Earnings Call Transcript
RTX Corp (RTX)
Earnings Call Transcript - RTX Q4 2020
Operator, Operator
Good day, ladies and gentlemen, and welcome to the Raytheon Technologies Fourth Quarter 2020 Earnings Conference Call. My name is Norma, and I'll be your operator for today. As a reminder, this conference is being recorded for replay purposes. On the call today are, Greg Hayes, Chief Executive Officer; Toby O'Brien, Chief Financial Officer; Neil Mitchill, Corporate Vice President and Financial Planning, Analysis and Investor Relations. This call is being carried live on the Internet, and there is a presentation available for download from Raytheon Technologies' website at www.rtx.com.
Greg Hayes, CEO
Okay. Thank you, Norma, and good morning everyone. Welcome to 2021. So for those of you following along the webcast, we're going to start on slide 2. Just taking a look back on 2020, as painful as it was, it's obviously one of the most challenging years for our company, for the commercial aerospace industry at large and for everyone around the globe. But importantly, it was also a transformational year for us, as we created an industry-leading aerospace and defense company. I'm really proud of the way our team managed through the pandemic and continued to support our customers, our suppliers, and our communities without missing a beat. In many areas, we were able to accelerate our progress and we found new ways to increase our productivity that will be a part of how we operate going forward. So let me go over some of the highlights from 2020, and we'll start with the portfolio transformation and integration. We obviously achieved two significant milestones this year by completing the separation of Otis and Carrier as standalone public companies as well as the merger that same day on April 3 with Raytheon Company to form Raytheon Technologies. This was a culmination of a multiyear effort to transform the company into an innovative and focused and leading aerospace and defense company that will define the future of the industry. In connection with this transformation, we also completed the divestiture of several businesses, including the sale of Forcepoint that closed earlier this month. All of that resulted in net proceeds of over $3 billion, further strengthening our financial position. We continue to strengthen our portfolio with strategic bolt-on acquisitions, and we'll continue to evaluate other non-core divestitures this year.
Toby O'Brien, CFO
Okay. Thanks, Greg. Moving on to slide 3. Let me first give you an update on some of the key actions we have taken to rightsize the cost structure of our organization. First, as Greg highlighted, we overdrove the cost reduction and cash conservation commitments we set early last year, and we'll see continued benefits from those actions in 2021 and beyond. Next, on the synergy front, excellent momentum there as we exceeded both our RTX and Collins targets in 2020 with a significant increase anticipated in 2021. We also announced a number of other cost reductions that are more structural in nature. To start, we previously took the difficult action to reduce commercial headcount at Collins and Pratt by 15,000 and to eliminate 4,000 contractor roles. We have recently reduced commercial headcount at Collins by another 1,500, bringing the total to 16,500; and contractors by another 500 bringing the total to approximately 4,500 contractors as we continue to position the business for strength as the industry recovers, reducing our total commercial aero headcount now by approximately 20%.
Neil Mitchill, Corporate Vice President
Thanks, Toby. Starting with Collins Aerospace on slide 5. Adjusted sales were $4.4 billion in the quarter down 32% on an adjusted basis; and down 31% on an organic basis driven primarily by the adverse impact of COVID-19 on the industry. Sequentially, sales were up 3% driven by slight growth in commercial OE and aftermarket. By channel, commercial OEM sales were down 41%, driven principally by the impact of the current environment, lower 737 MAX, and anticipated declines in legacy programs. Commercial aftermarket sales were down 48%, driven by a 47% decline in parts and repair, a 58% decline in provisioning, and a 46% decline in modifications and upgrades. Partially offsetting the headwinds in the commercial channels, defense sales were up 1% on an adjusted basis and up 7% organically driven by F-35, as well as growth in our avionics and actuation product lines.
