RTX Corp (RTX) — Q1 2019 Earnings Call Transcript

Thank you, Shanon. Good morning, everyone. Thank you for joining us today on our first quarter conference call. The results that we announced this morning, the audio feed of this call and the slides that we'll reference are available on our website at raytheon.com. Following this morning's call, an archive of both the audio replay and a printable version of the slides will be available in the Investor Relations section of our website. With me today are Tom Kennedy, our Chairman and Chief Executive Officer, and Toby O'Brien, our Chief Financial Officer. We will start with some brief remarks by Tom and Toby and then move on to questions. Before I turn the call over to Tom, I would like to caution you regarding our forward-looking statements. Any matters discussed today that are not historical facts, particularly comments regarding the company's future plans, objectives, and expected performance constitute forward-looking statements. These statements are based on a wide range of assumptions that the company believes are reasonable, but are subject to a range of uncertainties and risks that are summarized at the end of our earnings release and discussed in detail in our SEC filings. With that, I will turn the call over to Tom.

Thank you, Kelsey. Good morning, everyone. Raytheon delivered strong operating performance in the first quarter. Sales increased 7.4% and our bookings, sales, EPS, and operating cash flow were all better than expected. We had a backlog of over $41 billion, which is up almost $3 billion versus the same period last year. Our trailing four-quarter book-to-bill ratio is strong at 1.13, and our growth strategy continues to be aligned with the needs of our global customers. Overall, I was pleased with our results in the first quarter, including strong performance at IIS and SAS, which more than offset missile performance, which was below our expectations. Toby will review additional details about the quarter in a few minutes. Given the constantly evolving threat environment, I'd like to take a few minutes to discuss some of the innovative solutions we are developing consistent with Raytheon's long history of pushing the bounds of what is possible. Today, we are at the forefront providing advanced technology solutions for our customers' most complex challenges. And we are seeing strong future opportunities in our core capabilities, such as in radars and missiles. A great accomplishment for the company and our customer for the first time in March, The U.S. Missile-Defense Agency, in partnership with the industry team, launched two Raytheon exoatmospheric kill vehicles in back-to-back tests. One EKV successfully destroyed a complex threat-representative intercontinental ballistic missile outside of the Earth's atmosphere, while the other EKV gathered test data in what is now known as a two-shot salvo engagement. This was a critical milestone for the ground-based midcourse defense system, and it also relied on Raytheon's advanced sensing capabilities, such as the Sea-Based X-Band Radar, 52 radar, and multispectral targeting system on unmanned aerial vehicles to provide EKV with tracking and targeting data of the ICBM. Next, as we have discussed on prior calls, Raytheon is a leader in providing the next generation of GaN-based naval radars. Our air and missile defense radar and our enterprise air surveillance radar for the U.S. Navy and international customers will form the backbone of radar capabilities for U.S. and allied surface fleets of the future. The AMDR provides integrated air and missile defense capabilities with greater range, increased accuracy, and higher demonstrated sensitivity, allowing us to counter large and complex rates. EASR is the navy's next-generation radar for aircraft carriers and amphibious warfare ships that provide simultaneous anti-air and anti-surface warfare, electronic protection, and air traffic control capabilities. Understanding our customers' need for performance and disputed relevance, we are making considerable progress on these advanced capabilities. During the first quarter, AMDR completed its latest and most complex test and exceeded all performance requirements. The radar is currently in low-rate initial production and on-schedule for delivery to the Navy's first modernized DDG 51 Flight III class ship in 2020. In March, we booked over $400 million for the next award of 3 AMDR LRIP units. For EASR, in April, the radar was moved to Wallace Island in Virginia to begin its next phase of system-level testing. We expect EASR to shift from the engineering and manufacturing development phase to the production phase at the end of 2019. Earlier this week, we received the first of two critical contracts from the Missile-Defense Agency valued at approximately $400 million for 52 radars as part of the Kingdom of Saudi Arabia's purchase of the terminal high-altitude area defense or THAAD area missile defense system. We continue to see the total Raytheon opportunity on this program to be around $3 billion. In the area missiles, Raytheon is continuing our leadership as a provider of numerous advanced and innovative solutions to our customers. During the quarter, Raytheon and the U.S. Army completed a successful preliminary design review for DeepStrike, Raytheon's solution to meet the Army's precision strike