July 30, 2020, 6:41 a.m. EDT


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(EDGAR Online via COMTEX) -- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations OVERVIEW Northrop Grumman Corporation (herein referred to as "Northrop Grumman," the "company," "we," "us," or "our") is a leading global aerospace and defense company. We use our broad portfolio of capabilities and technologies to create and deliver innovative platforms, systems and solutions in space; manned and autonomous airborne systems, including strike; hypersonics; cyber; command, control, communications and computers, intelligence, surveillance and reconnaissance (C4ISR); and logistics and modernization. We participate in many high-priority defense and government programs in the United States (U.S.) and abroad. We conduct most of our business with the U.S. government, principally the Department of Defense (DoD) and intelligence community. We also conduct business with foreign, state and local governments, as well as commercial customers. The following discussion should be read along with the financial statements included in this Form 10-Q, as well as our 2019 Annual Report on Form 10-K, the Form 8-K that we filed with the SEC on April 29, 2020, which recasts the disclosures in certain portions of the 2019 Annual Report on Form 10-K to reflect changes in the company's reportable segments, and the Quarterly Report on Form 10-Q for the quarter ended March 31, 2020. These documents provide additional information on our business and the environment in which we operate and our operating results. COVID-19 Coronavirus disease 2019 ("COVID-19") was first reported in late 2019 and has since dramatically impacted the global health and economic environment, including millions of confirmed cases, business slowdowns or shutdowns, government challenges and market volatility. In March 2020, the World Health Organization characterized COVID-19 as a global pandemic, and the President declared a national emergency concerning the COVID-19 outbreak. The company's leadership, our crisis management and business resumption teams, and local site leadership continue closely to monitor and address the developments, including the impact on our company, our employees, our customers, our suppliers and our communities. The company has considered and continues to consider guidance from the Centers for Disease Control (CDC), other health organizations, governments and our customers, among others. We have taken, and continue to take, robust actions to help protect the health, safety and well-being of our employees, to support our suppliers and local communities, and to continue to serve our customers. Our goals have been to lessen the immediate potential adverse impacts, both health and economic, and to continue to position the company for long-term success. Like the communities in which we serve, our actions have varied depending on the spread of COVID-19 and local health requirements, the needs of our employees and the needs of our business. Among other actions, we have required or enabled employees to work from home or remotely where practicable, and expanded IT and communication support to enhance their productivity; adjusted work spaces and shift schedules to facilitate social distancing for those who continue to work in our facilities; enhanced cleaning and disinfecting procedures at our facilities; required face coverings and worked to procure and distribute personal protective equipment ("PPE"); implemented health checks and visitor protocols; restricted travel; provided additional benefits including paid time off for those most at risk; and contributed financial and manufacturing resources to supporting critical national requirements, such as for PPE. Along with the Northrop Grumman Foundation, we have provided grants for global, national and local organizations that support frontline healthcare workers, address food insecurity, advance efforts for vaccines, increase student access to technology and provide support to vulnerable populations; donated PPE items to emergency response teams and healthcare professionals, including N95 masks and Tyvek suits; and established a COVID-19 relief matching gift program for employees. Earlier in the COVID-19 pandemic, many state and local jurisdictions implemented mandatory stay-at-home or shelter-in-place orders. Most of those orders exempted some or all of the defense industrial base, including Northrop Grumman and many of our suppliers, as part of the essential or critical infrastructure. Our facilities have largely remained open and many of our employees who cannot work remotely are continuing to come to work and support our customers' national security and mission-essential operations. More recently, state and local jurisdictions started to lift mandatory stay-at-home or shelter-in-place orders and started gradually to ease restrictions. We started to implement return to office plans to allow some employees who had been working remotely slowly to return to the workplace. At our facilities, we generally saw employee absenteeism decrease and productivity increase during the second quarter. Most recently, as cases have resurged in parts of our country, including areas in which we maintain large facilities, we have seen governments slow or reverse efforts to reopen or shift into later phases of recovery, with increased risks to our operations. Throughout, we have worked to adapt and to take robust actions to protect the health, safety and well-being of our employees and to serve our customers, considering, among other things, state and local requirements and guidance from the CDC. We have also taken various steps in efforts to support our

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suppliers, with a particular focus on critical small and midsized business partners, including passing through increased progress payments from DoD to our suppliers and accelerating payments to certain suppliers.

        Selected financial highlights are presented in the table below:
                                           Three Months Ended June 30           %          Six Months Ended June 30          %
        $ in millions, except per share
        amounts                              2020               2019         Change          2020             2019        Change
        Sales                           $      8,884       $      8,456          5 %    $     17,504       $  16,645          5 %
        Operating costs and expenses           7,890              7,510          5 %          15,576          14,763          6 %
        Operating costs and expenses as
        a % of sales                            88.8 %             88.8 %                       89.0 %          88.7 %
        Operating income                         994                946          5 %           1,928           1,882          2 %
        Operating margin rate                   11.2 %             11.2 %                       11.0 %          11.3 %
        Federal and foreign income tax
        expense                                  198                167         19 %             383             338         13 %
        Effective income tax rate               16.5 %             16.2 %                       17.0 %          16.4 %
        Net earnings                           1,005                861         17 %           1,873           1,724          9 %
        Diluted earnings per share      $       6.01       $       5.06         19 %    $      11.16       $   10.11         10 %
        Current Quarter

