Lockheed Martin Corporation (NYSE:LMT) Q4 2023 Earnings Call Transcript

Lockheed Martin Corporation (NYSE:LMT) Q4 2023 Earnings Call Transcript January 23, 2024

Lockheed Martin Corporation beats earnings expectations. Reported EPS is $7.88, expectations were $7.26. Lockheed Martin Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day and welcome everyone to the Lockheed Martin Fourth Quarter and Year-End 2023 Earnings Results Conference Call. Today’s call is being recorded. [Operator Instructions]. At this time, for opening remarks and introductions, I would like to turn the call over to Maria Ricciardone, Vice President, Treasurer and Investor Relations. Please go ahead.

Maria Ricciardone: Thank you, Luis [ph] and good morning. I’d like to welcome everyone to our fourth quarter and full-year 2023 earnings conference call. Joining me today on the call are Jim Taiclet, our Chairman, President and Chief Executive Officer; Jay Malave, our Chief Financial Officer. Statements made in today’s call that are not historical facts are considered forward-looking statements and are made pursuant to the safe harbor provisions of federal securities law. Actual results may differ materially from those projected in the forward-looking statements. Please see today’s press release and our SEC filings for a description of some of the factors that may cause actual results to differ materially from those in the forward-looking statements.

We posted the charts on our website today that we plan to address during the call to supplement our comments. These charts also include information regarding non-GAAP measures that may be used in today’s call. Please access our website at www.lockheedmartin.com and click on the Investor Relations link to view and follow the charts. With that, I’d like to turn the call over to Jim.

Jim Taiclet: Thanks, Maria. Good morning, everyone and thank you for joining us on our fourth quarter and full-year 2023 earnings call. In 2023, the 122,000 men and women of Lockheed Martin, working closely with our customers, made excellent progress advancing our 21st Century security strategy and delivered strong financial results for our shareholders. Turning to Chart 3. Robust demand for our broad portfolio of aircraft, helicopters, satellites, radar systems and other products, services and advanced digital technologies boosted backlog to a record $161 billion. Full-year sales of $67.6 billion increased 2% year-over-year and came in stronger than anticipated, as did earnings per share of $27.55. To position the company to take full advantage of these future growth opportunities, we invested more than $3 billion across research and development and capital in 2023.

We generated $6.2 billion of free cash flow, as expected, which resulted in year-over-year free cash flow per share percentage growth in the mid-single digits. We returned approximately 145% of free cash flow to shareholders over $9 billion through dividends and share repurchases combined. Our expectation for Lockheed Martin’s 2024 financial outlook, include low single-digit growth in sales off of the higher 2023 base and a range of $6 billion to $6.3 billion of free cash flow. Our ongoing dividend and expectation for $4 billion of share repurchases will sustain our focus on returns to shareholders in 2024. We also plan to further advance our vision for 21st Century security in the year as we believe that it is our responsibility at Lockheed Martin to bring the best of U.S. and allied technology and industrial capability to help maintain an effective deterrent to arm conflict and to provide our armed forces with the capabilities to win should we need to.

First, we work closely with our supply chain to apply anti-fragility measures and increased resilience. Through teaming arrangements to expand sources of supply and by making strategic investments in start-ups with cutting-edge technologies. For example, we are collaborating with a supplier in which we have a minority investment, to accelerate our additive manufacturing progress, reducing material and process dependencies and complex thermal management applications such as heat exchangers. We also stood up a wholly owned subsidiary called ForwardEdge ASIC to work with major semiconductor fabs to design and manufacture the cutting-edge microprocessors that we need. Second, we led the industry to broaden and strengthen the defense industrial base by making significant progress with our commercial technology collaborators to bring their innovations into the service and national defense.

For example, in the fourth quarter, Lockheed Martin worked together with a team, including Intel, Verizon, Microsoft, Juniper Networks, Keysight and Radisys to successfully demonstrate a secure, resilient, hybrid 5G and military datalink network in a live field demonstration in Colorado. Our 5G.MIL unified network solutions performed as a tactical and commercial multi-node hybrid network for integrating land, air and space operations. Together, we demonstrated absolutely cutting-edge system capabilities, performance and operation for customers in a field setting by combining the best of our technology with those of our commercial teammates. Third, we deepened relationships internationally with partners and allies to ensure that the U.S. can drive maximum interoperability in both industry and in military operations.

