L-3 Communications Holdings, Inc. Q1 2009 Earnings Call Transcript

L-3 Communications Holdings, Inc. (LLL)

Q1 2009 Earnings Call

April 23, 2009 11:00 am ET

Executives

Karen Tripp - VP Corporate Communication

Mike Strianese - Chairman, President and CEO

Ralph D'Ambrosio - Vice President and CFO

Analysts

Cai von Rumohr - Cowen and Company

Robert Spingarn - Credit Suisse

Noah Poponak - Goldman Sachs

Brian Ruttenbur - Morgan Keegan

Troy Lahr - Stifel Nicolaus

Seth Tennant - JPMorgan

Joe Campbell - Barclays Capital

Myles Walton - Oppenheimer

Howard Rubel - Jefferies

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the L-3 Communications first quarter 2009 earnings conference call. My name is Michelle, and I will be your coordinator for today. At this time all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of today's conference. (Operator Instructions). As a reminder this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call Karen Tripp, Vice President of Corporate Communications. Please proceed.

Karen Tripp

Good morning and welcome to the L-3 first quarter conference call. With me today are Mike Strianese, Chairman, President and Chief Executive Officer and Ralph D'Ambrosio, Vice President and Chief Financial Officer. As always, after our formal presentation, we will be available to take your questions.

During this call, management will reiterate forward-looking statements that were made in the press release we issued this morning. Please refer to this press release as well as our SEC filings for a more detailed description of the factors that may cause actual results to differ materially from those anticipated.

Please note that this call will be simultaneously broadcast over the internet and I will now turn the call over to our Chairman, President and Chief Executive Officer, Mike Strianese.

Mike Strianese

Good day, good morning and thanks Karen. Thanks for joining our first quarter earnings call. On balance, we began 2009 with a fairly strong start. As always, I'd like to thank all of the L-3 employees for their hard work, because they're the ones that get this done every quarter.

We continued to build backlog in the first quarter with funded orders of $3.8 billion. Our March backlog was up to $11.7 billion, just under $12 billion. It's up just about a percent from year-end, but when you go back to last year’s March numbers, it's up a little bit higher, in the 5%, 6% neighborhood.

Our book-to-bill was 1.04 for the quarter, with orders outpacing sales by about 4%. The first quarter sales came it at $3.6 billion. That's 4% growth from last year’s first quarter. Our earnings were rather strong for the quarter. They were up 10% to $1.66 a share, but if you look within the number, we had higher pension expense this year, as everybody knows. So if you excluded the effect of the increased pension costs, our earnings actually grew 17% from last year’s first quarter.

And, the primary drivers for that were both margin expansion, as well as volume, contributing about 12%, and a reduced share count contributing about 5% to that growth. And for the quarter, our free cash flow was $112 million. We usually have a lighter first quarter than the next three, and for the year, we are maintaining our guidance right now at $1.2 billion of free cash flow.

We had some significant contract wins and orders in the first quarter, including the US Coast Guard's Sentinel Class Communications System, Prophet Enhance program, the B-2 Aircrew Training System, additional orders for joint cargo aircraft and smaller airborne ISR systems.

In addition to those orders we had significant follow-on orders on several important legacy programs, including River Joint, UAV Communication Systems, our Rover Systems, the Compass Call aircraft. Classified programs: P3 Law Enforcement Professionals Contract Field Teams, and pretty much are across the board.

In the product side: Bradley Transmissions, EO/IR Turrets and Examiner Services for the TSA. In terms of outstanding bids, this year is not really dominated by any single large order, but its more of a balanced low-risk profile for the company. But some of the notable ones will be the Bradley Transmission PBL program, that we should hear about in the second quarter. Its about a $700 million order.

There’s this two smaller re-competes in the fourth quarter, they’re about $50 million a year in annual sales or so, not huge. One oft them is the T-1A Contract Logistics Services and the other would be the Department of Homeland Securities, Customs and Board of Control logistics contract.

In total they would be about a $1 billion, but the annual run rate between the two of the them is about a $100 million.

We had talked in previous quarters about the Royal Australian Airforce project DS-7000, that program is canceled for the time being. We will be visiting with that customer in the next couple of weeks and we will get a further assessment of the direction that they like to go. We still think the requirement is there, and we think our solution just fits that requirement. Like I said, the orders are fairly well diversified across all the business segments.

In terms of significant wins in the first quarter, the Prophet Enhanced System, about a $400 million order, was received. We also won the recompete on the B-2 Aircrew Training system; it's about a $400 million potential. The Coast Guard's Deepwater Fast Response Cutter communications system program, about $275 million of projected value. As I said, an additional six joint cargo aircraft for about $200 million and some fuses for about $100 million.

Of course, we are aware about the loss of the JOG program. That was a re-compete; it was a multi-year program valued at approximately $5 billion. I'm sure you're also aware that L-3 has filed a protest regarding that competition. Of course, we believe our protest has merit, and in fact SOCOM has agreed already to take corrective action. So there will be a reevaluation, and we will see where we go from there. There's not much more I can say on that since this is an act of procurement and an act of protest.

Back on April 6, I'm sure the majority if you have listened to Secretary of Defense Gates talk about the fiscal '10 budget outline. L-3's initial assessment of the impact of the fiscal '10 defense budget reprogramming is that we think we are well-positioned for continued growth in priority areas including intelligence, surveillance and reconnaissance; training, including foreign military training, helicopter crew training and maintenance.

