Good morning and welcome to the General Dynamics Fourth Quarter 2019, Earnings Conference Call. All participants will be in a listen-only mode. After today's presentation there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Howard Rubel, Vice President of Investor Relations. Please go ahead.

Thank you, Alyssa, and good morning everyone. Welcome to the General Dynamics fourth quarter and full-year 2019 conference call. Any forward-looking statements made today represent our estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10-K and 10-Q filings.

Good morning and thank you, Howard. So, earlier today we reported fourth quarter revenue of $10.77 billion, earnings from continuing operations of $1.02 billion and earnings of $3.51 per fully-diluted share. This 14% improvement in EPS against the fourth quarter of 2018 was a result in part of a 50 basis point improvement in operating margins. The quarter-over-quarter earnings improvement at Aerospace was a major driver of this result. We enjoyed a very solid fourth quarter and a strong 2019. We achieved most of our operational and financial goals and added meaningfully to our backlog, in some cases rather dramatically. The results in comparisons with prior periods are straightforward and rather compelling. I'll go through them briefly, I'll leave more time for my thoughts on the business segments, our outlook for 2020 and your questions. I also think you'll find the press release and the highlights chart on our website fulsome and helpful. As we had indicated at the start of the year, the final quarter was our strongest. Earnings per share at $3.51 beat consensus by $0.06, revenue and operating earnings were somewhat better, our provision for tax was lower offset somewhat by a higher share count and higher borrowing cost. So, all-in-all, a solid quarter with good performance compared to the year ago quarter as well as the third quarter of 2019. For the full-year, we had fully diluted earnings per share from continuing operations of $11.98. Revenue of $39.35 billion was up over 2018 by $3.2 billion an increase at each of our reporting segments. Operating earnings of $4.6 billion were up $191 million or 4.3% over 2018. Earnings from continuing operations of $3.5 billion were up to $126 million or 3.8% over 2018. Importantly, earnings per share from continuing operations were $0.76 above 2018. Our business was strengthened by significant growth in our backlog to a new high of $87 billion. A very strong order intake particularly in aerospace and marine, positions the company well for 2020 and beyond. Let me review the full-year and the quarters on a year-over-year basis without reference to sequential comparisons. On a sequential basis, suffice it to say that we have significantly more revenue, higher operating earnings, higher earnings from continuing operations and higher earnings per share than in the third quarter of 2019. So, I'll discuss each group, provide some color where appropriate.

Thank you Phebe and good morning. I'm going to cover a number of topics to provide some color with respect to our 2019 results and some context for the 2020 guidance that Phebe will give you in just a few minutes. First is cash. As you can see from our press release exhibits, we generated just over $2 billion of free cash flow in the fourth quarter, reflecting approximately 200% of net income. That resulted in the cash conversion rate of 57% for the full-year, obviously lower than we were striving for. As you might infer from this result, we did not collect the outstanding arrears on our large international combat vehicle program before the end of the year.

Thanks, Jason. So, let me provide our operating forecast for 2020, initially by business group and then a companywide roll-up. In Aerospace, we expect 2020 revenue to be about $10 billion, without pre-owned sales up from 2019. Operating margin will be about 15.7% to 15.8%. Revenue will be much stronger in the second-half as well margin rate. Operating margin will accelerate through the year similar to 2019, starting in the 14% range and ending around 18% by the fourth quarter. We are seeing 5% revenue growth in 2020 in between $40 million to $45 million of improved earnings. In Combat, we expect revenues about $7.3 billion and approximately $300 million increase over 2019. We expect operating margins to be about 14.3%. Here again, look for both revenue earnings and margin rate to grow quarter-over-quarter during the year, with a particularly strong fourth quarter. We continue to seek a solid growth for the business with orders for the Abrams and solid demand for our Stryker vehicles ammunitions. Like last year, we see domestic volumes rising faster than our international business. Although a few international opportunities could tip that bound. The Marine group is expected to have revenue of approximately $9.85 billion, an increase of almost $700 million over 2019. Operating margin in 2020 is anticipated to be about 8.6%. We anticipate growth at each of our yards a long-term driver of growth here is the submarine work which is expanding exponentially. Our biggest opportunity in this group is to outperform the forecasted margin rate. We expect IT revenue of approximately $8.45 billion consistent with 2019. With margins in the 7.6% range, the results in a modest increase in operating earnings. We expect Mission Systems revenue in 2020 of about $5.1 billion, an increase of approximately $140 million. We anticipate operating margins…

Thanks, Phebe. As a reminder, we ask participants to ask one question and one follow-up. So, Alyssa, would you please remind the participants how to enter the queue now, please?