Toby O'Brien, CFO
Thanks, Neil. I'm now on Slide 9. Let me give you some perspective on how we see the current environment as we look ahead at 2021. As you know, we performed exceptionally well on our cost reduction and cash conservation actions in 2020. And as I've previously discussed, we'll see some continued benefit from these actions along with the incremental headcount actions at Collins which will be partially offset by headwinds from the reinstatement of merit increases and reduced furloughs. So, on a net year-over-year basis we expect this to be a $300 million benefit in 2021. On the merger and acquisition synergy front, we expect to deliver an incremental $610 million of gross RTX synergies and $85 million of incremental Collins synergies this year. And our liquidity position remains very strong. We ended 2020 with about $9 billion of cash on the balance sheet that has been further bolstered by the sale of our Forcepoint business that closed earlier this month. Moving now to the macro factors, while we in the industry will have a tough compare in the first quarter, the availability of multiple vaccines is encouraging. We expect the pace of the commercial aero recovery will depend upon the speed and breadth of vaccination rollouts across the world. As a result, we expect sequential RPM growth to accelerate as we progress through the year. Consistent with recent travel trends, we expect narrow-body and regional traffic to rebound before wide-body, particularly due to the continued international border restrictions. For the third consecutive quarter, we saw continued improvements in utilization across the GTF-powered A320neo fleets as well as solid utilization of the A220 platform and the fleets powered by Pratt's V2500 engines. Looking longer term, we continue to expect that it will take until at least 2023 for commercial traffic to return to 2019 levels. We continue to expect defense program growth to remain robust, both domestically and internationally. We remain confident in our ability to grow those businesses even in a flat budgetary environment due to our strength with international customers, our innovative technologies and our positions in high-growth areas. With that backdrop, let me tell you how we see the year ahead. Moving to slide 10, at an RTX level we expect full year 2021 sales to be between $63.4 billion and $65.4 billion, and adjusted earnings per share of $3.40 to $3.70. And as Greg mentioned, we expect free cash flow of approximately $4.5 billion. Keep in mind, with the Forcepoint sale that closed earlier this month, we have divested four businesses in the last year, which combined create about $1 billion of sales headwind year-over-year. I should point out that our ranges for 2021 are a bit wider than we would typically provide, driven entirely by the macro factors impacting our commercial aero businesses. With our ranges, we are attempting to capture the potential variability we may encounter, given the current environment and the speed of the vaccine rollout, revenue passenger miles, and the behaviors of our customers. As the year progresses and as we have more clarity, we would expect to narrow our outlook ranges. As I mentioned, the first quarter will be a tough compare, as the effects of the pandemic did not materialize until Q2. Therefore in the first quarter, we expect to see declines in our commercial businesses, similar to what we saw in the second half of 2020. With that context, we have bifurcated our outlook between what we are expecting in Q1 versus the Q2 to Q4 periods. So, for Q1, we see sales in the range of $14.8 billion to $15.4 billion, EPS in the range of $0.70 to $0.75 per share. And we expect to see a cash outflow due to seasonal factors and the timing of collections. We expect the vaccine rollout, easing of international travel restrictions, and increasing RPMs will enable sales growth to accelerate from Q2 onward, with total company sales growing between 5% and 8% on an adjusted basis and between 7% and 10% organically on a year-over-year basis for the Q2 to Q4 period. As a result, we see EPS growing approximately $1.10 year-over-year at the midpoint of our outlook range, in the Q2 to Q4 period. Because of the unique environment we're facing let me take you through some of the key assumptions in our outlook. At a macro level, our assumptions for Collins and Pratt are based on vaccines being widely available in the U.S. by midyear, that there isn't another wave of the pandemic, and that RPMs improve meaningfully during the year. For example, in order for us to see the high end of our commercial aero ranges, we need to see sequential RPM improvement throughout the peak summer travel season of 20% to 30% each quarter, leading to a 40% to 50% year-over-year improvement. We are also assuming that load factors improve along with RPMs and corresponding growth in available seat miles which fuels our aftermarket. For RMD and RIS, we also expect volume to increase sequentially, as we execute on our strong backlog and that the DoD budget is implemented without delays. We