We are making progress towards a mission-centric approach that uses the latest digital technologies to network aircraft, satellites, command centers and other key elements together to vastly improve their effectiveness and deterrent value across our U.S. and allied customers. One example from 2023 is work with Australia to develop Phase 1 of AIR6500, that’s a joint battle management system and the first of its kind in terms of situational awareness and interoperability. This increases collaboration with trusted allies and partners can also help reduce the fragility and increase the capacity of the defense production system. Last week, Lockheed Martin was awarded the guided weapons production capability Risk Reduction Activity contract, which will provide a mechanism for swift knowledge and technology transfer and serve as a path finder to manufacturing our suite of guided munitions in Australia with their workforce and with contributions from their society and their economy.

Turning briefly now to the status of the U.S. defense budget. The current proposed agreement being discussed with the administration in Congress would support an $886 billion top line budget, 3% higher than 2023. We will continue to monitor the status of the U.S. budget process and strongly believe that Lockheed Martin programs will continue to be well supported as the process unfolds. I’ll now review a few notable highlights from our operations. Starting with Aeronautics and the F-35. We delivered 18 F-35 aircraft in the Technology Refresh 2 or TR-2 configuration in the fourth quarter, bringing the 2023 total to 98 [Indiscernible]. We are making continued progress towards delivering the first TR-3 configured aircraft. Today, over 90% of the TR-3 functionality is currently in flight test, and we are further advancing the software integration to include additional aircraft and mission subsystems.

While this system maturation process continues to advance, it is taking somewhat more time than we originally anticipated. A second quarter customer acceptance of delivery software remains our target. However, we now believe that the third quarter may be more likely scenario for a TR-3 software acceptance. We are taking the time and attention to get this technology insertion right the first time because it will be absolutely worth it. The step function technological advances of TR-3 will provide our customers with the onboard digital infrastructure of data storage, data processing and pilot user interface to provide unmatched capabilities for many years to come. These include increased types of capability for air-to-air and air-to-ground munitions, advanced sensing, jamming and cybersecurity capabilities and more accurate target recognition.

To achieve this level of reliable capability for the long run, the resulting aircraft delivery range for 2024 is between 75 and 110 and requires the TR-3 hardware suppliers to keep pace with production demands both this year and in the future. Given the increasing operational capability and digital connectivity of the aircraft is a cornerstone of all domain operations, international demand for the F-35 remains very strong. In December, the Republic of Korea made a decision to procure 20 additional F-35 aircraft. Also in December, we presented the first F-35A to the Belgian government, which will be one of more than 600 F-35 that will be stationed in Europe across NATO member bases by the 2030s. Aero also continued to advance the F-16 as the first European F-16 training center in Romania was inaugurated in November and a partnership with Romania and the Netherlands.

This center will provide world-class training to enhance mission readiness and ensure safety of flying and operating F-16 fighter jets. In addition, we delivered the first two Slovakian F-16 Block 70 jets in the fourth quarter. Deliveries for Slovakia totaling 14 aircraft will continue through 2025. Aero Skunk Works continues to pioneer groundbreaking innovation as well. And for a change, I can actually tell you about one. The X59 experimental supersonic aircraft built by Skunk Works and NASA Aeronautics was selected as one of Time Magazine’s best inventions of 2023. The X59 is expected to transform the future of commercial supersonic flight over land by quieting the sonic boom, one of aviation’s most persistent challenges. The X59 was unveiled at a rollout ceremony earlier this month and is expected to take first flight later this year.

Our MFC business continued to push technological advancements forward as well through modernization of air and missile defense and precision strike capabilities. In the fourth quarter, we delivered the first Precision Strike Missile, or PrSM, to the U.S. Army and conducted system qualification test for an extended range Guided Multiple Launch Rocket System or GMLRS, which will extend the range of the HIMARS system that many of you are familiar with. MFC also delivered the 800th THAAD, that’s a Terminal High Altitude Area Defense interceptor to the U.S. government in October. And also, we successfully integrated the PAC-3 Patriot Missile with the U.S. Army’s new air and missile defense radar system to defend against cruise missiles, tactical ballistic missiles as well as hypersonics.

International demand for the PAC-3 remains strong too. This year, Switzerland and Romania each signed Letters of Offer and Acceptance for PAC-3 MFCs, marking 15 partner nations for this program. RMS also saw strong international interest in the fourth quarter. The U.S. Navy awarded Lockheed Martin contract to produce eight MH-60 Romeo SEAHAWK helicopters for the Spanish Navy and six of them for the Norwegian government as well. To date, Sikorsky has delivered 330 MH-60 Romeo aircraft to five countries, including the United States, 67 more are on order or in production for India, Greece, South Korea, Australia and now Spain and Norway. Also in the quarter, Sikorsky installed the U.S. Army’s improved turbine engine on our RAIDER X, designed for the Army’s Future Attack Reconnaissance Aircraft or FARA program.

