L3Harris Technologies, Inc. — Form 10-Q Summary
Reporting period: Fiscal quarter and three quarters ended October 2, 2020, compared primarily with September 27, 2019. The request metadata identifies “2019 Q3,” but the filing itself is a 2020 third-quarter Form 10-Q filed November 2, 2020.
Business context and reporting period
L3Harris is a defense and technology contractor operating through Integrated Mission Systems, Space and Airborne Systems, Communication Systems, and Aviation Systems. The June 29, 2019 L3Harris merger significantly affects year-to-date comparability: 2020 includes the combined company, while the reported nine-month 2019 period includes only Harris operations for the first two quarters and the combined company for the third quarter. Management therefore also presents unaudited pro forma comparisons.
Financial performance and liquidity
| Metric | Quarter ended October 2, 2020 | Comparable period |
|---|---|---|
| Revenue | $4.463 billion | $4.431 billion |
| Gross margin | $1.311 billion; 29% of revenue | $1.189 billion; 27% |
| Income from continuing operations | $431 million | $435 million |
| Net income attributable to L3Harris | $426 million | $429 million |
| Diluted EPS from continuing operations | $1.99 | $1.90 |
| Effective tax rate | 16.8% | 1.1% |
- Nine-month revenue was $13.534 billion, versus $8.024 billion reported in 2019 and $13.265 billion on a pro forma basis.
- Nine-month income from continuing operations was $904 million, versus $947 million reported in 2019 and $1.252 billion pro forma.
- Nine-month diluted EPS from continuing operations was $4.27, versus $6.13 reported and $5.48 pro forma.
- Net cash provided by operating activities was $2.092 billion, up from $797 million. Capital expenditures were $194 million.
- Cash and cash equivalents were $1.341 billion at October 2, 2020, compared with $824 million at January 3, 2020. The company also had an undrawn $2 billion revolving credit facility maturing in June 2024.
- Total debt, net, was $6.927 billion, including $666 million classified as current. The company had $250 million of variable-rate debt and $6.577 billion of fixed-rate debt.
- Share repurchases totaled $1.850 billion for the nine months, including 9.7 million shares. The remaining authorization was approximately $650 million. Dividends paid were $546 million.
- Backlog was $20.8 billion at October 2, 2020; management expected approximately 65% to convert to revenue by the end of 2021 and 80% by the end of 2022.
Material changes versus the prior comparable period
- Quarterly revenue increased 1%, while gross margin increased 10%, primarily due to lower merger-related and inventory fair-value-step-up costs, integration benefits, and operational improvements.
- Quarterly engineering, selling and administrative expense declined 18%, reflecting lower merger-related transaction, integration, and restructuring costs, partly offset by higher acquisition-related amortization.
- Quarterly segment revenue increased in Integrated Mission Systems, Space and Airborne Systems, and Communication Systems by 6% each. Aviation Systems revenue declined 16% because of the airport security divestiture and the commercial aviation downturn.
- Quarterly segment operating income was $213 million for Integrated Mission Systems, $231 million for Space and Airborne Systems, $273 million for Communication Systems, and $100 million for Aviation Systems.
- Nine-month results included $394 million of goodwill and other asset impairment charges, primarily related to Commercial Aviation Solutions and COVID-19 effects. The company also recorded $62 million of net divestiture-related losses.
- The Commercial Aviation Solutions impairment charges totaled $350 million of goodwill, including charges recorded in the first and second quarters, with additional COVID-19-related and other asset impacts contributing to approximately $397 million of first-nine-month charges.
- The company completed divestitures of the airport security and automation business for approximately $950 million of net proceeds, the Applied Kilovolts and Analytical Instrumentation business for $12 million, and EOTech for $40 million. It expected to complete the sale of another Aviation Systems disposal group by the end of the first quarter of 2021.
- Net favorable estimate-at-completion adjustments contributed $99 million of operating income in the quarter and $300 million for the nine months, equivalent to $0.34 and $1.03 per diluted share after tax, respectively.
Guidance, outlook, risks, and unusual items
- Management expected 2020 capital expenditures of approximately $350 million and anticipated no material required contributions to U.S. qualified defined benefit pension plans for the remainder of 2020.
- Management expected Commercial Aviation Solutions revenue to decline approximately $310 million in fiscal 2020 from COVID-19 effects and Public Safety revenue to decline approximately $85 million. The ultimate impact remained uncertain.
- COVID-19 materially affected commercial aviation, flight training, commercial avionics, public safety customers, supply chains, workforce arrangements, and operating costs. Certain COVID-19-related costs were being pursued for reimbursement under U.S. Government contracts and the CARES Act, but reimbursement was uncertain and may reduce future margins because it was generally not expected to include profit or fee.
- Management stated that liquidity was adequate based on cash, operating cash flow, available credit, and market access, but noted risks from debt levels, government budget uncertainty, capital-market disruptions, and COVID-19.
- The company had $650 million of 4.95% notes due February 15, 2021 and expected to issue new fixed-rate notes before maturity. Two treasury locks had a combined notional amount of $650 million and a fair-value liability of $130 million at October 2, 2020.
- Goodwill totaled $18.992 billion at October 2, 2020. Six reporting units with approximately $10 billion of aggregate goodwill had estimated fair values less than 10% above carrying values as of the latest interim assessment, creating sensitivity to future deterioration, higher discount rates, or prolonged commercial aviation weakness.
- Defined benefit obligations were $1.583 billion, and management reported net unfunded defined benefit plan obligations of approximately $1.6 billion.
- Accrued probable litigation liabilities were not material. Environmental matters, tax audits, divestiture indemnities, fixed-price contract performance, cyber risk, export controls, government funding, and acquisition integration remained material risk areas.
Important facts for investors to verify
- Confirm the intended period: the supplied filing is for 2020 Q3, not 2019 Q3.
- Reconcile reported versus pro forma year-to-date results because the L3 merger makes the reported 2019 comparison substantially non-comparable.
- Assess the sustainability of operating cash flow, particularly the effect of working-capital movements, accelerated U.S. Government progress payments, and non-cash impairment and amortization.
- Review the timing and financing of the $650 million debt maturity, including the treasury-lock liability and any refinancing costs.
- Monitor Commercial Aviation Solutions recovery, potential additional goodwill impairment, and the effect of COVID-19 on Public Safety and other commercial businesses.
- Evaluate the effects of divestitures on revenue, backlog, segment margins, and future cash generation.
- Review contract estimate-at-completion adjustments and the concentration of revenue in U.S. Government contracts and fixed-price arrangements.