General Dynamics Q1 2022 Earnings Call Transcript

Quartr
Provided by Quartr
April 27, 2022

There are 18 speakers on the call.

Operator

Hello and welcome to the General Dynamics First Quarter 2022 Conference Call. My name is Alex and I'll be coordinating the call today. I will now hand over to your host, Howard Rubel, Vice President of Investor Relations for General Dynamics. Over to you, Howard.

Speaker 1

Thank you, operator, and good morning, everyone. Welcome to the General Dynamics' Q1 2022 conference call. Any forward looking statements made today represent our estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10 ks, 10 Q and 8 ks filings.

Speaker 1

We will also refer to certain non GAAP financial measures. For additional disclosures about these non GAAP measures, including reconciliations Due comparable GAAP measures, please see the slides that accompany this webcast, which are available on the Investor Relations page of our website, investorrelations.gd.com. With that completed, I would like to turn the call over to our Chairman And Chief Executive Officer, Phoebe Novakovic.

Speaker 2

Thank you, Howard. Good morning, everyone, and thanks for being with us. As you can discern from our press release, we reported earnings of $2.61 per diluted share On revenue of $9,400,000,000 operating earnings of $908,000,000 and net earnings of 730,000,000 Revenue is flat against the Q1 last year. Operating earnings are down $30,000,000 but net earnings are up $22,000,000 Operating earnings were hurt by a significant expense at the corporate other line, which distorts the truly strong performance of the operating units. The improvement in net earnings was aided by less interest expense and a lower provision for income taxes against the year ago quarter.

Speaker 2

Earnings per diluted share are up $0.13 or 5.2 percent year over year. The operating margin for the entire company was 9.7%, 30 basis points lower than the year ago quarter. This was as anticipated in our earlier guidance to you, but also shaped by the aforementioned expense at the corporate other line. From a slightly different perspective, we beat consensus by $0.10 per share. We have roughly $400,000,000 more in

Speaker 3

revenue than anticipated by the sell side and

Speaker 2

almost $20,000,000 more in by the sell side and almost $20,000,000 more in operating earnings. We also beat our own expectations, particularly so in Aerospace, about which I will have more to say shortly. As we indicated in our press release, cash from operating activities is just shy of CAD 2,000,000,000 About 2 70 percent of net income. After capital expenditures, free cash flow was 1,800,000,000 250% of net income. This is particularly impressive following a very strong cash performance in the Q4 of last year And not at all typical for us in a Q1.

Speaker 2

Obviously, we are off to a good start here. This is, in important respects, a very strong quarter, a good foundation for the year. So let me move right into some color around the Performance of the business segment, have Jason add color around the spectacular cash performance, backlog, taxes, Deployment of cash and the makeup of the corporate other line, then we'll answer your questions. First, Aerospace. Aerospace enjoyed another strong quarter.

Speaker 2

It had revenue of $1,900,000,000 and operating earnings of $243,000,000 with a 12.8 percent operating margin. Revenue is $16,000,000 ahead of last year's Q1 despite the delivery of 3 fewer aircraft. Revenue is almost $180,000,000 higher than anticipated by the sell side. The difference is almost entirely growth at Gulfstream Services and Jet Aviation. Operating earnings of $243,000,000 are $23,000,000 ahead of last year's Q1, A 10.5% increase and well ahead of sell side expectations.

Speaker 2

The 12.8% operating margin is 110 basis points higher than the year ago quarter. Here, the gross margin on delivered aircraft was slightly better, particularly the 500, but fully offset by increased R and D spending. The improvement comes from higher service revenue, coupled with significantly better margin on net revenue. On the Gulfstream side of the service business, it was the result of an extremely attractive business mix. For Jet Aviation, it was strong performance at the FBOs in the United States.

Speaker 2

Aerospace also had another very strong quarter from an order perspective with a book to bill of 1.7:one. Gulfstream aircraft orders alone had a book to bill of 2.1:one. The order activity at Gulfstream was strong across the board, but driven by orders for the 650. Strong sales activity and customer interest continued so far this quarter as well. The U.

Speaker 2

S. Market remains robust With some slight improvement in Southeast Asia and the Middle East, China remains slow. The Russian invasion of Ukraine has Stopped activity in Eastern Europe and slowed activity in Western Europe. All of this, however, is trumped by the strength of the U. S.

Speaker 2

Market. I should add that flight activity is increasing in Western Europe, including flights to the U. S. This is a good leading indicator of an improving market On the new product front, the G500 and G600 continue to perform well. Margins are improving on a steady basis and quality is superb.

Speaker 2

As of the end of the quarter, Gulfstream has over 100 60 of these aircraft in service will support in the U. S. And Abrams' interest from U. S. Allies is increasing.

