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Textron Inc. (NYSE:TXT)

Q3 2009 Earnings Call

October 27, 2009 9:00 am ET

Executives

Doug Wilburne - VP of IR

Lewis Campbell - CEO

Scott Donnelly - CEO Elect.

Frank Connor - CFO

Analysts

Noah Poponak - Goldman Sachs

Cai von Rumohr - Cowen & Company

Heidi Wood - Morgan Stanley

Ronald Epstein - Bank of America Securities-Merrill Lynch

Robert Stallard - Macquarie

David Straus - UBS

Shannon O'Callaghan - Barclays Capital

Steve Tusa - JPMorgan

Steve Levenson - Stifel

Operator

Welcome to the Textron's third quarter earnings call. (Operator Instructions).

I would now like to turn the conference over to Mr. Doug Wilburne, Vice President of Investor Relations.

Doug Wilburne

Before we begin, I'd like to mention our discussion today will include remarks about future estimates and expectations. These forward-looking statements are subject to various risk factors, which are detailed in our SEC filings and also in today's press release. You can also find our earnings call presentation and supplemental data accompanying today's call in the Investor Relations section of our website.

On the call today we have Lewis Campbell, Textron's Chairman and CEO and Scott Donnelly, Textron's, President and Chief Operating Officer, and CEO Elect, and Frank Connor, Textron's Chief Financial Officer.

Moving now to third quarter results, which appear on slide three of the earnings call presentation. Revenues in the quarter were $2.5 billion, down 27% from a year ago, which yielded GAAP income of $0.01 per share. Adjusted earnings from continuing operations excluding special charges were $0.12 per share, down $0.71 from a year ago.

Textron recorded third quarter pre-tax special charges of $42 million, associated with the company's restructuring program. Manufacturing operations provided $327 million of cash flow during the quarter, bringing our year-to-date manufacturing cash flow to a positive $68 million, which, by the way, included $107 million in manufacturing restructuring cash outflows so far this year.

With that, I'll turn the call over to Lewis.

Lewis Campbell

Given the economic environment we're still in, we had a positive quarter operationally and we accomplished a great deal to further improve our capital structure.

Before I turn the call over to Scott and Frank, I want to provide some context for today's call. As you look back to where we were late last year, the combination of the global economic downturn, and a major disruption in the capital markets, created a set of unique business challenges for us. To counteract these challenges, we aggressively and relentlessly pursued a four-pronged approach that secured the future of Textron.

First, we took actions throughout our manufacturing businesses and across the enterprise to take out costs to match our lower volumes. We also attacked working capital to generate stronger cash flow from operations. That should be evident this quarter. We aggressively took steps to rapidly liquidate our TFC non-captive receivables and you should know we are well ahead of plan.

And finally, we strategically maneuvered our way through the disrupted capital markets and as a result we successfully completed equity, convert and debt offerings at relatively attractive terms. At the same time, we continue to invest in new products. So now, as we see additional signs of economic stability, the enterprise is solidly positioned for profitable growth when economic expansion returns.

As most of you know already, today is my last Textron earnings call and I will be passing the CEO leadership baton to Scott on December 1, of this year. As I reflect back on my 17 years at Textron, I think about two distinct phases of shareholder growth and our ability to weather the economic storms that occurred at the end of each phase.

Our first phase transpired during the decade of the 90's, as we were able to capitalize in a strong way on the vibrant economy. Combined with our renewed focus on operational excellence and numerous successful acquisitions, which began with the purchase of Cessna in 1992, our share price grew steadily through the 90's.

Then, we had an economic retrenchment at the beginning of this decade. This was exacerbated by the events of 9/11 and our stock price contracted accordingly. Fortunately, we launched our major transformation initiative in early 2002, which you'll remember focused on the twin pillars of portfolio management and enterprise management.

This major undertaking provided the momentum to produce the second growth phase in shareholder value that began in 2003. This phase continued until the latest economic downturn took its toll on our enterprise. I believe we've now weathered this latest storm, as well. We've done this due to the foundational strengths now in place as a result offer the transformation initiatives, the specific actions outlined earlier in my remarks, and, finally, and obviously, most importantly the strong leadership team we have in place at the top of the enterprise, as well as across each of our businesses.

Ladies and gentlemen, we are poised to begin our next cycle of growth. I have utmost confidence in Scott, Frank and the rest of the team to lead this company into the next era of significant shareholder value creation. They have what it takes to win and are focused on doing just that. I'm also looking forward to working with Scott and his team as their non-Executive Chairman during a transition period that begins in December.

Finally and sincerely, I also want to thank everyone on this call for your support and interest in Textron during our numerous interactions over the past 17 years.

Now, it's my pleasure to pass the call over to our CEO-Elect, Scott Donnelly.

Scott Donnelly

Thank you, Lewis and good morning everyone. I just want to thank Lewis for his leadership in the company. It has been a real pleasure working with him over the past year and I certainly look forward to the opportunity to continue to do that in our new roles and to maintain the momentum we've built behind the company.

As Doug mentioned, we delivered strong manufacturing cash flow of $327 million in the quarter, despite manufacturing volume declines of approximately 25%. These improvements reflect the cost actions and our continued focus on working capital management. Inventory in particular was the biggest driver of cash flow contributing $285 million in the quarter, or $377 million year-to-date.

