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Elbit Systems Ltd. (ESLT) Q4 2017 Earnings Conference Call Transcript


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Elbit Systems Ltd. (NASDAQ: ESLT)
Q4 2017 Earnings Conference Call
March 20, 2018, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Elbit Systems Fourth Quarter and Full-Year 2017 Results Conference Call. All participants are at present in a listen-only mode. Following management's formal presentation, instructions will be given for the question-and-answer session. As a reminder, this conference is being recorded.

You should have all received by now the company's press release. If you have not received it, please contact Elbit's investor relations team at GK Investor and Public Relations at 1-646-688-3559 or view it in the news section of the company's website at www.elbitsystems.com. I would now like to hand over the call to Mr. Kenny Green of GK Investor Relations. Kenny, please go ahead.

Kenny Green -- GK Investor Relations

Thank you, Operator. Thank you, everyone, and good day. On behalf of all the investors, I would like to thank Elbit Systems' management for hosting this call. Joining us on the call today are Mr. Bezhalel Machlis, Elbit's President and CEO, and Mr. Yossi Gaspar, Elbit Systems' Chief Financial Officer.

Yossi will begin by providing a discussion of the financial results for the fourth quarter and full-year of 2017, followed by Butzi, who will talk about some of the highlights and significant events during the quarter and beyond. We will then turn the call over to the question-and-answer session.

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Before we begin, I would like to point out that the safe harbor statement in the company's press release issued earlier today also refers to the contents of this conference call. And with that I would now like to hand the call over to Yossi. Yossi, please go ahead.

Joseph Gaspar -- Executive Vice President and Chief Financial Officer

Thank you, Kenny. Hello, everyone, and thank you for joining us today. As we do every quarter, we will provide you with both our regular GAAP financial data as well as certain supplemental non-GAAP information. You can find all the detailed GAAP financial data as well as the non-GAAP information and reconciliation in today's press release.

Overall, we are pleased with our performance in 2017 as well as the fourth quarter. In particular, we believe the growth in our backlog as well as the increased portion of the long-term projects within the backlog sets us up well, not only for the coming years but also for the longer term.

I will now highlight and discuss some of the key figures and trends in our financial results. Our fourth quarter 2017 revenues crossed the $1 billion revenue mark for the first time in our history, reaching $1,009.6 million compared with $953.7 million reported in the fourth quarter of 2016, up 5.9% year-over-year. For 2017 as a whole, our revenues were $3.38 billion versus $3.26 billion last year, representing a growth of approximately 3.7%.

In terms of revenue breakdown across our areas of operation in the quarter, airborne systems was 37%, C4ISR was 33%, land systems was 16%, electro-optics 9%, and the rest was 5%. Compared with the fourth quarter of last year, sales as a percentage of revenues of our main areas of operation was similar to those as of the fourth quarter last year with a slight increase in airborne and land systems sales and a slight decrease in C4ISR and electro-optics sales.

In terms of geographic breakdown for the quarter, we continue to be fairly evenly diversified between the various regions in which we operate, with North America at 24% of revenues, Europe at 23%, Israel at 23%, Asia Pacific at 16%, Latin America at 4%, and the rest of the world at 10%. Compared with the fourth quarter last year, we saw a lower contribution from Latin America and Asia Pacific, a slight increase in Israel, and increased sales to the rest of the world mainly due to increased electro-optics sales.

Looking at 2017 as a whole, we saw increased contribution from land systems and electro-optics and lower contributions for C4ISR. Geographically in 2017, our revenues were fairly diversified between North America, Asia Pacific, Europe, and Israel, all between 20% and 25%. Compared with last year, we saw increased contribution from Europe and a decreased contribution from Asia Pacific.

For the fourth quarter, the non-GAAP gross margin was 28.6% versus 30.3% in the fourth quarter of 2016. Our GAAP gross margin was 28.1% versus 29.4% last year. For the full year of 2017, gross margins were at similar levels to those of last year. Non-GAAP gross margin was 30.2% versus 30.4% last year. GAAP gross margin was 29.5% versus 29.4% last year.

The fourth quarter non-GAAP operating income grew 14% to $110.5 million, or 10.9% of revenues, compared to $97.3 million, or 10.2% of revenues, last year. GAAP operating income increased by 18% to $103.6 million, or 10.3% of revenues, versus $87.5 million, or 9.2% of revenues, last year.

