Owing to a tough comparison versus a year ago when it benefited from a $298 million tax benefit, Northrop Grumman [NOC] yesterday posted a steep decline in net income in the second quarter amid a drop in sales as well.
Northrop Grumman, like most defense companies, is struggling with top line growth given continued delays associated with a budget resolution that kept pressure on federal spending late last year and early in 2011, uncertainty swirling around ongoing debt ceiling discussions, and a drawdown of American forces operating in Afghanistan and Iraq. The company reduced its sales guidance for the year by $500 million to account for the various budget pressures and related program delays and the force drawdown, which accounts for $200 million of the change in outlook.
And, like other big defense companies, Northrop Grumman is raising its earnings guidance for the year, in this case bolstered by higher expected segment margins, pension income and a lower share count.
Net income in the quarter fell 27 percent to $520 million, $1.81 earnings per share (EPS), from $711 million ($2.34 EPS), beating analysts’ estimates of $1.67 EPS. The results included $99 million in pension income versus just $1 million a year ago but the $298 million (98 cents EPS) tax benefit more than offset the pension gain. Per share earnings also benefited from a lower share count stemming from accelerated share repurchase activity in the quarter.
Sales in the quarter were down 10 percent to $6.6 billion from $7.3 billion a year ago, in part from the company’s decision to reduce its participation in a joint venture at the Nevada Test Site, which accounted for $152 million in revenue last year. The company’s total backlog stood at $41.8 billion, down $5 billion since the end of 2010.
Despite the drop in sales, Northrop Grumman managed to boost its segment operating margins to 12 percent, a 110 basis point improvement due to performance improvements.
Sales were down at all four of the company’s operating segments while Electronic Systems was the only segment that managed to boost its profits. Overall segment operating income was down a percent to $784 million.
The income gain at Electronic Systems is due to improved performance on several land and self-protection systems and targeting systems contracts nearing completion, as well as performance on intelligence, surveillance and reconnaissance programs.
Wes Bush, Northrop Grumman’s chairman, president and CEO, said that while the company is focusing on boosting margins, it isn’t turning away from long-term growth. He said business the company pursues must show “long-term benefits.” He also said that as domestic pressure builds on defense spending, customers are looking more for “affordability” versus “value.”
This means affordability is being built in to the company’s capture activities for new and continuing business, Bush said. It also means that the company is investing in innovation with an eye toward affordability and not just capability, he said.
Bush also said that the company is “aggressively working the cost equation,” pointing to a 25 percent reduction in staff at headquarters, which is moving from California to Virginia, as well as portfolio reshaping efforts such as the various divestitures of business units and division over the past year.
Northrop Grumman also believes that its international opportunities for its products are improving, with Bush pointing to growing demand for unmanned aircraft systems that it supplies such as Global Hawk and Fire Scout.
For the year, Northrop Grumman expects earnings to be in the range of between $6.75 and $6.90 EPS compared to prior guidance of $6.50 to $6.70. Sales are now expected to be around $27 billion. While free cash was negative $128 million in the quarter, it is still expected to range between $1.7 billion and $2 billion for the year prior to voluntary pension contributions.