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Executives

Steve Wold - VP, Treasurer & IR

Mark DeYoung - President & CEO

Tom Sexton - VP & Interim CFO

Analysts

Troy Lahr - Stifel Nicolaus

Robert Spingarn - Credit Suisse

Robert Stallard - Royal Bank of Canada

Kevin Ciabattoni - KeyBanc Capital Markets

Gautam Khanna - Cowen & Company

George Shapiro - Access 342

Joe Nadol - JPMorgan

Alex Cook - Voyant Advisors

Herb Hardt - Monness

Howard Rubel - Jefferies

Mayur Manmohansingh - Barclays Capital

David Strauss - UBS

Alliant Techsystems Inc. (ATK) F3Q2012 (Qtr End 01/01/2012) Earnings Call February 2, 2012 10:00 AM ET

Operator

Good day, everyone and welcome to the ATK third quarter and fiscal year 2012 earnings results conference call. Today's call is being recorded. At this time, I would like to turn the call over to ATK Director of Treasury and Vice President of Investor Relations, Mr. Steve Wold. Please go ahead, sir.

Steve Wold

Thanks Lara. Good morning and thank you for joining us today for our third quarter fiscal 2012 earnings call. With me I have Mark DeYoung, our President and Chief Executive Officer; and Tom Sexton, Vice President and Interim Chief Financial Officer.

Before we begin, I'd like to remind everyone that during today's call, we will make several forward-looking statements. These statements we make under the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995 and we make these statements based on our best estimates which are based on our understanding of information known to us today, and they are subject to the risks and uncertainties that face all businesses. We encourage you to review today's press releases and our SEC filings for more information on those risks and uncertainties. Please also note that we have posted charts to our website at atk.com, which supplement our comments this morning and include a reconciliation of several non-GAAP financial measures.

With that said, I'll turn the call to you, Mark.

Mark DeYoung

Okay, Steve, thank you. Good morning everyone and thanks for joining us today. This morning we will be discussing our third quarter results. We will also talk about a shift in our capital deployment strategy and we want to introduce our move to a streamlined operating structure in our next fiscal year which is our fiscal year 2013.

In addition, we have announced and you’ve probably where Neal Cohen will serve as ATK’s Executive Vice President and Chief Financial Officer beginning on February 13th. Tom Sexton has served as our Interim CFO. I want to thank Tom for all he has done to ensure a seamless transition during this period. I worked with Tom for many years. He never disappoints, he is a very valuable member of our management team, he did a great job and I look forward to his continued contributions to the company as our Controller.

First, we recently reached a tentative agreement to settle a longstanding claim against the company. This claim originated from events that occurred prior to our acquisition of Thiokol in 2001. It’s been carried and disclosed for obviously many years. Getting this litigation behind us was the right thing to do for the company and for our shareholders.

A new share repurchase authorization has been approved by the Board of Directors of ATK. We’ve been authorized to repurchase up to $200 million worth of ATK common stock over the next two years as part of our balance capital deployment strategy.

Given our liquidity and cash flow, we have the capacity for a range of capital deployment initiatives. Despite the federal budget challenges facing ATK and the defense industry, the foundation of our core businesses remained strong. We received a draft of the Undefinitized Contract Action for the space launch system which establishes a stable base for our Solid Rocket Motor business.

We are performing on our Airbus A350 program, third quarter results were in line with our expectations, we’re successfully transitioning from prototype to production in our Aerospace Composites business and we see long-term growth in this business from the A350 production ramp up.

We submitted a proposal on January 3rd for the operation in Lake City Army Ammunition Plant. We expect the army to award the contract in the fall of this year. Our expertise in operating this facility has been widely acknowledged over the years. We are confident that we have prepared a winning proposal for this important competition. We are entering production on a number of new and innovative weapon programs.

During the quarter we started to work on the lot pre-buy of AARGM and we expect the program to achieve initial operating capability this spring. We recently completed the sixth consecutive successful flight test of this new system. So that’s a great milestone for us.

The XM25, our Precision Motor Solution and the Precision Guidance Kit all provide the war fighter with new and advanced capabilities. I am encouraged by the positive response from army leaders on the capability and performance of these new systems. These innovative products are the types of solutions that will become even more important in our emerging DoD environment.

While the government 2013 Defense Budget will not be released in detail until February 13th as you know. ATK’s focus and outlook is consistent with Secretary Panetta’s statements last week. The Secretary made clear that while we will have a smaller force, it will be well trained, it will be armed more lethal and it will be battle hardened.

ATK is well positioned to support the Secretary’s vision for this force. Secretary Panetta also spoke to the imperative of greater efficiency in the department and ATK is actively working with many segments within DoD but also within NASA to identify opportunities to improve efficiency and reduce cost.

We are determined, not only to support the initiatives articulated by the Secretary Panetta, but we believe we have incorporated priorities and values into this company’s operating and business cultures that will lead to our continued success.

The success of our Commercial Ammunition and Accessories business has been a testament to ATK’s ability to respond to customer demands and do so on a variety of markets. Our strategy is working in this group. We continue to gain market share. Even though some customers have migrated to lower-priced offerings, we again achieved outstanding year-over-year sales in the third quarter.

In addition, Wal-Mart, the world’s largest retailer, recognized ATK as the Vendor of the Quarter in our Q3 and as their Supplier Support Team of the Year for 2011.

We know there are challenges ahead, but ATK remains a strong, healthy, profitable company. As we face the future, we remain confident in our market positions and ability to deliver long-term cash. This confidence allows us to return those meaningful portion of our free cash flow to shareholders in the form of the new repurchase plan, as well as maintaining our dividend.

In fiscal year 2013, we will streamline our business structure, reducing from four operating groups to three. The three units will be Aerospace Group, Defense Group and the Sporting Group.

This new operating structure will further improve efficiencies, further reduce costs. We believe we will support our customers’ needs, we will be able to better leverage our investments and improve overall responsiveness and agility within our core markets.