Speaker 2

Land Systems had a book to bill of 1.2:one. Orders in Europe were higher, primarily from negotiations that have been ongoing. The pipeline in Europe, however, has increased as nations are contemplating higher defense spending to respond to the threat. Turning to Marine Systems. Once again, our shipbuilding units are demonstrating impressive revenue growth.

Speaker 2

Let me begin with a little recent history. The Q1 of 2020 was up 9.1% against the Q1 of 2019. 2021 Q1 was up 10.6% In Q1 of 2022 with the revenue of $2,700,000,000 is up 6.8% over 2021. The growth was led by Columbia Class Construction and Repair volume. We also enjoyed nice increases in TAO And DDG 51 construction volume.

Speaker 2

I'm pleased that the growth is spread over all shipyards. Operating earnings are $211,000,000 in the quarter, up $11,000,000 or 5.5 percent on operating margins of 8%. We will strive to improve our operating margin as we progress through the year. The total backlog of almost $43,000,000,000 remains robust And it's the largest of our operating groups. Finally, Technologies.

Speaker 2

This segment has revenue of almost 3 point $2,000,000,000 in the quarter, down $36,000,000 from the year ago quarter, about a 1% decrease. However, GDIT enjoyed a $55,000,000 increase in revenue quarter over quarter and a stunning $286,000,000 sequentially. This was GDIT's highest revenue quarter in over 2 years. Operating earnings at $298,000,000 are down 8,000,000 Roughly 2.6 percent on a 9.4% operating margin. Once again, GDIT was up $12,000,000 quarter over quarter And $16,000,000 sequentially.

Speaker 2

Technologies EBITDA margin was a strong 13.1%, including state and local taxes, which are a 50 basis Point drag on that result. Total backlog grew $293,000,000 sequentially and total estimated contract value grew 2,600,000,000 on the same basis. The book to bill for Technologies was 1.1:one led by Mission Systems at 1.2:one, A good indication that their growth will soon resume. GDIT had good order activity with a one to one book to bill. Over 75% of this quarter's awards represented new business.

Speaker 2

The G700 flight test and certification program continues We have 5 flight test aircraft that have completed over 2,800 flight hours. We also have conducted over 25,000 hours of laboratory simulated flying. All structural testing is complete and all Structural requirements have been met. The aircraft design, manufacturing and the overall program are very mature. The new Rolls Royce Pearl 700 designed specifically to match the G700 aerodynamics to optimize Speed, range, emission and fuel burn will be certified in the next few months.

Speaker 2

The engine is performing well And exceeding key performance parameters. Our final step toward entry into service is to complete certification flying with the FAA. This is typically the most predictable part of our test program. All of this has been achieved during a pandemic And a certification process made increasingly rigorous due to industry events unrelated to Gulfstream. In that connection, The flight test process has a first time requirement that was not part of our original flight test plan or any prior development effort.

Speaker 2

It is a model based developmental software validation, a line by line examination of the plane software. The level of effort is considerable. Completing 100% of the software validation It's the impediment to finishing performance testing by the FAA and G800 First Flight. I can assure you that the validation work to date has proceeded well and presented no surprises. It is just resource and time intensive.

Speaker 2

This leads me to some comments on the timing of certification. We continue to target of the G700 for the Q4 of this year, but the ultimate timing is dependent on the FAA. It seems prudent for us at this time to recognize the risk of a 3 to 6 month slip in the process and to plan for it accordingly. If such a slip were to occur, we have offset any impact to our 2022 financial plan With an increase of deliveries of current production aircraft, this will also not adversely impact 2023. It also remains our view that the G800 certification will follow the G700 by 6 to 9 months.

Speaker 2

Gulfstream remains committed to a safe and comprehensive certification test program. Production of Customer G700 is underway, and we are preparing for entry into service. We will deliver a mature high quality aircraft. Looking forward to next quarter, we expect to deliver 26 aircraft with rapid increases in the 3rd and 4th quarters as we have previously indicated. So far, supply chain issues have been in the nuisance category.

Speaker 2

However, we expect an increasing number of issues in this regard later in the year And believe we are on a path to work through them successfully. In short, off to a very good start at Aerospace. Next, Combat. Combat Systems has revenue of $1,680,000,000 down 8% over the year ago quarter. Earnings of $227,000,000 are down 7%.

Speaker 2

The numbers are reasonably consistent with our outlook and sell side expectations. Margins at 13.6 percent are a 20 basis point improvement over the year ago quarter, so strong operating performance. Stryker and Abrams have considerable support in the U. S. And Abrams' interest from U.

