10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)
[X]	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended July 1, 2001

	OR
[   ]	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number: 1-3671

GENERAL DYNAMICS CORPORATION

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)	13-1673581 (I.R.S. Employer Identification No.)
3190 Fairview Park Drive, Falls Church, Virginia (Address of principal executive offices)	22042-4523 (Zip Code)

(703) 876-3000
 (Registrant's telephone number, including area code)

      Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days.  Yes   X            No      

201,376,039 shares of the registrant's common stock, $1 par value per share, were outstanding at July 29, 2001.

GENERAL DYNAMICS CORPORATION

INDEX

PART I — FINANCIAL INFORMATION	PAGE
Item 1 — Consolidated Financial Statements
Consolidated Balance Sheet		2
Consolidated Statement of Earnings (Three Months)		3
Consolidated Statement of Earnings (Six Months)		4
Consolidated Statement of Cash Flows		5
Notes to Unaudited Consolidated Financial Statements		6
Item 2 — Management’s Discussion and Analysis		17
Item 3 — Quantitative and Qualitative Disclosures About Market Risk		24
PART II — OTHER INFORMATION
Item 1 — Legal Proceedings		25
Item 4 — Submission of Matters to a Vote of Security Holders		25
Item 6 — Exhibits and Reports on Form 8-K		26
SIGNATURE		27

1

PART I

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

GENERAL DYNAMICS CORPORATION

CONSOLIDATED BALANCE SHEET

(Dollars in millions)

	July 1
	2001			December 31
	(Unaudited)			2000
ASSETS
CURRENT ASSETS:
Cash and equivalents	$	163		$	177
Accounts receivable		921			798
Contracts in process		1,488			1,238
Inventories		1,456			953
Other current assets		408			385
Total Current Assets		4,436			3,551
NONCURRENT ASSETS:
Property, plant and equipment, net		1,555			1,294
Intangible assets, net		559			528
Goodwill, net		2,366			2,003
Other assets		644			611
Total Noncurrent Assets		5,124			4,436
	$	9,560		$	7,987
LIABILITIES AND SHAREHOLDERS’ EQUITY
CURRENT LIABILITIES:
Short-term debt	$	958		$	340
Accounts payable		822			717
Other current liabilities		2,212			1,844
Total Current Liabilities		3,992			2,901
NONCURRENT LIABILITIES:
Long-term debt		219			162
Other liabilities		1,135			1,104
Commitments and contingencies (See Note L)
Total Noncurrent Liabilities		1,354			1,266
SHAREHOLDERS’ EQUITY:
Common stock, including surplus		668			619
Retained earnings		4,414			4,059
Treasury stock		(847	)		(833	)
Accumulated other comprehensive loss		(21	)		(25	)
Total Shareholders’ Equity		4,214			3,820
	$	9,560		$	7,987

      The accompanying Notes to Unaudited Consolidated Financial Statements are an integral part of this statement.

2

GENERAL DYNAMICS CORPORATION

CONSOLIDATED STATEMENT OF EARNINGS

(UNAUDITED)

(Dollars in millions, except per share amounts)

			Three Months Ended
			July 1			July 2
			2001			2000
NET SALES			$	2,962		$	2,617
OPERATING COSTS AND EXPENSES				2,591			2,282
OPERATING EARNINGS				371			335
Interest expense, net				(15	)		(16	)
Other expense, net				(3	)		(1	)
EARNINGS BEFORE INCOME TAXES				353			318
Provision for income taxes				126			114
NET EARNINGS			$	227		$	204
NET EARNINGS PER SHARE:
	Basic		$	1.13		$	1.02
	Diluted		$	1.12		$	1.01
DIVIDENDS PER SHARE			$	.28		$	.26
SUPPLEMENTAL INFORMATION:
		General and administrative expenses included in operating costs and expenses	$	209		$	163

      The accompanying Notes to Unaudited Consolidated Financial Statements are an integral part of this statement.

3

GENERAL DYNAMICS CORPORATION

CONSOLIDATED STATEMENT OF EARNINGS

(UNAUDITED)

(Dollars in millions, except per share amounts)

			Six Months Ended
			July 1			July 2
			2001			2000
NET SALES			$	5,635		$	5,163
OPERATING COSTS AND EXPENSES				4,930			4,522
OPERATING EARNINGS				705			641
Interest expense, net				(27	)		(35	)
Other income (expense), net				5			(2	)
EARNINGS BEFORE INCOME TAXES				683			604
Provision for income taxes				216			216
NET EARNINGS			$	467		$	388
NET EARNINGS PER SHARE:
	Basic		$	2.33		$	1.94
	Diluted		$	2.31		$	1.92
DIVIDENDS PER SHARE			$	.56		$	.52
SUPPLEMENTAL INFORMATION:
		General and administrative expenses included in operating costs and expenses	$	391		$	320

      The accompanying Notes to Unaudited Consolidated Financial Statements are an integral part of this statement.

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GENERAL DYNAMICS CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
(Dollars in millions)

		Six Months Ended
		July 1			July 2
		2001			2000
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings		$	467		$	388
Adjustments to reconcile net earnings to net cash provided by operating activities -
Depreciation, depletion and amortization of plant and equipment			80			71
Amortization of intangible assets and goodwill			47			40
(Increase) Decrease in current assets, net of effects of business acquisitions-
	Accounts receivable		(51	)		4
	Contracts in process		(103	)		(147	)
	Inventories		(82	)		41
	Other current assets		(4	)		(14	)
Increase (Decrease) in current liabilities, net of effects of business acquisitions-
	Accounts payable and other current liabilities		18			62
	Customer deposits		48			15
Other, net			(51	)		(11	)
Net Cash Provided by Operating Activities			369			449
CASH FLOWS FROM INVESTING ACTIVITIES:
Business acquisitions, net of cash acquired			(711	)		(41	)
Capital expenditures			(110	)		(178	)
Proceeds from sale of assets			70			6
Other, net			(3	)		—
Net Cash Used by Investing Activities			(754	)		(213	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from commercial paper issuances			611			45
Net repayments of other debt, including finance operations			(157	)		(12	)
Dividends paid			(108	)		(100	)
Purchases of common stock			(20	)		(189	)
Proceeds from option exercises			38			25
Other, net			7			—
Net Cash Provided (Used) by Financing Activities			371			(231	)
NET (DECREASE) INCREASE IN CASH AND EQUIVALENTS			(14	)		5
CASH AND EQUIVALENTS AT BEGINNING OF PERIOD			177			270
CASH AND EQUIVALENTS AT END OF PERIOD		$	163		$	275
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash payments for:
Federal income taxes		$	160		$	182
Interest, including finance operations		$	35		$	39

      The accompanying Notes to Unaudited Consolidated Financial Statements are an integral part of this statement.

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GENERAL DYNAMICS CORPORATION

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in millions, except per share amounts)

(A) Basis of Preparation

      The term “company” refers to General Dynamics Corporation and all of its wholly-owned and majority-owned subsidiaries. The unaudited consolidated financial statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Although certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, the company believes that the disclosures included herein are adequate to make the information presented not misleading. Operating results for the three- and six-month periods ended July 1, 2001, are not necessarily indicative of the results that may be expected for the year ending December 31, 2001. These unaudited consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the company’s Annual Report on Form 10-K for the year ended December 31, 2000.

      In the opinion of the company, the unaudited consolidated financial statements contain all adjustments necessary for a fair statement of the results for the three- and six-month periods ended July 1, 2001 and July 2, 2000.

(B) New Accounting Standards

      The Financial Accounting Standards Board issued Statements of Financial Accounting Standards (SFAS) No. 141, “Business Combinations,” and No. 142, “Goodwill and Other Intangible Assets,” on June 30, 2001. SFAS 141 requires all business combinations initiated after June 30, 2001, to be accounted for using the purchase method. The provisions of SFAS 142 eliminate amortization of goodwill and identifiable intangible assets with indefinite lives, and require an impairment assessment at least annually by applying a fair-value-based test. The company is required to adopt SFAS 142 on January 1, 2002. The company anticipates an annual increase to net earnings of approximately $45, or $.22 per diluted share, from the elimination of goodwill amortization. Management does not expect the other provisions of the statements to have a material impact on the company’s results of operations or financial condition.