also expect sequential margin improvement as our programs percent complete increase and approach a more normalized pre-merger level as we exit 2021. With that, let's move to slide 11 for the segment outlooks. You'll notice that we've included our sales and operating profit expectations for the year. Given the tough compare in Q1, we've also included our Q2 to Q4 outlook here as well. I should note that the major variable for Collins and Pratt is the trajectory and mix of the aftermarket recovery, as you'd expect. I'll start with Collins, where we see sales for the year down high to low single-digits on an adjusted basis and down mid-single to down slightly on an organic basis. We expect full year operating profit to be in the range of down $275 million to up $25 million versus last year. I should note that military sales at Collins are expected to be up low to mid-single digits organically for the year. As we think about Q2 to Q4, we are assuming that we see a 20% to 30% year-over-year recovery in parts and repair sales and a 15% to 25% recovery of mods and upgrades and provisioning sales that drive total sales growth over the Q2 to Q4 period of mid-single to low double-digits. Turning now to Pratt & Whitney. We expect sales to be flat to up mid-single digits for the year and operating profit to be in the range of down $125 million to up $25 million. Military sales at Pratt are expected to be down slightly to roughly in line with last year after growing 14% in 2020. As we think about Q2 to Q4, we expect legacy large commercial engine shop visits to be up 25% to 30% year-over-year, which drives sales growth over the Q2 to Q4 period of low double-digits to mid-teens. Turning to the defense businesses. Let me first mention that we'll talk about these segments on a pro forma basis. First, this means we'll talk about both segments as though they were part of RTX for all of 2020. Second, we have aligned our reconnaissance and targeting systems and electro-optical innovations product lines from RMD segment to RIS to better align the businesses, which we've also recast. A summary of pro forma 2020 results inclusive of these impacts can be found in the webcast appendix. So at Raytheon Intelligence & Space, we expect full year sales to grow low to mid-single digits with strength coming from classified programs in ISR and space. And we see operating profit growing $125 million to $175 million. I should note here that as we look at Q2 to Q4, operating profit is expected to be up $175 million to $200 million. And at Raytheon Missiles & Defense, we expect sales to grow low to mid-single digits, driven by volume growth across multiple programs. We see operating profit up $25 million to $75 million. It's also worth noting that as we look at Q2 to Q4, RMD's operating profit is expected to be up $150 million to $175 million. Moving to Slide 12. We have provided an outlook for some below-the-line items. I'll also mention that we've included a multiyear pension outlook in the webcast appendix. Now turning to Slide 13 for our 2021 EPS walk, starting with the segments. While they're expected to be relatively flat for the year, as you can see, that's driven by the tough compare in Q1. We expect the segments to generate a little over $0.90 of EPS growth at the midpoint of the outlook range in the last nine months of the year. Pension will be a significant tailwind, primarily driven by adjustments to legacy plans, favorable interest rate movements and favorable asset performance. Our adjusted effective tax rate in 2021 is expected to be about 19% versus 17.5% in 2020 resulting from higher projections of U.S. income as well as some favorable tax results in 2020 related to prior years, which aren't expected to repeat. This will result in a $0.09 headwind. And corporate expenses interest and all other will be an $0.18 headwind at the midpoint of the range, primarily driven by a step-up for LTAMDS, as the program continues to achieve its development milestones in 2021, as well as costs achieve synergies and some higher interest expense. All of this brings us to our outlook range of $3.40 to $3.70. Now turning to free cash flow on Slide 14, just a few comments here before I turn it back over to Greg. As you know, we had $2.3 billion of full year pro forma free cash flow in 2020. When you take into account the 2021 timers that we've discussed, the extraordinary strength of RMD's international collections and the discretionary pension contributions we made, we saw a normalized operational free cash flow of about $3.5 billion in 2020. From there, as I've discussed previously, we expect about $500 million in 2021 cost to achieve RTX synergies and restructuring and to invest about $600 million in capital to implement structural cost-reduction actions that we've announced. Finally, we expect about $2.1 billion of operational growth, driven by improvements in working capital and operating profit to bring us to our outlook of about $4.5 billion of free cash flow for the full year. With that, I'll hand it back over to Greg to wrap things up.