We also remain intensely focused on continuing to improve our operating efficiencies through the expansion of our proven, performance enterprise system and through continuing to make high return, wise capital investments.

Tom’s going to now walk through more detail from the third quarter and give you some additional thoughts on our outlook for 2013 even though we will not be providing guidance in this call. We want to give some initial outlook into ’13 in terms of how we see that environment. So, Tom, I’ll turn it over to you.

Tom Sexton

Alright, thanks Mark and good morning everyone. Orders in the quarter were $701 million, in line with our expectations and giving us a backlog of $6.1 billion. Sales in the quarter were $1.1 billion, down approximately 1% from the prior-year quarter. As you saw in the release, we are tightening our full-year sales guidance to the low end of the previously announced range.

We now expect to finish FY 2012 with sales of approximately $4 billion. Last quarter I told you that we expected stronger sales from both Armament Systems and Security and Sporting in the back half of the year. While sales of Security and Sporting met expectations, the timing of several key orders in the Armament Systems Group prevented them from converting those into third quarter sales which really is the biggest driver for the reduced forecast.

However we do expect Armament Systems to catch up on some of those sales in the fourth quarter since the orders are now materializing. The LUU flares accrual obviously had a big impact on the third quarter EPS margins and the tax rate. We reported fully diluted EPS of a $1.51 for the quarter. With better visibility into our full-year results we also reversed the accruals for management’s FY10 through FY12 long-term incentive plan or LTIP. The benefit of this reversal is reflected in the group operating results that we will discuss shortly.

I also want to remind you that the prior-year quarter included a $25 million reduction in sales and profit associated with the commercial aerospace program within the Aerospace Systems Group. Operating margins in the quarter were 9.4% compared to 11.2% last year. Again the biggest driver was the LUU flares accrual. In addition, the continued migration of our commercial sport shooting customers for lower-priced and lower margin ammunition products also contributed to the rate.

These were partially offset by the catch up reversal of the FY10 through 2012 LTIP accruals and reduced lower margin modernization revenue within armament systems. The third quarter tax rate was 42% compared to 30.7% in the prior year quarter. The estimated non deductible portion of the LUU flares accrual was the biggest driver for the year-over-year increase along with the absence of the benefit realized last fiscal year from the retroactive extension of the federal R&D tax credit, a lower domestic manufacturing deduction and the unfavorable true-up prior year taxes.

Now, I would like to give you little more detail on the groups. Sales in the Aerospace Systems group were down 6% to $302 million, lower revenue from human spaceflight programs was the primary driver. Operating margin in the group improved from [7.4%] in the prior quarter to 11.5% this year.

Sales in the Armament Systems group were down 6% to $404 million. There was no modernization funding at Radford and modernization funding at Lake City was down significantly as we complete work under the existing contract. Operating margins were 16.6% compared to 12.8% last year. Operating efficiencies and sales mix contributed to the improvement.

Sales in Missile products were up slightly to $169 million and the AARGM program was a primary driver for the increase there. Operating margins in the group improved to 13.9% compared to 11.5% a year ago. Operating efficiencies across the group drove the rate higher.

Sales in the Security and Sporting group were up 17% to $243 million and reflective of the increased demand for ATK's commercial ammunition both foreign and domestic. However, the group’s margins were pressured from the changing sales mix to lower price and lower profit commercial ammunition and consequently third quarter margins were 9.4% compared to 14.6% in the prior year quarter.

Since we are approaching the end of the fiscal year we can now give you a more complete picture of our expected year end results. As I mentioned earlier we now expect to complete the year with sales of approximately $4.6 billion based primarily on the impact of the LUU flares accrual and lower margins in the security and sporting group.

Full year EPS should be in the range of $7.65 to $7.75 and the tax rate will tick up to approximately 35.5% but holding full year free cash flow guidance in a range of $225 million to $250 million, despite the expected $26 million cash impact from the LUU flares settlement and we continue to expect CapEx of approximately $130 million.

Finally I want to share some initial thoughts with you about FY13. We’re still working through our planning cycle for next year and of course the administration has not yet released the GFY 2013 budget. However, we do have relatively good visibility into a couple of items and I want to call your attention.

As in previous year we will give formal guidance on the fourth quarter call but this should help you as begin building your model. Starting with sales, the loss from the Radford facility will impact FY13 sales by approximately $170 million and we continue to expect lower revenue next year from modernization initiatives at the Lake City facility and lower demand for military ammunition due to the constrained federal budget.

We expect to complete FY12 with aggregate NASA sales of approximately 320 million. At this point we expect NASA sales in FY13 to be approximately 275 million. We expect modest growth in the newly named Sporting group. Turning to FY13, EPS will face variety of challenges there. We are building our assumption that in the FY13 plan that the recent shift in demand to lower price the ammunition will continue to the new normal until the economy shows significant strengthening.

We won’t lock in all the pension assumption till the end of the fiscal year. but we will reduce the expected rate of return from 8% to 7.5% and we are going to update our mortality table. As reminder our measurement date is March 31 and for every quarter point move in this, can impact expense by about $8 million. And every 1% change in our assets returned is above 700,000.

We’re keeping a close eye on the discount rate. Assuming the rates stay there at approximately 5%, we now expect FY13 pension expense of approximately 180 million compared to 135 million in FY12. Given current assumptions we expect pension contribution in FY13 of approximately 160 million. As a point of reference we are required to contribute 62 million in FY12. You should also recall that FY12 EPS included a favorable contract settlement within the Armament Systems group which added 33 pennies to our results in the second quarter.

To mitigate the forecasted challenges we have taken aggressive steps to improve operating efficiencies with a continued focus on re-manufacture initiative and implementing the three group operating structure that Mark referenced in his remarks.

I hope that is helpful as you begin to thinking about ATK’s FY13 and with that I think we are ready for Q&A.

