Exelis Management Discusses Q4 2013 Results - Earnings Call Transcript

Feb.28.14 | About: Exelis Inc. (XLS)

Exelis (NYSE:XLS)

Q4 2013 Earnings Call

February 28, 2014 10:00 am ET

Executives

Katy Herr

David F. Melcher - Chief Executive Officer, President and Director

Peter J. Milligan - Chief Financial Officer and Senior Vice President

Analysts

Robert Stallard - RBC Capital Markets, LLC, Research Division

Christopher Sands - JP Morgan Chase & Co, Research Division

Robert Spingarn - Crédit Suisse AG, Research Division

Greg Konrad - Jefferies LLC, Research Division

Gautam Khanna - Cowen and Company, LLC, Research Division

Operator

Welcome to the Exelis Fourth Quarter and Full Year 2013 Financial Results Conference Call and Webcast. Hosting the call today from Exelis is Ms. Katy Herr, Head of Investor Relations. Today's call is being recorded. [Operator Instructions] It is now my pleasure to turn the floor over to Ms. Katy Herr. Katy, you may begin.

Katy Herr

Thank you, Jenny, and good morning, everyone. Thank you for joining us today on our fourth quarter and full year 2013 conference call. During today's call, we will reference supplemental information in the form of a presentation that you may reference at our Investor Relations website, investors.exelisinc.com.

Please turn to Slide 2. Before we start, please understand that this call contains forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Such statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. And certain factors that could cause results to differ materially from those anticipated are set forth on Slide 2 of today's presentation and in this morning's earnings release.

During today's call, we will reference non-GAAP measures, which are defined and reconciled in the appendix of today's presentation and available on our website.

Joining me on the call this morning are Dave Melcher, Chief Executive Officer and President; and Peter Milligan, our Chief Financial Officer. As always, we encourage questions at the conclusion of our remarks.

And with that said, please turn to Slide 3. And at this time, I would like to turn the call over to Dave.

David F. Melcher

Thank you, Katy. Good morning, everyone. Thanks for joining us today.

As you've seen in our press release this morning, we delivered a solid year in 2013, with profitability and cash flow in line with our guidance. This performance is a direct result of the hard work and. Focus of our employees, who strive everyday to deliver high-quality solutions to our customers around the globe.

Among the highlights of 2013 was our strong growth in funded orders and funded backlog. You might recall that during our fourth quarter 2012 call, we said that we expected to close 2013 with a book to bill of at least 1:1. That was a critical goal for us, and I'm pleased to report that in 2013, we delivered a book to bill of 1.1x, with funded orders increasing 10% and our funded backlog increasing 17%.

We pushed hard in 2013 to improve our cost structure and focus our business operations to meet the emerging needs of customers in the C4ISR aerospace and information solutions sectors. The $83 million of restructuring accomplished in 2013 represents the tough choices we made to improve competitiveness and business efficiency. This charge reflects a 13% reduction in square footage and a 6% headcount reduction. Total headcount declined 14%, which includes lower headcount on Middle East and Afghan programs.

We also challenged our team to reduce discretionary expenses and reevaluate our R&D spending. We're now focusing our resources, business development energies and inorganic growth priorities around our 4 strategic growth platforms of: critical networks; intelligence, surveillance, reconnaissance and data analytics; electronic warfare; and aerostructures.

In addition, we made the decision to focus our portfolio of capabilities. Late last year, we announced plans to spinoff our Mission Systems business into a standalone public company as a leading provider of infrastructure asset management, operational support and logistics services to the United States government worldwide.

We also made great strides in 2013 with our pension liability. It gives me great pleasure to announce that as of December 31, 2013, the funded status of our pension plans improved by more than 35% due to our cash contributions, a higher discount rate, a solid return on assets and our proactive approach.

Peter will go through the details of the pension results and outlook in more detail. I will simply say that our pension situation has been a significant focus for Exelis since our inception. And I'm gratified to see that our actions and an improving market environment have allowed this important commitment to move in the right direction.

We closed 2013 with $469 million of cash on the balance sheet, allowing us to enter 2014 in a strong financial position, with good options for strategic reinvestment, M&A and return to shareholders. When you consider share price appreciation and dividends, our 2013 total shareholder return was over 70%. I'm particularly proud of our 2013 results, given the challenging U.S. federal budget environment, including the October shutdown of the government and all the budgetary obstacles we discussed throughout 2013.

