Huntington Ingalls Industries Inc

NYSE:HII

Earnings Call Transcript 2018-Q4

[Operator]

Good day, ladies and gentlemen, and welcome to the Q4 2018 Huntington Ingalls Industries Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. Following management's prepared remarks, we will have a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, today's conference is being recorded for replay purposes.

It is now my pleasure to turn the conference over to Mr. Dwayne Blake, Corporate Vice President of Investor Relations. Please proceed.

[Dwayne Blake, Vice President of IR]

Thanks, Hayley. Good morning, and welcome to the Huntington Ingalls Industries fourth quarter 2018 earnings conference call. With us today are Mike Petters, President and Chief Executive Officer; and Chris Kastner, Executive Vice President, Business Management and Chief Financial Officer.

As a reminder, statements made in today's call that are not historical fact are considered forward-looking statements and are made pursuant to the Safe Harbor provisions of federal securities law. Actual results may differ. Please refer to our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results.

Also in the remarks today, Mike and Chris will refer to certain non-GAAP measures. Reconciliations of these metrics to the comparable GAAP measures are included in the appendix of our earnings presentation that is posted on our website.

We're planning to address the posted presentation slides during the call to supplement our comments. Please access our website at huntingtoningalls.com, and click on the Investor Relations link to view the presentation as well as our earnings release.

With that, I'll turn the call over to our President and CEO Mike Petters. Mike?

[Mike Petters, President & CEO]

Thanks, Dwayne. Good morning, everyone, and thanks for joining us again today. Before we get into the details of the call, let me first thank each of our 40,000 employees for remaining steadfast to our core principles of safety, quality, cost and schedule, which helped us produce another year of solid results. I truly appreciate the efforts you put forth in each and every day.

So now let me share some highlights of our fourth quarter and full-year 2018 financial results, starting on slide three of the presentation. Sales of $2.2 billion for the quarter and $8.2 billion for the full-year were both approximately 10% higher than 2017 and represent record highs for the company. Diluted EPS was $4.94 for the quarter and $19.09 for the full-year, both significantly higher than 2017.

We received approximately $3.3 billion in new contract awards during the quarter, including contracts for NSC 10 and 11, which is the continuation of the stable serial production program for the Coast Guard. As a result, our backlog was approximately $23 billion at the end of the quarter, of which approximately $17 billion is funded.

The 2-ship contract award for CVN 80 and 81 announced at the end of January is a significant step toward building these ships more efficiently and affordably. And this contract increases backlog by over $15 billion. It stabilizes the Newport News workforce, it enables the purchase of material and quantity, and it permits a fragile supplier base of more than 2,000 vendors in 46 states to phase their work more efficiently.

In addition to this award, we have captured a significant portion of the shipbuilding contracts that were included in the FY'18 and '19 authorization and appropriations measures including the aforementioned NSC 10 and 11 and a six ship DDG contract received in the last quarter. As noted previously, these contracts combined with expected awards for VCS Block V, LPD 30 and future Flight II LPDs are forming the foundation to support this business for the next 10 to 15 years.

Now shifting to capital deployment for a moment, I am very pleased to report that we have generated $2.6 billion of operating cash flow during the first three years of our path to 2020 strategy. This strong performance has allowed us to invest over $1 billion in the business through capital expenditures at our shipyards, invest in our employees through significant pension contributions and make bolt-on strategic acquisitions in our Technical Solutions business. At the same time, we have returned $1.6 billion of free cash flow to shareholders from 2016 through 2018.

Regarding activities in Washington, the partial government shutdown had minimal impact on our business as our current work was predominantly authorized and appropriated in prior years, including the 2019 Defense authorization and appropriations measures, which were enacted into law last year. We look forward to working with the Congress during the 2020 legislative cycle to continue the serial production of submarines, destroyers, amphibious warships and National Security Cutters to leverage high production lines and supply chains and efficiently produce the warships our nation requires.

While sequestration remains the law of the land for two more years, we remain hopeful that a budget agreement will ultimately be reached that will best support Defense and non-Defense discretionary needs.

Now I'll provide a few points of interest on our business segments. At Ingalls, the team completed acceptance trails on DDG-117 Paul Ignatius in December and expects to deliver the ship in the first half of this year. NSC-8 Midgett remains on track and is also expected to deliver in the first half of this year. For LHA-7 Tripoli, trials and delivery are expected around mid-year. And focus continues on integration and testing to support plan trials and delivery of DDG 119 Delbert D. Black later this year.

At Newport News, the team is focused on completing ship erection of CVN 79 Kennedy in the spring and painting of the hall in late summer or early fall in the support of launch planned for the fourth quarter of this year. The ship is approximately 87% structurally complete with 390 of 448 lifts joined together in the dry dock and approximately 55% complete overall.

