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Executives

Steve Wold - VP, Treasurer, and IR

Daniel J. Murphy - Chairman and CEO

John Shroyer - Senior Vice-President and CFO

Analysts

David Strauss - UBS

Troy Lahr - Stifel Nicolaus

Robert Spingarn - Credit Suisse

Joe Nadol - JPMorgan

Richard Safran - Goldman Sachs

Howard Rubel - Jefferies & Company

George Shapiro - Citigroup

Gautam Khanna - Cowen and Company

Herb Hardt - Monnes, Crespi, Hardt and Co.

Alliant Techsystems Inc. (ATK) Q4 FY08 Earnings Call May 8, 2008 10:00 AM ET

Operator

Please stand by. Good day everyone and welcome to the ATK Fourth Quarter Fiscal Year 2008 Earnings Call. Today's call is being recorded. At this time I would like to turn the call over to ATK's Vice-President of Investor Relations and ATK Treasurer Mr. Steve Wold, please go ahead sir.

Steve Wold - Vice President, Treasurer, and Investor Relations

Thank you, Clara and good morning all. Welcome to our fourth quarter fiscal '08 earnings call and webcast. With me today I have Dan Murphy, ATK's Chairman and CEO and John Shroyer, Senior Vice-President and Chief Financial Officer.

During our call today we'll make several forward-looking statements regarding current projection for our future results. We make these statements under the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are made based on our best estimates. Estimates that are based on our understanding of information known to us today and are subject to the risks and uncertainties that face any business.

Many of those risks and uncertainties are discussed in detail in our SEC filings and I would encourage you to review those filings. Our actual results could of course differ materially from the projections that we make today. Certain financial measures we use today are considered non GAAP financial measures and we include a reconciliation of these measures to the most comparable GAAP measures on our website at atk.com where we provide other additional background data as well.

Dan will open up the call today with some brief context as for the quarter and comments on the outlook and then John will discuss some of the financial details of the quarter. At that point we will open up the phone for questions from our listeners. With that said I will turn the call to you Dan.

Daniel J. Murphy - Chairman and Chief Executive Officer

Thank you Steve. Good morning everyone and thanks for joining us today. The fiscal year just ended was perhaps the very best in ATK's history. You've seen the numbers. They pretty much speak for themselves. I'd like to comment just briefly on the performance behind them and touch a bit on the outlook and then John will get into the details as Steve said.

Our sales growth is principally the result of winning new business across the entire company. Our bid and proposal activity is at an all time high. As we continue to grow capability we are successfully extending our reach. This trend will continue. There is substantial market share yet to be won in defense, space and commercial products. We are aggressively challenging the status quo with affordable innovative solutions. Our increased profit margins are principally the result of improved execution. We are now reaping the benefit of investments made over the past 3 years in manufacturing and supplier based consolidations in lean Six Sigma processes and improved contract management.

Last year's decision to fund fully our pension plan has also reversed a four-year upward trend in pension expense easing the pressure we have previously experienced. We are on track to meet our commitment to a 100 basis point profit improvement and to reach 11% total profit margin by the end of this year, and I anticipate more improvements to come.

For the current and future years I have increased confidence across the board, across the top and bottom lines and frankly everything in between. We have strong fundamentals and demand for our products. We have strong order flow and backlog, key development programs such as AARGM, PGK and JSF will soon transition to production. At the same time we are competing for large new programs such as Excalibur 1B that may be supersonic target and next generation missile warning system. We are also expanding content in human space exploration, commercial aerospace structures, satellite subsystems, ISR platforms and medium caliber gun systems.

As a consequence, we see continued 8% to 10% organic sales and double-digit earnings growth. We will continue smart deployment of our strong cash flow to create added value for our shareholders and we will continue to grow our defense and space portfolios through execution excellence and strategic acquisitions. I know everybody is particularly interested regarding the current state of play on the MDA acquisition. There is not a whole lot that we can say right now until the process completes. But I would like everyone to know that we have received absolutely no indication of a change in the Canadian government position taken in their 8 April letter to us that would deny the sale. The clock for the file termination expires today. We will be informed of the final decision within a week. At that time I'll have more to say about the entire process, so John let's get into the details.

John Shroyer - Senior Vice-President and Chief Financial Officer

Thanks Dan, Good morning everyone. As Dan said your company had a great year. Orders at $6.5 billion and sales reached $4.2 billion. EPS jumped 21%, net income and free cash were stronger than they've ever been. The groups had great years and were positioned for growth.

Sales in the quarter reached $1.1 billion, up 12% as I mentioned for the year they are up 17% to $4.2 billion. While our top line growth was impressive, it is even more important that we bring it to the bottom. EPS was up 17% on the quarter to $1.83 was up 21% for the year to $6.43. Net income was up 19% in the quarter to $64 million and up 23% for the year to $226 million. And we achieved this despite the expiration of the federal R&D tax credit which cost us a couple cents for the year.

