Q3 2021 L3harris Technologies Inc Earnings Call
Following organic revenue growth of 6% in the second quarter, we saw a decline of 1% due to timing associated with supply chain delays at CES and in ISR aircraft awarded IMS.
While I'm disappointed by the soft topline results I'll note that the order momentum remained strong with a book to Bill of one <unk> seven and we delivered record high margins at 19, 6%.
EPS was $3 21 up 13% versus the prior year with solid free cash flow of $673 million that contributed to shareholder returns of $1 5 billion in the quarter.
Our execution against the company's strategic priorities have been a key factor in value creation for all stakeholders in spite of the pandemic.
And we made progress in the quarter by advancing topline opportunities improving operational performance wrapping up portfolio shaping and returning capital to our owners.
Starting with the top line the revenue decline in the quarter fell short of our internal targets largely due to timing factors.
At CES the global electronic component shortage has led to a supply chain disruption for our product and electronics focused businesses, notably tactical communications.
In the third quarter, the impact was nearly $100 million, where approximately two points of revenue.
And in the fourth quarter, our expectation is for the backlog of unfilled orders to grow in all told we foresee a roughly $250 million to $300 million revenue impact for the year, implying another step down in the fourth quarter.
This is the primary driver of our revenue guidance adjustment at CES having.
Having said that we do not anticipate any impact to our bookings nor our win rates and expect the segment to end the year with a book to bill well over one times.
In addition, despite the supply chain challenges, we faced in Q3 and ongoing headwinds we were able to meet delivery requirements on all of our key U S. Dod modernization programs and are on track to continue to do so in the fourth quarter, including deliveries on the recently awarded HMS full rate production contract.
The U S Army.
Second at IMS, we had a follow on ISR aircraft order with the NATO customer that booked late in the quarter, causing revenues to slip to Q4, representing roughly a two five point shift between quarters.
While the supply chain headwinds limit upside opportunities to our revenues for this year I have been pleased with the team's traction against our strategy of delivering end to end solutions to global militaries as a trusted disruptor across all domains.
And it's reflected in our order activity and operational milestones.
Within the space domain on the classified side, we continued to advance our responsive and exquisite satellite business with several earlier stage awards, both with the Intel community and which have follow on opportunities of nearly $2 billion.
And on the unclassified side following the Imager award in Q2 NOLA is progressing on the recapitalization of its Geo weather satellite system and awarded US The study contract for a sounder payload as part of a $3 billion opportunity over the next decade.
On the operational front, we completed the preliminary design review in the development of the missile tracking satellite prototype for the space Development Agency <unk>.
Progressing towards the launch over the coming years, and reflecting yet another significant accomplishment for <unk> III harriss.
Moving to the Air domain key awards within the quarter spanned both legacy and next generation aircraft.
The B 52, we received a 10 year $1 billion <unk> that has the potential to expand our scope on the program to include EW hardware upgrades, such as radar warning receiver building on our existing software Sustainment work and.
In addition on the International front, we were awarded an initial $100 million contract to provide capabilities on 12 multi mission aircraft for the UAE with the potential to double these amounts further demonstrating the breadth of our ISR capabilities that range from turbo props to business jets to larger aircraft.
And then the land domain, we were awarded several contracts with the U S Army to advance its modernization priorities.
Under the Army HMS program, we received over $200 million in awards for the Manpack and leader radios, taking a majority share on both products.
These are the first full rate production award out of a multibillion dollar <unk> IQ and represents less than 15% of the acquisition objective pointing to considerable runway ahead.
We also won a majority share on the second program of record for the <unk> program with $100 million order setting us up to ramp production on the Army's next generation field ready goggles. So.
So we we're three for three on strategically significant programs into land domain this quarter.
Within the maritime domain. The team continues to progress on the U S. Navy constellation class frigate with follow on awards for the next ship sets of electrical propulsion and navigation systems as part of a several hundred million dollars opportunity for <unk> III Harriss.
We're also awaiting decisions on two major Prime awards over the coming months.
I want to provide electro optical infrared capabilities on a broad range of the U S Navy surface combatants and another within international ally, highlighting our superior undersea sensor capabilities.
<unk> could expand our market reach in this domain.
Operationally the team delivered power conversion suite hardware as part of the Virginia class block five upgrade and completed qualifications for a portion of the power distribution system on the Columbia class.
Advancing the U S Navy's top priority.
We also had a key award within our mission networks business, we leverage the air traffic management capabilities, we provide to the FAA, winning a new international franchise with the Australian government to modernize the nations air traffic control and surveillance networks.
This program is in over $300 million opportunity and strengthened zelle III Harris has long standing relationship with Australia.
Finally, we received a strategic award on the revenue synergy front as we signed $130 million contract with the mid east customer to provide modernized software defined radios through a localized joint venture.
And this customer channel synergy award opens the door to a long term opportunity for up to 50000 radios.
When combined with other orders in the quarter revenue synergy awards to date totaled roughly $900 million on the win rate that remains at 70%.
A pipeline of over $7 billion. These.
These synergies will be a notable contributor to our top line growth.
These wind supported another strong quarter for a book to Bill of one <unk>, seven and 1.6 times year to date, increasing our our organic backlog to $21 billion or.
We're up 9% from last year, and 4% year to date.
