Lockheed Martin Corporation — 2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014; the filing also reports fourth-quarter results. All financial figures are in U.S. dollars; amounts are generally in millions unless stated otherwise.
Business context
Lockheed Martin is a global aerospace and defense contractor operating in Aeronautics, Information Systems & Global Solutions (IS&GS), Missiles and Fire Control (MFC), Mission Systems and Training (MST), and Space Systems. U.S. Government customers generated 79% of 2014 sales, including 59% from the Department of Defense; international customers contributed 20%, and U.S. commercial and other customers 1%. The F-35 was the largest program, representing 17% of consolidated sales.
Financial performance and key metrics
| Metric | 2014 | 2013 |
|---|---|---|
| Net sales | $45.600 billion | $45.358 billion |
| Operating profit | $5.592 billion | $4.505 billion |
| Net earnings | $3.614 billion | $2.981 billion |
| Diluted EPS | $11.21 | $9.13 |
| Net cash from operating activities | $3.866 billion | $4.546 billion |
| Capital expenditures | $845 million | $836 million |
| Cash and cash equivalents at year-end | $1.446 billion | $2.617 billion |
| Long-term debt, net | $6.169 billion | $6.152 billion |
| Backlog | $80.5 billion | $82.6 billion |
Consolidated operating margin was approximately 12.3%, versus 9.9% in 2013; gross margin was approximately 11.5%, versus 9.2%. Operating profit rose substantially despite nearly flat sales, principally because the FAS/CAS pension adjustment shifted from $482 million of expense in 2013 to $376 million of income in 2014. Business-segment operating profit, by contrast, declined from $5.752 billion to $5.588 billion. 2014 net earnings were all from continuing operations; 2013 included $31 million from discontinued operations.
Operating cash flow fell $680 million year over year, primarily due to higher net tax payments and working-capital changes, partly offset by lower pension contributions. Free cash flow, using the company’s definition of operating cash flow less capital expenditures, was approximately $3.021 billion, compared with $3.710 billion in 2013. The year-end current ratio was approximately 1.11. The company reported $7.041 billion of debt principal, before unamortized discounts; it had no borrowings under its $1.5 billion revolving facility at year-end and stated it complied with debt covenants.
Dividends paid were $1.760 billion, or $5.49 per share, and share repurchases totaled $1.9 billion. The Board authorized a $2.0 billion increase to the repurchase program; $3.7 billion remained authorized at year-end.
Segments and material changes
| 2014 segment | Sales | Operating profit | Margin |
|---|---|---|---|
| Aeronautics | $14.920 billion | $1.649 billion | 11.1% |
| IS&GS | $7.788 billion | $699 million | 9.0% |
| MFC | $7.680 billion | $1.358 billion | 17.7% |
| MST | $7.147 billion | $843 million | 11.8% |
| Space Systems | $8.065 billion | $1.039 billion | 12.9% |
Sales increased 0.5% year over year. Aeronautics sales grew 6%, mainly on F-35 production and sustainment; IS&GS sales fell 7% amid program wind-downs, reduced funding and lower volume; MFC sales declined 1% as services pressure outweighed growth in missile defense; MST sales were essentially flat; and Space Systems sales rose 1%, including increased Orion activity. IS&GS, MFC, MST and Space Systems segment operating profit declined versus 2013; Aeronautics increased modestly.
Fourth-quarter 2014 sales were $12.530 billion, operating profit $1.342 billion, net earnings $904 million and diluted EPS $2.82. Fourth-quarter 2013 results were $11.533 billion, $834 million, $488 million and $1.50, respectively. The comparisons reflect, among other items, a $119 million 2014 non-cash goodwill impairment, a $195 million 2013 impairment and $171 million of 2013 severance charges; 2014 fourth-quarter results also included a $45 million R&D tax-credit benefit.
Backlog declined 2.5% to $80.5 billion, while funded backlog increased to $56.5 billion from $55.0 billion. Management expected $32.2 billion, or about 40% of year-end backlog, to convert to sales in 2015.
Outlook, risks and unusual items
- Management forecast 2015 sales down in the low-single-digit range and segment operating profit down in the mid- to high-single-digit range. Expected 2015 segment operating margin was 11.5%–12.0%, below 2014. The outlook assumed continued U.S. Government support and funding consistent with the FY2015 budget.
- Management planned to return substantially all free cash flow to investors through dividends and repurchases over the next three years, subject to circumstances and fiduciary obligations. It also announced a goal of reducing shares outstanding below 300 million over that period, subject to market conditions.
- Major risks include dependence on U.S. Government appropriations and defense budgets, sequestration and contract delays; competitive pricing and re-compete pressure in services and IT; fixed-price contract cost overruns; F-35 technical, schedule, supplier, software, testing and sustainment challenges; and international sales, export-control and offset obligations.
- A sole-source C-130J propeller supplier experienced a factory fire in February 2015; the company was assessing potential disruption. ULA’s Atlas V uses a Russian-made engine, and the filing discusses potential longer-term effects of restrictions on Russian engines, while stating no expected impact to the investment carrying value in 2015.
- Pension assumptions materially affect reported results and equity. The 2014 year-end pension remeasurement reduced equity by $2.9 billion, primarily reflecting a lower discount rate and updated longevity assumptions. The company expected no qualified pension contributions in 2015–2017 under then-current assumptions.
- Other notable items include a $119 million non-cash goodwill impairment in MFC Technical Services; $898 million spent on acquisitions in 2014; and $965 million of environmental liabilities, with $836 million of related receivables recorded. Management identified IS&GS Civil goodwill as vulnerable to future impairment if projected cash flows or market assumptions deteriorate.
- Legal proceedings include a dispute with the New York Metropolitan Transportation Authority, which sought approximately $190 million, while Lockheed Martin asserted approximately $95 million in claims; the company said it could not estimate a reasonably possible loss in certain other proceedings. The filing says environmental standards or remediation developments could materially affect estimates and particular interim-period earnings.
Investor verification priorities
- Reconcile the increase in consolidated operating profit with lower aggregate segment operating profit, focusing on pension accounting and other unallocated items.
- Track 2015 sales, margins, cash generation and backlog conversion against management’s forecast and the funded status of customer orders.
- Monitor F-35 execution, production funding, contract cost estimates, testing and supplier performance, including the C-130J propeller supply situation.
- Assess pension sensitivity to discount rates, longevity, asset returns and future contributions, and the resulting effects on cash flow, equity and earnings.
- Review the resilience of IS&GS Civil and MFC Technical Services cash-flow assumptions and goodwill valuations, as well as environmental and litigation exposures.
- Evaluate whether dividends and repurchases remain supported by operating cash flow, given lower 2014 cash generation and the company’s stated capital-return plans.