Let's turn to Slide 4 to review our fourth quarter results. We closed the year with quarterly profitability in line with our expectations despite revenue that came in later than expected. Importantly, we closed several significant international awards during the fourth quarter of 2013, including over $90 million in awards to provide Air Traffic Management radars to international military customers. In fact, international customers accounted for over 20% of total funded orders in the fourth quarter and over 35% of C4ISR-funded orders. In addition, international sales accounted for 1/3 of C4ISR fourth quarter revenue, contributing to a 25% increase in revenue over the third quarter of 2013.

Adjusted operating margin in this segment expanded 120 basis points sequentially to 15.1% on lower restructuring, sales mix and strong performance. And importantly, we generated $173 million in free cash flow during the fourth quarter as a result of strong year-end collections.

Moving to Slide 5. As I mentioned previously, we closed 2013 with a book to bill of 1.1x, reversing 3 years of backlog decline. Funded backlog, which includes both product deliveries and funded option years for service contracts increased 17% from 2012. Total backlog was roughly flat.

Commercial and international orders both increased year-on-year. International orders were up more than 50% from 2012 and accounted for 30% of C4ISR-funded orders, led by significant awards in communication systems, electronic warfare systems and radar systems. Funded commercial orders increased 44% from 2012 on solid awards in the aerostructures business area. In fact, those awards helped the aerostructures business area increase its total backlog, over 3.5x compared to 2012.

I expect that we will continue to expand our international and commercial presence modestly over the next few years. Last year, international customers accounted for 13% of total funded orders and 11% of total revenue. I expect that in 2014, our international work will account for at least 15% of orders and approximately 30% of C4ISR segment revenue. In particular, we see significant international opportunities for our electronic warfare systems, communication systems, radars and night vision goggles.

In 2013, we continued to cultivate new business within our 4 strategic growth platforms, extended key existing contracts and developed new markets for our mature business areas. Some highlights from the year included the following: the Jet Propulsion Laboratory extended our contract to provide maintenance, operations and engineering services for NASA's Deep Space Network. Under this contract worth $435 million, fully executed, we'll continue our support of the critical communications networks that make exploration of the universe possible.

South Korea awarded Exelis a multi-million dollar contract to provide an advanced geostationary weather imager to support the country's weather-forecasting capabilities. The Royal Australian Navy awarded us a contract worth over $100 million to provide our Electronic Support Measures suite to support situational awareness, targeting, self protection and surveillance systems for several classes of ships. The United States Navy awarded Exelis a $125 million contract to deliver a second production lot of the AN/ALQ-214 jammer, also known as IDECM, a key electronic warfare subsystem on U.S. and Australian F/A-18 aircraft. And Boeing awarded us a long-term commercial agreement to produce the composite airframe substructure for the 787 Dreamliner and to continue producing composite tanks for several of its aircraft series.

I expect that in 2014, we will maintain our backlog. At the bottom of this page, we have tried to give you a look ahead to our 2014 priority opportunities currently in the pipeline.

2014 presents a still challenging budget environment, but we now have a 2014 appropriations bill that provides program direction. And importantly, the Bipartisan Budget Act passed in December set discretionary spending levels for both 2014 and '15. Under this law, sequestration is eliminated for fiscal years 2014 and '15 and replaced with reduced spending levels.

We certainly welcome these budget actions. And importantly, Exelis programs are well supported in the 2014 appropriations. But we continue to see a challenging U.S. budget environment with continued pressure on the defense investment accounts over the coming years. While we can't control the outcomes in Washington, we're focused on managing our resources to improve our competitive position as we advance our strategic growth platforms.

Let's turn to Slide 6. I know many of you are anxious for an update on the pending spinoff of the Mission Systems business. For the full year, Mission Systems 2013 performance was lower than expected, with operating income and cash better than expected.

As a result of significant government fiscal year end funding, Mission Systems full year 2013 funded orders increased over 10% and funded backlog increased approximately 50% to approach $650 million. As anticipated, revenue in Mission Systems was meaningfully lower in 2013, down about 20% year-over-year. However, their strong program performance on fixed-price programs and improved award fees on facility management contracts drove excellent profitability, with margins approaching 9% and higher operating cash flow in 2013.

Mission Systems had approximately $500 million of work in Afghanistan in 2013, about 1/3 of total revenues. Due to the reduced scope of operations, we expect that Mission Systems will see revenue declines in the mid-teens during 2014, as the pace of operations continues to moderate in this region. We expect this business will have 2014 margins in the 6% range.

