General Dynamics Corp

NYSE:GD

Earnings Call Transcript 2019-Q3

[Operator]

Good morning and welcome to the General Dynamics Third Quarter 2019 Earnings Conference Call. [Operator Instructions] After today's presentation there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Howard Rubel, Vice President of Investor Relations. Please go ahead, sir.

[Howard Rubel, Investor Relations]

Thank you, Rocco, and good morning to everyone. Welcome to the General Dynamics Third Quarter 2019 Conference Call. Any forward-looking statements made today represent our estimates regarding the company's outlook. These estimates are subject to some risks and uncertainties. Additional information regarding these factors is contained in the company's 10-K and 10-Q filings.

With that, it's my pleasure to turn the call over to our Chairman and Chief Executive Officer Phebe Novakovic.

[Phebe Novakovic, Chairman and Chief Executive Officer]

Thanks, Howard. And good morning. As you can discern from our press release, we delivered attractive third quarter results with revenue of $9.76 billion operating earnings of $1.216 billion and net earnings from continuing operations of $913 million. We reported EPS of $3.14 per diluted share, $0.25 a share, better than the year ago quarter and $0.37 per share, better than the second quarter of this year. Compared to the year ago quarter, revenue was up $667 million or 7.3%. By the way, we have enjoyed top-line growth every quarter for the past 12 consecutive quarters on a year-over-year basis.

Earnings from continuing operations of $913 million were up $49 million or 5.7% on a 7.1% improvement in operating earnings, partially offset by a higher effective tax rate and lower pension income. Operating margins return to the 12.5% level. Sequentially, revenue was up $206 million or 2.2% and operating earnings were up $126 million or 11.6% on higher operating margins. In short, we had significant sequential margin improvement. With respect to consensus, our margin rate was 40 basis points higher than forecasted by the South-side. This was offset in part by below the line items, leaving our EPS $0.07 better than consensus, the difference was provided by stronger operating earnings. With respect to cash, we had net cash provided by operating activities of $1,091 million and free cash flow of $847 million. As you can see from the charts attached to the press release, we enjoyed a good quarter with a 1 to 1 book-to-bill.

Total backlog of $67.4 billion, decreased $258 million or about a third of 1%. I have more to say about order intake if I discuss the separate operating segments and Jason will give you some color about cash and backlog in his remarks. Let me turn very briefly, the year-to-date 2019 compared to the first 9 months of 2018. Revenue was up $2.8 billion or 10.7% against the first three quarters of 2018, driven by strong organic growth, plus the acquisition of CSRA at the beginning of the second quarter last year. To say it another way for clarity, CSRA attributed revenue was in every 2018 quarter, but the first. Operating earnings were up $89 million or 2.8% EPS was $0.31 better.

In short, we delivered good sequential improvement and a good first 9 months. As such, essentially, we are on track to our internal plan and external expectations. So let me give you some perspective on the segment reporting for the quarter and the year-to-date. First Aerospace. Aerospace had a very good quarter in most important respects. Revenue of $2.5 billion was 23% higher than the year ago quarter. Operating earnings of $393 million were $17 million or 4.5% higher on lower margins related to mix as fully expected. Let me give you a little color here with the quarter-over-quarter comparisons concerning -- concerning earnings and operating margin. You may recall that the Aerospace segment had a strong third quarter last year with 18.5% operating margin against 15.8% this quarter. This Delta is driven only in part by mix. The third quarter of 2018 contained a positive non-recurring settlement with the supplier. On a sequential basis, the story is even better revenue was up $359 million or 16.8% and earnings were up $62 million or 18.7% on a 30 basis point improvement in operating margin; excluding pre-owned sales from both periods, results in a 70 basis point sequential improvement in Aerospace margin. The past quarter saw the first G600 deliveries and in the quarter. Over 30% of our large-cabin deliveries were comprised of new product which is notably higher than the second quarter 2019. So despite the challenges of mix, we are making good progress. We are focused on aligning our costs with our operating cadence.