I am very pleased with the progress on the ship. In particular, of lessons learned from CVN 78 USS Gerald R. Ford and increased pre-outfitting work performed on the assembly platen and in the manufacturing shop should allow the team to continue achieving cost and schedule performance that is in line with our expectations.

For submarines, the team experienced higher than expected cost in preparation for launch of SSN 791 Delaware that was completed in December. They also reassess the schedule for SSN 794 Montana, the first Block IV boat to be delivered by Newport News and the remaining boats in the Block. As a result, the EACs for Delaware, Montana and the remaining Block IV boats were increased to address the additional cost and schedule impacts. These changes resulted in a net negative cumulative adjustment of roughly $20 million in the fourth quarter.

And while this situation is very disappointing, the team has the problem and taken a necessary actions to minimize these impacts. We expect to deliver Delaware and achieve pressure hull complete on Montana in the second half of this year.

During the Q1 call last May, I commented that we expected the return on sales for shipbuilding to be in the 7% to 9% range for 2018 and 2019. Even with the step back in the Virginia-class program, the 2018 reported return on sales for shipbuilding was 8.6%. And we expect to remain in the 7% to 9% range for 2019 and do expect to return to the historical 9% range in 2020.

Now turning to Technical Solutions, the team achieved a number of key milestones in the quarter, including the award of the O'Kane maintenance availability in San Diego and a successful transition of the Los Alamos M&O contract. During the fourth quarter, we also completed the acquisition of G2, a Maryland-based cybersecurity solutions and services company that adds advanced cyber capabilities and key federal government customers to our portfolio.

And last month, we announced an agreement to purchase Fulcrum IT services, a Northern Virginia-based technology services provider that had significant capabilities in the area of C5ISR, intelligence operations, enterprise software solutions and cyber.

Now these acquisitions are expected to be accretive to cash flow and earnings and strengthen our existing capabilities while adding new customer relationships, directly supporting our strategy to optimize and expand our services portfolio. This includes key new customers in the intelligence and special operations communities as well as an additional defense and federal agencies. And these relationships will allow us to incrementally grow in markets that we believe are essential for the future security of the nation and customers in these markets have another trusted partner in the Technical Solutions team.

So in closing, 2018 was another solid year for Huntington Ingalls, and I am very excited about the future for our business. Strategic investments in our facilities, people and capabilities combined with key contract awards such as the CVN 80, 81 2-ship contract and the six ship DDG multiyear contract position us to leverage a unique long-term revenue visibility and stability to produce predictable low risk cash flows.

In addition, our keen focus on execution, our strong balance sheet and our solid capital deployment strategy keep us on a path to continue creating long-term sustainable value for our shareholders, our customers and our employees.

And now I'll turn the call over to Chris Kastner for some remarks on the financials. Chris?

[Chris Kastner]

Thanks, Mike, and good morning. Today, I will review our fourth quarter and full-year consolidated results as well as provide you with information on some items for 2019 and 2020. For more detail on the segment results, please refer to the earnings release issued this morning and posted to our website.

Turning to our consolidated fourth quarter results on slide four of the presentation, revenues in the quarter of $2.2 billion, increased 10.2% over the fourth quarter of 2017, primarily due to higher volumes in aircraft carriers and navy nuclear support services in Newport News as well as higher volumes in the LPD, LHA and DDG programs at Ingalls, partially offset by lower volumes on the NSC program at Ingalls and the VCS program at Newport News.

Operating income for the quarter of $213 million decreased $18 million or 7.8% from fourth quarter of 2017, and operating margin of 9.7% decreased to 189 basis points. These decreases were primarily driven by lower risk retirement and higher than anticipated cost on the VCS program.

Moving onto consolidated results for the full-year on slide five, revenues were $8.2 billion for the year, an increase of 9.9% from 2017. This increase was primarily driven by higher volumes in aircraft carriers and navy nuclear support services at Newport News as well as higher volumes in amphibious assault ships at Ingalls partially offset by lower volumes in the DDG and NSC programs at Ingalls and lower volumes on the VCS program at Newport News.

Operating income for the year was $951 million and operating margin was 11.6%. This compares to operating income of $881 million and operating margin of 11.8% to 2017. Higher operating income was driven by more favorable operating FAS/CAS Adjustment as well as the overall volume increases noted previously partially offset by lower operating margins. The lower operating margin was largely driven by performance on the VCS program.

Additionally, interest expense was $58 million for the year, a decrease $36 million from the prior year due to the bond refinancing in December 2017. Our effective income tax rate was 3.2% for the quarter and 13.9% for the full-year, this compares to 65.8% and 38%, respectively, for fourth quarter and full-year 2017. Taxes in 2017 were impacted by the one-time effects of tax reform and discretionary pension contributions. The lower tax rates in 2018 were driven by the lower US federal income tax rate associated with tax reform and higher estimated research and development tax credits for 2011 through 2018 tax shares.