Mission Systems completed a significant cost reduction plan in 2013, streamlining its business operations and improving operating efficiency. And while it will need to add infrastructure and staff to accommodate the requirements of a standalone public company, we do not anticipate any diseconomies of scale. That is to say any additions to their overhead cost structure should be less than or equal to the allocation that they would have received as a part of Exelis.

We expect that the business will have a highly competitive cost structure and minimal fixed costs. And we anticipate that we'll file the initial Form 10 in the near future, and we continue to anticipate that the spin will be completed during the summer of 2014. As a result of the spin, we expect to incur approximately $25 million in related expenses. Our 2014 guidance excludes this cost.

We'll keep you updated as we progress through the spin process with the filing of the Form 10, the name of the new company, the executive team and more. And of course, we will issue additional guidance for Mission Systems and the post-spin Exelis company, as we approach the spin date this summer.

As we look back on 2013, all of us are proud of the Exelis team. It's not always easy to find better ways of doing business, but our employees rose to the challenge. We made big strides in 2013 through our strategic plan that better aligns us with our current and future market requirements. I look forward to continuing our work in 2014 to focus our portfolio, advance in adjacent markets and create and deliver long-term value for our shareholders.

And now, I'll turn the call over to Peter to discuss our full year 2013 results.

Peter J. Milligan

Thanks, Dave, and good morning, everyone. I'll review the 2013 results, and then provide an update on the pension performance and outlook, as well as our guidance for 2014.

Let's turn to Slide 7 for a review of the full year 2013 results. Funded orders for the year were $5.3 billion, a 10% increase compared to 2012. As Dave discussed, improved orders and stabilizing our backlog were critical metrics for us in 2013, which gives us a solid foundation with good visibility heading into 2014.

We entered 2014 with over half of projected revenue, funded backlog and approximately 80% in total backlog. Revenue for 2013 of $4.8 billion came in short of our projections, primarily due to continued contraction in the Middle East and Afghanistan programs. The full year results also reflect lower volumes in ground electronic warfare and legacy night vision products.

Adjusted operating income of $484 million translated into an adjusted operating margin of 10% for the year. Keep in mind that these results include $83 million in restructuring expense. Structuring actions taken during the year accounted for 170 basis point impact on the operating margins.

We will continue these efforts in 2014 with our focus on continuing to reduce our facilities footprint. I expect we'll spend about $20 million in restructuring in 2014. Most of that charge will fall in the C4ISR segment. Free cash flow for the year came in at $234 million after payments of $200 million to the pensions.

Moving to Slide 8. Funded orders in the C4ISR segment were $2.3 billion, up 9% year-over-year due to stronger international awards of weather payloads, electronic warfare, radar and communication systems. The segment delivered $2.1 billion in revenue, reflecting lower sales of counter-IED systems, legacy domestic night vision and commercial imagery payloads.

International sales of electronic warfare systems and domestic sales of Spiral Enhanced Night Vision Goggles, somewhat offset the decline. Adjusted operating income of $222 million reflects the restructuring impact and lower revenue. I expect that in 2014, C4ISR adjusted margins will return to 2012 levels in the 14% range.

Turning to the I&TS segment on Slide 9. Funded orders of $3.1 billion were up 10% from 2012 due to higher awards in Middle East programs, base ground and range programs and Air Traffic Management. Revenue in this segment declined 12% compared to 2012 as a result of lower revenue on Middle East and Afghanistan programs, partially offset by higher revenue on FAA programs.

The I&TS segment drove outstanding profitability in 2013. Operating income was up 17% for the year. As we discussed throughout the past year, net favorable contract modifications and higher award fees drove much of the strength. For 2014, I expect adjusted operating margins in the 7.5% to 8% range, as Mission Systems will see its margins contract into the 6% range.

Let's turn to Slide 10. The GAAP funded status of our pensions improved by $0.75 billion, bringing the unfunded liability to $1.2 billion. The improvement reflects an increase in the discount rate to -- I'm sorry, to 4.71% from 4.09% during 2012 and asset returns of greater than 11%. We also had a reduction in the PBO as a result of a lump sum payout in late 2012 and our decision to freeze the pension that we made in 2013.

FAS pension expense came in at $87 million. For 2014, we expect FAS expense will be in the range of $60 million to $70 million. We've reduced the expected long-term return on assets by 25 basis points to 8.25%, reflecting progress as we continue to derisk the asset allocation.

