Good morning, and welcome to the General Dynamics First Quarter 2023 Earnings Conference Call. [Operator Instructions]. Please note that this event is being recorded. I would now like to turn the conference call over to Howard Rubel, Vice President of Investor Relations. Please go ahead.

Thank you, operator, and good morning, everyone. Welcome to the General Dynamics First Quarter 2023 Earnings 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, 10-Q and 8-K filings. We will also refer to certain non-GAAP financial measures. For additional disclosures about these non-GAAP measures, including the reconciliations to comparable GAAP measures, please see the press release and slides that accompany this webcast, which are available on the Investor Relations page of our website, investorrelations.gd.com. On the call today are Phebe Novakovic, our Chairman and Chief Executive Officer; and Jason Aiken, Executive Vice President, Technologies and Chief Financial Officer. With the introductions complete, I turn the call over to Phebe.

Thank you, Howard. Good morning, everyone, and thanks for being with us. As you can discern from our press release, we reported earnings of $2.64 per diluted share on revenue of $9.9 billion, operating earnings of $938 million and net earnings of $730 million. Revenue is up $489 million or 5.2% against the first quarter last year. Operating earnings are up $30 million and net earnings are flat against the year ago quarter. This increase in operating earnings was offset by a $31 million increase in the tax provision. Recall that the first quarter 2022 tax provision was only 14%. Nevertheless, earnings per share are up $0.03 as a result of the stronger operating earnings and a lower share count. The operating margin for the entire company was 9.5%, 20 basis points lower than the year ago quarter. This reflected lower operating margins in Aerospace and Marine, which I will address in some detail later in these remarks. Revenue was $489 million better than first quarter '22. All of the defense units were up and Aerospace down slightly, less than 1% on fewer aircraft deliveries. We beat consensus by $0.05 per share. We have roughly $550 million more in revenue than anticipated by the sell side and lower-than-anticipated margins, leading to operating earnings basically consistent with expectations. The earnings per share beat was largely attributable to below the line items. As Jason will amplify, cash from operating activities and cash after CapEx was very strong. This is particularly impressive following a very strong cash performance in '22 and not at all typical for us in the first quarter. Obviously, we were off to a very good start from a cash perspective. This is an important respects, a strong quarter, a good foundation for the year, subject to some supply chain issues that I will try to eliminate as we discuss the business segments. At this point, let me ask Jason to provide detail on our order activity, solid backlog and very strong cash performance as well as commentary about the Technologies group in the quarter.

Thank you, Phebe, and good morning. We had a solid quarter from an orders perspective with an overall book-to-bill ratio of 0.9:1 for the company. Order activity was particularly strong in the Combat Systems group, which had a book-to-bill of 1.5x. We ended the quarter with total backlog of $89.8 billion, off 1.4% from the end of last year, but up 3% from a year ago. Our total estimated contract value, which includes options and IDIQ contracts, ended the quarter at more than $128 billion. Turning to our cash performance for the quarter. It was another exceptional start to the year, with operating cash flow of $1.46 billion, representing 200% of net income. This very strong cash flow was heavily loaded in the last few weeks of the quarter. After capital expenditures, our free cash flow for the quarter was $1.3 billion, a cash conversion rate of 178%. While we continue to enjoy strong cash performance in Aerospace & Technologies, the Combat Systems group, in particular, delivered outstanding free cash flow this quarter. As expected, the U.K. resumed payments on the AJAX program. This coupled with the ongoing progress payments on our other large international vehicle program drove the group's cash performance. This is consistent with our expectation for the year of a cash conversion rate in excess of 100%. Now turning to capital deployment. Capital expenditures were $161 million or 1.6% of sales in the quarter. Similar to last year, you should expect capital expenditures to increase in subsequent quarters throughout the year. Also in the quarter, we paid $345 million in dividends and repurchased approximately 400,000 shares of stock for $90 million at just over $220 per share. We ended the quarter with a cash balance of over $2 billion and a net debt position of $8.5 billion,…