Greg Hayes, CEO
Okay. Thanks, Toby. So I know there's a lot of data that we just went through as it relates to the 2021 outlook. It's important that you understand kind of the baseline of what we're thinking as we provide the guidance for 2021. Obviously, first quarter is going to be a very tough compare because of the record Q1 we had in 2020. But we do remain confident in the full year outlook as well as the recovery in the back half of the year. Before I go on to the final slide here, so number 15 for those of you following along. But before I go into our priorities, let me just take a minute to thank every member of the Raytheon Technologies team for their efforts in navigating a year of unprecedented challenges and particularly those on the production line and those in the SCIFs that came to work every single day during the pandemic to make sure we could meet our customer commitments. Really an incredible effort and that we thank you all. Okay. Let me close on an overview of our priorities. First, obviously, we're going to continue to support our employees, our customers and our suppliers as we always do. We do see brighter days ahead with the rollout of the vaccine, but we'll continue to remain vigilant about the health and safety of our employees. One of the priorities in supporting our employees, of course, is to promote a more diverse and inclusive workforce. DE&I remains high on our agenda and it's an imperative for how we do business. This will make us a better company, a better employer, and a better member of our community. To that end, I'm pleased to announce the appointment of a Chief Diversity Officer, Marie Sylla-Dixon, who joined RTX at the beginning of January. She's going to accelerate our ongoing initiatives. She's a member of my executive leadership team, and she's wasted no time in getting to work. Marie is responsible for leading our diversity equity and inclusion strategy and implementing the major initiatives of the four pillars of that strategy, that is talent management, community engagement, public policy, and supplier diversity. Next, our priority is to continue investing in and developing leading-edge technology and innovation. A fundamental aspect of the merger was to find ways to utilize our R&D capabilities and innovative technologies across both the commercial aerospace and defense markets, integrating them to create advanced products and solutions that address our customers' complex and emerging needs. These technologies have the potential to generate billions in revenue synergies over their lifetime and are essential for realizing the full value of the Raytheon Technologies mergers. Additionally, executing the integration remains a key priority. We are on track to achieve over $1 billion in gross cost synergies from the Raytheon merger, along with $600 million in synergies from the Rockwell Collins acquisition. We are also focused on driving structural cost reductions. Significant actions have already been taken, and the team is exploring more opportunities. We will maintain a disciplined approach to capital allocation, balancing investments in the business with returns to shareholders. Looking ahead, I am excited about the future of the business as we near the one-year anniversary of the merger closure. Our balanced and diversified portfolio of industry-leading commercial aerospace and defense operations is resilient across various business and economic cycles. I am very confident that commercial aerospace will recover; it's not a matter of if, but when. When this recovery occurs, our emphasis on cost productivity investments and technology will enable us to deliver higher margins, strong cash flow, and substantial value to our shareholders and customers. With that said, I know we've covered a lot of information, so I will now open the floor for questions. Norma?
Operator, Operator
Thank you. The first question will come from the line of David Strauss with Barclays. Your line is open.
David Strauss, Analyst
Good morning. Thanks.
Greg Hayes, CEO
Hey, David.
David Strauss, Analyst
Good morning, Greg. I appreciate the extensive data you provided; it will take me a few hours to review it all. I wanted to follow up on Collins and Pratt, specifically regarding the guidance for Q2 through Q4. Can you help us understand what the exit margin rate might look like at the end of 2021? Is Collins approaching double-digits, while Pratt remains in the mid single-digit range? I'm trying to assess where we might end the year. Thank you.
Toby O'Brien, CFO
Yes, this is Toby. I'll start, and Greg can add if he wants. To give a complete picture, let's contrast decremental and incremental margins. For Collins, we expect Q1 to resemble the latter part of the year, with decrementals around 50% due to challenging comparisons and reduced volume. However, as we move into the last nine months of the year, including the second half, we're anticipating average incremental margins of about 80%, thanks to aftermarket recoveries and cost-reduction measures we've implemented. The performance looks strong based on our recovery assumptions. For Pratt, it's a bit different. Decrementals in Q1 are similar to those in Q2 and Q3 of last year, around 40%. Incremental margins from Q2 to Q4 are expected to average about 30%. It's important to consider the higher original equipment deliveries impacting the GTF and the negative engine margin. We've discussed our assumptions for achieving this improvement, and we're confident in the ranges provided and the businesses' ability to meet these targets.
David Strauss, Analyst
Great. Thanks very much. That's all very helpful.
Toby O'Brien, CFO
Sure. Thanks, David.
Operator, Operator
Thank you. Our next question comes from Myles Walton of UBS. Your line is open.