For 2017 as a whole, non-GAAP operating income grew 8% to $347.9 million, or 10.3% of revenues, compared to $322.5 million, or 9.9% of revenues, last year. GAAP operating income grew 7% to $319.3 million, or 9.5% of revenues, versus $299 million, or 9.2% of revenues, last year.

During 2016 we had other income of approximately $17.6 million, which we do not include in our non-GAAP results. This was due to gains from two of our commercial venture subsidiaries in energy and automotive areas following a round of outside investments.

In terms of our GAAP expenses for the quarter, total operating expenses were 17.8% of revenues compared to 20.3% of revenues in the fourth quarter of last year. The operating expense breakdown in the quarter was as follows: net R&D expenses at 7.2% of revenues versus 7% last year; marketing and selling expenses at 8% of revenues versus 9.3% last year; and G&A expenses at 2.6% of revenues versus 3.9% last year.

For the full year, operating expenses were generally similar to those of last year other than for the G&A, which was lower. Operating expenses amounted to 20.1% of revenues in 2017 compared with 20.3% last year. The breakdown was: net R&D expenses at 7.8% of revenues, similar to last year; marketing and selling expenses were at 8.3% of revenues, similar to last year; and G&A expenses at 3.9% of revenues versus 4.6% last year. I note that during 2017, and particularly during the fourth quarter, we had a significant decrease in G&A expenses as a result of a reevaluation of liabilities related to assets and activities acquired in prior years.

Financial expenses for the fourth quarter of 2017 were $9.7 million compared to financial expenses of $9.2 million in the fourth quarter of last year. In 2017, our financial expenses were $34.5 million compared to $23.7 million last year. Financial expenses in 2017 were relatively high mainly due to losses from exchange rate differences. In 2017, financial expenses were relatively low due to gains from various currencies' exchange rates.

Taxes in the fourth quarter were $25.4 million, or 27.1% of pre-tax income, versus $9.8 million, or 12.5% of pre-tax income, in the fourth quarter of last year. For the year, taxes were $55.6 million, or 19.5% of pre-tax income, versus $45.6 million, or 16.3% of pre-tax income. The higher level of tax in the fourth quarter was primarily due to a recent change in U.S. tax regulations whereby there was a one-time reduction in our deferred tax assets amounting to $10.9 million. Note that this non-cash expense is excluded under our non-GAAP results. We will benefit from the recent changes in the U.S. tax law in the upcoming years.

For the fourth quarter, non-GAAP net income was $86.1 million, or a net margin of 8.5%, versus $77.7 million, or a net margin of 8.2%, last year. Non-GAAP diluted earnings per share were $2.01 compared with $1.82 last year, an increase of 10%. On a GAAP basis, fourth quarter net income was $69.4 million, or a net margin of 6.9%, versus $67.1 million, or a net margin of 7%, last year. GAAP diluted earnings per share were $1.62 compared with $1.57 last year.

For 2017 as a whole, non-GAAP net income was $273.9 million, or a net margin of 8.1%, versus $254.2 million, or a net margin 7.8%, last year. Non-GAAP diluted earnings per share were $6.41 compared with $5.95 last year, an increase of 8%. On a GAAP basis, full-year 2017 net income was $239.1 million, or a net margin of 7.1%, versus $236.9 million, or a net margin of 7.3% last year. GAAP diluted earnings per share were $5.59 compared with $5.54 last year.

Our backlog of orders as of December 31, 2017, was $7.64 billion, $738 million higher than the backlog at the end of the fourth quarter of 2016, representing an increase of 10.7%. Approximately 65% of the current backlog is scheduled to be performed during 2018 and 2019, and 35% of the current backlog is scheduled for beyond. The ratio last year was 68% and 32%, respectively. Hence the backlog has become slightly more longer term, which provides the long view.

Operating cash flow for the quarter was a positive of $240.9 million compared with a positive cash flow of $239.5 million in the same quarter last year. For 2017 as a whole, we had a positive cash flow of $101 million versus $208 million last year. The cash flow reduction reflects an increase in receivables, partially due to longer payment terms to some customers in line with our market trends.

The Board of Directors declared a dividend of $0.44 per share for the fourth quarter of 2017. In total, dividends paid per ordinary shares in 2017 were $1.76, 10% more than in 2016.

