General Dynamics Corp (GD) — Q4 2017 Earnings Call Transcript

Thank you, Denise, and good morning to everyone. Welcome to the General Dynamics fourth quarter and full-year 2017 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. With that, I'd like to turn the call over to our Chairman and Chief Executive Officer, Phebe Novakovic.

Good morning. We are very pleased to have Howard join our senior leadership team. Thank you, Howard. Earlier today we reported fourth-quarter earnings from continuing operations of $2.10 per fully diluted share on revenue of $8.28 billion, earnings from continuing operations of $636 million. This result was impacted by a charge arising from the 2017 Tax Cuts and Jobs Act. The adverse impact was $119 million and is reflected in an increased tax provision. Adjusting to exclude the impact of this one-time event, we had earnings from continuing operations of $755 million and adjusted EPS per fully diluted share of $2.50. Adjusted earnings from continuing operations were up $175 million over the year-ago quarter. Similarly, adjusted earnings per diluted share from continuing operations were up $0.61. You can find a more extensive explanation of this in exhibits A and B of our press release. I suspect you will see a lot more of this as other aerospace and defense companies report, as you’ve already seen in other market segments. Revenue and operating earnings were up significantly against the year-ago quarter by 8.1% and 34.6%, respectively. So, all in all, a solid quarter with good performance all around. For the year, we had fully diluted earnings per share from continuing operations of $9.56 on revenue of $38.97 billion and earnings from continuing operations of $2.9 billion. On an adjusted basis, excluding the impact of tax reform, we had fully diluted earnings per share of $9.95 and earnings from continuing operations of $3.03 billion. Revenue for the year was up over 2016 by $412 million or 1.3%. Operating earnings were up $443 million or 11.9% on a 130 basis point improvement in operating margins. Earnings from continuing operations were up $233 million or 8.7% as reported. Adjusted for the impacts of the Tax Reform Act charge, earnings from continuing operations were up $352 million, a double-digit increase of 13.1%. All in all, 2017 was a very good year leaving us well-positioned for 2018. Perhaps the most important story in the quarter was the cash performance. Free cash flow from operations was $1.84 billion in the quarter. For the year, we had free cash flow of $3.45 billion. We advised you at the beginning of the year that free cash flow was going to be approximately 100% of net earnings. In fact, it was significantly better than that. Further, we enjoyed a $1 billion reduction in operating working capital in the quarter as milestone payments were received at Land Systems and cash deposits were received at Gulfstream. Of note, the cash performance throughout our planning horizon should be very strong. We have a lot to cover this morning, including guidance, so I will view the year in the quarter as adjusted on a year-over-year basis for the groups without reference to the sequential comparisons. On a sequential basis, suffice it to say that we had more revenue and more operating margin. This resulted in operating earnings and earnings from continuing operations that were very similar across all four quarters. Let me discuss each group and provide some color where appropriate. First, aerospace. Revenue was up against the year-ago quarter by $157 million or 8.6%, and operating earnings were up $66 million or 24.1%. This is the result of a 220 basis point improvement in operating margin. For the full-year, revenue of $8.13 billion was up $314 million or 4%. Operating earnings of $1.59 billion were up $186 million, a strong 13.2% advance on a 160 basis point improvement in operating margins. In sum, an outstanding year at aerospace with strong operating leverage and very good order intake, particularly in the fourth quarter. This time last year we told you to expect revenue between $8.3 billion to $8.4 billion with a margin rate between 19.1 to 19.2. At year-end, we had higher margins on somewhat lower revenue driven entirely by negligible pre-owned aircraft sales. By the way, we work really hard to avoid pre-owned sales because they carry no margin. On the order front, activity in the quarter was very good and pipeline activity was robust. The book-to-bill at aerospace in the fourth quarter was $1.3 to $1 denominator and $1.4 to $1 in units. Let me give you some additional data on the subjects as it relates to the quarter and the year. At Gulfstream, net orders were up over 20% year-over-year. Within that increase, midsize orders were exactly the same as last year. Net large cabin orders were up almost 30%. Most importantly, on a growth basis, G650 and G650ER orders were up 78% year-over-year. This was the best G650, G650ER order quarter since 2014 when we had a quarter with a number of