Turning to cash flow on slide six of the presentation, cash from operations was $648 million in the quarter and free cash flow was $506 million. For the full-year, cash from operations was $914 million and free cash flow was $512 million, compared to 2017 cash from operations of $814 million and free cash flow of $453 million.

Fourth quarter capital expenditures were $142 million and for the year $402 million or 4.9% of the sales. This compares to $361 million or 4.9% of sales in 2017. Cash contributions to our pension and postretirement benefit plans were $546 million in the year, of which $508 million were discretionary contributions to our qualified pension plans.

Additionally, we repurchased approximately 1.4 million shares in the quarter at a cost of $276 million, bringing the total number of shares repurchased in 2018 to approximately 3.6 million at a cost of $788 million, of which $48 million was not yet settled for cash as of December 31, 2018.

We also paid dividends of $0.86 per share or $37 million in the quarter bringing total dividends paid for the year to $132 million. Finally, during the fourth quarter, we acquired G2 for total cash consideration of $77 million.

Now turning to slide seven, let me provide an update on pension. We project a favorable net FAS/CAS Adjustment of approximately $159 million in 2019, and approximately $161 million in 2020. expected 2019 FAS/CAS Adjustment initially provided on our third quarter earnings calls update is due to higher year-end CAS interests rates and lower than projected asset returns in 2018. CAS recoveries over CAS contributions are projected to be approximately $237 million in 2019 and approximately $103 million in 2020.

Now let me provide you with an update for some additional 2019 items as shown on slide eight. We expect the non-current state income tax expense to be in the $9 million to $13 million range and our effective income tax rate to be approximately 21%. Interest expense is expected to be approximately $60 million for the year and capital expenditures as a percent of sales is expected to be between 5% and 6%. Also, depreciation and amortization is expected to be approximately $210 million.

Additionally, we expect capital expenditures to be between 4% and 5% of sales in 2020. We now expect our capital expenditures between 2016 and 2020 to be between $1.8 billion and $1.9 billion. As a reminder, capital expenditures are expected to return to the historical level of approximately 2.5% of sales in 2021.

That concludes my remarks. I'll turn the call back over to Dwayne for Q&A.

[Dwayne Blake, Vice President of IR]

Thanks, Chris. As a reminder to everyone on the call, please limit yourself to one initial question and one follow-up. So we can get as many people through the queue as possible. Hayley, I will turn it over to you to manage the Q&A.

[Operator]

[Operator Instructions] Our first question is from Myles Walton of UBS. Your line is now open.

[Myles Walton, UBS]

Hey, Mike, I was hoping you could touch on the VCS? And how much of -- of which you're experiencing as a result of moving to the new contract structure on the Block IV? It sounds like you're kind of bridging the two. And also the -- kind of the late delivery that was called at this summer, how much of that have you recovered from in these contracts? Just give us some colors that you've kind of bounded the issue, obviously, you've adjusted that EAC accordingly? But how much was the result of transition sort of Block IV? How much is a result of increase in rates? And, again, give us some assurance that you've founded the issue?

[Mike Petters, President & CEO]

Yeah, I'll start and then maybe I'll let Chris talk to the rates issues. We have as a sort of core principle of at least my career is, you should launch no ship before its time. And as we were heading up to launch on Delaware, our approach to a quality launch there we started to recognize that to get to where we wanted to be on that ship for a launch, there was both cost and schedule pressure.

So we don't launch until we're ready. So when we -- when the launch got delayed, we had to step back and say what were the root causes of that and what is that mean to us, not just on this particular program and Delaware is the last ship of Block III. But is there something that we do account for in our risk register in Block IV.

And so that process is a very -- it's a routine process that we go through in our EAC process every quarter. But also the risk management process is very, very disciplined. And so as we went through that process, we recognized that we needed to reflect that in the risk registers for Block IV. So we did both of that.

We took the program adjustment for Delaware, but also adjusted Block IV. And we also accounted in the ongoing negotiations we're having for in Block V. We absolutely believe that the problem is a rather challenge that we experience is bounded. The team is -- they recognize how they got here and they recognize the approach to get through it.

I feel very confident about where the submarine program at Newport News is. And I'm also pretty excited about the future of that program as we go forward. So I'm -- this is was a routine adjustment that caught us on the cusp between Block III and Block IV, and so that's why it kind of shows up the way that it does. But I'm very confident about where that program is going to go in the future.

[Myles Walton, UBS]

And then, Chris, you gave us the color on the 2021 CapEx coming back towards a normalized level? What is the net CAS recovery after pension contributions look like in terms of post 2020? In a deck you're showing an uptick in the cash contributions required by the company and decline in the case of CAS. Post 2020, are those two things more or less neutralized?