This is validation of our internal investments in leading R&D spend as well as confirmation of our alignment with government priorities.
Shifting over to the outlook for budgets, we're pleased with the progress made on the FY 'twenty two defense spending bills that continue to prioritize near peer threats notwithstanding another CR.
The plus ups from the <unk> SaaS and <unk>, along with steadiness from happy combined with recent global events provide a degree of comfort that should we we should expect stability in military spending over the coming years.
And in my personal discussions with senior leadership of the administration and Congress.
I have consistently heard of a growing need for innovative resilient and affordable solutions, which were focused on providing <unk>.
All in all as we consider the trajectory of our top line, we remain confident in our ability to deliver sustainable growth through our domestic positioning revenue synergies and international expansion that stemmed from our pipeline of opportunities well in excess of 100 billion.
Pivoting to margin performance, our team delivered a stellar quarter at 19, 6% the best post merger results and an indication of the Companys potential over the next couple of years as we further build a culture of operational excellence.
Performance was the result of delivering another $15 million of incremental cost synergies.
And we're well on track to hit our $350 million target.
We continue to manage our overhead costs and drive our <unk> three program to more than offsetting supply chain headwinds.
Two primary primarily to our year to date results. We now see margins for 2021 exceeding our prior expectation of 18, 5% by 25 basis points.
Beyond 2021, our <unk> three program. It will mean, we will remain a key contributor to steady expansion in our operating margins net of inflationary pressures. This program is one of our key discriminator in.
Now let me highlight just a couple of examples.
First is factory optimization that represents half of this opportunity set through streamlining and simplifying our manufacturing processes be it from a redesign of our factories layout for integrating automation tools, we can shorten cycle times increased labor efficiency and continue to drive out cost.
A great example is a pilot program in our Amityville facility in New York, where an augmented reality assembly aid that electronically displays and validates our processes helps reduce cycle time by 25%.
And higher first pass yields by several points.
And we're in the early stages of a strategy with a three year rollout ahead of us.
The other half of our opportunity comes from the engineering excellence and supply chain.
On the former through the deployment of our digital ecosystem Frontloading, our program activities and enhancing training for our roughly 20000 engineers and 500 program managers were able to increase commonality and better manage cost and schedule across the company.
These have been key with some of our standout wins within the space domain, enabling a foray into missile defense as well as what's driving favorability in our EAC.
On supply chain the global disruption, we've highlighted have been largely contained to about 15% of the company and are temporary in nature.
Because we've had beat on reducing the number of suppliers are leveraging our roughly $7 $5 billion spend as an enterprise remain in place with further opportunities in the years ahead.
Moving over to the portfolio, we put a bow on the post merger shaping activities in the quarter and closed on the electron devices divestiture for $185 million, while announcing the sale of two small businesses with an app for a combined $130 million.
In total gross proceeds since the merger to $2 8 billion.
And as we consider our portfolio moving forward, we will be opportunistic with our balance sheet as a buyer and a seller focusing on long term growth and value creation having.
Having said that we don't see any gaps in the portfolio nor is there any urgency at this time.
Consistent with our prior commitments proceeds from the divestitures will be part of our capital return program.
Our expectation now is for buybacks to be roughly $3 $6 billion this year versus our prior $3 4 billion.
When combined with dividends capital returns will be about $4 5 billion in 2021.
So overall I am pleased with the L. III Harris teams ability to execute against our strategic priorities and deliver bottom line results. Despite unanticipated setbacks with that I'll hand, it over to Jay.
Chris and good morning, everyone.
First and starting on slide four I'll provide more detail on the quarter before I get into segment results and our updated outlook.
In the quarter organic revenue was down 1%.
Than our internal expectations by about four five points from the supply chain delays and ISR aircraft Award timing.
And see us were down three and 5% respectively and absent these impacts would have been up closer to the mid single digit range for both.
The SaaS segment was up 3% led by strong growth in our responsive space business, while <unk> was up 1%, including the benefit from recovery in commercial aerospace.
Margins expanded 170 basis points to 19, 6% with the most notable drivers being from <unk> performance and cost management, which more than offset volume related supply chain headwinds.
We exceeded our internal expectations by more than 100 basis, a 100 basis points from favorable mix related to award timing and strong <unk> performance.
<unk> continues to drive margin upside by delivering 93 improvements that lead to outperformance of scheduled milestones costs and retirement of risk.
These drivers along with our share repurchase activity drove EPS up 13% or <unk> 37.
To $3 21.
As shown on slide five.
All of this growth synergies and operations contributed 39.
Lower share count contributed another 20.
And pension and tax accounted for the remaining <unk> that.
And more than offset a 14th headwind from divested earnings and a <unk> <unk> headwind from supply chain delays.
Free cash flow was $673 million and we ended the quarter steady.
With working capital days at 56.
To supported robust shareholder returns of $1 5 billion.
Comprised of $1 3 billion in share repurchases and $202 million in dividends.
Now, let's turn to slide six and discuss quarterly segment results.
Integrated mission systems revenue was down 3% driven by follow on ISR aircraft Award timing from our NATO customer that would've contributed eight points of growth for.
For which revenue has now been booked in October.
Revenue was also impacted by the expected timing of West campus hurt deliveries from our completed facility move.
