Lockheed Martin Corporation — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 24, 2012, compared with periods ended June 26, 2011. Financial statements are unaudited; Ernst & Young performed an interim review, not an audit.
Business context and results
Lockheed Martin is a defense and aerospace contractor with four segments: Aeronautics, Electronic Systems, Information Systems & Global Solutions (IS&GS), and Space Systems. In 2011, 82% of sales came from the U.S. Government, including 61% from the Department of Defense.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales | $11.921 billion | $11.543 billion | $23.214 billion | $22.169 billion |
| Operating profit | $1.200 billion | $993 million | $2.212 billion | $1.857 billion |
| Net earnings | $781 million | $742 million | $1.449 billion | $1.272 billion |
| Diluted EPS | $2.38 | $2.14 | $4.41 | $3.64 |
| Operating margin | 10.1% | 8.6% | 9.5% | 8.4% |
| Cash dividends per share | $1.00 | $0.75 | $2.00 | $1.50 |
Q2 sales increased 3%; six-month sales increased 5%, driven chiefly by products. Operating profit rose 21% for Q2 and 19% year to date. Product and services cost ratios improved year over year. EPS also benefited from a lower weighted-average share count following repurchases. 2011 comparisons included a $89 million tax benefit from resolution of tax matters and $97 million of severance charges; neither was recorded in the 2012 periods.
Segments and material changes
- Aeronautics: Six-month sales increased 9% to $7.114 billion and operating profit increased 16% to $839 million. Higher F-35 low-rate initial production, F-16 and C-130 deliveries helped; lower F-35 development profit booking and F-22 production offset some gains.
- Electronic Systems: Six-month sales rose 3% to $7.475 billion and operating profit rose 17% to $1.067 billion, aided by ship, aviation and tactical missile programs and contract risk retirements.
- IS&GS: Six-month sales declined 3% to $4.353 billion and operating profit declined to $396 million. Program completions, including JTRS, U.K. Census and ODIN, contributed to lower sales.
- Space Systems: Six-month sales increased 11% to $4.272 billion and operating profit increased 6% to $508 million. Two commercial satellite deliveries and Orion activity lifted sales; lower equity earnings partly offset profit gains.
Consolidated net adjustments unrelated to volume, including contract profit-rate changes and contractual matters, increased operating profit by approximately $595 million in Q2 and $1.1 billion in the first half; the associated net-earnings benefits were approximately $385 million ($1.17 per share) and $700 million ($2.13 per share). The filing notes significant profit reductions on F-35 development and certain Electronic Systems programs within these totals.
Cash flow, debt and liquidity
- First-half operating cash flow was $1.303 billion, down from $2.613 billion. The filing attributes the decline mainly to higher pension contributions, weaker operating working-capital cash flow, and higher tax payments.
- Cash and equivalents were $3.802 billion at June 24, 2012, versus $3.582 billion at year-end 2011. Capital expenditures were $306 million.
- Cash used for financing was $785 million, including $423 million of share repurchases and $653 million of dividends paid. The company repurchased 4.9 million shares during the first half and had $2.9 billion of authorization remaining.
- Debt totaled approximately $6.493 billion: $150 million current and $6.343 billion long-term. Cash exceeded current liabilities ($12.268 billion) only partly; the balance sheet reports $14.800 billion of current assets. The $1.5 billion revolving credit facility was undrawn, and there were no commercial-paper borrowings. The company reported compliance with debt covenants.
- Qualified pension contributions were $1.1 billion in the first half, completing required 2012 funding. Accrued pension liabilities were $12.775 billion, down from $13.502 billion at year-end.
Outlook, risks and contingencies
- Federal budget/sequestration: Management warned that failure to change or delay sequestration could materially affect results, earnings and cash flows. It expected 2013 sales to be below expected 2012 sales, with fuller effects potentially appearing in 2014. The company could issue conditional WARN notices and anticipates possible supplier claims and restructuring costs; it expects to seek customer recovery for such costs.
- Segment outlook for 2012: Aeronautics expected low-single-digit sales decline with low-single-digit profit growth; Electronic Systems expected sales comparable and mid-single-digit profit growth; IS&GS expected mid-to-upper-single-digit sales decline and upper-single-digit profit decline; Space Systems expected slightly lower operating profit and margins.
- F-35: Management reduced the development contract profit booking rate, lowering Q2 profit by about $85 million. Remaining incentive fees were approximately $530 million. Risks include testing, software, supplier and partner performance, and delayed funding for LRIP Lot 6 pending negotiation of Lot 5; delayed funding could create termination-liability exposure.
- Environmental matters: Recorded environmental liabilities were $961 million, with $834 million of related recovery receivables considered probable. Potential tighter standards for perchlorate and hexavalent chromium could increase estimates and could affect earnings where costs are not recoverable.
- Other contingencies: The company described securities and derivative lawsuits, an MTA contract dispute, 401(k) litigation, and DOE-related environmental/Civil False Claims Act proceedings. Loss ranges generally could not be estimated; management assessed a material adverse effect on the company as a whole as remote. Outstanding letters of credit, surety bonds and third-party guarantees totaled $3.4 billion.
- Management reported no material change in previously disclosed risk factors or market-risk exposures. Disclosure controls were considered effective as of June 24, 2012.
Important facts for investors to verify
- How contract estimate changes and the large non-volume profit adjustments affect the sustainability of earnings.
- Developments in F-35 incentive-fee negotiations, Lot 5/Lot 6 funding, test and software progress, and potential termination liabilities.
- Federal budget and sequestration actions, including impacts on program awards, revenue timing, restructuring and supplier costs.
- Cash-flow trends after the unusually large pension contribution, and future pension funding needs.
- IS&GS program replacements and whether the segment’s forecast sales and profit declines materialize.
- Environmental cost estimates and recoverability, plus outcomes of material legal proceedings and guarantees.