01—Abstract
Summary
Summary of the 10-K filed March 24, 2003. Cited figures are marked; the original filing is the authoritative source.
General Dynamics' 2002 Form 10-K (filed March 24, 2003) shows a company that grew revenue 15% to $13.8 billiona, with organic growth above 6%, and generated $1.1 billion of operating cash flow for the fourth straight year.
Operating earnings rose 6% to $1.58 billionb, but net earnings of $917 million fell from $943 million in 2001 because of a $134 million after-tax loss from exiting the undersea fiber optic cable-laying business. Continuing-operations earnings rose about 11% to $1.05 billion, and the company reported a record total backlog of $29.0 billion, up 8%. Growth was driven by Information Systems and Technology and Combat Systems, while Aerospace (Gulfstream) margins fell sharply, from 19.1% to 13.6%, on pre-owned aircraft losses and pricing pressure.
The filing's most significant risk factor is the A-12 litigation. The Court of Appeals vacated a trial-court judgment on March 17, 2003, leaving open a possible repayment of up to $1.4 billionc plus interest (roughly $2.3 billion including interest as of the Navy's August 2002 demand), which would produce about a $1.2 billion pretax, $685 million after-tax charge. Management believes it has the resources to pay if required and does not expect the default termination to be sustained.
Balance sheet leverage improved, with net debt falling to $1.1 billiond from $1.5 billion and the debt-to-capital ratio dropping to 22% from 30%. The company also closed the $1.1 billion acquisition of GM Defense on March 1, 2003, which makes it the sole source for the Army's Stryker vehicle program.
Management expects 2003 Combat Systems to be the fastest-growing group, Marine Systems revenue and earnings to rise slightly, and Aerospace margins to be somewhat lower than in 2002 because of pricing pressure and elevated pre-owned aircraft inventory. Investors should weigh the strong defense demand and cash generation against the A-12 contingency, the cyclical business-jet market, and the concentration of Aerospace backlog with NetJets.
02—Key points
Key Highlights
- Revenue grew 15% to $13.8 billion in 2002, with organic growth above 6%; operating earnings rose 6% to $1.58 billion.
- Net earnings were $917 million ($4.52 diluted EPS), down from $943 million, after a $134 million after-tax loss from discontinued operations (undersea fiber optic cable business).
- Total backlog reached a record $29.0 billion (up 8%), with funded backlog at $21.3 billion (up 10%); 64% of 2002 net sales were to the U.S. government.
- A-12 litigation risk: an adverse outcome could require repayment of up to $1.4 billion plus interest, implying a roughly $1.2 billion pretax ($685 million after-tax) charge; the Court of Appeals vacated the trial-court judgment on March 17, 2003.
- Cash flow from operating activities was $1.1 billion for the fourth straight year; net debt fell to $1.1 billion and the debt-to-capital ratio improved to 22% from 30%.
- Aerospace operating margin fell to 13.6% from 19.1% on pre-owned aircraft losses and pricing pressure; management expects 2003 Aerospace margins to be somewhat lower.
- The $1.1 billion GM Defense acquisition closed March 1, 2003, making the company sole-source provider for the Army's Stryker program (up to 2,131 vehicles); the dividend was raised to $0.32 per quarter.
03—Questions
Frequently Asked Questions
What is the potential exposure from the A-12 aircraft litigation?
If the Navy's default termination of the A-12 contract is ultimately sustained, the company and Boeing could be required to repay up to $1.4 billion in progress payments plus interest (about $1 billion of interest at December 31, 2002), a total of roughly $2.3 billion. The company estimates its share as approximately $1.2 billion pretax, or $685 million after-tax, charged against discontinued operations. Management believes the default termination is not supported by the evidence and says it has sufficient resources to pay if required.
Why did net earnings decline even though operating earnings grew?
Net earnings fell to $917 million from $943 million because of a $134 million after-tax loss from discontinued operations, mainly the exit from the undersea fiber optic cable-laying business. This included a $109 million after-tax charge for ship lease obligations and asset write-downs. Earnings from continuing operations rose about 11% to $1.05 billion, excluding favorable tax settlements in prior years.
How strong is the company's backlog and what drives it?
Total backlog was $29.0 billion at year-end 2002, up 8% from $26.8 billion, and funded backlog rose 10% to $21.3 billion. Marine Systems reached a record $11.6 billion, Aerospace grew to $6.8 billion (largely from a NetJets order for 50 G150 aircraft with options for 50 more), and Combat Systems reached $5.0 billion. Investors should note that the U.S. government can terminate contracts and that a portion of defense backlog depends on future congressional appropriations.
What are the main risks to the Aerospace (Gulfstream) business?
Aerospace earnings fell 28% to $447 million, with operating margin dropping to 13.6%. Causes included losses on pre-owned aircraft sales ($81 million), fewer large-aircraft deliveries, and pricing pressure from excess new and pre-owned supply. Management expects weaker revenue and margins in 2003 and cites a weak capital goods sector. About 53% of Aerospace funded backlog is with NetJets, which creates customer concentration risk.
What does the GM Defense acquisition mean for the company?
The $1.1 billion acquisition of GM Defense, closed March 1, 2003, makes General Dynamics the sole-source provider for the Army's Stryker wheeled armored vehicle program, which the company describes as a $4 billion transformational initiative. Management expects Combat Systems to become its fastest-growing group in 2003, although margins may moderate as production shifts toward development and early-stage programs. The company planned to refinance the commercial paper used to fund the deal with medium-term debt.
04—Continue