Question-and-Answer Session

Operator

(Operator’s Instructions) Well, that’s our first question from Troy Lahr from Stifel Nicolaus

Troy Lahr - Stifel Nicolaus

Yeah, thanks. I am wondering if you could talk a little bit about the sporting segment in the quarter or really next quarter. I think in the fourth quarter of last year you had some pre-buys gong in trying to get ahead of some annual increases. Do you expect that pre-buying activity again this year or do you think it’s going to be a very difficult comparison in the fourth quarter?

Mark DeYoung

Yeah. I think, this is Mark. I think that that comparison to what was happening in that market last year is not going to be one for one. I think that price increase announcements which were affecting last year’s pre-buys are not nearly as dramatic to what will happen within the [Custer] community this year in terms of generating revenues. So, I think that’s not going to be a good correlation.

Troy Lahr - Stifel Nicolaus

Okay. And then if you look at the margins at sporting, they have been kind of down around 9% and 9.5%. Do you think that that is the level that we should think about or do you still see continued pressure kind of coming through and then we could may be even see kind of high 8% margin at sporting.

Tom Sexton

Yeah. I think we continue to see a pressure there. I think, what we are planning at above the 9.4%. A little bit pressure on that as we go forward.

Operator

We will go to our next question from Robert Spingarn from Credit Suisse.

Robert Spingarn - Credit Suisse

Mark, could you run through Lake City. We’ve talked about this before but perhaps you can refresh us on the dollar amounts that ran through the P&L last year, this year and what you would expect this coming year as the modernization falls of and the cadence coming out of the war zone changes?

And then, update us on the timing if the contract, the next contract would go to your competitor, how you would see, with the timing on that is several years out I believe?

Mark DeYoung

Okay. Let me talk about that a little bit. Let me address a couple of things. One, in modernization, modernization generally is a program. It’s been a pretty significant program at Lake City over the past several years. I think the total revenue generated from modernization at Lake City is in the hundreds of millions of dollars over the last few years. So, it’s been significant. This last year, it’s softening, it’s about –

Tom Sexton

It’s about 50 million in FY'12.

Mark DeYoung

Yeah, 50 million. So, we’re well down as that program winds down and as we complete that scope and we believe that it will wind up that program with reduced sales in the future. So, I think that’s going to create some adjustment in terms of the revenue that we would be able to generate from Lake City.

The other thing, Rob, I guess, as you know we’re cautious not to get below group level and program, specific programs, revenue and margins and programs. So, I would like to avoid talking about details associated with revenue generation in Lake City as a division or as a segment.

I think, in terms of timing associated with the competition, as I mentioned, a proposal has been submitted. We expect some more in the September, October timeframe that the army will announce the decision on the award of that. We, right now, have backlog at Lake City and our contract will take us through about September 14.

So, it is well, in front of us as you said. Before, there would an actual transition from what we would build through our contract terms of transitioning that plant. It’s that, our mid fiscal year end calendar year ‘14 so it so is still 18 months or so in ahead of us.

Robert Spingarn - Credit Suisse

Is it fair to describe the head wind in 13 at Lake city what exist just in the lower volumes in the absence of modernization as similar to the head wind you have this year.

Mark DeYoung

I think that what we are going to see in terms of looking at orders coming in I think we anticipate at least some lower military orders. It is hard for us to see transparently in all of the factors which will influence that order decision by the Army. Of course part of this funding part of this also inventory and consumption levels, part of it is sports structure and training. We don’t have thorough visibility Rob in all of that. So our stance is that just the environment that we are in is going to result in reduced quantity, which may increase some headwinds there.

Robert Spingarn - Credit Suisse

Okay and just as a final question, on the sporting side how do you get the kind of visibility that you use in our guidance to really predict the margins, given the short cycle nature and the moving commodity prices?

Mark DeYoung

It is a good question as we went into this year we were kind of little bit surprised in the fall when we saw the shift, as consumers shifted in the September, October, November timeframe to some of the lower priced products that are offered in the industry. So that just validates the fact that we don’t have quality obviously into our consumer market where the purchasing preferences might be and clearly we don’t have extreme clarity at what might happen with raw material cost, copper and lead being primary drivers on the raw material.

So the best that we can do in our attempt to help you see into that business is well is just measure trends and talk to people and leaders in the industry, who recently at the Shot Show, which is the shooting and hunting outdoor trade show. It’s the largest show in that industry space in the world. There is a lot of international engagement there as well as the domestic engagement. I went out to that show for about a day, but we had people there for the week. We did a lot of discussions with industry leaders there as well as the supply chain and consumers as many of our customers purchased their products and placed orders at that show every year.

So the best that we can do Rob is look for those trends, get a sense for what's happening in the market, work with our key customers to see what's selling, what's being demanded and then try and put together a plan and share that insight with you as to where we think its headed. And I think that's what we've attempted to do today in terms of the margin; could it change, certainly, but its our best view of what we think is likely to happen in this economy in the next year.

Operator

Your next question comes from the line of Robert Stallard from Royal Bank of Canada.

Robert Stallard - Royal Bank of Canada

I was wondering if you could just talk a little bit about the fourth quarter. You mentioned for the full year EPS you’ve got a flat charge and the margin at securities in ’14 is going to remain I think around sort of 9 percentage level. I was wondering what you are expecting in the other three divisions with regard to margins in the fourth quarter and perhaps if there are any other charges in the fourth quarter?

Tom Sexton

Well the charges in the fourth quarter we will have some associated with the realignment that we mentioned and securities supporting will feel pressure you know as you think there the third quarter margin is more indicative of what the fourth quarter will be than earlier quarters. But I believe there is some pressure there given some known mix that we have there already in the quarter.

In the Armament Systems I mentioned that we will see some catch-up increase in sales for some orders that we’ve got we will see a little bit of a push down in margin on some of those sales. But in Missile products and in Aerospace I think a continuation of what we've seen.