This final phase of the RAIDER X build brings us one step closer to completing the system that will support the Army’s high-tech future missions requirements, and we anticipate the first flight of RAIDER X in late 2024. Finally, turning to space. United Launch Alliance successfully launched The Vulcan Centaur Rocket earlier in January. This launch was the first of two flights required to complete National Security Space Certification and the second planned mission could happen as soon as April. The U.S. Air Force awarded space a nearly $1 billion contract to develop a new reentry vehicle for the Sentinel Intercontinental Ballistic Missile. The reentry vehicle or Mk21A will be mounted on top to Sentinel. The award follows a technology maturation and risk reduction contract and the ICBM recapitalization contributes to modernizing strategic deterrents and reinforcing Lockheed Martin’s critical technological contributions to the nuclear triad.

And last week, the Space Development Agency announced Lockheed Martin was awarded an almost $900 million contract for Tranche 2 Tracking Layer to provide 18 small sats, 16 of those space vehicles are for missile warning and tracking and two space vehicles are for missile defense infrared sensors to be on board. The first group of nine satellites is expected to launch in April of 2027. A lot going on at Lockheed Martin, all of our operations. And with that, I’ll turn the call over to Jay and join you later for questions.

Jay Malave: Thanks, Jim, and good morning, everyone. Today, I will recap our fourth quarter and full-year 2023 financial results and provide our initial guidance for 2024. As I describe our results, please follow along with the web charts we have posted with our earnings release today. On Chart 4, we’ll start with the fourth quarter results for consolidated sales and segment operating profit. We had a better-than-expected close to the year, nearly matching last year’s record fourth quarter. Sales exceeded internal expectations by close to $1 billion, with the improvement largely due to material throughput, leading to a less than 1% year-over-year decline in the quarter and a sign of improving synchronization between Lockheed Martin’s demand signals and supply chain fulfillment.

The strong finish led to about 2.5% sales growth for the year, which was about $2 billion stronger on an absolute basis than originally expected last January. Overall segment operating profit in the quarter was also better than expected on the higher sales volume and was down 1% year-over-year due to lower net profit adjustments and lower equity earnings. Book-to-bill was 1.15 for the year with strength across all four segments. Moving to earnings per share on Chart 5. GAAP EPS grew 2% year-over-year, with lower segment profit and higher interest expense more than offset by benefits from the lower share count and fewer mark-to-market losses. Excluding mark-to-market activity and other nonrecurring charges, adjusted EPS was up $0.11 year-over-year or 1%.

For the year, adjusted EPS was $27.82, up 2% year-over-year and consistent with the sales growth. The steady improvement this year resulted in higher adjusted EPS by about $1 per share from our original expectations last January. Moving to cash flow on Chart 6. We generated $1.7 billion of free cash flow in the quarter and $6.2 billion for the full-year, helped by approximately $625 million in working capital reductions in the fourth quarter from strong and timely conversion of operational milestone achievement to billings and collections. We maintained our commitment to shareholders by returning $3.8 billion through dividends and share repurchases this quarter and over $9 billion for the year or 145% of our free cash flow. Before getting into the segments, let me pause here to put the numbers in perspective.

The key takeaway is that industry growth is crystallizing based on three converging demand cycles. First, to meet support requirements of the near and midterm security environment; second, to strengthen the effectiveness of existing security platforms and systems with improved sensing, connectivity, interoperability and embedded intelligence. And lastly, to recapitalize platforms and systems that maintain technological superiority in deterrence over a longer time frame. We expect these demand trends to endure and drive requirements to closely match with Lockheed Martin’s advanced technology and systems integration capabilities. The long-cycle nature of Lockheed Martin Systems has in part, led to slower growth, but the 2023 results show that it is materializing as evidenced by our 7% increase in ending backlog to a record $161 billion as well as our return to top line growth a year earlier than originally expected.

And we demonstrated our confidence in the company’s positioning amongst these demand cycles and multiyear outlook by again delivering strong shareholder returns. Over the past two years, we have repurchased about 12% of the current market capitalization. Okay, back to the segment details and starting with Aeronautics on Chart 7. Fourth quarter sales at Aero were comparable year-over-year with higher volume at Skunk Works and the F-16 production ramp offset by lower volume on F-35 primarily production cost timing. As expected, operating profit decreased 7% from the prior year due to lower net profit adjustments. For the year, sales were up 2% as growth in Skunk Works and F-16 more than offset a low single-digit decline on F-35. Profit declined by 1%, primarily due to lower profit adjustments.