If you look at the Industrial segment, our cost actions were evident again in the quarter, as the segment posted positive cash and positive profit despite volumes being down 27%. Obviously, the economic environment remains challenging. However, we are seeing signs of improvement and expect to return to growth next year. In particular, global auto production is likely to increase as a result of a national replacement cycle.

Our Kautex business also continues to win on new platforms. For example, our next generation fuel system was selected for several North American Ford models and we have also experienced growth in our traditional plastic fuel system for Fiat's popular European microcar, as that vehicle is introduced in the North American market.

After a very difficult 2009, we believe golf courses are likely to increase their capital budgets for both replacement and maintenance of equipment at the courses. We also had a nice winter at E-Z-Go, capturing the fleet business at one of the world's largest golf facility, Mission Hills. These courses located in China consist of 12, 18-hole courses, four club houses, three academies and have already hosted over 50 international events. We expect to continue to pursue growth opportunities such as these across all our businesses, and this, and other emerging markets.

Systems also posted another excellent quarter of execution, with solid margin generation of 13.5%. Volumes were up 14%, reflecting strong growth in our defense business, offset by lower Lycoming engine volumes, which were down about a third reflecting softness in the general aviation market. We see solid long-term growth over the next several years, as US and foreign military demand for our products is expected to remain strong and we continue to invest in new products.

At Bell, our profits were up on lower revenues, reflecting continued progress on execution. Frank will go through the puts and takes on the revenue line, but Bell is still very much in the long-term ramp-up mode. For example, this quarter we delivered four V-22s and two H1s, compared to our expected full rate production targets of 10 V-22s and six H1s per quarter. So we see a tremendous amount of activity in producing components, susbsystems, and assemblies for increased deliveries for next year and beyond.

On the commercial side, we have seen continued softness in the commercial helicopter market over the past three quarters. However, we have recently seen a pick up in interest levels in sales inquiries, particularly in our light helicopter lines. Our new 429 introduction continues to go well. We do not show 429 orders in the backlog yet, pending completion of contract conversion processes, but we have already received second deposits on 50 units and are working on another 50 or so at this time. We will be ramping 429 production, delivering several additional units this year, going to about 25 in 2010, and 40 in 2011. So overall, the strong long-term growth outlook at Bell, for both commercial and military is intact.

At Cessna, I think we had a pretty good quarter. Most importantly, we continue to see encouraging signs in the marketplace, and as we've previously forecast, Cessna delivered significant positive cash flow in the quarter. We had a few additional jet deliveries late in the quarter, indicative that markets are stabilizing, customers are taking scheduled delivers and new customers are placing 2009 orders.

Improved used aircraft performance is also a factor, as we also see stabilization in that market. In fact, we actually had a slight positive profit contribution in the quarter from used aircraft activity. Q3 used aircraft sales were 17, about 10 of those under our 'No Worries' Program, bringing our year-to-date total of 39 used aircraft, 24 of which are under our 'No Worries' program. As a result used Citation availability is down to 16%, that's down from 17.3% at the end of the second quarter. ADUs were also stable at 0.65 hours and that's flat with Q2.

On the order front we had 119 cancellations. I think it's particularly important that we understand the dynamics in the order book. If you look at 2009 in the quarter, we had 11 new orders and only two cancellations. For 2010, we actually had no cancellations and five orders and therefore, all the bulk of the cancellations, the vast majority of the cancellation activity in the quarter was in the 2011 and beyond, I think reflecting customer uncertainty, as you look two, three years out into the future. So there is no question, as we look at those numbers in terms of near-term '09 and '10, orders and cancellations, we are encouraged of what we see in the marketplace.

As a result, we feel confident about the 275 deliveries that we forecast for this year, and frankly see potential for a few more, assuming the momentum we see in the third quarter continues. Longer term, we do expect the relationship between corporate profits and jet deliveries to hold. Accordingly are anticipating slower or softer 2010 and '09, with recovery beginning in 2011.

We continue to make very good progress collecting cash and liquidating our non-captive portfolio of TFC. If you look at slide four you see the Q3 liquidations of $704 million, that's a year-to-date total of $2.9 billion, bringing our managed receivables down to $7.9 billion from $10.8 billion. The largest reduction again was in distribution finance of $452 million. We also saw $63 million reduction as a result of 18 prepayments and our sales in the quarter in our golf portfolio.

If you look at slide five you can see that cash conversion is still very strong. Our cash conversion ratio in Q3 was 95%, bringing our year-to-date total to 94%. While we still expect to see this decline overtime, it was certainly another encouraging quarter.

Slide six reflects our credit performance and it's consistent with our expectations involving challenges our customers' see in this economic cycle. Non-accruals added about $155 million, bringing non-accruals to a total of $838 million. The additions in the quarter were primarily driven by resorts, of about two-thirds of those increases and about one-third of the increase in our aircraft portfolio.

On the other hand 60-day delinquencies were essentially flat, with Q3 coming in at $440 million, down modestly from the second quarter of $447 million. The delinquency percentage went up to 7.3% from 6.6%, reflecting the smaller portfolio. Charge-offs in the quarter were also flat, with Q2 at $23 million. Certainly, we expect to see these charge-offs increase as we go forward in continuing our liquidation. Loss provisions were higher in the quarter, $18 million, strengthening and in the quarter at $302 million.

So looking forward we certainly expect non-accruals and delinquencies will remain high, but still well within the expectations embedded in our long-terms liquidation plan. Accordingly, we fully expect liquidations and cash conversion to proceed consistent with our plan. Frank will go through the specifics.