We also had an outstanding year generating free cash of more than $280 million which was $20 million above our previous guidance. I think it's important to note that the increase reflects free cash previously expected to be generated in the first quarter of fiscal year '09. Yet we held on to our FY '09 free cash guidance of $260 million. The free cash results reflect continued improvement in working capital management with day sales and working capital moving down to 62 days.

Orders reached $6.5 billion for the year, a book-to-bill of more than 1.5 aided by the Aries I work and the RSRM extension, an indicative of the long term growth prospects for the company. We expect another strong orders year in FY '09. Obviously, we won't have another big ticket Aries I order but if we adjust out sales on our NASA business, we expect the book-to-bill in FY '09 to exceed one.

Based on the strength of significant orders backlog and increased visibility into FY '09, we are raising our fiscal year '09 EPS guidance to a range of $7.15 to $7.35. I do want to make it clear that our new guidance assumes that Congress will retroactively extend the R&D tax credit. We'll hold steady on our sales guidance for now and as always we'll update you throughout the remainder of the year.

As a reminder, our FY '09 guidance does not include any data related to MDA. There is a possibility that the Canadian government will deny the acquisition. If that happens, we expect to take a charge against our Q4 FY '08. That charge is estimated at approximately $0.10 to $0.12 on EPS.

Okay, now I would like to provide a little more detail on the groups. Starting with Armament Systems. As we said in the press release, we've changed the name of the group to better reflect the breadth of its complete product line. But when you look at the numbers, it quickly becomes evident that while the name changed, its strong performance remained on track. Armament Systems sales were up 16% for the year to $1.5 billion and up 8% on the quarter to $405 million. Civil ammunition was once again the pace setter for the increase.

The EBIT rate for the year was 9.5% and 10.2% on the quarter, in line with expectation and a result of continued focus on operating efficiencies. You may recall that earlier in the year, we announced our intention to spend an additional $10 million in CapEx primarily to expand capacity in our civil ammunition line. That capacity is now on line. This is important because we currently have a record backlog of more than six months in some areas. This visibility into future sales is part of the reason, we have the confidence in the business and expect FY '09 sales growth in the mid to upper single-digit range. We continue to expect an FY '09 EBIT rate in the mid 9% range.

Launch Systems sales were up 13% for the year to $1.2 billion. They are up 3% on the quarter to $186 million. The increase is primarily the result of the new activity related to the Aries I and the Orion Launch Abort System. These new starts were partially offset by the anticipated reduction in strategic propulsion program. The transition from Shuttle to Aries I at Launch Systems is well underway. We are now less than a year away from the first static fire of an Aries I five segment booster.

The EBIT rate for the year as well as for the quarter was just over 14% which is in line with our expectations for both periods. In FY '09, we expect Launch Systems sales to increase by mid to upper single-digit with EBIT rates expected to exceed 14%.

Sales for the year in the Mission Systems Group were up 22% to $1.5 billion and up 23% on the quarter to $438 million. Organic growth for the year was 11% and 10% on the quarter while new sales... I mean Orion crew capsule, additional advanced weapons programs and composite structures specifically work we are doing in support of the centrifuge uranium enrichment program help drive the improvement. We really saw lot of strength across the board in the group.

For the year, the EBIT rate improved to 10.2% from 9.5% a year earlier aided by a strong fourth quarter EBIT rate of 10.3%, up substantially from 8.7% in the prior year quarter. Reduced pension expenses and the lack of a one time discretionary expense contributed to the increase.

We expect a double digit increase in FY '09 Mission Systems sales with an EBIT rate of approximately 10%. In FY '09 we expect pension expenses to be in the low $40 million range, which reflects an improved discount rate partially offset by higher salary assumption costs and FY '08 returns that fell short from our long term rate of return. We expect the tax rate for the year to be approximately 37% which again includes the assumption that the R&D tax credit will be extended retroactively, because we expect this to happen later in the year, our early quarter tax rates are likely to be somewhat higher than 37%.

Adding it all together, we expect FY '09 company wide sales to reach $4.5 billion. As in the past, FY '09 EPS will be stronger later in the year for a few reasons. Our sales tend to be weighted to the last half of the year. We are putting additional BMP dollars in the several promising pursuits in the first two quarters and finally we won't recognize the R&D tax credit, until it's extended later in the year. Consequently, we expect first quarter EPS to yield approximately 21% to 22% of full year totals.

Our margin improvement initiative remains on a steady path to approach 11% by the end of the year, and we remain confident that our strategy delivered double digit EPS growth.