[Chris Kastner]

Yeah. So they definitely wind down a bit. I'm not comfortable providing 2021 data at this point. Trying to get you '19 and '20 from a planning standpoint that FAS/CAS and contribution start to normalize subsequent to '20, for sure all things being equal, of course.

[Operator]

Thank you. Our next question comes from Doug Harned of Bernstein. Your line is now open.

[Doug Harned, Bernstein]

I wanted to go to the Ingalls for a minute. The -- you're just -- you've been getting good margins at Ingalls and you're just in the early stages of ramping up on the Jack Lucas and the Ted Stevens. So as you get into these Flight III boats, how should we think about the margin trajectory with that transition to Flight III?

[Chris Kastner]

We're -- as Mike indicated on his prepared remarks, we're still comfortable returning the 9% return on sales in 2020, and the Flight III boats or Flight III ships are in that mix. So we're comfortable with how those ships are starting and we're comfortable with that 9% return on sales projection.

[Mike Petters, President & CEO]

Yeah, I'd go little just maybe expand on that, Doug. You know, across the whole business we will be -- we're starting up now, we're adding to launch on Kennedy but we're now behind Kennedy we have two more carriers to build. We're at the very beginning of Block IV and we're negotiating the Block V contract at Newport News. We have the steady refueling business at Newport News.

We're coming through the second half of a refueling and will beginning -- the beginning of the planning phase for the next refueling. At Ingalls, we have 10 destroyers now under contract to build. We are negotiating the first ship of Flight II of LPDs and we are in a place where we just signed a contract for two more NCSs, NSC 10 and 11.

And then across the whole range of the business, all of our programs are -- were getting the business into the production lines that are hot. And even though there's a -- the backlog is expanding pretty dramatically. We're in a place where we feel pretty comfortable that next year we're going to back into 9% to 10% range. And that's going to be across the whole business, there would be pieces of it, that will be -- because the risk registers we won't be at that level, there would be other pieces that the risk registers are going to be in a good place and we'll be above that.

So at a blended rate we believe that in very short order, even though the backlog was expanding as quickly as it is. In very short order we're going to be in that healthy 9% to 10% range and we're pretty excited about that. Whether that's going to happen exactly the way that we see it play out, you know, this is ship building. So we'll see. But I've said this is the most exciting time that I've seen in shipbuilding and this is when it gets really good now. The orders are in the book and the team can get cut close to go execute those orders.

[Doug Harned, Bernstein]

And then talking ships little bit the you've done to acquisitions in the government IT space here recently. What we've seen in that space is a lot of consolidation and arguments by some of the larger players that you really needs scale both for cost and for the market. And so as you pull these together I mean you are well below the scale of many of these other large companies. I mean how do you think about competing at the size you're at in that space? Or do you feel what's the scale you think you would need to make that really successful?

[Mike Petters, President & CEO]

Yes good question Doug. I think of the scale issue we don't look at it the same way. We and that may be because we just record that smart. But I think that we post that we've taken without navy customer for decades has been to understand the customer well enough to understand what capabilities they need then go invest in those capabilities so that you can become the preferred partner for that customer.

In this space whether it's cybersecurity or data analytics and those kind of things when we acquired Kimball we brought on several new customers and we've gone through a pretty rigorous evaluation of what are the capabilities that those customers are going to need for where they are going to be in the future.

And then we've been pretty selective about go and build that capability in our business. And both G2 and full-term are exactly that. I don't believe that you can we just successful by being made.

I think you're going to have to be intimate to the customer you're going to have to be talking to them about what capabilities they need and then you've got to go her figure out how to create that capabilities so that they have it when they need. And we're excited about the approach because it helps us become more intimate with these customers over time and we become a much more interested partner. And we think that that's going to be the foundation of a very successful services business.

[Operator]

Our next question comes from Carter Copeland of Melius Research.

[Carter Copeland, Melius Research]

Just two quick ones probably both for Chris. One just explaining on Myles question and your answer Mike it sounds like we should be thinking to block four booking rate on DCS is lower exit the various and whatnot if you can just confirm that for us? And then secondly on the cash flow were there any working capital elements of significance that represented a pull forward of some good guys into Q4 2018 versus 2019? Anything we should be aware of?

[Chris Kastner]

Yes so I'll handle the last one first. So we did have a good Q4 and working capital both receivables and payables. Grad paid early on some stuff that we weren't really expecting its testament to the team that was working cash over the year to ensure that we maximize it so that we did have a positive working capital quarter for sure. And Mike you want to handle the DCS but we don't specifically give bookings in the program.

[Mike Petters, President & CEO]

I mean this was a, I would say for the sides for this size of the program for block 4 this is a relatively small adjustment for that.