We are making good progress in our balance sheet and our overall liquidity position. We were encouraged by our improved access in the capital markets, as we successfully executed new term debt while tendering for current debt. This reflects our balance in trying to extend our maturities while minimizing our cost of capital.

So in summary I would say, we delivered a solid quarter with many encouraging trends. We believe these trends alleviate a number of the risks we look at as we start to think about 2010. In the meantime, we'll continue to prepare for the future by focusing on our operating performance and continuing to make appropriate investments for future growth opportunities.

I'm extremely pleased to lead this company at a time of great opportunity and I look forward to working on behalf of our shareholders to build long-term value.

With that, I'd like to turn the call over to Frank.

Frank Connor

Thanks, Scott. Good morning, everyone. Let's begin by examining the major drivers of this $0.71 of year-over-year reduction in adjusted EPS, which are outlined on slide seven.

As you would expect the largest item was lower manufacturing volume, which reduced EPS by $0.91 per share. TCF's lower earnings cost $0.22. Manufacturing achieved positive pricing of 1.5%, which added $0.10 per share. This was offset by $0.11 of inflation, reflecting an inflation rate of 1.3%. Overall cost performance, including reduced SG&A benefited the quarter by $0.40 per share, and taxes and miscellaneous items added $0.03 per share.

Moving to our restructuring program, we've added number of additional actions around the company to further eliminate overhead and consolidate facilities. So we are now expecting total 2009 program charges of about $240 million, which is $40 million higher than our previous estimate.

Now let's discuss the year-over-year drivers in each of these segments, starting with Cessna.

Cessna revenues decreased $293 million, primarily reflecting delivery of 68 Citation jets compared to 124 last year. After market revenues were also down 16%. Incidentally, this was a less severe reduction than the 28% decrease experienced in the second quarter. On the other hand, as Scott mentioned, we had fairly significant used aircraft sales in the quarter, with used aircraft revenues up $31 million from last year.

Cessna profits for the quarter decreased $206 million, primarily due to the lower sales volume and the related costs associated with idle capacity and temporary plant shutdowns.

The impact of lower volumes was partially offset by lower engineering and SG&A expenses, which included the net impact of furloughs taken through the summer months and the impact of customer deposit forfeitures. Backlog at the end of the third quarter was $6.9 billion, a decline of $1.3 billion from the second quarter.

Looking forward to the fourth quarter, even with the potential upside Scott mentioned, margins will be somewhat challenged relative to our third quarter run rate as a result of lower deliveries. This applies to next year as well, as we produce at volumes below this year's level and expect deliveries to remain low. We're working closely with Cessna to identify additional opportunities to improve our cost structure, but we're still working on some of these plans. So don't expect to see the benefit of those activities until later in 2010 and into 2011.

Looking at Industrial, revenues for this segment decreased $203 million, largely due to lower volumes. Profit was unchanged from last year as the impact from lower volume was primarily offset by significantly improved cost performance.

Moving to Textron Systems; revenue increased $61 million, primarily due to higher volume on unmanned aircraft systems, which was partially offset by lower Lycoming Aircraft Engine volumes. Segment profit increased by $1 million and margins were strong at 13.5%. The increase in profit reflected the impact of higher defense volumes, substantially offset by the impact of lower aircraft engine volumes and an intangible impairment charge. Backlog at the end of the third quarter was $1.8 billion, down $130 million from the second quarter.

Moving to Bell, third quarter revenues decreased $74 million, primarily as a result of lower commercial revenues. Lower commercial revenues reflected lower aftermarket activity in the delivery of 31 helicopters, versus 49 last year. On the military side, revenues were up slightly, with higher revenues for the V-22, H1 and Kiowa Warrior reset programs and aftermarket activities, which offset the loss of last year's $32 million of revenue for the cancelled ARH program.

Bell's segment profit increased by $16 million due to lower SG&A, a gain from the termination of an FX hedge contract, higher customer funding on R&D, and pricing in excess of inflation. These increases were partially offset by lower volume and an unfavorable change in mix. Bell backlog at the end of the third quarter was $5.6 billion, down about $250 million from the penned of last quarter.

Finally, let's cover TFC. Revenues decreased $113 million and segment profit was down $82 million, primarily due to higher portfolio losses, lower other income, and securitization gains, and the impact of lower average finance receivables. These items were partially offset by the accretion for previous mark-to-market adjustments and gains on early debt extinguishment.

Revenue was also impacted by lower market interest rates, while segment loss reflected an increase in loan loss provisions. With respect to liquidations we remain on track to meet or possibly exceed our previously communicated 2009 target of $3.4 billion.

Now, let's discuss Textron's overall capital structure for which we made significant additional progress during the quarter as Lewis noted. Most notably, we issued a dual-tranche offering of $600 million in senior unsecured notes in September, which extended our overall debt maturity profile. The offering consisted of $300 million of notes due in March 2015, with a coupon of 6.2%, and $250 million, due October 2019, with a coupon of 7.25%. We were very pleased with the market receptivity for the offering, which was very heavily oversubscribed.

We also continue to retire debt through open-market repurchases in a series of tender offers. In total, we have early retired about $1.25 billion of debt this year to-date, at an average discount of 2.6%, roughly $662 million via open-market repurchases and $587 million via tender offers. Specifically, in the third quarter, we had $265 million of open market repurchases, and just under $125 million of tender offers closed. The remaining portion of the tender offers, about $465 million, did not close by the end of the quarter, so the impact of this portion of the tender offer will not be reflected on our balance sheet until year-end.

