Lockheed Martin Corporation (LMT) Earnings Call Transcript & Summary

Okay. So we're going to move on. We're delighted to have with us Lockheed Martin and their Jay Malave, and Jay, you're going to read a Reg FD statement to start.

Statements made today that are not historical facts are considered forward-looking statements and are made pursuant to safe harbor provisions of federal securities laws. Actual results may differ materially from those projected in the forward-looking statements. [indiscernible] SEC filings included our 2023 or [indiscernible] description of some of the factors that may cause actual result differ materially from those forward-looking statements.

Terrific. Thank you.

Thank you, a little bit louder.

Good, strong voice anyway.

[indiscernible] So supply chain has been a problem for you, problem for the industry. What are you seeing there? And what are you -- how are you doing with your plan to set up a third solid rocket motor source?

So supply chain, I'd say in general, Cai, I'll go back to the fourth quarter, and I'll come back to what we're seeing thus far in the first quarter. In the fourth quarter, we did see incremental sales, which was incremental throughput, which largely was on the back of supply chain. So we saw some better performance there. And I would say, 2023 in general was better than 2022 on-time delivery perspective. As you look at January results, that came in a little bit better as well. We've seen some improvement and so it gives us some optimism that we are starting to turn the corner further. Again, it's only 1 month, so 1 month doesn't make a year, but I'm encouraged by what I saw. There's still some gaps. I have to acknowledge that. There's still some areas where we're still challenged. You mentioned solid rocket motors as an area that's still an area of a gap for us. As far as Jim has made some comments in terms of seeking other sources. And we just believe that given the demand cycle, there just needs to be more capacity in the industry. And so we are pursuing other opportunities. We do have, I think, good contract with the current suppliers, and we rely on them, and we'll continue to be reliant on them. But we also believe that there also needs to be some more supply into the system.

So another issue has been labor availability, both how easy is it to hire new folks. And secondly, how is your retention rate? Is your attrition rate going down?

So for us in 2023, it got a lot better. We were able to hire pretty much all of our critical skills. We went at the end of '22, essentially critical skills, I'd say, like software engineering, cyber engineering, those types of skill sets, we were read across the board in all of our 4 segments. As we got into midyear of 2023 and towards the end of the year, those all turn to green. We have fulfilled pretty much all of our requirements there. Our attrition rates also came down pretty substantially in 2023. And we're in a good place. We are below 5% in overall attrition rate in the company, which I think is pretty strong, not only in the industry but across industrials.

Got it. So F-35, that's, I guess, your key watch program. What are the key bottlenecks to getting TR-3 approved and how do you feel about the potential to start deliveries by midyear?

Yes. I mean we have to essentially prove out the software and just maybe to give you an update on where we were from our earnings call in January from the fourth quarter earnings call. Since that time, about 2 weeks ago, we had started flight testing with new software release. And so thus far, for that release, we had system stability improvements, some video capability provided as well as weapons capabilities. So incremental capability that was provided in that release as well as improving system stability. And we are seeing the results of that. It's been in flight test. We are seeing improved stability, particularly system stability for that. Simultaneously, we're going through. We still have faults that we're working through recalls and corrective actions that we have to correct, we're working those. We're burning them down. We've made some pretty good progress on that as well. And we also are lab testing, the software that I would refer to is the deliverable software release by which we would expect the customer to start accepting aircraft. That is in lab testing today. And right now, our schedule is to begin flight testing of that, either at the end of March or beginning of April. So all of that, that schedule would keep us on a path towards the June acceptance but as you know, there's still many unknowns. We're flight testing, we're lab testing. The lab testing itself encompasses over 20,000 test points. So there's still learnings to be made. And that's why we've talked about a June target but it could go into the third quarter. And we still expect that to be the case.

But you have a shot at June.

We do. We still have a shot but you -- we have to continue to burn down that we're seeing currently, and the surfacing of new issues have to be pretty resolved pretty quickly and able to hit that.

So if I does slip into June, at what point do we have to start to worry that you might have to slow production down despite the fact demand is terrific.

On the production side, if -- Cai, if we feel particularly Tier 3 hardware deliveries aren't keeping pace with the 156 rate, we'd have to think about that. And that would be sometime probably in the third quarter, late in the third quarter, where we'd have to revisit the production rate.

Got it. And so with the disruption of slow deliveries in the first half, accelerated in the second half, does that put more pressure on the F-35 margins this year?