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See "Segment Operating Results" below for further information by segment and "Product and Service Analysis" for product and service detail. See Note 9 to the financial statements for information regarding the company's sales by customer type, contract type and geographic region for each of our segments. Operating Income and Margin Rate

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Beginning in the second quarter of 2020, the company no longer considers certain unallowable costs as part of management's evaluation of segment operating performance. As a result, certain unallowable costs, which were previously included in segment operating results, are now reported in Unallocated corporate expense within operating income. This change has been applied retrospectively in the accompanying financial information. See Notes 1 and 9 to the financial statements and Part II, Item 5 for further information regarding the impact of this change on the company's current and prior period segment information. We present our sectors in the following business areas, which are reported in a manner reflecting core capabilities:

        Aeronautics Systems      Defense Systems       Mission Systems        Space Systems
                               Battle Management &   Airborne Sensors &    Launch & Strategic
         Autonomous Systems      Missile Systems          Networks              Missiles
                                                           Cyber &
          Manned Aircraft       Mission Readiness     Mission Solutions           Space
                                                      Systems & Sensors
                                                         Targeting &

This section discusses segment sales, operating income and operating margin rates. In evaluating segment operating performance, we look primarily at changes in sales and operating income. Where applicable, significant fluctuations in operating performance attributable to individual contracts or programs, or changes in a specific cost element across multiple contracts, are described in our analysis. Based on this approach and the nature of our operations, the discussion of results of operations below first focuses on our four segments before distinguishing between products and services. Changes in sales are generally described in terms of volume, while changes in margin rates are generally described in terms of performance and/or contract mix. For purposes of this discussion, volume generally refers to increases or decreases in sales or cost from production/service activity levels and performance generally refers to non-volume related changes in profitability. Contract mix generally refers to changes in the ratio of contract type and/or lifecycle (e.g., cost-type, fixed-price, development, production, and/or sustainment). Segment Operating Income and Margin Rate Segment operating income, as reconciled in the table below, and segment operating margin rate (segment operating income divided by sales) are non-GAAP

                                            Three Months Ended June 30          %          Six Months Ended June 30           %
        $ in millions                          2020              2019        Change          2020             2019         Change
        Segment operating income         $       1,031       $     993           4  %   $     1,998       $     1,971          1  %
        Segment operating margin rate             11.6 %          11.7 %                       11.4 %            11.8 %
        CAS pension expense                        205             199           3  %           412               399          3  %
        Less: FAS (service) pension
        expense                                   (102 )           (92 )        11  %          (204 )            (184 )       11  %
        Net FAS (service)/CAS pension
        adjustment                                 103             107          (4 )%           208               215         (3 )%
        Intangible asset amortization
        and PP&E step-up depreciation              (77 )           (98 )       (21 )%          (159 )            (194 )      (18 )%
        Other unallocated corporate
        expense                                    (63 )           (56 )        13  %          (119 )            (110 )        8  %
        Unallocated corporate expense             (140 )          (154 )        (9 )%          (278 )            (304 )       (9 )%
        Operating income                 $         994       $     946           5  %   $     1,928       $     1,882          2  %

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Current Quarter

                                                             Three Months Ended June 30            Six Months Ended June 30
        $ in millions                                          2020                2019             2020               2019
        Favorable EAC adjustments                        $        241         $        283     $       517         $       518
        Unfavorable EAC adjustments                              (129 )               (125 )          (281 )              (222 )
        Net EAC adjustments                              $        112         $        158     $       236         $       296

Net EAC adjustments by segment are presented in the table below:

                                Three Months Ended June 30            Six Months Ended June 30
        $ in millions             2020                2019             2020               2019
        Aeronautics Systems $         22         $         59     $        34         $       110
        Defense Systems               39                   38              61                  70
        Mission Systems               59                   52             138                  87
        Space Systems                 (7 )                 16               5                  37
        Eliminations                  (1 )                 (7 )            (2 )                (8 )
        Net EAC adjustments $        112         $        158     $       236         $       296

For purposes of the discussion in the remainder of this Segment Operating Results section, references to operating income and operating margin rate reflect segment operating income and segment operating margin rate, respectively.

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        AERONAUTICS SYSTEMS                 Three Months Ended June 30           %           Six Months Ended June 30           %
        $ in millions                         2020               2019          Change          2020             2019          Change
        Sales                            $      2,925       $      2,721          7 %     $     5,768       $     5,539          4  %
        Operating income                          310                299          4 %             573               610         (6 )%
        Operating margin rate                    10.6 %             11.0 %                        9.9 %            11.0 %
        Current Quarter

        DEFENSE SYSTEMS                     Three Months Ended June 30           %           Six Months Ended June 30            %
        $ in millions                         2020               2019          Change          2020             2019          Change
        Sales                            $      1,886       $      1,916         (2 )%    $     3,767       $     3,684          2  %
        Operating income                          217                212          2  %            415               416          -  %
        Operating margin rate                    11.5 %             11.1 %                       11.0 %            11.3 %
        Current Quarter

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Operating Income

Jul 30, 2020


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