General Dynamics Corporation Q3 2009 Earnings Call Transcript

Oct.28.09 | About: General Dynamics (GD)

General Dynamics Corporation (NYSE:GD)

Q3 2009 Earnings Call

October 28, 2009 11:30 am ET

Executives

Amy Gilliland – Staff Vice President Investor Relations

Jay L. Johnson – President, Chief Executive Officer & Director

L. Hugh Redd – Chief Financial Officer & Senior Vice President

Analysts

Heidi Wood – Morgan Stanley

Douglas Harned – Sanford C. Bernstein

Robert Spingarn – Credit Suisse

Richard Safran – Buckingham Research

Sam Pearlstein – Wells Fargo Securities, LLC

Noah Poponak – Goldman Sachs

Howard Rubel – Jefferies & Co.

Cai von Rumohr – Cowen & Company

Myles Walton – Oppenheimer & Co.

Joseph Nadol – J. P. Morgan

Robert Stallard – Macquarie Research Equities

Troy Lahr – Stifel Nicolaus & Company, Inc.

David Strauss – UBS

Ronald Epstein – Bank of America Merrill Lynch

Operator

Welcome to the Q3 2009 General Dynamics earnings conference call. At this time all participants are in a listen only mode. We will conduct a question and answer session towards the end of this conference. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Ms. Amy Gilliland, Staff Vice President Investor Relations.

Amy Gilliland

Welcome to the General Dynamics third quarter conference call. I want to remind listeners that as always, any forward-looking statements made today represent our best estimates regarding the company’s outlooks. These estimates are subject to some risk and uncertainties. Additional information regarding these factors is contained in the company’s 10K and 10Q filings. With that, I’d like to turn the call over to our President and Chief Executive Officer Jay Johnson.

Jay L. Johnson

General Dynamics exceeded expectations in the third quarter on very good operational performance. Sales totaled $7.7 billion up more than 8% from the third quarter of last year. We had particularly strong growth across our defense businesses. Our defense portfolio delivered 14% top line growth when compared with the third quarter last year, 12% of which was organic. In addition, their operating earnings were up 14% driven by excellent operational performance across each of our three defense business groups. On the other hand, in the aerospace group, the scheduled five week furlough at Gulfstream caused a double digit reduction in sales somewhat offset by nearly $300 million in jet aviation sales.

Margins were better than I expected across the company, particularly on the defense side but frankly the aerospace group outperformed by expectations as well. This business has done an excellent job of cutting indirect costs and managing the business to preserve profitability even in light of the five week furlough. On a fully diluted basis, third quarter earnings per share from continuing operations were $1.48. Although down from last year’s $1.59 it was a good performance given the five week shut down at Gulfstream.

Third quarter free cash flow after capital expenditures was $513 million which represents 89% of earnings from continuing operations. Cash was strong across the company including aerospace. I should note that this cash result also includes a cash payment of $250 million to our pension plan. I expect much strong cash generation in the fourth quarter and while we’ve set a tough hurdle for the fourth quarter cash I still believe it’s possible to get close to a one-to-one conversion for the year.

Return on invested capital was 18.3%, 10 basis points above third quarter last year. Orders this quarter topped $7 billion, the strongest quarter so far this year with particularly strong activity in our combat systems and information systems and technology groups. At quarter end total backlog was $66 billion, down 2% from the second quarter but up nearly 10% from third quarter 2008.

I’d now like to spend some time discussing the performance and outlook for the rest of the year in each of our business segments starting with our three defense groups. Let’s talk about combat systems first. Combat systems experienced double digit growth in both sales and earnings this quarter. Sales were nearly $2.4 billion, a 27% increase over the same period last year. Of that growth, 22% was organic. Organic growth was driven primarily by strength across combat’s portfolio including increased volume on Stryker and Abrams, guns and weapons systems and several European vehicle programs. The remainder of the growth came from the addition of AxleTech to the group’s portfolio.

The group’s earnings totaled $316 million a nearly 21% year-over-year increase. Each of the four combat system businesses contributed to the earnings growth with particular strength at Armament Technical Products and European Land Systems. Margins were 13.5%, 100 basis points higher than the second quarter. Margin performance resulted from the group’s strong sales volume and continuous improvement initiatives.