Yes, thank you. We will now begin the question and answer session. And the first question today comes from Ronald Epstein of Bank of America Merrill Lynch. Please go ahead.

Good morning.

Hi Ron.

Just following-up on your final comment there that you have more flexibility around capital deployment. That was a bit of a teaser. What are you thinking? I mean, what, buying back shares? I mean, what are you thinking about that?

So, we'll deal with our short term debt and then we will buy back shares appropriately.

But, anything else? I mean, are you thinking about other things to do in the portfolio? Meaning, I mean, we've seen a flurry of M&A in the space. So I mean, is there anything --

We don't comment on M&A. Nice try, Ron.

Okay. Alright. Alright, thank you, guys.

The next question comes from David Strauss of Barclays. Please go ahead.

Thanks. Good morning.

Hi, David.

Phebe, on the Gulfstream, I guess, revenue forecast. Can you help us a bit maybe at a high-level in terms of some of the moving pieces there? What you're expecting for total aircraft deliveries kind of the ramp down on the 650?

So, we expect about 150 aircraft deliveries this year, and consistent with our expressed plan to you all sometime ago. We will ramp down the 650 deliveries as we increase the 500 and 600 deliveries. So, that mix and cadence around that mix is anticipating, is playing out as anticipated.

And do you expect more of the 650 ramp down to occur in '20 or '21? I think before you've been talking about more of that hit coming in '20 versus '21?

Largely in '20, but we will continue to ramp according to really the demand. We are ramping to a point where we have demand and delivery in an equilibrium, and I'm quite comfortable that we'll get there. But, it's pretty clear that it was very clear to me that in 2020, 650 deliveries will as anticipated decrease.

The next question today comes from Robert Stallard of Vertical Research. Please go ahead.

Thank you so much. Good morning.

Good morning.

On GDIT Phebe, it looks to me now the organic revenue growth has been a little bit below what some of the other peers in the industry been able to achieve, and that's why they continue in 2020. Now, is this a consequence of these award delays, or is it something to do with just the time it takes to integrate CSRA or something else? And when would you expect this revenue growth rate to pick up?

So, I was pretty explicit in my remarks around that, but just to reiterate. There were three fundamental factors. First, we experienced significant delays in the execution of awards. The velocity of execution slowed considerably, and the number of potential awards caught and this set of purgatory increased dramatically. Second, and don't forget this, we exited two lines of business last year. And third, we had several mature programs and we lost one or two recompetes, both of which reduced near-term volume that will be replaced over time by our new limbs. So think of this latter category as mix and timing.

So is it safe to say…

So, to your second question, we had anticipated 2019 from 2020 would show some growth, that growth has now moved to the right in 2021. And we're expecting mid-single digit growth, again driven by the execution and velocity of the contract awards.

Okay. Thanks so much.

The next question comes from Doug Harned of Bernstein. Please go ahead.

Thank you. Good morning.

Hi, Doug.

Can you take us through a little bit on the Block V Virginia-class, because this is obviously a bigger boat, it's very important? What are the differences that you see between Block V and Block IV? And how should we expect that to flow through to financial performance over next several years?

So, you quite accurately point out the Block V represents a considerable increase in capability for the U.S. Navy, and a considerable increase in our workload, given that the addition of the new capabilities is executed entirely by us. And so, as we think about from Block IV to Block V, we continue to come down our learning curves. And we are sequencing all of these now builds around the first delivery of Columbia, which we’ll start work at the end of this year. So, I think that with respect to Block V, our job is simply to execute Block V effectively. And as I said in my remarks, the key here is just increasing our margin and really improving our ship over ship capabilities. So, we've got Block V in very good shape along with our Navy customer, and we've begun to work on it, and we will continue that execution for the next several years.

And then you talked about the investment you're having to make for CapEx for both in Block V and Columbia class. But, when you think about the trajectory for that investment it's not just facilities but it's also labor. And when you look at planning for this, how do you see the trajectory for your costs and for reimbursement by the customers, you work to build up here?