Book-to-bill for the year was 1.14, leading to 6% growth in the backlog to $60 billion, with nearly 600 aircraft across all production platforms in the backlog. Shifting to Missiles and Fire Control on Page 8. Sales in the quarter decreased 4% year-over-year, driven by lower volume on PAC-3 due to supplier cost timing, partially offset by production ramps on JASSM and LRASM. Segment operating profit decreased 12% year-over-year as expected due to the lower volume and loss recognition related to a classified program. For the year, sales decreased 1% year-over-year as growth in tactical and strike missiles were offset by program transitions at Sensors and Global Sustainment and integrated air and missile defense supplier cost timing. Operating profit was down 6% due to lower profit adjustments and the classified program loss.

Book-to-bill for the year was 1.3, leading to 12% growth in backlog to $32 billion, driven by strong demand for tactical and strike missiles. Turning to Rotary and Mission Systems on Page 9. Sales declined 2% in the quarter, driven by lower volume across a handful of programs within our integrated warfare systems and sensors and training and logistics systems lines of business, partially offset by higher sales at Sikorsky from deliveries of International Blackhawks. Operating profit increased 2% mainly due to favorable contract mix within our IWSS portfolio. For the year, sales were up 1% as growth in IWSS from Radar and battle management system ramps, more than offset declines in the other lines of business. Operating profit declined 2%, primarily due to lower profit adjustments.

Book-to-bill for the year was 1.14 with backlog growing 8% to $38 billion based on strong order intake on Sikorsky platforms as well as radar and battle management systems. On Chart 10, as expected, space growth moderated in the quarter with sales increasing 3% year-over-year, driven by higher volume in strategic and missile defense, primarily from Next Gen Interceptor as that program advances from its successful completion of preliminary design review towards the critical design review milestone. Operating profit increased 31% compared to 2022 driven by higher net profit adjustments across the portfolio. For the year, sales increased 9% with growth across all lines of businesses. And profit grew by 10% as benefits from higher profit adjustments and volume more than offset lower ULA equity income.

Space backlog grew again in fourth quarter and remains at a solid $30 billion or almost 2.5x sales. Now shifting to the outlook for 2024 on Page 11. Before discussing our expectations, I’d like to highlight a few key assumptions embedded within our guidance for the year. First, based on recent progress made in budget negotiations, we assume the U.S. government passes appropriations bills by March, consistent with the funding levels within the President’s FY ’24 budget request, equating to approximately 3% top line growth for the DoD. On F-35, as Jim stated, we’re targeting between 75 to 110 deliveries commencing in the third quarter. In addition, we anticipate sufficient progress being made on the MFC classified program to result in the recognition of losses from two production lots, amounting to approximately 50 basis points of margin headwind against our consolidated results.

With that framework in mind, we anticipate sales between $68.5 billion and $70 billion, with the midpoint that represents approximately 2.5% growth. At the midpoint, we expect growth in three of the four segments with MFC leading the way at 7% growth from a strong munitions backlog. At the high end, all four segments would grow. Segment operating profit is expected to be between $7.175 billion and $7.375 billion down at the midpoint as lower expected profit adjustments and the MFC classified losses more than offset volume benefits. Excluding the MFC classified program, 50 basis points impact, underlying margins in the balance of the portfolio are expected to be approximately 11%. Our net FAS/CAS pension adjustment declines around $400 million from last year to a little less than $1.7 billion for 2024 due primarily to lower FAS pension income.

The pension headwind, along with lower segment profit and higher interest expense lead to lower expected EPS year-over-year to be between $25.65 and $26.35. For purposes of clarity, on Page 12, we’ve included an EPS walk at the midpoint of the range. Benefits from volume mix provide about $0.55, with the impact of the MFC classified program losses, netting down segment operating profit to a $0.35 decline. Total FAS/CAS pension is about $1.40 headwind with higher taxes and interest more than offset by the lower share count. Our free cash flow estimate for 2024 has ranged between $6 billion and $6.3 billion. So bringing it all together, we expect continued sales growth in 2024 off the higher 2023 base, some profit and EPS pressure based on loss recognition timing, but with continued solid cash generation and capping it off with another year of capital deployment.

