Huntington Ingalls Industries, Inc. Q1 FY2020 Earnings Call

Ladies and gentlemen, thank you for standing by and welcome to the Q1 2020 Huntington Ingalls Industries, Inc. Earnings Conference Call. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Mr. Mike Petters, Chief Executive Officer. Thank you. Please go ahead, sir.

Thanks, Messy. I am Dwayne Blake, Vice President of Investor Relations. Good morning, and welcome to the Huntington Ingalls Industries first quarter 2020 earnings conference call. With us today are Mike Petters, our President and Chief Executive Officer; and Chris Kastner, our Executive Vice President 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 laws. 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 plan 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?

Thanks, Dwayne. Well, good morning, everyone, and thanks for joining us today on the call. So before getting into my remarks on the quarter, let me first provide a COVID-19 update. As this national emergency began, we established three very important objectives. Our first objective was to minimize the impact on our workforce and provide a work environment that is as safe as possible. Now this resulted in some benefit changes and some actions designed to give each individual employee as much flexibility as possible to help them navigate through these uncharted waters and make arrangements that they needed to make. In doing this, we assured them that their job was safe. We also made adjustments to ship schedules to facilitate social distancing, and we enhanced cleaning activities in our shipyards, and since taking these actions, we have approximately 25% of our employees working remotely and are experiencing about a 70% to 75% attendance rate at both shipyards. Our second objective was to protect the national asset that is Huntington Ingalls Industries. We've been identified as critical and mission essential by the Department of Homeland Security, by the Department of Defense, and by the U.S. Navy. So we took action during the quarter to enhance liquidity and strengthen our balance sheet, and Chris will discuss those actions in more detail during his remarks. Importantly, our supply chain is a critical part of the industrial base, and our ability to help our suppliers, especially those small businesses, will reap benefits as we come through this pandemic. To this end, we've accelerated more than $50 million of payments to our critical supply chain partners. This not only helps them, but it also helps their communities as our supply base resides in nearly every state in the union. Now our third objective was to be the reliable source of information for our employees, and to that end, we've kept a very frequent and steady drumbeat of communications to our employees and to our community through multiple vehicles, including social media. We've kept them informed, we've answered many of their questions, and provided them the resources and guidance they need to help keep them and their families safe. Additionally, I've been personally engaged in multiple strategic efforts centered around this pandemic, and I participate in weekly calls along with the other defense industry's CEOs with the Assistant Secretary of the Navy for research, development, acquisition, James Hondo Gertz. Now I would be remiss if I did not add that the U.S. Navy has really leaned forward during this crisis, ensuring uninterrupted contractual payments and the continuation and even acceleration of contract awards such as LP 31 that was awarded in early April. These efforts are a great help to our industry and provide stability, liquidity, and business continuity, and I credit Assistant Secretary Gertz for his immediate action on these kinds of issues. As a nation, I believe we need to focus and adapt to what is being rightly called the new normal. We knew early on that this crisis was not going to be over in a few weeks or even months. So we have worked to change our business to effectively operate in that new environment. For example, we have now over 11,000 people working remotely, a tenfold increase from where we were just eight weeks ago. Actually, we had already started transforming our business. So this crisis has provided us a catalyst to accelerate this transformation, and we believe we will be able to weather this storm and continue to provide our critical products and services to our customers around the nation. Now let me share some highlights from the quarter starting on Slide Four of the presentation. Sales of $2.3 billion for the quarter were 8.8% higher than 2019 and represent record highs for the company, and diluted EPS was $4.23 for the quarter. New contract awards during the quarter were approximately $900 million resulting in a backlog of approximately $45 billion at the end of the quarter, of which approximately $21 billion is funded. Regarding activities in Washington, our actions in early February supported Congress's consideration of the budget in regular order, but our focus rapidly shifted mid-quarter to mitigating the impact of COVID-19 on our workforce and supply chain, and we will continue to work with Congress and the administration to support authorities and investment that will enable our nation's economic recovery through the entire defense industrial base, which is uniquely positioned through tens of thousands of suppliers across all 50 states to be the engine for that recovery. We also look forward to congressional consideration of the fiscal year 2021 budget request in the coming months. Now let me share a few business segment highlights from the quarter. At Ingalls, the team delivered LHA 7, Tripoli in February and launched two ships in the quarter; DDG 123, Lenah H. Sutcliffe Higbee in January, and LPD 28 Fort Lauderdale at the end of March. DDG 119, Delbert D Black completed acceptance trials during the quarter and then delivered on April 24. NSC 9, Stone is progressing through final assembly and test activities and is expected to deliver later this year. And finally, DDG 62 USS Fitzgerald completed sea trials and production work during the quarter, and is scheduled for delivery this summer. Newport News CVN 79, Kennedy is approximately 72% complete, and the team remains focused on compartment completion and preparation for primary system testing. Newport News is working closely with the Navy to pursue a single-phase delivery approach on CVN 79. Now this change from a two-phase delivery would extend the Newport News performance duration while supporting the Navy's plan for efficiently delivering a completed ship in 2024. Initial indications are that incorporating a single-phase delivery will increase the scope of work under the contract and change the construction schedule and the test program to the right. However, the ultimate financial and schedule implications will not be clear until we finalize the change with the Navy. CVN 73 USS George Washington is progressing through its final outfitting and test phase, and is approximately 74% complete. On the submarine program, SSN 794 Montana is expected to launch in the second half of the year and remains on track to deliver in the first half of 2021, and we anticipate SSN 796 New Jersey achieving the pressure hull complete milestone in late 2020. In our Technical Solutions segment, we received several contract awards across the Department of Defense for manned and unmanned airborne intelligence and ISR support and secured recompete business with the U.S. Postal Service for enterprise IT operations. In January, we announced our largest award of the quarter, a task order to support the U.S. Air Force Europe's ISR operations with a total potential value of $954 million over five years. In addition, we closed the Hydroid acquisition at the end of the quarter, which significantly expanded our capabilities in the important and rapidly growing autonomous and unmanned maritime systems market. So in summary, I am encouraged by what we've been able to accomplish during these unprecedented times. Our leadership team has demonstrated flexibility and agility to respond to new developments while continuing to achieve a number of key milestones and finally our $45 billion backlog, unprecedented program visibility, strong balance sheet, and thoughtful leadership through the COVID-19 crisis allows us to remain confident in the long-term financial targets and value creation strategy we provided at our Investor Day in February. Now I'll turn the call over to Chris Kastner for some remarks on the financials. Chris?