Finally, we commenced international funding of Textron aircraft through our new Ex-Im facility at the end of the quarter, which also extends the maturity of our capital structure, as we originate new captive receivables from international sales activity. Looking longer term at our capital structure, we plan to continue to extend maturities and reduce enterprise debt as we downsize TFC.

To conclude, we are continuing to make solid progress with our liquidation plan at TFC and our overall Textron liquidity position and capital structure. With the actions we've taken to reduce our cost structure on the manufacturing side of the business, when the economy recovers, we would expect significant operating leverage as we ramp up volumes.

With that, I'll turn the call back over to Doug.

Doug Wilburne

Thanks, Frank. If you will now turn to slide eight, you will see, given our performance and trends in the third quarter, we expect that our full year EPS outlook will be in the upper end of our $0.33 to $0.63 per share range. Likewise, we're on track to deliver full-year manufacturing cash flow in the range of $300 million to $400 million. This estimate includes approximately $130 million in 2009 cash costs for manufacturing restructuring activities.

Turning now to slide nine you'll see our segment outlook items. On that page you'll notice that we've widened the range of pre-tax loss for the finance segment. As a result they could vary to the extent we exceed our liquidation target for the year.

There are also two items we want to note that arise from our recent higher stock price. First is, you'll see that the corporate expense forecast is now $165 million, $20 million higher than before. This is primarily due to increased stock based compensation expense resulting from our higher share price.

The second stock price item relates to share dilution resulting from our $600 million convertible debt offering that was executed in May. As you will recall, we entered into a Call Spread Transaction that increased the effective conversion premium on the convertible from 25% to 50%. Slide 10 provides an explanation of the accounting and economic share dilution related to the transactions, as the accounting treatment does not reflect the anti-dilutive benefit of the purchase call option from the call spread.

I also have to point out, if you downloaded the presentation materials before 8 o'clock, a couple of numbers were wrong on slide 10. Specifically, fully diluted shares should read 278.4 million shares and the non-GAAP diluted shares should read 273.6.

Going on, then, obviously, the level of dilution is going to change depending on what our share price is, so to help facilitate calculations of future dilution, we posted a downloadable schedule on the IR section of our website, detailing the dilution calculation and demonstrating dilution impacts at various share prices.

At this point, operator, we're pleased to take calls at this time. I would just please ask people to limit your questions to one question and a follow-up to be fair to all the callers.

Question-and-Answer Session

Operator

Our first question will come from the line of Noah Poponak from Goldman Sachs,

Noah Poponak - Goldman Sachs

The company has several management changes all taking place at the same time. Scott moving to CEO and Frank coming in, and calling up Warren to TFC and you've had John Garrison move from Industrial to Bell. Can you just talk about why investors should not be concerned that all these management changes are going on at the same time, and what the two or three big focus items are here?

Scott Donnelly

I'll take a shot at it. First of all, in terms of my role in the transition with Lewis, this has been going on for almost a year and a half, since I got to the company, so he and I have been working very closely and most of the issues that surround both the operational aspects of the company and the TFC liquidations. I think there has been a again year and half, pretty fair bit of overlap in there, so I feel pretty comfortable about that.

Obviously, with Frank coming in, that's a transition that we thought was appropriate. I think he has proven here in a very short period of time to really diving in the details of the company, know it very well and he is transitioning extremely smoothly. Of course, we have I think a very strong team behind Frank. Dick Yates, in the time that he was acting in that roll, as Controller, did a great job and of course is also one of Frank's key guys to this point. So I think that we aren't going to drop any balls as we make that transition.

John, of course, going down to Bell, that's a transition that had been planned for sometime. Dick went down there with the expectations of a couple-year role to sort of secure things operationally and get the business back into a profitable growth mode. I think he did that. He did a great job of it, but we also recognize the need that we need to put a long-term player at Bell, and I think right now with the V-22 multi year, with the H1 coming full rate production, 429 just certifying, I mean it was a perfect time to make a transition and get somebody new in there, just got the time to get to other customers, ramp up the business and be in position for some time.

I think when you look at the key roles, there's no question, I mean it is several key assignments all at the same time, but I think given the overlaps that have happened and the key players that we still have here supporting some of those roles that takes a fair bit of risk out of it.

Noah Poponak - Goldman Sachs

I know you guys aren't giving 2010 guidance today, but the consensus revenue number has you down in the mid-single digits on the topline. You just mentioned the programs at Bell that can look like they can drive growth there. You've talked about Systems being the fastest grower in the company. I think in your prepared remarks you said Industrial is growing again in 2010. One of the manufacturing businesses you think is down in '10 is Cessna. So with everything you know today, do you think that 2010 topline is up or down?

Scott Donnelly

We haven't given 2010 yet, but I think if you take the constituent parts you're right. I mean I do think we'll see some upside in Industrial, with some of those businesses coming back. There is no question Bell will see topline growth as V-22 and H1 continue to ramp. Systems, again solid backlog, good defense businesses. I would like to think that there will be some recovery in the like GE market and the Lycoming side, but even without that I think we'll see some good growth there.

Of course, the wild card here will be Cessna, and where does the business jet market go. So we're still working through. Frankly with the way the year has been, the market now, a couple of more months of understanding where the market heads, what the orders look like will give us a more refined view of jet deliveries in 2010, that's really what is going to drive that topline. What impact that has in terms of balancing against the growth of the other segments.