multi-aircraft customers. It is also the second best quarter for the G650 and G650ER in orders terms since the launch in 2008. So we had a nice increase in large cabin orders led by the G650 and G650ER. As we speak, there are over 280 of these aircraft in service with many early customers returning to buy another. During the quarter, we also announced an increase in the range of the G500 and G600 by 200 and 300 nautical miles, respectively at long-range cruise of 0.8 Mach. At 0.9 Mach, we increased the G500 range by 600 nautical miles and the G600 by 300 miles. The increased ranges were proven during flight tests and can be attributed to very successful control of the weight of these aircraft. And by the way, we only announced increases when we are certain that we can deliver. We also enjoyed both record sales and earnings for the Gulfstream service business in 2017, which leads me to another subject. I rarely speak to you about the overall market. I usually speak to our own demand, which is held up very well in a slow market. We’ve clearly gained share from others in this market. Furthermore, my sense is that order activity and customer interest are picking up across the industry. I will look forward to the reports of other OEMs on this subject as they become available. Next, Combat Systems. At Combat, revenue was $1.75 billion, up $87 million or 5.2%, and operating earnings were up $30 million or 13% on the quarter-over-quarter basis on the strength of a 110 basis point improvement in operating margins. For the full-year, sales were up $419 million or 7.6%. Operating earnings were up $106 million or 12.8% on an 80 basis point improvement in operating margin, very strong operating leverage here. By the way, this performance is reasonably consistent with the guidance we provided at this time last year. We actually achieved a better result on somewhat higher revenue and operating margins were 20 basis points better than guidance. We continue to see nice order activity in this group with Q4 orders of $1.7 billion. Tank orders in the quarter were $975 million, part of the $2.4 billion IDIQ type contract that we were awarded in the quarter. Internationally, demand remained good. We signed a $1 billion contract for combat wheel vehicles with Romania earlier this month and the pipeline remains robust, particularly in Europe and the Middle East. In our U.S. market, our U.S. Army customer is modernizing, generating demand across our combat vehicle munitions businesses, fueling our 0.9 to 1 book-to-bill for the year. This is particularly impressive in a year of nice revenue growth. In short, this group had quite positive revenue growth and continued its history of strong operating leverage. For Marine, revenue of $2.1 billion was up $163 million or 8.6% compared to the year-ago quarter. Operating earnings of $167 million were up $125 million against the year-ago quarter, which included a charge of Bath Iron Works which we discussed with you last quarter. Revenue for the full-year was down $68 million, less than 1% on lower commercial ship revenue at NASCO. Growth will resume in our planning horizon. Operating earnings for the year of $685 million were up $90 million on a 120 basis point improvement in operating margins. So better margins than 2016, but still not where we need to be. At this time last year, we told you to expect revenue of $7.9 billion and operating earnings of $680 million to $685 million. So revenue was $104 million higher than forecast, but operating earnings of $685 million were consistent with the upper end of the target range. In response to the significant increased demand from our Navy customer across all three of our shipyards, we're investing in each of our yards. We will spend $1.7 billion in CapEx at Electric Boat over the next several years in anticipation of increased production on the Block V Virginia submarine and the new Columbia ballistic missile submarine. As you may recall, Block V is a significant upgrade in size and performance requiring additional manufacturing capacity. We also have increased our internal training programs as well as our public-private partnerships with Connecticut and Rhode Island, to meet our need for skilled trades. Over the last two years alone, we have hired and trained 4,600 highly capable employees. We were also investing over $200 million in CapEx at Bath and NASSCO to meet the Navy's demand for more destroyers and auxiliary ships. So suffice it to say, we are poised to support our Navy customers as they increase the size of the fleet. In the Information Systems and Technology group, revenue in the quarter of $2.49 billion was up $216 million or 9.5% against the year-ago quarter. Operating earnings of $282 million in the quarter were 22.1% better than the fourth quarter a year-ago on a 110 basis point improvement in operating margin. For the year, revenue of $8.9 billion was down $253 million or 2.8%, but operating earnings of $1.01 billion were up $70 million or 7.4% on the strength