missile, or PrSM requirement. This moves the missile down the development path toward its first flight test planned for later this year. The new missile's range and speed will enable Army combat units to engage targets over vast geographic areas in high-threat environments and will fly farther and faster, in fact, more effectively than the current missile. Our franchise win at the naval strike missile for the U.S. Navy last year continues to show opportunities for growth. The missile is offered by Raytheon in partnership with Kongsberg. Recently, we entered into an agreement that expands the franchise further by integrating NSM into the U.S. Marines' existing force structure to support the national defense strategy and modernization efforts. In April, we saw further extension of the NSM franchise with an approved international sale to integrate NSM onto rotary wing aircraft. We are also developing both offensive and defensive hypersonic systems and providing our nation's military with the advanced tools they need to stay ahead of the escalating threat. In March, Raytheon was awarded the DARPA contract to further develop the tactical boost glide hypersonic weapons program. This joint DARPA and U.S. Air Force effort includes a critical design review, a key step in building the technology. In addition, we are working on advanced interceptors for missile defense. During the quarter, Raytheon successfully completed more than 1,700 rigorous wind tunnel tests on the newest extended range variant of the combat-proven AMRAAM air-to-air missile. Testing is a major step in the missile's qualification for integration with the NASAMS ground-based air defense system. The AMRAAM-ER missile intercepts targets at longer distances and higher altitudes, thus, enhancing system performance for our customers worldwide. While we are pleased with the growth missiles has achieved, and we remain confident about future opportunities, we recognize there is more work to be done to meet our expectations on performance. The fundamentals that missiles have remain very strong, and we are implementing action plans to improve program execution. In the meantime, as I previously mentioned, we are pleased with the strength in the rest of our portfolio, especially at IIS and SAS, which offset missile performance. In addition to the strong performance at IIS, earlier this year an IIS team demonstrated a land-based expeditionary version of its joint precision approach and landing system with JPALS for the first time to the U.S. Air Force, Navy, and Marine Corps officials. The precision landing system is currently used on ships to guide F-35Bs in all types of weather. JPALS has the potential to help any fixed or rotary-wing aircraft land in rugged, low-visibility environments at austere bases worldwide. I would like to highlight one more of our many innovative solutions, this one at SAS. Last year, we were selected as one of two companies to compete for the opportunity to provide the mission payload for the next generation overhead persistent infrared program. Next Gen OPIR is a new missile warning satellite system for the U.S. Air Force aimed at countering emerging global threats. During the first quarter, we were awarded a proposal update. In April, we successfully completed the payload system design review on schedule. We are in an era of rapid technological change, and as a result, it is becoming clear that the solutions our customers will need in the future relative to escalating threats will most likely be complex systems, integrating multiple technologies, including radars, missiles, missile defense, and cybersecurity. This is an area of strength for Raytheon. With our deep portfolio capabilities and leading franchises across all of our segments, we are well-positioned to be a key partner for our customers. The initial development of our advanced capabilities is often through our classified work, which as we've discussed on past calls points to next-generation technology development that is integral to the long-term growth of our future franchises and production awards. Our Classified Business was once again strong in the first quarter, with Classified bookings up 37% and Classified sales up 22% versus the same period last year. Turning to D.C., we were pleased to see the increase in the base budget and modernization levels in the 2020 Department of Defense budget request that was released in March. Raytheon programs fared well in the request with notable increases from weapons, radars, and C5ISR programs. The budget request was clearly driven by the priorities of the national defense strategy, with the research and development accounts increasing substantially to develop high-end capabilities to counter peer threats. The NDS aligns well with our other innovative solutions that address our customers' most complex challenges. We will continue to work to ensure robust funding for our programs, which are a critical need for customers. In closing, the Raytheon team remains focused on driving strong execution and future growth, backed by a workforce of over 67,000 employees and a corporate culture grounded in our company's values. These values, trust, respect, collaboration, innovation, and accountability, guide the way we engage with colleagues, customers, investors, and other stakeholders. Now let me turn the call over to Toby.

