NOTE 8 – OTHER

Changes in Estimates

Accounting for contracts using the percentage-of-completion method requires judgment relative to assessing risks, estimating contract sales and costs (including estimating award and incentive fees and penalties related to performance), and making assumptions for schedule and technical issues. Due to the number of years it may take to complete many of our contracts and the scope and nature of the work required to be performed on those contracts, the estimation of total sales and costs at completion is complicated and subject to many variables and, accordingly, is subject to change. When adjustments in estimated total contract sales or estimated total costs are required, any changes from prior estimates are recognized in the current period for the inception-to-date effect of such changes. When estimates of total costs to be incurred on a contract exceed estimates of total sales to be earned, a provision for the entire loss on the contract is recorded in the period in which the loss is determined.

Many of our contracts span several years and include highly complex technical requirements. At the outset of a contract, we identify and monitor risks to the achievement of the technical, schedule, and cost aspects of the contract, and assess the effects of those risks on our estimates of total costs to complete the contract. The estimates consider the technical requirements (e.g., a newly-developed product versus a mature product), the schedule and associated tasks (e.g., the number and type of milestone events), and costs (e.g., material, labor, subcontractor, overhead, and the estimated costs to fulfill our industrial cooperation agreements, sometimes referred to as offset agreements, required under certain contracts with international customers). The initial profit booking rate of each contract considers risks surrounding the ability to achieve the technical requirements, schedule, and costs in the initial estimated total costs to complete. Profit booking rates may increase during the performance of the contract if we successfully retire risks surrounding the technical, schedule, and cost aspects of the contract. Conversely, our profit booking rates may decrease if the estimated total costs to complete the contract increase. All of the estimates are subject to change during the performance of the contract and may affect the profit booking rate.

Comparability of our segment sales, operating profit and operating margins may be impacted, favorably or unfavorably, by changes in profit booking rates on our contracts accounted for using the percentage-of-completion method of accounting. Segment operating profit and margins may also be impacted, favorably or unfavorably, by other items. Favorable items may include the positive resolution of contractual matters, cost recoveries on restructuring charges, and insurance recoveries. Unfavorable items may include the adverse resolution of contractual matters; restructuring charges, except for significant severance actions (such as those mentioned below under the caption “Restructuring Charges”) which are excluded from segment operating results; reserves for disputes; and significant asset impairments. Our consolidated net adjustments not related to volume, including net profit booking rate adjustments and other matters, net of state income taxes, increased segment operating profit by approximately $400 million and $1.4 billion for the quarter and nine months ended September 28, 2014 and $510 million and $1.6 billion for the quarter and nine months ended September 29, 2013. These adjustments increased net earnings by approximately $260 million ($.81 per share) and $885 million ($2.74 per share) for the quarter and nine months ended September 28, 2014 and $330 million ($1.01 per share) and $1.0 billion ($3.12 per share) for the quarter and nine months ended September 29, 2013.

Restructuring Charges

Fourth Quarter 2013 Action

In November 2013, we committed to a plan to close and consolidate certain facilities and reduce our total workforce by approximately 4,000 positions within our IS&GS, MST, and Space Systems business segments. This plan resulted from a strategic review of our facilities capacity and future workload projections and is intended to better align our organization and cost structure and improve the affordability of our products and services given the changes in U.S. Government spending as well as the rapidly changing competitive and economic landscape.

We expect to incur total accelerated costs (e.g., accelerated depreciation expense related to long-lived assets at the sites to be closed) and incremental costs (e.g., relocation of equipment and other employee related costs) of approximately $15 million, $50 million, and $175 million at our IS&GS, MST, and Space Systems business segments through the completion of this plan in 2015. As of September 28, 2014, we have incurred total accelerated and incremental costs of approximately $78 million, inclusive of amounts incurred during the nine months ended September 28, 2014. The accelerated and incremental costs are recorded as incurred in cost of sales on our Statements of Earnings and included in the respective business segment’s results of operations.

During the quarter ended December 31, 2013, we incurred severance charges related to this action of $171 million, net of state tax benefits, of which $53 million, $37 million, and $81 million related to our IS&GS, MST, and Space Systems business segments. Upon separation, terminated employees receive lump-sum severance payments primarily based on years of service. As of September 28, 2014, we have paid approximately $95 million in severance payments associated with this action, of which approximately $80 million was paid during the nine months ended September 28, 2014. The remaining severance payments are expected to be paid through the middle of 2015.

We expect to recover a substantial amount of the restructuring charges through the pricing of our products and services to the U.S. Government and other customers, with the impact included in the respective business segment’s results of operations.