By contrast, our maritime business grew in the mid single digits from a ramp on key platforms, including the constellation class frigate and classified programs.
Operating income was up 4% and margins expanded 110 basis points to 16, 6% from operational excellence integration benefits and pension.
Funded book to Bill was 1.04 in the quarter and 1.05 year to date with strength across the segment.
In space and airborne systems revenue increased 3% driven by double digit growth in space, primarily from our ramping missile defense and other responsive programs.
The space growth was more than offset from.
From the production transition I'm, sorry at the space program more than offset headwinds from the production transition of the F. 35 Tech refresh three program within mission avionics as well as program timing and electronic warfare, and Intel and cyber.
We expect an overall ramp in the quarter and the fourth quarter for this segment.
Operating income was up 5% and margins expanded 30 basis points to 18, 8% as <unk> III performance increased pension income and integration benefits more than offset higher R&D investments and mix impacts from growth programs such as in space.
And clinical to Bill was about one for the quarter and 1.05 year to date, driven by responsive and other space Awards.
Next communications systems organic revenue was down 5% due primarily to product delivery delays within tactical communications that stemmed from the global electronic component shortages, creating an approximately eight point headwind year over year and versus expectations.
As well as lower volume for legacy unmanned platforms and broadband due to the transition from permissive to consisted operating environments.
In addition, the integrated vision and global Communications solutions businesses were impacted by delivery timing and contract roll offs on international programs respectively.
Conversely, our public safety business was up double digits versus the prior year and sequentially. Our strong radio sales following the state of Florida Law enforcement system Award in the prior quarter.
Operating income decreased 1% and margins expanded 130 basis points to 26, 3% from operational excellence, including program performance within broadband favorable mix on public safety radios and integration benefits that outweigh supply chain impacts and higher R&D investments.
And funded book to Bill was above one one for both the quarter and year to date from strong product bookings within tactical communications.
Integrated vision for modernization alongside key state level awards within public safety.
Finally in aviation systems organic revenue increased 1%.
By our commercial aerospace business that was up over 40% from recovering training and air transport OEM product sales.
This growth was weighed down by flattish sales in mission networks as well as lower fusing an ordinate systems volume due to contract roll offs, along with delayed awards within defense Aviation.
Operating income decreased 13%, primarily due to divestitures, while margins expanded 140 basis points to 14, 4% of expense management, the commercial aerospace recovery and integration benefits more than offset divestiture related headwinds.
And funded book to Bill was one one for the quarter and about <unk> nine year to date.
Now shifting to our updated 2021 outlook.
Organic revenue is now anticipated to be up about 2% with a difference versus our prior guard largely attributable to supply chain delays.
At a segment level, we've maintained our sales guides, but foresee us.
Where are we now anticipate revenue to be down two five to four 5% versus our prior range of up two 5% to four 5%.
This is largely due to the global supply chain disruptions, mainly within tactical communications that will now be down about 10% versus our prior view of up in the low to mid single digits.
For the remaining segments, we expect <unk> to be in the upper half of the range based on traction with international ISR aircrafts, while Ses will likely be around the midpoint and driven by growth within space and Intel and cyber.
And at <unk>, we expect the segment to be at the lower end of the range due to award timing slipping to the fourth quarter within our classifieds business.
By end market, our U S government and commercial businesses are now expected to be flattish to up in the low single digits, while our international businesses are expected to be up mid single digits plus.
This implies fourth quarter sales growth will be in the 1% to 2% range for the company, which includes sea us down in the mid teens and our other segments up in the mid to high single digits on average.
Turning to margins, we've raised our outlook to $18 seven 5% from 18, 5%.
Due to performance to date, <unk> progress and favorable mix from award timing.
Margins will step back in the fourth quarter due to increased supply chain delays along with mix effects are new earlier stage programs, but still strong progress for the full year.
From a segment perspective, we've improved the outlook for each with see us above the prior midpoint of its range and IMS SaaS and <unk> <unk> above the top end of the prior ranges.
On EPS, we're raising the lower end of the prior guide by five to $12 85 to $13 per share reflecting 11.
<unk> growth from 2020 at the midpoint.
Delivering on our double digit aspiration in spite of dilution from divestitures and supply chain headwinds, which otherwise would have put us at or above the top end.
As shown on slide 11, the midpoint is now at $12 93 at 55 from improvement in operations and other items, including the release of contingencies offset additional divested earnings about <unk>, <unk> and 49 cents from supply chain delays.
As mentioned previously we continue to expect about 15.
Of net dilution from divestitures.
Moving to free cash flow our guide of 2829 remains intact. However, due to prior divestiture headwinds and now supply chain delays of over $150 million in the aggregate will likely be toward the lower end on working capital. We expect we expect to end the year in the low <unk> in terms of days, reflecting a three to five days.
Sequential improvement in the fourth quarter and Capex is now expected to be around $350 million about $15 million lower versus the prior expectation primarily from completed divestitures.
Lastly, our guidance now reflects approximately $3 6 billion and share repurchases an increase of $200 million from our prior guide to account for net proceeds from recently closed divestitures.
None of these puts and takes were and are positioned to deliver free cash flow per share into double digits in 2021.
Okay, Let me make a few comments on 2022.