Thanks, Tom. I have the opening remarks, starting with the first quarter highlights, and then we'll move on to questions. During my remarks, I'll be referring to the web slides that we issued earlier this morning. So everyone, please return to Page 3. We are pleased with the strong performance the team delivered in the first quarter, with bookings, sales, EPS, and operating cash flow better than our expectations. We had bookings in the first quarter, resulting in a strong trailing four-quarter book-to-bill ratio of 1.13 and a backlog of over $41 billion. This positions us for continued growth throughout 2019 and beyond. Our sales in the quarter were $6.7 billion, up 7.4% with growth across all of our businesses. Our EPS from continuing operations was $2.77, better than our guidance and an increase of 25.9% year-over-year. I'll give a little more color on this in just a moment. We had an operating cash outflow of $411 million in the first quarter, better than the guidance we provided in January. As expected, operating cash flow was lower than last year's first quarter, primarily due to higher net cash taxes and the timing of payments. During the quarter, the company repurchased 2.8 million shares of common stock for $500 million. Last month, we announced an 8.6% increase in our dividend. This marks the 15th consecutive year of increasing dividends at Raytheon. Turning now to Page 4. Let me start by providing some detail on our first quarter results. Company bookings for the first quarter were $5.4 billion, resulting in backlog at the end of the first quarter of $41.1 billion. This represents an increase of approximately $3 billion or 8% compared to the first quarter of 2018. It's worth noting that around 38% of our backlog is comprised of international programs. If you now move to Page 5. For the first quarter of 2019, sales were better than the high end of the guidance we set in January. Sales were especially strong at IIS. Looking now at sales by business, IDS had first quarter net sales of $1.6 billion, up 4% compared with the same period last year. The increase from Q1 2018 was primarily driven by higher sales on various Patriot programs and a naval radar program. In the first quarter, IIS had net sales of $1.8 billion. Compared with the same quarter last year, the 12% increase was primarily due to higher net sales on classified programs in both cyber and space. As we've previously discussed, we expect IIS's growth rate to moderate in the back half of the year due to the continued planned ramp down and transition of the Warfighter FOCUS program. Missile systems had net sales of $2 billion, up 9% compared with the same period last year. SAS had net sales of $1.7 billion in the first quarter of 2019, up 5% compared to last year's first quarter. The increase from Q1 2018 was primarily due to higher net sales on classified programs. At Forcepoint, sales were up 12% in the quarter compared with last year's first quarter. Overall, we're pleased with our total company sales, which grew 7.4% in the quarter. Moving ahead to Page 6. Now, let me spend a few minutes talking about our margins in the quarter. Our operating margin was 16.5% for the total company and 11.8% on a business segment basis, both generally in line with last year's first quarter, and better than our expectations at the company level. IDS margin was lower in the first quarter of 2019 as expected, primarily due to lower sales on a large international Patriot program awarded in last year's first quarter. IIS's margin was higher by 310 basis points compared to last year's first quarter, primarily due to a gain of $21 million related to the consolidation as planned of an entity that was previously an equity investment, and from a $13 million gain from the sale of excess assets. Excluding these items, the margin at IIS would be about 8.5%, better than last year's first quarter, primarily due to higher net program efficiencies. Missile's margin was lower in the first quarter compared with the same period last year, and lower than our expectation. We expected there to be an impact from program mix in the first quarter, but we also saw lower than planned net program efficiencies, which I'll discuss further when I review our outlook by business. From a total company point of view, we remain focused on margin improvement going forward, and continue to see our business segment margins in the 12.1% to 12.3% range for the full year, consistent with the guidance we laid out in January. We see our margin improvement in the back half of the year driven by favorable program mix and productivity improvements. Turning now to Page 7. First quarter 2019 EPS of $2.77 was up 25.9% from last year's first quarter and was better than our expectations. The year-over-year increase was largely driven by higher sales volume and pension-related items. On Page 8, as I mentioned earlier, we have updated the company's financial outlook for 2019. We continue to expect our full-year 2019 net sales to be in the range of $28.6 billion to $29.1 billion, up 6% to 8% from 2018. We still expect our full-year 2019 EPS to be in the range of $11.40 to $11.60. As I discussed earlier, we repurchased 2.8 million shares of common stock for $500 million in the quarter, and continue to see our diluted share count in the range of between 279 million and 281 million shares for 2019, driven by the continuation of our share repurchase program. Operating cash flow in the first quarter was higher than our prior expectations, primarily due to the timing of collections. Given that it is still early in the year and our cash is back half weighted, we continue to see our full-year 2019 operating cash flow outlook to be between $3.9 billion and $4.1 billion. Although not on the Page, it is worth noting that we continue to see our full-year 2019 bookings outlook to be between $29.5 billion and $30.5 billion. Turning now to Page 9, as you can see, we've included guidance by business. Before I discuss the other businesses, I wanted to address missiles first. At missiles, as I mentioned earlier, we saw lower-than-expected net program efficiencies this quarter. As a result, we have reduced their outlook to reflect first quarter performance and what we now expect for the balance of the year. We now see their margin to be in the 11.5% to 11.9% range. As Tom mentioned earlier, we have an action plan in place to improve their execution. The strong performance we saw at both IIS and SAS in the first quarter and their improved outlook for the remainder of the year offset the performance at missiles. This reflects the strength of our balanced portfolio. We now expect IIS margins of 8% to 8.2%, which is up 20 basis points over the prior outlook we provided in January. We've updated SAS margins to 13.2% to 13.4%, an increase of 30 basis points from our prior outlook. As a result, for the full year 2019, we continue to see our business segment margins in the 12.1% to 12.3% range for the full year, consistent with the guidance we laid out in January. We are committed to improving margins across all of our businesses, and this focused effort is now starting to come through in the margin performance at our IIS and SAS businesses. On Page 10, we provided you with our outlook for the second quarter of 2019. As we mentioned on our last call, we still expect the cadence for the balance of 2019 to play out similar to 2018. We see sales, EPS, and operating cash flow ramping up sequentially in the second half of the year. I want to point out that we expect second quarter sales to be in a range of approximately $6.95 billion to $7.1 billion, and EPS from continuing operations is expected to be in a range of $2.50 to $2.55. We expect operating cash flow to be in a range of $500 million to $700 million. Before concluding, I'd like to spend a minute on our capital deployment strategy. As we said on the call in January, we expect to continue to generate strong cash flow and maintain a strong balance sheet that provides us with financial flexibility. We remain focused on deploying capital in ways that create value for our shareholders and customers. This includes internal investments to support our growth, maintaining a sustainable and competitive dividend, reducing our share count, making targeted acquisitions that fit our technology and global growth needs, and making discretionary contributions to the pension. In summary, if you stand back and look at the quarter, we had strong performance, which provides a solid foundation for the balance of 2019. Our bookings, sales, EPS, and operating cash flow from continuing operations were all above our expectations. We remain well positioned for continued growth. With that, Tom and I will now open the call up for questions.