Thanks, Jason. Now I may review the quarter in the context of the other business segments and provide detailed color as appropriate. First, Aerospace. Aerospace held its own in a very difficult operating environment. It had revenue of $1.9 billion and operating earnings of $229 million with a 12.1% operating margin. Revenue was $11 million less than last year's first quarter despite the delivery of 4 fewer aircraft. The fewer aircraft deliveries were almost completely offset by higher ball stream services, debt aviation volume and special missions work at Gulfstream. The 21 deliveries in the quarter are 3 fewer than planned, two 280s did not deliver because of late engine deliveries. The other plan, a large cabin for an international customer didn't deliver because of simple bureaucratic registration delays in the owner's country. Importantly, this is the first quarter in which we have missed an airplane delivery as a result of supply chain issues. Up until now, we have managed to work around late to schedule parts delivery. Operating earnings of $229 million or $14 million behind last year's first quarter as a result of a 70 basis point degradation in operating margin. Operating margin in the quarter was under pressure as a result of fewer new airplane deliveries, a less attractive mix, severe supply chain issues, some modest cost increases from suppliers and the prebuild of G700. Let's take a look at some of these elements in greater detail. The shortage of parts to schedule from the supply chain, especially from Honeywell has created significant out-of-station work, which is inherently less efficient. We have a young, well trained and capable workforce. They have, however, never previously been exposed out of station work. They are doing well. I am pleased to report, but it had an impact. The other impact…

Thanks, Phebe. [Operator Instructions]. Operator, could you please remind participants how to enter the queue?

[Operator Instructions]. Your first question comes from the line of Seth Seifman from JPMorgan.

Thanks very much, and good morning, everyone. Phebe, I wonder to ask a question about Marine and at the risk of asking the question that you just said that we never update guidance at this time of year. If you can just give us some color, given what we thought about revenue and margin at Marine coming in. The revenue is clearly much stronger in Q1, the margin weaker for the obvious reason of the Virginia charge. Can you help us from here in terms of how the Virginia contribution changes from Q1 going forward now that the charge is done? And it seems Columbia is maybe coming in stronger. And if I could tack on one follow-up, there's been a lot of talk about the Columbia schedule, both in congressional testimony, GAO reports, et cetera. If you can give us the latest update on how you view the schedule for Columbia.

So we think that we plan to have Q1 as our lowest margin quarter. And we'll continue to work to that. Virginia is -- it will stabilize once we get the schedule and supply chain issues resolved. But at this point, it's some comment on electric boat to continue to do better to offset those costs. So with respect to revenue, there's clearly some upside pressure there, but we're going to hold any other additional comment for the moment. So let's go to Colombia. And I think just the Navy has clearly articulated it -- firmly articulated that we are ahead of the contract schedule. The contract schedule is what matters. So let's put a little context on this. We are on the Colombia. We are 16 years into the 20-year lead ship schedule. I think within that context, it's indicative of the actions we have taken heretofore and those that we will continue to take to keep this program on schedule.

Your next question comes from the line of Robert Stallard from Vertical Research.

Phebe, I may be wrong, but it sounds like these supply chain issues in Q1 got worse. So I was wondering if you could comment on that. And also, what sort of mitigation plans you're putting in place to correct these problems?

Specifically, are you talking about a particular group?

Well, it seems like it's Aerospace and the Virginia-class submarine and marine.

Yes. So with Aerospace, we have -- let's be clear, we have been dealing with supply chain issues for some time, and we've been able to manage through them. This quarter, we had 2 large suppliers get worse. We have, however, as I noted in my remarks, light at the end of the tunnel by our clear visibility in -- through our clear visibility into the third and fourth quarters where the majority of the supply chain improves. And we're working very hard with all suppliers, both in terms of teams and additional production help and to also encourage them to allocate the necessary resources in order to make their contracting schedules. So we are pretty comfortable that we can resolve these issues in the third and fourth quarter. But Gulfstream has done a magnificent job heretofore in even this quarter and managing through these challenges. With respect to the Virginia-class program, we have been talking about the supply chain challenges for some time. And as with all heavy manufacturing and labor-intensive manufacturing construction projects, manpower is a significant impact and the impact from the -- and the ramifications from the pandemic hit that supply chain pretty hard. We're beginning to see that remedy with the help of the Navy and a lot of support. So we'll continue to work with our supply chain and all elements of that supply chain as well as our customer who is very engaged to ensure that we can get that Virginia cadence back on schedule.

Your next question comes from the line of Doug Harned from Bernstein.

Phebe, on -- when we're looking at the situation in Europe right now, I mean, 2 things seem to stand out to us with respect to Combat. One is, as you mentioned, the demand for munitions. But we've seen in the 2024 budget, there was actually a reduction in the budget for munitions, which we found somewhat surprising. How do you think about the trajectory there? And your ability to -- assuming we are going to see significant growth in munitions demand and your ability to ramp up production over time?

We have been working very closely with DoD and the Army to ensure that we increase production and move...

Hello?

Hello, can you hear us?

Operator?

He appears to have lost audio.

Okay. Are we still...

Let me answer, Doug. Can the rest of the call here us?

Yes, we are still live.