Thanks Mike and good morning. Today I will briefly review our first quarter results and also provide some comments on our 2020 and long-term outlook in light of the current COVID-19 pandemic. For more detail on the segment results, please refer to the earnings release issued this morning and posted to our website. Beginning with our consolidated results on Slide Five of the presentation, our first quarter revenues of $2.3 billion increased 8.8% compared to the same period last year, driven by growth across all three divisions. Growth at Technical Solutions was driven primarily by mission-driven innovative solutions where results included a full quarter for Fulcrum, which was acquired in late February 2019. Revenue at Newport News was due to higher submarine construction volume, and growth at Ingalls was driven by higher volume on the LPD and DDG programs. Operating income increased by $54 million or 33.5% to $215 million when compared to the first quarter of 2019, and operating margin increased by 176 basis points to 9.5%. These increases were primarily driven by a more favorable operating FAS/CAS adjustment and higher risk retirement at both Newport News and Ingalls. Net earnings in the quarter were $172 million compared to $118 million in the first quarter of 2019. The increase in net earnings for the quarter was mainly the result of higher operating income and a more favorable FAS non-service pension benefit, partially offset by a $16 million loss recorded in other income as a result of lower returns on marketable securities related to our nonqualified benefit plans. We are pleased with the operating results for shipbuilding in the quarter including the 5.7% sales growth compared to the first quarter of 2019 and an 8.3% return on sales. In Technical Solutions, our core nuclear and MDI businesses are performing as expected. In the quarter, Technical Solutions achieved a very strong book-to-bill ratio of 1.6, which included a significant new window to support the U.S. Air Force Europe's ISR operations. As Mike mentioned, closing the acquisition of Hydroid in the first quarter positions us as a leader in the strategically important autonomous and unmanned maritime systems market. We continue to make progress on the other portfolio shaping activities that were highlighted at our Investor Day in February, including the contribution of our San Diego shipyard to a new ship repair partnership, which we expect to complete this summer, and the divestiture of our oil and gas business. Turning to Slide 6 of the presentation, cash from operations was $68 million in the quarter, and net capital expenditures were $66 million or 2.9% of revenues compared to cash from operations of $11 million and $74 million of net capital expenditures in the first quarter of 2019. Additionally, we contributed $30 million to our pension and post-retirement benefit plans in the quarter, of which $20 million consisted of discretionary contributions to our qualified plans. We also repurchased approximately 391,000 shares at a cost of $84 million and paid dividends of $1.03 per share or $42 million, bringing our quarter-end cash balance to $28 million. As the COVID-19 situation evolved and the high level of uncertainty that came with it, we thought it was prudent to hold share repurchases, which we did on March 11. Through the end of Q1, we've returned to shareholders 107% of free cash flow generated from 2016 through the end of the quarter. Share buybacks will continue to be an integral part of our capital deployment strategy once volatility related to COVID-19 subsides. Moving on to Slide Seven, we have recently taken a series of actions to enhance our liquidity and further solidify our balance sheet. After the quarter closed, we issued $1 billion in new senior notes and also entered into a 364-day revolving credit facility with $500 million of capacity. We are fortunate that our primary customer, the Navy, has taken steps to accelerate cash flow under our contracts, which has trickled down to our supply chain partners, primarily for small disadvantaged businesses. Given these changes to our debt profile, we now expect our 2020 interest expense to be approximately $104 million. To summarize, the hard work and dedication of our employees during this difficult time has been truly tremendous. We've incurred and will continue to incur additional costs related to our COVID-19 response to keep our employees safe. Additionally, as Mike noted, we've experienced staffing levels at about 70% to 75% over the past several weeks. These lower staffing levels will likely impact program schedules and efficiency and increase ship estimates to complete, the materiality of which we will not know until we get greater clarity regarding the return to normal staffing levels and have a full reconciliation of supply material delivery schedules. We are confident the costs incurred for COVID-19 responses are allowable costs under our contracts. Further, we continue to evaluate these impacts on the programs against our contractual terms and current and pending legislation for the potential to obtain equitable adjustments to target cost, target price, and program schedules. We're working closely with our customers concerning the treatment of costs, and we will be able to provide additional details on COVID-19 cost treatment and recovery as we move through the year. However, as of today we expect a modest impact to sales in Q2 due to reduced attendance in the shipyards. We also see shipbuilding sales growth for the year to be at the lower end of the previously provided range of 3% to 5%. We will gain more clarity as we move through the year and plan to provide a more comprehensive update during our second quarter earnings call. Finally, we continue to believe that our strong balance sheet and liquidity and high degree of visibility and stability provided by our backlog make us well positioned to minimize the impact of COVID-19 on our business. We also do not see changes to our long-term financial expectations, which we communicated in February at our Investor Day, including our expectation to generate approximately $3 billion of free cash flow from 2022 through 2024.