Myles Walton, Analyst
Thanks. Good morning. I was hoping you could touch a little bit on slide 13 versus 14 and the walk from 2020 to 2021. It looks like from the operational level, there's not much of a help in the EPS walk, but there's this big operational growth bucket that drives you from $2.3 billion to $4.5 billion on the cash flow side. So maybe you could just unpack that operational growth bucket and why it doesn't show up in the earnings?
Toby O'Brien, CFO
Yeah. So I think, Myles, it's Toby the – on page 13, when you look at the first element of that walk, the segments, it's essentially flat, almost $1 to the negative right because of Q1 and the tough compare, and as we said about the same just $0.90 at the midpoint of improvement in the second half. So, really what you're seeing on the EPS is the effects of Q1. If you go to 14, so let me try to give you a little color on the $2.1 billion on the operational growth, right? Really think of it in three buckets: a couple of $300 million related to higher operating income, another roughly $300 million related to favorable pension performance on our assets, right? So, over and above the prepayment that we did, another $300 million there and that leaves you with about $1.5 billion. And that's really all operational working capital related, primarily at the aero businesses at Pratt and Collins. And I'll give you that, and to kind of break that down further into two pieces. If you look at our pro forma financial statements on the face of it, it would show that in 2020 we consumed – or working capital was about a $300 million headwind overall. And then on the slide, you can see we bust out the $800 million of RMD favorability on the collection. So if you normalize for that, it's more like $1.1 billion. And if you were to just hold that constant, have no erosion, you're going to have $1 billion, $1.1 billion benefit in 2021, and then on top of that, we've targeted another call it $400 million to $500 million of working capital inventory type of improvement that make up the balance of that. So, we're very pleased with how Pratt and Collins as we mentioned, especially Collins in our opening comments worked the inventory equation and the working capital in 2021, really good results in the second half of the year, and we expect to see continued improvement to drive our cash flow in 2021 as well.
Myles Walton, Analyst
That’s great. Thanks.
Operator, Operator
Thank you. Our next question comes from Robert Stallard with Vertical Research. Your line is open.
Robert Stallard, Analyst
Thanks so much. Good morning.
Greg Hayes, CEO
Hi, Rob.
Toby O'Brien, CFO
Hey, Rob.
Robert Stallard, Analyst
This one is for Greg or maybe for Toby. If everything goes to plan in 2021, you're actually going to be adding to the $9 billion of liquidity by the look of it. As we look into next year or the year beyond, what do you think is a more realistic level of liquidity to have on the balance sheet moving forward?
Greg Hayes, CEO
Let me start, and then Toby will correct me. As you consider this, we’ve mentioned earlier that we currently have about $3 billion in excess cash on our balance sheet due to divestitures. Looking ahead to 2021, we expect to generate around $4.5 billion, with $3 billion allocated to dividends as our first priority for free cash flow. We plan to use an additional $1.5 billion for share buybacks, which may be a bit more depending on circumstances. We believe we don't need $9 billion on our balance sheet, and we have ample liquidity along with available lines of credit. I anticipate that the $9 billion will likely settle around $6 billion in the long run, providing us flexibility for potential bolt-on M&A or additional share buybacks. It’s crucial to note that we are committed to returning $18 billion to $20 billion to our shareholders, while also aiming to increase the dividend as earnings rise. We will be opportunistic; if we see our share price stagnating in the $60 range, we will be proactive with buybacks. Our balance sheet remains robust, and we paid down $1 billion of debt in November, with another $0.5 billion expected this year. The debt markets remain accessible and favorable, keeping our options open. There won't be any significant M&A activity, but share buybacks will be our primary or secondary focus after dividend payments.
Operator, Operator
Thank you. Our next question comes from Sheila Kahyaoglu with Jefferies. Your line is open.
Sheila Kahyaoglu, Analyst
Hi. Good morning, guys. Thank you for the time.
Greg Hayes, CEO
Hi, Sheila.
Sheila Kahyaoglu, Analyst
I wanted to ask about defense. Just given the EAC adjustments that we should be factoring in maybe for 2021, why aren't margins really expanding there and not really big incremental profit growth? Maybe, Toby, if you could touch upon that?