With the addition of more than $2 billion in orders, total backlog for combat systems increased slightly to $12.9 billion. Notable contract awards during the quarter included $647 million for production of another 352 Stryker vehicles, $301 million in Stryker contractor logistic support and $160 million for international ammunition. The Stryker orders in the quarter are intended to fill existing customer requirements. In addition to these orders the Army recently announced the conversion of one heavy brigade combat team to a Stryker brigade in the near term. The Army has also discussed addition conversions in the future. We believe the Army will continue to emphasize fielding what is available, affordable and technically feasible while maximizing the use of existing platforms.

International vehicle volume including armoured vehicle and tank sales to Saudi Arabia, Iraq and Canada will also begin to grow in 2010 with particular strength in 2011 and beyond. In each of these programs we are continuing to make progress. In Saudi Arabia we received a $7 million contract to continuing engineering work on the tank upgrades and we believe that it is likely we will secure the light armoured vehicle contract by year end.

In Iraq we continue to make progress on the sale of 140 Abrams tanks and associated logistics support. In Canada it appears likely that we will see an initial engineering contract on the labs by year end. 2010 will also offer several new international vehicle opportunities including competition to build several hundred UK FRES reconnaissance vehicles, Spanish 8X8 armoured vehicles and Canadian armoured patrol and combat vehicles.

Looking forward the group will have its strongest sales and earnings of the year in the fourth quarter due to large part to European Land Systems. For the year sales will be up about 21% over 2008 while margins for the year will be 12.5% to 12.7%.

Marine systems group has another could quarter marked by several milestones including deliver of DDG 108 and T-AKE 8, the launch of T-AKE 9, the start of construction on T-AKE 12 and last week’s completion of builders trials for our first LCS. The group’s third quarter sales were up 8% at $1.5 billion. Earnings which totaled $155 million were up almost 11% over last year’s quarter. The earnings growth is particularly noteworthy as third quarter 2008 earnings were up 27% when compared to 2007.

Sales and earnings growth was driven by the continued ramp to two per year Virginia-class submarines at Electric Boat, higher repair volume and increased booking rates on several programs. The marine systems group achieved another 10% margin quarter driven by excellent performance at each of our yards but most particularly at NASSCO. The yard’s performance is the result of hard work from the deck plates all the way to the senior leadership team. This stellar execution has also been enhanced in our investment in key facility improvements.

Marine’s backlog totaled nearly $23.5 billion at the end of the third quarter, down slightly from the second quarter but up more than 100% when compared to last year. The Navy shipbuilding plan appears to be well supported in the 2010 budget process. Virginia-class submarines, the Trident SSBN replacement program and the third DDG 1000 have been fully funded thus fair in the process. T-AKE’s 13 and 14 for which we already have advance procurement funding were fully supported in the authorization conference bill and in one of the two appropriations bills. Our customer has reiterated the importance of funding both ships this year.

Looking forward to the fourth quarter, sales will improve slightly but second half sales will not be quite as strong as the first half of 2009. For the year, sales should be up approximately 15% compared with last year. Given their results to date, I believe that marine systems will achieve 10% margins this year.

IS&T enjoyed a very solid third quarter. Sales and earnings were up in each of the businesses compared to last year. IS&T sales were $2.7 billion, up nearly 9% over third quarter 2008 and year-to-date. Organic growth was nearly 6% in the quarter and 6.5% year-to-date. The group’s second quarter operating earnings were $296 million, up nearly 10% year-over-year. Operating margins at 10.8% were 10 basis points better year-over-year and sequentially. This performance exceeded my expectations and was in large part driven by significant margin improvement at our ISR business, Advanced Information Systems.

Backlog for the group increased to $10.6 billion because of $3.1 billion in order activity across the IS&T businesses including approximately $340 million in new cyber work and $1.2 billion in orders for IT services for a variety of customers. The groups’ book-to-bill totaled 1.13 times for the third quarter and is a healthy 1.05 times for the first three quarters of 2009. IS&T also increased potential contract value by $650 million this quarter the majority of which will translates to backlog over time.

Several key IS&T developmental products performed well in testing in the third quarter including WIN-T, JTRS and the LCS combat system suite. WIN-T increment two which will provide tactical communications on the move and our JTRS hand held manpack small form factor HMS program which will provide significantly enhanced networking capability to the dismounted ground solider. Both performed extremely well in field testing moving both of these products closer to production. JTRS HMS also successfully added the solider radio wave form to our rifleman radio and manpack. A tactical network is at the center of the future development plants and our products are squarely on schedule and meeting all objectives.