That ends my summary and I shall now turn over the call to Mr. Machlis, Elbit's CEO. Butzi, please.

Bezhalel Machlis -- President and Chief Executive Officer

Thank you, Yossi. As Yossi mentioned, we are indeed pleased with our performance in 2017 and are well-positioned for continued growth in 2018. Underlying our confidence is the continued strong growth in backlog that we demonstrated again this quarter. It grew by 11% over last year with a larger portion of the growth being in the longer term part of the backlog. Even in the short term, covering the next two years, our backlog growth remained robust, growing over 6% ahead of the pace we saw at the same time last year. The backlog is a metric which I believe is a strong indicator for the health of our businesses for the near- to long-term. It continues to provide us with good revenue visibility into our businesses.

As you know, we have been working hard to capitalize on the increasing opportunities and positive momentum we are seeing in many of our end markets, especially in Europe and emerging areas. Our contracts have contributed to our growth and I would like to highlight some of the major wins that we announced in the past few months.

In January, we were pleased with a major $150 million contract with the Australian Department of Defense, which we believe will significantly enhance and strengthen our local support capabilities in that region. The contract was to provide Through Life Support services to the Australian Defence Force for the Battle Management System Command and Control. The contract was for a five-year term with optional extensions of up to seven years that can be exercised in the future. This contract represents our long-term commitment to the Australian defense forces' innovation efforts.

In January, we were also awarded a four-year, $85 million contract with a European country for a range of advanced ground-based electronic warfare and signal intelligence systems. We are encouraged by the growing demand for our solutions for many countries in Europe and we see robust defense spending in this region for the foreseeable future.

Earlier in December of last year, our U.S. subsidiary won a $25 million contract for one year with potential value of multi-year extensions amounting up to $176 million with DynCorp International. The contract was to provide Life Cycle Contractor Support for the U.S. Army's C-26 and UC-35 fleet of aircraft. This contract reinforced our U.S. market position as the leading provider for Life Cycle Support for airborne projects.

Furthermore, we also received a follow-on, four-year, $46 million contract to supply J-Music DIRCM self-protection system to NATO for its Airbus A330 Multinational Multi-Role Tanker Transport Fleet Program.

And finally, in Israel we won a $74 million contract with the Israeli Ministry of Defense for the flight simulators for the upgraded C-130H and C-130J transport aircraft of the Israeli Air Force. We will be setting up and operating the IAF training center for these aircraft, providing two interconnected flight simulators that enable single and squadron training and a ground crews simulator that enables high fidelity training of aircraft maintenance procedures. The contract is a long-term one, over 13 years, which includes the setup stage of approximately three years and then a further 10-year operating period.

Earlier this month, the Israeli Finance Ministry announced their offer of its commitment for sale of IMI system to Elbit. We are continuing the discussions with the government regarding the conditions to complete the acquisition. Elbit remains the perfect point. In all, they are major awards in many of our target geographical defense spending and otherwise, while at the same time, controlling defense spending is getting a greater portion of the overall defense budget.

As always, Elbit remains very well positioned to continue to capitalize and build on this plan. And with that, I will be happy to take your questions.

Questions and Answers:

Operator

Thank you. Ladies and gentlemen, at this time we will begin the question-and-answer session. If you have a question, please press "*1". If you wish to cancel your request, please press "*2". If you are using speaker equipment, kindly lift the handset before pressing the numbers. Your questions will be polled in the order they are received. Please stand by while we poll for your questions.

First question is from Yoav Burgan of Poalim Sahar. Please go ahead.

Yoav Burgan -- Poalim Sahar -- Analyst

Hi. Thank you. Hi, Yossi. Hi, Butzi. I have two or three questions. First one, I guess it's for you, Yossi, if I look at the backlog at the end of Q4, obviously on a year-over-year basis it reflects a significant growth. But if I look at it on a quarter-over-quarter basis, it seems to have stagnated. So is this something that I can assume temporary or insignificant? Because given the orders that came in since the beginning of this year, would it be prudent to assume that the backlog growth has resumed?