      The company adopted SFAS 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS 137 and 138, on January 1, 2001. SFAS 133 requires that all derivative instruments be recorded on the balance sheet at their fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income based on the guidelines stipulated in SFAS 133. The adoption of the standard did not have a material impact on the company’s results of operations or financial condition.

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      The company’s operations attempt to minimize the effects of currency risk by borrowing externally in the local currency or by hedging their purchases made in foreign currencies, when practical. The company is exposed to the effects of foreign currency fluctuations on the U.S. dollar value of earnings from its international operations. As a matter of policy, the company does not engage in currency speculation. The company periodically enters into foreign currency derivatives, including forward exchange and currency swap contracts, to hedge its exposure to fluctuations in foreign currency exchange rates. The adjustments to fair value related to these cash flow hedges during the three- and six-month periods ended July 1, 2001 resulted in an increase to accumulated other comprehensive loss of $12 and $6, respectively. There were no material derivative instruments designated as fair value or net investment hedges during the six-month period ended July 1, 2001.

(C) Comprehensive Income

      Comprehensive income was $214 and $201 for the three-month periods and $471 and $386 for the six-month periods ended July 1, 2001 and July 2, 2000, respectively. Comprehensive income consists primarily of net earnings ($227 and $204 for the three-month periods and $467 and $388 for the six-month periods ended July 1, 2001 and July 2, 2000, respectively), foreign currency translation adjustments, and in 2001, the fair value adjustment of a currency swap required by the adoption of SFAS 133 (see Notes B and I).

(D) Acquisitions – Purchase Method

      On August 6, 2001, the company announced that it had entered into a definitive agreement to acquire certain net assets of Motorola, Inc.’s Integrated Information Systems Group for $825 in cash. The company expects to finance the purchase through the issuance of commercial paper and floating rate notes. The acquisition is subject to regulatory review and is expected to close before the end of the third quarter. The Integrated Information Systems Group provides defense and government customers with technologies, products and systems for secure communication, information assurance, situational awareness and integrated communication systems. The business will become part of the company’s Information Systems and Technology business group.

      On June 5, 2001, the company completed the acquisition of Galaxy Aerospace Company, LP (Galaxy Aerospace), for $355 in cash. The company financed the purchase through the issuance of commercial paper. The selling parties may receive additional payments, up to a maximum of $315 through 2006, contingent upon the achievement of specific revenue targets. Galaxy Aerospace designs and manufactures the super mid-size Gulfstream 200 and the mid-size Gulfstream 100 (previously the Galaxy and Astra SPX aircraft, respectively). The purchase price has been allocated to the estimated fair value of net tangible and intangible assets acquired, with the excess recorded as goodwill (see Note H). Certain of the estimates are preliminary at July 1, 2001, but will be finalized within one year from the date of acquisition. Galaxy Aerospace is part of the Aerospace business group and is included in the company’s results of operations from the closing date.

      On May 11, 2001, the company entered into an agreement to acquire certain net assets of the Boeing Company’s ordnance operating unit. The acquisition is subject to regulatory review, which is expected to be completed before the end of the third quarter. The ordnance unit produces a wide range of medium-caliber automatic cannons for air, land and sea applications. The operations will become part of the company’s Combat Systems business group.

7

      On April 25, 2001, the company announced that it has entered into a definitive agreement to acquire for cash the publicly held outstanding shares of Newport News Shipbuilding Inc. (NYSE:NNS) for $67.50 per share. The transaction is valued at approximately $2,600, which includes the obligation to assume approximately $500 in debt. Newport News Shipbuilding designs and constructs nuclear-powered aircraft carriers and submarines for the U.S. Navy and provides life-cycle services for ships in the Navy fleet. The company commenced the tender offer for all the outstanding shares of Newport News Shipbuilding on May 4, 2001. The acquisition, subject to the tendering of a majority of the Newport News Shipbuilding shares as well as regulatory approval, is expected to close in the third quarter of 2001. Following the completion of the tender offer and necessary approvals, the company intends to consummate a second-step merger, in which all of the remaining Newport News Shipbuilding shareholders receive the same price paid in the tender offer. The company expects to finance the purchase initially through the issuance of commercial paper and the subsequent issuance of debt securities.

      On January 26, 2001, the company acquired Primex Technologies, Inc. (renamed, General Dynamics Ordnance and Tactical Systems) for $334 in cash, plus the assumption of $204 in debt (see Note I). The company financed the purchase through the issuance of commercial paper. Ordnance and Tactical Systems provides a variety of munitions, propellants, satellite propulsion systems and electronics products to the U.S. and its allies, as well as domestic and international industrial customers. The purchase price has been allocated to the estimated fair value of net tangible assets acquired, with the excess recorded as goodwill (see Note H). Certain of the estimates are preliminary at July 1, 2001, but will be finalized within one year from the date of acquisition. Ordnance and Tactical Systems is part of the Combat Systems business group and is included in the company’s results of operations from the closing date.

(E) Earnings Per Share

      Basic and diluted weighted average shares outstanding are as follows (in thousands):

	Three-months ended				Six-months ended
	July 1		July 2		July 1		July 2
	2001		2000		2001		2000
Basic		201,029		200,104		200,715		200,500
Diluted		203,010		201,842		202,519		201,858

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(F) Contracts in Process

      Contracts in process primarily represent costs and accrued profit related to defense contracts and programs, and consist of the following:

	July 1		December 31
	2001		2000
Net contract costs and estimated profits	$	718	$	520
Other contract costs		770		718
	$	1,488	$	1,238

      Contract costs are net of advances and progress payments and include production costs and related overhead, such as general and administrative expenses. Other contract costs primarily represent amounts required to be recorded under generally accepted accounting principles that are not currently allocable to contracts, such as a portion of the company’s estimated workers’ compensation, other insurance-related assessments, retirement benefits and environmental expenses. Recovery of these costs under contracts is considered probable based on the company’s backlog. If the level of backlog in the future does not support the continued deferral of these costs, the profitability of the company’s remaining contracts could be affected.

(G) Inventories

      Inventories consist primarily of commercial aircraft components, as follows:

	July 1		December 31
	2001		2000
Work in process	$	889	$	405
Raw materials		321		289
Pre-owned aircraft		223		236
Other		23		23
	$	1,456	$	953

      The significant increase in work in process is primarily due to the acquisition of Galaxy Aerospace (see Note D). Other inventories consist primarily of coal and aggregates, which are stated at the lower of average cost or estimated net realizable value.

(H) Intangible Assets and Goodwill, Net

      Intangible assets consist of the following:

	July 1		December 31
	2001		2000
Contracts and programs	$	437	$	446
Other		122		82
	$	559	$	528

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      Intangible assets are shown net of accumulated amortization of $154 and $139 at July 1, 2001, and December 31, 2000, respectively. Contracts and programs acquired are amortized on a straight-line basis over periods ranging from 25 to 40 years. Other consists primarily of aircraft product design, customer lists, workforce and purchase options on buildings currently leased. Other intangible assets are amortized over periods ranging from 3 to 21 years.

      Goodwill resulted from the company’s business acquisitions. Goodwill is amortized on a straight-line basis primarily over 40 years and is shown net of accumulated amortization of $162 and $131 at July 1, 2001, and December 31, 2000, respectively.

(I) Debt

      Debt (excluding finance operations) consists of the following:

	July 1		December 31
	2001		2000
Commercial paper, net of unamortized discount	$	951	$	340
Senior notes		139		139
Term debt		55		—
Industrial development bonds		15		15
Other		17		8
		1,177		502
Less current portion		958		340
	$	219	$	162

      As of July 1, 2001, the company had $954 par value discounted commercial paper outstanding at an average yield of approximately 4.28 percent with an average term of approximately 27 days. In connection with recently announced and pending acquisitions, the company has obtained new credit facilities totaling $5 billion. On July 11, 2001, the company secured a $3 billion credit facility, which is intended to be used to back the commercial paper to be issued as bridge financing until debt securities are issued for the Newport News Shipbuilding acquisition. On July 20, 2001, the company secured two new committed lines of credit totaling $2 billion, split evenly between a 364-day and 5-year term facility. Both facilities also back the commercial paper program and replace the company’s previous lines of credit, which totaled $1.4 billion.