To recap, FY '08 was an outstanding year. We delivered the top line and the bottom line growth, our shareholders expect. The FY '08 orders of $6.5 billion give us significant visibility and confidence in our all year performance. Based on this strength we are raising our EPS guidance for the year. With that I will turn it back over to Dan.

Daniel J. Murphy - Chairman and Chief Executive Officer

Thank you, John. Clara I think we are ready for Q&A if you would like to take over please.

Question And Answer

Operator

Excellent. Thank you very much. The question and answer session will be conducted electronically. [Operator Instructions]. And we will go to our first question from David Strauss with UBS.

David Strauss - UBS

Good morning. Hi, Dan.

Daniel J. Murphy - Chairman and Chief Executive Officer

Good morning David.

David Strauss - UBS

Could you give us an update on the USEC program where you stand on that and how it's progressing?

Daniel J. Murphy - Chairman and Chief Executive Officer

Yes it's progressing very well and we are in the initial production right now and we are performing to schedule. The manufacturer of the facility is on track, and we are actually very encouraged that we will be able to increase our scope even over what we have right now. So that's a new market for us, it's an important market. I think, as you may know the nuclear regulatory agency is predicting 34 licenses for new nuclear power plants in the next several years, and we are interested in this area and I am looking to see how we can get involved in more of it.

David Strauss - UBS

And then on Launch Systems, your forecast for mid upper to upper single digit growth, what does that assume for Minuteman and how do you kind of continue to see the run off of Minuteman progressing as we go forward beyond... before beyond the end of next year?

Daniel J. Murphy - Chairman and Chief Executive Officer

Minuteman is approaching the end as you know and we've gone from about $250 million down to I think just ...

John Shroyer - Senior Vice-President and Chief Financial Officer

$200 million David.

Daniel J. Murphy - Chairman and Chief Executive Officer

Yes okay.

John Shroyer - Senior Vice-President and Chief Financial Officer

This next fiscal year will be right around $200 million.

Daniel J. Murphy - Chairman and Chief Executive Officer

And then year after that it effectively trails off but what we are encouraged by is the Air Force has made a decision to continue Minuteman sustainment program that we had suggested. So that we can consider that 2011 and out something in the $30 million to $50 million range but the real follow on for Minuteman is in the conventional strategic weapons that are now in concept development. And each of those contemplates use of an ATK propulsion stack. So we're very well positioned for the follow on programs that are not strategic nuclear but strategic conventional.

David Strauss - UBS

Okay and then one question on MDA, is there a breakup fees associated with the deal? And if so, is that contemplated in your $0.10 to $0.12 estimate for potential transaction expenses?

Daniel J. Murphy - Chairman and Chief Executive Officer

Should the Canadian government deny the deal, there is no breakup fee.

David Strauss - UBS

Okay thank you very much.

Daniel J. Murphy - Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you and we will go next to Troy Lahr with Stifel Nicolaus.

Troy Lahr - Stifel Nicolaus

Thanks just regarding Mission Systems can you briefly discuss how you're seeing growth kind of in 2009 on the defense side versus the NASA side of the business?

Daniel J. Murphy - Chairman and Chief Executive Officer

Sure as you know we had just a terrific year in 2008, Mission Systems with four consecutive quarters of double-digit growth and the development programs that Mission had won over the past several years are maturing now. And we're preparing to ramp up in to production beginning right now in FY '09, so these programs are the AARGM program which is the most advanced air-to-ground missile under development. PGK which we are on a very rapid development and fielding program that's the guidance kit for existing conventional ammunition.

But the Joint Strike Fighter which we now have about $1.0 million of content on each aircraft is going into low rate initial production and then as I had just mentioned that the USEC program of the centrifuge tubes will provide significant near term growth. At the same time we see future growth opportunities in new areas and they are principally in the aerospace structures area for commercial, domestic and international sales. We have some innovative technologies, in particular a patented composite stiffener machine that enables on one machine the manufacturer of all the different sizes and lengths of stiffeners that form 5 kilometers of stiffeners on say a 747 and nobody else in the industry has anything like it.

And in this year we will be competing for several important and large new programs such as the Army's Excalibur 1B, precision artillery round, the US Navy's multi staged supersonic target which is hundreds of millions of dollars, maybe $0.5 billion and next generation aircraft survivability system building on our very successful AAR-47. In each of these cases, we are competing as a prime contractor having built strong partnerships within the industry. And then finally the core business of Mission which we don't talk about too much is doing very well competing and winning a larger market share and that's in the area fusing tech ammunition, tactical propulsion for missiles and rockets. So across the board we have quite a bit of new opportunity and the investment that we are making this year through IR&D and bidding proposal in this particular group is higher than it's ever been.