We also added Axsys to our IS&T portfolio in September. We are very pleased with this acquisition which brings exceptional technologies, strong operating margin and a great opportunity to enhance product offerings in the fast growing tactical ISR space. Axsys will be nicely accretive in 2010. Fourth quarters sales should be up over third quarter but margins will decline. For the full year IS&T is on track to achieve 8% to 9% sales growth over last year with margins between 10.4% and 10.5%.

The aerospace group held its own again this quarter despite the five weeks Savannah furlough which significantly curtailed new aircraft volume. As a result, the group’s sales totaled $1.1 billion down $295 million from the second quarter and $252 million from last year’s third quarter. Earnings totaled $125 million obviously driven by fewer deliveries. The decrease in sales drove margin compression at Gulfstream through unabsorbed overhead. Modest losses on pre-owned sales and lower aircraft service margins also contributed to the reduction in overall margins.

We have four remaining pre-owned aircraft in inventory after selling three aircraft this quarter and taking in one. This reduced inventory by half to $62 million. We anticipate taking two additional aircraft before yearend. Without the impact of pre-owned, Gulfstream’s margins were 15.5% in the quarter, not bad in this environment.

Although aircraft service volume steadied in the quarter, competitive pricing and the deferral of larger, more profitable maintenance jobs continued. I am cautiously optimistic on the outlook for our service business where current demand has returned our service centers to full work weeks. Jets’ sales and earnings were essentially flat from last quarter although the business continues to make tangible progress in their completions operations with noted improvements in both schedule and cost performance.

Newly implemented management controls and production discipline are gaining traction. The business jet market has steadied and is seemingly on course towards recovery. Order activity and interest continue to improve with particularly strong demand in international markets for our large aircraft. Orders were stronger this quarter than last, again outpacing customer defaults. On an absolute basis, dollar denominated book-to-bill this quarter was a healthy 1.5 times. This does not include defaults that reflected continued weakness mostly in the midsized market.

Backlog remains a robust $19 billion. We are on pace to meet our 2009 production goals. Continued strength in order activity and my weekly review of the group’s backlog also make me comfortable with our initial projection for low 70s large cabin production again in 2010. Large cabin spots are sold out next year. Large aircraft are also sold well through 2011 and in to 2012 for some models which provides upside to 2010 production estimates. Midsized production remains unsettled and may decline next year although order activity in this segment was more promising in the third quarter. That said, mid cabin activity represents a small portion of Gulfstream sales and earnings.

Our production development efforts met several exciting milestones last quarter. In late September we rolled out the new G650 aircraft under its own power. One week later we did the same for the G250. These two aircrafts are completing preparations for first flight and I expect them both to fly before yearend. We are encouraged by the success we’ve enjoyed thus far with each aircraft.

The group sales will grow approximately 16% from the third quarter to the fourth quarter and earnings should grow faster. For the full year, sales will be down approximately 4% while operating margins will be between 13.2% and 13.4%.

In summary, General Dynamics continues to perform very well and is positioned to have a good fourth quarter. For the year we anticipate sales growth of 11% and operating earnings margin slightly in excess of 11%. I expect earnings per share from continuing operations to be $615 to $620, an increase from my prior guidance. At this time I think it’s more likely to come out at the lower end of that range and frankly, anything north of $620 at this time I think venturesome.

We’re now in the midst of operations reviews for next year. I’m not prepared to provide 2010 guidance today as is our practice every year to do it this way. The defense environment remains extremely dynamic as the administration continues to contemplate our nation’s strategy in Afghanistan, the 2010 appropriations and authorizations bills proceed through congress and the pentagon wraps up the quadrennial defense review in anticipation of the 2011 and future years defense program budget submission.

Thus far, GD’s programs have received solid support in the 2010 budget process. While we await outcome of these reviews, it is clear to me that the fundamental need to fully equipped our forces has not changed. The world is an increasingly dangerous place and our armed force must have modern and capable systems in sufficient quantity. Secretary Gates continues to emphasize the importance of slow and steady growth in the defense budget with a focus on investing in 75% solution weapon systems that meet requirements across a broad spectrum of threats.