So, let's take that in two fold. First, our customers well aware of the imperatives that we face. And they have worked closely with us to better match the investment with the return, which is wholesome for everyone. With respect to the essence, and now that your question ramping up on growth in our workforce, so we started this about eight years ago, working in public-private partnerships with Rhode Island and Connecticut to begin to trend the kinds of workers that we needed, and in large numbers. That coupled with our internal training program, we have demonstrated over the last four years. We have brought new shipbuilders into the yard at a higher initial capabilities. And then they continue to learn. So, the Navy has fully supported our efforts with respect to expanding our workforce and the need to bring training up into skills that frankly in this country have atrophied. When you think about plumbing and pipe fitting and electricians and welders, welders are critical and key capability. A number of those in the U.S. training programs throughout the United States had to had atrophied a bit. And in our world up in New England, we are rebuilding those at a very rapid rate. So, we're very comfortable that we can meet our expectations for growth.

Thank you. Our next question comes from Cai von Rumohr of Cowen & Company. Please go ahead.

Yes, thank you very much. So at one point, Phoebe, you were talking about the G500 and 600 coming down the learning curve, and becoming more profitable as we move out in time. And I think you suggested in 2021, directionally margin should be up as that plus ways the mix shift away from the 650. Is that still a trend that you look for?

Yes, it's a trend that we look for and that we are experiencing. As you would expect from the operating discipline, and the price discipline and cost discipline that we have, we continue to see learning and nice learning on each and every one of these aircrafts coming down the line to offset the reduction in part, as offset the reduction in 650 deliveries. We have clearly articulated this plan several years ago and we've been right on sequence on it. So, I think there's nothing new there in terms of the strategy and the execution around that strategy.

Terrific. And then Jason, quickly for you. You talked of conversion going to 100% in 2021. Can you give us some color in terms of how much does pension contribution come down if at all? How much does CapEx come down? And what kind of a benefit do you get from inventory liquidation on the 500 and 600? Thanks.

Sure. So, when you think about the capital investment, I think, I said earlier, we had expected about 3% of sales in 2019, and ended up at about 2.5%. You should expect to see that in a similar range, call it 2.5% in 2020 because of the elements of that that we pushed to the right. That'll step down starting in 2021, so that by call it 2023, we will be back to the typical, more historic typical 2% range that we've been in. Pension contributions, on the other hand, as I mentioned, elevated $400 million plus in 2020. It will stay elevated for another year or so maybe a year and then come back down from there. So, a little bit of a surge in pension contribution and then returning back down to a lower level. And then, I think in terms of the working capital, the biggest single thing that you should expect is we ended the year with somewhere close to the neighborhood of $2.9 billion of unbilled receivables contracting process if you will, on the large international combat vehicle program. That will step down to the point that that working capital is essentially liquidated by the end of call it 2023. That along with the 500 and 600 as you mentioned those test articles will be sold here in 2020 and 2021, respectively. So, those will be a benefit. And as a result, the aggregate outcome of that as we expect to actually see free cash flow in '21 and beyond, call it 2021, '22 even '23, actually in excess of 100% of net income. So, we will start this recapture some of that shortfall that we've had over the past couple of years.

The next question comes from Joseph DeNardi of Stifel. Please go ahead.

Hey, good morning. Phebe, if we go back four or five years, I think there was a debate as to how the Navy would afford Colombian and Virginia and they have decided to fill both simultaneously. When does that actually get locked in? Do you see any political risk to that that decision gets revisited whether to feather in a Colombian placement Virginia, or is that a risk going on at this point? Thank you.

So, think about long-term demand for a given product line as driven by the war fighter's needs. And with respect to classes of our submarines there is real war fighter demand on Virginia. And then on Columbia, that is a national program and it can't wait. So the nation sees the decision-makers in both the executive branch and on capital you will see the imperative to fund and wholesomely fund both of those programs. And as we sit here today, we see pretty good surety, very good surety on a going forward basis. The stability of that backlog and the reliability of increasing backlog in submarine for quite some time to come. Think about the submarine business, ship building in general, bur the submarine business in particular, as executing slowly over time relatively slowly over time given the complexity of building a nuclear submarine. That is offset in terms of predictability of backlog. These are very secure platforms, because they are in demand. They are in current demand and they will be in future demand, there are certain imperatives.