As expected, CAS reimbursable expense in 2013 was approximately $100 million. We expect it to increase by about 15% in 2014 and plan to recover as much of that as possible. We anticipate that 2014 contributions will be in the $185 million to $200 million range. Contributions in 2015 through 2017 will now be in the $200 million to $250 million range, which is lower than we had previously expected.

Slide 11 shows our guidance for 2014. At the top line, we project 2014 revenue of about $4.6 billion. We expect that C4ISR segment revenues will stabilize, and most of the pressure will come from the I&TS segment, specifically due to the reduced customer operational tempo in the Middle East and Afghanistan.

You can see that we are guiding adjusted operating margin and adjusted EPS. The only adjustment is for separation expenses related to the Mission Systems spin off. As with 2013 and previous years, we do not adjust for restructuring, but as you can see, we project about $20 million of restructuring expense, the majority of that incurred in the first half of the year.

We expect that the adjusted margin in 2014 will be about 11%, and EPS in the $1.52 to $1.59 range reflecting lower margin in I&TS segment, volume -- lower volume, higher share count and the restructuring impact I just referenced. Our tax rate in '14 should be comparable to that, that we saw in '13, 35% to 36% range.

Our diluted share count has increased primarily as a result of higher share prices, bringing more options into the calculation. For the full year '14, we expect the share count of about $194 million -- I'm sorry, 194 million shares on a diluted basis. We project free cash flow of approximately $250 million for the year after pension contributions.

And then lastly, looking across the year, I expect revenue to be fairly linear quarter-to-quarter, with C4ISR stronger in the second half of the year. While the first quarter represents about 24% of our projected revenue, it represents just under 20% of our projected profit for the year due to lower volume in C4ISR and restructuring. We project improving profitability in the second half due to lower restructuring charges and favorable sales mix.

And with that, I'll open the floor to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from Robert Stallard of Royal Bank of Canada.

Robert Stallard - RBC Capital Markets, LLC, Research Division

If we could just start off on the Mission Systems spin. Have you made any decisions yet of how you're going to structure the capital of this? And what sort of dividend, perhaps, you could be paying up?

Peter J. Milligan

Sure. Rob, this is Peter. So we're still obviously analyzing that. We're in the final sort of throes of pulling the Form 10 together. So that, hopefully, will be filed in the near future, as Dave said. And we still have to -- after that, that'll be filed with the sort of some blanks, as you know. And one of those blanks will be what that dividend will look like. We're still assessing that. After we get the Form 10 in, we'll start talking with banks, and we'll have a much better estimate of that, probably at the end of the first quarter. But right now, our objective is to have that business spun with a capital structure that it can support, and one that makes sense for its future opportunities. So I don't want to be too much more specific than that, but you can generally view something in that sort of 2 to 3x range of EBITDA is sort of, I think, the high-level target we'd be shooting for.

Robert Stallard - RBC Capital Markets, LLC, Research Division

Okay. And then one for Dave, maybe. You highlighted your cash position at the year end. You'd expect to get some sort of dividend from Mission Systems. I wonder if you could walk us through what your cash deployment priorities might be post dividend when you sorted all this out.

David F. Melcher

Yes, it's a question that we expected to get. Of course, we're going to have some discussions with our board here this spring and summer regarding what is the right balance of things that we might do. I think in the past, we've been fairly consistent in saying we want to continue to pay a good dividend. And I think, really, if you think about the dividend just by virtue of the fact we'll be doing the spinoff and we'll be maintaining the dividend, it'll be a little bit higher payout ratio on dividend post-spin than it was pre-spin. We certainly want to continue to buy back some shares to counter dilution. That's always been a part of the plan. And our board gave us about $100 million of authorization that we have plenty of room left to execute upon this year. M&A activity is always going to be important ant to us. We bought one thing in this past year and probably 3 since we became a public company. All of them were relatively small. But we're focusing on these strategic growth platforms, which I mentioned in the text. And we really -- we see opportunities to try and capitalize on that and find good ways to grow the company and give us future opportunities. That certainly will also be a part of what we do. And then our old friend, the pension, is still around and will be contributing as appropriate to that. Although we really like the way the trends are going. And if there were any possible way to get any more relief on Capitol Hill with interest rates moving, that would give us more opportunities to do the other 3 things.

Robert Stallard - RBC Capital Markets, LLC, Research Division

Right. And then maybe just one final one for Peter, a technical one. What do you expect your CAS reimbursements to be in 2014?