And keep in mind that the results in the third quarter that you saw, we did do the reversal of the FY’10 through ’12 management incentive plan and that would kind of trickled throughout for the group so that does improve each of the group’s third quarter margin just a little bit and that impact was $9 million in total kind of spread out of amongst the group but not a big driver for the rates, but that was reflected in the third quarter rates that you saw in the results this morning.

Robert Stallard - Royal Bank of Canada

So what sort of size of charges that you are anticipating in the fourth quarter for restructuring and other things?

Tom Sexton

We’re still working through the exact details on it, but right now we estimate that’s going to be somewhat between $6 million and $10 million.

Operator

We’ll go next to Kevin Ciabattoni from KeyBanc Capital Markets.

Kevin Ciabattoni - KeyBanc Capital Markets

Trying to following up on that and I guess looking a little further out, can you talk about maybe the sustainability of the margins particularly looking at Armament and Missile products as we head into ‘13 which I guess will become kind of the new defense segment?

Mark DeYoung

Yeah, I think on that you know we’re trying to tell you everything that we can in terms of we’re early; we’re still in our planning cycle; we haven’t locked down our business plan for ‘13 yet with those forecasts. We haven’t seen the present budget release yet which is important to both of those groups in terms of what’s really going to be in that budget which won’t be released until the 13th of February. So you know I know you would like more information, so we’re just not giving ‘13 guidance today; we haven’t formulated that guidance yet and we haven’t finish our business plan.

Kevin Ciabattoni - KeyBanc Capital Markets

And then tying into the budget release, I mean do you see any of the development programs, I guess namely AARGM, we’ve been looking at XM25 and PGK; is there a risk there as we head into the budget release?

Mark DeYoung

No, I think you right on AARGM, I think AARGM looks pretty safe and our performance on AARGM over the last 18 months has been tremendous maturing of that capability which is I think added to the confidence and maybe in sustaining that budget and that capability in their plan going forward. So we’re very pleased with that; we are pleased with the performance on that program.

I think on the other precision programs, XM25, APMI and PGK are three of those emerging technology programs with the Army. PGK has been very well received, not only very well received in terms of the users, but I think received generally in the Army community as a great tool for the world fighter, great capability which they didn’t have. So I think that program is in pretty good shape. In fact we know they are going to procure additional units on that program which we’ll be delivering over the next 18 months.

PGK I think is in good shape. The capability we bring to dumb artillery to take those 155 millimeter artilleries and make them much more capable reducing collateral damage; I think has been quite successful. Again, the technology on that has gone through a maturation process and we have seen some good results. I think there is a lot of support for that kind of capability.

And also then APMI would be the third leg in that armament precisions tool. APMI demonstration of capabilities has been able to be remarkably more accurate than anything that’s ever been demonstrated in that kind of a platform.

So I think the performance there has been good to-date. We still have some maturity to do on that program. I think that those programs are all responsible programs in response to the kind of capabilities that the military is going to need going forward for improved performance, improved accuracy, reduced collateral damage and reduced lifecycle cost. So we think those programs all have legs and we’re anxious to continue to drive the development to completion and then to production on those programs.

Operator

We’ll go next to Gautam Khanna from Cowen & Company

Gautam Khanna - Cowen & Company

Could you update us, you mentioned the NASA sales this year I think you said 275, in next year 325 if I got there, right?

Mark DeYoung

No, it’s the other way around. As aggregated NASA sales of about 320 million in FY’12, and we expect about 275 next year.

Gautam Khanna - Cowen & Company

Could you explain what’s driving that? Is that just shuttle really in offer?

Mark DeYoung

Yeah I mean, what you see, as you still see a ordering within the space community, away from the Constellation program in shuttle. And there are still ripple effects that we feel in segments of our business associated with those two events as NASA repositions its strategy forward with the LCS program.

So as we look at that and as we look forward in the Space Launch System, as you know that was announced in September, so SLS included the five segment solid rocket booster, which was unveiled on Capitol Hill by NASA and by the Congress and Senate. That was very good news for ATK in terms of establishing an ongoing long-term production base and capability for NASA.

That architecture has been reaffirmed in meetings I’ve had recently with the Administrator, and meetings we actually had this week. So we’re moving out, continuing to drive that design, but that shift down would again that you’ve addressed of about 50 million is just the rippling still-through of the shift in architecture structure and ATK’s role on these emerging programs.

Gautam Khanna - Cowen & Company

Okay. And then, you also announced the $200 million buyback over two years. Kind of, if you look at your cash re-deployment priorities, you’ve got the pension contribution of 160, early in the fiscal year, your cash flow tends to be little lighter seasonally. When do you anticipate being in a position to actually buyback shares so we can get a sense for what the average share count might actually trend to next year?

Mark DeYoung

Yeah, we’re going to work our way, we’re going to work our way through that as we get into ’13, as we get our hands around our business plan, as we look at what’s happening in the market. Obviously, we’re going to be opportunistic on that repurchase program. So I can’t tell you, you know when we might execute; and our intent will be to execute when it makes the most sense, for the shareholder or it makes the most sense for the strategy of the company.

So I can’t really do that; our intent over that two year period would be to again drive that $200 million of share repurchase in a way that creates value and that’s going to be our focus’ while we maintain our dividend, while we maintain our focus on margin improvement, while we focus on ensuring we drive strong cash flow, while we fund the obligations that we have in the pension, while we continue to fund some our capital expenditures to make us more efficient, more competitive. So its part of cash and capital employment strategy which we think is a balanced approach to support the business and I’ll let you know when I know.

Operator

Your next question comes from the line of George Shapiro from Access 342.

George Shapiro - Access 342

I wanted to ask a couple of questions on the Radford. The fiscal ‘11 10K had the margin of 6%; I am guessing there are probably some one-time items that dragged down the margins. So just wondering what the real margin might have been? And then also what happens with New River; do you have to pay BAE to use the plant now; can they compete with you for the commercial business; if you just kind of give some color on all of that?