When you look at aerospace guidance from '23 over 2022, there is -- you see there is margin contraction. Last year, Aeronautics was about [ 10.3 ]. This year, our guide is [ 9.910 ]. In that is lower total margins on F-35. And that's because we are not expecting any meaningful positive or favorable profit adjustments on that program for 2023 -- or 2024. So that means it will be lower in '24 than in '23, which the overall profitability of the program would be lower. What I would say is if you look at this on a profit -- on a production lot by production lot perspective, so you see where we ended our profitability in lot 12 to 14 versus where we're booking today on lot 15 through 17, we're actually already at a higher profit rate. So we're performing better on that program. But we have to work through the risk that we're dealing with on the Tier 3, on the software program as well as getting ourselves back up to production. And so it just wasn't prudent for us to assume that we'd be able to take favorable profit adjustments in 2024 until we start retiring these risks that we have in front of us.

Right. But normally, in my recollection, when I look at your numbers, it's kind of weird because there's a big component of positive adjustments under a normal circumstance.

Correct. That's right. And it's lower this year, the favorability.

So turning to the classified missile program. That's your other key watch item. When in 2040 do you assume, and I think you've mentioned it's 25 to 50 bps on total company margins depending on what happens with the 2 LRIP options. When do you expect them to be exercised during the year?

Based on our visibility right now, the best I can say is one in the first half and one in the second half. There's still some milestones that have to be met before the options can be exercised, and we have to work through that process. And given it's a classified program, I can't really get into much of the detail there. So that's our visibility at the moment in terms of the recognition events.

Got it. And so I think you've said, obviously, if you do one, you're taking EAC but there are 5 options. And if you think about like the B-21 Northrop basically on the first option, they're taking the expected loss on all -- you're, I guess, handling it -- thinking right now, thinking of handling it a little bit differently, what's the chance you might take the same option and what would you have to see to kind of do that?

Yes, it's possible. It's just they're all based on the facts and circumstances of those contracts and the program and the status of the program. For us to do that, it would -- and what I mean by that is recording all of them all at once is the probability of all 5 exercises taking place becomes pretty probable and high. And so first, you have to get through these performance milestones that we're getting through. You have to have visibility to funding. You have to see a customer commitment to the program over a longer period of time. And so as you know, it's harder to see farther out. But it is possible. It's possible that the facts and circumstances could coalesce that we decide that they all should be recognized together. And that could happen as early as this year. We just need the passage of time and events and facts that take place.

But essentially, it's positive because you're only going to do it if the outlook for the program, demand for the program, funding of the program is there. So essentially, that's not necessarily a bad thing.

Correct.

So turning to your opportunities, foreign sales potential looks like it's really terrific. The notification of this huge Turkish F-16 potential order, 40, 35 for Greece. When might those be finalized? And the Turkish number looks huge. I can't remember. I know that they're updating some planes too but how big could those sales be? When might we see them?

Yes, you're talking got over $20 billion. I mean big numbers on the F-16 and that would be for 40 aircraft new. There is some opportunity to improve their existing fleet. I would expect us to -- probably the earliest would be either late this year or early next year, where we would get on contract for that. And I think in Greece cases probably sometime next year as well on the F-35. That comes on the heels of other customers like the Czech Republic for 24 aircraft. I think we've talked about Canada for 88 aircraft, 35 aircraft with Germany. So demand cycle internationally, F-35 is very strong and the F-16 on Turkey, that's a nice boost for the program, where our backlog before that is around 125, 126 aircraft. And so this would boost it by another 40, which we think is good for the program and good for our customers, clearly.

Now how much -- I mean that's really a huge number for Turkey. How much of that is in-country work versus work that gets done here?

Yes. I can't give you a percentage but there's a fair amount of work that they would do from a final assembly standpoint in country. They already have that capability. It's not that they've done before, and we would expect to continue that in the future.

Got. Also a good foreign order potential at MFC and RMS. Maybe talk to us about what are some of the potentials you see as potential orders in those 2?

Sure. Let's maybe start with MFC. We've heard about the demand in things like HIMARS and GMLRS, JASSM, LRASM, PAC-3. And I think for internationally, HIMARS, GMLRS, Javelin and PAC-3 are the biggest international drivers. And we're having conversations and discussions with a lot of foreign countries. A lot of these sales go through foreign military sales, so we sell directly to the U.S., and they would actually sell and transfer to these foreign governments. But even beyond that, there's countries like Australia where we're dealing with to provide really indigenous in-country capability for manufacturing some of these systems like GMLRS and provide the capability for their own requirements as well as other exporting capabilities as well. Countries like Poland, Germany, we've had dialogue with similar capabilities. HIMARS is one that we've had discussions and they call it HIMARS in Poland, but a number of different countries that are looking for this capability on a longer term. And so we think that bodes well for the long-term demand of the program that it's not just a few year [indiscernible] production run to have these capabilities set up in country for a longer run.

