L-3 Communications Holdings, Inc. (LLL)

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L-3 Communication Holdings Inc. (LLL)

December 04, 2012 9:00 am ET

Executives

Curtis Brunson - Executive Vice President of Corporate Strategy & Development

Richard A. Cody - Senior Vice President of Washington Operations

Michael T. Strianese - Chairman, Chief Executive Officer, President and Member of Executive Committee

John C. McNellis - Senior Vice President and President of Integrated Systems Group

Susan D. Opp - Vice President and President of Communication Systems-West

Leslie A. Rose - President of National Security Solutions Group and Vice President

Steven Kantor - Corporate Senior Vice President, President of Services Group and President of Electronic Systems Group

Ralph G. D'Ambrosio - Chief Financial Officer and Senior Vice President

Analysts

Cai Von Rumohr - Cowen and Company, LLC, Research Division

George Shapiro

Presentation

Curtis Brunson

Good morning. I'm Curtis Brunson, Executive Vice President for Strategy and Development for L-3, and I'd certainly like to welcome you to the 2012 Investor Conference. We've got a pretty good lineup for you today.

Let me start out with the Safe Harbor statement. So I'll give you a minute to take a look at that. And what I want to do is just spend a moment or 2 going through the agenda for today. We're going to start out with General Richard Cody, who's going to give you a little view of the geopolitical environment and what we're wrestling with as an industry, followed by Mike Strianese, our Chairman, President and CEO, who will take you through the company. And then what we'll do is walk you through each of the business segments, starting with AM&M and C3ISR with John McNellis. Susan Opp will finish up with the other part of the C3ISR. Then, we'll have Les Rose take you through National Security Solutions. Take a little break. Steve Kantor will then do our Electronic Systems group and Ralph will give you the financials and then we'll have a Q&A session.

So with that, I'd like to go ahead and kick off today and ask General Richard Cody to take us through the geopolitical.

Richard A. Cody

Okay. Thank you, Chris. Good morning, everybody. What I thought I do today, comes up here, is kind of take you through the world, the geopolitical world, and what it means to our customer. And I'm going to focus today on our DoD customer, as well as our partners in the international. So all of you know last year, Bob RisCassi and I hit upon that we've gone from a bipolar Cold War to a single pole with the U.S. dominant now to a multipole with an ascendant China, a resurgent Russia, as well as the fact that after 10 years of war, almost 11 years of war, there really is no one large country that has maintained global superiority in any one phase, whether it be economic, whether it be military, whether it be in the political arena, and that has created a vacuum. And so today, as you take a look across the globe, we have several flashpoints. You're very familiar with the flashpoints of Iran, through their surrogates with Syria, through Lebanese Hezbollah, through a Shia-now-dominated Iraq and their support of Syria through Iran, as well as its nuclear capability and what it means to, most importantly, Israel, as well as if they use and let export nuclear capability to their surrogates, what it means to the world.

North Korea has got a new leader. They're getting ready to launch another missile in violation of what the United Nations have told them. They're continuing to be a problem there. India and Pakistan continue. They're both nuclear countries. People forget that they've been arguing over the same piece of land for quite some time, then you throw in terrorist attacks across borders. They're still problematic. Afghanistan, Iraq -- Afghanistan is what it is. The administration says that we're going to be out of there in 2014. They're having those discussions now. That is going to create more pressure on Pakistan, as well as other neighbors. And then Iraq, we've left it to their own devices now. What we've left is the Kurdistans up -- the Kurds up in the north who's getting embroiled now with the Syria revolution. You've got the Sunnis that we left armed, and you've got the Shia-dominant in charge. In fact, the Vice President, who's a Sunni, is now in exile in Turkey. And so it's rife for a Civil War that could all be drawn in over time as the Mideast, if anybody miscalculates. And then you've got the transnational Islamic terrorists. You've got China, and China being the economic growth that they, are has always been insular about taking care of their people first. But now you're seeing things in the South China Sea, in the Philippines and Vietnam, where they're challenging the international waters in the Pacific. Russia is still a player. They've been on the sidelines on Iran. They've been a stumbling block for that, but they're trying to have a resurgence as we speak. And then you have Israel that has no land to trade. They're now squeezed between Lebanese Hezbollah with newer missiles, the Hamas with their new missiles. Iron Dome worked fine, but it only takes 2 or 3 big ones to get through and that's of course what Netenyahu and his government's now trying to deal with as they keep -- continue to look. And then across the board, there's other failed states. Of the 20 failed states in the world today, either through terrorism, governance, lack of food, lack of water, ethnic violence, of the 20, 14 of them are in Africa. And you don't hear much about Africa. You hear about the shift to the Pacific because of China and because of other problems over there. Africa has 14 of the 20 failed states right now and several others at what we call strategic crossroads. So that's kind of what the global environment looks like. And last -- well, this past January, the national security team, led by the Secretary of Defense and the President and the Chairman of the Joint Chiefs, came out with a new strategic guidance. It wasn't a national military strategy per se, but it laid down the markers of what would be a national security strategy and national military strategy. And here's what they laid out in terms of their focus, which then drives the accounts and the structure and the equipping of the military that we support. al-Qaeda rebalanced to the Asia-Pacific. They called it pivot originally, but now they've gone back and forth because they realized they can't really say pivot, that means you're turning your back on what's going on in the Mideast and other places.