Mark DeYoung

I am happy to give you what I can there George. First of all, again we hesitative to give margin and revenue information in the business units and rather than talking those things in terms of our business groups, let me do give you what I can, let me show you what I think is appropriate.

Let me start with the back half of our question though. In terms of the New River Energetics piece; New River Energetics operates two main capabilities on the Radford Army ammunition plant as a rent paying tenant, that’s how they’ve operated even when ATK operated the plant, they were a tenant on the plant, so even though we were the primary operator generating revenues for the army through being that tenant.

So those two capabilities within New River Energetics, one as you mentioned is the commercial propellant line. This is an important opportunity within Radford to create volume for nitrocellulose and to consume some of the intermediate and raw materials that Radford then consumes in both its military ammunition, but also we can help consume within our commercial. So we believe that BAE will see the benefit of working with us potentially to create an agreement because that volume is important to reduce the overall cost of operating that plant as is the rent stream and overhead absorption.

So the other operation which we have there is our medium cal LAP line where we load, assemble and pack some of, not all of, but some of our medium-caliber rounds. That's also operating under the New River Energetics entity there. And that facility is constrained to a couple of buildings in a corner of that plant, so we will talk with BAE about the option of keeping those facilities there.

We also have already created our plan Bs to move those facilities into other things with that capability in event that we don't get a favorable response from BAE or we don't get a cost-effective position from BAE that will allow us to continue to be profitable and to be competitive. So we just need to work our way through that. We intend to stay in those businesses. If we can do it at Radford, we likely would like to. If we can't, we intend to execute a plan B in remaining of those businesses somewhere else.

Radford, to go back to the first part of your question, there was some write-off of assets that occurred in anticipation of the upcoming competition. We want to clean up our balance sheet as we went into the competition and not carry a bunch of assets forward that we in the event of losing would have to then react to, so we did clean up the balance sheet a little bit and I think that's what you are referring to typically Radford generated, that upper single-digit EBIT rates.

George Shapiro - Access 342

Okay. And then one more, in 2002 you were producing about 500 million rounds and now you at a 1.5 billion, with the increase being cognizant with the increase in the (inaudible)?

Mark DeYoung

Yeah you are referring to Lake City production.

George Shapiro - Access 342

Right now I am switching to Lake City, sorry about that for you, the army and Marines going into Iraq. So how do you think about what Lake City will produce in two to three years given the reduction in the size of the Army Marines drawdown in Iraq, Afghanistan?

Mark DeYoung

Yeah I think George, probably like you think. I think it’s inevitable there will be a reduction in the procurement quantities of shoulder fired small-caliber ammunition and we mentioned in the last call. I had a question which I responded to in terms of trying to create a correlation between army ammunition procurements and force structure and I mentioned on the last call. So I’ll just briefly reiterate here. It is very hard to do because ATK’s ammunition revenues are generated from large cal, medium cal and small cal.

But your question is focused on the small cal solider fired, obviously reductions in force structure will create pressure on that. The parts that I mentioned earlier that we don’t see as clearly into, is what the inventory balances are and what the training consumption might be over time and how that drawdown will occur. But I think it’s somewhat inevitable that the high volumes we are able to ramp up to very successfully and I think the team at Lake City I would like to thank them. They did a tremendous job in a very difficult situation to take that kind of a ramp up into a plant like that, but I think that that’s likely now to experience some kind of a ramp down.

Operator

We’ll go to our next questions from Joe Nadol from JPMorgan.

Joe Nadol - JPMorgan

Mark on the dividend, am I to take your prior comments to mean that your new capital deployment strategy is to return more cash to shareholders, but the incremental amount is going to be that $200 million and that we can expect a $0.20 quarterly dividend to be staying at that level?

Mark DeYoung

I think for now, that’s where we are and that was the message I was sending you is we are sustaining our dividend of $0.20. In addition we are doing the share repurchase and that’s where we are today as we looked at it. And I think as you look at our free cash flow and as you look out in the out years again, we are not prepared to give guidance on 2013 today, but you will see ATK returning a significant and majority share of free cash flow post our pension investment next year through this program.

Joe Nadol - JPMorgan

And the language also around the pension seems to leave room for a discretionary contribution here in Q4 which might lighten up the load a little bit next year in terms of both the expense and the contribution, is that something you guys are looking at?

Mark DeYoung

We will look at that, but I don’t expect it will be anything significant at all, but we will look at that.

Joe Nadol - JPMorgan

Okay. And then just finally to clarify, the restructuring that you mentioned in Q4 that you are expecting that $6 million to $10 million, that’s in your EPS guidance?

Mark DeYoung

Correct.

Tom Sexton

Yes, that’s right.

Operator

We will go next to Alex Cook from Voyant Advisors

Alex Cook - Voyant Advisors

What was the unbilled receivable balance on the company’s commercial aerospace contracts as of the third quarter?

Tom Sexton

We don’t typically provide specifics on our receivable balance. But I will say when the Q comes out next week you will see we have about $280 million of long-term receivables and majority of that is driven by our commercial aerospace programs.

Alex Cook - Voyant Advisors

Okay. And then those receivables have been building pretty consistently over the last few quarters, when do you guys expect to collect those?

Tom Sexton

We were actually starting to collect as we deliver. We’ve delivered about three ship sets now and continue to make good progress on the program. So we will collect on deliveries over the life of the program.

Operator

We will go next to Herb Hardt from Monness.

Herb Hardt - Monness

Two questions. One is, you’ve spent some money setting up offices overseas and I don’t recall seeing anything recently in terms of awards. Can you give us an update on that? And secondly, the modernization program that you discussed, are those margins kind of in line with the division or better or worse?