Speaker 2

S. Allies is increasing. Land Systems had a book to bill of 1.2:one. Orders in Europe were higher, primarily from negotiations that have been ongoing. The pipeline in Europe, however, has increased as nations are contemplating higher defense spending to respond to the threat.

Speaker 2

Turning to Marine Systems. Once again, our shipbuilding units are demonstrating impressive revenue growth. Let me begin with a little recent history. The Q1 2020 was up 9.1% against the Q1 2019. 2021 Q1 was up 10.6%.

Speaker 2

And Q1 of 2022 with the revenue of $2,700,000,000 is up 6.8% over 2021. The growth was led by Columbia Class Construction and Repair volume. We also enjoyed nice increases in TAO and DDG 51 I'm pleased that the growth is spread over all shipyards. Operating earnings are $211,000,000 in the quarter, up $11,000,000 or 5.5 percent on operating margins of 8%. We will strive to improve our operating margin as we progress through the year.

Speaker 2

The total backlog of almost $43,000,000,000 remains robust and is the largest of our operating groups. Finally, Technologies. This segment has revenue of almost $3,200,000,000 in the quarter, down $36,000,000 from the year ago quarter, about a 1% decrease. However, GDIT enjoyed a $55,000,000 increase in REDD of the new quarter over quarter and a stunning $286,000,000 sequentially. This was GDIT's highest revenue quarter in over 2 years.

Speaker 2

Operating earnings at $298,000,000 are down 8,000,000 Roughly 2.6 percent on a 9.4% operating margin. Once again, GDIT was up $12,000,000 quarter over quarter And $16,000,000 sequentially. Technologies EBITDA margin was a strong 13.1%, including state and local Taxes, which are a 50 basis point drag on that result. Total backlog grew $293,000,000 sequentially and total estimated Contract value grew $2,600,000,000 on the same basis. The book to bill for Technologies was 1.1 to 1, activity with a one to one book to bill.

Speaker 2

Over 75% of the quarter's awards represented new business. So good order activity in the quarter and good Order prospects on the horizon. GDIT alone submitted over $5,000,000,000 in the quarter, Bringing the number of submitted proposals and the decision or protest queue to $29,000,000,000 As you know, We never update guidance at this time of the year. We will, however, provide you a comprehensive update at the end of next quarter as is our custom. This concludes my remarks with respect to a very good quarter.

Speaker 2

I'll now turn the call over to our CFO, Jason Aiken, for further remarks, and then we'll take your questions.

Speaker 4

Thank you, Phoebe, and good morning. The first thing I'd like to address is the unusually high corporate operating expense of $71,000,000 in the quarter, which is up from $32,000,000 in the year ago quarter. Given our full year expectation of around 110,000,000 And corporate expense this year, you might have expected a Q1 number similar to last year. However, this year was impacted by a change to some of the terms of Equity compensation plans, which resulted in the acceleration of the expense associated with those awards. This was a one time non cash item And you should expect a lower corporate expense in the remaining quarters to result in our full year outlook of 110,000,000 If you consider the performance of our operating segments in the quarter, excluding this corporate expense anomaly, the segment margins improved from 10.3% a year ago to 10.4% this quarter.

Speaker 4

Turning to our cash performance. We had the strongest Q1 we've seen in some time. Following several years of negative free cash flow in the Q1, this quarter was a marked improvement due in large part to the strong order activity at Gulfstream And ongoing progress payments on our large international vehicle program at Combat Systems. For the quarter, we generated operating cash flow of nearly $2,000,000,000 For a conversion rate of 2 70 percent of net income, including capital expenditures of $141,000,000 our free cash flow was $1,800,000,000 for a conversion rate of 2 50%. So the quarter was well ahead of our expectations, some of which was favorable timing in our operating working capital, But the performance certainly reinforces our outlook for the year of free cash flow conversion atorabove100 percent of net income.

Speaker 4

Looking at capital deployment, I mentioned capital expenditures were $141,000,000 in the quarter or 1.5% of sales, which is consistent with last year. We're still planning for CapEx to be around 2.5% of sales for the year. We also paid $330,000,000 in dividends And increased the quarterly dividend nearly 6% to $1.26 per share. And we spent over 290,000,000 Quarter with a cash balance of $2,900,000,000 and a net debt position of $8,600,000,000 down $2,800,000,000 from this time last year And about $1,300,000,000 below the year end position. Net interest expense in the quarter was $98,000,000 Down from $123,000,000 in the Q1 of 2021.