      In connection with the company’s 1997 acquisition of Information Systems, Computing Devices Canada and Computing Devices U.K., the company borrowed in Canadian dollars the equivalent of $220. In April 1998, the company repaid $70 of this note. In September 1998, Computing Devices Canada refinanced $150 with privately-placed senior notes maturing in 2008. Concurrently, Computing Devices Canada entered into a currency swap, which fixed in U.S. dollars the principal of $150 and annual interest at 6.32 percent, payable semi-annually. At July 1, 2001, the fair value of the debt is $150, and the fair value of the currency swap would result in a $5 gain.

      As part of the acquisition of Primex Technologies, Inc., the company assumed $204 of outstanding debt, $149 of which was repaid at the time of the acquisition. The remaining $55 is indicated as term debt and is payable in $5 increments in December of the years 2001 through 2007, with the remaining $20 payable in December 2008. Interest is payable in June and December at the rate of 7.5 percent annually.

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      Other at July 1, 2001, primarily represents two capital leases. One lease expires in 2010. The other expires in 2009, and has a five-year renewal option.

(J) Liabilities

      A summary of significant liabilities, by balance sheet caption, follows:

	July 1		December 31
	2001		2000
Customer deposits	$	710	$	484
Workers’ compensation		461		454
Retirement benefits		276		253
Other		765		653
Other Current Liabilities	$	2,212	$	1,844
Retirement benefits	$	347	$	324
Accrued costs on disposed businesses		99		116
Coal mining related liabilities		71		73
Other		618		591
Other Liabilities	$	1,135	$	1,104

(K) Income Taxes

      The company had a net deferred tax asset of $150 and $163 at July 1, 2001, and December 31, 2000, respectively, the current portion of which was $322 and $318, respectively, and was included in other current assets on the Consolidated Balance Sheet. Based on the level of projected earnings and current backlog, no valuation allowance was required for the company’s deferred tax assets at July 1, 2001, and December 31, 2000.

      During the first quarter of 2001, the company reduced its liabilities for tax contingencies. The company recognized a non-cash benefit of $28, or $.14 per diluted share, as a result of this adjustment.

      The company has recorded liabilities for tax contingencies for open years. Resolution of tax matters for these years is not expected to have a materially unfavorable impact on the company’s results of operations or financial condition.

(L) Commitments and Contingencies

      Litigation

      From time to time, the company is subject to various legal proceedings arising out of the ordinary course of its business. Except as described below, the company does not consider any of such proceedings, individually or in the aggregate, to be material to its business or likely to result in a material adverse effect on its results of operations or financial condition. Claims made by and against the company regarding the development of the Navy’s A-12 aircraft are discussed in Note M.

      On April 19, 1995, 101 then-current and former employees of General Dynamics’ Convair Division in San Diego, California filed a six-count complaint in the Superior Court of California, County

11

of San Diego, titled Argo, et al. v. General Dynamics, et al. In addition to General Dynamics, four of Convair’s then-current or former managers were also named as individual defendants. The plaintiffs alleged that the company interfered with their right to join an earlier class action lawsuit for overtime wages brought pursuant to the Federal Fair Labor Standards Act by, among other things, concealing its plans to close the Convair Division. On May 1, 1997, a jury rendered a verdict of $101 against the company and one of the defendants in favor of 97 of the plaintiffs. The jury awarded the plaintiffs a total of $1.8 in actual damages and $99 in punitive damages. The company and the individual defendant appealed the judgment. On May 1, 2001, the Appellate Court for the Fifth District of California reversed the jury’s verdict, remanded the case with directions to enter judgment in favor of General Dynamics and awarded the company its trial and appellate court costs. On May 3, 2001, the parties reached a settlement in which the plaintiffs agreed to waive any further right to appeal and the company agreed to waive its right to seek reimbursement of its costs.

      Less than a month following the jury’s verdict in Argo, on June 27, 1997, General Dynamics Corporation was named as a defendant in a complaint filed in the Superior Court of California, County of San Diego, titled Williamson, et al. v. General Dynamics Corporation, et al. The Williamson allegations were virtually identical to the allegations made in the Argo lawsuit; however, Williamson was styled as a class action lawsuit. On August 7, 1997, General Dynamics removed the case to the United States District Court for the Southern District of California. On April 3, 1998, the district court granted General Dynamics’ motion to dismiss plaintiffs’ complaint in its entirety. Plaintiffs appealed that decision to the Ninth Circuit Court of Appeals. On April 12, 2000, the Ninth Circuit issued an opinion reversing the district court’s order of dismissal and remanded the case to the district court for further proceedings. After the Appellate Court for the Fifth District of California reversed the verdict in Argo, the parties entered into an agreement in which the company agreed to pay plaintiffs and their counsel a nominal amount in full settlement of their claims. The stipulation of dismissal was entered on July 26, 2001.

      On July 13, 1995, General Dynamics Corporation was named as a defendant in a complaint filed in the Circuit Court of St. Louis County, Missouri, titled Hunt, et al. v. General Dynamics Corporation, et al. The complaint also named as defendants General Dynamics’ two insurance brokers: the London broker, Lloyd Thompson, Ltd.; and the United States broker, Willis Corroon Corporation of Missouri. The plaintiffs are members of certain Lloyd’s of London syndicates and British insurance companies who sold the company four aggregate excess loss insurance policies covering the company’s self-insured workers’ compensation program at Electric Boat for four policy years, from July 1, 1988 to June 30, 1992. The plaintiffs alleged that when procuring the policies the company and its brokers made misrepresentations to the plaintiffs and failed to disclose facts that were material to the risk. The plaintiffs also alleged that the company was negligent in its administration of workers’ compensation claims. The plaintiffs sought rescission of the policies, a declaratory judgment that the policies are void, and compensatory damages in an unspecified amount. General Dynamics counterclaimed, alleging that the plaintiffs breached their insurance contracts by failing to pay claims. General Dynamics also served cross-claims against Lloyd Thompson for negligence and breach of fiduciary duty, which were severed pending the trial of the claims between General Dynamics and the plaintiffs. In February 2000, General Dynamics completed the trial before a special master of the claims between General Dynamics and the plaintiffs. In August 2000, the special master issued his decision, which recommended rescission of two of the policies, on the grounds of fraud by the London broker, and recommended an award of damages against the plaintiffs with respect to the other two policies. The special master found that although the company made no misrepresentations of fact in connection with the procurement of the policies, the London broker, who is the company’s agent, did. On December 21, 2000, the Circuit Court adopted the findings and conclusions of the special master in their entirety and entered judgment thereon. On April 4,

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2001, General Dynamics filed a notice of appeal with the Missouri Court of Appeals, Eastern District. On April 13, 2001, plaintiffs also filed a notice of appeal with the Appellate Court. On May 9, 2001, the plaintiffs and General Dynamics agreed to settle their claims and to dismiss the appeal. General Dynamics’ cross-claims against the London broker remain pending. General Dynamics does not expect that this case will have a material impact on the company’s results of operations or financial condition.

      Environmental

      The company is directly or indirectly involved in certain Superfund sites in which the company, along with other major U.S. corporations, has been designated a PRP by the EPA or a state environmental agency with respect to past shipments of waste to sites now requiring environmental cleanup. Based on a site by site analysis of the estimated quantity of waste contributed by the company relative to the estimated total quantity of waste, the company believes its liability at any individual site, or in the aggregate, is not material. The company is also involved in the investigation, cleanup and remediation of various conditions at sites it currently or formerly owned or operated where the release of hazardous materials may have occurred.

      The company measures its environmental exposure based on enacted laws and existing regulations and on the technology expected to be approved to complete the remediation effort. The estimated cost to perform each of the elements of the remediation effort is based on when those elements are expected to be performed. Where a reasonable basis for apportionment exists with other PRPs, the company estimates only its allowable share of the joint and several remediation liability for a site, taking into consideration the solvency of other participating PRPs. Based on a site by site analysis, the company believes it has adequate accruals for any liability it may incur arising from sites currently or formerly owned or operated at which there is a known environmental condition, or Superfund or other multi-party sites at which the company is a PRP.

      The company is also a defendant in other lawsuits and claims and in other investigations of varying nature. The company believes its potential liabilities in these proceedings, in the aggregate, will not be material to the company’s results of operations or financial condition.