Toby O'Brien, CFO
I will discuss both businesses individually. We anticipate some sequential improvement in each case. For RIS, there is still a slight drag, although it lessens each quarter due to the EAC reset. As mentioned previously, by the end of 2021, we expect the EAC reset to become a nonissue. There is still some impact on RIS from this. RMD is experiencing revenue growth primarily driven by the ramp-up of the multiyear awards for SM-3 and SM-6. However, they are facing a mix issue as some of their established international production programs are expected to wind down. While they are seeing improvements, the growth is somewhat muted due to these factors. Looking ahead, we anticipate that both businesses will continue to improve margins as we move from 2021 into 2022, based on what we know today.
Sheila Kahyaoglu, Analyst
Good. Thank you.
Toby O'Brien, CFO
Sure.
Operator, Operator
Thank you. Our next question comes from Ron Epstein of Bank of America. Your line is open.
Ron Epstein, Analyst
Thanks. Good morning, guys.
Greg Hayes, CEO
Good morning Ron.
Ron Epstein, Analyst
When you think about all the cost actions you've taken and the realignment and all that how much of that do you see as permanent? And how much of that's going to come back when volume comes back? And then along the same lines how do you know you haven't cut too deep right when you think about the engineering force that you got rid of and so on and so forth. I mean how do you know you didn't kind of cut into the bone?
Greg Hayes, CEO
We were proactive in reducing costs in 2020. As Toby mentioned, we've eliminated approximately 20,000 to 21,000 positions in the commercial sector over the past nine months, including both contractors and full-time employees. On the production side, we will likely add some employees back as volume increases. However, Steve Timm at Collins and Chris Calio at Pratt have indicated a preference for not reinstating all indirect positions. As Toby pointed out, we expect strong incremental margins going forward. While we did reduce our R&D spending and delayed some programs, we are still investing in essential long-term projects. For 2021, we plan to invest $5 billion, with $2.5 billion for capital expenditures and another $2.5 billion for company-funded engineering. We remain committed to investing strategically and maintaining a lean cost structure to support the business moving ahead. Our goal is to improve our margins, aiming for Collins margins near 20% and Pratt in the mid-teens as the recovery progresses. This will require a continued focus on costs. We made significant cuts where necessary, but we believe we have not compromised our future.
Toby O'Brien, CFO
No. I think Ron accurately summarized what Greg mentioned. Even with the reductions in headcount on the direct side, as we continue to enhance our focus on automation and digital operations, we will certainly look to improve margins, which means we may not necessarily reinstate the entire direct workforce. Additionally, we plan to ensure that none of the indirect labor returns. It's important to note that there were around $1 billion in labor savings from these changes, probably split between direct and indirect. Most, if not all, of that indirect labor is unlikely to return, and while some portions of direct labor may come back, I don't expect it to be fully reinstated.
Ron Epstein, Analyst
Okay. Thank you.
Greg Hayes, CEO
Thanks Ron.
Operator, Operator
Thank you. Our next question comes from Carter Copeland with Melius Research. Your line is open.
Carter Copeland, Analyst
Hey, good morning gentlemen.
Greg Hayes, CEO
Good morning.
Carter Copeland, Analyst
Hey, Greg or Toby, could you provide us with more details on the RMD DCS contract and what occurred regarding regulatory approval? Was this a contract you were anticipating approval for, or was it a customer contract that was cut short due to some issue? Please help us understand what happened there. Additionally, is there any risk of similar contracts facing issues in the future? Thank you.
Greg Hayes, CEO
Yes. This was a legacy contract we had with a customer in the Middle East, which we cannot disclose. If you review the 10-K, you may be able to determine the specifics. We had taken this contract as a direct foreign sale, expecting to get a license to provide offensive weapon systems. However, with the change in administration, it seems less likely that we will obtain this license. Therefore, we have decided that we can no longer support the booking of this contract. While it is possible that it could happen in the future, we opted for a conservative stance, considering the new administration's perspective on licensing offensive weapon systems for this customer. This is the only contract of this nature we have, and it pertains to offensive weapons. In contrast, we face no issues obtaining licenses for defensive systems like the Patriot. Moving forward, we will work with the Department of Defense and pursue these contracts through Foreign Military Sales instead of direct foreign sales to ensure alignment with both the DoD and the administration before we proceed with bookings. This was a significant contract, but it is an isolated case, and there are no similar contracts currently in progress.