The G600 earned both its Type and Production Certification on June 28, 2019. We have commenced deliveries and expect to approach double digit total this year. This will help both revenue and earnings in the balance of the year and improved working capital turns. EASA validation for the G500 was received on October 11 and the 600 validation is targeted for December 12. With respect to orders, we had a book-to-bill of 0.7 to one in the quarter. Activity and interest ranged between very attractive to robust, but the process and time to closure of transactions was slower. We expect as you would guess, a very strong order activity in the fourth quarter. You are undoubtedly aware of the announcement of the all new G700. The materials related to this program and its specifications are publicly available. It is an expansion of our product line, that brings advances in Avionics and Aerodynamics to create an industry leader. The G700 incorporates the new engines, new winglets and brand new avionics from the G500 and G600 series. The development of this plane is quite mature and we expect first flight in December. The announcement of the G700 have cleared up some of the mystery and has in some respects stimulated G650 discussions. All in all we are doing quite well at Aerospace.

Turning to Combat Systems. We had a good quarter as the relevant comparisons clearly indicates. Revenue of $1.74 billion was up $217 million over the third quarter of last year or 14.2%. Similarly operating earnings of $264 million were up $23 million or 9.5% over the third quarter of 2018. On a sequential basis, the story is similar revenue was up $81 million or 5% and operating earnings were up $22 million, a 9.1% increase. Combat Systems margins return to the 15 plus neighborhoods. On a year-to-date basis, revenue was up $538 million or 12% against the same period of 2018. However, operating earnings are only $11 million or 1.6% higher. Mix and a one-time settlement of lease litigation in the first quarter explain why profits is expanded more slowly than revenue. We expect a very good operating leverage in the final period of the year. I think it's worth noting the Combat Systems has enjoyed a year-over-year growth in the 11 of the past 12 quarters. Our existing US-based programs continue to perform well with Abrams volumes up strong Stryker business and nice growth in the Ordinance and Ammunition portfolio. In the advocate, our US government volume accounted for 57% of revenue year-to-date, compared with 49% in the first three quarters of 2018 underscoring this shift in mix. Army demand to upgrade our platforms in the coming year is manifesting itself in explicit program direction for the Tank and Stryker, which puts us in good stead for continued growth. Furthermore, we've recognize the Army set a high bar for the OMSD program and we are focused on delivering a superior solution to replace the Bradley Fighting Vehicle.

Our international programs continue to progress nicely. Work on the UK AJAX program is transitioning from engineering to test and then to full production. Live fire testing has been successful and we entered into reliability testing in the third quarter of this year. We expect to enter steady state production this year and continue through 2024. Combat Systems enhanced their backlog this quarter with a book-to-bill of 1.3 to 1. The Government of Canada ordered 360 armored Combat Support vehicles to $1.3 billion. Work has begun on the program and we expect to begin deliveries in Q1 of 2021. ELX is negotiating the contract with the Spanish government to deliver the first tranche of 348 Piranha V vehicles. As a consequence, we have very good line of sight for production planning and for driving continuous improvement in all businesses in this segment. We are trending in the right direction at combat systems. Every one of our businesses in this segment is on the move. With respect to the marine group, revenue of $2.24 billion was $232 million or 11.6% higher than in Q3 a year ago. Operating earnings were up $40 million or 23.7% against the year ago quarter, due in part to the progress to closing out Virginia-class Block III and better year-over-year earnings at NASSCO. On a sequential basis, revenue was down $19 million due to timing, operating earnings were up $12 million. For the first three quarters of the year, revenue of $6.6 billion was up $413 million or 6.7% against the same three quarters of 2018. Operating earnings were $38 million better on a 10 basis point improvement in margin rate.

