falls out. In fact, I'd point you to last year. An example would be the budget submission for FY '20 on F-35 from the President's budget, Congress added another 20 aircraft, and we saw some other adds in some other areas. So I'd just point to the fact that Congress will also have an opportunity beyond this, as they always do, to determine what they want to do on the budget allocation. Moreover, I think it's important to recognize, as you did, that the global security threats are not declining. They're, in fact, accelerating. And I do think there's bipartisan support for continuing to focus on defense spending and the importance for sustained defense spending to modernize and to stay ahead of the threat and continue the technological superiority of the U.S. in that environment. As we kind of look at that budget submission, I mean I think from the standpoint of programs that we've been investing in, you saw $3.2 billion for hypersonics programs, and that's an important area for us. We've got a lot of programs in that arena. You saw some increase in NASA's budget of $3 billion over last year. And we have Orion, the deep space exploration. We've got work that we're doing on Mars missions, on lunar missions. And so we see that very positively. This budget -- and importantly, this budget is lined up with the National Defense Strategy, the budget submission is. And that's something that the Department of Defense has been very clear on, that they're staying the course on their National Defense Strategy. And in that, they've been very clear on the lines of effort and the areas that they're focusing on, one of which is certainly the space-related systems. And for us in national security space and the work that we do in that arena, it's really important. So I mentioned Next Gen OPIR is an important element of budget that's going in that direction as well. So as I look at it from the standpoint of opportunity, there has been some discussion about what's happening on investment accounts versus R&D accounts as money shifted in that direction. We actually see that as a pretty positive impact in some sense in that we've been winning a lot of business. And so when money is moving more toward, as I mentioned, hypersonics or other things or new business, new areas, that allows us then to have longer-term growth and as other legacy programs are reduced over time. So I see that as very positive from a future growth standpoint. You mentioned affordability. I mean this is an area we're constantly working on in our company about making sure that we are bringing the most affordable solutions. It means investing, it means what we do in producibility and manufacturing in all the areas where we invest to make sure that we're bringing the most cost-competitive product forward to our customers. So that's an area that we'll continue to focus on so that we can continue to be profitable -- have sustained profitable growth.

Excellent. Growth, growth, growth is, obviously, a big topic for this industry right now, and in any industry, really, but with this budget environment, it's especially the case. And it's been one place where Lockheed -- among other places, but where Lockheed has really, I think, shown pretty nicely. Can you talk about what enabled your growth to accelerate beyond initial expectations in '18 and '19 and how things are setting up for '20? It's just sort of an interesting conversation sometimes where there's a long-cycle industry, yet you kind of come out saying we think it's going to be x growth, and it's actually almost 2x growth sometimes. So where do you usually see that upside when it happens?

Yes. That's a great question, Jon, because when we looked at our growth for 2019, we were actually a little surprised, a little unexpected to us. When we started out the year, we didn't expect to grow 11% on the top line. And I think there are a couple of things that drove that. One is that the appropriations bill got in place earlier in the year. And if you get it earlier in the year, then it gives more stability to our customers, to our suppliers, to our program managers so that they can plan and start -- get underway with the work that's in our backlog, start delivering those innovative solutions. So getting that going -- granted earlier in the year and underway and earlier in the fiscal year allows us then to ultimately see that growth that comes along with that. And then I would just say we have won a lot of programs, some that we've been investing in for some time, like hypersonics and in some other areas, some classified work, et cetera, that has come to fruition for us that sometimes it comes earlier than we anticipated and the focus of aligning the budget expenditures on the part of the Department of Defense to the National Defense Strategy and these great power competitions with Russia and China and all the things we need to do to maintain our edge, our technological edge, we have been recognizing that and investing in things that now we're winning and moving forward. And then we just had significant wins in things like GPS-III and Next Gen OPIR and a number of areas there that come to play for us.

So let's talk about F-35. It's the DoD's largest acquisition programs, I think you probably know, as you probably also know it's just under 30% of your company's sales. And finally, almost 20 years after the initial award, we're starting to get to the heart of the production ramp. I mean I don't want to date myself, but I think I might have been 15 when the award came in. But here we are. So I think it's worth breaking into this -- breaking this into a couple of parts, and I'll try rapid fire -- as rapid fire as we can be. So on F-35 production and modernization, you recently closed a block buy contract. What does that mean for the F-35 production profile looking forward? And also, how do you see units and pricing almost interacting to set up for what we should think about F-35 production revenues over the next few years?