Thanks Chris. As a reminder to everyone on the call, please limit yourself to one initial question and one follow-up, so we can accommodate as many people as possible. I'll now hand it over to you, Messy, to manage the Q&A.

Your first question comes from the line of Jon Raviv with Citi.

Hey, good morning, everyone. Just a question on the performance in the margins, which I know heading into the year is going to be a lower margin year for a variety of reasons and also back-loaded. You reiterated the number for the year at 9%. We did mention there's could be similarities related to COVID. Just give us a sense for what kind of relation we should see now with Coronavirus. Then I have a follow-up.

It was just John's question, but we’ve got your back. I fumbled with the mute button many times, so no worries. I wondered if you could give us a sense of the most up-to-date data you have on the headcount levels in the yard. I can imagine that’s something you’re monitoring day-to-day just like we’re monitoring any of these other COVID-related curves and the impact that that has on your estimates for what the disruption will be and productivity. Have you seen any change since the end of the quarter in the month of April, have you bottomed out, has it improved, any kind of up-to-date color that's beyond the month of March that you can provide?

Thanks for the question. It's been pretty steady. The initial disruption for our folks to figure out what sort of disruption they had in their lives, well they had family members that lost their jobs or they had kids at home, they had to work their way through that. They've worked their way through that and I think as we said the aggregate attendance is about 75%. You can parse that a lot of ways but basically where folks who have to be present in the business inside of the shipyards, that number is lower than 75%, but the rest of our workforce either they're working remotely or while we've changed the conditions that they're working in on-site have been able to support at a higher level than that. So we've been pretty steady for the last I would say the last two or three weeks anyway. So the number you have is the number we've got.