Peter J. Milligan

The total CAS cost is about $115 million. And depending on pricing pressure and all those other variables, we would certainly aim to collect as much of that as we possibly could.

Operator

And we'll hear next from Joe Nadol of JPMorgan.

Christopher Sands - JP Morgan Chase & Co, Research Division

It's actually Chris on for Joe. Quick question on the top line outlook. It seems like x Mission Systems, the business would be pretty flat year-over-year. And also x Mission Systems, the funded backlog increased about 10% or 11% year-over-year. Dave, you mentioned that you'd be able to hold that. So given all that, is it possible that 2014 could be the trough for the business x Mission Systems?

David F. Melcher

Well, I think, we certainly would love for that to be the case. We're taking -- obviously, we know the 2014 budget pretty well. We're getting some insights now with respect to the 2015 budget. I think others have said either 2014 or '15 to be the trough for their companies. Given where our backlog has been, it looks fairly optimistic. But I think it depends on us having another year this year like we did last year. And so all the wheels are turning for us to try and capitalize on the international opportunities, commercial opportunities and to get the most out of the programs that we have to try and maintain a good steady backlog of at least 1.0.

Christopher Sands - JP Morgan Chase & Co, Research Division

But you think there might be opportunity to, in fact, register book to bill over 1.0 again?

David F. Melcher

That's always the goal. It's a little tougher in this environment. But I was really encouraged last year by some of the progress that we made on the international front. We had our best year since 2009, internationally. We were able to grow both revenues and orders last year on international. And we have an aspiration to try and do that double digit again, if we can, this year, so that's going to be important to us. And in the environment that we have with the U.S. defense picture, a very key outlook for this company.

Christopher Sands - JP Morgan Chase & Co, Research Division

Okay. And then shifting to margin. In C4ISR, there's been a lot of moving pieces over the last few years just between mix shift and then also the restructuring. Is there kind of an expectation, more intermediate term, so after the restructuring, for where margin in that business could be on a normalized basis going forward?

Peter J. Milligan

Yes, so Chris, it's Peter. It depends on a lot of variables, as you know. But we certainly view that, that business can have margins in that low to mid-teens range. I wouldn't see it much higher than that at all, because we want to do a couple of things. We would certainly want to reinvest in the business. This year, we see R&D going up, which is great. We'd certainly want to do that. And we also know that the environment is one that has not a lot of pricing power, of course. So we're going to have to do the best we can to keep our products as affordable as possible to stay on platforms, clearly. And so a lot of the cost reduction that we've done is largely to make sure that we can hold the margins where we are but there's not really, in my view, at least a path to seeing much improved margins. But just to hold them where they are in that sort of low teens to mid-teens range is where I see it going.

Christopher Sands - JP Morgan Chase & Co, Research Division

So if it's 14% this year, maybe it's 14% to 16%, or you wouldn't even want to go that high?

Peter J. Milligan

Yes, I don't really see a case where we're getting 16%, to be honest with you, over the strategic planning period. Like any business, you could sort of probably push the gas pedal and try to deliver a little bit more on the margin side. But you have to be careful at what that comes at of the expense of. And if it comes at the expense of share, then that's not a trade we're willing to make. So a lot of variables that we're going to watch us closely as we can. In international, as Dave said, outstanding year on orders, but in some cases, international has margins that are below the average margin, as you try to break into a new segment. And in other cases, you can do fairly well. So it's, obviously, again as you well know, a lot of moving parts, but I don't see us getting really ever too much higher than 14% or so.

Christopher Sands - JP Morgan Chase & Co, Research Division

Okay. And then a final one on CAS. And this may be asking a lot, but is -- are there any data points to help us think about how it should trend beyond 2014, just given harmonization? A lot of your peers have put data points out there about how much they've funded that they've yet to recover. Is there anything comparable for you guys that would help us think about that?

Peter J. Milligan

Yes, sure. This year, as we said about $115 million for CAS as it goes up. Call it 15% or so a year over the next couple of years. As far as what's in that sort of unrecovered balance, if you could sort of go back and do a high-level reconciliation. At the end of '12, it was about $100 million right? So I guess, you simply add your contributions and take out your CAS expenses. And if you do that in the last 2 years, what you'll end up in, at the end of 2013, is something in that $350 million range, give or take.

Christopher Sands - JP Morgan Chase & Co, Research Division

Excellent. And then you said that the CAS could continue to increase at about that 15% a year clip?

