RTX Corporation (RTX) Earnings Call Transcript & Summary

Defense component within those businesses there. So for RIS and R&D, for the full year, we're looking at low-to-mid single-digit growth on a pro forma basis for both businesses. We won't be talking about this much beyond the next couple, 3 quarters. But a little bit of a tough compare in Q1, 2, because from an accounting point of view with the merger, they had the EAC reset that didn't affect their Q1. So strong Q1, strong margins there. As we look to Q2 to Q4, similar to what we did for the commercial businesses, we'd expect both of those businesses to be growing in the mid-single-digit range. If I peel it back and talk first a little bit about RIS. For them, their growth, we see that coming from sensing and effects, and a lot of that is driven by the next-generation Jammer program as we continue to ramp up there. But we also see some strong growth, probably no surprise in the classified environment, in particular around ISR and space programs. And then about 50 basis points of growth from the Blue Canyon acquisition that we closed right towards the end of 2020. Just as a reminder for folks, right, Blue Canyon has expertise in small sats and spacecraft components and strategically, it helps RIS to bring a broader range of solutions to the customers around space-based capabilities, which is a growing area that we feel is going to continue well into the decade and beyond. So very well complementary to what we already had in the RIS business. Margin-wise, we'd expect RIS margins to improve year-over-year in '21, even with the tough Q1 comp, as that percent complete grows as well as seeing better productivity in the business. If I shift to R&D, the growth there is coming really from ramp-up on the SM3 and the continued ramp on the SM-3 and SM-6 multiyear awards that came in one at the end of 2019 and one in Q1 of 2020 and also a ramp-up on the TPY-2 radars. Margin there is a little bit tougher. We're looking at roughly flat margins over -- year-over-year, mostly driven by the Q1 comp. There is some mix shift with a few international production programs winding down. And again, if you look at that Q2 to Q4 period, that's really where their growth is concentrated, would expect their' profit to grow in absolute dollars in that period by $150 million to $175 million year-over-year. And as I said, I don't want to exclude Collins and Pratt because they had great years last year on the defense or the military side. Strong growth in both businesses. Collins grew 9% organically and Pratt grew 14%. This year, for 2021 at Collins, we'd expect their military business to grow in the low- to mid-single-digit range organically. Really with growth kind of spread across their key platforms across the business. Now Pratt, after that 14% growth last year, we're looking at maybe down to in line down slightly in line with 20. The OE production levels on the F135, they're largely stabilizing, while the aftermarket is continuing on a ramp. And we see the other major aftermarket programs there being flat to down a little bit after they contributed to some of that strong sales growth in 2020. But we feel good about the defense outlook. And as I mentioned earlier, it's about 2/3 of our portfolio this year and last year, given the depressed commercial market.

That's a terrific review. Thanks so much. So maybe update us on the key defense, new business opportunities you have both at legacy Raytheon and the UTX businesses.

Yes, sure. So a lot of opportunities out there, both domestically, internationally, and I'll hit on a few key competitions, too. I'll start with one that really spans across all RTX, right, both heritage or legacy companies, and that's really related to the F-35, whether it be for engine production and aftermarket support, but also systems at both Collins and RIS there. So we see a number of opportunities on that platform. In R&D, some of the usual suspects for their missile production awards, AMRAAM, AIM-9x, SM-2 and also some International Patriot awards for R&D. In RIS, I don't know, other than next-gen Jammer, which is part of the sales equation that I just mentioned, really, across the entire portfolio. And just as a reminder RIS, the characteristic of that portfolio, they have a ton of programs that aren't huge, right? They don't have many billion-dollar programs. So they're seeing pretty good awards, whether it be classified, in cyber, training, communications, mission support, really across the portfolio. And if anything, as I mentioned, next-gen Jammer stands out a little bit, some of the key competitions that are out there right now, next-gen interceptor for RMD. Next-gen OPIR for RIS spends, which is an enterprise collaboration effort primarily between RIS and Collins and the B52 re-engineering program that relates to both Collins and Pratt. On top of that, we can't get into names here, but some -- or the names wouldn't mean anything. Some classified competitions in space and also some hypersonics. When you set -- when I step back from it, we like our hand here that we have to play, and we feel good about the technologies and the capabilities, how we're positioned and feel that we're going to achieve some meaningful wins on these competitions.

So if you look at all of that, I think we asked north before you. I think they have projected, they expect their backlog to remain relatively flat. You had a year with good -- and certainly at legacy Raytheon, a good positive book-to-bill above one. Any rough sense does it look about flat or anything you can say or maybe you can't?

No. I think sitting here today, we'd expect to be able to grow the backlog. We've had, to your point, we had on the legacy Raytheon side, a pro forma book-to-bill last year of like 1.06, 1.07. And a couple of years before that, if you remember, it was even higher, right? 1 year was 1.25 and the like. So we've had a really good run. But I think there's the ability here, depending upon how a few of these orders land for us to continue to be able to show a little bit of growth in the backlog.