The next question comes from Noah Poponak of Goldman Sachs. Please go ahead.

Hi, good morning everyone.

Hi, Noah.

Phebe, I wondered if you could just expand on what you're seeing in the overall business chat in Gulfstream demand environment, because on the one hand some of the leading indicator data there has looked a little tougher, but obviously you've got your new product set and have the really strong bookings in the quarter. So just kind of curious to here we're seeing. And was the book-to-bill excluding the G700 also above one in the quarter?

So, the answer to your question, the latter question is yes. If you have been following us and you have for some time, you'll know that that our basic predicate for this business is that new product and truly new product, clean sheet airplanes all new drive demand. And that predicate is where now, not surprisingly, in my mind. So, our new products are generating demand and are expected new product in the 700 is generating demand. So, think about the experience of OEMs in this market as really idiosyncratic to the product offerings staff. So, our experience in this market is that we have enjoyed nice, steady demand year-over-year, that demanded is increased as the new products are announced and enter into service. And in addition, so much of selling airplanes is predictability of the delivery and reliability of the airplane and the ability to service. All of that drives demand and we are, I think, arguably, without questions, the best-in-class with respect to all of those key factors. So, we are quite comfortable with our positioning and the fourth quarter was good and the pipeline is active.

And then just on the margins in the segments. I think the company has said that the 2021 rate of expansion should be faster than the '20 rate of expansion, and I think you've even said getting back into the high-teens '21 maybe '22. Do I have that, right? Does that still hold in terms of the trajectory from here?

The trajectory does hold and will end this year in the high-teens margin. But then, so this is a complex business of lots of moving parts. So, margins tend to be somewhat variable quarter-over-quarter largely driven by mix. But again, the basic thesis around the introduction of these airplanes and the profitability and the realization of that profitability remains today, the same as it was.

The next question comes from George Shapiro of Shapiro Research. Please go ahead.

Yes, good morning. Maybe, it doesn't look like the 650 deliveries really came down much if anything in '19. So, are the declines in '20 reflecting just lower backlog in 650 today, than a year ago or what's really driving the 650 decline?

650 backlog has not declined. We've seen a nice increase. Look, the deliveries quarter-over-quarter of these airplanes is often driven by customers. So we had, about three 600s that for various outside the United States regulatory issues, or delayed, we'll move into this delivery is expected for this quarter. And we have some 650s that customers wanted earlier, so we took a few of those. And we're able to execute and satisfy those customers' needs. So, 650 has done extremely well, not in significantly, as we talked about in this call and the third quarter. There are a lot of demand signals and demand catalysts for the 650. The introduction to 700 clarified it. And frankly, as we told you, what has increased 650 demand. So, by the way, this airplane, we've got 400 of them in service, and some of them are coming out of warranty and there's a natural replacement cycle. So, we continue to see nice demand for the 650.

So why bring down the deliveries if the backlog is up, I must be missing something here?

Because, ultimately overtime you want to fully match the backlog with the deliveries. And if you recall, we entered this transition period with an extraordinarily long and I argued that time, a too long wait time. And we have equalized that wait time to order to wait time significantly during this transition period. And we'll get back to that regular cadence. But look, our 650 order book, and what we've got in backlog fully supports our going forward 650 production estimates. That's what you really want to see, if the order book is enough to satisfy your 650 deliveries.

Operator, this upcoming question will be our last.

The last question today comes from Seth Seifman of JP Morgan. Please go ahead.

Thanks very much. Good morning.

Good morning.

Phebe, you mentioned in Marine Systems that there was opportunity in operating margin. Are there specific milestones that you would point to potentially coming up this year? And if so, what and when are they?

So, there are multiple milestones in any given year, and they are tied to exceedingly large number of internal milestones and milestones to our Navy customer. But that's not the only thing that drives. So, we will see some of those, as we always do in any given year. But really our ability to drive margins is all about the cost control and performance, and we continue to drive hard on both. This is a very high performance shipyard

Thank you very much.

Thank you very much. And thank you all for joining our call today. As a reminder, the General Dynamics website for the fourth quarter earnings release and our highlights presentation, which will be available at the conclusion of this call. If you have any additional questions I can be reached at 703-876-3117. Alyssa?

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.