Similar to Combat Systems, the marine group has enjoyed year-over-year growth in 9 of the past 10 quarters. Work on our submarine programs, the Virginia-class construction and engineering on Columbia Ballistic-Missile Submarine continues to make good progress. We have completed the design of Columbia and are 54% complete on the production drawing, which reflects good progress. Virginia-class Block IV work remains steady, volume has been driven by early work on Virginia Block 5 and Columbia. We expect the Block 5 applied contract to be awarded this year, resulting in a considerable addition to backlog. With respect to Bath, the challenges on the first DDG 1,000 Ship and the DDG-51 Restart Ships are behind us with nice performance on the 1,001 and 2 and the follow-on DDG-51 Ships. We have 11 DDG-51 ships in backlog with a very good opportunity to prefer improve performance steadily across this large backlog. Finally, revenue at NASSCO, for the quarter was up due to higher repair volume.

Similarly, year-to-date volumes were up due to higher repair and work on the TAO Class Oiler program. We also expect the first two Matson ships in the ESB 5 to deliver in the fourth quarter. In all, the Marine Systems has been a compelling growth story for us and will continue to be so for a long time to come. Our focus going forward is operating efficiency and margin improvement over this very large backlog. For Mission Systems; Mission Systems had revenue of $1.2 billion in the quarter, flat with the year ago results. Earnings of $187 million were up $6 million against the third quarter last year. Margins were an impressive 60 basis points higher. Sequentially, margins of 15.2% were up on even more impressive 250 basis points. On a year-to-date basis, Mission Systems revenue was up $190 million or 5.2%. Earnings for the 9 months were up $17 million versus the first 9 months of June of last year.

Mission Systems has been a high-performance business for us and will continue to be so. It has enjoyed a book-to-bill of at least 1 to 1 in 2016, 2017 and 2018 and stands above 1 to 1 at the three quarter mark in 2019. Its business have been broad base reflect its capabilities in space, communication and sophisticated command and control solutions. Information Technology reported revenue of $2.1 billion in the third quarter, down $236 million against the year ago quarter. This is largely the result of the divestitures made in this segment. Operating earnings were $146 million, down $11 million despite a modest improvement in margin rates. The results were somewhat lower than expected as the company entered into a termination settlement related to its exit of a non-core line of business. Absent that charge, earnings and margin would have been more appropriately reflected or would have more appropriately reflected the progress we have made in combining CSRA with GDIT. Our integration of CSRA and GDIT has gone very well and is ahead of our internal schedule.

Our management team pulled from both businesses has gelled very nicely. We are meeting cost synergies and are working to exceed this year's goals. To that end, we have continued to generate good booking. In the quarter, we generated $2.38 billion for a book-to-bill of 1.2 to 1 for the 9 months, our book-to-bill was 1.2 to 1. Our 9 months bookings for 2019 are nearly 80% higher than those captured during the first three quarters of 2018. Our total backlog of $9.16 billion is up 15% from the start of the year. The strong order activity comes in the face of a protracted procurement cycle. GDIT has close to a billion dollars in awarded contracts that have been delayed by protests and over half of the $65 billion in outstanding awards that the customer had expected has slipped to the right. The underlying metrics of this business remains solid, cash flow continues to be strong. GDIT generated robust free cash flow to imputed net income up over 190% this quarter, despite controlled investments and customer infrastructure and restructuring expenses. So to offer a summary on the performance of all of the defense businesses, operating earnings have grown over 8% in the quarter on a nearly 3% advance in revenue.

Excluding the divestiture of the call centers business, the organic growth rate for revenue and operating profit are about 1 to 2 points higher. Book-to-bill for the defense operations was 1.1 to 1 in the quarter. Orders are just shy of $8 billion on a revenue of $7.72 billion for the quarter. For the 9 months defense bookings have essentially kept pace with the approximately 8% in revenue growth. So I don't think I have any changes to make with respect to our prior guidance. We seem to be right on track with the comprehensive outlook I gave you last quarter. And finally in closing and as tempting as it may be at this time a year for you to ask about next year, let me just remind you that we have our planning process later this fall when the businesses get better insight into the upcoming year. The guidance that we gave you in January as of last January is grounded in that process, and as a result will be full and thorough. So I don't want to prematurely piecemeal next year at this juncture. You'll hear from the end of tail in January and our customers for many, many years.

