L-3 Communications Holdings Inc. (LLL) reported third quarter 2011 diluted earnings per share of $2.24, comfortably surpassing the Zacks Consensus Estimate of $2.15 and the year-ago quarterly earnings of $2.07 per share.
Operating Statistics
Quarterly net sales fell by 1.3% year over year to $3.8 billion, and also missed the Zacks Consensus Estimate by $59 million.
Sales performance reflects areas of competitive strength as well as a challenging defense budget environment. Sales growth from the Command, Control, Communications, Intelligence, Surveillance and Reconnaissance (C3ISR) and Electronic Systems segments was offset by lower sales from the Government Services and Aircraft Modernization and Maintenance (AM&M) business wings.
In the reported quarter, funded orders increased to $4.5 billion compared with $3.5 billion in the prior-year period. Funded backlog was $11.5 billion versus $10.8 billion in the previous-year period.
Operating income for the reported quarter decreased by 7.1% year over year to $406 million. Operating margin contracted 70 basis points to 10.7%. Lower operating margins in the Government Services and Electronic Systems segments were partially countered by higher operating margins for the C3ISR and AM&M segments. Net income also decreased by $3 million year over year to $235 million.
Segment Performance
C3ISR: The segment recorded net sales of $892.2 million, up 13% year over year driven by increased volume and new business for networked communication systems for manned and unmanned platforms, airborne ISR logistics support and fleet management services to the U.S. Department of Defense (DoD), and international airborne ISR platforms. Segment operating income shot up 23% year over year to $103.5 million.
Government Services: The Government Services unit generated net sales of $904.1 million, down 9% year over year.
The results reflect loss related to an Afghanistan Ministry of Defense (MoD) support contract and a Federal Aviation Administration Information Technology (IT) support services contract, lower linguist services and training and logistics support services, lower pass-through subcontractor sales related to systems and software engineering services (SSES), loss on completed contracts, primarily the SBInet program and loss in IT support services for the U.S. Special Operations Command due to fewer task orders received because of more competitors on the current contract.
These decreases were, however, partially offset by higher sales from increased demand for intelligence and information technology support services for U.S. Government agencies. Segment operating income was down 20% to $74.3 million in the quarter under review.
AM&M: Net sales at the AM&M segment declined 12% year over year to $622.7 million due to the SOFSA contract loss, and lower Joint Cargo Aircraft (JCA) volume. However, declines from these quarters were partially offset by increased CLS services primarily for U.S. Army C-12 aircraft. Segment operating income increased 13% year over year to $61.5 million.
Electronic Systems: Electronic Systems generated net sales of $1.4 billion in the reported quarter, up 2% year over year. The top-line growth was driven by volume increases on existing contracts primarily for Electro-Optic/Infrared (EO/IR) products to the U.S. Army and new business for commercial shipbuilding products. These increases were partially offset by lower sales primarily for warrior systems, simulation & training devices and F-18 programs, and combat propulsion systems.
The segment generated operating income of $166.9 million, down 19% year over year.
Financial Position
In the reported quarter, L-3 Communications generated net cash of $465 million from operating activities, up $70 million from $395 million of cash generated in the year-ago quarter. The company ended the quarter with cash and cash equivalents of $538 million, while long-term debt stood at $4.1 billion.
Guidance
L-3 Communications lowered its revenue guidance range for full-year 2011 to $15.3–$15.4 billion versus its prior expectation of $15.5–$15.6 billion. It continues to expect operating margin of 10.7% for fiscal 2011. The company, however, increased its EPS guidance for full-year 2011 between $8.70 and $8.80, from the prior range of $8.65 to $8.75.
Looking forward, the company plans to focus on providing affordable solutions that address customer imperatives. It is also focused on deploying capital and free cash flow in a balanced and disciplined manner to enhance shareholder value.
At the Peer
Yesterday, one of its competitors, The Boeing Company (BA) reported third quarter results. In the reported quarter, the company posted quarterly earnings of $1.46 per share, beating the Zacks Consensus Estimate of $1.11 as well as the year-ago earnings of $1.12 per share. On the revenue front, quarterly revenues increased 4% year over year to $17.73 billion, primarily attributable to higher commercial airplane deliveries. Reported revenues, however, failed to beat the Zacks Consensus Estimate of $17.82 billion.
Our Take
L-3 Communications is one of the best-positioned pure defense players by virtue of its non-platform focus, its prominent position as sub-contractor/supplier to other defense primes, and its broad diversification of programs. The company has opportunities for growth and profit expansion from the impending spin-off of Government Services businesses with uncertain growth potential and the retaining of the more in demand Cyber, Intelligence and Security Solutions businesses.
However, negative offsets include the loss of key contracts, defense spending cuts and lack of near-term catalysts. Order growth and volume increases also remain dubious in this challenging environment. The company presently retains a short-term Zacks #4 Rank (Sell). We have a long-term Neutral recommendation on the stock.
L-3 Communications Holdings operates through its wholly owned subsidiary, L-3 Communications Corporation. L-3 Communications is a leading supplier of a broad range of products and services used in a number of aerospace and defense platforms.
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