      Other

      A major coal customer is seeking arbitration before a tripartite panel of the American Arbitration Association. The customer alleged in its claim that the company has breached the coal supply agreement by charging excessive seller costs and failing to use best efforts in operating the business in a commercially reasonable fashion for the period of January 1998 to the present. The company anticipates that the panel will hear the claim by the first quarter of 2002 at the earliest, and does not expect the outcome of this proceeding to have a material adverse effect on its results of operations or financial condition.

      As of June 30, 2001, in connection with orders for 25 Gulfstream aircraft in firm contracts backlog, including 14 aircraft orders assumed in connection with the acquisition of Galaxy Aerospace, the company has offered customers trade-in options, which may or may not be exercised by the customers. Under these options, the company will accept trade-in aircraft, primarily Gulfstream model aircraft, at a guaranteed minimum trade-in price. Management believes that the fair market value of all such aircraft exceeds the specified trade-in value.

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(M) Termination of A-12 Program

      The A-12 contract was a fixed-price incentive contract for the full-scale development and initial production of the Navy’s new carrier-based Advanced Tactical Aircraft. In January 1991, the Navy terminated the company’s A-12 aircraft contract for default. Both the company and McDonnell Douglas, now owned by the Boeing Company, (the contractors) were parties to the contract with the Navy, each had full responsibility to the Navy for performance under the contract, and both are jointly and severally liable for potential liabilities arising from the termination. As a consequence of the termination for default, the Navy demanded that the contractors repay $1,352 in unliquidated progress payments, but agreed to defer collection of the amount pending a decision by the U.S. Court of Federal Claims on the contractors’ challenge to the termination for default, or a negotiated settlement.

      The contractors filed a complaint on June 7, 1991, in the U.S. Court of Federal Claims contesting the default termination. The suit, in effect, seeks to convert the termination for default to a termination for convenience of the U.S. government and seeks other legal relief. A trial on Count XVII of the complaint, which relates to the propriety of the process used in terminating the contract for default, was concluded in October 1993. In December 1994, the court issued an order vacating the termination for default. On December 19, 1995, following further proceedings, the court issued an order converting the termination for default to a termination for convenience. On March 31, 1998, a final judgment was entered in favor of the contractors for $1,200 plus interest.

      On July 1, 1999, the Court of Appeals found that the trial court erred in converting the termination for default to a termination for convenience without first determining whether a default existed. The Court of Appeals remanded the case for determination of whether the government’s default termination was justified. The Court of Appeals stated that it was expressing no view on that issue, and it left the parties the opportunity to litigate that issue fully on remand. The trial on remand commenced on May 7, 2001, and concluded on June 20, 2001. The parties have submitted their proposed findings of fact and conclusions of law. A decision is expected later this year.

      The company continues to believe that the government’s default termination was improper, both as to process (the basis relied upon by the trial court) and because the contractors were not in default. The company continues to believe that at a full trial it will be able to demonstrate that the default termination was not justified and that the termination for default will be converted to a termination for convenience. If the company is successful in such a new trial, it could result in the same, a lesser or a greater award to the contractors.

      The company has fully reserved the contracts in process balance associated with the A-12 program and has accrued the company’s estimated termination liabilities and the liability associated with pursuing the litigation through the appeals process and remand proceedings. In the event that the contractors are ultimately found to have been in default under the A-12 contract and are required to repay all unliquidated progress payments, additional losses of approximately $675, plus interest, may be recognized by the company. While the company believes the possibility of this result is remote, if in the unlikely event the company is ultimately found to have been in default on the contract, management believes the company would be able to repay the unliquidated progress payments plus interest. Management’s Discussion and Analysis of the Results of Operations and Financial Condition contains information on liquidity.

14

(N) Business Group Information

      Management has chosen to organize and measure its business groups in accordance with several factors, including a combination of the nature of products and services offered and the class of customer for the company’s products. Operating groups are aggregated for reporting purposes consistent with these criteria. Management measures its groups’ profit on operating earnings. As such, net interest, other income items and income taxes have not been allocated to the company’s business groups. For a further description of the company’s business groups, see Management’s Discussion and Analysis of the Results of Operations and Financial Condition.

      Summary financial information for each of the company’s business groups follows:

					Three Months Ended
			Net Sales			Operating Earnings
	July 1			July 2		July 1		July 2
	2001			2000		2001		2000
Marine Systems	$	947		$	855	$	83	$	82
Aerospace		765			821		157		151
Information Systems    & Technology		670			590		61		53
Combat Systems		510			288		56		36
Other*		70			63		14		13
	$	2,962		$	2,617	$	371	$	335

	Six Months Ended
	Net Sales				Operating Earnings
	July 1		July 2		July 1		July 2
	2001		2000		2001		2000
Marine Systems	$	1,809	$	1,701	$	163	$	170
Aerospace		1,477		1,551		301		282
Information Systems & Technology		1,282		1,196		121		111
Combat Systems		948		603		104		73
Other*		119		112		16		5
	$	5,635	$	5,163	$	705	$	641

15

	Identifiable Assets
	July 1		December 31
	2001		2000
Marine Systems	$	1,639	$	1,613
Aerospace		2,503		1,710
Information Systems & Technology		2,434		2,340
Combat Systems		1,653		1,054
Other*		327		317
Corporate**		1,004		953
	$	9,560	$	7,987

* Other includes the results of the company’s coal, aggregates and finance operations, as well as the operating results of the company’s commercial pension plans.

** Corporate identifiable assets include cash and equivalents from domestic operations, deferred taxes, real estate held for development and net prepaid pension cost related to the company’s commercial pension plans.

16

GENERAL DYNAMICS CORPORATION

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

July 1, 2001

(Dollars in millions, except per share amounts)

Forward-Looking Statements

      Management’s Discussion and Analysis of the Results of Operations and Financial Condition contains forward-looking statements, which are based on management’s expectations, estimates, projections and assumptions. Words such as “expects,” “anticipates,” “plans,” “believes,” “scheduled,” “estimates,” variations of these words and similar expressions are intended to identify forward-looking statements which include but are not limited to projections of revenues, earnings, segment performance, cash flows, contract awards, aircraft production, deliveries and backlog stability. Forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, as amended. These statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict. Therefore, actual future results and trends may differ materially from what is forecast in forward-looking statements due to a variety of factors, including, without limitation: the company’s successful execution of internal performance plans; changing priorities or reductions in the U.S. government defense budget; termination of government contracts due to unilateral government action; changing customer demand or preferences for business aircraft; changes from the company’s expectations with respect to its customers’ exercise of business aircraft options, as well as reliance on contract performance by a small number of large fleet customers for a significant portion of the firm aircraft contracts backlog; performance issues with key suppliers and subcontractors; the status or outcome of legal and/or regulatory proceedings; the status or outcome of labor negotiations; and the timing and occurrence (or non-occurrence) of circumstances beyond the company’s control.

Results of Operations — Overview

      Net sales reached $3 billion for the three-month period ended July 1, 2001, a 13 percent growth from the year-ago comparative quarter of $2.6 billion. Revenue growth, after adjusting for the effect of business acquisitions and pre-owned aircraft activity, exceeded 12 percent and was realized by all of the company’s business groups. Operating earnings for the three-month period ended July 1, 2001 grew by 11 percent, driven essentially by revenue growth in all business groups and margin improvement in the Aerospace group. Quarter over quarter earnings per share is up 11 percent.

      The company ended the second quarter of 2001 with a total backlog of $24.3 billion, an increase of 23 percent from year-end when total backlog was $19.7 billion. Most of the increase can be attributed to new orders in the Aerospace and Combat Systems business groups. Aerospace backlog increased to $8.4 billion from $4.4 billion, and Combat Systems increased to $3.2 billion from $1.8 billion.

17

Results of Operations — Business Groups

      The following table sets forth the net sales and operating earnings by business group for the three- and six-month periods ended July 1, 2001 and July 2, 2000:

	Three-Month Period Ended							Six-Month Period Ended
	July 1		July 2		Increase/				July 1		July 2		Increase/
	2001		2000		(Decrease)				2001		2000		(Decrease)
NET SALES:
Marine Systems	$	947	$	855	$	92			$	1,809	$	1,701	$	108
Aerospace		765		821		(56	)			1,477		1,551		(74	)
Information Systems   & Technology		670		590		80				1,282		1,196		86
Combat Systems		510		288		222				948		603		345
Other		70		63		7				119		112		7
	$	2,962	$	2,617	$	345			$	5,635	$	5,163	$	472
OPERATING EARNINGS:
Marine Systems	$	83	$	82	$	1			$	163	$	170	$	(7	)
Aerospace		157		151		6				301		282		19
Information Systems   & Technology		61		53		8				121		111		10
Combat Systems		56		36		20				104		73		31
Other		14		13		1				16		5		11
	$	371	$	335	$	36			$	705	$	641	$	64

Marine Systems

      Operating earnings decreased slightly during the six-month period ended July 1, 2001, on higher sales, due primarily to increased work on early stage production programs, including the Virginia-class submarine, LPD amphibious ship and commercial ship contracts. This trend is expected to continue through the remainder of the year.