So, I'm not sure I can answer a lot more for you right now without being pretty explicit about 2010 guidance, and we just really don't have that yet. I mean I really do think we have a couple of more months to get a good feel on where the year is going to finish for Cessna and what our expectations are for next year.

Operator

Our next question will come from the line of Cai von Rumohr from Cowen & Company.

Cai von Rumohr - Cowen & Company

Could you give us a little more color on Cessna? You mentioned you had some used aircraft profits. You had some I guess deposit forfeitures. Just so we can get a sense of the profitability there and as you look at the fourth quarter you had a terrific mix with a lot of Sovereigns. Whether the mix looks a lot leaner in the fourth quarter?

Scott Donnelly

Well, let me first address the used issue. I think if you look at some slight profitability in used aircraft in the quarter that was obviously particularly strong in the contrast of the previous quarters, where we had been taking write downs based on the fair market value of the assets. I think that's the simple thing that we see not just our own used aircrafts sales, but in the industry of stabilizing of the used aircraft pricing, in fact, in some cases, actually seeing some early signs of beginning to see some increases in the used aircraft pricing, which is obviously a positive sign.

It's good in terms of our used aircraft business and it's certainly bodes well in terms of a lot of our new aircraft customers that need to have a liquid market to sell their used aircrafts. So, I think that's the primary driver. Obviously, our expectations are, having now sort of hit the bottom of the trough on used aircraft pricing, we'd just like to see that be stable and at least be a breakeven, if not, continue to be a net profit generator here as we continue selling used aircraft.

I won't give you a whole lot of visibility I guess yet on the mix in terms of the specifics around the fourth quarter, other than to point out that obviously the volume of jets will be lower than it was in the third quarter, and that's kind of what we expect to see, frankly, going through 2010. I think we've kind of hit the bottom of this thing, but we're going to be running at a lower rate of production deliveries than we saw even through the first few quarters of 2009.

Frank Connor

Just to be specific on that little bit Cai, in the fourth quarter with the lower jet deliveries our jet revenues will be down $50 million to $75 million depending on the exact number we ship and what kind of mix they have. So that's really what's going to kind of pressure margins a little bit in the fourth quarter.

Cai von Rumohr - Cowen & Company

You had this terrific performance at both Bell and Systems, businesses that are very heavily defense and margins that are at levels, it looked like they're difficult to improve upon. As you think about Bell next year, with the mix shifting toward the V-22 that's ramping that at one point had margins I think in the mid to high single-digits, are those margins sustainable at Bell?

Scott Donnelly

Well, Cai, I mean there is no question that in this particular quarter, as Frank already mentioned, we had an unwind of a foreign currency contract of $11 million in there, so that inflated it a little bit in the quarter, but still the underlying performance I think in the business is quite strong and you can expect it even with a significant amount of reinvestment that we are going to be making in our product lines that we can maintain that business in a double-digit position. The V-22 profitability is solved, H1 is coming around. It used to be obviously quite a drag for us, but I think we'll get to a respectable profit. We all know that on military contracts you're not going to see high levels of profit, but then you take those as a good solid base of business. Our commercial and military spares business, which are good businesses, which tend to be higher profit margin businesses, we'll be able to maintain numbers in that double-digit range.

Operator

Our next question will come from the line of Heidi Wood with Morgan Stanley.

Heidi Wood - Morgan Stanley

Question for you, Frank. At the low end of the 5% to 6% range for margins on Cessna for the year it looks like there has to be losses in the fourth quarter. Is that the right trajectory for us to set expectations that seems to be mildly in the red in Q4 and extend that way at least for the first couple of quarters into 2010?

Frank Connor

I would say in terms of the fourth quarter, as we've indicated, we are expecting low single-digit margins, but we're hopeful with the activity levels that we're seeing right now that we're going to be profitable there, that we're not going to dip into loss position. Our expectation is that those margins will be low. And as we've said, we expect that to continue into the first half of next year before we begin to ramp in the second half of the next year, as a result of hopefully a continuing improvement in market conditions and the cost measures that we are putting in place.

Heidi Wood - Morgan Stanley

So just as we visualize it, if we think of you being potentially mildly in the red in the first half of the year, heading into the black, but restrained a bit by rising R&D, but you net-net in the black by year-end 2010, is that the right way for us to think about it?

Frank Connor

Certainly in the black by yearend 2010. Again, we're still in the planning process for next year, and so, in terms of the quarterly progression, I think we'll stick with what we've said, which is, the same type of drag as we're experiencing or expect to experience in the fourth quarter, first half of the year, and then ramping from there.

Heidi Wood - Morgan Stanley

Scott, take a stab at this, from a high level can you give us any color on how you're thinking about managed receivable into 2010? How do you see it declining, or do resort and gulf finance stay flattish in 2010?

Scott Donnelly

I think, we've started to do see some of the golf run-off, and I think we will see that. So, if you think about receivables for next year, the bulk of the liquidations will still come through the shorter cycle distribution finance and asset-based lending businesses and those will run down pretty dramatically to the end of 2010. I think you'd expect to see golf becoming a stronger portion over the course of the year. In fact, we had a fair bit, $63 million in the third quarter this year, so that will become a stronger piece as we move toward the end of next year.

Resort we still see that staying flattish. Obviously, we are looking for opportunities to make moves there, but that's just one market where we don't see a whole lot of other capital coming back in, yet. So, I'm sort of thinking we'll maintain our receivables range through the balance of 2010 in the resort area.