Speaker 4

The decrease in 2022 is due to the $1,500,000,000 reduction in debt last year. We have another $1,000,000,000 of outstanding debt maturing later this year and we'll have more to say about our plans related to those notes as we get closer to their maturity in November. The tax rate in the quarter at 14% benefited from the timing of equity compensation activity and associated deductions consistent with our expectations. So no change to our outlook of 16% for the full year. But of course, that implies a higher rate for the balance of the year to arrive at that outcome.

Speaker 4

Order activity and backlog were once again a strong story in the Q1 with a one to one book to bill for the company as a whole. As Phebe mentioned, the order activity in the Aerospace Group led the way with a 1.7 times book to bill, which is also the book to bill for the group over the last 12 months. As a result, Aerospace backlog has increased by almost 50% in the past year. Technologies and Combat Systems also had solid quarters with a one 1 times and a one times book to bill, respectively. We finished the quarter with a total backlog of $87,200,000,000 While total potential contract value including options and IDIQ contracts was 129,000,000,000 Finally, a quick note on our expectations for EPS progression for the balance of the year.

Speaker 4

We expect the Q2 to be roughly $0.10 above the Q1 with more significant steps up in the second half of the year. Howard, that concludes my remarks. I'll turn it back over to you for the Q and A.

Speaker 1

Thanks, Jason. As a reminder, we ask participants to ask one question with one follow-up so that everyone has a chance to participate. Operator, could you please remind participants how to enter the queue?

Operator

Thank you. We will now begin the Q and A. Our first question for today comes from Ron Epstein of Bank of America. Ron, your line is now open.

Speaker 5

Good morning, everyone. This is Mariana for Perez Mora on for Ron today.

Speaker 2

Hey, good morning. Before you get into your question, Some of you may have noted an interesting juxtaposition of the subjects in my remarks. And I'll just note this, The capacity for technology to air is endless. So nonetheless, I hope you got the message. All right, go ahead.

Speaker 5

That's fine. We got the message, sorry, but we got it. So Anero, You mentioned strong volumes and margins at Services. Could you please give us some more color on what were the main drivers? And please help us understand how sustainable are those volumes

Speaker 2

So we had higher R and D, but We had a very strong margin performance in services, and a particularly good mix in service R and D at Gulfstream. We had also some improvement in gross margins. So that mix drove margins.

Speaker 5

How sustainable are the volumes of services? Did anything change in the services business?

Speaker 2

We think that, that particular mix is going to be hard to replicate. But for the moment, we're sticking to Our margin guidance that we gave you, just to remind everybody, it is our custom to update you at the end of the second quarter with a full and detailed Analysis by of our prospects for the rest of the year by group and then A wrap up for the whole company. But we'll stick with what we've got now. We're off to a good start, however.

Operator

Thank you. Our next question comes from Myles Walton of UBS. Myles, your line is now open.

Speaker 6

Thanks. Phebe, on your comment around the software validation approach in the certification, is that something that's been Recently added, after the original certification plan was agreed to or is it just that you're getting to the point where you're having to accomplish this new

Speaker 2

No. This was an added process that we had not contemplated when we originally I laid out our certification plan. And it's a result of events that are independent of us.

Speaker 6

I see. Okay. And then on the free cash flow, Jason, is it The case, it looks like unbilled was pretty favorable and we know about the U. K. Combat vehicle, but did the sorry about the Canadian combat vehicle, but did the U.

Speaker 6

K. Combat vehicle Also start

Speaker 7

to pay out?

Speaker 4

No. As you point out, we continue to receive steady payments on the international program that we We reset a couple of years ago, so that continues apace. We're still working through issues with the customer on the UK side, so we hope to see that resolved later this year.

Operator

Thank you. Our next question comes from David Strauss of Barclays. David, your line is now open.

Speaker 8

Great. Thanks. Phebe, could you touch on a little bit more marine margins? I think at 8%, that's The lowest we've seen in a while. I think you've talked in the past about that business eventually getting 9% plus kind of margin.

Speaker 8

So can you talk about What exactly happened in the Q1 and the progression from here to get to that above 9% level? Thanks.

Speaker 2

So as we've noted before, margins will be compressed as we work down our learning curves On Columbia, and as you may recall, we are booking initial Columbia at a conservative margin. That coupled with the well Publicized supply chain scheduling issues in Virginia have driven some margin compression, But we expect those to stabilize over time as well.

Speaker 4

And just to add to that David and put another point on what Phebe Mentioned there, the Columbia program, while we saw growth, as she mentioned, in all three of the shipyards, the Columbia program did bring more than half The volume increase in the quarter, so just from a mix perspective, those early margin rates on that program are impacting the aggregate margin for the group too.

Speaker 8

Okay. And Phebe, I mean the outlook for this business longer term, you still think it can as Columbia gets into production Further into production and do you still think it can be a 9% to 10% margin business?