[Carter Copeland, Melius Research]

Okay Chris if you could help us quantify how should we think big some of that good news in Q4 on the cash flow was?

[Chris Kastner]

Yes you can think between $100 million to $150 million right at the end of the year that came in because of the team is working very, very hard at it.

[Operator]

Our next question comes from Rob Spingarn of Credit Suisse.

[Rob Spingarn, Credit Suisse]

Following on but what Carter just as you, given the word on forward Chris can you talk a little bit about the trend from this year to next year beyond pension and CapEx? How should we think about the various puts and takes into 2019? And then separately if you could give us the growth in that EIS adjustments in the segment?

[Chris Kastner]

So I'll give you gross and net first. Positive of 62 and negative of 50. Ingalls was a positive 30 and Newport News was a negative 18. From a free cash standpoint what I intended to do this year on this call was give you all the various factors that influence cash flow at HII the nonrecurring type of items. So depreciation amortization capital net pension cash and then everything else is just working capital and that's timing related. And as you know as you saw in Q4 you may have seen be a bit lumpy.

So hopefully I've given you more information where you can understand how cash flow within a corporation.

[Rob Spingarn, Credit Suisse]

But over the years should we expect it to be similar 2019 from 2018. In other words you have another you works some of that strong Q4 in the early part of 2019 and then you catch up at the end of the year?

[Chris Kastner]

We're going to work very hard to ensure that happens.

[Operator]

Our next question comes from Jon Raviv of Citi.

[Jon Raviv, Citi]

Sorry to keep on this cash flow question but maybe just a little more specific. I think at the beginning of the year you've talked about having specific headwind and tailwinds in the 2019 that sort of implied $750 million of cash free cash in 2019? Pension moved through in the year such that on the last call some of that cash went away. Ratings at all levels of the level of free cash flow you expect to be able to say in that maybe next couple of years CapEx in the side pension?

[Chris Kastner]

Yes Jonathan I appreciate the question. And as you know we don't provide that residential what I tried to do is give you all the components that make up cash flow. I really would rather not give you directional and my thoughts relative to how it's going to be prepared to 2018. But I think you can probably get there with the information that I provided.

[Jon Raviv, Citi]

Okay and then I have a follow-up in terms of the sustainability. Mike you have talked about for a while your business being flattish and up 3% and now up 10%. To what extent is this new level in 2018 almost a base of which you claim or given all the backlog that you've been able to build or you were to some risk that started going down and again at some point kind of even at not that risk adjusted normalized you talked about previously?

[Chris Kastner]

And Jonathan I apologize i did not hear you very well. I think the question was about growth. This is Chris and Mike can chime in subsequent that we are still confident with 3% CAGR 2017 through '22. obviously we had pretty good 2018. But we don't really don't expect that to continue obviously because of Los Angeles submarine work will finish this year. And then tailwind 2020 potentially. So we're feel still comfortable with that sort of growth rates for those years in shipbuilding.

[Mike Petters, President & CEO]

Lead back and I would just go and find out that what what's actually going to happen have beyond the persistent 3% growth in shipbuilding is that backlog is going to put us in a place where we're going to be able to talk about not just five years but 10 years. And we'll be able to talk to a pretty persistent growth rate across a decade that's going to be for a work we have under contract that is buy and large immune to some of the winds that might blow politically.

So that gives us a lot of confidence in terms of the foundation of our business with our core customer we think that puts us in a very unique spot.

[Operator]

Our next question comes from George Shapiro of Shapiro Research.

[George Shapiro, Shapiro Research]

Chris if I heard you right you had a $20 million negative adjustment from the DCS. If I exclude that in Newport would have been about 6%. Is that what we should expect for the quarter's this year or is that on the low side?

[Chris Kastner]

Well that's getting on a run rate sort of margin for a return on sales for Newport News in the quarter. Obviously there will be opportunities for step ups as we achieve milestones at both ship yards. So well it is run rate that's not how we think about return on sales within the year.

[George Shapiro, Shapiro Research]

Yes because you had mentioned I thought I got it right that net adjustments in Newport remind us 2018. So roughly taking out the 2018 you kind of get this is the underlying base rate for Newport News? And then as a question of what you can do on EAC adjustments et cetera?

[Chris Kastner]

I think that's there George.

[George Shapiro, Shapiro Research]

Okay and then for Mike. The 3% sales growth you've talked about in the past had that assumed all of the business that you know seem to be getting the two Ford carriers and stuff? Or is there incremental from the business you got?

[Mike Petters, President & CEO]

Yes I think that when we first talked about the 3% the two carrier contract for instance was being talked about but not I think was uncertain. The destroyer piece was uncertain at that point. I think where we are now as that we're very confident about the 3% because of the work that we've captured. There are some things out there that frankly we'd like to see that could help this move along more.