Troy Lahr - Stifel Nicolaus

Okay that's helpful. And then just can you update us on your thoughts regarding developing I guess a small to medium class launch vehicle. Are you still thinking about that?

Daniel J. Murphy - Chairman and Chief Executive Officer

Yes it's morphing a little bit in that several years ago we undertook to build a small launch vehicle to hone our skills principally in integrating an entire propulsion stack with the avionics and a payload. And our next launch of the small launch vehicle and which we call the ATK launch vehicle will be this summer as early as June maybe July and that will have a NASA payload to determine the effects on hypersonic flight of the boundary area we go from zero atmosphere into the atmosphere.

All of this investment is now playing very well toward the heightened interest in what we term the family of motors. Basically the concept is and it's gotten a lot of traction rather than have the entire system developer tasked us to build rocket motor set to new requirements. Our prospect is simply ask the government to give us those requirements and then we'll provide a combination of motors that have already been developed. And this concept has been matured through the ALD process. So the number of new systems including prompt global strike, the Navy's long range anti-surface missile which will be a new start in probably FY '10 or FY '11and several others are all now relying on the ATK family of rocket motors as the propulsion stack. So we may never get into the commercial space launch business. We evaluate that every quarter or so but the real benefit, near term benefit is now showing itself in proof out of the family motors concept.

Troy Lahr - Stifel Nicolaus

Okay, great thank you.

Operator

And we will go next to Robert Spingarn with Credit Suisse.

Robert Spingarn - Credit Suisse

Hi guys.

Daniel J. Murphy - Chairman and Chief Executive Officer

Hi Rob.

Robert Spingarn - Credit Suisse

John, your segment guidance on margins, going to slide 12, I think seems a little bit flattish, with regard to how you finished up this year. How should we think about that? And the pension drops a bit, but is that going to be somewhat on the corporate level or will we see that in the segment there?

John Shroyer - Senior Vice-President and Chief Financial Officer

Well it will be as you know a corporate FAS expense but we do flow that down to the segments. But I think that looking across the board, David you will... excuse me Rob, you'll see a slight increase across all three as a result of the reduced pension expense that will help drive that 10.5% up to around 11% margins for the year. And we're very confident in that as you know we've got a fairly large supply chain management initiative as well as a number of operational initiatives across the company. So we are very confident in achieving that 11% for the year.

Robert Spingarn - Credit Suisse

Is there a particular segment, John where we see that because you do have the overall 50 basis point increase? But again here if you look at it does look somewhat static and you did maybe Dan mention this or John you might have said 12% by the end of the year, I guess a fourth quarter '09 kind level. So how should we think about the three segments, is one growing margins at a greater rate?

John Shroyer - Senior Vice-President and Chief Financial Officer

The 11% was with the core business and it will be more of that will be in armament and launch than in mission and launch going forward since launch is as you know primarily cost type profile.

Robert Spingarn - Credit Suisse

Okay and then my other question Dan more broad based, it has to do with the Congress and the funding. How does ATK look at it if Congress combines the rest of this 2008 supplemental with an 2009 bridge? How does that affect your guidance, if at all? And if we don't get an 2009 baseline in the fall, does that risk... does that put any risk into the guidance?

Daniel J. Murphy - Chairman and Chief Executive Officer

Actually not, because first of all supplementals account for only about 2% of total sales and of that 2% a big chunk was simply transferred from the Army's baseline budget to the supplemental. So the supplemental itself, should we shift back to the more traditional baseline supplementals disappear and then the piece of it that we benefit from will be baseline, we are quite confident of that.

Robert Spingarn - Credit Suisse

Okay and then just on the armament side, what's the latest... I think I've asked this in the past a while back but the latest on the Goko contracts, Radford and in Missouri where do those stand at this point?

Daniel J. Murphy - Chairman and Chief Executive Officer

I think we have got... we'll be responding to an RFP shortly here as I recall it's in the late spring, early summer. And in that... so that competition is on track, there will be a number of players in it. And so we'll be submitting our proposal here very shortly.

Robert Spingarn - Credit Suisse

Is that medium or is that Radford or is that [indiscernible], where are you?

Daniel J. Murphy - Chairman and Chief Executive Officer

No this is...I am referring to here, we have of course a number of facilities that we manage right now Radford and ABL. But now this would be for the new facility management contract that is in Mylan and what's the other one?

John Shroyer - Senior Vice-President and Chief Financial Officer

Aiwa.

Daniel J. Murphy - Chairman and Chief Executive Officer

Aiwa.

Robert Spingarn - Credit Suisse

And so these would be incremental.

Daniel J. Murphy - Chairman and Chief Executive Officer

Yes. Right, right, right. And this would get us through the management of the facility, of a significant opportunity to break into the large caliber conventional munitions business, which we have very limited exposure to right now.