Okay. If you try to parse it between the two yards, what's the difference?

It's pretty much the same in both places. The primary factor affecting attendance right now is the closure of schools, which forces parents to figure out how to care for their children without the usual support systems available. This is our main issue with attendance. I still believe we need to find a way to reopen schools so that parents feel comfortable sending their kids. This should be a priority for everyone. If we achieve that, we can expect progress. We are also adjusting our approach. Having stabilized the situation, we are now focusing on how to expand our workforce and fill positions. So, we are moving forward with this initiative.

We'll discuss our estimates regarding the shifts in the quarter, taking into account the reduced attendance and its effect on the labor involved in our shipbuilding programs. We're considering the opportunities that have arisen from changes in our expenses. Travel costs have essentially dropped to zero, but there are also less obvious factors, such as the use of Teladoc, which we've implemented to keep our employees out of emergency rooms, resulting in lower expenses for us. As we analyze the quarter and the year, we will evaluate the risks to our ships due to reduced attendance and also consider the implications for our costs. This analysis will take a comprehensive view rather than simply focusing on attendance levels in the yards and their impact on productivity.

In fact, I am encouraged the key milestones for our production were essentially meeting the key milestones that we have to meet, and just off the top delivery as a destroyer in the last couple weeks is evidence of that.

DDG 119 is on schedule, and it’s on schedule. I'm very comfortable with our performance on shipbuilding.

All right. Great. Thanks for the color, guys.

And your next question is from the line of Myles Walton with UBS.

Hey everybody. Good morning. This is actually Emily on for Myles. On the recent result of the competition given the contract value for the ship, how have you been able to sign up for that aggressive price, and then additionally what is on your radar now for potential awards at Ingalls and is the recent award for LPD 31 showing how did that impact Ingalls’ production line?

There were many questions raised. It is important to acknowledge that competitors were pricing their bids differently, making it nearly impossible to make direct price comparisons. The Navy aimed to conduct a best-value competition and ultimately chose a winner. We are disappointed with the outcome, but we will receive feedback from the Navy regarding what transpired and how improvements can be made moving forward. In terms of opportunities at Ingalls, we maintain a strong presence and production capability, as demonstrated by the recent contract signed for LPD 31 in the large deck amphibious program. We are also constructing destroyers and national security cutters, which suggests a promising future for Ingalls. While this recent outcome is disappointing, competition requires resilience; we learn from our experiences and strive to improve. The Navy is beginning to consider its future direction, and we are eager to be part of that journey.

Your next question is from the line of Jon Raviv with Citi.

I'll not break everything this time I suppose. You guys hear me though? So my question has been I don’t know if you have heard it was just on margin progression through 2020 and 2021. I know this year has been going to be somewhat backloaded in terms of that 9% that you reiterated that number. What is the progression and how do you achieve that with various unknowns around COVID-19? And then related to that you what is the potential menu of outcomes from the new one phase carrier plan?

No real change to margin progression at this point Jon. We have to come through Q2. No doubt it’s going to be a complicated quarter but I wouldn’t change the way we're thinking about margin in 2020 or in 2021 actually.

I believe it's premature to make any definitive statements. We have identified some new risks in our risk register that weren't present two months ago. However, on the flip side, there are opportunities emerging as our business is undergoing an organic transformation. This presents us with significant possibilities for improving efficiencies and exploring new business methods. Therefore, it's too soon for us to retract any of our previous assertions. Regarding the single-phase delivery for CVN 79, the initial plan was for the Navy and the company to complete the platform and utilize the post-delivery period to install upgrades, including sensors and advanced technology that evolves rapidly during construction. The Navy has now indicated that an integrated approach will be more beneficial, allowing for a more complete ship to be delivered sooner and ready for deployment quicker. This integrated approach will affect the schedule of our testing program and the Navy's manning of the ship, which is closely linked to both our testing and delivery timelines. As a result, there will be an expanded scope, likely altering the schedule somewhat. Until we navigate through this process, it's difficult to quantify the exact impact, but we believe this approach is the best way to expedite the ship's readiness for the fleet.

Just a follow-up on that point Mike, I appreciate your perspective. Is it not the case that the late 2020 improvement in margin, and I understand that 9% depends on some of the things happening with the carriers that you just outlined, if those things don’t occur, then that poses one of the risks to the 9% this year, perhaps.