And RMS?

RMS, very successful on battle management systems. AIR6500 was a big in Australia. It was a big win for us. And if you think about that in the context, we heard a lot about JADC2 joint all domain command and control, and this is a system and systems that we'll be providing. And so it's not just the Lockheed Martin systems. These are systems from other providers as well but being able to improve the situation awareness for the Australian defense network and also other countries, we've got defense of Guam, which is a U.S. program, but in Indo PACOM. We've worked with other countries as well in terms of providing these JADC2, what they refer to as also multi-domain operations type of systems. The Black Hawk is always a hot seller. And we've had a number of conversations going on with different countries on selling the international Black Hawk. You look at others and Aegis is another one, the battle management system for the Navy. We've got a number of countries that are under contract for that. And we continue to have potential. There's a training program in Canada that we were down selected with and partnered with another company to provide a pilot training there. And so the international demand cycle has been pretty high across the portfolio.

Right. So what about potential new program down select? I mean, we read about NGAD, CCA, F/A-XX, possibly NGI what can you tell me about?

Well, for those that are classified, I can't really tell you much.

No, no, I accept that.

But what I can tell you is that we expect some down select this year in classified and we think we're in the running for some of these classified programs, some of it as skunkworks. There are others, NGI is one that's out there. We weren't really planning for NGI down to select until probably 2025. And so we'll see what happens there. We know that with budget pressure is it possible that could always be an early down select. But right now, our planning has been in 2025. We completed our preliminary design review milestone in September of last year, and we're performing quite well with that. So we continue to have dialogue with the customer in that program. Again, that will be a competition for the next year or so we expect anyway. So there's some large, large programs. That's a large program, large programs really in classified, particularly Aeronautics and that's really much I can talk about there. That's where the big ones are.

So I mean, it looks like there's lots of opportunity there in terms of orders. Where could the book-to-bill be? I think you said it should be over 1 this year. But I mean, could it be 1.5, could it be 2?

Yes, I don't know about 1.5. But last year, we ended -- in 2023, we ended our backlog with almost $161 billion, which is a record for us. That was up substantially of $150 billion in at the end of 2022, so strong growth there. We've got a line of sight, I think, to moderating growth in the backlog, maybe around $5 billion, so maybe up to $165-ish billion is the way to think about that. And that's coming off to -- we delivered growth the year early in 2023 from a sales perspective. We expect stronger growth here in 2024 and that will continue to grow, just a great line of sight to growth in 2025 and beyond. For us, it's really converting now where all the elements of growth move with the sales. So 2023 profit didn't grow. 2024, right now, we don't have profit growing. 2025, we do expect profit growth at least in line with sales, and that will get us on the flywheel with all elements of growth, [ can grow ] or at least in coupled with the sales growth.

For a year or so, you're talking about like the Turkey by the Greek F-35, I mean they not get booked this year. But if they don't get booked this year, they probably would get booked next year. So should we really think about 2024, '25 as one period, in which case there should be a normal progression upward in terms of the backlog?

Yes. I think it's fair to say we still have a line of sight to continue growth in 2025 in the backlog as well for the reasons you mentioned, those pretty large opportunities that are in front of us. In addition to just continued demand, particularly MFC and then things like Lot 18, Lot 19, F-35 negotiations, all of that, when you bring those all together, there's a clear line of sight to continue to grow the backlog.

Right. So I thought fourth quarter call was good. Jim talked about DoD, there's monopsony power and your decision to bid more selectively. But -- so I guess the question I'd have is, when did you make the change? Are there bids that you made before the change that still have risks that we may not see yet. And as we think about some of the classified opportunities, are they on safe -- are they on a basis where there's minimum fixed price LRIP risk? Or to win the big ones, do you still have to kind of take on some pretty big risk?