Okay. So let me answer Doug's question. We've been working very closely with DoD and the Army to increase production and throughput. And we've done that in a couple of ways, upgrading existing facilities increasing the number of shifts and building new facilities with more modern equipment. So to, again, accelerate production, we have already done so and are quite confident in our ability to do even more. So we are -- we've been receiving adequate and -- completely adequate funding to execute all of this. And we are quite confident that we will move throughput much quicker and will expedite the delivery of this critical capability to the Army.

Your next question comes from the line of Peter Arment from Baird.

Phebe, thanks for the color on Gulfstream. Just on the overall demand kind of restrengthening in the quarter post the banks in the Middle East and certainly the U.S. Are you still seeing kind of broad interest across all the models? I know you've mentioned G650 in particular the last like 2 years has been very strong.

Broad interest across all the models. We're doing quite well. Do you want to ask another question?

Yes, sure. No, I appreciate that. Just staying within Gulfstream. Just I know that you're not going to update kind of guidance, but I -- the deliveries that you missed this quarter, are they expected to recover in the second quarter? How are we thinking about that? Or is this all kind of second half related?

We will resolve -- we expect to resolve all of the supply chain issues. And what you ought to think about is the third quarter and fourth quarter being quite robust. And I think what you're getting at is the deliveries that we expect to execute for the year at about 145. We're pretty confident we can get there. If we miss, it's just going to be by a little.

Your next question comes from the line of Myles Walton from Wolfe Research.

Phebe, I was hoping you could talk to how you balance within Marine higher-priority national -- the national level of the Columbia class, which is under a lower financial risk cost plus contract versus the higher financial pressure, Virginia class which is under fixed price contract, but you might have to pull resources away and just how you're managing that from a financial risk perspective?

So implicit in your question is the fact that Colombia enjoys a higher national rating in terms of urgency than Virginia. We had fully contemplated that with the U.S. Navy when we negotiated the most recent block of Virginia that was in concert timing wise with the Columbia negotiation. So we're working with the Navy to ensure that the language that we had incorporated into the Virginia contract to accommodate any such impacts on Virginia from a Columbia prioritization could be addressed. And the Navy has been working very closely with us. So we were mindful of that and have been for some time.

And so I guess just for a clarification, Phebe. Did the current financials reflect that assumption playing out? Or would there be a sort of equitable relief in the future if they agree with the position?

I'm not going to speculate on how this will be addressed ultimately with our customer. But, this is more of a future issue rather than in the moment issue. That was not the primary driver of the quarter.

Your next question comes from the line of George Shapiro from Shapiro Research.

If you hadn't had the loss of 3 weeks from the bank failures, I assume then the book-to-bill would have been above 1 in the first quarter. And is that likely to continue then in the second quarter where you're saying we are seeing significant strength now?

So our plan going before March 10, was that, in fact, we had anticipated a book-to-bill -- full book-to-bill of 1:1 on at that point, higher deliveries. So on a going-forward basis, it's our working assumption that we will continue to see 1:1. And at the moment, we see no reason why that can't be achieved.

Okay. So the delivery expectations for next year would still be the same as what you had laid out before?

We are holding to what we gave you in terms of out-year expectations for Aerospace.

Your next question comes from the line of Louie DiPalma from William Blair.

Is the lead Columbia approximately 1/3 complete now?

Yes.

Great. And as a follow-up, you referenced supply chain headwinds with Virginia and Aerospace. Is the supply chain for Mission Systems improving at all?

It absolutely is. We saw a good trajectory and gaining some traction in the quarter. That's part of the reason why volume was up nicely in the quarter, and they seem to be on a good path to overcoming that bottleneck in their system. So gives us confidence for the opportunities we have in the second half of the year.

Your next question comes from the line of Kristine Liwag from Morgan Stanley.

Phebe, per new plans unveiled last month under the August pack, it looks like Australia could buy up to 5 Virginia-class submarines potentially in the early 2030s. So with the backlog now of 17 Virginia is delivering through 2032, how are you thinking about this opportunity? And what's the production capacity required to meet this demand?

So we are working with our Navy customer to clarify timing and capacity and throughput. But at the moment, we have no particular insight, not really deferring to the Navy on and the timing and specificity of their long-range planning?

And if I could sneak another one, maybe switching to combat. Look, it seems like the Army is pushing significantly to ramp artillery production, particularly the 155-millimeter shells and planning to double monthly production to about 24 per month by year-end. And then increasing production 6x over the next 5 years. How are you thinking about this opportunity? And again, do you see -- what do you need to do in order to meet this demand? Should it materialize? And are you seeing the orders come through?