Terrific. And so we've got a Democrat controlled government now. What are your thoughts on the DoD budget? What are the drivers do you think can allow your defense business to grow even if the budget is flat or maybe down, which some people expect? And is international a good sales opportunity for you?

Yes. So I think when we step back from things and think about with the change in administration and the change in Congress, as you mentioned, some things haven't changed, right? The threats are still out there, whether it be the threats our nation is focused on and concerned about or our allies. The NDS still exists, and it calls for those high-end capabilities for the war fighter, right, to address those threats. And we do believe we're going to continue to see, as we have for a few years now, several years now, a strong bipartisan support for a strong defense here. So despite the change, we feel that the environment still is supportive of strong spending on defense. Even if it's flat, to your point, right, which we'll find out in a little while where the administration is going. But we do feel that the threat environment hasn't changed, and our technologies and capabilities are very well aligned with that. And we've talked about that for several years now where we've made our investments, the higher volume in classified work that we had seen over the last several years, which are the precursor to a lot of programs transitioning from development into production. We feel really, really good about how we're positioned, whether it be related to space, which we believe is going to continue to be a focus area, hypersonics, cyber. As you know, Cai, we've got the LTAMDS program, which is the replacement for Patriot. We've got a strong position on our interceptors with the multiyear awards on SM-3 and SM-6. So I think in the near term, we're very well positioned to continue to capture our fair share and then some and be able to continue to grow the business on the defense side, even in a flat budget environment. Internationally, it's definitely -- remains a key for us and almost 40% of the backlog that's attributable to RIS and R&D remains from international customers, and we don't really see that profile changing materially over time. I think it's worth noting, and everybody has seen the Biden administration and the temporary freeze on ARM sales to Saudi and the UAE, right? New administrations come in, they want to do a review of international arm sales and align it to their foreign policy. I think what's important here is the focus is largely around offensive type of weapons. And I'd tell you, less than 1% of our revenue would really fall in that consumable type of category across the board, never mind to a particular customer or a region. So the majority of our sales are defensive. And the administration has also said that they will continue to support, as an example, Saudi Arabia in defending its sovereignty, right? Again, the defensive type of weapons think Patriot, TPY-2s, early warning radars and the like. So again, I think international continues to play a key role for us and somewhat of a differentiator going forward and being able to continue to grow our defense business.

So before we leave defense, maybe can you give us an update on where are we with LTAMDS? I mean, how much more -- what you spent last year, what you might spend this year? When does it become a growth driver? And when might we see upgrade orders from international customers?

Yes. So the LTAMDS team made great progress last year. They met all their program milestones. From a company investment point of view, we expect that this year, '21 will be the last year of elevated investment for LTAMDS. We plan to step up in the related expenses for this year as we continue to plow through key milestones on the development effort. Just as a reminder, we're building the first 6 radars on the effort that we have ongoing right now, and we're on track to deliver those to the Army for their test program later this year. We do have a path finder radar that we've alluded to before. It's operational, it's radiating in free space at our test facility, so working well there. Going forward, to your point about when does this start to ramp up and provide a tailwind from a growth point of view, there's a couple -- 3 things, right? The first thing I'd look for, and it's not going to be huge dollars, but it could be $100 plus million. There are already some preplanned product improvements or P3i type of effort. Remember, this was an OTA, right, or is an OTA and being executed under that construct. So the whole program plan has the preplan improvements assumed or built into it. And then the next major milestone is we would transition to formal production for the first 16 LTAMDS in the 2023 time frame. The Army is going to go through a pretty extensive test period once we deliver these first 6 radars to them. From an international point of view and actually, from a franchise point of view, we've talked about -- this is a $30 billion franchise for us, right? There are 250 by the time we're ready to go. So beyond the U.S. government, there's about 250 fire units worldwide that will be subject to the upgrade. They won't all take it, but we estimate this is about a $30 billion opportunity there. And another $5 billion for some variance, where we've looked at a couple of different variants to support other short- and long-range radar missions that we feel will come to fruition over time. So $35 billion plus overall. As far as international sales, there is a lot of interest. The Army has already gained some of the necessary releases for some of the Patriot partner countries to start sharing information with them, and we're going to continue to work with the government to do that because this is a capability that our international customers do want. Again, that could all come in, in the '24 time frame, I would say, '24 and beyond, when we could potentially start seeing some international orders.

Terrific. So thinking about international, while there are these kind of limits on Saudi and UAE Eastern Europe continues to face the Russian threat. China is clearly an issue with a lot of interest in Southeast Asia for missile defense. If you were to characterize, is that potential still as vibrant as it looks?