Speaker 2

Yes. As we get further into production, the schedule stabilize on Virginia and both Bath and NASSCO will also contribute. So we are targeting that and we believe that, that is fully achievable.

Operator

Thank you. Our next question comes from Seth Seifman from JPMorgan. Seth, your line is now open.

Speaker 9

Thanks very much and good morning.

Speaker 6

Good morning. You mentioned

Speaker 9

The outlook for Gulfstream both for this year and reinforced the guidance for next year. So understand that that's where we're headed in terms of deliveries. But I guess can you walk through the mechanics a little bit more if Gulfstream needs to see a significant step up in deliveries at the 2nd half at the same time that we'll be seeing incremental supply chain issues and then there might be a need to backfill some G700 deliveries in 2023 with those supply chain issues potentially still out there kind of Some of the things that give you confidence in that delivery outlook given those sort of qualitative headwinds that you talked about?

Speaker 2

So with respect to the supply chain, we are working through all of those. And We don't see those as impacting our 'twenty three or 'twenty four estimates that we gave you. Our estimates on Gulfstream are predicated on the current demand environment, which has And strong, as I noted, continues into this quarter along with our backlog. So we're pretty comfortable that we've got both the supply chain and manufacturing to meet all of those 2 out year requirements. And As I noted in my remarks, if should there be a slip, then we will increase In production aircraft this year.

Speaker 2

But look, with respect to that slip, Potential slip. We wanted to be as transparent as possible to give you some insight when we saw it and then tell you that how we were going to Address that so that there's no economic impact from that in either year, 2023 or 2024.

Speaker 9

Great. Thank you. And then as a follow-up, Jason, I guess maybe you mentioned you talk about addressing the debt On the next call maybe, but we could ask for a little bit of a preview just in terms of how you're thinking about it. Generally, there's probably some debt Each year for the next several years, we just saw one of your peers look to kind of Term things out for a while, how do you think about where you want to take the capital structure From here and the role of debt repayment now that interest rates are going up.

Speaker 4

Yes. I think our overarching Approach to this remains unchanged. We continue to target the mid A credit rating and want to get our metrics in line with that for the long term. In keeping with that, I think you can expect us to retire this debt that we see coming due later this year. What happens after that I think remains a little bit in play.

Speaker 4

We'll have to see because we talked about the elevated debt We had a post CSRA acquisition and the fact that we intended to bring that down, but we never intended to get back to the level we had been With essentially 0 net debt prior to that acquisition. So now we're getting into the range looking ahead into the next couple of years of where we're probably going to be evaluating is We don't have an answer to that yet, but that's going to become more of the conversation. So, we'll see where that plays out. I At this point that we'll go ahead and retire the debt that matures at the end of this year, but then we'll be more active in that conversation. But again, I think ultimately Targeting that mid day credit rating and everything that is attendant to that.

Operator

Thank you. Our next Question comes from Robert Stallard of Vertical Research. Robert, your line is now open.

Speaker 10

Thanks so much. Good morning.

Speaker 2

Good morning.

Speaker 10

Phebe, you mentioned the very strong order performance in Aerospace this quarter. But I was wondering What sort of impact this has had on the lead time for Jet, specifically the G650 you mentioned? And whether this is starting to have any sort of impact So on customer demand, are people like saying it's going to take too long to get my jet?

Speaker 2

No. We've managed lead times Very successfully. So present and even given the robust demand, We do not see that as an issue.

Speaker 10

And just as a follow-up, how has the pricing environment evolved over the last 3 months?

Speaker 2

Well, as you know, we are, reticent and low to talk about pricing, but You can imagine that the pricing has kept pace with other economic factors.

Operator

Thank you. Our next question comes from Robert Spingarn from Melius Research. Robert, your line is now open.

Speaker 11

Good morning.

Speaker 2

Good morning.

Speaker 12

Phebe, I was hoping to dig into combat a little bit And just ask what types of products you expect European nations to demand most? And to what extent do you expect those to be products from combat systems And particularly from ELS.

Speaker 2

So Should the recent threat environment drive increased spending in rearming and recapitalizing land forces, We will see an increase in demand. And I suspect it to be aligned along our Ordnance business as well as our Vehicle business, both in the United States and at ELS, but I'm careful not to get ahead of our customers here.

Speaker 12

Do you see much opportunity in technologies perhaps for Mission or even GDIT maybe on the cyber side over there?

Speaker 2

There could be some, because clearly in today's war fighting environment, interoperability on networks Communication is critical and reliable interoperability. So I suspect there could be some Increased demand, but we have not seen any of that so far.

Operator

Thank you. Our next question comes from Doug Harnd from Bernstein. Doug, your line is now open.