The <unk> business fundamentals are sound and we continue to succeed in our strategy of moving up the value chain to capture more prime positions on core and adjacent applications. Examples include our leadership positions in space missile tracking ISR aircraft <unk> dot.
And international soldier modernization undersea sensing and cyber resiliency.
These and others will lead to solid growth for the foreseeable future.
As we look specifically at 2022, we're expecting supply chain impacts to persist into the first half of next year with recovery starting in the back half.
As visibility improves over the coming months, we will provide a more comprehensive updates on these expectations in January.
For now we are expecting some of the shortfall will be recovered by the end of next year and we'll monitor other watch items, including the timing of awards vaccine mandates and tax rules having.
Having said that we remain focused on delivering sustainable revenue growth steady to rising margins and leading cash flow conversion on a declining share count.
To sum it all up we manage the pandemic related headwinds for our seventh straight quarter and delivered strong bottom line performance and remain on track to meet our commitments for the year and beyond in a dynamic environment with that Rob Let's open up the line for questions.
Thank you. Thank you we will now be conducting a question and answer session.
In the interest of time, we ask that you. Please limit yourself to one single part question.
If you'd like to ask a question. Please press star one on your telephone keypad, a confirmation tone will indicate your line is in the question queue.
You May press star two if you'd like to move to your questions in the queue.
For participants that are using speaker equipment, it may be necessary to pick up your handset before pressing the star keys.
One moment, please pull for questions.
Thank you. Our first question is from Sheila <unk> with Jefferies. Please proceed with your question.
Morning, David.
And Jay you beta desk, right, there, where I have to ask in terms of.
We thank God, we saw from sorry from birth to pipe on pipe on headwinds. They noted how are you guys thinking about 2020 to your revenue growth.
On the multi year revenue outlook.
You've previously talked about I'll touch on from our peers are calling for flat to low single digit growth.
Hey, good morning, Sheila It's Chris I think let me make a couple of comments and then ill lateral it over to Jay and I think you said it right. This is clearly the key question for the week. So I want to go back probably three years, when we were talking about the strategic rationale for the merger.
And there were two items of note that I want to go back and reinforce and one was the complementary nature of the two businesses and after the merger, how we're well positioned and all five domains. So when you look at the threat environment, which changes on a regular basis.
If you look about and read a lot about China, China, China, I mean, our positioning in that space at Maritime I think puts us in a good position.
To support the Warfighter, our cyber capabilities really are applicable not only in China, but all conflicts.
What we've done in the air domains, while there is applicability in China. It also allows for situational awareness globally and I think that's critical as we look beyond just the China threat.
The land domain as still a key part of our National security strategy, especially with the focus on resilient comms.
I like the fact that we are well positioned in all of these domains and I think youll see that reflected in our results and what we're going to tell you a little bit about 2022. The other one was the revenue synergies and again like most of the goals that we settled this merger we're ahead of schedule.
As I said, just a few minutes ago $900 million of orders earlier than we thought and I think there is a lot more to come so the framework that we laid out three years ago and I've talked about each year remains the same we think we're well positioned with.
The Dod in all domains, we have a great revenue synergy opportunity in process and our international growth has been the bright spot over the last couple of years. So as you would expect we're going through our strategic planning process as of today I see all four segments growing in 2022.
The overall company coming in in the low to mid single digits on an organic growth basis, We'll obviously give you more details in January.
Let me, let me hand, it over to Jay to maybe give you more detail by by sector and also emphasize the $800 million of headwinds.
As a result of divestitures when Youre doing your comparisons so Jay sure. Thanks, Chris just to follow up on that and maybe just a little bit more color on next year. When you think about low to mid single digit framework for next year. What I'll do is I'll, maybe just take you around the horn of our segments and I think Chris said, it well as far as broad growth across the portfolio I'll start.
With IMS and this year, we had a guide of $4 six we said there'll be probably towards the upper end this year.
And we see a lot of the same going into 'twenty two that we've seen here in 2021. The ISR business has been a strong grower for us on the back of international aircrafts <unk>, we will see.
Fewer aircraft procurement inputs next year, but that will be more than offset by the ramp in actual throughput related to mission as Asian, an aircraft you may recall that Chris in the second quarter call I talked about 19 aircraft in various stages of <unk>. So that will be a source of growth for that business and that this business can certainly deliver.
Low to mid single digit growth next year, if not more on the yield business within IMS Chris.
Chris mentioned, a few awards electro optical.
Sensors for the Navy, we're bullish on that that would be a source of growth for us next year, and again very capable of being able to deliver low to mid single digit next year and the final business within IMS as Maritime Maritime has had a strong record over the past really since the merger and we see more of the same there as well we talk about the constellation class.
Frigate we've won some awards in class on the classified undersea sensors, and we continue to expand our capabilities and applications and maritime and we expect that to deliver frankly Mitch.
To high single digit growth next year and so when you look at that segment in total it is very well positioned to deal with low to mid single digit if not more when you look at our space and airborne systems.
Very similar we continue to expect space to grow as it did this year and so you would see something in the maybe in the range of mid to high single digits growth. There same thing with Intel and cyber we continue to see growth in demand in the classified areas of both of those businesses that will be tempered a bit by our airborne businesses. We've seen this year that the trans.
<unk>, particularly mission avionics on the F 35 from from development to production, we will see that again next year.