Robert Spingarn - Credit Suisse

Dan what kind of size are we talking about here?

Daniel J. Murphy - Chairman and Chief Executive Officer

John, can you help me there, I am not --

John Shroyer - Senior Vice-President and Chief Financial Officer

I think what we'll see is will be similar to our Radford facility, which runs in the $200 million per year range for each of those facilities. The other thing I'll mention is of course Lake City. As we announced earlier in the year, we do expect that four year extension on that facility which will take us out through 2014 on production of small cal ammo.

Robert Spingarn - Credit Suisse

Excellent, excellent, thank you very much.

Operator

Thank you and we will go next to Joe Nadol with JPMorgan.

Joe Nadol - JPMorgan

Yes. Good morning and congratulations on a good year.

Daniel J. Murphy - Chairman and Chief Executive Officer

Hey Joe, thanks.

Joe Nadol - JPMorgan

First question is on small cal, General Dynamics disclosed in its 10-Q that small cal sales were down year-over-year, and I know they're the sort of a surge source second source, but what are you seeing in that business and has your view changed?

Daniel J. Murphy - Chairman and Chief Executive Officer

We continue to be surprised by the demand and for us we have a quite a bit of diversification in our ammunition base. So we are able to move production from one area to another. We are operating at Lake City at full capacity, seven days a week, 24 hours a day. We will have, this last year produced close to 1.4 billion rounds, which is flat year-over-year from the year before, and we are preparing for a slight downturn should that come, by having introduced the tooling necessary to manufacture our civil ammunition at Lake City as well look at the John mentioned our civil ammunition has record backlogs. And should we see an easing of demand at Lake City, our intent would be to fill behind that with civil ammunition.

However, as each of you know is what we are going to have a hard time in explaining it to the general public. Very little of our small caliber ammunition at Lake City is related to actual combat operations and we have all three candidates for President, as well as the Congress committed to support of the increased force structure or the combat soldiers in the Army and for the Marine Corps and with that I think we will actually see a bit of a bump.

Joe Nadol - JPMorgan

When you look out to FY '10, FY '11, I believe in the past, maybe at your analyst meeting a year, year and change ago, you said that you could do the 8% to 10% long-term goal I think in each of those years. Given what you know today the way programs have evolved, the budget etcetera, are you still committed to that?

Daniel J. Murphy - Chairman and Chief Executive Officer

Yes.

Joe Nadol - JPMorgan

Okay. And I am looking at margins, Dan, what are the best margin opportunities across the company? You said that I think in your earlier remarks, initial remarks that you saw more opportunity beyond 11, but what are the best opportunities and which specific businesses?

Daniel J. Murphy - Chairman and Chief Executive Officer

We have terrific opportunities in government classified programs across a number of product areas that of course we can't talk about individually. This is a very high growth area for us and good margins for us. The production programs PGK and AARGM are very large in sales. PGK I think you can think of being in the $0.5 billion range once we get into production for the U.S. market and we'd see that run through maybe 2012 timeframe and the international market will be at least equal to that.

AARGM, AARGM is going into production this year. This summer we go into a limited rate initial production, the program is on track, Navy customer very pleased with it. And we are seeing expanded international demand for our small caliber ammunition as well as the dollar has sunk relative to the euro. And just one follow-up to in your question about other opportunities. I think, you all read in the press several weeks ago about the faulty ammunition that was provided by a small company in response to demand by the Iraqi armed forces to the tune of about $300 million, is that... about $300 so. There is going to be a further competition very shortly for that and we are very well positioned to take a big chunk of that here right in new term.

Joe Nadol - JPMorgan

I just have one more, then I'll get off, or stop. If MDA deal does not happen, then obviously you don't have that confirmation yet, but that's $1.3 billion of capital that you would have freed up that you didn't before. What are you thinking in terms of what you might do with that? The share prices become... maybe come up to the range of possibilities a little bit or would you look for aggressively for another acquisition to fill that hole, how are you thinking about it?

Daniel J. Murphy - Chairman and Chief Executive Officer

It's unchanged in our overall strategy which is to expand on our space and defense businesses and continually having a weather eye toward moving into a new area. We have been disciplined I would like to think throughout our history in evaluating the best use of our capital in the three areas, the three levers are unchanged. Acquisition would be priority number one, debt pay down and share repurchase in following that. The thing about acquisitions is as you all know they are a crap shoot. 50% success rate would be very much at the high end and there's so many different factors that one can't control, so we are always engaged in internal due diligence for new acquisitions to fill out those defense and space portfolios. But we'll only pull the trigger on one if it truly adds value to our shareholders. We will never acquire simply to get larger.

Joe Nadol - JPMorgan

Okay, thank you.