Recall that we have two contracts at Fort Rucker, including Flight School 21, as well as our AVCATT system from Link. All play into that requirement. And it's not a requirement for additional helicopters, necessarily, but it's for additional crews ready to man those helicopters, which is where the shortage is.

In addition, there's additional funding for our Special Operating Forces. And even though the JOG program is kind of in play right now, notwithstanding that, L-3 still has north of $0.5 billion in annual volume with the Special Operations Command.

In terms of the program cancellations that were announced, I'm happy to say that we have minimal exposure to some of these big-ticket programs, such as Presidential helicopters, TSAT, F-22, future combat system vehicles, airborne laser. We have had some minimal content there.

Missile defense; we have some programs that could be affected, but again, it's not a material event for L-3. [C Star X] was never decided, so we didn't know where we were in the first place on that program, and the DDG-1000 also is not going to be a big event for us. So on balance, we are optimistic of what the future is going to hold in terms of the new world order in defense priorities.

Operationally, because the company has been doing very well, as you will note, the margins have expanded in the first quarter. We had reported, back in the third or fourth quarter, that we had taken some charges on a P-3 program for the Republic of Korea. I could tell you that, that issue has been resolved. The contractor deliverables are restructured with our customer in Q1. We've transferred the statement of work to the prime contractor in country, mitigating all completion risk to L-3. Aircraft one will be in flight test in June, and it will be delivered in September. So that, I'm happy to say, is going to be behind us.

In terms of consolidations and rationalization of operations, we have put our facilities in Canada together by consolidating the SPAR facility into our Mass facility. And with regards to our Link facilities in Texas, we are in the process of combining three facilities into one larger facility and adding capacity because of the recent win of the F-16 MTC program. So that will actually be additional capacity and additional headcount; there won't be a reduction there. So we are very happy to be expanding a business facility in this environment.

In terms of our capital deployment and acquisition activity, during the quarter we repurchased $232 million of L-3 stock. Our guidance for 2009 includes $330 million of share repurchases, so we are pretty much ahead of where we expect it to be. The authorization at the end of March that remains is about $700 million, so we have plenty of flexibility if we would like to repurchase additional shares, depending on market conditions.

In terms of M&A, for the first quarter we closed on Chesapeake Sciences for about $87 million and we continue to evaluate several other companies. The pipeline for M&A, there are companies there. The valuation gap, I can tell you, is narrowing, but not narrow enough yet, but it's getting there in terms of prices. But as always, we are cautious on valuations and we like companies that are, of course, one or two in what they do and fit well with L-3's strategy.

For the quarter we ended with $638 million cash. The full-year guidance assumes that we end 2009 with more than $1.5 billion of cash even after repurchasing the $330 million of our stock. Depending on conditions in the credit markets, we may decide to repay the $650 million of term loans that are due in March 2010, although the possibility of refinancing them also remains. It's going to depend on market conditions, but the message here is that we have the flexibility to do either, and we will do what results in the best answer for shareholders.

Overall, the balance sheet is very strong, and our liquidity position requires no needs for external financing, absent any major acquisition, of course. In terms of divestitures, we don't expect anything significant this year, but things can change. But right now there's nothing material on the table.

In terms of our outlook for the balance of 2009, we updated our guidance today and we increased the low end of our earnings per share guidance to $7.17. For the time being we'll be leaving the high end at $7.32. However, if we deploy more of our excess cash this year for either M&A or share repurchases, that will provide some upside to our EPS. So we're comfortable with our guidance.

We expect sales for the year to come in just about $15.6 billion. That will be 5% growth from 2008. We still believe there's upside in that number from the ISR surge, possibly from some stimulus funding that affects Homeland Security and for a surge in Afghanistan as well.

In terms of Homeland Security, the stimulus bill included about $1 billion of additional funds for TSA and about $100 million for Customs and Border Patrol. Those amounts will be spread over the three years from 2009 to 2011. Most of the TSA funds appear to be for construction and installation, and about $300 million for equipment procurement. So our share we estimate to be between somewhere between $135 million and $150 million.

But we believe that the timing of that is uncertain. It could probably spread out maybe some in the latter part of this year and the balance in 2010. So we are awaiting details on how this is going to be program driven. I think, if the equipment is equipment that we have available, such as the examiners, it will be quicker.

So in terms of the balance of the year, we view the year as being pretty stable in terms of our volume in sales. We think we have modest upside on earnings for any of the items I just mentioned. Cash should be fairly stable at $1.2 billion, modest upside always. When we get to the fourth quarter, we'll update you depending on what we are seeing.

And Ralph is going to give you some more color behind the numbers, and then we'll be happy to take your questions. So go ahead, Ralph.

Ralph D'Ambrosio

I will cover some points or highlights about the Q1 results, and then go through the update to our 2009 financial guidance. Q1 EPS, as Mike said, grew 10% compared to last year. And if you remove the impact of the higher pension expense, which reduced EPS by $0.10 in Q1, EPS grew 17%.

So overall, we believe we had good performance in Q1 despite a few headwinds which I'll summarize in a moment. And that underscores the diversity and the strength of L-3. If you take a look at our sales, Q1 sales grew $130 million or just under 4% to $3.6 billion. Growth from acquisitions net of divestitures was $77 million or 2.2%.