Our approach to be honest, big and small, we're taking the same approach. I was just to look at it prudently. And when you think about this, you've got a program, we've had a mix of things over the last probably, let's say, 5 years that have come to surface. A, there have been elements of fixed price development programs, which are pretty sizable and material that caused the companies including us. We've had a program at Aeronautics where we had to deal with or you had cost plus development with fixed-price LRIPs, which -- that were priced prudent competitively to win those. And I think that we took the -- we've taken the approach that -- and Jim has been very, very clear with our management team, there's no must wins, no matter the size of it and the economics need to work for us. And so what I would say is the way we're bidding these things is kind of middle of the road. We're not being overly conservative. We're not being a little aggressive on these things. And so historically, if you go back Cai, you would think on the development phase, kind of low to mid-single-digit type of margin on an LRIP type of same thing because you're getting up and you won't really see higher margin to full rate production. That's the way we're thinking about that, and that's the way we're pretty much bidding those types of things.

Right. So are there any other programs that maybe you bid before you kind of decided we should be a little bit more careful that are sort of in the watch category that you're nervous about that could -- I mean, like the classified missile program kind of came out, people didn't really expect it? Or do you feel it's relatively safe in terms of this.

Yes, I think we've mentioned that -- we've got 5 programs that we mentioned in our 10-K and I'll maybe run through quickly. The Aeronautics -- the classified program at Aeronautics, which has fixed price development to it. That's always a watch item for us. We took a $225 million charge in 2021. We added a little bit to it in 2022. We continue to monitor that one pretty closely. There's always possibility to a risk surface there because it is fixed price development. The next one is Sikorsky and those are just completely different. They're not things that we're entering into. These were inherited essentially. CMHP contract is one. It was an onerous contract we had inherited as part of the acquisition. We have to work through that. We're in the process of trying to -- we've come to a place where the existing contractual framework doesn't work for either our customer for us. We're trying to see if we can find a win-win path to negotiate a better place for that contract. To the extent that we're not, that could trigger a contract loss there. On the Turkey Utility Helicopter Program, that one is where we had -- basically, we're delivering in that contract that we had the expiration of licenses and because of some of the issues between the United States and Turkey, we got caught up in that. And so there are certain capabilities that we cannot deliver because we don't no longer have the export license for that. So it's more of an event that was outside of our control. And what we're trying to do is work with our customers to see if we can arrive at a restructured contract that reflects the realities where we are today. Again, to the extent that we're not able to do that, that can trigger a contract loss there or contract charge. The LRDR, the long-range discriminating radar at RMS. We've got some testing that we've got to get through in this first quarter, we get through that, then we're on a clear path there. And so I think we've gone beyond the exposure on that program. And so -- and then the last one is the MSE program, that one is really a function of the -- again, that we talked about that a little bit before in terms of just the probability of the incurrence of losses there and the timing of the losses. So that's it -- I'm not aware of any other contracts that are below the surface there that would cause any material issues. We watch some of the space ones because the early ones, that there -- we've got a few fixed-price development contracts and we keep an eye on that but they're performing quite well on those contracts. And so you look at spaces performance last year, and they had a pretty strong profit adjustment year-over-year. They had a year growth in the profit adjustments that helped them offset the headwind they dealt with ULA and so the performance there has been pretty good, including fixed price development.

So I would have -- I guess the next question was going to be on the SDA tracking satellites and the transport. I mean, Northrop said, "Oh, we didn't" -- Northrop was there initially and then they didn't make the cut on tranche 2, and they said, "Well, yes, the price was a little bit tight for the risk." but you guys think you're okay.

Yes. I kind of talk to the way we look at these things. And you look at the contract for -- I'll talk to tracking layer, about a $900 million contract. Less than 25% of that is development works, talking to a range, a couple of hundred million dollars or so, a little bit over $200 million of development work. And that -- so in and of itself is, it's defined to fixed price development. But we've got a high commonality with the satellite vehicle that we're using for SDA transport layer vehicles. And so we feel very comfortable there. A lot of that development work has gotten beyond us. We've got the payload provider has a high technology readiness level. So the maturity level on the payload, we're comfortable with. There's always risk for integration because this is going to be a different systems, it's an ISR system, missile tracking warning versus communication, which is what transport layer is. So there's always an integration risk but that's what we do. That's our wheelhouse. When you combine our systems integration capability, you combine that we already have most of the satellite vehicle fully designed. We've got what we think is a pretty good maturity level on the payload, and we have the level of expertise in missile tracking and warning. It all comes together for us. And we think that we're very well positioned. The team has also [ type ] the learnings that we've had on SDA transport layer. We're able to transfer here. So I think the pricing and the scope of work that's within that pricing works for us.

So one of my thoughts is the good thing about LEOs or at least one of the aspects of LEOs is that they don't last 15 years. The big ones, they last 3, 4 years, something like that. So is this likely to be a business where if you're kind of on tranche 2, when we go to tranche 3, you're probably going to make the cut because it has commonality or is that doesn't matter?