In this tough fiscal environment, the equipment that is most relevant to the war fighter will prevail. GD’s products are at the center of today’s fight and we continue to evolve our offerings to provide incremental capabilities that enhance war fighter effectiveness and make fiscal sense for tax payers. In short, I am confident our defense programs will emerge well supported from current budget considerations.

As I look to 2010, I can tell you that the defense businesses already have a very solid book of work next year and the recovering business jet market provides some upside opportunity for aerospace. Our diverse portfolio, strong balance sheet and commitment to earnings and cash generation position us well to provide relevant products for our customers while creating significant shareholder value. With that, I’ll now ask Hugh Redd to touch on several key financial highlights.

L. Hugh Redd

There are a few items I’d like to draw to your attention in our third quarter results. First, in operating earnings as detailed on exhibit C to the earnings release you’ll note corporate operating expense of $18 million for the quarter. This is net of a $5 million gain on an asset sale. I expect corporate operating earnings for the fourth quarter to be in the $22 million to $23 million range which is more consistent with prior quarters.

The second item is the other expense of $6 million in the quarter. This relates primarily to transaction costs associated with acquisition activity. As you are aware new accounting rules which took effect this year require acquisition costs to be expensed rather than included in the purchase price.

Next, net interest expense was up $29 million in the quarter and up $75 million for the first nine months. Interest expense was higher due to a $3.1 billion increase in net debt over the past year resulting from acquisitions and share repurchases. Interest expense was $40 million for the quarter and so far this year we are averaging about $39 million per quarter. Accordingly, I expect net interest expense for the full year to be closer to $160 million rather than the $150 million I had previously given you.

Finally, I would like to point out that the effective tax rate for the first nine months of the year is 31.3% which is in line with our expectation of a 31.5% rate. I continue to expect the full year rate to be within 10 basis point plus or minus of 31.5%. That completes my remarks and Amy I’ll turn it back to you to begin the Q&A.

Amy Gilliland

As a quick reminder we ask participants to ask only one question so that everyone has an opportunity to participate. If you have additional questions please get back in the queue.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Heidi Wood – Morgan Stanley.

Heidi Wood – Morgan Stanley

Jay, you talked about jet, can you give us an update? You talked about progress but can you tell us what kind of margins you’re realizing now and where that is expected to go as you look ahead in to 2010? Maybe you can flush out thoroughly but the puts and takes for 2010?

Jay L. Johnson

I mentioned in my remarks and I’ve told you before that jet, we’re working through some operational challenges at jet aviation. That’s still an accurate statement but as I also said, the progress we’re making is very tangible and we go over there once a quarter over to Basel to observe and learn. I would tell you that right now obviously they’re single digit in their margins. I’m very confident that we’ll take jet aviation to double digit margins, I am very confident of that. But, if you ask me to put a timeline on it, I’m not going to do that for you today. It’s slow, it’s steady.

As you know a lot of the work they do particularly in the completions, the wide body narrow body completions are huge projects that take a long time to work through. Patience in one sense is the order of the day but the sideline is very clear and the progress is very steady. The MRO business, the FBO business is beginning to see the trending back upward that I described a bit earlier so we have good downrange confidence there. Jet is a great addition to our aerospace portfolio and I’m very confident in going forward. The completions business will be very strong and I’m looking for great steady progress throughout the next year.

Heidi Wood – Morgan Stanley

Marine had some pretty nice margins again this quarter. Was there any onetime cumulative catch up adjustments in the quarter.

Jay L. Johnson

No, no, not at all. It was just good work all across all three yards.

Operator

Your next question comes from Douglas Harned – Sanford C. Bernstein.

Douglas Harned – Sanford C. Bernstein

On Gulfstream when you say that you are sold out on large cabin for 2010, what does that mean? Sold out on what level? I know you’re looking for something in the low 70s but presumably that would be sold out at the higher rate you use to discuss before?

Jay L. Johnson

Let’s just say that the backlog that I track every week with the leadership at Gulfstream, the state charts we go through, I’ve got a green box in every aircraft slot. I’ll just stay with the production numbers that I’ve given you that say we’re going to be in the low 70s next year with some potential upside and I’m very confident with that.

Douglas Harned – Sanford C. Bernstein

Then on the G250, give the weakness you’re seeing in the midsized, how are you looking at that? Have you firmed up at all your outlook for what deliveries might be for that airplane?