The consolidated sales were in line with our expectations. At the segment level sales were better than expected for C3ISR and -- due to the US military ISR surge, and that was spread across several programs. And also at the segment level, sales were lower than expected, in-government services, primarily because of the funding cuts on some intelligent support contracts and also for Specialized Products because of great unexpected weakness in the commercial aviation and commercial shipbuilding products businesses.

Additionally, the Linguist contract, which is in government services, declined $130 million to $53 million, and that reduced Q1 consolidated sales growth by 4% and growth in the Government Services segment by 12%. Q2 will be our last tough quarter-over-quarter comparison on Linguist, and it will be a smaller decline than we had in Q1. And we now expect full year 2009 Linguist sales to be about $160 million.

Sales for contract field services, which is in the Aircraft Modernization and Maintenance segment, declined by $27 million, reducing that segment's sales by 4% and causing it to be flat quarter over quarter. If you recall, the new CFT contract that was recompeted last year more than doubled the number of suppliers competing for the same task orders. So we expected to lose some market share there. And we continue to expect that, for the full year, contract field services will decline by about $100 million in sales.

The positive trend in the Aircraft Modernization and Maintenance segment in terms of sales, in Q1 was that we had significant growth on our US Army training helicopter flight support contract at Fort Rucker and also on the work that we do supporting the Special Operations Forces, which is JOG. And they largely offset the decline in CFT.

In Specialized Products sales grew 7% despite lower volume for the commercial aviation and shipbuilding products, which together declined $35 million compared to Q1 of 2008. And excluding the commercial declines there, the sales growth was strong in the EO/IR business area and also in microwave, propulsion systems and security and detection systems.

Now, moving on to the operating margins, while they declined by 20 basis points 10.3% for Q1 of this year, if you remove the higher pension expense, the margins actually improved by 40 basis points with most of the increase coming in the C3ISR segment. Generally, as always, we continue to proactively manage and right-size our cost structures with special attention on overhead spending.

Free cash flow was $112 million, better than Q1 of last year by $57 million, and that was due to better performance on collections and receivables. In terms of the changes that we made to our 2004 full-year guidance, Mike talked about EPS and that we raised the low end by $0.05.

The Chesapeake Sciences business, which we acquired on January 30, adds $0.03 to 2009 EPS. We maintained the sales guidance at $15.5 billion to $15.7 billion. However, we did change segment guidance for C3ISR and Government Services.

In January I commented that our most significant upside would be in the ISR search. As you saw, we had a very strong first quarter, and we are increasing our 2009 sales guidance in that segment by $100 million. Depending on our ability to further increase throughput, we could have more upside for ISR this year.

In Government Services we reduced the sales guidance by $100 million, due to unanticipated funding cuts on several intelligence support contracts, less US Army recruiting work and lower Linguist sales.

In the Aircraft Modernization & Maintenance segment, for now we are maintaining the sales guidance even though we lost a job we competed last month. And as you know, as Mike said, we filed a protest and we are currently awaiting the outcome of the SOCOM's corrective actions. So in the meantime we haven't changed any estimates for JOG.

And as far as JOG is concerned, the annual financial impact on L-3 is about $400 million with about $0.14 of EPS. Our existing incumbent contract is cost-plus award fee, so it has lower margin than the company's consolidated operating margins. That said, the outcome of JOG is a major downside risk for this year for our guidance contains this downside risk.

In Specialized Products, we also maintained our sales guidance, but we had a plus and a minus there. We added $60 million for the Chesapeake Sciences acquisition, and we subtracted $80 million from our 2009 sales estimate due to the weaker than planned commercial business, and you saw that in Q1. Most of it is in aviation products and shipbuilding products. That said, we are currently at the low end of our range in this segment and if we have any further weakness in commercials, we will have to lower the Specialized Products sales guidance.

Operating margin for the full year remains at 10.4%, and excluding the pension increase we expect to improve margins by 30 basis points compared to last year. As Mike said, free cash flow remains at $1.2 billion. And a quick look at the second quarter, we are currently expecting sales to be about $3.8 billion with about $1.75 of EPS and free cash flow instead of $300 million.

Mike covered the balance sheet in terms of our cash and our debt balances. The only thing that I'll add is that the senior term loans of $650 million which mature next March are now classified as current liability on the balance sheet. As Mike said, we have ample flexibility to repay that out of our cash flow and refinance it if conditions in the credit markets make sense and if we need that capital.

That concludes my comments, and I guess I'll turn it back to you, Mike.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Cai von Rumohr of Cowen and Company.

Cai von Rumohr - Cowen and Company

Government services, could you give us some color on why the margin was lower there than it has been and were you expecting the Intel cutbacks. Can you give us a little more color on that?

Ralph D'Ambrosio

Margins, they are always lower in Q1 than compared to the rest of the year and that is because, due to the calendarization of the quarters, we have less days in Q1 and therefore less services work. Additionally, we are expecting some sales volumes to increase and therefore we will have better absorption on the SG&A side and that should lead to margin expansion.

In terms of the funding cuts on the Intel work, again it was unanticipated and it really happened across several programs and it appears to us that their direction to cut back on several Intel programs coming from Washington or somewhere else I guess. And we also expect to have lower sales on the US army recruiting work and what is happening there is we believe given the situation and the economy the army has achieved their recruiting goals early and therefore they are going to recruit less this year and for that reason they are cutting back out headcount significantly.