I agree with that, but we need to consider the contractual aspects as we navigate through this situation and examine the opportunities arising in the rest of our business due to the virus's impact. At this point, we don't have enough information to distance ourselves from those opportunities.

Thank you. Good morning. I wondered Newport News I wanted to talk about Virginia Class and Columbia Class because in addition you're going to see some significant block five work on Virginia Class. I know you highlighted in the release that Columbia Class the amount of work there is starting to grow, and can you speak first about what you see the impact for those two programs on your margins in Newport News?

Well Doug, it’s going to be the beginning of these programs and by now, you know that when we’re at the beginning of the program, we’re reasonably conservative in terms of that. Now truth is that we know a lot about submarines and the arrangement on Columbia is just a little bit different than the teaming arrangement we have on Virginia Class, and so how that works and how the expansion works and goes forward I think we've got that factored in. It's part of the way we were thinking about the year and the next several years when we talked to you guys in February. So there’s not really much change in all that. It blends right into to get us to where we want to be.

Doug, this is Chris. We don't have a specific number for you, but it does start to ramp from here and then really start to get some momentum in 2021 but we don't have a specific number for you.

Your next question is from David Strauss with Barclays.

So now that I know it's closed, I was wondering if you could give us sort of an update on your thought and opportunity there for unmanned ships and for how that...

We’re very excited about closing this deal. It was a lengthy process with Kongsberg to determine what would be mutually beneficial. Having this now in our portfolio means that over the last five years, we've transitioned from a limited presence in the space to being among the most capable players. The Navy is contemplating what they want their future fleet to resemble. They will continue to explore how to accomplish more missions with fewer personnel, which we believe is crucial to their strategy, and Hydroid certainly positions us well for that. There are several programs the Navy has already announced that we are involved with. Boeing is leading the XL UUV program, and we are collaborating with them to manufacture that product. The Navy has also introduced a large diameter UUV program, and we are enthusiastic about the potential that holds. Before our involvement, Hydroid was a leader in programs of a smaller scale. This acquisition now provides us with a comprehensive range of capabilities in terms of platforms, missions, and services that we think the Navy will require in the UUV sector. Additionally, it allows us to branch into the unmanned surface domain because many of the skills essential for autonomy and advanced manufacturing will be vital for success there. I believe that the unmanned surface area currently lags behind the undersea sector, but I don’t expect that to continue. I am excited about the direction this entire program will take. It’s going to be a significant opportunity for HII because it will address a critical mission for our customer, which aligns with our goals.

No doubt it's a volatile market out there right now. The good news is that UPI they've got some really stable long-term customers that are hanging with them and we have a strong management team. So that process will continue. We expect it to complete this year.

Chris, I got a couple for you first, Newport News and then Ingalls, but following up on John's question on CVN 79 and the single-phase delivery from a cash perspective that delivery in 24, are you able to comment at all of what the impact of that would be on 23 cash flow and kind of the slope of free cash flow you pointed to back at the Investor Day. I think you reiterated the cumulative target of $3 billion but just wondering if this could make it more back weighted. So that's...

I don’t think so. We don’t know yet exactly because we haven’t finalized that change, but I don’t think it materially changes the slope. A little more detail on cash. I think with all we know right now on free cash and everything moving around, we're still north of $500 million this year and then we start to ramp.

Okay, and just switching to Ingalls, I was wondering if you could provide any color on the EBIT profile, the NSC program as it exists today, just so that we can get a better idea of how that program eventually ending might impact the business?

I don’t want to do a program review with you right now. We don't really give detail on estimates of margin rates by ship. I want to say from Ingalls' perspective in the quarter, the LPD program is performing very well. Pleased to 28 and 29, the award for 31, so Ingalls had a really good quarter.

I was just going to ask Mike if there's any customer interest in the 12 Tennessee Hall?

Sure. There has been a lot of talk about it. I think the question at this point is where does the budget go and I think that that's kind of the big question mark out there for everybody, but the Coast Guard continues to operate the NSC at a high tempo with lots of mission success and lots of very positive and favorable feedback to us, and it has been a program that has been funded and supported both from the Coast Guard and from Congress over the years. So I would say sure.

