LMT

Business Context and Reporting Period

Company: Lockheed Martin Corporation
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2006
Business Overview: Lockheed Martin is a leading global security and aerospace company. In 2006, 84% of net sales were derived from U.S. Government customers (DoD and non-DoD), 13% from foreign governments, and 3% from commercial customers. The company operates through five segments: Aeronautics, Electronic Systems, Space Systems, Information Technology & Global Services (IT&GS), and Integrated Systems & Solutions (IS&S). On February 22, 2007, the company announced a realignment to combine IT&GS and IS&S into a new segment, Information Systems & Global Services (IS&GS).

Key Financial Metrics (2006)

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 6% to $39.62 billion, driven by growth in Electronic Systems, Space Systems, IT&GS, and IS&S, partially offset by a slight decline in Aeronautics.
• Profitability: Operating profit surged 32% to $3.95 billion. This was driven by higher volume on key programs (F-35, F-22, AEGIS, Satellites) and improved performance on sustainment activities.
• Segment Performance:
  • Aeronautics: Sales decreased 2% due to lower C-130J deliveries, though operating profit rose 18% due to F-35/F-22 volume and F-16 performance improvements.
  • Electronic Systems: Sales increased 7% and operating profit 17%, led by platform integration and missile defense programs.
  • Space Systems: Sales increased 16% and operating profit 22%, driven by satellite deliveries and missile defense, despite a decline in space transportation sales.
  • IT&GS & IS&S: Both segments saw double-digit sales growth (15% and 6% respectively) and significant operating profit increases due to organic growth and acquisitions.
• Accounting Changes: The company adopted FAS 158 (pension accounting) and FAS 123(R) (stock-based compensation). The adoption of FAS 158 reduced stockholders' equity by approximately $1.9 billion net, reflecting the recognition of unfunded pension liabilities.
• Divestitures: The company sold interests in LKEI and ILS (Proton launch services) and Inmarsat shares, realizing significant gains included in "Other income and expenses."

Guidance, Outlook, and Risks

• Outlook: Management expects Aeronautics sales to decline slightly in 2007 and more substantially in 2008 due to reduced F-16 revenue. Strong growth is anticipated in IT&GS and IS&S. The company expects capital expenditures to exceed 2006 levels to support business growth.
• Key Programs: Continued focus on the F-35 Joint Strike Fighter (first flight achieved in 2006), F-22 Raptor production, C-130J, and the NASA Orion crew exploration vehicle.
• Risks:
  • Government Funding: 84% of sales depend on U.S. Government appropriations, which are subject to annual Congressional approval and potential budget cuts.
  • Contract Termination: Government contracts can be terminated for convenience or default, impacting backlog and revenue.
  • Raw Materials: Reliance on single-source suppliers for critical materials like carbon fiber and aluminum-lithium poses supply chain risks.
  • Legal & Environmental: Ongoing litigation regarding environmental remediation (e.g., Redlands, California) and potential liabilities from government audits.
• Unusual Items: Net earnings included $201 million in after-tax benefits from items not considered in segment operating performance, including gains on asset sales and a $62 million tax benefit from ETI claims.

Investor Verification Checklist

• Pension Liability Impact: Verify the long-term cash flow implications of the $2.79 billion unfunded pension status recognized under FAS 158.
• F-35 Program Status: Monitor the F-35 System Development and Demonstration (SDD) program for schedule delays or cost overruns, as it is a critical future revenue driver.
• Backlog Funding: Assess the ratio of funded vs. unfunded backlog ($40.8 billion funded vs. $35.1 billion unfunded) to gauge revenue certainty.
• Debt Structure: Review the $1.0 billion floating-rate convertible debentures and the associated interest rate swap agreement used to hedge variable rates.
• Acquisition Integration: Evaluate the integration progress and synergy realization from 2006 acquisitions (e.g., Pacific Architects and Engineers, Savi Technology).