Yes. No, I think for sure, we have -- from a global perspective, that threat environment remains the same in those regions in the Middle East, prorate relative to the Middle East and that threat there. So we still feel good about opportunities globally because of the Russians, because of China, North Korea, that hasn't really -- it may simmer down in the press every now and then, but the underlying threats are still there, and we believe there's still opportunity there as well.

Terrific. So moving on to free cash flow. The bridge you provided in Q4 was helpful. Can you walk us through the major assumptions, particularly the one-timers and structural CapEx investments in '21? And kind of, is this it -- the investments done in '21? Do they turn into cash drivers? Give us some color on all of that, if you could.

Yes, sure. So we had reported pro forma cash -- free cash flow of $2.3 billion last year. And we kind of normalized that to operational baseline stepping off into 2021 of $3.5 billion, where we adjusted for our one-timers from last year, plus some of the international collections at R&D and discretionary pension contribution. So if we start with that $3.5 billion, in 2021, the headwinds, right? There's about $500 million for synergy and restructuring-related cash expenses and about $600 million of CapEx for the structural cost actions and some cost reduction products -- projects that we've talked about. It's fair to assume that some level of this will continue in the next several years. We just talked about a little while ago that a few of those structural projects take a couple, 3 years before they're up and running. So we'll have some tail on this as we move forward. Plus, we want to keep looking at the structure and see if there are smart projects to go invest in to further improve our structure. I think the good news there is that there are offsets, right? We've got about $2.1 billion of operational growth, coming from the segments that get us to that $4.5 billion of free cash flow in 2021. To peel that back a little bit for folks. At the high end of our outlook range, we see about $300 million of operating profit growth from the segments. While we had also highlighted the discretionary contribution we made to the pension in 2020, there's about another $300 million benefit to pension funding in 2021 because of favorable asset performance in 2020 as well. The balance, think of primarily around working capital. So on a pro forma basis, we had $300 million outflow of working capital in 2020. If you were to add back or back out, I should say the RMD, international receivables of $800 million. That said, our working capital would have been an outflow of about $1.1 billion, largely driven by the commercial aero businesses. So if we're to just hold working capital flat year-over-year, right, that would be a $1.1 billion improvement, all else equal. And then the balance of, call it, about $500 million, $400 million to $500 million, think of those as go gets, things that we're going to go do to further improve inventory or working capital, maybe a little bit of CapEx opportunity and/or organic strength. But bottom line, we think there's enough opportunity there and feel confident in our ability to deliver the roughly $4.5 billion of free cash flow for 2021.

Great. Excellent answer. So Greg alluded to, I think, on your call that the $8 billion to $9 billion is still out there at some point. Maybe -- I assume it's mostly ops, but I don't know. Any color you provide on that would be very helpful? And the other point he made is that your cash is really elevated relative to where it normally would be and any benefit you could derive from bringing the cash down, what would you have to see? That would be great.

Yes. So on the first part, relative to the long-term cash flow, right, I think the simple way for folks to think about it is nothing has changed that would not allow us to achieve that $8 billion to $9 billion that was our target for '21 pre-pandemic, right? Nothing has changed in the underlying business, the fundamentals of the business to be able to do that. It's the pandemic and the drop in the volumes, right? So clearly, when the volumes come back, we would expect to be on the track to achieve that $8 billion to $9 billion. So it's not a matter of if, it's when, right? And that's going to be largely dictated by the shape and the pace of the recovery. I would point out that the cost actions that we've taken will help, right? It will help over the long term, as we talked about here. But volume's the key and we're confident the volume will come back. Just a couple of other things just to keep in mind, we've all got this R&D tax impact to deal with. New administration, so it's probably still a little bit early to understand how that's all going to play out in the big picture of tax over time. But remember, that could be a $2 billion cash headwind in 2022. It's no P&L impact, and it's a timing issue over 5 years as the R&D deductions would be capitalized over that time. But again, assuming like-for-like mix, volume and conditions, there's no reason we won't get to that $8 billion to $9 billion of free cash flow. Yes, I think what Greg talked about on the other part of the question was, we ended the year with almost $9 billion of cash on the balance sheet that maybe need $6 billion, call it, $6 billion versus that $9 billion. And I think it came up in the context of buyback, right? And we've talked about resuming the buyback this year. We put a $1.5 billion call, a placeholder. And we said we'd buy back at least $1.5 billion. We're going to do it opportunistically. And we're going to monitor. I think the biggest thing, it all comes back to the recovery. We're going to monitor that recovery. And if we feel that things are taking hold, consistent with our assumptions there and depending upon what's happening in the market, we'll opportunistically look to go beyond $1.5 billion if we think it makes sense.

Terrific. Thank you very much. I think we're running out of time, but that was a great review. Greatly appreciated. Thanks so much. You have a great rest of the day.

Thanks, Cai, and Thanks for having us at the conference.

Super. My pleasure.

All right.