Mark DeYoung

Yeah, okay. Well, let me, again I will start with your last question first, Herb. On modernization, I mentioned, those have been significant revenues. However, they are lower margin typically than we generate on production programs. We do get some overhead absorption benefit, which I don’t want you to forget about in terms of being able to do hundreds of millions of hours of modernization and often times, over a $100 million for a year, with the revenue from those programs.

But the margins themselves have been significantly lower than what we would generate on production in our divisions. And then on international, we have open footprints and we have the personnel. We have personnel in Great Britain, we have personnel in Abu Dhabi in the Middle East and we have personnel in Japan to cover the Asia, which includes our focus on Australia and India and other places in that Asian region. That is the first time ATK has done that and we did that this year to actually get feet out on the street as I call it working the issues, marketing our products and creating and beginning to create relationships which we believe will lead to international sales.

Right now, international sales generate usually around 10% of ATK’s revenue. We’re tracking this year. We expect to be around somewhere $665 million in terms of international sales that we’ll generate this year and we continue to focus on that. I think, in terms of international sales, one thing if you’ve been in this business for a while, Herb, you have, it always takes longer than you think to generate international relationships in sales.

I said eighteen months or so ago, a couple of years ago when I got this job that I thought our products were underrepresented in the world. I still believe that, where we have focused and where we’ve put appropriate attention, we have been able to win. The French recently announced a win for ATK ammunition for all of their security forces and police prisons and secret service because they did a three-year study to determine what was the best performing ammunition in the world in a pistol configuration.

After three years testing ammunition produced all over the globe, they selected ATK. We are already seeing in Europe and other countries that are referencing the French study and saying the best pistol ammunition in the world is ATK’s and that is going to lead we believe to other sales in Europe associated with ATK ammunition for our law enforcement as well as security forces with there significant opportunity in Saudi. We are working right now, literally right now in Saudi.

I have put a guy on a plane yesterday, working an opportunity for gear, both our Eagle and Blackhawk type gear as well as ammunition. We have good relationships with Jordan. We won this year, the Jordan gunship, you might remember that’s a new win for us that occurred just a few months ago. That’s to take a smaller gunship application on a much more affordable platform for Jordan. We had lunch with the King of Jordan here just a couple of weeks ago. He expressed continued interest in working with ATK on some other opportunities including ammunitions. So I think our focus on international is a long-term commitment and I think we are making progress and I am pleased that we have feet on the street and we will continue to drive that.

Operator

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

Howard Rubel - Jefferies

Mark, how did you arrive at the $200 million of share repurchase? Could you kind of go through the thought process?

Mark DeYoung

Yeah we looked to what was happening with the free cash flow. You know that ATK generates typically and our guidance has been in the range of $225 million to $250 million a year in free cash flow. So we looked at our ability to continue to generate strong free cash flow and what might be a more challenging business in the next two years in terms of headwinds that we are seeing from DOD and some lower but stable revenue profiles and cash generation in NASA.

We looked at the free cash flow that we would generate going forward after funding the pension and then we looked at what we would be able to take from remaining free cash flow after covering those obligations and reasonable investments in research and development, reasonable investments in pursuing new business and CapEx and we looked at about $127 million by the time you take our dividend its $27 million, by the time you take an annual share repurchase of $200 million over two years so not knowing exactly how we will buy those shares you cut that baby in a half and say its about $100 million a year, that's a $127 million, that's 50% of free cash flow and after funding the pension it’s a much higher ratio than that. So that's how we backed into it.

Howard Rubel - Jefferies

That seems pretty fair. I have asked this in the past, you got this callable $400 million piece of debt that would add to earnings in a meaningful way. I know that there's a call premium but having set that aside is still an attractive avenue. How do you thought about that as a further means of enhancing the capital structure and the returns.

Mark DeYoung

We've done a couple of things as you know. We've recalled debt and retired debt here about a year ago, we’ve made some substantial payments in terms of debt reduction over the last two years. I think its some where around $400 million or $500 million of debt reduction over the last couple of years as we've continued to drive that debt equity ratio down or down now to our debt equity is very low compared to where we’ve been over the last six to eight previous years. So we’re pretty pleased with that in terms of strengthening the balance sheet for the future. I’ll let Steve Wold our treasurer if he wants to give any more detail or color on the question?

Steve Wold

I think Howard you’d bring up something that we look at from time to time and that is one of the levers that we have available to us and it is very attractive we’ve got another call coming up here in the spring. So we’ll be looking at that again but we kind of balance that against all of the deployment needs including the pension plan as well as the share repurchase plan that we talk about today. So its on our screen.

Howard Rubel - Jefferies

And I appreciate that Steve. And then one last item there have been part of the Pentagon’s initiative has been to spend more money on UAVs like more affordable weapons systems. And while you talk about AARGM is one example, my sense as you also been the developing ammunitions and solutions based on UAVs. Could you talk about that after a moment please Mark and what kind of opportunity do you see?

Mark DeYoung

I think its an interesting space. Clearly it wasn’t lost on us, this focus on keeping the force away from engagement as much as we can’t through UAVs and including the focus we’ve had on precision fire power and minimizing collateral damage. I think the opportunity for weaponization of UAVs is of interest to us. Clearly ATK is well known for our ability in both ammunition in the weapons areas for weaponization.

So we are engaged on several fronts in terms of weaponization of UAVs of various sizes and capabilities. We have programs, our classified program we don’t talk about in that space, so I can’t talk about them today but we have our eye on that opportunity and we are pursuing those where ATK’s core capabilities and our competencies can align with those kinds of platforms and I wish I could say more but it’s not lost on us and we are looking for opportunities to participate with our technologies there.

Operator

We will go next to Carter Copeland from Barclays Capital

Mayur Manmohansingh - Barclays Capital

Hi this Mayur on for Carter. I had a question on Sport and Security, you have noted the clients and the margins on the commercial ammunition, I was wondering if you are seeing similar margin pressures in the tactical accessories businesses and if you can just update us on the split of that business within Sport and Security?