If you can do for instance if you can do a two ship by for Aircraft Carriers you can do also do ship by for LHAs. We've got figure out a way to get the LHA program back in phase because it's out of phase right now. And we got to do that as very efficiently as we can from a shipbuilding perspective we've got a LHA seven and LHA 8. But LHA nine and LHA 10 are out there and they are not in phase.

So we've got to get to those in phase. So that remains to be seen. We're negotiating the first contract of flight two LPDs. The best way to build the flight two LPS would be to move to a multiyear contract. So we need to go do that. So those are things out there that would enhance our view the frigate program is out there and that will enhance our view. So while we saw defied around the 3% because of the work that we've done we're still out there doing more of this to try to be as efficient as we can.

[George Shapiro, Shapiro Research]

And then just one quick follow-up, so given how much higher than 3% the growth was this year I mean what caused that? There were unique items in there that you didn't foresee? Or if you can explain a little further?

[Mike Petters, President & CEO]

Yes George that was driven by the LA class submarine availabilities the three boats that we had in Newport News in 2018.

[Operator]

Our next question comes from Krishna Sinha of Vertical Research Partners.

[Krishna Sinha, Vertical Research Partners]

I think in late December you want a sub safe contract for $875 million. And then I think recently you also have the opportunity for something like $400 million on option period 3 for some MTV ships work for the Chief of Naval operations. Can you just talk about how those revenues flow through over the and over what time period you're going to see those revenues?

[Chris Kastner]

I'm not entirely sure the awards you're referencing I apologize. But all of the all the awards we had in the fourth quarter and the perspective that Mike previously gave relative to the growth rate.

[Krishna Sinha, Vertical Research Partners]

So are you seeing any incremental sort of opportunity for maintenance or MRO work. I know that sort of ad hoc and it comes on and off. But any not on the LA class particularly but any other work that you're seeing coming down the pipe that could be incremental to the growth rate?

[Mike Petters, President & CEO]

Well I think that there is a bigger strategic issue around how is the Navy going to try to do maintenance going forward. There's been a challenge in terms of their readiness they they've talked about. And as they moved the resources towards more readiness, they've also been talking with the whole industry about how do we do that more strategically. We're certainly engaged in our discussion with the Navy but it's very premature at this point to try to talk about what impact that might have on our particular business.

The LA class is actually an example of sort of the dynamics of that space in terms of those were pop-ups that we were available that we were able to do. But right now we can't forecast what after that. So and I think that sort of the challenge of that space historically has been the unpredictability of it and the volatility of it.

So I think that the discussion is going on between the government and the industry right now. So how do we do this on a more efficient way which would drive out some of the volatility. And if we can do that then we can start to project that into our into our look ahead. But we're really not able to do that right now.

[Krishna Sinha, Vertical Research Partners]

And then just one maybe one final one on free cash flow, everybody's kind of harping on this. But I'm just curious from your perspective pension obviously is a noisy's sort of metric and it's going to harmonize at some point. If we just exclude the pension if we normalize CapEx. What's the sort of underlying free cash flow that we can expect from this business on a go-forward basis. Like what's normalized free cash flow look like for this business?

[Chris Kastner]

Yes so I apologize again but we don't provide guidance. What I've tried to do is give you all the variables that impact cash. And addition to that we provide top line and where we think we're going to be from a return on sales standpoint and what the tax rates going to be. So I think based on the information I provided you can get to a fairly consistent or number that you can count on.

Obviously working capital moves around a little bit in that it can be lumpy at times. But with I think with the information I provided you can arrive at a fairly reasonable number.

[Operator]

Our next question comes from Ron Epstein of Bank of America.

[Ron Epstein, Bank of America]

A couple of quick questions. Back to the revenue growth question. I think everybody's kind of scratching up that one. Largely because it seems with the business you've won and the business you could win that 3% number just seems really low right? I mean that how could you possibly not hit that? I mean I guess the question is how could you possibly not do better than that? That's the first question.

[Chris Kastner]

Well the answer Ron this is Chris. And I consistently said if things go perfectly it could be better but you have there are constraints within a shipyard. There's only so many boats you can build at the same time. So it's not as if we get these orders and they provide for immediate sales growth. What they do provide for is amazing stability within our business space. So it's not as if it immediately show up in sales and margin.

[Ron Epstein, Bank of America]

And then maybe I don't if this asked or not but I'll ask it again if it was I mean when we think margins on the two carriers how should we think about that as we go from CVN 80 to 81?

[Chris Kastner]

Well I think certainly we've got a contract here that's going to carry us out to 2032. So we have a pretty large this register at this point. And as we with all of the advantages come us along are historic and very disciplined process for making sure that we don't retire the risk before we've actually retired it. Now what happens here is that as you are going through the first ship it's really going to be the third ship in the class.