On missiles, how do we think about the franchise programs? Tom, you mentioned in your prepared remarks how they develop longer-term as growth drivers and maybe just the return on sales of those assets. And then as a follow-up, you both mentioned actions that have been placed for MS. Can you maybe describe that a little bit more? Thank you.

Let me start off with the franchises. I think what's unique about missiles is the fact that they have a very strong stable of existing franchises that have undergone a syndicated refresh over the last five years. In other words, new technology is being inserted into them, essentially giving them legs for another two decades. The other success we've had is extending those franchises in the international marketplace. What's special now is that we have an opportunity for some bringing some new franchises on board. We just brought one on board NSM. I mentioned how just within a matter of six months, we've extended that franchise into two other mission areas, doing three mission areas right off the bat. The other items are the ones where we're in competition for one is the PrSM, which is a precision strike missile for the United States Army. That program has had a very successful test that I mentioned and just had a motor test. So we're in a very good position to potentially win that new franchise. That will replace all of the Army's missiles in the field today and give us a great significant capability, but also a brand new franchise for Raytheon. We're also working on the next generation nuclear weapon for the LRSO program that is in competition with a downselect out in the 2022 period. That's the next generation weapon for the United States Air Force, with over a thousand weapons that will be procured over a period of time. Bottom line is missiles have a lot of upside in terms of growth and we're supporting that. In fact, the action plan we're taking at missiles includes a new leader that has come on board, Wes Kramer. Wes was President of IDS, did a great job for us at IDS. He has also been at missiles support. He ran their largest business area, the standard missile business. He knows the business and knows the levers to pull to drive continued growth and margin expansion. We've been putting in detailed action plans to improve margins in the business. We're very confident about the margin range we set for this year's outlook, and we're also very positive on growing margins incrementally in '20 and then '21, and that sets our main focus at missiles.