of a 110 basis point improvement in operating margin. Very good operating performance. Recall that at this time last year, we forecast a modest increase in revenue for the year with operating earnings of $1 billion to $1.05 billion and a margin rate of 11%. So the operating earnings came in as guided with lower revenue on a 40 basis point higher margin rate. As we’ve frequently pointed out, IS&T book-to-bill has been at or in excess of one-to-one for each of the past four years resulting in a healthy backlog. That said, the transition of that backlog to revenue has been slower than we originally anticipated. The combination of this ER and a new administration slowed the pace of awards, particularly in our Fed civ business. While both defense and Fed civ picked up during the second half of the year, we simply did not have enough time before year-end to recover fully. This leads me to be confident that the growth in this business will materialize beginning in 2018. On this call a year ago, on a companywide basis, our guidance for 2017 was to expect revenue of $31.35 billion to $31.4 billion and an operating margin of around 13.3%. We wound up the year with revenue of $31 billion, but we were at the high-end of our operating earnings expectations because the operating margin of 13.5% was better than anticipated. Most of the revenue shortfall came in the short cycle IS&T segment that we just discussed. Last year this time we provided EPS guidance of $9.50 to $9.55. Without regard to the $119 million charge related to tax reform, we wound up at $9.95, $0.40 to $0.45 better. So let me provide some guidance for 2018 and some out year commentary on 2019 through 2021, initially by business group and then a companywide rollout. In aerospace, we expect 2018 revenue to be $8.35 billion to $8.4 billion, up $220 million to $270 million. Operating earnings will be slightly in excess of $1.5 billion with an operating margin rate of 18%. The margin rate is lower in 2017 as a result of mix shift and increased R&D spending as well as a modest increase in pre-owned sales which again carry no margin. In aerospace, for the five year period 2017 through 2021, we expect a sales CAGR of slightly more than 7%. That CAGR rolls up a modest sales increase in 2018 with more significant growth in 2019 and beyond. While it is difficult to predict with fidelity our earnings rate as a result of significant mix shift, we see our earnings growth at a 3.5% to 5% CAGR. We see 2018 as the low point in earnings during the transition to our new models with modest earnings increases in 2019 and 2020 and significant earnings traction in 2021. In Combat Systems, we expect revenue to be between $6.15 billion to $6.2 billion, a $200 million to $250 million increase over 2017 with operating earnings of $970 million, a $33 million increase. This implies a margin rate of around 15.7%, very similar to last year. For the period of 2017 to '21, the expected sales CAGR should be in excess of 7% and the earnings CAGR in the low 6% range. The Marine Group is expected to have revenues between $8.4 billion and $8.5 billion of $400 million to $500 million increase over 2017. Operating earnings in 2018 are anticipated to be between $735 million to $745 million, with an operating margin rate of about 8.7%. The 2017 to '21 sales CAGR is expected to be 5.6% with very strong growth in '19 and 2020 and gradually improving operating margins. The expected earnings CAGR for the Marine Group from 2017 to 2021 is about 6.7%. Finally, in IS&T, we expect revenue in 2018 of $9.3 billion to $9.4 billion, an increase of $400 million to $500 million. We expect operating earnings to be up $20 million to $30 million over the last year with a margin rate of around 11%. For this group, we see a sales CAGR of 5.5% and an earnings CAGR of 5%. So for 2018 companywide, all of this rolls up to $32.35 billion to $32.45 billion of revenue, up 4.4% to 4.8% over 2017. Operating earnings of $4.25 billion and an operating margin around 13.1%. This rolls up to an EPS guidance of $10.90 to $11 per fully diluted share. Let me emphasize that this plan is purely from operations. It assumes a 19% tax provision and assumes we only buy shares to hold the share count steady with year-end figures, so as to avoid dilution from option exercises. So much like last year, beating our EPS guidance must come from outperforming the operating plan, achieving a lower effective tax rate and the effect of capital deployment. With respect to the quarterly progression for EPS, divide our guidance into four and take $0.35 off Q1, $0.05 off Q2 and Q3 and add $0.45 to Q4. For the period of 2017 to 2021, we see a consolidated sales CAGR of 6.3% and an operating earnings CAGR of 5%. This was simply a rollup of the projections I've given you for each of the business groups. We are quite bullish about the 2018 through 2021 period in all segments. Let me turn this call over to Jason for additional commentary and then we'll take your questions.