Let me turn over the call to our CFO, Jason Aiken.

[Jason Aiken]

Thank you Phebe and good morning. Our net interest expense in the third quarter was $114 million in both 2019 and 2018. That brings net interest expense to $350 million for the first 9 months of the year compared to $244 million for the same period in 2018. The increase in 2019 is due primarily to the debt we issued at the end of the first quarter of 2018 to finance the acquisition of CSRA. We've also been carrying a higher than anticipated commercial paper balance through the first 9 months as we continue to work to resolve an outstanding receivable balance on one of our large international vehicle programs, that's been outstanding since the fourth quarter of last year. As Phebe mentioned, our cash from operations in the quarter was $1.1 billion and our free cash flow was $847 million a 93% conversion rate. The cash performance in the quarter reflected some progress on the international receivables I just mentioned. That said, we still have work to do to resolve the balance of the arrears.

We're continuing to work this issue with the customer and expect to have the matter resolved by the end of the year. Assuming these outstanding payments come in this year we still expect full year free cash flow conversion to be well in excess of 100% of net income. Notwithstanding the progress made in the quarter, cash flow continued to be impacted by OWC growth at Gulfstream for reasons you now know and at Electric Boat. EB has been operating under an Un-definitive Contract Action or UCA, on the fifth Virginia-class Block, as we continue to work with the Navy to get that effort under contract. Until we get that contract executed our progress billings are temporarily limited.

We expect that situation to unwind with the receipt of the Block V contract in the fourth quarter. On the Capital Deployment front, capital expenditures were $244 million in the quarter or 2.5% of revenues, reflecting the investment in our shipyards to support the significant growth that's on the horizon. We also paid $295 million in dividends in the quarter. We ended the quarter with a cash balance of $974 million on the balance sheet and a net debt position of $12.7 billion. We expect to use our free cash flow to repay our outstanding commercial paper balance by the end of this year. In addition, we have a tranche of fixed and floating rate notes maturing in the second quarter of next year. So our focus in the moment beyond internal investment and the dividend will be repaying this debt. Our effective tax rate in the quarter was 16.2% reflecting greater foreign tax benefits than previously expected, driven by the strength of our international operations. With a rate of 17.5% for the first 9 months, we are lowering our anticipated full year tax rate by 50 basis points to the mid-17% range.

As a result of current market conditions, we've adjusted our assumptions for pension costs and recognized in the third quarter, an increase in the expense associated with our non-qualified plans. The impact of the increased pension expense and a lower tax rate I just discussed, offset each other relative to our full year outlook. And one last point of color on the backlog at the end of the quarter, specifically at Combat Systems, we continue to experience a drag on that groups backlog balance due to the FX impact of the strength of the US dollar, Specifically, Combat Systems has experienced a reduction in backlog of more than $400 million in the first 9 months of the year. Despite this headwind, the Group's backlog remains very strong at more than 2 times annual sales. Howard that concludes my remarks. I'll turn it back over to you for the Q&A.

[Howard Rubel, Investor Relations]

Thanks, Jason. As a reminder, we ask participants to ask one question and one follow-up question so that everyone has a chance to participate. Rocco, could you please remind participants how to enter the queue.

[Operator]

[Operator Instructions]. Today's first question comes from David Strauss of Barclays. Please go ahead.

[David Strauss, Barclays]

Good morning. Phebe, wanted to one, touch on the G700 and how that potentially impacts the prior guidance that you've given, with regard to Gulfstream where I believe you've talked about EBIT growing a little bit in '20, but then growing significantly in '21, and margins approaching the high double-digit range again. How is the G700 all factored into that?