Well as some transit program transition transitions.
Electronic warfare, particularly in a F 16.
Program, but nonetheless, even with a flattish to slightly down business in the airborne will seat space and Intel carry that segment forward very easily being able to deliver something like in the low to mid single digits.
Ill go next but maybe asking the remaining businesses that we have there.
The commercial Aero business has moved pretty much in line with the commercial aerospace industry. We continue to expect our traffic growth next year, and we expect that business to grow in line with that.
So you can expect to see some double digit growth in that business mission networks, Chris mentioned, the Australia award that will be a source of growth for us next year.
Again really in the low to mid single digit range, there and in our defense aviation is seeing a little bit of delays related to award timing, but even with a flat our projections for next year that business can deliver this segment can deliver low to mid single digit growth and finally CFS.
We've talked about <unk> the supply chain.
Pressures there this year that business will be down about 10%.
And we see if you think about <unk> com.
We expect growth even next year off the lower base that we have this year this year.
Going to be impacted in the third and the fourth quarter, we'll expect to be impacted again in the first and the second quarter with recovery in the back half with that recovery in the back half. We believe the business can grow in that low to mid single digit.
Baseline from this year and it's really similar with the BCS business, our broadband business, our integrated vision solutions business and <unk>, which will also just benefit from industry recovery and so as Chris mentioned again, I'll close with that we really see broad based growth in a low to mid single digit kind of initial framework is the right way to look at it.
Really across the portfolio.
Last thing, Chris mentioned about $800 million its right on a reported basis, we'll see about $800 million of revenue headwind due to the divestitures on next year, but again, starting with the organic really low to mid single digit is probably the best place for us to be until we solidify our our expectations and we'll do that in January for you. So hopefully that.
I went around the horn and gave you some color within each of the segments.
It really gives you the source of why we feel confident and are gaining confidence in our ability to deliver that type of growth.
Your next question comes from the line of Robert Stallard with vertical research. Please proceed with your question.
Thanks, so much good morning, good morning.
Good morning.
Thanks for that detail Jay that was very helpful.
The question I have though is around supply chain, obviously facing a few issues at the moment I was wondering what your plans are to mitigate these pressures over the next say six to 12 months and what the implications could be for say your revenues and margins.
Sure.
Alright, Thanks, Rob Let me, let me kick it off and then again, Jay will who will give you some more details on the numbers.
I think it really hits as we were preparing for this call in the last few days when Jay said that we've been through seven quarters of the pandemic.
Probably than a blur for all of us but.
We really started back in February of 2020, focusing.
On the supply chain challenge just eight months. After we closed the merger we set up our Covid War room and the real focus there was on the first tier suppliers.
That we had in the far east obviously since then.
And a lot about the second third and fourth tier suppliers and some of the risks in the chain and the resiliency.
I just wanted to acknowledge that this is something we've looked at for seven quarters of course, we shifted as I would say, we always focus on the supply chain, we added and remote working at connections vaccines. All the challenges that we've gone through in the pandemic. So it's been a little bit of a roller coaster, but the key has been getting our systems consolidated from the merger.
Getting data getting visibility and all of that has improved over the last.
Several several quarters, so I think thats, what gives us confidence to kind of make some of the projections and talk in a little more detail.
<unk>.
Back in early August we were probably feeling much better about the year in August was the high point for the Delta.
Variance spiking around the globe and that really kind of through the delays that we're seeing for the rest of the rest of the year.
So we're assuming in our baseline is kind of a 12 month delay.
Until things get back to normal with the supply chain I know theres different tie.
Frames out there, but that's kind of the baseline that.
We're focused on I will mention as a defense contractor.
We have the benefit of what's known as D pass ratings, which are the defense priorities and allocation system and that's something we've been focused on the last several quarters and even on the other end of it the supply chain a lot of our suppliers are aware of this and are still putting in systems and implementing it but they've been very supportive.
Prioritizing, our our defense products and I think that's given us a little more confidence and.
And visibility so.
But that is kind of an overview I'll I'll ask Jay to maybe give you some of the details on the numbers sure just maybe a couple of other items that we're pretty focused on Rob obviously, I think we're probably no different than others in terms of making longer term commitments are 12, 18 24 months in certain cases, we've redeployed resources to make sure we're managing this.
At lower tiers, and the electronic component value chain, and we spoke secured alternative sources as well as alternative parks and qualified them we were redesigning parts in.
In products and electronic components to really ensure that we can have adequate source supply going into next year, and we're making crop progress across each of these areas, which again is why we're gaining confidence that we'll be able to.
Growing this business next year as.
As far as <unk>.
Our supply chain specifically.
Supply chain escalation is certainly going to be a cost for us when we think about 2022.
Right now the way I'm thinking about is about 25 basis points of margin pressure associated with escalation costs.
Say that that's something that we're considering that's something that we've got baked in and that's something that will be.
Part of our plans to deliver on our <unk> III productivity, our goal will be as it always has to offset.
Headwinds from from mix as well as supply chain and deliver at least flat margins, if not higher and next year will be no different the pressure is going to be a little bit higher but nonetheless, we believe that we're going to have a solid path to be able to offset it.
Thank you. Our next question is coming from the line of Seth <unk> with Jpmorgan. Please proceed with your question.