And Sheila, I'll just add a little bit on the details of the things that we're doing out there. So there have already been some changes that have been made. There were some modifications to the workforce structure, and some product lines were consolidated, which reduces management costs. Other leadership changes were made on the staff. The team out there continues to review the cost structure, looking for opportunities to leverage the growth we've seen. We're reviewing factory operations for incremental efficiencies, and Wes, as Tom mentioned, will leverage his prior experiences at missiles and focus on improving execution. There will be other changes made along the way, but the bottom line is the team is focused on growing the business, improving program execution, and expanding margins.

Tom, you had mentioned an era of rapid technological change. And it's maybe for both of you. Can you talk about the earnings algorithm in that era where we're seeing obviously this trade-off between growth in margin, which should maybe reverse in a couple of years? And then also you mentioned that customer in that era want more integrated solutions. How do they balance that desire for integration with wanting more open architectures and maintaining competition? Perhaps in that answer, you can also address the LTAM's competition. Thank you.

Well, first of all, we are having an explosion in technology. Essentially, people talk about the fact that there's an exponential change in technology that is occurring now with things like machine learning, nanotechnology, and quantum computing. We're heavily involved in all of those areas. Our customers realize that they need to take advantage of those new technologies to generate the next generation of capability to put the United States in a premier position from a defense perspective. We're seeing a lot of activity in R&D on the government side to bring those new technologies to fruition. Our strategy is to take those technologies and again upgrade our existing franchises, whether they be radars or missiles, and then generate new ones. The fact that we're all over that is important. A prime example is the U.S. Army's Lower Tier Air Missile Defense Sensor, known as LTAM. We are in a competition on that, and we'll be proceeding here in May to something called the U.S. Army sense-off. We’re taking brand new technology and coming up with a new 360-degree active electronically scanned array radar using our high-end GaN technology. We expect the sense-off to take place in May and June of this year, and believe the Army will complete their analysis sometime late '19 or early 2020.

Jon, let me add a little bit on the part of the question related to the earnings algorithm or exactly how you put that. We've talked before a lot last year about the mix driven by the National Defense Strategy and obviously the changing technology plays into that as well. The segment margin we guided to this year has about a 20 basis points of margin headwind due to that mix, offset a little more with about 40 basis points of productivity. We see a lot of classified programs that are transitioning into production over time, with margin pressure now but should be tailwinds to margin in the future. These awards strengthen our portfolio. More franchises help us expand internationally. We expect two multi-year production awards in the back half of this year that will drive growth. While we've seen some puts and takes on our 2019 guidance by business, we continue to see margin expansion going forward. Don't forget about our international content. About 30% of our business is international, and that's on the higher end of our margin scale.

I’d like to go back to missiles, because I just want to understand what's been the evolution here. We've really seen margin guidance reduced for four quarters in a row now essentially. I understand that some of last year was attributed to a mix shift to more development. But now when you look at Q1, we actually see the backlog drop by more than $1 billion in missiles, and you made a leadership change. Can you talk about how you've looked at this unit over the last three to four quarters? And what you've seen are the issues there and when you came to the decision that there had to be some significant changes?

Let me start off and then Toby will follow. The first thing is regarding the leadership change, the prior leader, prior president, Taylor, informed the company that he planned to retire. The president change was based on that retirement request. We were able to bring on a strong player, Wes Kremer, who was previously running the IDS business and has done quite well. The businesses are similar, with strong franchises and a lot of growth opportunities. We're applying some of those techniques at the missile company. Initially, it was about mix; we've been winning contracts in missiles and the development area, which affected us from a mix perspective. The other issue is that we have quite a bit of production programs going on and we weren't seeing as much of a pick-up on production programs as we've seen in the past, which started about three quarters ago. We're focusing on tightening our factory operations, improving our supply chain, and driving productivity. We have a strong fundamental position in missiles, and we're focusing on driving margins up.