Mike, I have a top-level question about the Navy and Marine Corps outlook for ships. Kind of in light of the commandant's guidance and budget pressures connected and I think there is a new shipbuilding plan in the works in the building also that isn't complete yet and I don’t know what's connected but I think it's connected to this idea of a light amphibious warships. So, kind of the net question is do you think the requirement for amphibious lift is going to be reduced or modified over the next couple of years in any way, and is it kind of maybe shift to smaller amphibious ships? Can you compete effectively there, just in your thoughts overall about what looks to be a lot of change that might have impacted them in the near-term or maybe in the mid to long-term?

That's a great question and something we've been considering thoroughly. At the highest level, there's always a challenge when it comes to changing direction—how quickly can you make that shift? You must recognize that if you're willing to compromise current capabilities for potential future directions, there's a lot of risk involved. It's difficult to embark on a new path while sacrificing existing capabilities, and I want to emphasize that current capabilities encompass the infrastructure and industrial base we've developed. Over the past five years, we've hired over 25,000 people at HII, invested $0.5 billion in their training, and spent between $3 billion to $4 billion annually on our supply chain, allowing us to maintain an industrial base that can support whichever direction you choose to pursue. If you're looking to head in a new direction successfully, you need to strategize on how to adapt the industrial base accordingly. The Marines, for instance, are exploring operational concepts different from what they've previously discussed. However, I don't believe this alters their immediate need for heavy lift capabilities, and this conversation isn’t about outlining a path for the next two years. When we start talking about new shipbuilding plans, we’re really considering what the Navy will look like 10 to 15 years down the line, since the Navy we’ll have five years from now is already being constructed today. So, it's essential to think through these timeframes carefully. I believe there's an opportunity for the industry and the Navy to collaborate effectively and utilize all available assets to build the necessary capabilities moving forward. Another aspect we're critically analyzing is that as ship size decreases, the market becomes far more competitive. We need to find ways to enhance our competitive position if this is the direction our customers want to take, and we're diligently working on that.

I have a couple of questions and forgive me if these were obvious, but first just to be clear on the COVID impact on profit accrual, are you assuming percentage of completion accounting right, so you accrue less revenue as there are fewer people making progress on the ship, but the margin rate you're assuming as though there's no COVID impact is that right assuming there will be some relief down the road?

It's a good question. In Q1, there is really no COVID impact. there is no way to estimate that impact in Q1. We're going to assess that in Q2 as we understand the comprehensive impact and the opportunities related to it. So it's a good question, Gautam.

So meaning in Q2 right now, you're a month and a couple days have passed in Q2, there is a COVID impact. Fewer people showing up at the yard, so you're accruing less revenue but you're accruing cost at the same margin that you otherwise would, again I just want to be very clear.

That's right and you don't change your estimate until you come to a comprehensive VACs on your ships, which we will do in the quarter in Q2 and then assess that in the quarter and deal with that in Q2.

Okay so but let's just say that the Navy hasn’t given you guidance on what form that equitable adjustment will be would you then take a negative catch up in Q2 and then just wait and hope that you do come to a resolution and think of positive?

You're getting into claim accounting there. From a claim accounting perspective, you would not assume that they will provide an equitable adjustment for these costs. Therefore, without opportunities, you might have to make a negative adjustment, which is correct.

Shifting to Technical Solution, there was a reference in the release to lower performance on a host of items. Oil and gas I think certain repair work etc. Could you just elaborate on what's happening in those and I think on environmental as well? So was this just again COVID inability to execute or was it something else and what are the plans on the oil and gas side?

So actually in the quarter, the major impact was the San Diego shipyard and some performance issues there. Oil and gas and nuclear were okay, but compared to last quarter the performance was a bit less. Nuclear is just timing and very comfortable with where they are and still comfortable with the 7% to 9% EBIT. I commented previously on oil and gas, we still think that will get divested this year.

And then last one, catch ups by segment if you can give us the net.

I've positive of 61, negative of 29, net 32. And two-thirds of that net is Ingalls.

Was TS a negative?

That was pretty flat, a little negative.

Could you speak to in the '21 budget, there's not a second Virginia Class and there's been a lot of back-and-forth that there could be second Virginia Class and I think your friends are building a reactor for the second Virginia Class. So how do we think about if there is a Virginia Class or not and what's your latest read on that?