We are probably going to have $15 million less sales there. Then lastly, we are lowering our linguist sales by about $10 or $15 million and that is because we are not seeing the work share that we thought we were going to see in the subcontract. So, overall, the margins for the full year, we have just lowered the guidance range by 10 basis points and that is due to the lower volume that I just talked about.

Cai von Rumohr - Cowen and Company

The last one, if you could comment on the project Liberty; how big were the sales in this quarter and what are the opportunities for that business to grow looking-forward?

Mike Strianese

We have limited amount details, we can give you on this program, and I'd rather do it in the context of the whole ISR segment and this is due to customer concerns and I can’t understand where that’s coming from.

The growth rate in ISR in the first quarter was about 28%. I expect it to continue to be above average for the balance of the year. I can't promise it will be 28% in the second quarter.

But the orders that we're seeing already in the second quarter in that segment indicate it will be a strong year for ISR, both on the smaller platforms as well as our legacy platforms as well as, one of the Secretary Gates's comments was UAVs.

You know that we have a lot of equipment included on UAV platforms from sensors to data links and com equipment and antenna. It just goes on and on. So, the whole segment should benefit this year.

Ralph D'ambrosio

I can add some details to that. I said earlier that the growth was broad-based across several programs. And a lot of those programs are classified in nature, so we can’t get into the details. But in the C3ISR segment sales were up $157 million in Q1, about $40 million of it came on the networks communications or data link side and manned (plats) with the balance coming in ISR systems and that's where Liberty is included.

We also saw a growth on Rivet Joint and also on a couple of international ISR airborne contracts which also are classified. So the key thing is that it’s broad-based, we think we are significant opportunities the rest of this year and into the next few years. So we feel very confident about the growth opportunities in the ISR space.

Cai von Rumohr - Cowen and Company

You talked about growth throughout the year, the fourth quarter was really huge. Can you match the fourth quarter this year?

Mike Strianese

Well we are going to try.

Ralph D'ambrosio

Like I said it's going to be a function of our ability to increase the throughput through a handful of our facilities.

Cai von Rumohr - Cowen and Company

Got it. Okay terrific. Thank you very much.

Mike Strianese

Thanks.

Operator

Your next question comes from the line of Robert Spingarn of Credit Suisse. Please proceed.

Robert Spingarn - Credit Suisse

Good morning Mike and Ralph.

Mike Strianese

Hi Rob.

Robert Spingarn - Credit Suisse

Back on government services. What can happen there to raise growth for the segment to start to grow again, because it does seem between Linguist and some of the other things the pressure is there. So where is some of the opportunity?

Mike Strianese

Well Rob if you look at some of the strategy that was discussed by Secretary Gates, it includes things like [soft power] we talked about and more integration not just with military but with military, economic, social, political, infrastructure aid. So, our growth would be expanding our service offerings outside of the DoD space and into other customer spaces as well internationally.

To recall on the fourth quarter, we acquired IRG, International Resources Group that brought some of that capability into L3. So, we have people working internationally with the State Department, with other agencies on potential programs, contracts in regions that could be, you can think of it in terms of Africa for example, that could be right for some instability and the view is that the solutions are much more economical for United States to pursue them, before a state fails and the military solution is required.

And we see a lot of focus; you could see it in terms of federal budget with the State Department, I think it was almost doubled to include the scope of work. So, in addition as you know, there is the potential, I mean it's started already, to start transferring some of the services that have been provided in Iraq directly to contracts with the government of Iraq.

Now that’s been slow to get started, and I can't promise it’s a one-for-one replacement as services get thrown down on the U.S. side. But we are in a very strong position to enter into contracts directly, where our services are required. And you know we are providing a lot of in-country training, nation buildings standing up, a procurement system and the like.

So, in addition there is a lot of funding, although I don’t want to get too caught up in this thing. The next explosive growth area like homeland security was supposed to be and what's been called cyber. The numbers are not reliable that are getting to us to around, the ranges like $30 billion to $60 billion and without a spend and how it's going to play out and program yet.

But I could tell you that we have a lot of capability in L-3 that is addressing that area. Unfortunately a lot of these programs are very classified programs and it's going to be a limited amount that could be set without them by all of our industry players in this space. But those are the types of things that we’re looking to see future growth in.

Robert Spingarn - Credit Suisse

Of the stuff you just talked about, is any of it possible this year?

Mike Strianese

Yes. In fact some of it is. Some of the transition work in Iraq, the government of Iraq is possible. I think some of the cyber money will be coming out as well. In terms of contracts with State Department I'm not sure how fast they'll get to actually defining what the test is going to be and how are they going to be led. But as best as they can get the money programs will be they have to compete for it.

Robert Spingarn - Credit Suisse

Okay and just two quick things for Ralph. First, Ralph can you just -- I wanted to go back to your JOG comment in the guidance. I just want to clarify, you're saying, how are you guiding with regard to JOG?

Ralph D'Ambrosio

Well, our guidance range contains any outcome on JOG. So, if we are successful and we (retain) that in there and if we lose the contract at some point later on this year our guidance still stands the way it is.

Robert Spingarn - Credit Suisse

Okay, so it's contained in the range.

Ralph G. D'Ambrosio

Correct.

Robert Spingarn - Credit Suisse

Got it. Okay and then the other thing I wanted to ask you about is, there was a accounting change on convertibles that we thought was going to boost your interest expense even despite the lower floating rate environment we have out there. And so with that being the case, how should we think about interest expense for the rest of the year?