We have seen the orders come through. And we do not yet have out your clarity on the exact timing of the additional production, but we will see additional production. And because of the priority of the 155, I think the nation has learned a lot about 155 artillery shelf. So we've done a lot to increase production already, and we are quite confident that we can go even faster.

Your next question comes from the line of Matt Akers from Wells Fargo.

I wanted to ask kind of a high-level question on pilots for biz jet. On the commercial side, lack of kind of staffing with standing like pilots and crews has been kind of a pacing item. What's your sense for business jets or your customers kind of better off in that respect? Or could that potentially be a bottleneck for biz jet as well?

Well, I think during the height of COVID, there was so much disruption at all labor markets that we may have seen some issue then. But frankly, it didn't impact us. We're not seeing anything at the moment that is impacting our ability to fly, our customers' ability to fly or frankly, flying hours.

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

The G700 is in there. Is software validation, the pacing item still? And if so, how far are the way through that are you?

No, it is not. And we are in pretty good shape here with respect to our certification. And look, this is an extremely mature, safe and sophisticated aircraft. So we're working very closely with the FAA to ensure that they've got the proper resources here to execute the certification, but it is coming.

Okay. A quick follow-up. Jason, you mentioned 8 resumptions of the AJAX payments. Can you update us on kind of the schedule for the liquidation there? How you expect that to play out and also on the Canada program?

Yes. So obviously, it was a positive development to see the payments resume here in the first quarter as we expected. The path forward with the customer is an ongoing discussion, we've worked through the revised schedule for the program. But some of the other particulars around milestone payments and progress on that schedule are still in the works. So it would be probably remiss of me to get out ahead of that. In terms of the Canadian program, things are continuing to proceed well. That customer for the past 3-plus years has paid on time as per that schedule we negotiated. And so a couple more payments to come this year. And then really, what you can think about it is the entire arrears that we were dealing with some 2, 3 years ago will have been paid down and will be in a normal program cadence and schedule at that point, so by the end of this year.

Your next question comes from the line of Ken Herbert from RBC Capital Markets.

I just wanted to see -- I wanted to see if we could put a finer point on the Aerospace margins in the second quarter with supply chain issues and other timing around the certification and prebuild. Is it -- or second quarter margins expected to be similar to first quarter or was first quarter expected to be the trough for the year?

I think you may need to think about the second quarter being our lowest quarter and then with a very steep and executable ramp-up in third -- third and fourth quarter, I tried to give you guys an awful lot of color in the remarks about the puts and takes on all the margins with respect to Aerospace. But we -- we'll get through the second quarter. And frankly, these first 2 quarters are aberrational in terms of Gulfstream margins, and then we ought to see nice pickup in third and fourth quarter.

Okay. And then just as a follow-up, just considering the roughly 100 aircraft implied in the guidance for the second half deliveries and the supply chain issues, are you having at this point to maybe look at second sources? Or is there anything else you're doing now? Obviously, it's very late in the game, but to maybe improve or do you further derisk the supply chain beyond just the execution?

So we've been doing that for some time. As you all know, the supply chain on the Aerospace side has been taxed for quite a bit of time. So they were not taking any new actions that we haven't already executed, and we're just ramping up some of those actions as we -- in the first quarter and then as we go into the second. But we have, as I said earlier, a very clear line of sight into the third and fourth quarters and the majority of these suppliers fully anticipate getting better. And we'll work with the remaining ones to ensure they've got the resources to execute the contract.

Your next question comes from the line of Ron Epstein from Bank of America.

Maybe just a quick question, maybe 2. What are the synergies so far from merging the 2 businesses in kind of mission Tech? How has that gone?

So keep in mind, Ron, when we talk about merging those businesses, they still remain 2 independent and stand-alone operating units within our model. So not really anything to think about from a cost synergy perspective, I think the way to think about that is more of a revenue synergy point of view in that what we talked about is -- those 2 businesses are seeing a real convergence on a number of fronts within their markets, what their customers are interested in procuring in terms of end-to-end solutions that include the IT service side, software solutions as well as hardware as well as where their competitors are going in the market to address those demands. So bringing those 2 businesses together has put us on a good footing to address that market and those demands. And that's what we're seeing, and you're seeing that in the positive order performance in the quarter and book-to-bill, capture rates, win rates and so on. So all of that gives us good confidence in terms of the trajectory of the outlook that we see for each of those businesses.

Got it. Got it. And then maybe just one quick follow-on. How much of the free cash flow in the quarter can be attributed to AJAX?

Yes. So we have factored the net of payments to the supply chain, which has been very patient through this whole period into our estimates for the year.