I think the customer has done a good job of really changing some of the requirements and changing some of the capabilities of each tranche. And so I think they've done a good job of making sure they can have an expanded supply chain, a supply base there. So I don't know that -- being successful on 3 certainly helps you on 4. I would say that because you've got -- you've already got something in production. But I think the customer views it, if you were on 0, 1 or 2, you probably are equally capable of being up 4 as well. And that's the way I view it. So I don't think we take anything for granted there. And so I think that this is what position us well. I don't know how well it would be versus some of the other players in 0, 1 or 1.

So one of the things Jim talked about that I found fascinating on the call was using commercial technology to create mission-centric digital solutions with interoperability like AIR6500 where you can command higher margins, where it's a little more proprietary. You have a little more can evolve? Where are you in that process?

Well, I'd say we're in the early innings, at least from a -- what I'd say, middle innings in terms of technology development and the partnerships. We've got partnerships with these companies, a company like Microsoft, Intel a number of these companies where things like edge computing or our connectivity capabilities companies like Verizon. And I think the maturity of for purposes of defense applications, technology anyway is progressed pretty well with them. I'd say in terms of -- to your point in terms of contracting and turning that to commercial price type of contracts, very early innings. I think early on, you would probably see more traditional defense type contracts in these areas. And some of it kind of converts over to some of what we're seeing in these JADC2 programs, which are your traditional type of defense contracting. So I think that the commercial -- commercialization is a lag. The technology development is pretty far along.

So I guess my experience following the industry is when they get to a period where all the contractors are losing money because they've been too stiff on contracting for whatever reason, at some point they say, "Oh, we ought to change this". Are you seeing any signs at the Air Force view is like...

Yes, I have. I definitely have seen that. And I think that and there's a comment by one of the acquisition officials last week that part of this was the defense industry's bidding practices, too, which I think is accurate. We didn't -- no one held a gun to our head and said, go bid aggressively. But in some of the trends that we've seen in some of the RFPs, we are seeing those types of proposals or request for proposals that are commensurate with the risk that's associated with it. And what I mean by that is if there is a fair amount of technology development, it's not really mature. It's cost plus. It's not like they're asking us to go, you need to sign up for fixed price for something that is really not -- hasn't been fully developed yet. So we're seeing that. You are still seeing that like us to provide proposals on LRIPs but again, that's on us to be disciplined and take a prudent approach to how we bid those. And so that's how we're approaching, as I mentioned before. And I do think that they have -- the services are trying to make it a level playing field and trying to make sure that they select the best technology. And so you look at also the valuation criteria. It's not, for a period when to this path where everyone treated it like an LPTA, lowest price technically acceptable, even though there were high technology types of proposals. The evaluation criteria are very different. They want to see technology, they want to see the schedule and then pricing is a bit of factor but it's below the technology readiness. So I do see a trend more towards what you're saying more kind of commensurate with the level of risk that's associated with the program.

Got it. So sort of an unrelated question, about on SDA and all of that. I mean at one point, I think Terran was one of your suppliers, it looks like they're kind of in financial -- have financial issues. Is that a problem for you?

So far, it's not. They are a supplier to us on SDA transport layer and they would also most likely be a supplier to us on the tracking layer as well. We've got a very good relationship with them. And we monitor the financial well-being quite closely, and we stay in contact with them. So I don't really see any issues at the moment with them.

So you said '24 segment margins, 10.6%, and hope to get back to 11% in several years, increments 10 to 20 bps per year. Kind of as I see it, why not a bigger jump in 2025. We got F-35, hopefully, turning that corner, F-16. It used to be very solidly profitable, should do well. Classified missile issues theoretically are kind of behind us. And you did say '25 should be up, but any chance it could be more than that? Or how should we think about that?

Yes, it's possible. For the reasons you mentioned are all potential upsides, no question about it. There are some mixed realities that we're dealing with. We are seeing some high growth in classified areas, and those typically do come with lower margins. So it's just -- that's just a contract mix issue. There are some contracts, we also have to deal through and cycle through on some of the inflation issues. It will hit us a little bit more in 2025 than it is in 2024 because of the timing of the contract, and when we'll start incurring costs on some of these contracts. But having said that, it's possible. It is possible that we can do better than 10 to 20 points in 2025. We're in February of 2024. And we get to 2024 and deliver my commitments here. And as we get through midyear, and we start getting a better view on 2025, we'll be able to kind of give a better update there.