Speaker 7

Good morning. Thank you.

Speaker 5

Good morning.

Speaker 7

Can you comment on inflation? When you look forward, obviously, we're in a perhaps a difficult inflationary environment. In terms of how you see it affecting Both on the Gulfstream side and on the government customer side, in terms of what you can pass through, what could pressure margins?

Speaker 2

So let me address that holistically across the company because we've dealt with inflationary pressures And increases in commodity costs in varying ways through a portfolio of actions. One is our contract architecture. A second is to the extent possible price increases. We've cut cost And other areas to offset some of the increases. And then where possible, we've had Commodity substitutions and parts substitutions.

Speaker 2

So that combination of Arrows in our quiver has mitigated any impact. And at the moment, we do not project A margin compression as a result of increased prices.

Speaker 7

So you're so you actually you see are these things that you would have not done before? Are you doing things that offset Basically reduce your costs in other ways or is it more on the ability to pass through some of the price increases?

Speaker 2

I can't give you a very I can't unpack that and give you very clear Distinction between which of these capability or which of these tools has resulted in the largest Impact on our ability to offset inflationary increases, but because it's a combination of things. In some contracts, you've got contract architecture that protects you. In other cases, you take additional cost Cuts that you had not anticipated taking before. But one of the things you expect from a company with strong operating leverage Is when a cost increases somewhere else, you have to find offsetting cost reductions. And so we have historically done that, and we're continuing to do that.

Speaker 2

And then in some instances, you can have product substitutions. That's not particularly frequently, but it can happen in some critical products. So I think it's that panoply of Weapons that we've used to offset these increases.

Operator

Thank you. Our next question is from Sheila Kahyaoglu from Jefferies. Sheila, your line is now open.

Speaker 13

Hey, good morning Phoebe, Jason, Howard. Thank you. So I wanted to ask about R and D profile of the business Gulfstream in 2022, 2023 and 2024 since you've given guidance for Gulfstream profitability. Now when we think about the G700, the G800 and the 400, What's the magnitude of the investment you have to put in to work with the FAA? Or is it more of a heavy time burden?

Speaker 13

Like how do we think about that, Phoebe, in terms of A dollar amount or is it just more time and a push out of certification and delivery?

Speaker 2

Well, as we've noted, it's more a question Of time resources, certainly on the new requirements. But you saw an increase in R and D This quarter, and it was because that we have this new set of software validation Requirements that we need to walk through, and we've accommodated that in our plan. Jason, I don't know if you want to add anything to that.

Speaker 4

Yes. Just making sure we understand the nature of your question. I mean, if it's about this potential risk that TB talked about and the additional effort we have to undertake in the certification process, It is both a time risk, but of course cost travels with time. And so there's the burden of the additional effort that goes on the man hours That have to occur to accomplish those tasks. So it puts some pressure on the R and D budget and as Phoebe said you saw some of that even in the Q1.

Speaker 4

But But I don't think any of this is enough to change the profile of what we've talked about either from an R and D spend in the aggregate in the 2022, 2023, 2024 timeframe

Speaker 6

Or as we think about it

Speaker 4

in terms of the margin rate impact that it has on the business. So again, just to recap where we see this, we're in an elevated state this year. It will remain elevated in 2023 and then once we get the 700 and the 800 certified, it remains somewhat elevated, but we'll notch down a step down in 24 As the effort shifts more toward the $400,000,000 and then we'll see it sort of return back to more of a normal run rate level beyond 2024.

Speaker 13

Okay. And then maybe one more on technology. How are you thinking about the technologies portfolio? I think it has a lot of good businesses in there, but Organic growth hasn't been as robust as say Marine. So how do you think about the good businesses in that portfolio overall?

Speaker 13

Do you like it as a whole as a combined technology

Speaker 2

Yes. We spent a fair amount of time early on after the acquisition of CSRA Trimming that portfolio both in our IT business as well as And our Mission Systems business, so we like the mix of lines of business that we have right now. We believe they're complementary, and we believe that they're good growth Engines, but I don't know that we heard your questions that clearly, but if one of them was And correct me if I'm wrong, but if one of them was comparing this to marine growth, very few Items in the defense budget are going to grow as reliably and as robustly as the submarine and shipbuilding accounts. So I wouldn't hold that as the metric. I think continued steady growth On the top line, but more importantly, the bottom line in technologies, this has really been our focus.

Speaker 2

Does that make sense?

Speaker 13

Thank you, Phoebe.

Operator

Thank you. Our next question comes from Mike Maudery from Wolfe Research. Mike, your line is now open.