Jay L. Johnson

It’s a little bit soon for me to really worry about that and worry is not the right word but it’s not in the center of my radar scope right now. I mean, we’re taking orders for the 250, we’ve got first flight this year, it’s a late ’11 arrival entry in to service. So I’m confident if you look at the market that’s out there and the movement we’re starting to see even in the mid cabin [inaudible] prior owned sales and the white tails that are out there I think by the time we get to where orders are really important to the 250 we’re going to be in the sweet spot.

Operator

Your next question comes from Robert Spingarn – Credit Suisse.

Robert Spingarn – Credit Suisse

Could you talk a little bit about the backlog shrinkage at marine? You talked about funding for T-AKE 13 and 14 and how you expect backlog to flow? And, perhaps a couple of comments on how the commercial business is tracking? Finally, do you see any vulnerabilities in the long term shipbuilding plan?

Jay L. Johnson

Rob, the marine backlog I’m sure you’ve probably heard Nick say this and probably heard me say it too, tends to come at you a little bit lumpy from time-to-time but it’s a very robust backlog and we’re quite comfortable with that. I would tell you that – let me just review it a little bit. The DDG 1000, the first one is in the build up at Bath, I think everyone knows that. We’re working the contracts on the second two as we speak. The DDG 51, we’ve got three in completion up at Bath right now and we’re looking according to the earlier statements by the Sec Def we’re looking for a 2011 DG 51 there.

So Bath’s got plenty on their plate in addition to the LCS down in [inaudible] where Bath is priming right now where we’ve got independents as I just mentioned in my remarks. Those completed builders’ trials last week, they do Navy acceptance trials next month and then on we go. The second one is in the build down there, we’re redoing the contract for the Navy right now on the next 10 and so it goes. But, that’s a 55 ship program still by the Navy’s requirements statements.

Electric Boat, you know we’ve accelerated and that’s part of the margin discussion earlier, we accelerated the Virginia-class in to the first half of the year, perhaps a little bit more. That’s why again, it’s just timing and flow but we’re very busy on Block 3 and Block 2 completions up at EB with our partner and we’re also looking forward to the two a year starting in 2011. All that’s on stride, we’re doing the SSBN replacement initial engineering work right now here and with the UK so EB has got a full plate right now.

And, at NASSCO, specific to your question on the commercial side, you know we’re building the T-AKEs, I mentioned that, 13 and 14 as I told you. We’ve got a long lead for both of them. The customer is very supportive of us getting full funding for both of them in this budget and we’ll see what we get. But, either way we’re in the build through 12 right now and we’ll build 13 and 14 in order.

The product carriers, we have the five, two delivered I believe and three to go all coming along handsomely. The option for the next four has not been triggered as you know so we’re still marketing that. There could be some impact if we don’t get those four here in the next year, it would affect the loading certainly, the overhead at NASSCO. But, I have every confidence we’re very good out there at matching volume with cost so we know how to manage that if we have to.

That said, I would tell you that there’s considerable discussion and I think the QDR will probably be an elemental piece of that in terms of future work for NASSCO as it applies to one, the T-AKE line, a T-AKE or a T-AKE like ship for the Navy’s downstream requirements and then we’ll also see on the product carrier side, it’s interesting, you know about the Jones Act, the Jones Act ships that are out there in large number, I think well over half of them are over 25 to 27 years old. So, that fleet is going to have to be freshed at some point here. We’re talking timing, we’re talking outcomes in the budget and all that I realize but I think the overall shipbuilding picture is a very positive one for us across all three yards.

Operator

Your next question comes from Richard Safran – Buckingham Research.

Richard Safran – Buckingham Research

Just a question on cash, a two parter, your share count came in just a bit higher than I thought and I just wanted to know if you could go over if there were any headwinds in the quarter? But, more importantly and bigger picture, can you discuss what your intentions are for cash for this year?

Jay L. Johnson

The share count, I think the best way for me to say it is rest assured that the share count is a fundamental part of our scan pattern. I keep using that but I use to be a fighter pilot so it relates to my head. The scan pattern for this company in terms of the way we allocate and deploy our capital. It always has been, always will be. So, we’re mindful of the fact that the share count moves up slightly. But, if you look at us historically on share count absolute and fully diluted we really keep them in really tight bands.