Daniel J. Murphy - Chairman and Chief Executive Officer

Welcome.

Operator

Thank you and we will go next to Richard Safran with Goldman Sachs.

Richard Safran - Goldman Sachs

Hi Good morning.

Daniel J. Murphy - Chairman and Chief Executive Officer

Hi Rich.

Richard Safran - Goldman Sachs

Just a quick question on Swales and I think you had commented before that you expected Swales to contribute about more than $100 million. And I realize that $134 million is more than $100 million but it just seems that maybe a bit more than you expected, so I just wanted to know is that right and I was just wondering if you could comment on how the acquisition has been going so far?

Daniel J. Murphy - Chairman and Chief Executive Officer

The integration has gone very, very successfully and yes we have done better with Swales integrated it into ATK space division than we had anticipated at the beginning of the year. We are very pleased with what they have accomplished and pretty gone excited about what our future will be again, principally in the area of classified content in support of the U.S. government.

Richard Safran - Goldman Sachs

Okay. And I'm just switching on the supersonic target opportunity that you mentioned. I was just wondering where we're at on that, what's the timing and also the $0.5 billion that you mentioned would be over what period of time?

Daniel J. Murphy - Chairman and Chief Executive Officer

The timeframe for and the word is very near, it's in the June-July timeframe. We had submitted our proposal, we've got a good team working against it. And as to the timeframe that's the $100 million is across roughly two years John? Two years, so that's a potential for significant near-term pick up for mission systems.

Richard Safran - Goldman Sachs

Okay, thanks very much.

Daniel J. Murphy - Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you and we will go next to Howard Rubel with Jefferies & Company.

Howard Rubel - Jefferies & Company

Thank you, a couple of things. First, John could you talk about copper prices and what you've done there and was that an element of contributing to the revenue growth in the period?

John Shroyer - Senior Vice-President and Chief Financial Officer

Yes, copper I think as we've discussed in the past has obviously gone up quite significantly, of the civil ammunition growth about a third is attributable to commodity price increases including copper. So that is definitely an element. And as we have said in the past we've been very successful at passing those additional costs onto the ultimate consumer and not impacting our EBIT margins in that area.

Howard Rubel - Jefferies & Company

Andso in fact the core operations did a little bit better if you kind of were take out the pass-through costs, just kind of normalize it on that basis so you're..

John Shroyer - Senior Vice-President and Chief Financial Officer

That's correct Howard, we're really focusing driving operational efficiencies across all of the ammunition lines including civil which is helping to get that incremental benefit you described.

Howard Rubel - Jefferies & Company

Andjust to stay on ammo for a moment, I know you've either had some opportunities in police forces and then in other markets with accessories, is that continuing also to contribute and do you see further... if you look at the market opportunity how would you characterize it in terms of penetration?

Daniel J. Murphy - Chairman and Chief Executive Officer

It's a terrific market just citing the accessories market. There are really two principal consumer bases here, one is in sport shooting where we think of accessories is everything involved in hunting or target practice or anything involving shooting frankly, other than the ammunition and the weapon. So that stands to targets to the boots, you name it and we have only about a very small market share right now, I want to say under 10% of the overall market. It's a profitable market with margins in the 25% range. And we have grown this area about 15%-20% John in the last year.

John Shroyer - Senior Vice-President and Chief Financial Officer

Yes.

Daniel J. Murphy - Chairman and Chief Executive Officer

And then the other area is what we call tactical accessories and this is Law Enforcement and Combat Forces, this is everything from flat jackets to holsters to ammunition belts, pouches etcetera and that offset... area also is a very large market that we have barely penetrated at all, and also with EBIT margins north of 20%. So our internal goal is to grow our accessories business in the 15% to 20 % range year-over-year and to sustain margins above 20%.

Howard Rubel - Jefferies & Company

That'spretty impressive and Dan you mentioned in your comments about BMP pursuits and while some of them look like they're in some of the segments that you've articulated. Could you be a little bit more specific, it sounds like some of these are first half items and there is something other than what we sort of see in terms of ....some of the non ammunitions programs you're talking about?

Daniel J. Murphy - Chairman and Chief Executive Officer

What we're doing now is continuing to build on the success that we've had with our guided weapons whether it be the original BTERM program which now plays into Excalibur 1B. BTERM that's for the Navy that the Navy cancelled the program of record and our contract remains to conduct a couple of more test firings. With that technology we roll right into Excalibur 1B which is a much larger market than BTERM would ever be. And so we are making that proposal right now, and should we win it then that's greater than $1 billion program over slight with huge international potential.