Operator

Our next question comes from Ronald Epstein from Merrill Lynch, please go ahead.

Ronald Epstein - Bank of America Securities-Merrill Lynch

Scott, when you think about all the changes that have gone on at Cessna, right, I mean in terms of the manufacturing workforce, isn't it about 40% have been let go? How do you think about managing that company into the next upturn and how do you prepare yourself for that when that happens?

Scott Donnelly

Obviously, we took out almost half of the labors there. It was the only way to rapidly scale the business. Now the good news is that the fundamental capital equipment, the capability to ramp that thing up frankly over 500 jets, which is what we've put in place going into 2009, is still there. So when you think about hard capital, and metal bonding, and paint shops, and assembly capacity, it's all there. Obviously, a big part of any ramp-up will include our supply base. An awful lot of the technology, the engines, the avionics systems and what not, are sourced product and as we think about our 2010 forecast and then based on where the market is going and we think about how that is going to grow as it goes through its normal cycle, following year's corporate profits, an awful lot of the work will have to be done with work with our supply base in anticipation of that ramp.

I'd suspect that if you talk to those guys you will find very much the same story. The physical capacity is in place and we've all had to ramp down in terms of our employment just to scale it back. So I think as you think about ramping this up, frankly we think we are long way from our getting to a point where you're testing the capacity that's in place either at our shop or at our supplier shop. So I just think it's going to have to be a reasonable job of forecasting and the basic plant and equipments in place to do it.

Ronald Epstein - Bank of America Securities-Merrill Lynch

Do you expect for the next ramp up that Cessna would be less vertically integrated than it is today? Cessna notoriously has been pretty vertically integrated, right, as you move into the next ramp up will you try to do more outsourcing?

Scott Donnelly

I will tell you one of the things we want to focus on here as we go through the cycle is making sure that we improve our cost position, so we're going to put a lot of energy into that. Whether that's outsourcing, whether it's changing our footprints, I mean these are all things we have to look at in terms of making sure we are going to be very, very cost competitive as we go into the next cycle. So if the right answer is to outsource, in order to get the right cost position, then that's certainly something we're open to doing. In the end it all comes down to being, what's the right decision to really reduce our cost base and make sure we're still competitive.

Lewis Campbell

This is Lewis. The thing I'd add there is, this isn't the first time we've had to do this, it's a more major downturn than we've seen relative to the volume and the workforce we had in place when we had to take it down, but Jack Pelton's been through one cycle and many of the Cessna guys have been through two. So if you put on a worry list of the top 10, I wouldn't even have the ramp-up on the worry list, because we're good at that. We're a preferred customer by our suppliers. We're a preferred place to work for our employees. Actually as Scott said, we'll end up being more efficient as we ramp back up, because when you're turning it down you find areas of waste that you just overlooked or didn't have time to get to. So we pretty much got rid of all of those. So I expect us to come back a lot more lean and mean than when we went into the downturn.

Operator

Our next question comes from the line of Robert Stallard from Macquarie.

Robert Stallard - Macquarie

Just to follow up on Ron's question on Cessna. I was wondering if you could comment on how the international versus domestic demand has been shaping out, because, Scott as you said, in the past corporate profits tends to be the major driver, but if you look overseas there could be slightly different nuances driving demand?

Scott Donnelly

Absolutely, Robert. There is no question that as we've seen customers coming in and placing orders for 2009 aircraft and 2010 aircraft here over the last few months as it started to sort of strengthen, the bulk of that has been driven by international customers. I think it's just a phenomenon that if you look at the countries around the world, whose economies are recovering faster going through the cycle, it's those who are driven by either energy or commodities.

So if you look at where the demand is coming from, as you'd sort of expect, that's where we're seeing the bulk of the folks that are coming back into the market the fastest. I would expect the US economy, if it's really going to recover on what most economists look at, that's where we would say you'd would start to see strengthening in that order book really probably not till mid to late 2010 for 2011 and on deliveries. I think if you look at just the corporate profits and how that drives the jet cycle, and you make some allowance for the fact that some economies recover faster than others, I think that's the behavior we're seeing. So it is largely internationally driven, but we're starting to see inquiries on the US side.

Robert Stallard - Macquarie

Quickly to follow-up on the Textron Systems. 13.5% margins in the quarter as Cai was saying that's very good. You said Lycoming was down, defense was up, are there any other unusual items we should be aware of that you don't expect to be there going forward?:

Scott Donnelly

Nothing in particular, Rob.

Frank Connor

Nothing predictable, Rob.

Robert Stallard - Macquarie

So, you think that is a fairly sustainable rate then going forward from here?

Scott Donnelly

13.5% is awfully strong in a military business. There is no question that we have some contracts that are multi-year deals, where we've been able to drive a lot of cross productivity and drive improvement that put that out there. So I would say it's probably at the high end of the range, but I mean it's a business that is going to clearly stay a solid double-digit business.

Frank Connor

It's just above the upper end obviously of the longer term profitability ranges that we've given to you before.

Operator

Our next question will come from the line of David Straus from UBS.

David Straus - UBS

I know you haven't given us your delivery specific forecast Cessna for 2010, but can you give us a sense on whatever forecast that may be how sold you actually are on it?

Frank Connor

We are able to, we're not sure we want to.