Doug, just to your questions about what’s happened over time with the guidance, a lot of that last year was around the mix. We did get hit with a lot of lower margin development classified work. We believe the guidance for this year going back to what we provided in January properly sizes that relative to missiles. We still feel that's the case today. The change in backlog is primarily timing related to some large bookings. We expect north of $9 billion of bookings at missiles this year, a book-to-bill of 1.05 or greater. We anticipate two multi-year production awards in the back half of this year, which will drive that. So I wouldn't read anything into the change in the backlog in the quarter, just timing on some large bookings.

Just on the missile theme, unfortunately. If you sort out the performance issues, what sort of benefit could you have to the operating margin in this business going forward? Ignoring the mix, just the productivity.

I think the way to think of it, and I'll maybe start with this year and move forward. First of all, we believe we sized the guidance appropriately, reduced the range downwards to around 11.7% at the midpoint, which is in line with where they ended last year. We expect the cadence of margin to improve quarter-to-quarter throughout this year, with a bias toward the second half. When you think about 2020 and beyond, if I take it back to 2016 or 2017, missiles were generating margins in the 13% range before we started to see this higher influx of lower margin classification work. That level is still attainable, albeit further out as it takes time for the development programs to transition into production and we implement action plans to improve execution. We see improvements coming incrementally in 2020 and beyond, driven by this mix shift, the production programs, and better execution.

You wound up beating the high end of your EPS guidance by $0.25. You beat the high end of your sales guidance by $150 million. A lot of this is due to IIS. You didn't raise the guidance or the sales guidance. Why not? Is it all IIS where Warfighter sales didn't come down this quarter and not expected to come down? And was there any benefit to IIS sales from the consolidation that you did in the quarter? Any other color you might provide. Thanks.

I'll address the IIS details first and then the company-level thinking. The Warfighter sales came down as expected, but year-over-year we're looking at about $0.5 billion in reductions mostly in the back half of the year. There is an imbalance first half, second half due to the Warfighter impact on revenue. The rest of IIS business is strong, even with that decline, growing around 10% for the year. The consolidation entity you referred to did have a $38 million impact on revenue in the quarter. So at a total company level, we're pleased with the first quarter results, which exceeded our expectations. Some of the higher sales volume was timing related. This gives us confidence in our outlook of 6% to 8% growth for the year. The improvements at IIS and SAS were offset by the decrease in missile margins that flowed into the year. We will keep an eye on it but are confident in the outlook for the year.

Last one on missiles and then also one other question. Toby, I think you said you highlighted maybe a $15 million negative to EAC. What were the total negative EACs in missiles in the quarter? Could you also give us your thoughts on cash deployment? How is the $500 million share repo number, the biggest I've seen on a quarterly basis? How are you thinking about share repo from here and the potential to pull forward some future pension contribution needs into this year? Thanks.

On missiles, just to put in perspective, the net EAC adjustments in the quarter were about $4 million, with total negatives above $69 million. If performance had been more aligned with our expectations, we would've been in a plus or minus 11% margin range for the quarter. On share repurchase, we see value in our shares and are committed to our repurchase program. The outlook for the year is similar to last year about $1.3 billion and a 2 plus percent reduction. We will evaluate that along with pension contributions as we monitor overall cash generation and capital allocation. Our last year timing was driven by changes in the tax laws.

So your guidance for the second quarter, $2.50 to $2.55 in earnings, looks like we get a fair amount of margin compression given your revenue guide. Could you walk us through some of the puts and takes on margins, particularly missiles? Is there more pain to get things under control in the second quarter? Is that the reason for what looks like a light margin guide? Thanks.