Presence in and support of partner nations in the Middle East. Five revolutions in the Arab Spring now moving to an Arab Fall, and you've recently seen what's happened in Egypt. You also have the Southern Sudan. You now have Mali, as well as Jordan, which is caught in the middle of some of this in Bahrain. In Saudi Arabia, a Sunni-dominated, Sunni-led nation, staring all around them is a Shia-dominated regimes that are having revolutions. And then evolving the posture to Europe. That really means we're going to help our European NATO partners with more equipment, more FMS, and we want them to pony up more troops and any type of excursions.

Continuing on. Low cost, low footprint -- low cost, a small footprint. In other words, be laser focused with the smaller formations around the world where we can apply the appropriate type of diplomacy, defense efforts. And then the last bullet is counter-proliferation of WMD. So when you take a look at that and say, "Okay. That's what they want to do," and that goes down now to all the services. But the bottom line is here is where the United States Army, Air Force, Navy and Marine Corps are today. Each one of those dots represents their bases, the large footprints. It could be a carrier group in the Persian Gulf. We just had 2, one just steamed out of there. It could be a division that's posted someplace. But this is the U.S. presence. And with that guidance, basically, the OpTempo of the military, the U.S. military, is probably going to revert back to pre-9/11. That said, what is missing from all this is you have to understand that since 2003, when we repositioned and barracked all our forces, Army, Navy, Air Force, the Marine Corps, 90% of our fighting force is CONUS based. So to maintain those presence, you have to rotate forces further distances from the United States, from their ports, from their air bases and rotate them in and out to maintain that presence. So couple that with this pivot to Asia and the strategic requirements for the services, they're going to need more ISR to cover the distances. They need more counter anti-access and area denial, which means more electronic warfare, anti-submarine warfare capability, missile defense, not just static missile defense, but missile defense on our destroyers and cruisers.

Renewed alliances. Philippines, Thailand, India, Vietnam, these are all the ones that are getting pressured by China, New Zealand and Australia. With those renewed alliances means more rotation of forces in to help partner and build up through either FMF or FMS. Those -- so that those armies and air forces and Marines and special operating forces so that they can be more -- bring more to the fight, if you have a fight coming, versus putting a preponderance of U.S. troops. And then strengthening the U.S., South Korea, Japan based upon of the North Korean threat and the threat of China in the South China Sea. All this means that in order to do this with the tyranny of distances, there's probably going to have to be new bases. We may have to go back to Subic Bay. We may have to go -- in Singapore, we're going to base 2 of our brand-new littoral combat ships out of Singapore and create a new footprint there on a rotational basis. We're putting troops in -- or already have troops in Australia. We're going to be shipping quite a few of the Marines down to Guam. And then Vietnam has talked about reopening Cam Ranh Bay and having our ships back and forth through Cam Ranh Bay. So this shift is interesting, and everybody talks about the OpTempo. But there is a cost to all of this, and I predict that the OpTempo cost, even though the presence is going to be similar to 9/11, the OpTempo cost, because of the restationing and the reship, something is going to have to give in the budget in the out-years.