Yes. So I want to make sure I understood your question correctly. It was a roughly GBP 480 million payment that was received. And to Phebe's point, that the net impact of that after paying out supply chain elements on the program, all of that's factored into the outlook that we have for the year. So that 105-ish percent conversion rate for the year that we talked about is now intact and all that much more certain based on the activity in the first quarter.

Your next question comes from the line of Pete Skibitski from Alembic Global.

The issues on the Virginia supply chain, it seems like it's been a little bit of a black box. So just -- I was wondering if I can get more detail. Does it relate to multiple suppliers? And can you give us a sense of what parts are involved? And then are we feeling good that as the mix shifts to the Block 5 that margins will improve there?

So it's multiple suppliers, some large and some small. And we have, again, continued to work with the Navy to address the challenges that they all have faced. And even though you have different sized businesses, many of them have been confronted with the same labor dysfunctions that we saw coming out of COVID. The Navy has been providing as well as the Congress been and providing funding to address some of the challenges within the industry -- some Marine industrial base, and we're hopeful that over time, that will resolve. And we'll continue to see, I believe, improvement as we get into Block 5 and the supply chain stabilizes, but we've got ways to go there. And I think importantly, and this is the way we certainly think about it, Electric Boat just has to get better and faster to overcome any unexpected additional future supply chain challenges that may hit us. But we're not going to get into listing parts. This is an enormous supply chain. You can imagine with thousands of suppliers all over the nation.

That's fair. And kind of one follow-up Phebe. How is the -- how are you judging the pace of hiring and the labor risk kind of through the midterm at EB, just given the kind of the huge increases in volume that are required there?

So again, coming out of COVID, I think we all felt a little bit of the labor constraint. But one of the reasons that we saw increased revenue in this quarter was extremely strong throughput coming out of as a result of robust hiring that they have executed and the training of those workers so that they hit the ground running, and we're able to have additional -- execute additional throughput up at So we consider that a good bellwether for our ability to continue to hire to meet our needs.

Your next question comes from the line of Robert Spingarn from Melius Research.

Phebe, Combat has been discussed throughout the call, but just a couple of quick things. Would you -- is it fair to assume that the book-to-bill will continue to be above 1 for this year and beyond, just given the strength? And then the second part of this is, as armament munition sales grow will they be margin accretive or dilutive to the overall segment?

So when you look at historically Combat orders, they tend to be pretty lumpy. I think the important way to think about it is the underlying credit could exist, let's say, it is an increasingly insecure and threat-driven environment, and that will drive additional orders, when those execute, will be a little bit lumpy, but we have -- we expect to see a continued demand, including on the munition side. But we have planned in -- for our plan this year, we've executed, we've anticipated margins that are pretty consistent with what they've been doing. It's just executing, operating, ensuring that we've got operating leverage, including on these new facilities that we're putting in place. But recall, this is a group that has extremely strong operating leverage and based on their efficiency and blocking and tackling on the shop floor. So we'll expect to see margins continue.

And operator, we'll take this one last question, please, and then we'll wrap up the call.

Certainly, your final question comes from the line of Cai von Rumohr from TD Cowen.

Yes. So Phebe, I'm still a little confused about your statement that Q2 earnings should be the lowest because pretty clearly, it looks like Marine should be better absent the VCM charge. Combat usually is a little better. GDIT is stable. And you've highlighted Aerospace, but the volume is going to be higher than it was in the first quarter. Margins given where the volume was actually looked pretty good in the first quarter. So it would seem to imply a pretty steep drop-off in margins. Could you give us some color in terms of what is creating that situation? And is that something we should be worried about will continue in the third and fourth quarter?

I tried to be pretty clear that we do not anticipate any -- at Gulfstream, the margin performance in these 2 first quarters replicating in third and fourth quarter. In fact, we see a fairly strong ramp to increase margins. These margins are aberrational and we do expect some additional perturbations on the supply chain and out of station work Gulfstream as well as mix issues. With respect to Marine systems, it's material timing between first and second quarters. And in technologies, it's transitioned from mature programs that are winding down and being replaced by some follow-on new starts. So in each one of these groups, we are seeing a convergence of in the quarter, particularly lower margins and lower earnings and sales than we typically see. We usually have a steady build through the year. This is rather, as I said, aberrational, but we'll get through this. And importantly, we don't see these issues leading into third and fourth quarter, we anticipate a very strong third and fourth quarter, and that is unchanged.

Thank you for joining our call today. And as a reminder, please refer to the General Dynamics website for the first quarter earnings release and highlights presentation. If you have additional questions, I can be reached at 703-876-3117.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.