Peter J. Milligan

Yes, I see that over the next 2 or 3 years. As you go too much beyond that, then the models, of course, become fairly subjective. So that's what I'm looking at right now.

Operator

And our next question comes from Rob Spingarn of Crédit Suisse.

Robert Spingarn - Crédit Suisse AG, Research Division

Dave, I wanted to focus on the domestic business, understanding that international is going to provide a nice trend for you. But in domestic, how do we think about organic growth '13 to '14? And where would that trough now that we have some more budget visibility?

David F. Melcher

Well, we certainly have an intention to try and grow international, as you said. With respect to the rest of the domestic programs, I guess, I would characterize it as we expect to hold our own. We have a number of good programs that we're on, some of which are going to move more into production that is a little scalable for us. And I think we see opportunities. I'm talking about space payloads. I'm talking about the composite work that we're doing for CH-53, for example, starting to go into low rate production. So I think we have the opportunity to hold our own. And per the previous comment, if there's an opportunity to make this the trough, with respect to the top line, we certainly would love to do that. But I think it depends on how well we can do on orders this year.

Robert Spingarn - Crédit Suisse AG, Research Division

Okay. And then just going into that in a little more detail, in the context of the army drawdown, which frankly wasn't new news, although it looks like they are at different levels depending on how the budget plays out, what are your big swing factor programs in the $4.6 billion. But really for both sides, both businesses, where you could see their upside or downside? Just the major ones we should be focused on that could have some variability.

David F. Melcher

Well, with respect to the army and the army drawing down, I mean, I think, that's been fairly well established now. One of the things that I think is important to remember about Exelis is that post-spin, the army's going to represent about 10% of our total revenues, as opposed to the nearly 30% that it is today. I think you're also seeing a sort of return-to-basics approach across all the services about upgrading and maintaining the capabilities that they have in existence today. That's going to be big for the army. And so for us, that's radios, that's night vision goggles, that's even jammers, believe it or not, to the extent that those are going to still be required in places around the world. And the same goes for the other services. I think we like the opportunities that we have in programs like IDECM, the ALQ-214, because that is a critical capability on F/A-18s. And in light of the recent announcement about the delaying the increment, too, on the Next Generation Jammer for the low band, that makes a program like that one and the ALQ-99 on the Growler and our 80s programs internationally, even more important. So I think we've got some really good franchise programs that we should capitalize upon and intend to try and do so.

Peter J. Milligan

And Rob, if I can add just a couple other thoughts, if that's okay. At a more granular level on sales, I think, as we move through '14, I would expect domestic sales to be down in sort of that 5% to 8% range. Obviously, that's a trend that we've seen over the last couple of years. But total revenue down -- being down 4.5%, obviously, means some things have to grow, and they will. We'll see commercial revenues pick up. We'll certainly see international pick up. We'll see international, on my view, right now pick up in a double-digit rate, and then the stabilization and some other things. So that's the high level of where I see some of the trends going in '14. And the other thing...

Robert Spingarn - Crédit Suisse AG, Research Division

Peter, to be clear, you're speaking about the entire business here?

Peter J. Milligan

Absolutely the entire...

Robert Spingarn - Crédit Suisse AG, Research Division

You're Including the spin?

Peter J. Milligan

Yes. And if you took out the Mission Systems piece -- because if you think at the high level, right, so $4.8 billion in '13 going to $4.6 billion in 2014. Clearly, the majority of that pressure and the numbers, as we discussed this morning, certainly support that. We think most of that pressure comes in Mission Systems. That's a business that in 2013, obviously, saw some top line pressure. From a bottom line perspective, just did incredible -- incredibly well. And the program performance has been outstanding, and that's where we've seen some margin pickups, which are driven by higher award fees -- catch up on some award fees, and then some other typical adjustments that you often see in fixed price programs. And we do have a couple of fixed price programs in that business. So that sort of -- I think, probably gives a little bit more information. Hopefully, that helps.

Robert Spingarn - Crédit Suisse AG, Research Division

It does. And just -- while I got you here on this topic. Could do take a similar approach to the free cash flow for this year? If we back out the $25 million in spin-related costs, you're going to do $275 million in free cash flow, so how do we think about that both from the perspective of the core business and the spin, and then the major moving pieces working capital, pension, et cetera?

Peter J. Milligan

Yes, sure, but the one thing -- unfortunately we're going the other way. So the $250 million does exclude those spin costs. So instead of adding them back, you'd have to take them out, right, so...