First Quarter 2013 Action

During the quarter ended March 31, 2013, we recorded severance charges totaling $30 million, net of state tax benefits, related to our IS&GS business segment, which reduced our net earnings by $19 million ($.06 per share). These severance actions resulted from a strategic review of this business segment to better align our cost structure with changing economic conditions and also reflect changes in program lifecycles. The charges consisted of severance costs associated with the planned elimination of certain positions through either voluntary or involuntary actions. Upon separation, terminated employees received lump-sum severance payments primarily based on years of service, all of which were paid in 2013.

Income Taxes

Our effective income tax rates were 32.3% for both the quarter and nine months ended September 28, 2014 and 28.2% and 27.8% for the quarter and nine months ended September 29, 2013. The rates for all periods benefited from tax deductions for U.S. manufacturing activities and for dividends paid to our defined contribution plans with an employee stock ownership plan feature. The effective tax rates for the quarter and nine months ended September 28, 2014 were higher, primarily due to the benefit of research and development tax credits recognized in the quarter and nine months ended September 29, 2013. The credit expired on December 31, 2013 and, therefore, will not be recognized in 2014 unless and until legislation is enacted. The effective tax rate for the nine months ended September 28, 2014 was also higher due to tax reserve adjustments recorded in the quarter ended June 29, 2014.

We made net tax payments of approximately $1.0 billion and $387 million during the nine months ended September 28, 2014 and September 29, 2013, which were net of $200 million and $550 million in tax refunds primarily attributable to our tax-deductible pension contributions made during the quarters ended December 31, 2013 and 2012.

Discontinued Operations

Discontinued operations for the quarter and nine months ended September 29, 2013 include a benefit of $31 million resulting from the resolution of certain tax matters related to a business sold prior to 2013.

Stockholders’ Equity

Repurchases of Common Stock

During the nine months ended September 28, 2014, we repurchased 10.3 million shares of our common stock for $1.7 billion. On September 25, 2014, our Board of Directors approved a $2.0 billion increase to our share repurchase program. Inclusive of this increase, the total remaining authorization for future common share repurchases under our program was $3.9 billion as of September 28, 2014. As we repurchase our common shares, we reduce common stock for the $1 of par value of the shares repurchased, with the excess purchase price over par value recorded as a reduction of additional paid-in capital. If additional paid-in capital is reduced to zero, we record the remainder of the excess purchase price over par value as a reduction of retained earnings.

Dividends

During the quarter and nine months ended September 28, 2014, we declared cash dividends totaling $479 million ($1.50 per share) and $1.8 billion ($5.49 per share). During the quarter and nine months ended September 29, 2013, we declared cash dividends totaling $434 million ($1.33 per share) and $1.6 billion ($4.78 per share). Dividends declared in the quarter ended September 28, 2014 represent our 2014 fourth quarter dividend payment, a per share increase of 13% over our 2014 third quarter dividend of $1.33 per share which we declared in the second quarter of 2014.

Restricted Stock Unit and Performance Stock Unit Grants

In January 2014, we granted certain employees approximately 0.7 million restricted stock units (RSUs) with a grant-date fair value of $146.85 per RSU. The grant-date fair value of these RSUs is equal to the closing market price of our common stock on the grant date less a discount to reflect the delay in payment of dividend-equivalent cash payments that are made only upon vesting, which is generally three years from the grant date. We recognize the grant-date fair value of RSUs, less estimated forfeitures, as compensation expense ratably over the requisite service period, which is shorter than the vesting period if the employee is retirement eligible on the date of grant or will become retirement eligible before the end of the vesting period.

In January 2014, we also granted certain employees performance stock units (PSUs) with an aggregate target award of approximately 0.2 million shares of our common stock. The PSUs vest three years from the grant date based on continuous service, with the number of shares earned (0% to 200% of the target award) depending upon the extent to which we achieve certain financial and market performance targets measured over the period from January 1, 2014 through December 31, 2016. About half of the PSUs were valued at $146.85 per PSU in a manner similar to RSUs mentioned above as the financial targets are based on our operating results. We recognize the grant-date fair value of these PSUs, less estimated forfeitures, as compensation expense ratably over the vesting period based on the number of awards expected to vest at each reporting date. The remaining PSUs were valued at $134.15 per PSU using a Monte Carlo model as the performance target is related to our total shareholder return relative to our peer group. We recognize the grant-date fair value of these awards, less estimated forfeitures, as compensation expense ratably over the vesting period.