So on F-35 production, I think we're in really a good position in terms of continuing to ramp up the production. I mentioned that we're on a path this year -- well, last year, we delivered 134 orders. We're on a path this year to deliver about 140. We'll ramp that up to about 170 by 2022 and then on up to 180. Our rate -- our capacity is -- we have the capacity to continue to ramp up the production, and we'd probably do even more if we added some tooling and things like that. So we've -- good ramp, there's a significant customer interest in the aircraft. So not only do we have the procurement plan that is already in place with the countries that have committed to the program, our partners and our FMS customers and allies that were buying the aircraft. But for example, some of them have even increased their procurement plans. So for example, Japan, they've increased and added another 105 aircraft. We see new entrants, with Belgium signing up for 34. Just recently, Poland signing their letter of offer and acceptance for 32. A lot of interest in other countries in Europe. And so we just see a lot of interest and continued ramp-up in the program, and we're prepared for it. We're continuing to deliver the aircraft, and I think it's in a very good position from a production standpoint. As we've been doing that, we've also been investing in capital expenditures in that plant for -- in Fort Worth for the last 10 years, and we have a couple of other final assembly and checkout facilities in Italy and in Japan where we've got automation and growth, so that -- in terms of not only driving up in the production ramp but driving the cost down. So we now with our most recent block buy, we met our goal of what we committed to some time ago to get down to an $80 million unit cost for an F-35A, and we did it a year earlier than we said. We'd said we get it by Lot 14, we actually got it done by Lot 13 in the most recent negotiation that we have. So I think that bodes well for having a much more -- continuing to have a more affordable aircraft that continues to increase the interest by our customers for additional aircraft because it is at or below a fourth-generation aircraft price with so, so much more capability. And we continue to modernize -- I mean we -- as we went through the development phase and rolled out the aircraft as it is today, we're going to continue to upgrade and modernize with upgrades in the software, et cetera, over time. So those block upgrades and things that we're doing there, we'll continue to keep it relevant, keep it in demand around the world. And then as we look at the production side of it, we're also investing in things like what we call Blueprint for Affordability, where we've made investments in the producibility and the manufacturing. So as a result, we're seeing that we're able to continue to improve the margins in production and support that as we not only drive the cost down but also continue to improve on our performance for that. I guess, overall, if you look at the production program in general between modernization -- the development and production, I would say we're really confident in where we are, and we'll continue to grow.

And then the other piece to F-35 is the statement as the fleet grows, there's more airplanes out that need supporting. What are you guys doing? What is Lockheed Martin doing now to support that fleet? And how do you envision that role shifting over the next few years? Overall, how do you see the trajectory of the sustainment business?

It's -- sustainment has really broad scope on the F-35 program. Remember, we are still standing up bases around the world. We're only about halfway through. I mean we'll get all the bases stood up and where the aircraft will be deployed -- I mean where they'll be based, whether it's on ships or in depots and in facilities around the world, we're about halfway through. So by 2025, we'll have that done. So that's a big growth area from a sustainment standpoint. And then clearly, we continue on the spares that we're building for the aircraft. We're continuing with some of the upgrades of aircraft that were delivered earlier that are now getting their new upgrades and then just preventive maintenance on the ones that are out there today. We've delivered almost 500 aircraft. We're going to be over 1,000 aircraft in the next 5 years. So you can see that ramp-up of aircraft that will be sustained -- modernized and sustained and upgraded over time. And we'll continually see that as a flow of work that we will be involved in for years, I mean, because that's -- we bring an important element of that from an industry standpoint. One of the things that we have -- we focus on, as I talked about the cost per unit of -- flyaway cost per unit of an aircraft, but we're also looking at how do we continue to drive down the cost of sustaining the aircraft. And we've worked together with the U.S. government to set a goal of getting down to a $25,000 per flight hour cost on an aircraft by 2025, and that is at or below, again, what it costs to maintain legacy fighter jets. And so I think we're in a good phase of driving that cost of sustainment down. What will really help that a lot would be a performance-based logistics contract, which we have offered to the U.S. government, a proposal along that line. We're in the midst of the discussions, really, in the preliminary phases on it, but it would be where we would put some upfront money in for spares and repair capability and helping in that regard and then take on some risk for a 5-year PBL, which allows us then to meet certain metrics on mission capability and cost per flight hour. And it's a good model. It's used on other programs in the Department of Defense and around the world, frankly, in other defense arenas in different countries. Very cost-effective way to get stability to the supply chain. It allows us and our supply chain to invest and take on risks, so that, ultimately, the government gets the cost and the mission capability rate by having that longer-term contract. And for -- and the value proposition for us is that we've got that stability that allows us also to get a good return for that investment that we're making over that time frame. I would just say, further, if you look at the sustainment of the aircraft, we're going to continue to be investing in modernization through -- and it's going to -- there's always going to be upgrades and modernization of this fleet that continues to grow. Right now, the program of record is well over 3,200 aircraft and growing. So you can imagine how much that sustainment piece of the business is. It's a very important future growth element for us as a company.

So we put it all together, you have production, you have modernization, you have pricing on the aircraft, you have sustainment, you have margin, so we just went through all those different pieces. I'm not that good at putting it all together in my head that quickly, but I think you might be. Where does this F-35 earnings growth, just overall as a program, go over the next decade, do you think? Is this an up and to the right dynamic for this program for you guys?

Well, we have a lot of confidence. But we're not going to speak to earnings for a decade because we really don't give that kind of guidance, Jon, but...

Keep trying.

But I would say that we're very confident about this program. As I said, it's a very important program for the Department of Defense and our allies and partners around the world. Good growth opportunity for us. We're going to continue to ramp up the program. So from the production and the continued modernization of the aircraft over time as well as the sustainment, we're very confident where it is, and we know because of the price of the product and because of the life cycle cost of the product over time that there's going to continue to be demand. So while we, today, have a program of record at a level we know that there's a lot more interest in, we're going to continue to sell more aircraft around the world for many, many years to come. So I feel very, very confident about it in our portfolio and in our future growth.

Excellent. So let's try to wrap up with Aero here with F-16, and it's sort of -- F-16 is a funny thing that we'd still be talking about because we're still talking about it. But I think you have some good news there with some new customers coming in. What's your take on how quickly you can ramp a new production line for that program? And also, are there other opportunities that you're working on for -- to really extend that line for longer-term growth?