Speaker 14

Hey, thank you, everyone. I think historically sort of your commentary has been for 400 to 500 of annual revenue growth at Marine. Sort of implies some moderation from here. Growth has been strong over the last few years, maybe some risk retirements coming through on Columbia Class. So with that said, I mean, is there any sort of good reason to think that growth Should moderate over the next few years at Marine?

Speaker 2

No. We continue to project $400,000,000 to $500,000,000 a year On average, you'll see some perturbations in quarterly growth, largely driven by material sales, But nothing that changes the trajectory.

Speaker 14

Got it. Thank you. And then sticking with Marine, Can you speak to the pipeline at Bath, maybe some upside there as it might relate to hypersonic work on DDG 1000, additional work for DDG 51? Or are we sort of pretty much tapped out there from a capacity standpoint?

Speaker 2

Well, yes, those are mixing kind of 2 different predicates. One, there's been a lot of talk about integrating various weapon systems on To shipboard platforms, but we haven't yet seen any of that materialize. And So it is not a question about capacity. We have adequate capacity that we have expanded And updated and upgraded in the last few years through our capital deployment improvements at Bath and frankly, the other shipyards. So it's simply a question of the demand coming out of the U.

Speaker 2

S. Navy. And we haven't had any surprises there. Continuing with to support DDG 51 production. So we expect that to be a Steady, steady pace going forward.

Operator

Thank you. Our next question comes from Peter Arment from Baird. Peter, your line is now open.

Speaker 11

Thanks. Good morning, Phoebe and Jason. Hi. Hi, Phoebe, maybe just to Circle back on your comment regarding the pipeline increasing potentially with combat. I'm just curious about your overall comments on how we should expect It eventually show up in backlog.

Speaker 11

Should we consider this more of a 'twenty three and 'twenty four event when we're thinking about that? And then just as a follow-up related to kind of The budget outlook, just now that we've gotten the 'twenty three requests and we saw what was enacted for 'twenty two, maybe you could just give some high level thoughts on How GD is faring given the request? Thanks.

Speaker 2

Well, if you're talking specifically about combat, I think that It's hard to give projections about timing when in fact the budgets for the most part have not materialized in significant increases. But were they 2 in Land Forces Modernization? We have every expectation that vehicles, combat vehicles demand will increase and ordinance and armaments will increase. So I think it's premature to bake in any assumptions about growth until you really see some of that. And I wanted to say that one of the interesting things that we have not quite seen at the same level is the Abram's interest from multiple U.

Speaker 2

S. Allies. So we'll have to see how that plays out over time. There are some potential out there, but as I said, don't want to get too far ahead of our customers here. You got to see how all this takes time To get from the threat to full funding to allocation of awards, I think you'll hear that from a lot of folks, not just us.

Operator

Thank you. Our next question comes from Kai Von Rumohr from Cowen. Kai, your line is now open.

Speaker 15

Thank you so much. So Phoebe Bath, you recently had a mid contract wage hike Where the lower five of the 10 pay grades had a pay hike of over 20%. Now I assume mix is an issue, but could you comment on what that impact is on labor availability and cost? And is there any read across to electric boat that this should be a concern there too?

Speaker 2

So the wage increase at Bath is an attempt to help stabilize the manufacturing workforce and build ships Ambassador. So this in turn will ultimately help competitiveness and margins. So we think we can fully address any cost impact. And I think the touch labor market has been less impacted by some of the well publicized Labor shortages, and they tend to be more regional to the extent that they've existed. So we do we take each one of our lines of Business on a case by case basis, and then react accordingly.

Speaker 2

But Bath was a special set of circumstances, Given Maine and the realities in Maine regarding workforce.

Speaker 15

Thank you very Great. And then switching gears

Speaker 3

a little

Speaker 15

bit, what impact do the Russian sanctions have on your business at Gulfstream?

Speaker 2

So to the extent that we expected an impact, We anticipated it to show up at, Jet Aviation in some of their European locations, But they were Jet was able to offset that with additional volume. With respect to Russia, as I noted I think before, they are less than 5% of our Gulfstream backlog. And we had no deliveries this quarter, obviously. We've had no cancellations and We have in this demand environment been able to manage the relatively few number of Russian airplanes in our backlog. So we do not see an impact at the moment.

Operator

Thank you. Our next question comes from Matt Akers from Wells Fargo. Matt, your line is now open.

Speaker 3

Hi, good morning. Thanks for the question. I wonder if you could talk about Technologies, a couple of things. I guess one, I think you commented on some supply chain impacts on Mission Systems, just how those are trending and then also just the timing Some of these new awards and when they can start to ramp up?