Scott Donnelly

We really don't at this point. We haven't. Honestly, as we got a couple of months here left in the year, the market is changing, certainly has been strengthening here over the past few quarters. I think this month or this past quarter where we saw five orders in '10, and no cancellations in '10, is a positive sign for us.

We'd really like to be able to take the next couple of quarters of information and come out with a much more credible view of what we think is going to happen in 2010. So, in terms of our sold positions, depending on how things play out, if you look at, what we consider high-risk aircraft, are they going to stay in the sold, or are they going to turn into some cancellations, there is still a lot of variability around that. I would say at this point it is probably not different than a lot of historical years.

Frank Connor

That's right.

Scott Donnelly

When you look at Cessna, I mean, I think we're coming through a period here where we had years of sold out, which is quite unusual for the market, and we would expect to go back into a mode here in the future that is more normal, where you might have 70% or 80% of your backlog for the year sold out as you head into it and the remaining 20% or 30% is done along the year.

David Straus - UBS

Okay. That's good color. The $838 million in non-accruals, how reserved are you against that? I know you talked about the $302 million lost provision, but what about mark to market reserves or anything else beyond that loss provision?

Scott Donnelly

Well, the mark-to-market of course is a separate account, not covered there. So the reserves, the general provisions of $302 million are only against those assets that are held for investment. The mark-to-market number we're looking up for you right now. We'll have to get that back out here for you later. Just to give you some color on the non-accruals, I mean it's important to understand that non-accruals can get in there because they're either 90-day delinquent or because we are using our judgment based on our belief that we may not recover full principal and interest on the account. So if you look at those non-accruals we're still sitting in a position right now where about half of those non-accruals are actually performing accounts. So they are paying, but we're concerned in the future that we may not get full principal and interest.

So beyond that, of course, we sit down and we look at every single one of those non-accruals and a portion, appropriate reserves, based on of course underlying collateral value and what we believe a workout scenario would result and in terms of our actual losses and that is the reserve we would post. So when you look at that $302 million, that's the reserves that we have posted against the bulk of probably of our accounts that are non-accrual, but also from a general reserves.

David Straus - UBS

Last one on the cash flow side, what are you assuming now for cash restructuring spend, and then also pension in '09 and maybe into '10 as well, if you have that.

Scott Donnelly

The pension, as we finished the year here, doesn't require cash contribution till 2011. So there is no cash requirement in 2010.

Frank Connor

We have our normal cash contributions of like $75 million or $80 million.

Scott Donnelly

Right. So there's no required commitment to put more cash in to cover the obligations based on the way the pension accounting works. So that is a 2011 requirement. In terms of cash in 2010, we don't have that number for you, yet. Frankly, we're still working and looking at what the total restructuring program would be and that's something that we'll probably give you guidance on when we get to the January call.

David Straus - UBS

Okay. I think you had said $150 million in cash spend in '09 on $200 million but now you're at $240 million. I assume that bumped up a little bit.

Scott Donnelly

In terms of the amount of cash?

David Straus - UBS

Yes, cash '09.

Frank Connor

I gave the cash. That was the $150 million for the year.

David Straus - UBS

Okay. So no change.

Scott Donnelly

That's total reflecting the $240 million.

Operator

Our next question comes from the line of Shannon O'Callaghan from Barclays Capital.

Shannon O'Callaghan - Barclays Capital

Couple of questions on TFC. The cash conversion actually got better this quarter. I know you keep saying we expect it to trend down, but we're still at 95% now for the quarter, and then you look at charge-offs, and you guys earlier in the year were talking about charge-offs of 3.5% this year, and we're still nowhere near that. So, I mean, when do you really expect to see these things head in the direction you're talking about and why do you think they have been better so far?

Scott Donnelly

Well, I think that if you look at where the bulk of the liquidation has come from in the distribution finance world, we've done better than we would have expected in terms of realizing value on those assets as we have done the liquidations, but I think when you think about going forward and looking at things like golf and resort, those are the kind of asset classes that frankly we think will be a little bit more challenged in term of the value that we get compared to the receivables balance. So, that's what has led us to strengthen the reserve, the loss provisions.

As we think about the total unlined, we certainly expect that we will see some higher losses and lower cash conversion rates going forward. So that's arguably probably a conservative view, but we don't have as good an insight yet in areas like golf or resort, and we want to make sure that we set the right expectations in terms of what the overall losses are as we continue this multi-year liquidation. We just want to make sure that we're clear with you guys and make sure that we stay in the box, it's kind of how I think about it in terms of making sure that we never get into a position where we have to infuse any equity into TFC.

Shannon O'Callaghan - Barclays Capital

Okay. Then on Cessna, in terms of the production, when does production trough essentially on a quarterly basis at Cessna?

Scott Donnelly

I think we're kind of there now. As we came out of the shutdowns in July time frame, we really set production rates at what our expectations were on a go-forward basis. Now, a lot of that is also managed through furloughs of specific model lines and thinks like that. So, again as we go through the balance of this year and determine what we think is really going to happen in 2010, obviously, one of the things we have to look at is what happens to the white tails this year.

As I said earlier, there is a possibility that we could eat into a few of those. If we continue to see some of the strengthening we've seen in 2009 and as a result we would make appropriate adjustments in the production lines going into 2010, but I think they would pretty modest to be honest with you and it largely would be achieved by potentially reducing some of the furloughs on specific lines. For the most part we have the material, and our suppliers have materials, so we could flex a few jets here or there.