Typically for the company, our segment margins do ramp up in the second half. We did see some Q1 margins, about 50 basis points higher than expectations, which added to our margins. Conversely, we're seeing a lower guidance for Q2 margins. Looking specifically for Q2, we do see lower IDS and IIS margins compared to Q1, in part due to Forcepoint, which typically has a loss in Q1 and Q2 from seasonality. Though the Q2 margin expectations are a bit lower, we feel good about our guidance of 12.1 to 12.3 for the full year.

So Tom, I wanted to discuss hypersonics and Raytheon's role in offensive hypersonics. You mentioned the TBG, and I think you want something. I'll jump ahead a few years. It appears that one of your competitors has been securing a lot of the hypersonic projects recently. What is your current position and what opportunities are available? Can you catch up, or should we be considering this differently?

Let me start off with what we are doing right now. On the offensive side, I mentioned during my previous call that the defensive hypersonics is actually a bigger market than the offensive. We're heavily involved in multiple programs. One of them is the air-breathing hypersonics weapons program with DARPA, and then we're working on the tactical boost glide weapons program that I mentioned. We feel we're in a very strong position relative to where we want to be on offensive hypersonics. On the defensive side, we're involved in multiple activities, and it also includes the sensor part, both land- and space-based systems. Overall, hypersonics is a big opportunity for Raytheon, and we believe we're engaged in the right elements as we move forward.

I wanted to ask briefly another question about IIS, where excluding any Warfighter headwind as the performance has been consistently good for several quarters now in terms of sales and margins. If we look specifically at the margin excluding the one-timers from the quarter, it's been consistently mid-8s for the past three quarters now. Is this mid-8 business going forward? If not, why not? You're obviously growing nicely, the end markets are growing, and it seems like you're taking some share too. How do you think about the growth potential in the out years?

Let me jump in, and Tom can add any color if he wants. If we exclude the couple of items that we talked about regarding consolidation of an entity that we planned on in the material sales. IIS would have about an 8.5% margin in the quarter due to strong execution. That was largely driven by net program efficiencies compared to last year and prior guidance. I expect they will continue to perform strongly going forward. This business can certainly exceed 8%, and they have got the execution side down well, especially through the first quarter this year. They are the one business that, from their model, has a structure that drives margins lower given the least amount of fixed price and international work. However, I know the team is working hard to improve that, particularly in cyber and various international opportunities. I expect strong growth in IIS, and increasing margins over time, leading to very high single-digit margins, albeit over a longer period.

One more question on missiles, but more from a revenue standpoint. Tom, I know you guys organized each of your segments by product area. Which of the product areas within missiles is going to grow the fastest this year to meet your guidance? And how dependent is the guidance on signing the two multi-year contracts on the SM this year?

The big player this year for missiles and for their segment includes the two multi-year contracts in SM-3 Block 1B and SM-6, which total just over $4 billion in bookings. We're ramping that business up significantly in the latter half of this year and into 2020 and beyond. We're seeing substantial growth across all missile business sectors, with significant international demand signals too. I think Toby can provide specific numbers for clarification, but we are very positive on the growth side of missiles, and we want to leverage growing not just on the development programs, but with those multi-years on the production side to achieve our margin goals as well.

The only thing I would add, Pete, is that they have a broad portfolio, not contingent on any single program. Growth will come from some classified work, the air-to-air business, and missile defense business, particularly involving SM-3. They have a large number of franchises, and while they are at various stages, most are contributing to this year's growth.

Shannon, we have time for one more question, please.

I wondered if you could clarify a charge on a next-gen precision strike weapon you called out in missiles in the K. And in your earlier remarks, you mentioned a couple of charges. Can you tell us if that's the same program or if we are talking about an expansion of loss-making or zero-margin work? And just in general, with respect to the mix at missiles regarding the 2019 plan versus 2018, how much more of the cost-type work do you have this year as a percentage than you did last year? Thanks.

Let me start with the last part. At missiles, the direction of the cost-type structure is about 500 to 700 basis points higher or biased toward cost types versus fixed pricing year-over-year. Regarding the initial charge you mentioned, that was an international test range upgrade program we saw some growth driven by design-related issues in the early phases, moving into production and integration. So it is not the same program driving negative adjustments I referred to in Q1.

That's all the time we have today. Thank you for joining us this morning. We look forward to speaking with you again on our second-quarter conference call in July.