And so you're going to be able to take advantage of what's you've learned from the first 2. And you'll have opportunities where you're at high risk on the first ship and you'll decide that maybe that's not a risk on the second ship. So there'll be a progression just like it is on any other program it's just going to be a 13-year curve as supposed to a 8-year curve or a 5-year curve that we have on other programs.

[Ron Epstein, Bank of America]

Got you. Got you. And then maybe just one more for you just quick one. On the CapEx outlook in 2021 how many summary instances are resumed are being built?

[Chris Kastner]

That's the current program of records. I think the question around submarines is it as the industry has been expanding itself to be able to handle the two submarine per year delivery rate in Virginia-class as well as support the Columbia program. Discussions about future submarines and adding more submarines to the budget I mean that's been a very loud discussion and we stand ready to support that.

But the capital that sort of things if you just going to add one or two ships to the budget along the way and kind of option them in. They're not really won't require substantially more capital. That would just be putting them back into our production line and working them through the process.

If the nation were to decide that they wanted to go some other build rate. We're we wanted to go to a three Virginia-class stream extreme be and go to a three Virginia-class per year build rate confirm with the Columbia-class program. Then that would probably require another thought on capital. But we are not seeing that being the discussion today and so we feel pretty comfortable with the capital investments that we've made on the BCS program. And even if they add a ship here or a ship there we think that that will be that we're in we're well positioned to support that.

[Operator]

Our next question comes from Douglas Harned of JPMorgan.

[UnidentifiedAnalyst]

So the new to the stock so I apologize for this pretty basic. But just thinking about that shipyard margin this year coming in at around 8.6 and getting kind of on way into the 9% to 10% range in 2020. And thinking about the moving pieces there And you're very much above the range at Ingalls. And so that implies I guess better significantly better margins on the carrier even as you look at it after you've signed the contract for 2. And improving margins on the Virginia not being offset too much by the absence of that Los Angeles cross work. Is that the right way to think about the margin moments that allow you to bring of the Newport News margin?

[Chris Kastner]

I think the way to think about this and welcome to the stock. I think the way to think about our ship building businesses is that brand new programs are going to be booked very conservatively because we just we have too many scars where we've gotten out in front of our head lights. And so we went to be conservative in new programs. Very mature programs we can where we understand where the risk is we will be more aggressive.

Where we are right now is that we have a tremendous amount of new work at Newport News. And so as a result we're being pretty conservative at Newport News. And on the other hand at Ingalls we've got some pretty mature programs there. And we're hot production lines. So we're in a place where we can be more aggressive. Both teams are executing exceptionally well and we we're of the work that they are doing and the positioning that they are making to accelerate into the next decade. And that's across all of our programs.

And so our view is that the healthy blended business of shipbuilding ought to be a mix of very mature product lines with the significant volume of new work and then that blended that puts you in a 9% to 10% range. We've been very consistent about that since we left we still believe that to be the case. And we expect that even with all of the new work that we're taking in Newport News in the next we've taken it on and in the across the rest of this year.

We expect that our blended rate next year is going to be in 9% to 10% range we're pretty comfortable with that. So we're excited about where this positions us because it does put us in the healthy place for the next five to 10 years.

[UnidentifiedAnalyst]

Great. And then I'd say here is a quick follow-up for Chris just even we few take out the $150 million of cash that kind of pulled into the fourth quarter it still implies on the positive working capital contribution to cash flow in 2019. Just want to make sure A that's correct? And kind of like what's driving and given that we've got this growth underway? And at some point does that become more, more of a neutral or headwind on the working capital front since you're growing?

[Mike Petters, President & CEO]

Yes so I we do have good terms with our customers so working capital doesn't as we grow working capital does not increase that much. So it's all about timing with working capital with us and what happens around the end of the month. So you're correct relative to the pull forward. And we'll just see how 2019 goes.

[Operator]

Our next question comes from [indiscernible].

[Unidentified Participant]

Couple of questions. You mentioned the 7% to 9% margin range this year. Can you remind us of how many ship you have this year I think it's 5? And how that compares last year? Just obviously you guys are conservative but typically we've seen margins kind of move up on upon delivery. Is there anything different about the programs you're delivering on this year relative to history. I'd appreciate some color.

[Chris Kastner]

So we have five ship deliveries we have Delaware and then for angles two DDGs LHA seven and NSC-8. So it's going to be normal course of when we evaluate over risk registers when those ships delivers and if we have an opportunity we'll book some additional margin.

[Unidentified Participant]

Okay Chris you also I mean cash flow question has been announced many, many times. But obviously when we look out to in the past you've talked about her Avondale recovery being sort of a nonrecurring plus in 2018 and then maybe it bleeds into 2019. Could you refresh our understanding of whether that's behind us now and what it was in terms of actual dollar value last year 2018?