Joseph Gaspar -- Executive Vice President and Chief Financial Officer

I would say the following. If you look at the structure of the backlog, and we did address that in our press release actually, the total backlog has grown close to 11%, actually 10.6% or something like that. However, the near-term backlog -- that means the backlog to be transformed into revenues during 2018 and '19 has grown about 6%. That means the backlog is a little bit longer term, which gives us a good view for stability. So it is correct that the backlog in the last quarter has grown marginally only but please keep in mind that we had over $1 billion in revenues. That means that we did receive more than over $1 billion of new business in the last quarter. So bottom line is that for the near-term, that means '18 and '19, the backlog has grown about 6%, in total close to 11%. So we do see ground for future growth in the revenue in the quarters to come.

Yoav Burgan -- Poalim Sahar -- Analyst

Okay. Good, Yossi. Thank you. That's helpful. My second question is on Soltam and the ATMOS artillery system and on the Israeli Ministry of Defense and the multi-year program. This has the potential to be a very significant boost to your backlog. Do you currently anticipate that this will be realized within the current year?

Bezhalel Machlis -- President and Chief Executive Officer

First, we are very proud of the decision taken by the Israeli MoD and with the [inaudible] [00:20:58] last week by the covenant to acquire new Howitzers for IDF from Elbit Systems and we are working together with the Minister of Defense to conclude the contract. And I hope it will happen soon. And you're right, there's a lot of potential for this program for Elbit. And in parting, I would like to mention that we are continuing to deliver advanced artillery systems from our land division, which includes Soltam as part of it, to many customers around the globe. So we see a lot of more potential for artillery systems, advanced, long-range, accurate artillery systems as part of an overall solution for many customers around the globe, including Israel.

Yoav Burgan -- Poalim Sahar -- Analyst

Okay. Good. And, Butzi, my last question, if I may, is on IMI, on the IMI transaction. I think there's a bit of a discrepancy. Today in the Tel Aviv conference that you held, I understood that the issues, that the remaining issues are pretty much issues that are out of your reach, out of your control. Anti-trust stuff and things like that. And then when I look at the report today, you mentioned that you're continuing the discussions with the Israeli government regarding the conditions to complete the transaction. So I guess my question is are there remaining commercial discussions between you and the government on the price, on the deal structure, or just regulatory issues?

Bezhalel Machlis -- President and Chief Executive Officer

No, there are no major commercial subjects to be discussed. Actually most of the subjects were concluded already. There are some procedural activities which need to be done. And of course we need to get the approval of the antitrust authority.

Yoav Burgan -- Poalim Sahar -- Analyst

Okay, good. Thank you very much, both of you.

Bezhalel Machlis -- President and Chief Executive Officer

Thank you.

Operator

The next question is from Ethan Etzioni of Etzioni Portfolio Management. Please go ahead.

Ethan Etzioni -- Etzioni Portfolio Management -- Analyst

Yes, thank you. I wanted to ask what do you see the potential contribution of ETAS and then do you see a significant expense for retiring workers and how long do you think it will take to bring ETAS up to the profitability that Elbit is used to.

Bezhalel Machlis -- President and Chief Executive Officer

That's a complicated subject to cover with a few sentences. However, I will say that we see a lot of synergies between Elbit and IMI. I'll just mention three of them. IMI has a very strong advanced line of artillery rockets, precise long-range artillery war cats. Elbit brings an advanced ISR solution with constant surveillance and command control systems. Combining the two will enable us to provide a comprehensive solution and an operational solution for potential customers. And we see opportunities for that around the globe.

The second area is around ammunition. IMI is the leading provider of advanced ammunition, air-to-ground, ground-to-ground, different types of ammunition. Elbit brings advanced electronics. Combining the two creates a strong precise ammunition portfolio and we see a lot of demand for precision around the globe to avoid collateral damage. And we believe combining the two portfolios together will enable us to bring truly advanced solutions to the market.

And the last area is around platforms. We have systems for ground platforms, mainly sites, for our control system, life support systems, and communications and command control solutions. IMI brings a different type of protection solutions, reactive and active systems. It's really advanced. Really modern. Very attractive, active, advanced protective solutions. They do also borrow. They do additional elements and combining those activities with their activities will enable us to bring very advanced solutions for customers around platforms.