Aerospace

      Operating earnings increased during the three- and six-month periods ended July 1, 2001, due primarily to improved cost performance in both green production and the completion process. Sales volume for the three- and six-month periods ended in the current year are lower as compared with the prior year periods, during which Gulfstream experienced an exceptional volume of pre-owned aircraft sales activity. Gulfstream delivered 18 and 36 green aircraft and completed 20 and 35 deliveries during both three- and six-month periods, respectively. As further discussed in the Backlog section, new aircraft orders for all product lines of Gulfstream for the quarter increased significantly in comparison to the prior year quarter.

18

Information Systems and Technology

      Sales and operating earnings increased for the three- and six-month periods ended July 1, 2001, due primarily to the volume mix in programs. Operating margins are consistent with the prior year periods.

Combat Systems

      Net sales and operating earnings increased during the three- and six-month periods ended July 1, 2001, due primarily to the acquisition of Ordnance and Tactical Systems (OTS) on January 26, 2001, as well as an increase in volume due to start-up programs, including the Interim Armored Vehicle (IAV) and Advanced Amphibious Assault Vehicle (AAAV) programs. OTS is anticipated to add approximately $500 in revenues for the year. Operating margins are lower than the prior year periods due to the previously mentioned start-up programs and the OTS acquisition, both of which have lower margins than the historical average for the group.

Other

      Operating earnings increased during the six-month period ended July 1, 2001, due to non-recurring charges associated with the coal operations in the prior year, as well as increased volume at the aggregates business.

Backlog and Significant Contract Awards

      The following table details the backlog of each business group as calculated at July 1, 2001, and December 31, 2000:

		July 1		December 31
		2001		2000
Marine Systems		$	10,151	$	11,211
Aerospace			8,353		4,370
Information Systems & Technology			2,139		1,942
Combat Systems			3,226		1,773
Other			409		446
	Total Backlog	$	24,278	$	19,742
	Funded Backlog	$	16,178	$	14,442

Defense Businesses

      Total backlog represents the estimated remaining sales value of work to be performed under firm contracts. Funded backlog for government programs represents the portion of total backlog that has been appropriated by Congress and funded by the procuring agency.

19

      In July 2001, the company was awarded a $2.4 billion contract by the UK Ministry of Defence as prime contractor for the development and integration of the BOWMAN communications system. BOWMAN is a secure digital voice and data communication system for the UK armed forces. It is anticipated that all army vehicles will be equipped and all personnel will be trained on the system by October 2007.

      In July 2001, the company was awarded a $712 contract by the U.S. Marine Corp. for the systems development and demonstration phase of the AAAV program. This contract starts the next phase in the development of the AAAV, which began with an award of a $200 demonstration/validation contract to the company in 1996. The total estimated value of the production program, including international sales, exceeds $5 billion.

      In April 2001, the Army’s six-year requirements contract award to GM GDLS Defense Group, a joint venture between the company and General Motors Canada Ltd., to equip its Brigade Combat Teams with an eight-wheeled armored vehicle (IAV program) was upheld after protest by a competitor. The total estimated value of this contract is $4 billion for 2,131 vehicles.

      On March 30, 2001, the company was awarded a $741 multiyear contract by the U.S. Army to deliver an additional 307 M1A2 Abrams upgrade tanks with the System Enhancement Package. This is a follow-on award to the $1.3 billion, 580 vehicle contract awarded in 1996, and extends the company’s deliveries to 2004.

Aerospace

      Funded aircraft backlog represents orders for which the company has entered into a definitive purchase contract with no material contingencies and has received a significant non-refundable deposit from the customer. Total backlog includes options to purchase new aircraft and agreements to provide future aircraft maintenance and support services. A significant portion of the total backlog consists of agreements with three unaffiliated customers who purchase the aircraft for use in their respective fractional ownership programs.

      With the acquisition of Galaxy Aerospace Company, LP (Galaxy Aerospace), the company added two new aircraft to its existing product lines, the super mid-size Gulfstream 200 (G200) and the mid-size Gulfstream 100 (G100) (previously the Galaxy and Astra SPX aircraft, respectively). This acquisition added approximately $400 to the group’s backlog, representing contracts for 22 G200 and G100 aircraft. In addition, concurrent with the consummation of the Galaxy Aerospace acquisition, the company received an order from Executive Jet, Inc. for 50 G200 aircraft and options for 50 more. This order also included maintenance and support services for the 100 aircraft. The total estimated value of this contract, if all options are exercised, is approximately $2 billion.

      In June 2001, the company received an order from UAL Corporation’s newly-created subsidiary, United Bizjet Holdings, for 12 aircraft with options for 23 more. The 12 firm orders consist of seven Gulfstream IV-SPs and five Gulfstream Vs. The options are for nine GIV-SPs and fourteen GVs. The total estimated value of this order, if all options are exercised, is approximately $1.3 billion.

20

Financial Condition, Liquidity and Capital Resources

Operating Activities

      Cash flows from operating activities decreased slightly this year over last year due to an overall increase in working capital. The company expects to continue to generate funds from operations in excess of its short- and long-term liquidity needs.

      As discussed further in Note M to the Consolidated Financial Statements, litigation on the A-12 program termination has been in progress since 1991. Management does not anticipate that this litigation will be settled in the near term. However, in the unlikely event the company is ultimately found to have been in default on the contract, management believes the company would be able to repay the unliquidated progress payments of approximately $675, plus interest. The company expects to continue to generate funds from operations in the interim, has the capacity for additional long-term borrowings above its current facilities and could raise capital in the equity markets, if necessary.

Investing Activities

      On August 6, 2001, the company announced that it had entered into a definitive agreement to acquire certain net assets of Motorola, Inc.’s Integrated Information Systems Group for $825 in cash. The company expects to finance the purchase through the issuance of commercial paper and floating rate notes. The acquisition is subject to regulatory review and is expected to close before the end of the third quarter. Integrated Information Systems Group provides defense and government customers with technologies, products and systems for secure communication, information assurance, situational awareness and integrated communication systems. The business will be included with the company’s results of operations from the date of closing and will become part of the company’s Information Systems and Technology business group.

      On July 25, 2001, the company completed its acquisition of Empresa Nacional Santa Barbara de Industrias Militaires, S.A., of Madrid, Spain, as well as Santa Barbara Blindados, S.A., of Seville for $4. The new combined entity, which will be known as Santa Barbara Sistemas, S.A., produces combat vehicles and munitions for the Spanish Army. Santa Barbara will be included with the company’s results of operations from closing and will become part of the Combat Systems group.

      On June 5, 2001, the company completed the acquisition of Galaxy Aerospace, for $355 in cash. The company financed the purchase through the issuance of commercial paper. The selling parties may receive additional payments, up to a maximum of $315 through 2006, contingent upon the achievement of specific revenue targets.

      On May 11, 2001, the company entered into an agreement to acquire certain net assets of the Boeing Company’s ordnance operating unit. The acquisition is subject to regulatory review, which is expected to be completed before the end of the third quarter. The ordnance unit produces a wide range of medium-caliber automatic cannons for air, land and sea applications. The business will be included with the company’s results of operations from the date of closing and will become part of the Combat Systems business group.

21

      On April 25, 2001, the company announced that it has entered into a definitive agreement to acquire for cash the publicly held outstanding shares of Newport News Shipbuilding Inc. (NYSE:NNS) for $67.50 per share. The transaction is valued at approximately $2,600, which includes the obligation to assume approximately $500 in debt. Newport News Shipbuilding designs and constructs nuclear-powered aircraft carriers and submarines for the U.S. Navy and provides life-cycle services for ships in the Navy fleet. The company commenced the tender offer for all the outstanding shares of Newport News Shipbuilding on May 4, 2001. The acquisition, subject to the tendering of a majority of the Newport News Shipbuilding shares as well as regulatory approval, is expected to close in the third quarter of 2001. Following the completion of the tender offer and necessary approvals, the company intends to consummate a second-step merger, in which all of the remaining Newport News Shipbuilding shareholders receive the same price paid in the tender offer. The company expects to finance the purchase initially through the issuance of commercial paper and the subsequent issuance of debt securities.

