(LLL) L-3 Communications Holdings Beats on Orders – Raises View

L-3 Communications Holdings Inc. (LLL) reported first quarter 2012 earnings per share of $2.01, comfortably surpassed the Zacks Consensus Estimate of $1.88 and last year’s $1.85. The bottom line was driven by strong sales and orders.

Operating Statistics

Quarterly net sales fell marginally by 0.4% year over year to $3.59 billion. Sales growth in the Command, Control, Communications, Intelligence, Surveillance and Reconnaissance (“C3ISR”) and Aircraft Modernization and Maintenance (“AM&M”) segments were offset by lower sales from the Government Services segment. The sales figure was, however, above our expectation by $129 million.

In the reported quarter, funded orders increased to $4.1 billion compared with $3.4 billion in the prior-year period, attributable to several new international business wins and several Department of Defense (“DoD”) and international contracts. The company’s recently acquired subsidiary, Kollmorgen Electro-Optical (“KEO”), also received a key contract to supply photonic masts for U.S. Navy submarines. Funded backlog was $11.4 billion versus $10.9 billion in the year-ago comparable period.

Operating income for the reported quarter decreased by 8.5% year over year to $357 million. Operating margin contracted 80 basis points to 10%.

Segment Performance

Effective from January 1, 2012, the company has re-aligned Telemetrix Research Limited’s (“TRL”) management and organizational structure and consequently reclassified the relationship between its C3ISR and Electronic Systems segments.

C3ISR: The segment recorded net sales of $886.1 million, up 15.6% year over year, driven by increased demand for manned and unmanned platforms, airborne Intelligence, Surveillance and Reconnaissance (“ISR”) logistics support and fleet management services, and increased volume on airborne ISR systems for foreign military customers. Segment operating income shot up 1.2% year over year to $93.5 million.

Government Services:The Government Services unit generated net sales of $775.1 million, down 18.1% year over year.

The results reflect less demand for linguist, law enforcement and intelligence support services for the U.S. and coalition forces due to the withdrawal of U.S. military forces from Iraq, contract losses in 2011, and lower volumes due to completion of contracts for safety and security systems. Also, conversion of single-award contracts to several multiple-award contracts increased the number of competitors. This reduced the company’s work share that ultimately led to a decline in sales. However, these headwinds were to some extent offset by a U.S. Army training contract competitively won in 2011.  Segment operating income was down 25.6% to $52.8 million.

AM&M: Net sales at the AM&M segment were up 3.6% year over year to $614 million. The upside was driven by higher sales for Contractor Logistics Support (“CLS”) services, contract for rotary wing aircraft, increased activity for U.S. Army C-12 aircraft maintenance, and a head-of-state aircraft interior modification contract.

However, these increases were partially offset by lower Joint Cargo Aircraft (“JCA”) volume and lower aircraft modernization sales for special mission aircrafts due to a contract nearing completion. The segment generated operating income of $63.1 million, down 4.4% year over year.

Electronic Systems: Electronic Systems generated net sales of $1.31 billion in the reported quarter, up 1.3% year over year.

The upside reflects an increase in sales of Sensor Systems, microwave products including more deliveries of power devices for satellite communication systems, and increasing sales at marine and power systems.

However, these increases were partially offset by lower demand for satellite communication systems, lower demand from the U.S. Army for tactical quiet generators, lower sales for warrior systems, lower sales at simulation & training due to contracts nearing completion for F-16 programs.

The segment generated operating income of $153.5 million, down 4.2% year over year.

Financial Position

The company ended the quarter with cash and cash equivalents of $493 million versus $548 million at the end of the first quarter of 2011. Long-term debt was $4.1 billion, flat year-over-year.

L-3 Communications generated net cash of $137 million from operating activities, down $83 million from $220 million of cash generated in the year-ago quarter. Capital expenditure at the end of quarter was $27 million versus $35 million at the end of first quarter of 2011.

Following the trend of deploying capital and free cash flow, the company repurchased $138 million of common stock and continued to pay dividends. During the quarter, the company also increased its dividend by 11% to 50 cents per share.


L-3 Communications increased its revenue guidance range for full-year 2012 to $14.6 billion–$14.8 billion versus its prior expectation of $14.4 billion–$14.6 billion. The company expects the realignment of the TRL business to increase the sales of the Electronic Systems segment by $100 million and reduce sales by the same amount for the C3ISR segment, therefore without any meaningful contribution to revenues.

The company continues to expect operating margin of 10.1% for fiscal 2012. It increased its EPS guidance for full-year 2012 to $8.45 – $8.60, from the prior range of $8.35 – $8.55.

The company’s guidance takes into account the 2012 results of the Engility businesses. However, it excludes spin-off transaction expenses that are expected to be approximately $15 million. The company expects the spin-off to be completed by mid-2012. The guidance also excludes the effect of the acquisition of Thales Training & Simulation Ltd business that is expected to be completed by mid-2012.

Moreover, the U.S. Federal research and experimentation credit that expired on December 31, 2011 is not included in the effective tax rate for 2012. This is expected to add 10 cents to 2012 earnings.

The company believes that the acquisition of the KEO business will contribute $150 million to sales and 8 cents to the earnings of the company in 2012.

Peer Update

Today its peer Lockheed Martin Corporation (LMT) also posted its first quarter results. The company reported earnings of $2.02 per share, beating the Zacks Consensus Estimate of $1.70. This was also higher than the year-ago quarterly earnings of $1.57.


The company is strengthening itself by focusing on improvement of operational efficiencies, investing in research and development (R&D) to provide affordable solutions, acquiring businesses like KEO that will add new capabilities and expand product lines and divesting businesses. Moreover, its broad diversification of programs would provide growth momentum. Going forward, we expect future growth to come from the company’s strong presence in the current focus areas of C3ISR equipment; precision-guided weapons; unmanned aerial vehicles (“UAVs”); and other electro-mechanical robotic capabilities.

However, we are concerned due to 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 #3 Rank (Hold) that corresponds with our 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 on a number of aerospace and defense platforms. In addition, the company is a prime system contractor for aircraft modernization and maintenance; ISR collection platforms; simulation and training; and government systems support services.

L-3 COMM HLDGS (LLL): Free Stock Analysis Report

LOCKHEED MARTIN (LMT): Free Stock Analysis Report

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