Speaker 2

So we discussed, I think, with you, I think, starting maybe in the 3rd Quarter and damn it, the 4th quarter, the some of the chip shortages that we were Experiencing at Mission Systems that was constraining the ability to deliver a series of different kinds of products. So we have largely worked through those issues at Mission Systems, but we are now contending with the pent up demand that resulted It was generated by last year, last year's slower deliveries as a result of chip shortages. And as we work through that, that ought to be upside for Mission Systems on the revenue side As we go forward. And then the timing of new orders typically at GDIT, they tend to be a You tend to have a quarter lag or a quarter and a half lag from time of award to new starts. So we'll see some of the more recent larger awards begin to show up Next quarter and then increasing over

Speaker 3

time. Thanks. That's helpful. And if I could, on Gulfstream, I mean one of the questions I've gotten is how sort of sustainable this business could be if we do go into a recession. I guess you've talked about if that's Come up at all with your customers?

Speaker 3

Are people concerned about the economic outlook and sort of how resilient do you think this business could be if we do have a downturn?

Speaker 2

Well, we haven't heard a whole lot of that in the pipeline, but let's past this prologue here. And I think what we have demonstrated repeatedly at Gulfstream is that Gulfstream is a very good cyclical. And in the past, what we've seen is relatively short economic perturbations and a pretty quick recovery at Gulfstream. So I think our job is to manage and play the cards that are dealt to us, and we've done so very effectively. So you can probably estimate the future of the U.

Speaker 2

S. Economy better than we can. That seems to be a great sport. Get a Nobel Prize if you get it right. But We're quite comfortable at the moment on where we stand and I'm very comfortable at Gulfstream's ability to continue to be a good cyclical.

Operator

Thank you. Our next question comes from Christine Liwag from Morgan Stanley. Christine, your line is now open.

Speaker 16

Thanks. Phoebe, looking at the fiscal year 2023 budget request, we're seeing a generational In the nuclear triad benefiting the Columbia class. And we're also seeing advanced capabilities like space based systems seeing outsized growth. So as you look at your portfolio with the IT business stable, leverage has come significantly down, What's your appetite to add a new vertical to the business to capture more of this outsized growth in advanced capabilities that you may not have today?

Speaker 2

Well, I think we do not discuss potential acquisitions or divest Sure. But we like where we are positioned, to take advantage of the recapitalization of the triad. You want to ask another question?

Speaker 16

Great. Yes. And maybe following on capital deployment then, understanding that you're not going to talk about large M and A, What about additional priorities for cash? How should we think about dividend payments versus share repurchases, Particularly as you're in a leverage where you want to be and the business is generating significant amount of free cash flow.

Speaker 4

I think fundamentally there's no change to the way we've articulated our capital deployment priorities. We talked a little earlier about The dividend increase earlier this year that was the 25th annual consecutive annual increase. And We've made pretty clear the significant investments we've been making in the business over the past several years. And now really, If you will, if there's any pivot at all, it's shifting back the attention more toward rewarding those patient shareholders With return of capital and share repurchases and you've seen us do that last year. We embarked on that a little bit in the Q1 and I think you should expect to see Continue that in a tactical and opportunistic way.

Speaker 4

M and A is always opportunistic and as Phoebe said, not something that We disclose that out in front of anything. So that's kind of how you should

Speaker 1

expect us to behave. And operator, we'll take one more question, please.

Operator

Thank you. Our final question for today comes from George Shapiro from Shapiro Research. George, your line is now open.

Speaker 2

Okay. Thanks.

Speaker 17

Phebe, you had $104,000,000 cancellation In the quarter, and I guess from what you said in response to the question before, it wasn't due to Russia. So if you can tell us where that might have been?

Speaker 2

We had one cancellation, and I have no clue where it was, but it wasn't Russia.

Speaker 17

Okay, thanks.

Speaker 2

Is that okay? You got it.

Speaker 17

Yes, I mean, that's fine. And then, Jason, were the payments from the Canadian contract in the Q1 similar to last year's Q1, which was around $1,000,000,000 And also, do you expect more to occur, this year as well? Thanks.

Speaker 4

Yes. Payment levels this year are very similar to last year, both in the Q1 and for the balance of the year. So the pattern should be pretty similar. And again, that customer has been very consistent in their payments since we negotiated the recast of that program.

Operator

Thank you. That concludes the Q and A for today. I will hand back to Howard Rubel for any closing remarks.

Speaker 1

Thank you, Alex, And thank everybody else for joining our call today. As a reminder, Please refer to the General Dynamics website for our Q1 earnings release and highlights presentation. If you have any questions, I can be reached at 703-876-3117. Thank you very much for your attention today.

Operator

Thank you for joining today's call. You may now disconnect.

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Earnings Conference Call
General Dynamics Q1 2022
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