      On February 15, 2001, Gulfstream sold its engine overhaul business for $60 and purchased airframe service and maintenance operations located in Florida, Minnesota, Nevada and Texas for $17.

      On January 26, 2001, the company completed the acquisition of Primex Technologies, Inc. (renamed, General Dynamics Ordnance and Tactical Systems) for $334 in cash. The company financed the acquisition through the issuance of commercial paper.

Financing Activities

      In connection with recently announced and pending acquisitions, the company has obtained new credit facilities totaling $5 billion. On July 11, 2001, the company secured a $3 billion credit facility, which is intended to be used to back the commercial paper to be issued as bridge financing until debt securities are issued for the Newport News Shipbuilding acquisition. On July 20, 2001, the company secured two new committed lines of credit totaling $2 billion, split evenly between a 364-day and 5-year term facility. Both facilities also back the commercial paper program and replace the company’s previous lines of credit, which totaled $1.4 billion. As of July 1, 2001, the company had $954 par value discounted commercial paper outstanding.

      On March 7, 2001, the company’s board of directors declared an increased regular quarterly dividend of $.28 per share. The company had previously increased the quarterly dividend to $.26 per share in March 2000.

      On January 26, 2001, in connection with the acquisition of Primex Technologies, the company assumed $204 of outstanding debt, $149 of which was repaid at the time of acquisition.

22

      On March 7, 2000, the company’s board of directors authorized management to repurchase in the open market up to 10 million shares of the company’s issued and outstanding common stock. During the first six months of 2001, the company repurchased approximately 288,000 shares for approximately $20. During the first six months of 2000, the company repurchased approximately 3.7 million shares for $189. From the date of authorization through the second quarter of 2001, the company has repurchased approximately 4.3 million shares for $228.

Additional Financial Information

Provision for Income Taxes

      During the first quarter of 2001, the company reduced its liabilities for tax contingencies. The company recognized a non-cash benefit of $28, or $.14 per diluted share, as a result of this adjustment. For further discussion of this and other tax matters, as well as a discussion of the net deferred tax asset, see Note K to the Consolidated Financial Statements.

Environmental Matters and Other Contingencies

      For a discussion of environmental matters and other contingencies, see Notes K and L to the Consolidated Financial Statements. The company’s liability, in the aggregate, with respect to these matters, is not expected to have a material impact on the company’s results of operations or financial condition.

New Accounting Standards

      The Financial Accounting Standards Board issued Statements of Financial Accounting Standards (SFAS) No. 141, “Business Combinations,” and No. 142, “Goodwill and Other Intangible Assets,” on June 30, 2001. SFAS 141 requires all business combinations initiated after June 30, 2001, to be accounted for using the purchase method. The provisions of SFAS 142 eliminate amortization of goodwill and identifiable intangible assets with indefinite lives, and require an impairment assessment at least annually by applying a fair-value-based test. The company is required to adopt SFAS 142 on January 1, 2002. The company anticipates an annual increase to net earnings of approximately $45, or $.22 per diluted share, from the elimination of goodwill amortization. Management does not expect the other provisions of the statements to have a material impact on the company’s results of operations or financial condition.

      The company adopted SFAS 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS 137 and 138, on January 1, 2001. SFAS 133 requires that all derivative instruments be recorded on the balance sheet at their fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income based on the guidelines stipulated in SFAS 133. The adoption of the standard did not have a material impact on the company’s results of operations or financial condition.

23

GENERAL DYNAMICS CORPORATION

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

      There were no material changes with respect to this item from the disclosure included in the company’s Annual Report on Form 10-K for the year ended December 31, 2000.

24

PART II

GENERAL DYNAMICS CORPORATION

OTHER INFORMATION

July 1, 2001

Item 1. Legal Proceedings

      Reference is made to Note L, Commitments and Contingencies, and Note M, Termination of A-12 Program, to the Consolidated Financial Statements in Part I, for statements relevant to activities for the period covering certain litigation to which the company is a party, which is incorporated herein by reference.

Item 4. Submission of Matters to a Vote of Security Holders

(a)	The Annual Meeting of Shareholders of the company, for which proxies were solicited pursuant to Regulation 14A under the Securities Exchange Act of 1934, was held on May 2, 2001.
(b) & (c)	A brief discussion of each matter voted upon at the Annual Meeting and the number of votes cast is as follows:

Matter		Votes Cast
		For		Withheld
Election of Directors:
	Becton, Julius W., Jr.		168,773,751		3,421,275
	Chabraja, Nicholas D		168,118,942		4,076,084
	Crown, James S		161,498,410		10,696,616
	Crown, Lester		166,910,785		5,284,281
	Goodman, Charles H		160,985,359		11,209,667
	Joulwan, George A		168,909,433		3,285,593
	Kaminski, Paul G		157,305,931		14,889,095
	Mellor, James R		156,473,497		15,721,529
	Mundy, Carl E., Jr.		168,908,288		3,286,738
	Trost, Carlisle A.H		168,848,678		3,346,348

	For		Against		Abstain
Approval of Arthur   Andersen LLP as   Independent Auditors		170,466,015		1,085,508		643,503

25

	For		Against		Abstain
Approval of Additional   Shares for Incentive   Compensation Plan		156,561,648		14,615,151		1,018,227
Shareholder Proposal   Regarding Foreign   Military Sales		3,052,491		142,430,827		10,921,678

Item 6. Exhibits and Reports on Form 8-K

(a)	Exhibits
	Exhibit 10.18   General Dynamics Corporation 1997 Incentive Compensation Plan,                          as amended and restated
(b)	Reports on Form 8-K
	On August 6, 2001, the company reported to the Securities and Exchange Commission under Item 5, Other Events, that pursuant to an Asset Purchase Agreement with Motorola, Inc. dated August 6, 2001, the company agreed to acquire certain net assets of Motorola’s Integrated Information Systems Group for $825 in cash.
	On April 24, 2001, the company reported to the Securities and Exchange Commission under Item 5, Other Events, that pursuant to an Agreement and Plan of Merger dated April 24, 2001, the company will make a tender offer to purchase all of the outstanding shares of common stock of Newport News Shipbuilding Inc. at a price of $67.50 in cash per share.
	On February 2, 2001, the company reported to the Securities and Exchange Commission under Item 5, Other Events, the completion of the acquisition of Primex Technologies, Inc., renamed General Dynamics Ordnance and Tactical Systems, Inc., on January 26, 2001.

26

SIGNATURE

      Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

GENERAL DYNAMICS CORPORATION

by    /s/ John W. Schwartz                        

        John W. Schwartz
        Vice President and Controller
        (Authorized Officer and Chief Accounting Officer)