Hey, thanks, very much and good morning, everyone.
Yes.
Slipping to two quick ones here.
Either for Chris or Jay if you could just address maybe cash flow next year $3 billion target and.
Thoughts on cash flow growth per share thereafter.
And then maybe Jay the guidance for the.
The integration costs.
Stepping opposite seems to imply a fairly high level in the fourth quarter relative to what we've seen in the past so maybe what's driving that at this point.
Where those go from here on out thanks.
Okay, maybe taken in reverse order Seth on the integration cost, we actually saw a step up here in the third quarter, we'll see a little bit higher again here in the fourth quarter, it's really mainly due to two things one is as we work through our facilities facility consolidations, we've seen an uptick in costs. We expect to see continued spending in that area probably to the mid <unk>.
Your next year as we complete factory consolidations. The other element is a really it harmonization, we've talked a lot about harmonizing our ERP systems.
There were just various systems beyond just our erp's, we've been working through and incurring the cost related to integration that will carryover I would expect into next year as well.
For a period of time again, probably through the first six months.
On your question on <unk> 3 billion of free cash flow for us the Formula really remains the same we need to deliver annually, including next year of about three to four days reduction in working capital.
And that will offset the growth that otherwise would take place in working capital from just increased use of assets and so we're able to do that we should be able to at least hold the working capital flat if not become a source of income or source of cash flow and then we can have that added two drug drop through of net income and so really remains the same as far.
Our working capital when you go back and look we've got we ended the quarter at 56 days, we've got seven sectors, who are above that average which comprises about two thirds of our working capital a lot of that is sitting in inventory and we've talked about this in the past and we're really again, it's just blocking and tackling.
Focusing on fundamentals as far as inventory reduction and these include things like just ensure that we execute against our program milestones, we're synchronizing, our forecasting and planning with our supply chain.
Well continue to work and Chris mentioned, it on cycle time reductions and.
Automation in the factory as well as just negotiating better terms of our contracts getting more advances, where you're looking maybe compared to some of our other peers their percentage of advances a little bit higher than ours, and so that creates an opportunity for us to ensure we can match that we can match.
Cash receipts with cash disbursements on the inventory side. So we're opportunity rich year, two thirds of our working capital is prime for us to continue to work down we feel good about that and look from a from a free cash flow per share, we're very confident in double digit.
Growth there for the foreseeable future.
Yeah, I'll just chime in real quick thought on the integration costs with the pandemic, we stayed agile and have made some changes.
The strategies and I'll, just say in the world, we had laid out and architecture.
And with the <unk>.
Need for remote work in hybrid work, we re prioritize and made some changes which caused us to accelerate some of our expenditures in Q3 Q4 same thing apply to supply chain, we had a whole strategy and one of those was to hit the end of 'twenty to start investing in our risk dashboard to give us more visibility.
City into our supply chain and identify risks using publicly available data, whether it's stuff such as wildfires or financial stability of the supply chain. We obviously accelerated that into this year and are rolling that out in Q3 and Q4 so.
Some of those things it seemed to make business sense to increase the cost and accelerate the expenditures based on what was going on.
Our next.
Comes from the line of Richard Safran with Seaport Research. Please proceed with your question.
Chris Shea Rajeev good morning.
Alright I thought.
I wanted to ask you about two of your two year programs, if I might first.
That recent decision on the next Gen Jammer I'm curious as to what happens now if you think the program gets we competed do you think changes are made to the program and the second program I'd like to ask you about is the F 35.
We had some long term guidance come from Lockheed.
Just this week.
I was just kind of curious.
If you could discuss a bit.
How do you think that might impact your where that was relative to expectations that sort of thing.
Yeah sure Rich good morning, Let me go with your next Gen. Jammer question I mean, just to refresh everyone's memory. We won that program back in December of 2020, almost a year ago.
The Navy has affirmed three times their choice to select L. III Harris, including most recently using an independent reviewer.
You know theres been a lot of media a lot a lot of discussion on this we were very proud of the fact that we were rated technically outstanding.
<unk>.
That's.
Aligns with our strategy and the R&D investments that we've made in moving up the food chain. So I think we just let the process proceeds thats somewhere between.
Navy and department of Justice.
And the other company as to what Theyre going to do next but our team is ready.
There was a stop work order put in place, which is pretty standard and.
Whenever that's decided to be lifted we're ready to go or whatever other legal actions occur, but again, we're very confident in our solution.
As is the Navy.
As they continue to reaffirm their selection so we'll standby and look forward to supporting the war fighter when we can when we can get started.
F 35, I think we've talked about this on every call.
Let me give you a quick update where obviously the key player on the F. 35, we have a strong position on the platform about $3 million per ship set.
Our overall F 35 revenue is decreasing in 'twenty, one decreasing in 'twenty two and then starts to grow again in 'twenty three that's really a result of the tier three transition.
Development to production and where that may differ a little bit from from what you saw from the prime is the.
The fact that we'll be retrofitting several hundred aircrafts. So that's what allows us to grow in 'twenty three and beyond not only are we going forward with the.
The new aircraft, we're also going to retrofit and again the main main focus for us is.
The <unk> the aircraft.
Memory system, we just completed safety of flight certifications, so that was quite exciting and a lot of.