But so if you have high growth in new classified contracts, that's good. I mean it's lower margin but absolute profit.

Absolutely. I agree with you.

Should be moving up. Okay. Great. And so you look at flattish cash flow this year, modest upside in '25. What are the key swings? And maybe how big do you think a 174 if they change it? Would they...

Yes, I'll start with that and I'll circle back to free cash flow. On the 174, if it has changed this year, that would be a benefit to us by about $2 billion. We would -- although we would probably not seek a refund, what we would do is probably just short pay our payments this year. So that would be -- we would see that over 2 years probably maybe around $1.3 billion of benefit in '24 and then the balance of $700 billion -- $700 million in 2025 is the way that would profile out. Now putting that aside and just kind of baseline on where we are. If you look at our free cash flow this year, we've got a guide of $6 billion to $6.3 billion. So at the top end, some modest growth that is -- we put that range in there because of the range we had really primarily because of that 35 deliveries. So we're talking about 75 to 110. If you go in -- you starting in 2025, we've got some pension headwinds. I talked on the call about $1 billion in 2025. There is a tail to it. So we have to work through that. And then you look at what the positives are. You start delivering a 35 and catching up on deliveries then you start $7 million per tail. This should be a working capital benefit in 2025 and probably 2026 on F-35, which provides some mitigation with Section 174 of the [indiscernible] today, we would still see some continued tailwind there. And then there's some blocking and tackling the working capital. I talked about the opportunities we have there. We've got opportunities, we've seen some growth in our contract assets and growth in days. And so our productivity has deteriorated over the last 3 years in contract assets, and there's opportunity to take that down. And I think that could be a source of cash for us as well and it help mitigate what we're seeing on the pension side. What all kind of adds up to is probably trying to keep our formula intact, which is low single-digit growth in absolute free cash flow augment that with share repurchase to get us to a mid-single-digit free cash flow per share.

So pension is basically 0 this year and then $1.25 billion as you've given that. But any thoughts of prefunding any of that?

Yes. I mean, so we talk about that all the time. A couple of things here. If we do see this law change on Section 174, we could take that opportunity, that $1.3 billion windfall to pre fund our pension and get in front of some of the headwind. There's other things that are out there that potentially could happen as well. And then there's always a -- I keep open the option of using our strong balance sheet to do some prefunding and get that behind us as well.

Got it. So as you look at '24, what are the couple of things it could make for a better year or what are the couple of risks it could make for a worse year than you've portrayed right now?

When I look at '24, what -- and I say this provided that we get to a budget resolution if -- is it probably could -- there's kind of somewhere to 2023, there could be top line upside to where we are. We can go to the top end of our guidance range because the backlog is there and supports it. And we got some pretty good performance last year and being able to convert on some of that backlog earlier than we anticipated. And I think there's opportunity for us to do that the same. That would come with some profit conversion as well. And so that's where I see the opportunity. And you ask me where, I think that Aeronautics sometimes seems to surprise to the upside. MFC potentially can surprise to the upside as well. And so in Space, Space had a very strong year last year. Right now, we're basically assuming that their sales will be flat. And so there's probably a little bit of upside there from a revenue standpoint. So that's why I see the upside. The other thing that we did this year coming in and what we're doing for 2025 is we're really stepping up our game from a cost reduction standpoint. So we've set higher targets than what we typically do internally and that's both direct costs and indirect costs, where we're just not sitting here and saying, "Oh, go, we've got to deal with inflation." Well, is me, we're trying to take that and take control of our own destiny here and trying to drive better results. So to the extent that we can make that progress, it's one thing to set goals but you have to actually set plans and execute them. If we can, there could be some upside in cost reduction that can give us some tailwind of profit adjustments, we'll see. But we won't know that to the back half of the year.

Terrific. So I should have asked you before but the last I heard of Section 174, the idea was they were going to basically get rid of it but move it out to restart it in '26? Is your understanding that that's what they're thinking they're doing?

Yes. So what happened is right, it would reverse what would happen in '22, '23, '24, '25, and then restart it in '26 and '27. And so you get a temporary tailwind and then you -- for us, it would be about $700 million impact in '26 negative, kind of going back up that hill. So -- but yes that's exactly the way it's been laid out.

But then if you do get that benefit, it's a net plus because you could do some pension free, so other things so that gives you much more flexibility in terms of how things work.

I agree. Yes. It's a net positive [indiscernible]

Excellent. Hey, this has been a great interview. Thank you so much.

Thank you, Cai. Appreciate it.