Thank you, Phebe, and good morning. I will start with the subject that’s getting a lot of attention and impacted both our 2017 results and our outlook going forward, and that’s the recently enacted tax reform and our effective tax rate. Our tax rate was 36.9 for the quarter and 28.6% for the full-year. Removing the effects of tax reform, our effective tax rate was 25.1% for the quarter and 25.7% for the full-year. The unfavorable impact on our tax provision that Phebe discussed is due primarily to the re-measurement of our net deferred tax asset at the new lower statutory rate as required under Generally Accepted Accounting Principles. Looking ahead to 2018, we expect a full-year effective tax rate of approximately 19%. This rate reflects the lower statutory rate on domestic income, the elimination of historic tax benefits such as the domestic production credit and the fact that the tax rate applicable to our international operations are now essentially at parity with our U.S operations, if not slightly higher. This contrasts with our history where relatively lower taxes on our international operations had a beneficial impact on our consolidated effective tax rate relative to the previous 35% U.S statutory rate. As a reminder, we generally forecast minimal tax benefit from equity-based compensation in our tax rate. This benefit was the primary driver of the steady improvement in our tax rate throughout 2016 and 2017, but we've not reflected a similar level of benefit in 2018 as any impact will be driven by future option exercises, so we will update our tax rate as they occur. Our net interest expense in the quarter was $27 million versus $23 million in the fourth quarter of 2016. That brings net interest expense for the year to $103 million versus $91 million for 2016. The increase in 2017 was due primarily to a $500 million increase in our outstanding debt in the third quarter of 2016. As you will recall, we issued $1 billion of debt in the third quarter of last year to replace $900 million of notes maturing in the fourth quarter at a slightly higher interest rate. As a result, we expect 2018 interest expense to increase to approximately $150 million. We ended the year with $3 billion of cash on our balance sheet and a net debt position, debt less cash and equivalents of $1 billion. That’s down from approximately $1.6 billion at the end of 2016. As Phebe mentioned, our free cash flow was $1.8 billion in the fourth quarter and we received significant deposits on new aircraft orders and scheduled progress payments on our large international combat vehicle programs. Cash from operations was $2 billion in the quarter and $3.9 billion for the full-year. For 2018, we anticipate cash from operations of approximately $3.7 billion. On the capital deployment front, in the fourth quarter, we purchased 1.9 million shares bringing us to 7.8 million shares for $1.5 billion for all of 2017. In total, when combined with the dividends paid, we've returned $2.5 billion to shareholders in 2017, and we've also made several acquisitions in our aerospace and IS&T groups this year totaling $400 million. Moving on to our pension plans, we contributed about $200 million to our plans in 2017 as forecast. For 2018, our minimum contribution is approximately $300 million to be paid mostly during the second quarter. We will examine potentially increasing our contribution somewhat as the year progresses in light of the opportunity provided by the recent tax reform. Howard, that concludes my remarks. I will turn it back over to you for the Q&A.

