L-3 Releases Third Quarter 2016 Results

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L-3 Communications Holdings, Inc. today reported diluted EPS from continuing operations of $1.88 for the quarter ended September 23, 2016 (2016 third quarter) compared to diluted EPS from continuing operations for the quarter ended September 25, 2015 (2015 third quarter) of $1.54 and adjusted diluted EPS(1) from continuing operations for the 2015 third quarter of $2.03. Net sales of $2,505 million for the 2016 third quarter decreased by 2% compared to the 2015 third quarter. 

The 2016 third quarter results were impacted by: (1) tax benefits of $17 million, or $0.22 per diluted share, for the reversal of previously accrued amounts related to various tax matters, and (2) a $14 million pre-tax charge, or $0.11 per diluted share, in the Electronic Systems segment for a settlement in principle of the class action litigation, which is subject to court approval, in connection with the EoTech holographic weapons sights (HWS). 

“Third quarter results were in line with our expectations,” said Michael T. Strianese, L-3’s Chairman and Chief Executive Officer. “We continue to make progress on our strategy to grow and improve our operational and financial performance. Our book-to-bill ratio was 1.07x for the quarter. Looking ahead, we will continue to strengthen our product and service offerings in higher margin areas while enhancing productivity and efficiency across our businesses. Further, we recently announced three modest acquisitions that complement our core strengths and extend our leadership in key markets, positioning us to deliver shareholder value for the balance of 2016 and beyond.”

Third Quarter Results of Operations: For the 2016 third quarter, consolidated net sales of $2,505 million decreased $59 million, or 2%, compared to the 2015 third quarter. Organic sales(2) decreased by 2.5%, or $65 million, for the 2016 third quarter. Organic sales exclude $2 million of sales declines related to business divestitures and $8 million of sales increases related to business acquisitions. For the 2016 third quarter, organic sales to the U.S. Government increased $84 million, or 5%, and organic sales to international and commercial customers decreased $149 million, or 19%. 

Segment operating income for the 2016 third quarter decreased by $60 million, or 22%, compared to the 2015 third quarter. Segment operating income as a percentage of sales (segment operating margin) decreased by 210 basis points to 8.6% for the 2016 third quarter, compared to 10.7% for the 2015 third quarter. Segment operating margins were lower in all three segments. The 2016 third quarter included a $14 million pre-tax charge in the Electronic Systems segment for a settlement in principle of the class action litigation, which is subject to court approval, in connection with the EoTech HWS. Pension expense declined by $15 million compared to the 2015 third quarter. See the reportable segment results below for additional discussion of sales and operating margin trends.

The company believes organic sales is a useful measure for investors because it provides period-to-period comparisons of the company’s ongoing operational and financial performance.

Interest expense and other declined by $5 million, primarily due to lower outstanding debt as a result of the redemption of: (1) $300 million aggregate principal amount of 3.95% Senior Notes due November 15, 2016 in the second quarter of 2016 and (2) $300 million aggregate principal amount of 3.95% Senior Notes due May 28, 2024 in the fourth quarter of 2015. 

The effective tax rate for the 2016 third quarter decreased to 16.1% from 33.0% for the same period last year. The 2016 third quarter includes: (1) tax benefits of $17 million for the reversal of previously accrued amounts related to various U.S. Federal, foreign and state tax matters, (2) a benefit from the reinstatement of the Federal Research and Experimentation (R&E) tax credit and (3) $4 million due to the early adoption of a new accounting standard related to income tax benefits from employee stock-based compensation awards. 

Diluted EPS from continuing operations decreased 7% to $1.88 compared to adjusted diluted EPS of $2.03 for the 2015 third quarter. The 2015 third quarter adjusted diluted EPS from continuing operations excludes after tax losses of: (1) $34 million, or $0.42 per share, related to goodwill impairment charges and (2) $6 million, or $0.07 per share, related to business divestitures. Diluted weighted average common shares outstanding for the 2016 third quarter declined by 3% compared to the 2015 third quarter primarily due to repurchases of L-3 common stock. 

Year-to-Date Results of Operations: For the year-to-date period ended September 23, 2016 (2016 year-to-date period), consolidated net sales of $7,522 million decreased $73 million, or 1%, compared to the year-to-date period ended September 25, 2015 (2015 year-to-date period). Organic sales increased by $70 million, or 1%, for the 2016 year-to-date period. Organic sales exclude $206 million of sales declines related to business divestitures and $63 million of sales increases related to business acquisitions. For the 2016 year-to-date period, organic sales to the U.S. Government increased $250 million, or 5%, and organic sales to international and commercial customers decreased $180 million, or 8%. 

Segment operating income for the 2016 year-to-date period increased by $79 million, or 12%, compared to the 2015 year-to-date period. Segment operating margin increased by 110 basis points to 9.5% for the 2016 year-to-date period, compared to 8.4% for the 2015 year-to-date period. Segment operating margin increased by: (1) 100 basis points primarily due to unfavorable contract performance adjustments related to cost growth in 2015 that did not recur in 2016 at Aerospace Systems on international head-of-state aircraft modification contracts and (2) 50 basis points due to lower pension expense of $36 million. These increases were partially offset by charges in the Electronic Systems segment for a settlement in principle of the class action litigation, which is subject to court approval, in connection with the EoTech HWS and increases to the HWS product returns allowance, which, together, decreased operating margin by 40 basis points. See the reportable segment results below for additional discussion of sales and operating margin trends. 

Interest expense and other for the 2016 year-to-date period includes a $5 million debt retirement charge related to the redemption of $300 million aggregate principal amount of 3.95% Senior Notes due November 15, 2016. 

The effective tax rate for the 2016 year-to-date period decreased to 21.7% from 22.9% for the same period last year. The 2016 year-to-date period includes: (1) a benefit from the reinstatement of the Federal R&E tax credit, (2) tax benefits of $21 million for the reversal of previously accrued amounts related to various U.S. Federal, foreign and state tax matters and (3) $16 million due to the early adoption of a new accounting standard related to income tax benefits from employee stock-based compensation awards. 

Diluted EPS from continuing operations increased 22% to $5.83 compared to adjusted diluted EPS of $4.76 for the 2015 year-to-date period. The 2015 year-to-date period adjusted diluted EPS from continuing operations excludes after tax losses of: (1) $34 million, or $0.40 per share, related to goodwill impairment charges and (2) $18 million, or $0.22 per share, related to business divestitures. Diluted weighted average common shares outstanding for the 2016 year-to-date period declined by 5% compared to the 2015 year-to-date period primarily due to repurchases of L-3 common stock. 

Orders: Funded orders for the 2016 third quarter increased 22% to $2,688 million compared to $2,200 million for the 2015 third quarter. Funded orders for the 2016 year-to-date period increased 2% to $7,415 million compared to $7,301 million for the 2015 year-to-date period. The book-to-bill ratio was 1.07x for the 2016 third quarter and 0.99x for the 2016 year-to-date period. Excluding the impacts of business divestitures and acquisitions, orders increased by $216 million, or 3%, for the 2016 year-to-date period. Funded backlog declined 2% to $8,294 million at September 23, 2016, compared to $8,423 million at December 31, 2015.

Reportable Segment Results

The company has three reportable segments. The company evaluates the performance of its segments based on their sales, operating income and operating margin. Corporate expenses are allocated to the company’s operating segments using an allocation methodology prescribed by U.S. Government regulations for government contractors. Accordingly, segment results include all costs and expenses, except for goodwill impairment charges, gains or losses related to business divestitures and certain other items that are excluded by management for purposes of evaluating the operating performance of the company’s business segments.

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