[Chris Kastner]

Sure. Avondale is behind is now. We've recovered that. I think that was $15 million that went into AR from an inventory related to Avondale. But we did get you the information. So that is absolutely behind us we saw in the facility the restructuring is fully and that's covered.

[Unidentified Participant]

Okay. So just putting it all together ex working capital dynamic in Q4 just wanted to be clear because that I think there's some confusion. It's looks like the cash flow the things you've identified is about $200 million may a little bit $220 million year-to-year plus between the sling and the mismatching cash pension versus contribution the CAS recovery versus contribution. The increase in tax rate and the slight increase in CapEx year-to-year in 2019. Is that fair something in the $220 million range ex working capital changes?

[Chris Kastner]

Yes I'll not going to comment on where I think it's going. I've given you all the information would on the tax rate we have not that's book tax, the cash tax will that will settle out 2019 or '20 when we get agreement with the IRS. So I'm being punished by giving too information here unfortunately. So I tried to give you all the factors that influence cash flow. You saw what happens in working capital in 2018 and that potential effect that can add for 2019. And I think there's enough information for you to derive a reasonable estimate for 2019 and 2020.

[Unidentified Participant]

Last one for me on CVN 79 give you as sort of any kind of commentary on EICs in the quarter? And whether that was a source of any variance either way.

[Mike Petters, President & CEO]

Nothing material. We're pleased with how 79 is progressing.

[Chris Kastner]

Right. yes we've been as we've been program team set up a target for launching this ship earlier and moving the launch into 2019 from 2020. They've been pretty steady and persistent at achieving the things they need to achieve get done. We're encouraged by that packet and it's been holding the line for quite a while now. So that program is coming together. And I think even more importantly now with more two behind it becomes a really important key foundation for the future of the business.

[Operator]

Our next question comes from David Strauss from Barclays.

[David Strauss, Barclays]

Following up on that in terms of the Kenny launch. So it safe to assume or I guess you guys are assuming that the launch doesn't occur in 2019 and in your margin guidance 7% and 9% margins? And how big of a swing factor is that in terms of margins in 2019 as to whether that occurs or not?

[Mike Petters, President & CEO]

Yes we don't give specific projections of what we think that might be. We have to execute it a then evaluated. As not necessarily even without the launch we believe we can get to 9% to 10% return on sales range for next year. There's a lot of things going on in 2020.

[David Strauss, Barclays]

Okay. Question on CAS recovery it seem like on the last call I don't think you were on it Chris. but seems Like they were tempering an idea that CAS will drop off. You focus a pretty big CAS drop off from 2019 and 2018. And it sounded like in the prior call you were potentially talking about another big drop off in 2020 but that number we're seeing here is that our result of the performance in 2018 or how do we think about CAS recovery levels longer term?

[Chris Kastner]

Yes I'll give you 2019 and '20. '21 it does come down a bit and that a little less than we thought in '20 driven by discount rates and asset returns. But you should see beyond '20 metering down a bit along with FAS and contributions.

[Operator]

Our next question comes from Joseph DeNardi of Stifel.

[Joseph DeNardi, Stifel]

Just a quick one for Chris. Does the you have for the block five for CVN effective program accounting for 79 in anyway?

[Chris Kastner]

No.

[Joseph DeNardi, Stifel]

Okay. And then Mike you've talked about how healthy shipyard the 9% or 10% margin on average I think maybe I'm coming up with the on average part of that. But you're obviously little bit below that now. I'm wondering if you have kind of line of sight into when margins could be better than that just based on a lot of it being the block 5 as this CVN can go from kind of a dilutive margin to non accretive margin four or five years whether you actually have line of sight into a few-year period remarks can actually be better than average?

[Mike Petters, President & CEO]

Yes. I would, interesting question. Frankly my view is that if we get too far above the 10% range what that will indicate is that we're not backfilling the work. And so while it would feel really good because you got a really good number. It's not exactly the healthiest place for you to be. And so our intent our focus will be getting the risk registered retire. So we can optimize the return on these programs. If we see that we have a different outlook at that point we will. But more importantly we're going to be working hard to try to continue to backfill the work so we keep that were added late in the healthy range.

[Operator]

And it's a time I'm showing no further questions. I would like to turn it over to Mike Petters, President and CEO for any closing comments.

[Mike Petters, President & CEO]

Well we thank you all for your interest in the business. We continue to focus on execution and the work that's happening across the full range of our business. We appreciate your interest and your time today and we look forward to seeing you in the future. Thank you.

[Operator]

Ladies and gentlemen thank you for participating in today's conference. This test as of the program and you may now disconnect. Everyone have a great day.