Thanks, Jason. As a reminder, we ask participants to ask only one question so that everyone has a chance to participate. If you have additional questions, please get back into the queue. Denise, could you please remind participants how to enter the queue?

Thanks so much. Good morning.

Good morning.

Phebe, a quick question on capital deployment. I was wondering if your plans for future cash deployment have changed as a result of the U.S tax reform, you obviously ended the year with a very strong balance sheet and cash flow?

Well, let me just reiterate what our cash deployment strategy has been. First, we invest in our business where we believe that we can get a good return. We are in a period right now of growth that needs to be supported by investments and happily, we have a tax bill that gives us more free cash flow. So it's a nice marrying of objective and reality. We also look for transactions, acquisitions that are accretive in our core, and you saw some of that this past year in 2017. The only long-term steady reliable repeatable elements of cash and capital deployment are dividends. Share repurchases cover dilution and then all of our other share repurchases have been tactical. So I don't see a particular change in the strategy. The tactics, of course, are driven by the needs of the business and in the case of tax reform, provide us additional free cash flow. So a happy event.

Okay. Thank you.

Good morning.

Good morning.

I wanted to go back to your aero margin guidance for '18 and the small contraction there on the mix shift and the higher R&D and the slightly higher pre-owned, I guess. Phebe, with the timing on the 500 and 600 wrapping up, would have thought R&D might have tracked down a little bit, maybe there's something else you’re developing there. And how is pricing on the aircraft that will deliver in '18 versus '17?

We haven't talked about price, but it's important to note that this isn't causing any changes or compression in our margins. Let's take a moment to reflect on where we've been over the past couple of years and what lies ahead in the next two years. We've been in a transitional phase, which can be broken down into two parts. First, over the last two years, we've been reducing 455 and 50 production to offset any declines in earnings. Our commitment has been to maintain stable earnings by slightly increasing 650 production, alongside efforts to cut costs and improve operating efficiency. All of that has taken place. Now, as we fully transition with 450 production ending this year and 550 moving into low rate and eventually very low-rate production, we are appropriately reducing 650 production as we previously indicated. The introduction of the 600, along with the 500 and then 600 models, is on schedule, and we're progressing in terms of the magnitude and duration of this transition period. While we haven't discussed our R&D, it has remained strong and will continue to be so moving forward.

So, Phebe, if I might, are you saying it's just a bit of a learning curve on the new platforms?

Sure. So let's talk about new platforms. They always start at a lower margin rate and improve over time as they come down our learning curve. In addition, the first lot of any new airplane tends to carry with them lower margins. So as we get the first lot of the 500 and 600 out at the production line and we improve our learning, which we have done historically and I’m confident we will do again, then we will eventually see margin expansion and that's the kind of earnings growth I’m talking about in the latter end of our planning period.

Thank you very much.

Good morning.

Good morning.

Can you talk a little bit about how we should think about the net income conversion to free cash flow in 2018, just given the tax change, the additional pension contribution and then just the capital spending plan? And just overall, does CapEx continue to grow from this level into even next year? Just how do we think about that?

Sure. We reported operating cash flow figures around $3.7 billion. Regarding tax reform, as Phebe mentioned, it increases net income and subsequently boosts free cash flow. The absence of tax reform wouldn’t have affected our free cash conversion rate. What it does offer us is extra free cash flow for deployment. As Phebe noted, we have opportunities in our shipyards and further R&D and product development investments across the business for growth, which we plan to pursue. The projects may vary throughout the year and beyond, and we also have the potential to use the benefits from tax reform to contribute more to our pension plan. Free cash flow conversion could approach or even reach 100%, and we aim for that range while remaining in the 90s. In 2017, we exceeded 100% beyond our initial estimates, but we are now structurally back in that range. This is the perspective to have. However, we will likely concentrate more on operating cash flow as a more targetable figure since other factors like CapEx and R&D can fluctuate and impact the cash conversion rate between the mid-90s and 100%, depending on their final outcomes, all of which represent growth opportunities for the business.

But you mentioned the $1.7 billion being spent at EB. What is the absolute level of CapEx we should expect in 2018?

So, we typically target around 2% of sales. We’ve come in a little lower than that in the past, so I'd expect to see us towards the higher end of that this year. In terms of how does that plan over time, some of that is still in play. It's a longer-term plan, but I think you will see it come up a little bit over the next few years and then back down as we go through that facility master plan.

Okay. Thank you.

Good morning.

Good morning.

Phebe, when you discussed the guidance for this year and the five-year outlook, how are you approaching the budget situation? We're currently experiencing our fourth continuing resolution, and it's uncertain how this will unfold. You previously mentioned IS&T, but where do you anticipate the biggest challenges in your portfolio if we encounter more extensions of the CRs? How have you incorporated this into your short- and long-term guidance?