Mark DeYoung

Yes. I will be happy to do that. I think that generally for example I will reference again the way we go to market in our Security and Sporting group is we go to a market through our sales, marketing and distribution organization, which drives synergies across that organization by a centralized sales and marketing. So as we take those tactical accessories pieces into our portfolio, we sell them to many of the same customers, Cabela’s, Wal-Mart recently brought in Blackhawk products. They began to carry a Blackhawk sub-brand of holsters, which by the way we sold their entire first order in ten days.

So it’s a very hot product for them which they have not traditionally carried. So as we do this, common products and multiple market strategies that we have and as we drive an efficient sales, marketing and distribution approach, you are selling many of the common products into common suppliers. So you do get some common pressure. You do get some common focus on margins and pricing. Pricing is always a key in this market. You always have to have the competitive product.

In the tactical accessories side of the business, that side of the business typically carries higher margin. So I would still be able to tell you even in the market we are in now for the last two quarters, Blackhawk is still one of the most profitable units in this company by a significant amount in terms of margin generation. So there are pressures there, but we are doing very well there. Blackhawk is growing consistent with our plan. Margins are meeting our expectations, which are high margins from that business and we’re able to grow that business.

So, I think on the other thing I would mention on the tactical side is, we are also focused on expanding our accessories’ capability within this market. We’re standing up a new accessories, focused organization in the Sporting group to drive these higher margin products and to take additional market share in the accessories market space. Right now, we are market share leader in commercial and law enforcement ammunition. We’re market share follower in accessories and we’re going to go after that position and strengthen it.

Mayur Manmohansingh - Barclays Capital

Great. And just one quick follow-on if I could. I just wanted to know is there anything moving into out of this new sporting group. Was it largely the same as Security and Sporting?

Mark DeYoung

Now, the Sporting Group remains unchanged in the realignment. The biggest focus in this realignment, there is a combination, obviously in Missile Products and Armament that is the biggest realignment we’re taking to create the Defense Group. From that, we’re going to generate significant savings we believe in the future, by through this consolidation. I would tell you without wanting to go into any additional details that there are also divisions within our Space group and within the new Defense group, which will be collapsed and eliminated as part of the realignment to drive the efficiency.

Operator

Your next question comes from the line of David Strauss from UBS.

David Strauss - UBS

You gave us some color on ’13. Just thinking about ’13 in terms of cash, obviously, you’re going to have the higher pension contribution. You won’t have the payment of the Flares accrual settlement. What are the major moving pieces might there be, maybe cash taxes, working capital in terms of thinking about, ’13 cash flow.

Tom Sexton

I think we will defer it to year end call to give you more color than we have on that at this point of time. As we said earlier we are still working through our plan and we just want to highlight the pension as the big driver there.

David Strauss - UBS

A follow up Mark may be talk about what is going on in non-standard and then in terms of copper talk about how your hedge, obviously we have seen a drop off, middle of last year we saw a drop off in copper prices. How might that benefit you actually at some point.

Mark DeYoung

Okay let me start with non-standard, non standard ammo was a very important program for us over about the last three years. This program for those who not be familiar with was we were managing the supply chain in procuring, accepting and testing and delivering non-standard ammunition to Afghan security forces. That program generated significant revenue as much as approaching a $100 million revenue in its peak. It has begun as we expected it to and it has begun to decline over time.

We have established our inventory but the Afghan security forces in Afghanistan and requirements for that ammunition continued to decline and will be down about $80 million year-over-year in revenue generated in non-standard ammunition from what we did in 11 and what we do this year in 2012.

So we knew it was a shorter term duration opportunity. We are very pleased to compete for it in Munich. The team got great job delivering it but it was one of those programs that we knew, once we delivered the quantities will slow and were definitely slowing down on that program.

The other question you ask about was copper. On the copper side we have been quite successful in our strategy to manage when we buy raw materials and what price points to buy them and how much we buy. We are in a good position to enter this fourth quarter with copper on hand and we are in good position to enter the next quarter of our fiscal year with appropriate copper purchased at reasonable prices and then we’ll watch those markets and we purchase as we go forward to ensure that we do our best to get a responsible price and then to be able to share the cost of that copper in the pricing of our products.

Right now, I think the way our products are priced, if there is some softening in the near-term on copper costs that we can procure at a lower price that obviously should help our margin. We’ve established pricing in those markets for this year. That happens in the shows, the beginning of fall season in that market and also in the early winter including the SHOT Show I mentioned early on in this call which was earlier in this month of January.

So pricing is established. Of course this is a consumer market, so we have to respond to the actions of our competitors, but assuming pricing is established and holds if copper softens there will be some upside, if copper increases significantly then we have to manage that as a risk and that's kind of how we view that market. I am pleased with our success today and I think we will continue to be successful in weathering through the commodity volatility.

Operator

We’ll go next to George Shapiro from Access 342.

George Shapiro - Access 342

Yes, just a follow-up; was there any incentive compensation in the first and second quarters or is that just a third quarter event?

Tom Sexton

No what we do George is there is no adjustments. What we do is as we enter into the fiscal year we begin to set up an accrual against executive compensation as we go through the year. What we have done is we have looked at the accrual that we had accrued through the year which is about $9 million toward executive comp on a three year LTI which would have paid out at the end of this year based upon settling the LUU flare and getting us behind us some other things that have happened. We looked at that accrual and says we’re not going to be paying out those management incentives to Mark DeYoung and to other people and so we reversed the accrual this quarter to address that. That’s what happened.

George Shapiro - Access 342

And then just one other quick one, in the past you know your past commodity cost through to the consumer without a lot of resistance, so can you separate out for us how much you think the margin degradation is reflective of the change in mix out there versus the inability to pass through the commodity?