And then in the missile area our success in AARGM is making us much more attractive to the rest of industry to be a partner using the low cost innovative solutions that we would apply to AARGM. I think it's fair to say that the industry is pretty well impressed with what we've been able to do this, that opens new doors for us and we have about a half a dozen pursuits this year. And we will be investing more than $5 million above our normal run rate on investments in mission systems alone.

Howard Rubel - Jefferies & Company

And then just two other items. One on Aries if you could kind of touch on some of the how you've retired program risk and what are some of the other milestones that we might see up going forward? Other than the first stat... I mean guess First-Light is pretty important but maybe there are some other things preceding that give us some confidence in the process?

Daniel J. Murphy - Chairman and Chief Executive Officer

We have our first static tests of the revised design of five segment propulsion system coming up here next calendar year. Does anybody have exact --

John Shroyer - Senior Vice-President and Chief Financial Officer

It's in April.

Daniel J. Murphy - Chairman and Chief Executive Officer

April, and so that's key for us, and you are absolutely right to point out this is a development program, so it's not the same as the RSRM production program that we've done for 25 years or more. So we could carry more risk and as you would in any development program, but we are right on track. Everything that we previously modeled and estimated is proving out as we're to able to do individual component testing. And we really know how to do this, so we're quite confident that we will have a successful static test in April.

Howard Rubel - Jefferies & Company

And then last on you're basically right in front of those supplemental appropriation dollars. And then also might you comment a little bit on... frankly the Senate Armed Services Committee didn't really pull lot of spin on the budget maybe you could sort of just give us a high level view of what you've seen and how are... your programs look like they are fine but maybe there are some new nuances you could address.

Daniel J. Murphy - Chairman and Chief Executive Officer

Well, we've built a growth strategy to be not particular sense... particularly sensitive to any single platform, and the most content we have on any platform, individual platform, would be the composite work we do on Joint Strike Fighter. But essentially our strategy is based on the historical cyclicality of defense spending such that at some point in time there will be an appetite to slow down major programs and rather than build all new to modernize the platforms that exist. And those would be the F-18, the Aardvark Destroyer, the future, the current Bradley upgraded for examples the helicopters that exist. And that's where our sweet spot is, that's what we do whether in sensors or components or in weapon systems. So I personally have been anticipating this, seeing this shift for a couple of years, it hasn't come yet but it will.

Howard Rubel - Jefferies & Company

Thank you Dan.

Daniel J. Murphy - Chairman and Chief Executive Officer

Welcome.

Operator

Thank you and we will go next to George Shapiro with Citi.

George Shapiro - Citigroup

Good morning.

Daniel J. Murphy - Chairman and Chief Executive Officer

Hey George.

George Shapiro - Citigroup

In ammunition if I assume if civil probably grew about 20% again that would imply that was the... pretty much what you said that was the virtually all of the growth in the sector so that small and medium caliber were basically flat?

Daniel J. Murphy - Chairman and Chief Executive Officer

Actually no, medium caliber rose substantially, John, do you have the percent here?

John Shroyer - Senior Vice-President and Chief Financial Officer

I think for the year George about 10% and similarly in the quarter as well. Civil did lead the way but medium cal had some nice growth and as Dan mentioned the small cal didn't hang in there relatively flat for the year at 1.4 billion rounds for the year.

George Shapiro - Citigroup

So then John it means that civil is probably up something less than 20% maybe 15% in the quarter?

John Shroyer - Senior Vice-President and Chief Financial Officer

For the year George it was 25% I'll have Steve get back to you what's it for the quarter.

George Shapiro - Citigroup

Okay and then since the civil keeps leading the way and it has the highest margin in this sector. Is that the bulk of the margin improvement that you're seeing.... favorable mix?

John Shroyer - Senior Vice-President and Chief Financial Officer

We're seeing the similar margins to the military side, George pretty comparable and the margin improvement will come across the board. Dan mentioned the growth in accessories that carries a little bit higher margins than the core ammunition will be a contributor as well as just operational efficiencies across the board. We mentioned we put in the CapEx of about $10 million some of that was much more automated equipment which will help with the efficiencies and drive margin as well.

George Shapiro - Citigroup

Okay, and then one, you had mentioned John in the third quarter you figured you'd get about $6 billion in orders for the year, you did 6.5. Is there one particular program or that contributed the $500 million more than you were looking for three months ago?

John Shroyer - Senior Vice-President and Chief Financial Officer

George, we are just... not one in particular, we're just really up across the board across all three groups, with quite a few different opportunities.

George Shapiro - Citigroup

And then you had mentioned at the R&D tax credit that caused the rate to be little higher earlier in the year, can you get little more specific though I figure it's 25 or 50 basis points higher?

John Shroyer - Senior Vice-President and Chief Financial Officer

I don't have the actual rate George; it's about two pennies per quarter that it's not extended.

George Shapiro - Citigroup

Okay. Okay very good, thanks a lot.