These are just three examples of synergies between the two companies. Now, of course, it will take us time to combine capabilities and to combine capabilities between IMI and Elbit. But I believe we have -- the standard process actually gave IMI a strong portfolio, a strong backlog, which should give us enough time to reorganize the portfolio, to invest in R&D, to bring the current portfolios to the future market, and develop the future portfolio to the market by our marketing network, which is very advanced. And I'm sure that it will be a very successful acquisition, similar to the ones we have made in the past. And I would like to mention Elisra, which we acquired several years ago, which at the beginning was not in good shape. Today it's a very good company. The same goes with Soltam. So we know how to combine companies and I'm sure that we are in many potential markets. I'm sure that we'll be able to bring a full contract to Israel, to Elbit, and to Soltam which will be very important and good for Elbit, for Elbit employees, for IMI employees, for the Israeli economy, and for the security of the country.

Ethan Etzioni -- Etzioni Portfolio Management -- Analyst

Okay. Thank you and good luck.

Bezhalel Machlis -- President and Chief Executive Officer

Thank you.

Operator

The next question is from Vineet Gera of Citibank. Please go ahead.

Vineet Gera -- Citigroup -- Analyst

Thank you for taking up my questions. I've got a couple of them. My first question is gross margin was higher than normal in 3Q and lower in 4Q, both times due to fall out mix. Now is this related to high percentage of land sales in quarter or how should we think about gross margins going forward?

Joseph Gaspar -- Executive Vice President and Chief Financial Officer

Well, as you know we do not give guidance on financial parameters. However, we did see in the last several years continuous improvement in our gross margin, starting from about 27.5% gross margin to reaching about over 30%. And now we have about 29.5% on average for the recent quarters and for the full-year. I think this is a result of quite a lot of effort that has been done in the company to reduce costs, to reduce overhead, to combine business, to combine activities, divisions, production lines, and so on.

For going forward, I would say these activities of reducing the cost basis of the company continue. And for a little bit longer term, they will be even enhanced by adopting the new ERP system that we are working on. However, we are also facing some challenges in 2018 regarding with strong shackles, which we took into account when we did prepare our budgets for 2018 and going forward. So without giving you specific guidance, I think if you look back on what has happened in the last 4 to 6 quarters on average, that may be something that could be representative of the future.

Vineet Gera -- Citigroup -- Analyst

Okay. Thank you. And my second question, should we expect any more readjustments to assets impacting general administrative or is it all done in 2017 only?

Joseph Gaspar -- Executive Vice President and Chief Financial Officer

This is a result as an outcome of a merger and acquisition process when we occasionally have different views from the seller about the future potential growth of the acquired assets or business. We sometimes are a little bit on the conservative side. The seller is on the more optimistic side. And the way to bridge between these two approaches is to agree on some earnouts over by -- when they are paid out upon reaching some business goals. This is something that we see happening quite often in our business, in our acquisitions. We see that in other companies as well. So maybe this has happened at more material numbers this year. But back to your question, I would expect these things to happen in the future, maybe not at the magnitude that has impacted 2017.

Vineet Gera -- Citigroup -- Analyst

Thank you.

Operator

If there are any additional questions, please press "*1". If you wish to cancel your request, please press "*2". Please stand by while we poll for more questions.

There are no further questions at this time. Before I ask Mr. Machlis to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available two hours after the conference ends. In the U.S., please call 1-888-326-9310. In Israel, please call 039255904. And internationally, please call 97239255904. A replay of this call will also be available at the company's website at www.elbitsystems.com. Mr. Machlis, would you like to make your concluding statement?

Bezhalel Machlis -- President and Chief Executive Officer

I would like to thank our employees for their continued hard work. For everyone on the call, thank you for joining us today and for your continued support and interest in our company. Have a good day and goodbye.

Operator

Thank you. This concludes the Elbit Systems Ltd. Fourth Quarter 2017 Results Conference Call. Thank you for your participation. You may go ahead and disconnect.

Duration:33 minutes

Call participants:

Kenny Green -- Investor Relations

Joseph Gaspar -- Executive Vice President and Chief Financial Officer

Bezhalel Machlis -- President and Chief Executive Officer

Yoav Burgan -- Poalim Sahar -- Analyst

Ethan Etzioni -- Etzioni Portfolio Management -- Analyst

Vineet Gera -- Citigroup -- Analyst

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This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.



This article appears in: Personal Finance , Stocks
Referenced Symbols: ESLT


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