The CFO and I look at that all of the time. That said, as it translates to this year, I will tell you that the priority for cash right now and I said it directly in my remarks, we expect a strong cash quarter in Q4 but you also heard me say that we’re going to be challenged to get ourselves to where we like to be in terms of 100% conversion of earnings in to cash. So, quite frankly, until I get myself to the point where I can see that from looking down on it instead of looking up at that 100% line, I’m going to be very much concerned with maintaining operationally liquidity.

Liquidity is our strength, it gives us the agility we need to be opportunistic next year, it gives us the ability to access the commercial paper market which is as you know really important to us to get deals done fast, etc. So, in the hierarchy of things we look at here, liquidity is clearly at the top of that list. I mentioned the pension, we made our $250 million contribution in cash to the pension fund this past quarter. We look at the dividend for the board, we look at acquisitions of the non-transformational type right now I would say and we look at share repurchases.

You’ll see us dealing with all of that at the right time. But again, to restate the obvious here for me, for us right now, it’s a matter of maintaining liquidity and getting our nose above the 100% water line on earnings to cash conversion.

Operator

Your next question comes from Sam Pearlstein – Wells Fargo Securities, LLC.

Sam Pearlstein – Wells Fargo Securities, LLC

I actually wanted to follow up that question on the cash flow because it just seems to be as you get closer to 100% net income that would certainly be a little bit better than I was expecting. Can you kind of talk about some of the moving pieces there? Customer advances and deposits grew pretty nicely in Q3 versus the prior quarter and yet the backlog shrunk so I don’t know if you can talk a little bit about that? Your cap ex expectations and are there any major projects on the horizons as to why we might see that grow in to next year?

Jay L. Johnson

Last thing first, I mean the cap ex will hold probably pretty flat for the rest of the year for sure. But, overall I think the biggest movement there to your question really goes right back to aerospace. That’s been the cash issue in large measure for this year with the market down turn so as the market comes back we would expect to see more cash coming out of aerospace and quite frankly we’re looking forward to it. Recall also that we’ve got in this quarter now, fourth quarter, I mentioned we’re going to fly the 650 for the first time and when we do the first 50 or so customers will be asked to provide another payment so that will feed in to the cash plan nicely as well.

Sam Pearlstein – Wells Fargo Securities, LLC

If I can just follow up in a separate sector within combat systems, can you size when you talked about some opportunities for additional Stryker brigade combat teams, can you just size what the potential is there?

Jay L. Johnson

I don’t think so Sam. I mean, it’s premature to do that, we’ve got the seven brigades now, they just announced the 8th. We’ve read in the press like you probably have that there may be more but that’s really the Army’s decision to make and when they do we’ll react accordingly. But clearly, the Stryker piece is a core element of combat going forward. In addition to the number of vehicles remember the other part of that which is the support, the combat logistics support that goes with that and also the reset for the vehicles that have been heavily used in combat, the recapitalization of that existing force and the modernization there too. There’s a lot going on in the Stryker world as there is in Abrams but specific to Stryker, I’ll stay with that.

Operator

Your next question comes from Noah Poponak – Goldman Sachs.

Noah Poponak – Goldman Sachs

I wanted to ask you about Gulfstream margins. In your prepared remarks it sounds like you were saying you were actually pretty pleasantly surprised with where the quarter came in but it look like you’re lowering your expectation for the full year. Can you talk about why that is? Is it jet coming along slower or what’s going on there?

Jay L. Johnson

I mean I could have left it where it is and have been close. But, we’re in the same ballpark but we may have a little bit of jet in there but I expect Gulfstream to be ever stronger quarter-by-quarter going forward.

Operator

Your next question comes from Howard Rubel – Jefferies & Co.

Howard Rubel – Jefferies & Co.

Jay, could you add a little more color to the IT business? I know you talked about some of the particular items but it looks as if you’ve been able to grow the business a little faster than the market. Is there something in there that really stands out?

Jay L. Johnson

Howard, I think the way that I would answer that is it is really pretty diverse across the portfolio. We’ve talked about kind of the fast currents in there with the tactical comms and I mentioned some of that in my opening so tactical comms are playing large in there. We’ve got tactical ISR and that was very strong for us this last quarter as I singled out AIS in terms of their margin improvement and the addition of Axsys to that portfolio. We’ve got a lot of IT services opportunity if you will in health IT and fed civ and don’t forget probably the one that crosses all of the IS&T portfolio that is big and ever bigger going forward is cyber. It really is Howard very well diversified across the whole IS&T portfolio.