Daniel J. Murphy - Chairman and Chief Executive Officer

Bye George.

Operator

Thank you, and we will go next to Gautam Khanna with Cowen and Company.

Gautam Khanna - Cowen and Company

Hey, guys thanks for taking my question. Just to follow up on George's question on the armament systems side. Is it now fair to assume civil ammo is about $500 million, is that so?

John Shroyer - Senior Vice-President and Chief Financial Officer

That's correct.

Gautam Khanna - Cowen and Company

Okay and within that what flavor [ph] is accessories?

John Shroyer - Senior Vice-President and Chief Financial Officer

Right now accessories is about $55 million to $60 million this past year and going up to around as Dan mentioned $70 million, $75 million next year.

Gautam Khanna - Cowen and Company

Okay, and of the $2.3 billion in bookings this quarter, can you just characterize how they split by segment, approximately?

John Shroyer - Senior Vice-President and Chief Financial Officer

We don't have the detail here with us today or we can offline give you some of that data.

Gautam Khanna - Cowen and Company

Okay and in military small caliber the rounds were flat but were the sales up in fiscal '08 didn't you have some sort of CapEx dollars that were recognized as revenue, was there any increase in the sale line there?

John Shroyer - Senior Vice-President and Chief Financial Officer

Yes, got some our sales were up about $60 million at Lake City driven by the small cal.

Gautam Khanna - Cowen and Company

So looking at the fiscal '09 can you just characterize what the growth... is military small cal going to be down even if rounds are flat?

John Shroyer - Senior Vice-President and Chief Financial Officer

No it will be, we expect the military small cal to be flat with growth again being in the civil and somewhat in the medium cal area to get that mid upper single digit growth.

Gautam Khanna - Cowen and Company

Okay, thanks a lot guys. I appreciate it.

Operator

Thank you [Operator Instructions]. We will go next to Herb Hardt with Monnes.

Herb Hardt - Monnes, Crespi, Hardt and Co.

Good morning gentlemen.

John Shroyer - Senior Vice-President and Chief Financial Officer

Good morning Herb.

Daniel J. Murphy - Chairman and Chief Executive Officer

Hi Herb.

Herb Hardt - Monnes, Crespi, Hardt and Co.

I have two questions, one is you mentioned a weak dollar had helped the small cal ammo interest in Europe. Are there any other areas that have increased interest because of the weak dollar? And secondly with all the press about the Chinese launches in terms of joint satellites for other people; has that had any effect one way or another on your business?

Daniel J. Murphy - Chairman and Chief Executive Officer

Well, I mean I'll take that latter question first. The decision for the French and Chinese to hook-up on commercial space launches certainly playing a role in our determination future attractiveness of getting into that game. And then secondarily I'd just like to point out that the spectacular intercept of the dead satellite made a couple of months ago used a good bit of ATK technology. There are two upper stages including all of the positioning for the kill vehicle are ours. And so we do see real upside benefit in an expanded use if government should decide to do that of the SM 3 missile which is about $150 million in sales in last year for us. And to point out again that I believe that the entire industry and the Department of Defense is migrating to ATK's propulsion solution for whatever the particular application might be, and that's while not quantifiable yet that's very good news for us for a long time.

Herb Hardt - Monnes, Crespi, Hardt and Co.

Thank you. And on the dollar weakness?

John Shroyer - Senior Vice-President and Chief Financial Officer

As Dan mentioned we did use see some benefit Herb in the ammunition side of the commercial ammo. We do see some opportunities coming down here on the commercial structures, composite structures area, I think in the plain area as a potential but primarily in the ammunition area.

Herb Hardt - Monnes, Crespi, Hardt and Co.

Thank you.

Operator

Thank you and we will to a follow up George Shapiro with Citi.

George Shapiro - Citigroup

Yes John, if you could just break out how much of the revenues from Aries goes into Mission Systems versus Launch?

John Shroyer - Senior Vice-President and Chief Financial Officer

George, for this past year the Aries NASA piece combined was around $630 million. Steve, I believe it's correct and then on the Mission side they had roughly $40 million to $50 million on Aries this past year.

George Shapiro - Citigroup

Okay, thanks.

Operator

And there appears to be no additional questions or comments. So I'll turn the conference back over for additional and closing remarks.

Daniel J. Murphy - Chairman and Chief Executive Officer

Well thank you very much and again on behalf of 17,000 ATK employees we very much do appreciate the interest expressed on these calls and we'll just keep getting the job done for you. Thank you, bye.

Operator

And this concludes today's conference call. Thank you for your participation and have a great day. Thank you.

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Source: Alliant Techsystems, Inc. F4Q08 (Qtr. End 03/31/08) Earnings Call Transcript
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