Toby O'Brien, CFO
The only thing I would add Carter to what Greg commented on. We had a track record where we were successful on other similar contracts in the past in obtaining all the approvals. Even in this, one here what really flipped us to the fact of it not being probable was as Greg said the change in the administration. It was notified under the prior administration, just a little bit late in the game to get to the process. So our judgment changed and now we don't believe it's probable. And as Greg said, we did the proper accounting based upon that change in view.
Carter Copeland, Analyst
Okay. That's great. Does it signal any change of sorts in your growth expectations in that part of the world?
Greg Hayes, CEO
No, no, no. Look peace is not going to break out in the Middle East anytime soon. So I think it remains an area where we'll continue to see solid growth. But again, it's just the nature of this weapon system is such that it's more difficult to sell it on a direct basis versus an FMS basis.
Toby O'Brien, CFO
And this particular product right, the offense ammunition, the dependency in our revenue profile had been declining year-over-year. The volume on this peaked maybe three, four, five years ago. I may be off by a year or two, but it's certainly not material going forward and we didn't have a material expectation on it contributing to the results going forward.
Carter Copeland, Analyst
Great. Thanks for the color guys.
Toby O'Brien, CFO
Sure. Thanks.
Operator, Operator
Thank you. Our next question comes from Noah Poponak with Goldman Sachs. Your line is open.
Noah Poponak, Analyst
Hey, good morning everyone.
Greg Hayes, CEO
Noah.
Toby O'Brien, CFO
Hey, Noah.
Noah Poponak, Analyst
Going back to the effort to understand the guidance for the Collins and Pratt segment, it appears that there won't be much growth in the second half of the year, despite favorable comparisons and the potential recovery in air travel. It seems like the quarterly revenue run rate in the low $4 billion range will remain consistent throughout the year. Have you adopted very conservative assumptions for the aftermarket, given the wide range of possible outcomes in the short term? Regarding the Collins margin, achieving an 80% increment is significant. How do you expect to achieve that with the limited volume recovery? Therefore, is it reasonable to maintain that expectation for next year, anticipating a better volume recovery before stabilizing at a more typical level afterward?
Greg Hayes, CEO
So Noah, let me start by addressing that. When considering the Collins and Pratt situation, it's important to note that on the OEM side, we aren't expecting significant growth in the latter half of the year. In fact, we anticipate a decline in OE at Collins due to the reduction of 787 deliveries from 12 to five aircraft. Despite the 737 ramping up, we've already delivered about one-third of the Boeing production inventory for the full year. Therefore, we don't expect any major increase in OE, so consider it flat. This is also true for Pratt, where we foresee roughly flat production for A320s throughout the year. There could be some potential upside if production increases from 40 to 47, but we'll have to wait and see. There is considerable excess capacity currently. We are ready to support any increase, but we believe our expectations may be conservative. It’s important to note that an increase in OE typically negatively impacts margins. On the other hand, the aftermarket is crucial. We have been optimistic about the Collins aftermarket and we expect a sequential growth of 10% each quarter from Q2 to Q4 following a challenging first quarter. Margins should also improve sequentially as aftermarket growth generally has better margins than OE. However, provisioning, a significant part of the aftermarket at Collins, is unlikely to grow much since it's closely linked to OE deliveries. Overall, we are on a reasonable path for recovery in the aftermarket. It could improve, but we must remember we are at the end of January, and Q2 must grow by 10% followed by Q3. This means that air traffic needs to start increasing soon, and RPM should continue to grow throughout the year.
Toby O'Brien, CFO
Noah, to Greg's point, you will experience the compounding effect of sequential quarter-over-quarter growth. When you break it down to the aftermarket, as Greg mentioned, particularly towards the end of the year, we expect to see growth in the aftermarket for both businesses ranging from high-teens to 25% to 30%. Therefore, there is significant growth anticipated from the aftermarket, and it is a critical variable that we are closely examining when determining the yearly ranges we provided.
