General Dynamics Corporation — FY2015 Form 10-K
Business context and reporting period: Global aerospace and defense company with Aerospace, Combat Systems, Information Systems and Technology, and Marine Systems groups. This annual report covers the fiscal year ended December 31, 2015; quarterly figures below include fourth-quarter 2015. Unless stated otherwise, amounts are in millions of dollars.
Financial performance
| Metric | FY2015 | FY2014 | Change |
|---|---|---|---|
| Revenue | $31,469 | $30,852 | +2.0% |
| Operating earnings / margin | $4,178 / 13.3% | $3,889 / 12.6% | +7.4%; +0.7 percentage points |
| Earnings from continuing operations | $2,965 | $2,673 | — |
| Net earnings | $2,965 | $2,533 | — |
| Diluted EPS, continuing operations | $9.08 | $7.83 | +16% |
| Operating cash flow / free cash flow | $2,499 / $1,930 | $3,728 / $3,207 | Lower year over year |
| Cash and equivalents | $2,785 | $4,388 | Down $1,603 |
| Total debt / net debt | $3,399 / $614 | $3,893 / net cash $995 | Shifted to net debt |
| Backlog | $66,120 | $72,410 | Down $6,290 |
The effective tax rate was 27.7%, versus 29.7% in 2014; management attributed the reduction primarily to favorable contract close-outs. Return on sales was 9.4%, and management-reported return on invested capital was 17.4%, up from 15.1%.
Business group results
| Group | FY2015 revenue | FY2015 operating earnings | Revenue change vs. 2014 |
|---|---|---|---|
| Aerospace | $8,851 | $1,706 | +2.3% |
| Combat Systems | $5,640 | $882 | -1.6% |
| Information Systems and Technology | $8,965 | $903 | -2.1% |
| Marine Systems | $8,013 | $728 | +9.6% |
Fourth-quarter 2015 revenue was $7,809, operating earnings $1,036, net earnings $764, and diluted EPS from continuing operations $2.40. Fourth-quarter 2014 comparatives were $8,362, $1,067, $701, and $2.19, respectively.
Material changes and management commentary
- Revenue growth was led by higher Virginia-class submarine construction and engineering activity and additional G650 deliveries. Consolidated operating earnings and margin increased despite lower revenue in Combat Systems and Information Systems and Technology.
- Marine Systems revenue rose with submarine and Jones Act ship work, but its margin declined to 9.1% from 9.6%, reflecting contract mix, DDG-1000 cost growth, and the DDG-51 program restart.
- Information Systems and Technology operating earnings rose 15.0% and margin improved to 10.1% from 8.6%, despite lower revenue. Results included a $23 gain on sale of a commercial cybersecurity business.
- Operating cash flow fell to $2,499, principally because prior customer deposits were used to fund program supplier commitments and Aerospace working capital increased while building G500/G600 test aircraft. The company repurchased 22.8 million shares for $3,233 and paid $873 in dividends.
- Total backlog declined, mainly reflecting work performed against Marine Systems contracts and lower defense-group backlog. Management reported estimated total contract value, including potential options and IDIQ work, of $90.6 billion; potential value is not firm backlog or guaranteed funding.
Outlook, risks and unusual items
- 2016 outlook: Aerospace revenue expected modestly higher, with margin somewhat lower. Combat Systems revenue expected to increase slightly, with margin in the mid-15% range. Information Systems and Technology revenue expected to be consistent with 2015, with margins approaching double digits. Marine Systems revenue expected to be consistent, with margin improving to the mid-9% range. Corporate costs were estimated at approximately $45; net interest expense at approximately $95; effective tax rate in the mid-29% range; capital expenditures at approximately 2% of revenue.
- Principal risks: dependence on U.S. government spending, appropriations and contract funding; customer termination rights and government audits; fixed-price contract execution and estimate risk; supplier availability and performance; business-jet demand; foreign-market, currency and regulatory exposure; and cybersecurity threats. The 2015 customer mix included 57% U.S. government revenue.
- Contingencies: The company reported ordinary-course litigation, environmental remediation, government contract claims and approximately $1.1 billion of letters of credit, guarantees and similar arrangements; management did not expect these matters to have a material financial impact. Warranty liabilities were $465 at year-end.
- Accounting and other items: Favorable revisions to contract estimates increased 2015 operating earnings by $222, or $0.44 per diluted share; no single contract revision was material. The company expects adoption of the new revenue standard to change recognition of estimate revisions from prospective allocation to period-of-change recognition, potentially increasing period-to-period variability; its financial impact had not yet been determined. The 2014 axle-business sale loss was reported in discontinued operations; the sale was completed in January 2015.
Key facts for investors to verify
- Whether lower operating cash flow and free cash flow are temporary, and how working capital and customer-deposit use develop.
- Backlog conversion, funding of unfunded backlog, and execution of major submarine, destroyer, international vehicle and Gulfstream programs.
- Whether 2016 segment revenue and margin expectations were achieved, particularly Aerospace margin and Marine Systems program costs.
- Debt repayment or refinancing of the $500 note due July 2016, and the company’s continued capacity for dividends and share repurchases.
- Potential effects and implementation timing of the new revenue recognition standard, including the volatility of contract-estimate adjustments.
- The filing reports unqualified audit opinions on the financial statements and internal control over financial reporting.