Frank Connor

Before we go to the next question I just wanted to respond to David's question about the mark-to-market reserve. We're at $212 million in that category. So Cynthia we're ready for the neck question.

Operator

That will come from the line of Steve Tusa from JPMorgan, please go ahead.

Steve Tusa - JPMorgan

Just quickly on TFC, the cash flow statement, you have $745 million of finance receivables repaid and then $660 million of receivables purchased or originated. What are the dynamics there, what does the $663 represent to cash outflow?

Frank Connor

I think it primarily relates to aircraft and private brand and other captive originations, Steve?

Steve Tusa - JPMorgan

Then when you look at the captive receivables, they still went down, I think.

Frank Connor

Well, that's the net number.

Steve Tusa - JPMorgan

Got you. Okay. So when you look out for Cessna, could you just give an update on the white tails, and is there any kind of change as to, given that you're getting a few more orders now, which is pretty encouraging, is there any change in the details around the white tails you'll have at the end of the year? Also I know this is kind of crazy to be asking it at this stage of the game, but any orders that you're seeing from China at all? I know one of your competitors talked about a few orders. Anything percolating there?

Scott Donnelly

Well, first of all, the guidance that we had around sort of 275, left us with about 30 white tails for the year. I do think if we do continue to see the deliveries, the orders, the overall market condition that we've seem to have seen here for the last couple of quarters I do believe we can beat the 275. So, I mean, we're talking about maybe three or four airplanes, something like that. So that would eat into the 30 white tails we have over the end of the years. That's, obviously, still a lot of moving pieces there in terms of what's going on with deliveries, but I do think we probably will exceed the 275 modestly.

In terms of China specifically, Steve, I know we had an order here just recently of several Sovereigns into China. So there is no question that the government over there is; a, they're taking some deliveries of aircraft and they continue to be very vocal in supporting the growth of GA in the marketplace.

Steve Tusa - JPMorgan

And several means what?

Scott Donnelly

We had three Sovereigns that are 2010 deliveries at this time.

Steve Tusa - JPMorgan

Got you.

Frank Connor

Steve don't forget, we've sold single-engine piston aircraft in there for their training schools, so we've got some pretty good future orders we'd expect bade based on the fact that pilots learn to fly on our aircraft.

Steve Tusa - JPMorgan

Is there any way to get some level of inquiries or anything like that to kind of give us a look at whether it's just kind of a one-off or if there is something little more sustainable here?

Scott Donnelly

Steve, there probably is. I mean I don't have that data in front of me, but it's certainly something that we can take a look at, maybe talk about on the next call if you would like.

Steve Tusa - JPMorgan

One last quick question on TFC.

Frank Connor

Let me mention one thing qualitatively, because I think this China story might be getting a little ahead of itself. It is a huge potential market. There are early things beginning to happen over there that may signal that over time the skies are going to open up and that that business will develop, but it's going to take time, not only from a regulatory perspective but also from an infrastructure and pilot availability and all of that sort of things. So it's a very excellent long-term story, but it's going to take some time yet.

Steve Tusa - JPMorgan

Certainly, I agree with you there. One last question on TFC. Are you extending some of these some of these receivables with the customers you have either in distribution finance or some of the other things you are winding down. If you are extending some of these deals, are you pricing appropriately for the risk of maintaining a relationship with these guys going forward, and if you could give us any idea of the magnitude of that pricing, or is it just, the guys who can't pay you today, extend them, and at similar terms until they can get the cash, or until they can find somebody else to fund their business?

Scott Donnelly

Steve, generally speaking, we put the letters out there telling folks that we aren't going to be there and we are not going to do any more financing and we've pretty much held to that. so if you look at originations in DFG, those have been limited to the contractual obligations we had in our private brands business, and the pricing was as negotiated in those terms. Of curse, as you know, those are either ending or we've been successful at trying to transition those to other sources of funding.

Generally speaking, other dealers with whom we did not have a contractual, private brands type of relationship, we have not been financing them. In fact that has resulted into obviously some difficult business decisions, but we are exiting and not participating in that kind of forward funding.

Doug Wilburne

Cynthia, we're getting close to the top of the hour here, I know we have several folks in queue yet, but we only have time for about one more call and the folk in queue, if you call us the IR office, we'll be happy to service your questions, as well. Go ahead, Cynthia.

Operator

That will come from the line of Steve Levenson from Stifel.

Steve Levenson - Stifel

You talked about outsourcing or lack of outsourcing at Cessna. Can tell us what the strategy is at Bell? It looks like from some contracts that you've been awarded it might be getting little bigger there.

Scott Donnelly

I want to be clear on this notion of insourcing or outsourcing, and whether it is Cessna, or Bell, or all of our businesses, for that matter. I mean as we look at our cost structure, obviously, we have a big focus on trying to reduce that on a go-forward basis, and so we look every time at our make buy decisions, is it more cost effective for us to do something inside or outside.

So that's a pretty rigorous process. So I wouldn't say that I just really have a bias to say, I am going to do things outside or I am going to do things inside. We look at it on a pure economic basis. If we can find a way to get the cost and drive the cost lower that uses capability we already have inside that's great, if it's a cheaper and more cost effective way to do it on the outside, then we'll absolutely support doing it on the outside.

Doug Wilburne

Thank you, ladies and gentlemen. Have a good day.

Operator

Ladies and gentlemen, that does conclude your conference call for today. Thank you for your participation and for using ATT Executive Teleconference Service. You may now disconnect.

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