Ralph D'Ambrosio

Well that accounting change did increase our interest expense it's all non-cash by the way and that’s about $20 million for the full year or $5 million or so for the quarter.

Robert Spingarn - Credit Suisse

Okay.

Ralph G. D'Ambrosio

And if you look at in terms of interest expense for the full year, it’s going to be about $280 million or so, and that of course is before interest income in our cash balance.

Robert Spingarn - Credit Suisse

Right. So it rises from the $66 million we saw this quarter.

Ralph D'ambrosio

And the reasons it rises is because remember I said there is less days in the first quarter accounting calendar and you count for the interest on a daily basis. So…

Robert Spingarn - Credit Suisse

Okay.

Ralph D'ambrosio

That's why (inaudible), it's just a function with a number of days in the calendar. So for example, Q4 is going to have an extra week of days compared to Q1 this year.

Robert Spingarn - Credit Suisse

Okay. So, it's mostly there because where I was figuring it. It looked like the other three quarters were about in the low 70s about 10% higher, if it gets up to there.

Ralph D'ambrosio

And that’s the whole explanation.

Operator

Your next question comes from the line of Noah Poponak of Goldman Sachs.

Noah Poponak - Goldman Sachs

As we think about the shift in focus to Afghanistan, you guys have given us a lot of transparency with having close to 1 billion in Iraq, 250 in Afghanistan. The troop number is going to be lower there, but they'll need more resources and you guys are a clear beneficiary of that move.

How do we think about the timeline of that move, and kind of what those two numbers, the revenue numbers look like over the next three years and where you think they'll stand in three to five years?

Mike Strianese

That's a big window, Noah I think that it kind of gets a little murkier once you get out beyond another year, just because things are going to change on the fly. Just like we give you a good example, last year Project Liberty came out of nowhere in the middle of the year and made an urgent operating requirement.

There are things that the soldiers might as will learn. While they are on the ground that will be responded to rapidly. And those of course are sales numbers for this particular region very kind of widely.

Having said that, you’re correct in that the headcount that’s being projected is going to be significantly lower than what the end strength was at its peak in Iraq at somewhere near 140,000.

I think the latest increase was in the 17,000 number, and that drives the soldier systems that we provide including everything from Rovers to training, the gun sights and the like.

But the bigger driver is -- since it’s not going to be headcount obviously because it won’t be as high -- going to be ISR systems to deal with the extremely challenging terrain that has to be worked within, including mountains and valleys and caves.

I mean, persistent ISR takes on a whole new dimension in that region, in terms of what’s going to be required. That’s why I’m looking at it in terms of programmatics, and things will be brought in as the soldiers' transition there.

In terms of numbers, we’ll hear from Ralph.

Ralph D'Ambrosio

Sure. Let me give some more details on that. And for Iraq what we said is that our 2009 sales include almost $1.2 billion for Iraq. It’s roughly $900 million for services, and $300 million for products. That number includes about $150 million related to the JOG contract. So whatever happens to the JOG, there’s 150 of it.

In terms of what we see happening in the future, as a follow-on to what Mike said, what the administration is saying now is that they expect to draw down by the end of August of 2010 to somewhere between 30,000 and 50,000 troops in Iraq, and we are currently at about 140,000. What they said was that they expect those residual forces to perform two main tasks, one, continuing the ISR activity that's going on there today and, two, training the Iraqi security forces.

So the good news for us is that when you look at what we are doing and that 1.2 billion in Iraq today, the substantial majority of that pertains to ISR activities and to training and law enforcement. So if that plays out the way it has been outlined by the administration, we'll see some reduction in that $1.2 billion in sales. But it's not going to be significant. It could be $200 million or $300 million in total that would phase over the next couple of years.

In Afghanistan, the last guidance we gave was that we have about $250 million of sales there in '09. That's upticking a little bit. We have it at about $275 million right now, and the uptick is coming from the increase in troops that are going to be directed into that theater.

Noah Poponak - Goldman Sachs

So recognizing the great deal of uncertainty in these regions, it sounds like it is entirely plausible that that total number actually goes higher or stays very close to flat over the next one, two, three years?

Ralph D'Ambrosio

Yes, and that's before you factor in opportunities that we should have with the Iraqi government. And obviously, the drawdown that the administration is hoping for is going to be conditioned upon the Iraqi government being able to maintain stability and security there. So if that happens, we should have opportunities for direct contracts with them.

Noah Poponak - Goldman Sachs

One quick follow-up, the restricted stock rule that hits you, did that affect the share count in the first quarter or does that come later in the year?

Ralph D'Ambrosio

It affects the share count in every quarter and it's a messy presentation. But if you take a look at our GAAP income statement, which is provided in the earnings press release, you see what happens is we end up creating a separate class of securities that pertains to those restricted stock units. So, you carve out a piece of net income and attribute it to those shares, and the rest remains for the normal common diluted share EPS.

Mike Strianese

Lets say we expect that to phase out over time because we are adjusting the plan so that the dividend stays with the restriction and it will all get tested together. I think that's the disconnect that's causing this.

Ralph D'Ambrosio

We will have that for this year, next year and a little bit into 2011, and then it goes away.

Operator

Your next question comes from the line of Brian Ruttenbur of Morgan Keegan.

Brian Ruttenbur - Morgan Keegan

Question, first of all on earnings-per-share kind of breakdown for the remainder of the year. You talked about second quarter. How is the third and fourth quarter going to be proportionally weighted? Is it like a history of 2008, or is it going to be proportionately bigger in the third quarter than the fourth quarter or fourth quarter versus third quarter?