Dated: August 14, 2001

27 EX-10.18 3 w52274ex10-18.htm 1997 INCENTIVE COMPENSATION PLAN

EXHIBIT 10.18

Amended and Restated

GENERAL DYNAMICS CORPORATION

1997 INCENTIVE COMPENSATION PLAN

1.	Purpose. This plan is an amendment and restatement of the 1988 Incentive Compensation Plan; it is renamed the “1997 Incentive Compensation Plan” and is referred to hereinafter as the “Plan.” The purpose of the Plan is to provide General Dynamics Corporation and its subsidiaries (the “Company”) with an effective means of attracting, retaining, and motivating officers and other key employees and to provide them with incentives to enhance the growth and profitability of the Company.
2.	Eligibility. Any officer or key employee of the Company in an executive, administrative, professional, scientific, engineering, technical, or advisory capacity is eligible for an award under the Plan.
3.	Committee. The Plan shall be administered by the Compensation Committee (the “Committee”) of the Board of Directors of the Company comprised of two or more members of the Board of Directors, none of whom shall be employees of the Company. Except as otherwise expressly provided in the Plan, the Committee shall have full power and authority to interpret and administer the Plan, to determine the officers and key employees to receive awards and the amounts and types of the awards, to adopt, amend, and rescind rules and regulations, and to establish terms and conditions, not inconsistent with the provisions of the Plan, for the administration and implementation of the Plan, provided, however, that the Committee may not, after the date of any award, make any changes that would adversely affect the rights of a recipient under any award without the consent of the recipient. The determination of the Committee on these matters shall be final and conclusive and binding on the Company and all participants.
	Code Section 162(m) Subcommittee. Notwithstanding the foregoing paragraph, the Plan shall be administered by a subcommittee of the Committee (the “Subcommittee”) with respect to persons covered by the deduction limitation of Section 162(m) of the Internal Revenue Code of 1986, as amended (the “Code”). The Subcommittee shall comprise two or more members of the Committee, all of whom shall be “outside directors” as that term is used in Code Section 162(m). With respect to such persons subject to Code Section 162(m), the Subcommittee shall have all of the powers, rights, and duties granted to the Committee under this Plan and each reference to the “Committee” herein shall be deemed to be a reference to the “Subcommittee.”
4.	Awards. Awards may be made by the Committee in such amounts as it shall determine in cash, in common stock of the Company (“Common Stock”), in options to purchase Common Stock of the Corporation (“Stock Options”), or in shares of Common Stock subject to certain restrictions (“Restricted Stock”), or any combination thereof. Awards of Stock Options shall be limited to awards for such number of shares as shall be allocated for that purpose by the Board of Directors and approved by the shareholders.

Page: 1 of 7

5. Code Section 162(m) Awards. Awards to persons covered by the deduction limitation of Code Section 162(m), as described by Code Section 162(m)(3), shall be subject to the following additional limitations:

a.	Adjustments. The Subcommittee shall have no discretion to increase an award of Stock Options and/or Restricted Stock once granted, except that adjustments are permitted under Sections 11 and 12 of this Plan to the extent permissible under regulations interpreting Code Section 162(m).
b.	Maximum Awards. Awards of Stock Options and/or Restricted Stock under the Plan shall be limited as follows:

(1)	Awards of Stock Options shall be limited to 500,000 shares awarded to any one individual for any calendar year and shall be issued at fair market value.
(2)	Awards of Restricted Stock shall be limited to 100,000 shares awarded to any one individual for any calendar year. Notwithstanding the foregoing, Restricted Stock granted under the Restricted Stock Performance Formula, described below, shall be limited to an initial grant of 100,000 shares, but shall be adjusted upwards or downwards in accordance with that formula.

c. Performance Goals. The Subcommittee, in its sole discretion, shall establish performance goals applicable to awards of Restricted Stock in such a manner as shall permit payments with respect thereto to qualify as “performance-based compensation” as described in Code Section 162(m)(4)(C). Such awards shall be based on attainment of, over a specified period of individual performance, specified targets or other parameters relating to one or more of the following business criteria: market price of Common Stock, earnings per share, net profits, total shareholder return, return of shareholders’ equity, cash flow, and cumulative return on net assets employed. In addition, awards of Restricted Stock may be based on the Restricted Stock Performance Formula, described below.

6.

Restricted Stock Performance Formula. Awards of Restricted Stock may be granted pursuant to the formula described in this section, referred to herein as the “Restricted Stock Performance Formula.” The Committee shall make an initial grant of shares of Restricted Stock (the “Initial Grant”). At the end of a specified performance period (determined by the Committee), the number of shares in the Initial Grant shall be increased or decreased based on the increase or decrease in the value of the Common Stock over the performance period.

The increase or decrease described in the preceding paragraph shall be determined in the following manner:

At the end of each performance period, the fair market value (as defined in Section 7 below) of the Common Stock is compared to the fair market value per share on the grant date. That difference is multiplied by the number of shares of Restricted Stock to be earned at the end of each performance period and the resulting product is divided by the fair market value at the end of the performance period. The number of shares of Common Stock so determined is added to (in the case of a higher fair market value) or subtracted from (in the case of a lower fair market value) the number of shares of Restricted Stock to be earned at that time. Once the number of

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shares of Restricted Stock has been adjusted, restrictions will continue to be imposed for a period of time.

7.	Common Stock. In the case of awards in Common Stock, the number of shares shall be determined by dividing the amount of the award by the average between the highest and lowest quoted selling prices of the Company’s Common Stock on the New York Stock Exchange on the date of the award. The average is referred to throughout this Plan as the “fair market value.”
8.	Dividend Equivalents and Interest.

a.

Dividends. If any award in Common Stock or Restricted Stock is to be paid on a deferred basis, the recipient may be entitled, on terms and conditions to be established, to receive a payment of, or credit equivalent to, any dividend payable with respect to the number of shares of Common Stock or Restricted Stock which, as of the record date for the dividend, has been awarded or made payable to the recipient but not delivered.

b.

Interest. If any award in cash is to be paid on a deferred basis, the recipient may be entitled, on terms and conditions to be established, to be paid interest on the unpaid amount.

9.

Restricted Stock Awards. Restricted Stock represents awards made in Common Stock in which the shares granted may not be sold, transferred, pledged, assigned, or otherwise alienated or hypothecated except upon passage of time, or upon satisfaction of other conditions, or both, in every case as provided by the Committee in its sole discretion. The recipient of an award of Restricted Stock shall be entitled to vote the shares awarded and to the payment of dividend equivalents on the shares from the date the award of shares is made; and, in addition, all Special Distributions (as defined in Section 11 hereof) thereon shall be credited to an account similar to the Account described in Section 11. The recipient of an award of Restricted Stock shall have a nonforfeitable interest in amounts credited to such account in proportion to the lapse of restrictions on the Restricted Stock to which such amounts relate. For example, when restrictions lapse on fifty percent (50%) of the Restricted Stock granted in an award, the holder of such Restricted Stock shall have a nonforfeitable interest in fifty percent (50%) of the amount credited to his account which is attributable to such Restricted Stock. The holder of Restricted Stock shall receive a payment in cash of any amount in his account as soon as practicable after the lapse of restrictions relating thereto. With respect to Restricted Stock awards granted after May 3, 2001, shares underlying Restricted Stock awards shall become nonforfeitable no sooner than three (3) years from the original grant date (other than shares granted pursuant to a performance adjustment), except that the Committee or Subcommittee, as the case may be, shall have the discretion to reduce such three (3) year period or impose a shorter period (i) for the occurrence of any event described in Section 12, (ii) for any corporate divestiture or acquisition, or (iii) in the case of any special agreement, award or situation with respect to any individual executive.

10.

Stock Option Awards.

a. Available Shares. Shares available for awards of Stock Options under the Plan at the effective date of the restatement of the Plan shall be available for awards of Stock Options under the Plan. Shares available for awards of Stock Options may be authorized but unissued shares or may be treasury shares. If any option awarded under the Plan or any predecessor plan shall expire, terminate, or be canceled for any reason without having been exercised in full, the corresponding

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	number of unpurchased shares which were reserved for issuance upon exercise thereof shall again be available for the purposes of the Plan.
b.	Type of Options. Options shall be in the form of incentive stock options, non-statutory stock options, or both, as the Committee may determine. The term “incentive stock option” means any option, or portion thereof, awarded under the Plan which meets the applicable requirements of Section 422 of the Internal Revenue Code, as it may be amended from time to time. The term “non-statutory stock option” means any option, or portion thereof, awarded under the Plan which does not qualify as an incentive stock option.
c.	Incentive Stock Option Limitation. For incentive stock options granted under the Plan, the aggregate fair market value (determined as of the date the option is awarded) of the number of whole shares with respect to which incentive stock options are exercisable for the first time by any employee during any calendar year under all plans of the Company shall not exceed $100,000.
d.	Purchase Price. The purchase price of the Common Stock under each option shall be determined by the Committee, but shall not be less than 100 percent of the fair market value of the Common Stock on the date of the award of the option.
e.	Terms and Conditions. The Committee shall, in its discretion, establish (i) the term of each option, which in the case of incentive stock options shall not be more than ten years, (ii) the terms and conditions upon which and the times when each option shall be exercised, and (iii) the terms and conditions under which options may be exercised after termination of employment for any reason for periods not to exceed three years after termination of employment but not beyond the term established above.
f.	Purchase by Cash or Stock. The purchase price of shares purchased upon the exercise of any stock option shall be paid (i) in full in cash, or (ii) in whole or in part (in combination with cash) in full shares of Common Stock owned by the optionee and valued at its fair market value on the date of exercise, all pursuant to procedures approved by the Committee.
g.	Transferability. Options shall not be transferable. During the lifetime of the person to whom an option has been awarded, it may be exercisable only by such person or one acting in his stead or in a representative capacity. Upon or after the death of the person to whom an option is awarded, an option may be exercised by the optionee’s legatee or legatees under his last will, or by the option holder’s personal representative or distributee’s executive, administrator, or personal representative or designee in accordance with the terms of the option.