So let me drop back just for a second. I don't mean you to give you a history lesson, but the Pentagon and the National Security State Department people have written national security strategies and military strategies for years. I've been part of some of them in the late 90s and stuff. Let me tell you how this works. This was the bipolar world, 1950 to 1989, and what I did was I took actual deployments where we went and fought based upon a strategy, know this was important for us. Back then, we had a huge military. We deployed it 10 times in 40 years because of the Cold War. 1989, the wall came down, peace was about to break all over the world. 1991, we fought a fight to kick Saddam Hussein out of Kuwait and then we went to a 40% drawdown across the Army, Navy, Air Force and Marine Corps. But at the same time, here's what the world was. These are actual deployments, and this is across a spectrum of conflict. In other words, we had a national military strategy. No peer competitor. We'll resize our force. We'll resize our Air Force. We'll downsize our Navy. We'll take 5 divisions out of the United States Army. We'll downsize our Marine Corps. We'll throttle back on our acquisition and procurement, if you all remember the last supper with Bill Perry that restructured and took about $50 billion over so many years of our stuff. We've been here before, but here is what happened after all that. These are all the places we bet. So our national military strategy is interesting. It's what we want to do, but we don't control it. And when you take into the fact that we're now into a multi-polar world with no real superior country, being able to control things even in the UN and you've got all these failed states and states that are about to fail and you've got rising cost, you got rising medical, you've got natural disasters, everybody turns to the United States still and says you need to help us.

So with that as a backdrop, what I want to do now is tell you what the services are focused on based upon what they've been given since January, as well as the budget that still hasn't passed the props for FY '13. I have no budget charts for you today like I had last year, so I won't bore you with them.

So the U.S. Army. They're about 550,000. They've got that many troops deployed. On any given day, the active number is that, but the number that are being paid for on active duty is north of 650,000. Why? Because you have a lot of guard and reserves on active duty every day. You see them here in New York. They're still guarding train stations and other places, but you see them in Bosnia, you see them in Egypt and the Sinai, still there. So on any given day, across any one of the services, what their active duty strength is interesting, but they also have about 10% more on active duty from their reserve forces. Over 96,000 deployed. This is the amount of equipment that's either coming out of Kuwait or is in Afghanistan right now that has been there for 5 to 10 years fighting in the worst conditions. And you can see how many are deployed overseas. This is a CONUS-based force. And to be able to execute that footprint I showed you to go to Africa, like the Chief of Staffs said that we are now going to give a brigade to the Africom and they're going to rotate that in, that comes with costs to move them in and out because they don't have a base there. So it's going to be a rotational force as we go forward. The focus on the Army is to be trained and ready. Based upon that strategy, I would say trained and ready for what? If it's threat based, it's a little cheaper. If it's trained and ready for everything I showed you on that big chart, with all those starburst, that's much more expensive. Combat commanders, refocusing brigades and special operations and aviations to the Pacific commander, the Africa commander and the Southern commander. The network is still high priority for the Army in getting their -- what used to be the FCS network is still -- when FCS got canceled, the network itself is still alive and well, WIN-T and other programs, followed by the new ground combat vehicle and then Army aviation. The real problem for the Army, as well as the Marines, is resetting all this equipment because they haven't put any sizable reset dollars since '06 in the budget. And all that stuff is coming home and they've got to reset it. They got a 0 time. The engines, they've got a 0 time. The frames, their airframes, generators, all the equipment has to be reset back at the depots and that's going to be a challenge for them as they turn around and try to get ready for this new strategy that they've got to execute post 2014. U.S. Navy is in a similar shape except they got 40% of their fleet deployed right now. And the shift to the Pacific and the tyranny of distances and the lack of our footprint is going to cause a lot more OpTempo on our carrier battle groups, our cruisers, our destroyers, our subs and everything else as they do it. 313 ships is their goal, they don't have that. I predict they're probably going to be at 40% to 45% deployed. And this is without anything happening, none of these flashpoints happen. You know about the aircraft programs. They got a fleet life extension right now on the F/A-18. Their aircraft fleet is not as bad as what I'm going to show you for the Air Force. But they're focused on the Pacific, clearly focused on A2AD upgrade of Aegis for missile defense because that's what's required for the strategy and then a lot of work being done openly and then behind doors on submarine and counter-submarine operations. Marine Corps, as you know, they're included in the U.S. Navy budget. They've got 50,000 for [ph] deployed, that's a small force. They're under 200,000. They've been asked to downsize also by another 20,000, but they've got 50,000 for deployed right now. They're part of the Navy's presence. Every time you put a carrier battle group out there, you're going to have a mag cap afloat, so their OpTempo is going to go up. Their high priority is getting the STOVL to replace the Harrier, recapitalizing their wheeled and tracked vehicle fleet, which has been worn out. They are moving back to a ship-based, light, agile Seaforce. That's why ship-to-shore connector is a high priority for them to replace the LCAC on the East and West Coast and the amphibious combat vehicle.

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