Ralph D'Ambrosio

Well, historically, if you exclude unusual items, and we did have a few unusual gains in 2008. Our earnings tend to improve sequentially as we move through the quarters and being highest in Q3 and the absolute highest in Q4. And we expect that trend to continue for this year as well.

Brian Ruttenbur - Morgan Keegan

As a follow-up, on JOG, give us a best case scenario what happens there and the timing of that, how it would move through, your protest moves forward and you get re-awarded it or whatever and what kind of timing, on a best case scenario?

Mike Strianese

The best case would be we got the phone call this afternoon. Best case, there's a message on my desk right now that says, we're going to give you back the contract. So that's the absolute best case. I think a likely case is that will happen within the 100-day window, but it's hard to guess how long the government will take. And I know that they are committed to doing a very thorough job and they also are committed to meeting their time commitment, so it will be within the 100 days, I'm absolutely sure.

As Ralph said, though, the range of our guidance includes either eventuality for this year, so it becomes more of a planning item for 2010. So, we'll keep you updated on that guidance as things develop.

Brian Ruttenbur - Morgan Keegan

And when does that 100 days end? Do you have a date on that?

Ralph D'Ambrosio

June 18.

Mike Strianese

Yes, around June, before the end of the second quarter.

Operator

Your next question comes from the line of Troy Lahr of Stifel Nicolaus.

Troy Lahr - Stifel Nicolaus

Aircraft Modernization, I think you had kind of slower growth in the quarter, but your guidance suggested it ramps up. Kind of with your expectations on some of these programs that are changing, I guess, what is really driving the growth in the next three quarters at Aircraft Modernization?

Ralph D'Ambrosio

Well, I talked about the U.S. Army Training Helicopter Support Program at Fort Rucker. We see that contract continuing to grow. We also think we'll be doing more work on the U.S. Navy T3's. We have some Head of State aircraft modification work that we're looking at as well. We also expect to have some increases on some of the aircraft CLS work that we do out of Vertex spread across a few programs, also JCA will also be picking up a bit as we move throughout the year. So those are the drivers.

Troy Lahr - Stifel Nicolaus

So these would mostly offset kind of a lower revenue on contract field teams and maybe a loss on JOG; is that right?

Ralph D'Ambrosio

Well, look, if we lose the JOG contract and we end up having to take out a chunk of revenues, we are going to have to revise the Aircraft Mod and Maintenance segment sales guidance for it. But I don't think we'll be revising the consolidated sales guidance.

Troy Lahr - Stifel Nicolaus

And in that segment, there was a favorable contract adjustment. Can you tell us how much that was?

Ralph D'Ambrosio

That was almost $8 million.

Troy Lahr - Stifel Nicolaus

$8 million, okay.

Ralph D'Ambrosio

The margins in that segment are higher than they are, higher in Q1 than they are in our full-year guidance. That's the main reason.

Troy Lahr - Stifel Nicolaus

The $8 million adjustment?

Ralph D'Ambrosio

Yes.

Troy Lahr - Stifel Nicolaus

Could you maybe talk about the competitive landscape and services as budgets tend to appear like they are slowing down, a lot and people of the bigger defense primes are talking about going into services? I assume you are starting to see a lot more competition. How are you handling that?

Mike Strianese

Well, it's always been a very competitive space, and it's true even more so now. The way we are handling it is we are keeping our focus on areas where we believe we have better capabilities and a better track record than the competition. Remember, our services are really in two broad categories, it's either the direct support to the war fighter in terms of retired military officers that work in our MPRI business unit that we believe does not have a peer in this space. They have a capability that's really just not matched. Then we have the more civilian side of the services business, where, again, we have always focused on the higher end services in terms of engineering, intelligence services such as analysis, archiving, dissemination, etc., and not the lower-end seat management, more body shop, if you will, I don't like that term, but I don't know a better term to use, type services that are very low margin. We have shied away from taking contracts that would yield below our composite margin in that segment or at least didn't have the potential to grow there.

So, again, we have a very large workforce of employees in that space with very high security clearance levels that take two years to get. That is truly a segment where the assembled workforce we have has an extremely high value and gives us an edge.

Having said that; with additional competition, the composite win rate there could get hit by a few points. What we see on balance is that we are winning our fair share to maintain our growth rate though.

Operator

Your next question comes from the line of Joe Nadol of JPMorgan.

Seth Tennant - JPMorgan

Actually, it's Seth on for Joe this morning. A question on the commercial businesses. Ralph, last quarter you gave some really nice color on those, and I was wondering if you could tell us individually for the maritime and the commercial aerospace, what the declines were and what the order trends have been recently.

Ralph D'Ambrosio

Sure. So let me take the commercial shipbuilding first. We did about $540 million in sales there last year; at the last update what we saw happening was two things. One, we were going to have an FX headwind because of the euro versus dollar. That was going to be about a $100 million negative and accepting that, we thought that business would grow about $50 million. So that took us to about $485 million, $490 million for 2009. In the guidance update I talked about $80 million of reductions for commercial sales. $30 million of it is for the commercial shipbuilding.

The backlog there is still strong. It's over $700 million at the end of March, and the book to bill ratio was 0.7 or 70% for Q1. So, that indicates to us that, heading into next year, as we expected, we are going to have another challenge in the shipbuilding area.