[Phebe Novakovic, Chairman and Chief Executive Officer]

So in -- no, because we expect the entry into service, several years out. But, but I think it might be opportune just to remind you guys how we're really thinking about the portfolio of our airplanes in our operating strategy. So, as you know, we've had a plan for the past several years to bring down the 650 production and increased 500 and 600 and we're doing that completely independently of the 700. We've been pretty voluble about the fact that G650 production and deliveries will be reduced next year and again the following year, so that will get production and delivery consistent with current demand. And on that score, we've had a very consistent order book for the 650 over the past three to four years. And as you know, we've had the benefit of a large backlog we've been able to work down over time. So listen, to be clear, this has nothing to do with the 700 launch announcement is a planned long ago. Our job is to balance the loss revenue and earnings from the planned reduction of G650 deliveries with an increased flow from 500 to 600 to keep earnings stable. If by the way, the state with that risk but it comes with ample opportunity, and as I said, this has been the consistent plan, and it remains our plan. And then as the G700 enters into service that will then become another factor in our long-range, in our earnings and revenue growth.

[David Strauss, Barclays]

Okay. I guess just asking a different, different way the -- that prior guidance that you've given for Gulfstream for '20 and '21, does that still hold?

[Phebe Novakovic, Chairman and Chief Executive Officer]

Well, I don't think we've given guidance per se, but we've indicated that we'll continue to grow our top line and our bottom line, as we've made that this making this transition. I think the bottom line will be a little , a little bit slower growth simply because we are managing that transition from the 650 to the 500 and 600 but look, our idea is to stabilize earnings with this, with this transition and we've done that and we'll continue to do that. So I think when you think about the business going forward, this is the strategy that has driven our behavior today and driving it and we'll drive that on a going forward basis so that will form how you're thinking about our performance going forward.

[David Strauss, Barclays]

Thank you.

[Operator]

Our next question today comes from Peter Arment of Baird. Please go ahead.

[Peter Arment, Robert W. Baird]

Yes, thanks good morning Phebe. Just a follow-up, just a question on the G700 you've always talked about the kind of dedicated production for the G500, G600 you started dedicated production facility with the G650. How should we think about that with the G700 is that going to be feathered in? Thanks.

[Phebe Novakovic, Chairman and Chief Executive Officer]

Well, it won't necessarily be feathered in. But to your question about, do we have a dedicated production facility in line? We do! See to expect that type of learning that we've seen on our other platforms. On the 700 as we come down our learning curve increased production and come down our learning curve that's all post-driven by the result of both our operating efficiency as well as our dedicated line.

[Peter Arment, Robert W. Baird]

And just as a follow-up related to that on the order front, I know you mentioned you expect healthy orders in the fourth quarter here, and you've had a book-to-bill over 1 for the 9 months year-to-date. How are you approaching the book to -- the bookings for the G700 is it following a similar path to the G500 and 600? Thanks.

[Phebe Novakovic, Chairman and Chief Executive Officer]

Yeah, as I think you know, we've announced we've got a nice robust backlog for the 700, and as I said, our fourth quarter, we expect to have even better and improved order activity increased order activity across our portfolio. By the way, we had more orders this year as again this quarter as against the quarter, third quarter of 2018. But in our that's compared against a 23% increase in revenue. This is a good quarter for us.

[Operator]

And our next question today comes from Cai von Rumohr of Cowen and Company. Please go ahead.

[Cai von Rumohr, Cowen]

Thank you very much and Phebe congratulations on the G700 it looks terrific.

[Phebe Novakovic, Chairman and Chief Executive Officer]

Thanks Cai.

[Cai von Rumohr, Cowen]

Okay. You've indicated, I guess, first delivery in 2022, given that you're fairly close to first flight. Any -- will your comment, is the hope to be in the earlier part of the year or the latter part of the year?

[Phebe Novakovic, Chairman and Chief Executive Officer]

So look, we've, I think we're comfortable in the -- in the estimate of certification that we've given you. And we've looked through the prism as we thought about going forward, we look through the prism of the current regulatory environment, but you well know, even better than we do. And so we have factored that into our thinking. If that happens earlier that's great.

[Cai von Rumohr, Cowen]

Got it. And then I guess some industry sources suggest that you had been showing this plan for some time under NDAs. Were there any firm orders included in your bookings in the third quarter for the G700.