Robert Spingarn - Crédit Suisse AG, Research Division

Okay, so, yes, all right, fair.

Peter J. Milligan

So go the other way on that. Think about Mission Systems for 2014, the guidance sort of implies in that high $1.2 to $1.3 billion range in sales, and then the margin that we're showing around 6%, assuming, as you should that, that business operating income is very close to its cash flow. You would just have to sort of adjust our free cash flow to reflect that. And I think that's probably the best way to think about it. Of course, on a separate company basis, you have to do the other adjustments on interest and taxes, but that's all in the numbers that we're talking about here.

Operator

And our next question comes from Greg Konrad of Jefferies.

Greg Konrad - Jefferies LLC, Research Division

I was hoping you could just talk a little bit about restructuring. So you spent $80 million in '13, another $20 million in 2014. How should we think about the payback related to the spending and kind of the retention of savings versus being given away to the customer?

Peter J. Milligan

Sure, I can -- you want to start that Dave? You want me to go through it?

David F. Melcher

Yes, I'll just give -- in general, a lot of that restructuring went towards headcount reductions as was mentioned previously. A lot of it was oriented on about a 15% reduction in footprint that's been ongoing and continues a bit into this year. It's a little bit of the $20 million that we talked about for this year. And so we've been trying to position the businesses to have accommodated the changes in the volumes that we saw coming through them and to get them rightsized to be able to deliver the margins that we want going forward. And with that, I'll let Peter elaborate.

Peter J. Milligan

Sure, I think it sort of gets back a little bit to the question earlier about where the long-term margins are. This is a business that largely, certainly, ours, and I think, many in our space, does give back the -- much of the benefits of those restructuring. And that's done in this environment -- in a constricting top line environment, it's done to hold market share, certainly. And hopefully, we put ourselves in a position where on a cost basis, we can pick up some share, obviously. So that's at the high level. Now of course, you know sort of almost, just by formula, if you will, on the cost plus jobs that does go right back to the customer. And then in other cases, on fixed price jobs, if you're sort of halfway through it, then you can see a margin increase. But like all fixed price jobs, as we renegotiate the customer's going to expect in this environment a better price, and we've been giving it to them, we have to. So that's part of it as well. The other thing, as we move into 2014, because we're in it, obviously, is R&D is going up. So we're investing more in the business. And then, lastly, the one other things that is -- if you just think about, we have a couple of big tailwinds moving through '13 into '14, lower pension and much lower restructuring. But, of course, the headwinds, if you will, one of them that, of course, reinvesting in the business that I just mentioned, the other is the Mission Systems business, right? Like I said, outstanding profitability in '13 as you move into '14 and the level that is sort of more traditional from what they've seen. So if you take 50%, if you will, from a 9% margin to a 6% margin, or whatever the change is there, big change, 30%, is -- it is a big impact to 2014 profitability.

Greg Konrad - Jefferies LLC, Research Division

And then I know that the businesses, I guess, it's the little 3 now, or there's different names for it. I guess, it's pretty small heading into 2014. But just want to focus on jammers and radios, specifically. And if you see any opportunities out there on jammers and then radios. I know there's some upcoming RFPs. If there's any bigger opportunities out there on the domestic side of the market.

David F. Melcher

Sure, I think in the jammer world, most of that effort really went to a developmental program, if you will, to try and keep the technologies alive. However, as you mentioned, you do see some solicitations brewing now and again that request that kind of capability or upgrade to that capability that's already in the field, or in the case for us, sometimes it's the State Department, who are taking over some responsibility somewhere that would like to have that kind of jamming capability. So we try and keep our technologies viable and fresh and have the ability to update when needed. In the radio world, of course, with 300,000 to 400,000 SINCGARS radios that are going to be out there in the inventory for the next 2 decades or more, we've been working with our customers, the army, principally, to try and provide upgrades to that capability with the SRW appliqué is something that presents opportunity for us. We've also been working on this Global Network on the Move capability, which is a realtime on-the-move networking capability that bridges some of the things in WIN-T that are going to take much longer to produce. And then let me just mention one new development that I think is worth talking about. It's a program that we have -- it's not domestic, but it could be some day. TM-NVG program was developed by our night vision -- again, one of the Wee 3 [ph], and our communications folks. For an international context, they combined the night vision goggles, they networked it as part of a network using SpearNet Radio and some of the JAGWIRE software that we produce to make all of that function efficiently. And we sold it to Italy and a Middle Eastern country to the tune of about $100 million. That's not even in the U.S. inventory yet. But I think it has great applicability, because where do you want to ultimately go? You want a network, that night vision capability and have the ability to move the information to and from the goggle that each individual user has. So we're looking for some good opportunities and investing appropriately to give us the chance to move ahead in those markets, which now have reached very sort of low stabilized domestic rates.