Operator

Your next question comes from Cai von Rumohr – Cowen & Company.

Cai von Rumohr – Cowen & Company

Jay, you talked about gross book-to-bill at 1.5, the net book-to-bill was about .6, could you split that for us between the large biz jets and the midsized and give us some color on the strength in demand by geographies outside of the US?

Jay L. Johnson

The book-to-bill Cai, I’ll put it this way we have great – the order book exceeded the terminations and defaults book again. So it’s moving in the right direction on both ends of that equation. We’re not out of the default business quite obviously yet but we’re coming along. As far as the backlog and how that impacts, what we saw on the termination side if you will, the default termination side is really a mix honestly. It’s some in the large side but it’s weighted more heavily I would say to what you would expect and that’s the softness in the mid cabin market.

As to kind of a demographic if you will of the backlog itself, it really is staying pretty consistent here with perhaps if it’s trending at all it’s trending more to the international side. I don’t have a pie chart in front of me but I think it’s got to be able maybe less say 40% US/Canada kind of North America and 60% rest of world with a significant piece of that in the Asia Pacific and in Europe with South America picking up as well so it’s really diverse by geography. As I said before, it remains diverse by owner type if you will in that fully a third are individuals and fully a third of the backlog, actually a little more than a third are private companies. That’s kind of the lay down.

Operator

Your next question comes from Myles Walton – Oppenheimer & Co.

Myles Walton – Oppenheimer & Co.

Jay, one of the steady contributors to expanding segment margins the last few years has been marine and you’re fulfilling the promise of getting to that 10% bogie. What’s the new bogie or are we kind of hitting ourselves on the 10% line? I guess, what are the contributors to that? Is it more the second sub coming in to full production, is it going to swing on repair? If you can just give some color around that and what targets you’re passing along to the organizations.

Jay L. Johnson

It’s volume, it’s sales and it’s performance, it’s continuous improvement so I won’t give you a number because I don’t have a number but around here status quo is never good enough. So, today’s 10% we look to improve. Continuous improvement I’ve told you before it’s in our DNA here so we will never stop trying to improve the margins or the performance in any of our businesses but specific to marine that’s true for sure.

You mentioned repair and I mentioned it briefly in my remarks. The repair work is a significant book of business an important book of business within the marine systems group. We’ve talked on earlier occasions about NASSCO and the repair work that’s out there. NASSCO is actually prime on a number of different ship classes that we may or may not have built for repair out in the San Diego area and they’re in work right now on getting more of that work.

They’re increasing the fleet size in the San Diego area I think by 30% over the next four to five years and the numbers of ships go from 40 something to 60 something. So, as the fleet kind of realigns itself or the fleets realign themselves so repair work there is very significant as it is at Electric Boat and Bath Iron Works. The repair book is very important to us.

Operator

Your next question comes from Joseph Nadol – J. P. Morgan.

Joseph Nadol – J. P. Morgan

I just wanted to follow up again on the cash deployment and specifically the share repurchase. You didn’t buy back any stock this quarter and obviously we’re well down year-on-year from where we were a year ago. I’m wondering I guess just specific thoughts on that and some color on how as a company you’re approaching this in terms of I guess board interaction and I’m thinking of course Nick specifically versus management decisions on share repurchases. What’s the interaction there and how are you thinking about, you’ve made a lot of acquisitions the last 12 to 18 months, how are you thinking about next year?

Jay L. Johnson

Look Joe, as is our practice here, and if you look over your shoulder at us for the last, I don’t care six years maybe, just pick a time, you’ll see that we have a very active year with acquisitions and then we follow it with kind of, my words here, kind of a year of adjusting and settling and that’s kind of the rhythm that we’ve gotten ourselves in to. I’m comfortable with that rhythm right now. I think I mentioned earlier that we’ve got cash at a point that is not where we like to be in that I don’t see a clear sight line to exceeding 100% conversion earnings to cash for the year. Until I do, the number one thing on our list here is going to be operational liquidity.