Positive emails from from Lockheed and the customers. So good progress on our Ams the panoramic cockpit display is entering qualification testing and then of course the integrated core processor is the most complex and again, we're making progress there everybody understands the critical path and as we've always said.
The hard parts ahead of US here is the integration testing is going on so I think as I've said the last several quarters.
The teamwork is much better than I've ever seen everybody is aligned everybody understands the goals the challenges on the critical path and.
We're honored to be on that platform and look forward to delivering on our commitments.
Our next question comes from the line of Conor.
<unk> <unk> with Cowen <unk> Company. Please proceed with your question.
Yes, thanks, good morning, guys.
Good morning.
I was wondering if you could give us some color on the tactical RF backlog, where it stands now kind of the longer term outlook.
And that business I know.
You gave a view on 'twenty, two but just longer term what do you happen to pipeline both.
Domestically and foreign and.
Any color you can provide there.
Yeah, Let me, let me take a first shot at this one.
Well first of all we have.
Our record backlog of $1 2 billion and that's the best we had.
In the past 10 years, so relative to that there is no tissue relative relative to demand and book to bill in the quarter was one seven.
Year to date.
Almost at one two so.
There is absolutely zero issue with demand the demand I highlighted some of the significant wins that we had recently with the army.
You are well aware of those large highly iqs and how there is a lot of runway to go relative to those so we're feeling really good.
On the demand and the outlook, we're going to see growth in 'twenty two.
Internationally I think there continues to be lots of interest.
For this year Asia Pacific region in Central and Latin America are growing.
Europe and the mid East is a little flat, but as we look further out in 'twenty, three and beyond I see that.
<unk> switching so.
I think Jay did a good job, but just to highlight.
Highlighting it.
We look like we.
About 400, if I go back to 2020, we're doing about $450 million roughly per quarter in revenue.
And 21, the first two quarters due to our growth we were closer to $4 75.
Third quarter, we came in at 400 in the fourth quarter.
Probably going to be in that 300 to 400 range depending on supply chain.
See that trend continuing for the first two quarters.
Next year, the $3 to 400 range and then maybe ramping up to 500 plus for.
For the second half of 'twenty, two and the first two quarters of 'twenty three.
We will make up for the shortfall so.
Trying to give you some some color there based on what we see in backlog and the opportunities that we have around the around the globe.
So I don't know Jay if theres more <unk>, just a little bit Chris.
Chris mentioned I think in his remarks, as well as far as a middle east customer.
What we have here these are $1 billion plus type opportunities with this middle east customer as well as with the U K and Australia.
And what we've been able to do in each case is win front end type of contracts and so right now with this particular country. We won about 5000 radios that could be potential up to 50000 radios over a number of years and so being on the front end will position us well for that longer term opportunity the same thing.
Goes with the U K, we just won an opportunity to do tech refresh on current radios now positions us well for what could be and also another opportunity of 50000 radios $1 billion plus program and similarly, Australia Youre looking at potentially 35000 radios and a ballpark. We also won an opportunity there to do some crypto modernization on.
Installed.
Stall base. So winning these early awards puts us and positions us very well for these long term large programs.
Each of these countries, we have got a dod opportunities coming up either this quarter next quarter.
And with the Marine Corps, we feel confident in our positioning there and our product.
<unk> for that and so we're confident and bullish about the opportunities for the tactical radio going forward radio business going forward and our positioning as well.
Our next question is from the line of Cristina <unk> with Morgan Stanley. Please proceed with your question.
Hey, good morning, guys.
Good morning.
Chris segment margins were 19, 5% in the quarter and then round game, you're at that 20% margin you've been targeting.
Yeah.
Full year 2021 guide implies a step down in <unk>. So can you provide more details on the puts and takes and how we should think about margins going into 2022.
I know, it's too early for 2022 guide, but is 20% of floor.
[laughter] well, it's good to see on a Friday nobody has lost their sense of humor. So.
No.
Yes.
Earlier everything related to the merger is going quicker and better than maybe anyone had expected or planned it and we've talked about a 25 basis point increase.
Year over year. So you know the way I look at it is we are a year or two ahead.
Of that target and.
The goal for 'twenty, two and beyond will be the.
At a minimum maintain these margins, but look for ways to increase it I mean, some of the things that contributed and I'll, let Jay give you more details on Q3.
We have been focusing on our discretionary spend the SG&A I think this was one of our lower quarters.
Since the merger as a percent of revenue we.
We continue to invest in the <unk>.
About 4% of revenue, which I think has been positioned us for this growth that we talk about.
Going going forward and these.
Mix from these new awards talked about some of these awards being delayed I think you know most of these new awards initially dilutive to margins as you win.
Especially if they're cost plus or even if they are fixed price just just being conservative so put those slipping into Q4.
That accounts for some of the the shift between the two quarters, but.
We look at it kind of on an annual.
Basis and year over year progress is looking good and we're not.
We're not going to give up and we're going to continue with our key three initiatives.
The <unk> III focus is really whats, making the difference.
I tried to highlight some of the things we're doing relative to labor productivity I mean, we're using collaborative robots.
<unk> managed reality in some some interesting technology, that's just going to kind of get our products to market quicker, we've talked about the supply chain and some of the things we're doing there value engineering.
More and more.