So in summary, on Page 13. We closed out 2023 with record backlog and positive momentum that will carry us into 2024 with a line of sight to sustained out-year growth in sales, profit and free cash flow. Of course, we will continue to invest in 1LMX as part of our strategy to ensure our people, processes and systems remain the most advanced in the industry, and we remain committed to disciplined and dynamic capital returns to shareholders. With that, Luis, let’s open up the call for Q&A.

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Q&A Session

Operator: Thank you. [Operator Instructions] And our first question is from Myles Walton from Wolfe Research. Please go ahead.

Myles Walton: Thanks. Good morning. I was hoping to lead off with Aero and F-35 in particular, in the margins, number one, that you’re looking for in ’24 are down about 40 basis points. Is that primarily on lower incentives as a result of the delays in delivery. And then more broadly, for the supply chain on the F-35, given the absence of deliveries, can you continue to simply build inventory, or is there a point at which you’d actually have to slow down the supply chain? Thanks.

Jay Malave: Okay. Thanks, Myles. On the margins for F-35, what we’re seeing in 2024 are lower favorable profit adjustments, and so it’s really twofold. One of it is the F-35, where as we make progress on the TR-3 program as well as getting ourselves into production, it’s difficult to take risk and rely on risk retirements as we’re still facing this program and the progress we’re making there. And so we assume that the profit adjustments slowdown in 2024 on the F-35 program. There’s also some headwinds on C-130 program, where we’re seeing the effects of inflation and also some disruption related to supply chain, some pressures that we’ve had there. And so when you look at that decline year-over-year, you’re talking about 30 basis points, say, half and half between C-130 and F-35.

On the production cadence for F-35, yes, we feel pretty confident in where we are through the third quarter. To the extent that there were any delays beyond that, we would have to revisit our production cadence at that point in time. But right now, all signs are pointing to our production and delivery restart here in the third quarter.

Myles Walton: Okay, thank you.

Operator: Thank you. And the next question is from the line of Scott Deuschle from Deutsche Bank. Please go ahead.

Scott Deuschle: Hey, good morning.

Jim Taiclet: Good morning.

Jay Malave: Good morning, Scott.

Scott Deuschle: Jay, here to ask on 2025, but at a high level, is the 10.5% total company margin guide for ’24, is that the right jumping off point for thinking about 25%, or is it the 11% underlying margin, or is it the 10.8% margin you did in ’23, just in terms of identifying jumping off point for thinking about ’25? Thank you.

Jay Malave: Yes, I think you do have to start at the 10.5% to jump off. And we do have a line of sight and a path to get overall back to 11%, including the absorption of these losses on the MFC classified program, but it’s going to be a gradual march back up. And so I wouldn’t expect it to snap back in 2025. I would expect there to be in the range of, say, 10 to 20 basis points of improvement starting in ’25, and that to continue to grow at that rate until we get back up to 11.

Operator: Thank you. And your next question is from Gavin Parsons from UBS Equity Research. Please go ahead.

Gavin Parsons: Hey, good morning.

Jay Malave: Good morning.

Gavin Parsons: Jay, what does the pension contribution schedule look like beyond 2024? And do you have any opportunity to pull that forward or use the balance sheet to offset that?

Jay Malave: Yes, a good question. That’s something that we’ve contemplated. Just where we are from a baseline perspective, zero contributions required in 2024. 2025, we’re looking at in the range of about $1 billion of required contributions there. And so we’re always looking at whether or not there’s an opportunity to pull forward. As you mentioned, the utilization of our strong balance sheet to potentially do that. We haven’t made any firm decisions on that, but that’s definitely an opportunity that’s under consideration for us.

Gavin Parsons: Thanks.

Operator: Thank you. And our next question is from the line of Pete Skibitski from Alembic Global. Please go ahead.

Pete Skibitski: Hey, good morning guys.

Jay Malave: Good morning.

Pete Skibitski: Jim or Jay, can you give us a sense for how much the ’24 guide is impacted by what looks like on the order of a six-month delay here to the government’s budget and still a little bit of lack of clarity in the supplementals?

Jay Malave: Yes, for the most part, Pete, it’s not really impacted significantly. In our case, we’re able to build up inventories. And then as we get the funding, we’re able to take that to sales. And so for the most part, we’ve kept all of our processes intact up. That becomes more difficult if the process extends beyond March. And that’s why I was very clear in my comments that we’re dependent on this happening that the budget getting clarity and finalization in March. Because going beyond that makes it very — just makes it difficult for things to get on contract and you run out of runway in the year to convert those into sales.

Pete Skibitski: Okay. Appreciate it. And then anything on big awards you’re expecting in ’24 and maybe the timing of NGAD?