But, make no mistake share repurchase is always a part of our scan pattern as is the dividend, as is the acquisition piece, the opportunistic acquisitions and the pension to which we applied $250 million this quarter. All of those things are looked at all the time here. I would also mention that in terms of the share count and the dilution and all that, it’s really been in very tight bands here if you look at us historically year-over-year. But, right now to give us the agility we need and to allow me to be opportunistic looking forward next year I need to bring the cash level up above 100% and that’s what this is all about.

Operator

Your next question comes from Robert Stallard – Macquarie Research Equities.

Robert Stallard – Macquarie Research Equities

Jay, a quick question on the combat systems, you mentioned some of the export opportunities you see out there for CS. If any of these get pushed to the right would it be fair to suggest that growth in combat systems next year could slow versus what you are seeing this year?

Jay L. Johnson

I don’t see it right now Rob honestly. Frankly, if some of the internationals move to the right, my view is they’re going to move in to 2010 not out of 2010. But anyway, I think for now I’m pretty comfortable with the flow if you will of the international programs. Remember, the Canadian program is on a fast track by their choice.

We’ve got a big year in the United Kingdom with the FRES contract that they’re trying to get nailed down here in the next few months and we’ve got Saudi Arabia, Iraq, we’ve got all of our FMS and indigenous international work targeted really, as I think I mentioned in my remarks, kind of more to a 2011/2012 timeline but 2010 should be teeing us up nicely. I don’t see it as a downer for growth if you will in combat systems. I’ll stand by what I said earlier, that portfolio is a slow, slow, steady powerful growth business for General Dynamics.

Operator

Your next question comes from Troy Lahr – Stifel Nicolaus & Company, Inc.

Troy Lahr – Stifel Nicolaus & Company, Inc.

I’m wondering if you can just give us an update on LCS, I think you finished builder sea trials, kind of how did that go and what’s some of the feedback you’re getting from the customer?

Jay L. Johnson

We did complete builder sea trials, builders’ trials last week. My somewhat subjective answer to your question would be is it performed beautifully. It’s fast, it’s sleek, it’s seaworthy, it’s got great capability and we are very impressed with my own ship if you don’t mind me saying that. So, okay, I think the customer was satisfied at that point. Obviously they were because we’re now moving in to acceptance trials in serv by another name. The acceptance trials which start, don’t hold me to this, but it’s mid November plus or minus a little so that’s all on track and then once that completes we’ll turn it over to the customer and be on our way with the next one that’s already in the build down there. Overall, it’s a wonderful platform of great capability and we look forward to providing lots of them to our customer.

Operator

Your next question comes from David Strauss – UBS.

David Strauss – UBS

Jay or Hugh, could you just touch on pension going forward. Obviously the $250 million contribution this quarter but I think at the end of last year you were close to $3 billion under funded. Just what you’re looking at from a contribution standpoint given PPA and CAS harmonization?

Jay L. Johnson

Right now David what we’re looking at, we gave the $250 this year, we’re looking at I think just a little north of that next year, $260ish. Then, after that it gets up around the $500 something for probably four or five years. That’s present conditions and that’s not really understanding the final lay down on CAS/PPA harmonization but that’s kind of the sight picture we have today. I think it’s important to say though that given what I just described we do not believe that that will impede our ability to affectively allocate and deploy our capital to do the things we need to do to grow this company going forward.

Operator

Your next question comes from Ronald Epstein – Bank of America Merrill Lynch.

Ronald Epstein – Bank of America Merrill Lynch

Just a broader 200,000 foot question for you, in your prepared remarks you mentioned about Secretary Gates talking about having kind of steady low single digit budget growth going forward for the defense budget. Given the fiscal backdrop and all the pressures, roughly 13% of GDP deficit this year, potentially deficits as you go out five or six years that are still north of 5%, is that realistic?

Jay L. Johnson

Well, I think the way that I’d answer that Ron is I just look in the world in which we’re living right now. It gets back to the question of how much risk are we willing to tolerate inside that world. The risk management piece I think is different than it ever has been before. But, for us again, as the defense budget flattens which essentially is what is happening here, we still believe what I said in my remarks. If you have programs and systems and things that are relevant to the war fighter your programs and systems and things will prevail in large measure. So, we felt very good going in to all of this, we feel confident that we’ll be well supported coming out.

Amy Gilliland

I think that wraps up the time we have this morning. I’d like to thank everyone for joining the call and if you do have additional questions, I can be reached at 703-876-3748. Have a great day.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect and have a great day.

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