Northrop Grumman Corp. 10-Q Summary
Business Context and Reporting Period
This filing covers the quarterly period ended September 30, 2008. Northrop Grumman Corporation is a leading global security company providing technologically advanced products and services in information and services, aerospace, electronics, and shipbuilding. The company operates primarily as a prime contractor for the U.S. Government, particularly the Department of Defense.
Key Financial Metrics (Nine Months Ended Sept 30, 2008)
| Metric | 2008 (9 Months) | 2007 (9 Months) |
|---|---|---|
| Total Sales and Service Revenues | $24,733 million | $23,063 million |
| Operating Income | $2,041 million | $2,259 million |
| Net Earnings | $1,271 million | $1,336 million |
| Diluted EPS (Continuing Ops) | $3.65 | $3.86 |
| Net Cash Provided by Operating Activities | $2,174 million | $2,156 million |
| Free Cash Flow | $1,630 million | $1,636 million |
| Total Assets | $33,254 million | $33,373 million |
| Total Debt (Current + Long-term) | $3,944 million | $4,055 million |
| Cash and Cash Equivalents | $1,016 million | $963 million |
Material Changes vs. Prior Period
- Revenue Growth: Revenues increased 7.2% year-over-year, driven by higher sales in all segments except Information Technology and Shipbuilding (quarterly). Growth was led by Mission Systems, Aerospace, and Electronics.
- Operating Income Decline: Operating income decreased 9.6% year-over-year. This decline was primarily due to a $326 million pre-tax charge in the first quarter related to the LHD-8 amphibious assault ship program and other Shipbuilding programs, as well as a $57 million negative performance adjustment on the NYCWiN program in Information Technology.
- Shipbuilding Segment Impact: Shipbuilding operating income dropped significantly ($370 million decrease) due to the LHD-8 charge, Hurricane Gustav shutdowns, and Hurricane Ike impacts on a subcontractor for the LPD program.
- Discontinued Operations: The company sold its Electro-Optical Systems (EOS) business in April 2008 for $175 million, recognizing a net gain of $19 million. Results are reported as discontinued operations.
- Acquisitions: Completed the acquisition of 3001 International, Inc. for approximately $92 million in October 2008 (post-period end) and consolidated AMSEC businesses in 2008.
Guidance, Outlook, and Risks
- Economic Outlook: Management notes economic uncertainty and financial market volatility. While the company's long-term government contracts provide visibility, there is a risk that economic conditions could adversely affect future defense spending levels.
- Pension and Market Risk: Volatility in financial markets affects the valuation of pension assets and liabilities. Management expects significantly higher pension expense in 2009 compared to 2008 due to lower asset returns and potential discount rate changes.
- Goodwill Impairment Risk: Management intends to review the carrying value of long-lived assets, including goodwill, in the fourth quarter, focusing on future cash flows and market capitalization pressures.
- Legal and Contingencies:
- TRW Microelectronics: Ongoing dispute with the U.S. Government regarding microelectronic parts. A settlement offer of $112.5 million was made in 2006 but not accepted; litigation could result in damages materially exceeding this amount.
- Hurricane Katrina Insurance: Litigation with FM Global regarding storm surge coverage is ongoing. The Court of Appeals reversed a summary judgment in favor of the company, remanding the case.
- Deepwater Program: The Coast Guard suspended its pursuit of a $96.1 million claim regarding patrol boat defects but supports a Department of Justice investigation.
- Share Repurchases: The company repurchased $1.46 billion of common stock in the first nine months of 2008. As of September 30, 2008, $963 million remained authorized for repurchases.
Investor Verification Checklist
- LHD-8 Program Status: Verify the extent of re-work required and the accuracy of the revised cost estimates for the LHD-8 contract following the Q1 charge.
- Shipbuilding Margin Recovery: Assess the impact of Hurricane Ike on the LPD program subcontractor and the timeline for recovery of production schedules.
- NYCWiN Performance: Review the revised cost-to-complete estimates for the New York City Wireless Network program following the $57 million negative adjustment.
- Pension Funding: Monitor the impact of 2008 market performance on 2009 pension expense and required cash contributions.
- Legal Exposure: Track developments in the TRW microelectronics settlement negotiations and the FM Global Hurricane Katrina insurance appeal.
- Backlog Quality: Confirm the funded status of the $70 billion backlog, particularly regarding the $1.5 billion aerial refueling tanker award which is currently under protest and competition cancellation review.