[Phebe Novakovic, Chairman and Chief Executive Officer]

We had some bookings on this airplane, that's all I'm going to say on that score. This airplane is going to be very popular with that particular market segment.

[Operator]

Our next question today comes from Jon Raviv of Citi. Please go ahead.

[Jon Raviv, Citi]

Hi, thanks very much. Bigger picture question, bigger picture question for you guys actually. Section on capital allocation decisions across the businesses certainly appreciate, Jason, that the focus through first half of '20 is on the payment of debt. Just sort of thinking about, how should we think about things going forward and how you make those allocation decisions across the businesses?

[Jason Aiken]

You know, John, I don't think we would really articulate any fundamental change to our long-standing approach to capital deployment as it as those priority stand internal investment first, where we have profitable opportunities for returns, followed by the steady and predictable dividend and then it really is about M&A were attractive accretive and in our core opportunities exist and share repurchase, but it and between that as you articulated for the moment the prioritization really is all about getting that debt pay down at least through the first half of next year. Once we get to that point, we'll roughly pay down half of the, the incremental debt from the CSRA acquisition will have the commercial paper balance behind us and will have a chance to look forward. But I don't think in terms of prioritizing those various avenues for capital deployment anything on that score has changed for us.

[Jon Raviv, Citi]

Thank you. And then just a follow-up on GDIT perhaps Phebe you had mentioned that some of the dynamics are stretching out then is obviously a pretty heavy protest environment out there. Is there any thoughts about the acceleration previously pointed to heading into heading into next year in the context that peers generally doing mid-single digits, should we expect GDIT to take market share in that environment? Thank you.

[Phebe Novakovic, Chairman and Chief Executive Officer]

So GDIT has been taking market share. I mean if you think about their performance, the performance to set underlying for underlies their outcomes since the acquisition. We've got a 75% --70%, 75% win rate for the trailing 12 months. I mean, that is consistent month-over-month, quarter-over-quarter, and as you all know, the book-to-bills and 1.2, 1.1 to do you have different year-to-date. So look, we are, we are winning and more than our fair share, but we have seen a protraction. I mean that's a significant amount of money for our contracts be tied up in -- in protest at around $1 billion. Now protests as you all know historically resolved to the benefit of the winner, so we are quite comfortable that that historical precedents will remain. But we've also seen a slowing and the execution of the contract awards and we suspect that will resolve through the course of next year and our rate of growth will be in part and no small measure driven by the increased rate in award volume. So nothing is systemic here. It's really a question of timing.

[Jon Raviv, Citi]

Thank you.

[Operator]

And our next question today comes from Myles Walton of UBS, please go ahead.

[Myles Walton, USB]

Thanks Howard. I'm just wondering Jason, maybe you can give is a little bit more color on the cash flow and in particular, the Canadian advance, was in the numbers this quarter, and also just give is a boundary condition, if you don't make further progress on the Saudi lab. How does that play into the 3.5 billion implied free cash flow for the first quarter?

[Jason Aiken]

Yes, sure. So, yes, in fact the advanced we received in the quarter is in the numbers that you've seen. So that's in the 90% conversion rate for the quarter. As it relates to the balance of the year, I think the way to think about it is we came into the year with just over $1 billion of arrears from the fourth quarter of last year. That's grown somewhat call it another half a billion dollars through the balance of this year and so that's what we're after right now that's what's currently outstanding. I think you can see in our disclosures, there is an un-billed total, un-billed investment somewhere in excess of $2 billion, $2.5 billion. But that's not necessarily what's factored in here. It's really between $1.5 billion that we're still working to resolve before the end of the year.

[Myles Walton, USB]

Okay and Phebe that marine margin I think is the best in a number of years. Just curious, is there anything one time and I know you didn't update the full-year projection, but let me just give us a little color to start of the year. I think you said that's the segment that had the most upside opportunity. And does this is this that coming through?