Noah Poponak, Analyst
Okay. Yes. I mean, if I have OE flat and then the defense piece still growing and then aftermarket growing 10%, it's just spinning out higher numbers but...
Toby O'Brien, CFO
Yes, while defense at Pratt is relatively stable, we experienced significant growth over the past year at 14%. So, for Pratt, defense will likely remain flat and may even see a slight decline.
Noah Poponak, Analyst
Okay. Okay, I will keep iterating that, but I appreciate all the color. Thanks so much.
Toby O'Brien, CFO
Thanks, Noah.
Operator, Operator
Thank you. Our next question comes from Kristine Liwag with Morgan Stanley. Your line is open.
Kristine Liwag, Analyst
Hey. Good morning, guys.
Toby O'Brien, CFO
Good morning.
Greg Hayes, CEO
Hi.
Kristine Liwag, Analyst
As air traffic recovers, how quickly should we expect commercial aerospace aftermarket to come back? Is it a concurrent recovery, or do you expect to see a delay? And I guess to put it another way to what degree would these cash conservation actions from airlines affect the pace of that growth?
Greg Hayes, CEO
Historically, there has been a delay between the increase in RPM and the uptick in the aftermarket. In 2020, airlines took significant measures for cash conservation, postponing maintenance and reducing inventory. Therefore, we anticipate a faster recovery in the aftermarket this time compared to past patterns, due to the substantial cuts airlines have made to their inventory levels. We might see a delay of a quarter, rather than the typical six months. We're already observing an increase in inputs as air traffic begins to recover. It's just a matter of time, and we project a 10% growth in Q2, Q3, and Q4, which assumes RPM growth will be in that same range.
Toby O'Brien, CFO
Yes. And you're getting it right, Kristine notwithstanding what Greg said about where there have been things that have been deferred that may create a demand a little bit earlier. Typically, you'd see the RPMs increase drive load factors up that in turn drive available seat miles up. And there is a lag there because it's really those ASMs in a normal environment that are going to drive the aftermarket for us. And that's where historically and as we've referenced before that we have seen a potential lag of six months plus or minus. One difference here, as Greg said, we've got some pent-up demand, I guess, is the way to think of it that is a little bit of a mitigator towards that as we move through the year.
Kristine Liwag, Analyst
Thank you.
Toby O'Brien, CFO
Thank you, Kristine.
Operator, Operator
Thank you. Our next question comes from Peter Arment with Baird. Your line is open.
Peter Arment, Analyst
Hi, yes. Good morning. Hey, Greg. Regarding the free cash flow outlook the $4.5 billion. When we think about just the one-time structural CapEx investment outside of that you'd be probably over or near 100% conversion as you kind of approach the one year, kind of, mark on this merger. How are you thinking about your ability to kind of sustain that kind of 100% free cash flow conversion when we think about the longer term? Thanks.
Greg Hayes, CEO
Yes, Peter, prior to the merger, we targeted generating $8 billion to $9 billion in free cash flow as the market recovers. The cash conservation measures we have implemented, including structural cost reductions, will support free cash flow in the long term. If we normalize the $4.5 billion by excluding investments over $5 billion, we expect that to grow back to the previously forecasted $8 billion to $9 billion over the next several years. I don't foresee any obstacles to achieving 100% free cash flow and net income. We don't need to increase our CapEx significantly. However, one challenge looking ahead in future cash flow is the R&D amortization and changes in tax law that will require us to capitalize and amortize R&D over five years. We'll see how corporate taxes play out, but that's more of a concern for 2022-2023 rather than 2021.
Peter Arment, Analyst
Appreciate that. Thanks, Greg.
Greg Hayes, CEO
Thanks, Peter.
Operator, Operator
Thank you. And this concludes our Q&A portion. I'd like to turn the call back over to Mr. Hayes for any further remarks.
Greg Hayes, CEO
Okay. Thank you, Norma and thank you everyone for listening in. And as always, Neil and the whole IR team is available to answer your questions. I want to thank you all for listening in. Everybody stay healthy and be well. Take care.
Operator, Operator
Ladies and gentlemen, thank you for your participation in today's conference. You may now disconnect. Everyone have a wonderful day.