The budget has been very supportive of our established programs and new initiatives, and I haven't encountered any unforeseen issues. Generally, we can manage a short-term continuing resolution quite well, but this year has been a bit different, and I can elaborate on that if you would like. We've adjusted our guidance based on expectations regarding the varying duration of the continuing resolution. I believe we are in a better position this year with an extended resolution compared to last year. To provide some context on last year's events, particularly related to IS&T, short-cycle businesses are typically more impacted by a continuing resolution, but we usually manage that effectively. In 2017, we faced additional challenges. It's important to highlight that most of the revenue we didn't achieve in 2017 was pushed into 2018, but alongside the continuing resolution, we also encountered several new Army initiatives that affected both GDIT and Mission Systems significantly. Additionally, the Army halted funding for WIN-T and certain related communications programs while they completed their network and battlefield review, which delayed some revenue from 2017 to 2018. Furthermore, with the new administration, there were unexpected cuts to civil agency budgets that we did not anticipate, but our customers in federal civilian sectors have since adjusted their plans. I believe we are now much better equipped to navigate a continuing resolution this year, as I don’t expect the same disruptive factors impacting IS&T sales.

And presumably, also in your outlook, you’ve got like Combat for example, you’ve got a lot of international in there as well. I'm assuming that’s an important part of that growth rate?

It is, but don't underestimate the increase and modernization funding coming from the Army. That becomes an increasingly large component of our backlog throughout our planning period.

Yes, good morning, Phebe, Jason, and Howard. Phebe, we recently had the release of the new National Defense Strategy, and it indicates a significant shift towards pure conflict and various modernization needs. How do you view GD's capabilities in relation to this new strategy, especially since funding will likely align with the strategy at some point?

I believe we are in a strong position. I've consistently expressed my appreciation for our defense platform businesses since they usually perform favorably during various economic cycles. In active conflicts, tactical forces receive most of the funding, which was evident during the wars in Iraq and Afghanistan. As we shift away from intense conflict, the strategic forces, particularly the Navy in our case, start to receive more financial support. Currently, we are facing a situation where both needs are present; we must grow our fleet due to apparent threats in the North Atlantic and Pacific, and the Army must not only replace but also upgrade its equipment after years of heavy use. The funding is in place for this. I feel confident that we have a balanced approach and don’t anticipate any unexpected developments arising from recent studies, as we've incorporated all of this into our planning.

Just to go further on ground vehicles, Congress added an awful lot of money in its markups for fiscal '18. Is there maybe even some room for upside to your Combat forecast if that money comes through?

We recognize there is interest in expanding specific programs, and ours have received significant support, especially during the authorization process, but appropriations need to follow suit. We are confident that our core programs and appropriations remain fully funded, and this is consistent across our entire portfolio. More available funding typically leads to increased revenue and opportunities. Therefore, I feel assured about our current projections based on what we anticipate for the near-term budget cycle.

Good morning. Phebe, you gave us some pretty good detail already on the sales backdrop for Gulfstream. Can you give us some more color on kind of who is buying these jets? Is it Fortune 500, is it across the board? Is it the U.S? Is it Europe? Is it Asia? And then a follow on to that would be what’s your sense now on the J-Stars program? Because that could have an impact for a 550 production.

Order activity and our backlog are primarily focused in the United States, Canada, and Europe, with some presence in the Far East and the Middle East. We have a clear understanding of every buyer in our backlog, and we can confirm that they are financially stable. This backlog is reliable, and we have very few fleet customers. It is consistent and resilient, with a balanced mix of public companies, private companies, and individuals. The distribution among these groups can fluctuate slightly each quarter, but there have been no significant changes in the geographical distribution of our customer base over the past few years. Regarding J-Stars, I recommend referring to Northrop, as they are our primary partner. The production of the 550 will remain at a very low rate for the foreseeable future, and we will support Northrop's plans for us.

Okay, great. Thank you very much.

Hey, good morning, everyone. Just to slightly follow-up on that capital allocation question. Just can you talk, Phebe and Jason a little bit more about the M&A outlook? You brought up some of the acquisition activity you had in 2017, any kind of shift in the market that you’re detecting heading into 2018 and where you might be interested and to what extent from a bite-size perspective?

We never comment on the environment for acquisitions. So I think I'll pass on that. You have another question?