[Phebe Novakovic, Chairman and Chief Executive Officer]

So what you saw here was the strong and successful finish of Block 3. I mean Block 3 is largely done and that performance and the strong closing of that contract, really drove our margins, but as you all know margins in this business in particular Electric Boat have followed the same path for 18 years. We start a new block and because of the contract structure with our customer they receive some of the benefits of our prior improvements on the previous block and then we reset the bar and come back down our learning curves and that's where we really are on Block IV. But Block III is largely behind us and they -- and they've closed out very well.

[Myles Walton, USB]

Okay, thanks.

[Operator]

And our next question today comes from Noah Poponak of Goldman Sachs. please go ahead.

[Noah Poponak, Golden Sachs]

Hi, good morning everyone. I know I just coming back to the Gulfstream margins. I want to try to ask a question about the progression there because I know there's a lot of investor focus on it. First, please just further the last quarter of the year. If I take the guidance that you had previously provided. Literally, it would imply, it's down sequentially in the fourth quarter. So you're expecting that. And then I had interpreted prior comments to suggest expansion but modest expansion in 2020 because you're feathering 650 lower and you're still early in the 500, 600 ramp. But then, a larger degree of expansion in '21 as you further along in both of those processes. Do I have that correct?

[Phebe Novakovic, Chairman and Chief Executive Officer]

So look, as you would imagine for a. for a business that has demonstrated the curve operating leverage year in year out on older models, the newer models Gulfstream will continue to march on margin improvement on a going forward basis. Don't forget that pre-own carries no margin. So to the extent that you've got a -- an implied lower margin in the fourth quarter, that's almost entirely reflected by by the pre-owned. As you well know just has no margin and is included in revenue, so there you have it.

[Noah Poponak, Golden Sachs]

And am I directionally correct on the beyond 2019 comments?

[Phebe Novakovic, Chairman and Chief Executive Officer]

Well, I think we've been pretty consistent all along that this business is going to get better and better over time. That's about what we're going to say at this juncture.

[Noah Poponak, Golden Sachs]

And the will the G700 be the highest margin airplane in the portfolio, once it's at full-rate production?

[Phebe Novakovic, Chairman and Chief Executive Officer]

We are so not going there. So look, you can imagine that we do well on our airplanes because we don't compete on price and we have a, unerring commitment to cost reduction and cost optimization, every quarter, every month, every quarter we get better.

[Operator]

And our next question today comes from George Shapiro Shapiro Research. Please go ahead.

[George Shapiro, Shapiro Research]

Good morning.

[Phebe Novakovic, Chairman and Chief Executive Officer]

Hi, George.

[George Shapiro, Shapiro Research]

Hi, your comment about the Q4 margin being lower from higher preowned. I mean, this quarter, it looks like there was for pre-owned for about $90 million. So you have would have earned 16.3% margin on the zero for the pre-own. Are you suggesting the fourth quarter is going to have higher pre-owned and I would have thought we're kind of through the G500 block. So that the fourth quarter margin would still be above the third quarter?

[Jason Aiken]

So, George taking your premises in reverse order, you're right about the progression on the underlying manufacturing improvements and I think that's what Phebe was alluding to earlier, we'll continue to see that progress quarter-on-quarter for Gulfstream. But yes, it's your first premise, based on the inputs we're seeing right now and the contracts that will deliver in the fourth quarter, we would expect to see at this point more pre-owned aircraft sales in the fourth quarter.

[George Shapiro, Shapiro Research]

And Jason that will more than offset the fact that the 500 through its initial block. So the margin should step up some in the fourth quarter?

[Jason Aiken]

I mean, I don't know that I want to piecemeal it down to that level. Those are two of the many inputs that go into the margins at Gulfstream in any quarter, when we've talked about this many times in the past. There is varying R&D levels, there's different mix of aircraft deliveries in all the different inputs the Jet Aviation service margins and so on. So I think we've articulated a couple of those discrete ones that are clear at this point, but the implied fourth quarter there is a couple of people who are picking up on is, as usual, a blend of a whole myriad of factors. So I think the most important point here for the long-term investor is the steady regular improvement in the operating cadence and margin of the production of the airplanes at Gulfstream.