Mark DeYoung

Well, it is the combination of both, obviously as I mentioned it’s a consumer driven market but it’s very competitive. So as our competitors shift their mix or as they shift their strategies and their pricing, we need to be responsive to that, because volume and market share is important in this market, so it is the combination of begin able recover all of the cost on raw materials but is largely led by the shift in consumer preferences to lower priced products. Some of our best selling products are 223 ammunition, small rifle ammunition, rimfire ammunition which is very in expensive and the consumer begin to shift their buying preference in the fall, I would tell you the majority of the softening has been in the product mix even though there is a component of raw materials.

Operator

Your next question comes from the line of Gautam Khanna from Cowen & Company.

Gautam Khanna - Cowen & Company

I just wanted to follow on I guess George’s question. So its not that price hikes on the civil ammos that aren’t sticking per se it’s more just a mix issue or is that?

Mark DeYoung

Its largely; I mean in that business there are lots of pinnacles, but try and keep it so that its understandable without having to get into infinite detail, yes its largely the mix. And we saw a huge increase, for example, we went from and anticipate we went out six times the volume in some low margin, lower priced products in the last two quarters from where we had planned to sell those products.

Now the good part about that is that we were available to respond to the shift in consumer demand, we were able to shift our manufacturing to a flexible manufacturing and supply chain management to deliver six times our planned quantity where the customer wanted to buy them. So that obviously helped our revenue. We had great organic growth. I think we were up 17% year-over-year in quarter three. That’s because we were responsive and flexible in meeting customer demand.

But that’s the kind of demand, I think that’s the best way I can help to characterize it for you is customer shifted from what last year would have been one particular product line in particular prices that six times the demand for that product in the last two quarters. And again, the good news is we’re responsive and captured the revenue, the bad news is it was lower margin product.

Gautam Khanna - Cowen & Company

And I don’t know if you have ever told us this, but the Wal-Mart and Cabelas of the world, one of the largest couple buyers of your ammunition. I mean what percentage of your sales of civil ammos outside the law enforcement side obviously go through?

Mark DeYoung

Right. Yeah, the reason you never heard us tell you that is because we won’t tell you that. So the reason we won’t is not be snooty about it. The reason we won’t is because it’s a highly competitive market and that is information which we do not share outside the executive team and outside people in that particular business who know that.

So it’s just so competitive. What I would tell you is when the Wal-Mart starts giving you the supplier support team of the year and when Wal-Mart starts giving you the vendor of the year, you’re doing a heck of a job in a very competitive retail space. At the same, we are mindful of managing the distribution of our products into that space, so that we don’t get too many eggs in one basket. I have been very mindful of that ever since we acquired these companies not to become too dependent on a single customer or retail outlet.

So I will tell you, we manage that to a responsible allocation or a responsible sales level across our retailers. But we are doing very, very well with Cabela’s, with Gander Mountain, with Wal-Mart and we just picked up a lot of new business with Bass Pro its going to begin to carry hundreds of our SKUs in their stores. That’s a new customer for us, where we traditionally haven’t had that kind of volume with Bass Pro. They’re a great company. They’re a great retailer. We’re pleased to be in their stores now. So we do well in those spaces. Obviously, very well in those spaces in terms of our respect and recognition, but it’s very competitive in terms of the percentages.

Operator

(Operator Instructions) Your next question comes from the line Robert Rob Spingarn from Credit Suisse.

Robert Spingarn - Credit Suisse

Just a follow up, I am looking at the fourth quarter and just trying to figure out the implied guidance on the full year guidance. What kind of margins do you anticipate in order to get to your, lets call it 770 at the mid-point, because you know, the way I model it, if I’ve got the pension right, you’ve got another fairly sizeable sequential decline in margin, even with -- of course, I am embedding that $10 million charge at the high-end?

Tom Sexton

Yeah, as I said earlier, we’ve got $10 million, $6 million to $10 million of restructure and we’re facing margin pressures in Securities and Sporting and then the Armament Systems, we were a little bit down from pressure there. I think they’ve an uptick in sales with some programs that will be a little bit less profit. If I look at the total year, our margin, I think in the past, we guided to a mid-11 range, and right now, we’re in the 10.5% to upper 10% range as we look at the total year.

Robert Spingarn - Credit Suisse

So about 8% in the fourth quarter?

Tom Sexton

I think it will be a little bit better than that, but, you know, you can do the math.

Operator

Your next question comes from the line David Strauss from UBS.

David Strauss - UBS

Mark, you commented on NASA, 320 this year going to 275. I assume that’s just SLS because, prior call you talked about the NASA, total NASA being around 500 million. Could you maybe just comment on the other portion of NASA what’s going on there and also whether you think 275 for the SLS things would represent bottom?

Mark DeYoung

Yeah, SLS obviously as you said it is the key driver in the revenue and I do think that it represents bottom I guess I’ll use that term and just say yes to what you said. That’s a good opportunity for us; again, we’re really pleased with the unveiling of the architecture including ATK propulsion.

That program is going to be in place as we go forward we continue to mature out that propulsion over the next several years. So I think that’s a good way to look at it, in terms of we believe and based direct conversations with the Administrator and the Deputy Administrator of NASA, we’ve been told that is their direction, that is their program of record, that is their budget line.

So I think that’s a good position for us. Part of what’s been happening in the NASA business again is the continued rollout on Constellation, work that we do for Lockheed Martin, work that we do for others both in capsule work and capsule abort system work we’ve talked to you about that in the past. Those programs largely have been put on hold this year and remain on hold. So we’ve seen some significant softening based on post Constellation realignment into SLS and we’re feeling the impact of that, but I do believe that at the SLS end of things we’re pleased that we stabilized.

Operator

There are no further questions at this time.

Steve Wold

Very good. Well, thank you Ruth and thank all of you for joining us today. We look forward to continuing conversations over the next several days; you know how to reach me. Alright, thank you very much. Thanks for joining us.

Operator

This conclude today’s conference call. Thank you for your participation. You may now disconnect.

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