You’ve been doing this as long as I have. You know that the budget comes over and then there is a process that Congress goes through to get the budget squared away and pass and appropriate. There were some late-moving items in the budget frankly from last year to this year, that I guess my assessment is that Congress was surprised about, and so when that happens it takes a lot more work from the administration and from all the stakeholders to work their way through it. My sense of this though is that the outlook for that second Virginia is pretty bright. I think Congress has made its intentions pretty clear and so I don't know how the pieces move around but I'd say I'm pretty optimistic about it.

And then when you think about the current pandemic, what opportunities has that opened up for you in terms of when you think about the Technical Solutions group? Are there potential M&A opportunities out there now that might not have been or potentially more attractive now and one of the things you guys articulated at the Investor Day is that scenario where you want to have some growth. Is this an opportunity to try to grow that business?

I believe the current challenge is that valuations are almost unrealistic. Determining the fair value of a business is quite difficult. We remain interested and have not altered our position, but if a company like Acme suddenly experiences a significant drop in their share price due to volatility, their Board would likely still believe their worth is much higher than the current share prices. Engaging in such scenarios is quite challenging, but we will continue to seek opportunities and are actively looking for ways to capitalize on them. We are in direct contact with our entire range of suppliers, which number in the thousands across the country. Initially, we've reached out to everyone to discuss the impact they are experiencing and how that might affect our programs. Most of our suppliers are currently indicating that there is no impact. However, I would add that we should consider adding "yet" to that statement. They say no impact, and we say no impact yet. Some suppliers are reporting impacts, but none that affect our programs. Therefore, we can say no impact to our programs yet. There are also a few suppliers who are stating they are facing significant impacts that will affect our programs. What encourages me is that, in the near-term, we are able to meet the key milestones necessary for our operations, whether that involves ship construction or fleet support; we have the information and materials needed from our supply chain. The more challenging aspect is assessing the potential impact in the future, not just in the near-term. While we are managing the current situation, it's crucial to consider what needs to happen today to support us later this year or next year, and that is why I mention the idea of "yet," as we do not have a clear understanding of that future impact. The last thing I would say is that one of the advantages that we have besides having the $45 billion backlog to go work through and support our supply chain is our supply chain is domestic. We're not dealing with suppliers in Mexico or suppliers in India or anything like that. Where there have been some disruptions that I've seen across the industry has been as much about trying to reach across the borders as it has been about trying to reach and find the small folks. So we're keenly engaged in this. We're working this every single day but at this point, I'd say near-term not in effect, medium to long-term, wait and see.

Your next question is from Noah Poponak with Goldman Sachs.

Hey Chris, just back to the question on all your margin rates and how the EAC recognition and accounting will work as you go through the year and there’s potentially disruption, but you're telling us you're able to hold to what you thought before this disruption. My understanding from what some of the other defense companies that have reported already and spoke to this said was that amongst the handful of things that your customer was doing to help the industry get through this, that one of them was to the extent you were underperforming cost in what you had contractually signed up for, if you were able to display that it was attributable to the Coronavirus pandemic that you would actually be made whole back to your original assumption. Is that am I correct that, that is going on and that's part of your ability to hold the margins or did I really misread that from somebody else?

I believe you may have misunderstood the situation slightly. It's evolving, but there is significant news and ongoing discussions between government contractors and the government regarding the appropriateness of obtaining equitable adjustments through various legislation. As it stands, based on current legislation, you cannot recover equitable adjustments for delays or disruptions on your contracts. Therefore, we are not operating under that option right now. However, it's possible that we might reach a point where adjustments for issues like quarantining or government facility shutdowns could allow for some recovery without penalty. But in terms of equitable adjustments for delays or disruptions, we don't believe that aspect is fully understood or addressed in the legislation at this time. So, I wouldn't make that assumption.

I want to emphasize that there is a plan in place, but we lack the necessary coverage. From an accounting perspective, we cannot take any assumptions at this point. We are in discussions about how to proceed and what adjustments are required regarding funding and authorization, but these changes have not yet been implemented. Therefore, our current position is ongoing engagement, and we will monitor the situation to see how it develops.

So assuming that doesn't happen, what I need to model is that your shipbuilding margin in the second and third quarters declined sequentially from the first and is more back-end loaded to the fourth quarter. How do you maintain the margin with the level of disruptions you're experiencing?