11. Adjustments for Special Distributions. The Committee shall have the authority to change all Stock Options granted under this Plan to adjust equitably the purchase price thereof to reflect a special distribution to shareholders or other extraordinary corporate action involving distributions or payments to shareholders (collectively referred to as “Special Distributions”). In the event of any Special Distribution, the Committee may, to the extent that it determines in its judgment that the adjustment of the purchase price of Stock Options does not fully reflect such Special Distribution, increase the number of shares of Common Stock covered by such Stock Options or cause to be created a Special Distribution account (the “Account”) in the name of each individual to whom Stock Options have been granted hereunder (sometimes herein referred to as a “Grantee”) to which shall be

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	credited an amount determined by the Committee, or, in the case of non-cash Special Distributions, make appropriate comparable adjustments for or payments to or for the benefit of the Grantee.
	Amounts credited to the Account in accordance with the preceding rules shall be credited with interest, accrued monthly, at an annual rate equal to the higher of Moody’s Corporate Bond Yield Average or the prime rate in effect from time to time, and such interest shall be credited in accordance with rules to be established by the Committee. Notwithstanding the foregoing, at no time shall the Committee permit the amount credited to the Grantee’s Account to exceed ninety percent (90%) of the purchase price of the Grantee’s outstanding Stock Options to which such amount relates. To the extent that any credit would cause the Account to exceed that limitation, such excess shall be distributed to the Grantee in cash.
	Amounts credited to the Grantee’s Account shall be paid to the Grantee or, if the Grantee is deceased, his or her beneficiary at the time that the options to which it relates are exercised or expire, whichever occurs first.
	The Account shall for all purposes be deemed to be an unfunded promise to pay money in the future in certain specified circumstances. As to amounts credited to the Account, a Grantee shall have no rights greater than the rights of a general unsecured creditor of the Company, and amounts credited to the Grantee’s Account shall not be assignable or transferable other than by will or the laws of descent and distribution, and such amounts shall not be subject to the claims of the Grantee’s creditors.
12.	Adjustments and Reorganizations. The Committee may make such adjustments to awards granted under the Plan (including the terms, exercise price, and otherwise) as it deems appropriate in the event of changes that impact the Company, the Company’s share price, or share status.
	In the event of any merger, reorganization, consolidation, change of control, recapitalization, separation, liquidation, stock dividend, stock split, extraordinary dividend, spin-off, split-up, rights offering, share combination, or other change in the corporate structure of the Company affecting the Common Stock, the number and kind of shares that may be delivered under the Plan shall be subject to such equitable adjustment as the Committee, in its sole discretion, may deem appropriate. The determination of the Committee on these matters shall be final and conclusive and binding on the Company and all participants. Except as otherwise provided by the Committee, all authorized shares, share limitations, and awards under the Plan shall be proportionately adjusted to account for any increase or decrease in the number of issued shares of Common Stock resulting from any stock split, stock dividend, reverse stock split, or any similar reorganization or event.
	In the preceding paragraph, “change of control” means any of the following events:

a. An acquisition (other than directly from the Company) of any voting securities of the Company by any person who previously was the beneficial owner of less than ten percent of the combined voting power of the Company’s outstanding voting securities and who immediately after such acquisition is the beneficial owner of 30 percent or more of the combined voting power of the Company’s then outstanding voting securities; provided that, in determining whether a change of control has occurred, voting securities which are acquired by (i) an employee benefit plan (or a trust forming a part thereof) maintained by the Company or any subsidiary of the Company, (ii) the Company or any subsidiary of the Company, or (iii) any person in connection with a Non-

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	Control Transaction (as hereinafter defined), will not constitute an acquisition which results in a change of control;
b.	Approval by stockholders of the Company of:

(1) a merger, consolidation, or reorganization involving the Company, unless:

(A)	the stockholders of the Company immediately before such merger, consolidation, or reorganization will own, directly or indirectly, immediately following such merger, consolidation, or reorganization, at least 51 percent of the combined voting power of the outstanding voting securities of the corporation resulting from such merger, consolidation, or reorganization (the “Surviving Company”) in substantially the same proportion as their ownership of the voting securities of the Company immediately before such merger, consolidation, or reorganization; and
(B)	the individuals who were members of the Board immediately prior to the execution of the agreement providing for such merger, consolidation, or reorganization constitute a majority of the members of the Board of Directors of the Surviving Company; and
(C)	no person (other than the Company, any subsidiary of the Company, any employee benefit plan (or any trust forming a part thereof) maintained by the Company, the Surviving Company, any subsidiary of the Surviving Company, or any person who, immediately prior to such merger, consolidation, or reorganization, was the beneficial owner of 20 percent or more of the then outstanding voting securities of the Company) is the beneficial owner of 20 percent or more of the combined voting power of the Surviving Company’s then outstanding voting securities;
(D)	a transaction described in clauses (A) through (C) above is referred to herein as a “Non-Control Transaction;”

(2)	the complete liquidation or dissolution of the Company; or
(3)	an agreement for sale or other disposition of all or substantially all of the assets of the Company to any person (other than a transfer to a subsidiary of the Company).

c. Notwithstanding the foregoing, a change of control will not be deemed to occur solely because any person (a “Subject Person”) acquires beneficial ownership of more than the permitted amount of the outstanding voting securities of the Company as a result of the acquisition of voting securities by the Company which, by reducing the number of voting securities outstanding, increases the proportional number of shares beneficially owned by the Subject Person, provided that if a change of control would occur (but for the operation of this sentence) as a result of the acquisition of voting securities by the Company, and after such share acquisition by the Company, the Subject Person becomes the beneficial owner of any additional voting securities which increases the percentage of the then outstanding voting securities

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beneficially owned by the Subject Person, then a change of control will be deemed to have occurred.

13.	Tax Withholding. The Company shall have the right to (i) make deductions from any settlement of an award under the Plan, including the delivery or vesting of shares, or require shares or cash or both be withheld from any award, in each case in an amount sufficient to satisfy withholding of any federal, state, or local taxes required by law, or (ii) take such other action as may be necessary or appropriate to satisfy any such withholding obligations. The Committee may determine the manner in which such tax withholding may be satisfied, and may permit shares of Common Stock (rounded up to the next whole number) to be used to satisfy required tax withholding based on the fair market value of any such shares of Common Stock, as of the appropriate time of each award.
14.	Expenses. The expenses of administering the Plan shall be borne by the Company.
15.	Amendments. The Board of Directors of the Company shall have complete power and authority to amend the Plan, provided that the Board of Directors shall not, without shareholder approval, adopt any amendment which would (a) increase the number of shares for which options may be awarded under the Plan, (b) modify the class of employees eligible to receive awards, (c) extend the period during which incentive stock options may be awarded, or (d) materially increase the benefits of employees receiving awards under the Plan. No amendment to the Plan may, without the consent of the individual to whom the award shall theretofore have been awarded, adversely affect the rights of an individual under the award.
16.	Effective Date of the Plan. The Plan shall become effective on its adoption by the Board of Directors of the Company on February 5, 1997, subject to approval at the 1997 Annual Meeting of Shareholders.
17.	Termination. The Board of Directors of the Company may terminate the Plan or any part thereof at any time, provided that no termination may, without the consent of the individual to whom any award shall theretofore have been made, adversely affect the rights of an individual under the award.
18.	Other Actions. Nothing contained in the Plan shall be deemed to preclude other compensation plans which may be in effect from time to time or be construed to limit the authority of the Company to exercise its corporate rights and powers, including, but not by way of limitation, the right of the Company (a) to award options for proper corporate purposes otherwise than under the Plan to an employee or other person, firm, corporation, or association, or (b) to award options to, or assume the option of, any person in connection with the acquisition, by purchase, lease, merger, consolidation, or otherwise, of the business and assets (in whole or in part) of any person, firm, corporation, or association.

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EX-10.18

ex10-18