On the commercial aviation products, the sales there are about $270 million. That's pure commercial and the last guidance that we gave was that we expected it to decline about 10% or $30 million in 2009. We are now lowering that by another $40 million. Frankly, Q1 was a lot worse than we had planned, so I think I'm applying the right kind of conservatism in that business area. So, that's $40 million of the $80 million reduction. And the last $10 million on the commercial side comes from two areas; one is public safety, that's where we do video and digital recording systems for law enforcement, and on the broadcast sports, where we provide the real-time full motion video that you see on NASCAR, and PGA type tournament events. So, there's cutbacks that are happening in those areas, so we are seeing some negative consequences there.

Now, overall, our commercial sales for the entire Company last year were about 11%, just under $1.7 billion. And what we see happening today and what's contained in the 2009 guidance update is that we expect the total commercial sales for 2009 to decline by about $140 million or 8% across all the commercial business areas. If you follow my math, and I know I've thrown out a lot of numbers out there, it tells you that the decline is coming entirely from aviation products and shipbuilding and that we are having some modest increases elsewhere in the commercial businesses.

For example, we happen to do maritime simulation equipment for foreign customers, and we are going to be up about $40 million on those sales this year. We also do, out of our Praetorian product line, video surveillance management products. That's also growing. We have some growth on the security detection systems for the airport equipment as well. So we still see some growth happening in the commercial business areas. And I think we've adequately factored in further downside that we could see in aviation products and shipbuilding products.

Seth Tennant - JPMorgan

Just as a follow-up, in thinking about JCA going forward, we know now that Boeing is not going to participate in the program, so what impact that has, if any, and how things are going there with setting up the facility in Florida?

Mike Strianese

Our partner, Alenia, is prepared to proceed on its own. You have to remember that the production facility that was being discussed in Florida was not exclusively for JCA. It was for the C-27J airplane, of which L-3, as the prime on JCA, is a customer. So it was not an exclusive facility for JCA program. The program is going fine. There are four deliveries that are expected next year. We visited, as we have done in the past, with our partners in Italy just about a month ago and reviewed the production plan. There are no delays. We anticipate or any other problems with those deliveries, and we believe there's adequate runway for Alenia to deal with this production facility on its own.

We stay in touch with them almost daily. So it's not an area of concern to us at the present time, but we are happy to go over it every quarter, if you like, and give you an update.

Operator

Your next question comes the line of Joe Campbell of Barclays Capital.

Joe Campbell - Barclays Capital

The orders were pretty darn good for Q1 even though they were down from last year at 3.8. I mean, with sales at 3.6 and the orders at 3.8, given the products in there that you often don't see the orders come and go in the quarter. I wondered if you could comment on how you see the booking going over the course of the year.

A couple other guys have complained that the changes that are going on with some of the [Gates] stuff and just new people coming and going have caused some of the agencies to be a little pokey in getting their awards out. You obviously didn't have any problems in Q1 with a good booking rate, I wondered if whether you saw any pockets of that or you think the programs you are on are sufficiently high priority that it doesn't look like it's an issue?

Mike Strianese

We don't, Joe. We don't think it's an issue, but there has been delays in getting contracts let and funds programs. This year's first quarter at about 3.8 billion, as you know, was low. Last year, we ran at almost $4 billion a quarter. But we have seen an increase in activity outside the quarter in orders that came in. I think it was more timing than anything else for the reasons that you are describing.

So the nature of our programs, again it's very diverse. No large platform production orders that it can really, unless it happens across the board in terms of delays in programming money, it just doesn't seem to happen to us.

So we are not seeing any effect there. We think that the orders flow in the first quarter. There were a couple of big items that held it back. One, linguist orders were down over $200 million and C. M. Electronics was down about $200 million. So when you take them out, we really did have growth in almost all the other business areas.

Joe Campbell - Barclays Capital

It looked good to me. I mean, I thought the $4 billion rate, given the size of the company, seems hard to believe it was going to be sustained. But when you take out the commercial ships and then linguist, it's still a very good rate.

Mike Strianese

Yes, Joe. So we were pleased with the results, and we think that the rest of the year is looking pretty good. Do you want to add to that, Ralph?

Ralph D'Ambrosio

So what we said in terms of book to bill for the full year 2009 is that we expected it to be somewhere around 1.04, 1.05, 1.06. And it's going to be in the middle 10% growth range versus sales, and that held in Q1 despite those couple of big swings that Mike talked about.

Last year, we had very strong bookings, unusually strong, but frankly, we booked a lot of multi-year orders in 2008. I think the last time I talked about it, there was about $1 billion or so in orders last year that we recorded that don't convert into sales until 2010 and beyond. So, that's also impacting the book-to-bill that we're going to have in 2009, Joe.

Operator

Your next question comes from the line of Myles Walton of Oppenheimer.

Myles Walton - Oppenheimer

A question for you on C3ISR. At the latter half of 2008 you had an international program which I guess was yellow or red in the second half and caused you about $25 million in charges. But from the press release you call out favorable adjustments on an international ISR program. Number one, I'm just curious if they're the same programs, and this is turning the corner on it?

Number two, I had a note that most of the risk reduction on that problem program from last year was going to be retired by the middle to end of this year. So where are we on that program?

Ralph D'Ambrosio

It is that program. In terms of the risk reduction, we still expect to retire it all middle to the end of this year. We are going to be going into flight test on the first aircraft in June, and we expect to deliver it in September.