Sure. I appreciate that. When it comes to the CapEx plans at your shipyards, how do you think about the returns on that CapEx? I mean, is that associated with clients that you know are in place that the Navy is going to be able to afford or is there a little bit of assumption or intention that improving the shipyards will help the Navy for their larger shipbuilding plan?

Look, we have always been very disciplined about our capital deployment and you can expect in this instance that we have planned our investments as close in time to the returns as possible. The Navy understands that. There are contractual provisions in all of our contracts that provide for harmonizing across to better optimize the investment with the returns. We are not speculative of the Navy needing to fund the submarine force in particular. And our investments are twofold. One, they clearly make us more efficient, but it also helps the affordability for the Navy. So it's a win-win for both us and the Navy and we’re in very close contact and have been completely aligned with the Navy with respect to the quantum and the timing of our investments and we fully understand the need for a reasonable return.

Got it. Thanks for the second swing at the ball there.

Hey, good morning, Phebe, Jason, Howard.

Good morning.

Phebe, just a quick clarification on a comment you made earlier and then just a question on demand. But the initial production lot on new programs comment that you made before, if you can just clarify what is the size of a typical initial early production lot for a new airplane? And then just with respect to the demand outlook, and I know you kind of hinted at this with the industry-wide comment on expanding orders or I don’t want to get the words wrong here, across the industry, but when you look at the plan that you laid out through 2021, I’m just trying to get a sense of what the underpinnings are there and if there's any expectation that the tax reform has a material impact on buying decisions. I realize we're only a couple of weeks into the year, but any chance you can help us understand how to quantify those sorts of impacts or what you expect or where you may have been conservative, anything there would be helpful. Thanks.

Let me mention something about tax reform. It can't hurt, right? We'll see how things unfold, but it didn't really influence our forecasts. We based our plan on the demand we see in what I've described for several quarters as a strong pipeline. This pipeline remains strong, and we believe, based on historical data and our experience, that new products drive additional demand. With new products on the way, I feel confident that our demand projections, which are reflected in our deliveries, are solid. I hope that provides some insight, but let me have Jason elaborate further.

Sure. Without getting into the specifics of our inventory numbering system, it's important to note that many aircraft at Gulfstream will be delivered within a year. Considering the 500 or any aircraft entering service, there will be a natural increase in production. We won't complete the first full lot this year, but we will deliver a few units in the early part of next year. We expect to finish that first production lot by early next year.

So we’re talking not a handful, but a dozen or dozen something like that?

Exactly. It's more than a handful.

And thank you, Carter, and we have time for one more question.

Hey, thanks for squeezing me in and I appreciate it. If you could to the extent possible, Phebe, talk about any incremental interest you may have seen with the effective push out of Falcon 5X and maybe a broader question around that, so it's a two-part question. How often do you see biz jet customers in general switching brands? Does most competition come from competitors or is it really yourselves as always kind of competing against each other with new product offerings? How often do you see switching broadly speaking?

Historically, customers have been quite loyal to their specific brands. However, in the past three to five years, we've noticed some changes in that behavior and have gained market share. We currently have customers in our backlog and are delivering airplanes to clients who previously bought from other manufacturers. I don't focus on how much of our growth in orders and backlog is influenced by competitors, but we are currently the only ones offering a significant number of new airplanes. With the G650, G500, and G600 launching soon, along with the G280, I believe this is the primary reason for the increase in our backlog and, more importantly, in our orders and deliveries right now.

Would you say that loyalty is more dependent on capabilities, or do you sometimes see an opportunity to gain market share if competitors are experiencing manufacturing or production delays? Thank you.

I'm not going to discuss our strategy. I don't concern myself too much with what others are doing. We need to concentrate on our strengths, which are being the low-cost, high-quality producer across our fleet of airplanes. Additionally, we've supported and are implementing a strong research and development program that enables us to consistently introduce new products. This focus, I believe, is what ultimately leads to success, as evidenced by Gulfstream's performance.

Thank you for joining our call today. If you have additional questions, I can be reached at 703-876-3117. Again, thanks for your time. You may disconnect.