Greg Konrad - Jefferies LLC, Research Division

And then just final question, I don't know if I missed it, but where do you expect CapEx for 2014?

Peter J. Milligan

Yes, capital in '14 should be in the $70 -- low $70 million range.

Operator

[Operator Instructions] And we'll take our next question from Gautam Khanna of Cowen and Company.

Gautam Khanna - Cowen and Company, LLC, Research Division

So one question, I guess. Have you had any discussions in the contemplation of the Mission Systems spin that would preclude an acquisition of either the remain co [ph] or MS within 2 years?

David F. Melcher

No, there are no preexisting discussions along those lines. All this is situationally-based and determined. But with respect to the basic rules of spins, right, they're tax-free transactions. Now Exelis, of course, is beyond the 2 years for its own tax-free spinoff from ITT Corporation. And we're entering into another transaction like that with respect to the Mission Systems business. And so if the intent is to stand up 2 companies, top rate independently in the marketplace.

Gautam Khanna - Cowen and Company, LLC, Research Division

Okay. And could you talk about the revenue shortfall in the quarter a little bit more granular color on what specific contracts kind of underperformed what you're expecting? And are those going to be -- are any of those sales going to be recovered? Maybe first, with C4ISR, and then secondly, with the ITS, does it get caught up, or does it just slip indefinitely?

Peter J. Milligan

Sure. Let me try to help you on that one. The high level on the Mission Systems side, no, it's just an acceleration of what -- the trend that we were expecting has happened a couple of months earlier than we thought, so -- and that is as we, I think, mentioned in the prepared comments programs in the Middle East and Afghanistan. On the product side or C4ISR side, I don't want to get into specific programs for some obvious reasons, but at a high level, most of the slippage that we saw, we would expect to see in -- at some point in the first half of 2014.

Gautam Khanna - Cowen and Company, LLC, Research Division

Okay, and was it broad-based across the number of programs, or was it 1 or 2 specific...

Peter J. Milligan

No, essentially 2 programs that, in one case, a supplier issue that -- in one case, the testing issue, where we just had to do some retesting, but in both cases working very close with the customer and full -- feel very confident that the timeline will be met as I just referenced.

Gautam Khanna - Cowen and Company, LLC, Research Division

And can you give us some color on where the EACs were concentrated across the segments this quarter?

Peter J. Milligan

Sure. This quarter, basically, all in -- all on the product side. As you know, for the full year, I think, while you'll see this in the 10-K, I think, we filed that this money, so this is all detailed in that. But we had total EACs for the year adjustments of about $107 million. And about half of that were in C4ISR and the other half, give or take, were in I&TS. And that's unique on the I&TS side. It was much higher than we'd seen in the past, and going into the year quite honestly, higher than we had expected. And as I referenced, a lot of that was in the Mission Systems side. And as I also highlighted, it was due to catching up on some award fees and some other positive contract adjustments that we captured in 2013 that don't repeat.

Gautam Khanna - Cowen and Company, LLC, Research Division

Okay, and one last one. If you could just comment on the core ITS business, so x the Mission Systems side, are you seeing any pickup in contract award inquiries, pre-order activity, if you will, because it looked like there was a lull in the fourth calendar quarter. But now with the budget passed, presumably, some of the shorter cycle money will get allocated. So have you seen any pickup in procurement activity among your customers?

Peter J. Milligan

January, as you know, just overall disbursements from the government was slow, and so we hadn't seen that pick up yet. We do anticipate some changes, as you mentioned. I do anticipate a strong year for that business, and so we'll see how it plays out. But I think overall, I don't see any major trend change yet.

Operator

And it appears there are no further questions at this time. I'd now like to turn the conference over to Dave Melcher for any additional or closing remarks.

David F. Melcher

Well, we thank you all for your questions and for being part of the call this morning. I guarantee you we've, got a lot of hard work to do this year, and we've put our minds to it. And so more to follow on the spinoff. You'll see the Form 10 soon. And we'd look forward to talking to you at the end of the year, our first quarter, when we make our call. Have a good day.

Operator

And, again, that does conclude the call. We would like to thank everyone for their participation today.

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