[George Shapiro, Shapiro Research]

And just a clarification for you, Jason. The advance you got this quarter for -- from Canada. Was that just for the new Canadian contract or was there also some from the Saudi receivable?

[Jason Aiken]

That is strictly related to our relationship with the Canadians. On the new program.

[George Shapiro, Shapiro Research]

On the new program. Okay. So when you commented in the third quarter you expected to get some cash in August and in the balance by the end of the year, you were really just referring to this new contract, which obviously hadn't been announced at that point?

[Phebe Novakovic, Chairman and Chief Executive Officer]

Well that's set we had anticipated that we would get this contract award and there would be an attendant along with that. That is one separate and distinct issue. As you all know, our international, the payments on our international program out of Canada have remained slow. Let me just remind everybody, there is no dispute on quantum, there no dispute on the fact that it is owed. It's simply a question of timing and we are still hopeful that we resolve that by the end of the year, but two distinct elements. Okay?

[Operator]

Our next question today comes from Hunter Keay of Wolfe Research. Please go ahead.

[Hunter Keay, Wolfe Research]

Hey, good morning everybody. Thank you. You've sort of touched this little bit Phebe but can you elaborate on the comment you made, when you said the G700 has stimulated G650 discussions what you mean by that. And then the second part and I'm done here is, any thoughts on the tariff situation in Europe. Have you heard any concerns from your customer looks like this are going to be exempt, but any any rumblings about that over there? Thank you.

[Phebe Novakovic, Chairman and Chief Executive Officer]

So an inverse order, none on the tariffs and in fact ex-US business continues to be very fulsome. But let's talk a bit about the 700 and frankly the introduction of the 700 clarifies the 650 and let me give you a little bit of an explanation on why and talk to you about what the 700 is and what it is not. The G700 is in a slightly different market space, but in the same market segment as the 650. It is not a competitor. It is an alternative. It is not a replacement for the 650. Customers very clearly understand that and their buying decisions are motivated by a host of factors idiosyncratic and individual factors including the missions they fly, the ramp size, the makeup of the rest of their fleet. So I think it has clearly an ARM in our experience the 700 is clarified the 650 and been helpful.

[Operator]

Our next question today comes from Robert Spingarn of Credit Suisse. Please go ahead.

[Howard Rubel, Investor Relations]

And Rocco this is Mr. Rubel -- This will be our last question.

[Operator]

Thank you, sir.

[Robert Spingarn, Credit Suisse]

So Phebe, I wanted to go to GDIT and just talk about the margin progression. You talked about some of the expenses in the quarter a pressure on the margins in the quarter, but otherwise would be higher. If we go back to your prior guide, I think that indicates a pretty robust fourth quarter, so could we talk about that and what normalized margins look like? And then just for a follow-up. Jason, I hear you on the cash deployment and retiring the debt, but given interest rates might it not make sense to look at the share buyback here just doing the math? Thank you.

[Phebe Novakovic, Chairman and Chief Executive Officer]

But we're comfortable with our leverage and we're going to pay down that debt and we historically have never taken out debt to buy stock. So all sorts of reasons but we have discussed over the years. But look, GDIT margins were consistent with what we anticipated minus this one-time charge as we exited a line of business that we have inherited with CSRA. I don't think I need to remind you because I know you understand this that -- their EBITDA margins are industry-leading so their margin performance will continue to improve.

[Howard Rubel, Investor Relations]

This is Mr. Rubel. Thank you very much for the call today and thank you everybody else for joining us. As a reminder, you should refer to the General Dynamics website for the third quarter earnings release and the highlights presentation. If you have additional questions, I can be reached at 703-876-3117. Thank you.

[Operator]

And thank you sir. Today's conference has now concluded. You may now disconnect your lines and have a wonderful day.