So I wouldn’t change anything at this point. No, I think it’s just too. I think it’s just too early. There is going to be a modest impact on our sales for sure in Q2 but there’s risk that we’re going to have to deal with relative to reduced attendance in the yard, but there’s also opportunities because our expenses are fundamentally changing right now. They need to deal with all that when you do.

And whatever happens with the equitable adjustment is not going to happen in the second quarter.

That’s just not going to be resolved in Q2.

Is your comments of not changing anything more geared towards you don't think the numbers are going to change or more geared towards nobody has enough information at this point to really forecast what the number you're going to give?

Well I think more of the latter but also we're making critical milestones within our shipbuilding programs. We're delivering ships performing very well within Newport News and Ingalls. So it's kind of a combination of both.

Okay, and then last thing on this as it pertains to revenue, it’s I guess similarly a little bit hard to square if you're at 70% to 75% staffing and it's presented to completion accounting business why that wouldn’t have a larger impact on revenue I guess to your last answer there it sounds like you have less of the cost there or less of a staffing there if you hit the milestones, that's a bigger piece than just what the staffing level is, but I don’t know, I am surprised to see 70% to 75% staffing minimal change to revenue on a percentage accounting basis, how do our growth that.

We believe attendance will recover, and we're forecasting a growth of 3% to 5% for the year. While we do expect an impact in the second quarter, we still maintain a projection at the lower end of that range. If the virus situation persists for an extended period, this could alter our outlook. As it stands today, we anticipate growth to remain closer to the lower end of the 3% to 5%.

Do you have visibility right now from sort of state and local economic reopening stay-at-home order revision as to when you'll start to be able to restart or bring people back on I should say.

We are the largest employer in both Virginia and Mississippi, so we have a strong connection with the Governor's office regarding the state's reopening process. It’s essential to approach this topic with the understanding that we aim to benefit everyone involved. When reopening businesses, it’s crucial to consider employee and customer safety. The decision to reopen is ultimately voluntary; businesses must choose to open, regardless of the Governor's directives. A business owner will decide to reopen only if they feel confident about ensuring the safety of their employees and customers, while also ensuring it is viable for their operations. Customers must also feel safe to return. A key concern is when parents feel comfortable sending their children back to school, as this will impact families and, in turn, our employees who may be at home taking care of their kids. However, we are adjusting our approach to begin hiring again since there are many qualified individuals looking for work. We plan to increase our workforce as we strive to resume our operations. The situation will unfold in the second quarter, but as Chris mentioned, it’s currently too early to predict the exact outcome. This perspective is somewhat independent of the governors’ plans for reopening.

Really helpful and I appreciate it. Thanks guys.

And your final question is from the line of Jon Raviv with Citi.

Thanks so much for the follow-up and I might just follow-up on that budget question. Can you just also talk about the carrier side of things? I know it’s kind of comes up every few years and such but the Secretary's office seems to be looking to reduce that footprint. So just can you give a little sense of your perspective given the current fiscal and political backdrop?

Thank you, Jon. The discussion about carriers often leads to questions about whether we can enhance our capabilities by altering our structure or operations. Many people have differing views on this topic, and I've experienced these conversations numerous times. The reality is that you can't achieve 80% of the carrier's capabilities for 80% of the cost. The most affordable aspect of operating a carrier is its volume, and increasing that size is key to maximizing your investment return. While considering a smaller fleet for the Navy is worth examining, generally speaking, looking for a replacement platform often doesn't yield favorable outcomes in analysis. I believe the Navy, the Pentagon, and Secretary Esper are rightly focused on the future capabilities we require and the best approaches to obtain them while maintaining our current capabilities. Expect to see various options, similar to the discussions we've had regarding the Marine Corps. This is a highly dynamic time in shipbuilding, and we will be actively involved in those discussions as a primary partner for the Navy. We have a robust $45 billion backlog of work that will serve as the foundation for these conversations. Our investments in developing an agile workforce and supply chain will support whatever direction the Navy and the Pentagon choose to take, and we are eager to contribute to that effort. It looks like we have no more questions. I want to thank you all for your interest today, and I hope you and your families are safe and well. Please take care of each other, and we appreciate your time in joining us. We look forward to speaking with you again. Thank you very much.

Ladies and gentlemen, this does conclude today's conference call. Thank you for participating. You may now disconnect.