In terms of the EAC risk, what we said in January was that we thought we had our arms around it, that there were no major technical issues, it was just a matter of getting the work done on revitalizing the platform. What happened since then is that we were able to successfully restructure the deliverables with the customer such that we took away a lot of the risk that we would have on the second aircraft. That resulted in us having a $5 million improvement in the profit on that contract, so it was earnings, 7% all in. Now it's going to be earning about 9%.

Myles Walton - Oppenheimer

Okay, that's clear. That's good news.

Ralph D'Ambrosio

So we think it's behind us. We've just got to get it delivered in the second half of this year.

Myles Walton - Oppenheimer

Mike, a high-level question for you. You have turned the focus on tighter integration across the Company and pruning the portfolio here and there and really trying to get to an end state for all three that's in your vision. How far along in that process would you say you are, and what are still the long poles on the tent to go?

Mike Strianese

Well, we've come a long way, Myles, and it's almost -- this summer will mark three years that we've been working to create a more integrated company without destroying the entrepreneurial spirit of L-3 that has made us very successful.

We have basically taken care of the divestitures that we were thinking of. When I started working on it, we had almost 11 separate groups. That's down to eight. I couldn't name the number of facilities that we've put together or where we've consolidated back-office operations. I mentioned earlier that we were bringing things together in Canada, due to a drop-off in volumes, to get some economies of scale, but we are going to expand in Texas with our Link operation by bringing in three business units into one.

We're continuing to work those types of issues across the government services business is a good example of where, due to the Titan acquisition back in 2005, with just numerous facilities and things like that. So we are in a lower rate of consolidation activities, but they are still ongoing. But I can tell you that I am very comfortable with what I'll call a organizational capacity of the company, should the right acquisition present itself that's the right fit at the right price, that we are ready to take that next step that presents itself. So I don't see any long poles. I'd like to continue to grow the company.

Myles Walton - Oppenheimer

And can you give us a rough range of size of the deals in the pipeline that you're actually looking at today?

Mike Strianese

The deals in the pipeline that we're looking at are in the $1 million to $500 million category, most predominantly privately held companies, a couple of them excellent fits. There's areas such as ISR, training and simulation, secure communications and EO/IR that we are just really doing well in, exceptionally well. That we believe have a strong future, that we are a number one and number two player in many of the areas in those. These are my focus areas, not exclusively, but those are my primary ones.

Operator

Your next question comes from the line of Howard Rubel of Jefferies. Please proceed.

Howard Rubel - Jefferies

Thank you very much. I want to go back to specialized products for a second. Some of the changes have been pretty dramatic in some fairly high margin businesses, yet you have been able to keep the expectations for margins about the same. What have you done to be able to do that?

And also, Mike, to your point on EO/IR, it looks like your acquisition that you concluded about a year ago, which had below-average margins, is probably doing better than that. Could you comment?

Mike Strianese

Sure. I'll take the latter part first, and Ralph will take the first one. So yes, about a year ago we closed on the EOS business of Northrop, formerly a Litton company, Electro-Optical Systems business. It's about a year working with us.

Two things have driven that. One, the business mix has improved so some of the lower yielding programs have been run out of backlog and replaced with newer programs that are yielding better margins. The capacity in the primary facility is being increased, the throughput, at the request of the customer and funded by the customer, and the yields have improved on their products as well.

So all in all, we are delighted with the performance of the EOS. It's a great business and it's a perfect fit for L-3, and you are right to have picked up, and that's why we love that space, and it also provides kind of an anchor tenants, its one of the larger EO/IR businesses within our company that kind of coalesces everything around it that we have bought over the years. So it's doing very well.

Ralph D'Ambrosio

And the first part of your question, Howard, on the operating margins. When I talked about operating margins in my comments, I said that we were being very proactive on right-sizing the cost structures, particularly on the overhead side. I really need to give credit to our Group and Division management in the commercial aviation product and shipbuilding areas, because they, frankly, have been very aggressive in right-sizing those cost structures, eliminating a lot of overhead where we could take it out. We've had to take out some direct heads as well, because of the production declines. So I'd like to say that we've been on top of it.

Also, on the aviation side in particular, if you recall during last year and before that we were spending a lot of money on a new general aviation product that we decided to essentially exit in Q2 of last year. So for that reason we are spending a lot less R&D in that area, and that's also helping us, but the margins in both of those business areas are still where they have been historically, and we think that we will be able to keep them there.

Howard Rubel - Jefferies

Then just one last thing; when you talked earlier about some of the C3ISR opportunities, some of them you talked about outside the US. Can you give us a sense of how fast these will show up? Will it be Q4, or are you days away from inking something of some substance?

Ralph D'Ambrosio

Well, there were some stuff that was already in the Q1 results, but generally speaking, there's going to be more and better opportunities in ISR stateside, versus foreign, or internationally, which has been the case historically.

Operator

And that concludes the question-and-answer session. I'll now turn it back to Ms. Tripp for closing remarks.

Karen Tripp

Okay. Mr. Strianese will now present his concluding remarks.

Mike Strianese

Thanks, everyone, for joining us on the call. I hope we were able to get to everybody's questions. 2009 and 2010 are going to be transitional years for the industry and for L-3, just adjusting to a new administration and changing priorities, (inaudible) year. So there is more to come, I guess we'll be hearing budget details early May. So there will be a lot to talk about next quarter as well, so we look forward to talking to you in July. So thank you.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.

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