Focused on making our products even more manufacturer of will we talk about designing for manufacturer design for supply chain all those initiatives.
Our ongoing and getting better each and every time so at all Jeff just for Charlie do you want to give you a topic just on Q4 as you mentioned, we will see some just newer awards, which have lower margins on it and then the tactical communication business steps down in Q4, so I'll put pressure on the margins from a business mix perspective.
And so that's that's really the driver for Q4.
Our next question comes from the line of Doug Harned with Bernstein. Please proceed with your question.
Good morning, Thank you.
Good morning, good morning.
You've talked a lot about supply chain today and a lot of companies have a lot of industrial companies, whether they are in defense or not has talked about it.
But I would like to.
What I wanted to understand is.
The supply chain issues. So clearly held you back some in communications systems. This year and you talked about the first half of next year, but unlike some commercial businesses I wouldn't expect any of the deliveries in revenues that you were expecting to have gone away.
And when you think forward.
Should we expect a snapback eventually here, where you've just you've built up <unk> got.
Building up of sort of a backlog of demand and we should actually see.
But I would think of as kind of a surge when we get into 2023, when you're finally delivering on things that have been delayed.
Yeah, No Doug that's a great great question I think you hit it I tried to maybe to subtly suggest that this is a timing.
Impact and.
I think youre absolutely right. What we're seeing is these these deliveries.
Basically being deferred are sliding to the sliding to the right you know about 25% of our business, we forecast to demand the rest.
<unk> forecast of programs, which is.
Easy to do and less risky so on the quick turn or the more product businesses Youre forecasting demand J mentioned, we're now making commitments 12 months to 18 months out versus.
Couple of months in advance like we used to in the past. So when you look at the supply chain challenges to the extent that it's a product or something that we recognize revenue upon delivery youre, absolutely right youll see that as a bow wave the majority of our company and I think the whole industry uses.
Sent complete or overtime accounting so in that case, you're maybe not going to see the revenue hit, but what youre going to see as a potential delay.
And ultimately, making a delivery, which maybe causes companies to Mr milestones, which could be pressure.
On billing and cash to the extent, it's tied to a milestone event. So I think youre absolutely right. We view this as a delay.
And our deferral I mentioned.
The ability to use the D path ratings to get our parts and as I mentioned we.
We haven't missed any commitments relative to.
Our contracts and Thats something thats very important to all of us and we'll continue to find ways to deliver to those commitments.
The revenue shortfall was our our focus on overdrive ing and challenging the team to get year over year growth, but as far as the contracts, we're tracking and we're in constant communication with all of our customers and they understand where we are so I don't know if that helps you Doug but thats.
Long way of saying I agree with you.
Yes, it does.
Got it exactly right I mean, 2022, I mentioned it would grow we'd love it to snap back in 2022, but that's unlikely, but we would expect that recovery to be in 'twenty three.
Thank you.
Our final question will come from the line of Peter Amit with Baird. Please proceed with your question.
Yeah. Thanks, Good morning Christian.
Chris Thanks for all the details on the kind of the progress Youre, making on these three but.
Kind of just tying back to your comments that you've been operating in seven quarters. The pandemic does feel like uncertainty but.
Did you set up these three program before.
The pandemic did you get any kind of opportunities that.
Evolved during the last seven quarters, where you think there is significantly more upside that you can do from the kind of the $350 million target that you put out there. Thanks.
Yeah, Peter the $3 50 target, we threw out was the cost.
Synergies from the merger so it will be kind of putting a bow on that here in the next few quarters and we are.
We've over driven.
The synergies that we laid out.
Any anything.
Post.
Post the merger synergies, we will discount towards towards the <unk> three program I think we've learned a lot as I've said relative to the pandemic, how we do business and I didn't really get.
To focus on international as an example, and it is still amazing to me that we're effectively double digit on international growth.
And.
It's probably the worst time ever to do business internationally during the pandemic, but I think we learned a lot as to how to better use our time I've been on all sorts of zoom calls a strange hours.
The data to connect with customers and if you have those prior relationships is still going to be.
Beneficial to get on an airplane and see people face to face, but I think we've been able to find a way to do business more more effectively.
Have about 10% of the workforce working remotely permanently going to have about 20% doing hybrid so those.
Those are all new and different ways to do business in.
We're excited about the future.
Having having less people in the facilities and we've been able to go ahead and.
It makes some of the changes are highlighted in the factory and go ahead with the some of the robots that were using some of these light guide tools.
Just easier to get those things done Jay mentioned the facility consolidation.
We probably lost a little bit of time as you would imagine due to the pandemic no one being vaccinated to difficulty getting labor, but now we're picking that pace back up again. So yes, we see this as really being a differentiator something thats in our DNA and something that everybody is engaged with so thank you for the question Peter.
I guess, what that will just kind of wrap it up for the day. So obviously like to recognize a 47000 employees who are focused on delivering value for our stakeholders and they continue to overcome the unprecedented challenges presented by the pandemic that resilience combined with the many opportunities.
Ahead keep knee JM old leadership team excited about the future of <unk> III Harris.
Thank you for joining the call and look forward to talking to you again in January have a great week. Thanks.
This concludes today's teleconference. You may disconnect. Your lines at this time. Thank you for your participation and have a wonderful day.