Accumulated Other Comprehensive Loss

Changes in AOCL, net of tax, consisted of the following (in millions):


	Postretirement Benefit Plans			Other, net		AOCL
Balance at December 31, 2013		$	(9,649)	$	48	$	(9,601)
Other comprehensive (loss) income before reclassifications
Net actuarial losses ^(a)			(3,778)		—		(3,778)
Prior service credits ^(a)			3,043		—		3,043
Other			—		(48)		(48)
Total other comprehensive (loss) income before reclassifications			(735)		(48)		(783)
Amounts reclassified from AOCL
Recognition of net actuarial losses			556		—		556
Amortization of net prior service credits			(36)		—		(36)
Total reclassified from AOCL ^(b)			520		—		520
Total other comprehensive (loss) income			(215)		(48)		(263)
Balance at September 28, 2014		$	(9,864)	$	—	$	(9,864)

Balance at December 31, 2012		$	(13,532)	$	39	$	(13,493)
Other comprehensive loss before reclassifications
Other			—		(1)		(1)
Total other comprehensive loss before reclassifications			—		(1)		(1)
Amounts reclassified from AOCL
Recognition of net actuarial losses			730		—		730
Amortization of net prior service costs			31		—		31
Other			—		(2)		(2)
Total reclassified from AOCL ^(b)			761		(2)		759
Total other comprehensive income (loss)			761		(3)		758
Balance at September 29, 2013		$	(12,771)	$	36	$	(12,735)

^(a)

Changes in AOCL before reclassifications related to our postretirement benefit plans include net actuarial losses from the re-measurements of substantially all our defined benefit pension plans in June 2014 and prior service credits from plan amendments to freeze future retirement benefits in certain of our qualified and nonqualified defined benefit pension plans for non-union employees (Note 5).

^(b)

Reclassifications from AOCL related to our postretirement benefit plans were recorded as a component of net periodic benefit cost for each period presented (Note 5). These amounts include $186 million and $254 million for the quarters ended September 28, 2014 and September 29, 2013, which are comprised of the recognition of net actuarial losses of $250 million and $243 million for the quarters ended September 28, 2014 and September 29, 2013 and the amortization of net prior service (credits) costs of $(64) million and $11 million for the quarters ended September 28, 2014 and September 29, 2013.

Acquisitions

We paid $622 million during the nine months ended September 28, 2014 for acquisitions of businesses and investments in affiliates, net of cash acquired, primarily related to the acquisitions of Zeta Associates, Inc. (Zeta) and Industrial Defender, Inc. (Industrial Defender). On August 18, 2014, we completed the acquisition of all interests in Zeta, which designs systems that enable collection, processing, safeguarding and dissemination of information for intelligence and defense communities, which has been included in our Space Systems business segment. On April 7, 2014, we completed the acquisition of all interests in Industrial Defender, a provider of cyber security solutions for control systems in the oil and gas, utility, and chemical industries, which has been included in our IS&GS business segment. In connection with these acquisitions, we preliminarily recorded goodwill of $425 million, which is not deductible for tax purposes. Additionally, we recorded other intangible assets of $138 million, primarily related to customer relationships and technologies, which will be amortized over a weighted average period of nine years.

We paid $266 million during the nine months ended September 29, 2013 for acquisitions of businesses and investments in affiliates, net of cash acquired, primarily related to the acquisition of all interests in Amor Group Ltd. (Amor), a company based in the United Kingdom specializing in information technology, civil government services, and the energy market. Amor has been included in our IS&GS business segment. In connection with the Amor acquisition, we recorded goodwill of $167 million, which will not be amortized for tax purposes. Additionally, we recorded other intangible assets of $34 million, primarily relating to customer relationships and technologies, which will be amortized over a weighted average period of eight years.

Long-term Debt

In August 2014, we entered into a new $1.5 billion revolving credit facility with a syndicate of banks and concurrently terminated our existing $1.5 billion revolving credit facility which was scheduled to expire in August 2016. The new credit facility expires August 2019, and we may request and the banks may grant, at their discretion, an increase to the new credit facility of up to an additional $500 million. The credit facility also includes a sublimit of up to $300 million available for the issuance of letters of credit. There were no borrowings outstanding under the new facility through September 28, 2014. Borrowings under the new credit facility would be unsecured and bear interest at rates based, at our option, on a Eurodollar Rate or a Base Rate, as defined in the new credit facility. Each bank’s obligation to make loans under the new credit facility is subject to, among other things, our compliance with various representations, warranties, and covenants, including covenants limiting our ability and certain of our subsidiaries’ ability to encumber assets and a covenant not to exceed a maximum leverage ratio, as defined in the new credit facility. The leverage ratio covenant excludes the adjustments recognized in stockholders’ equity related to postretirement benefit plans. As of September 28, 2014, we were in compliance with all covenants contained in the credit facility and our debt agreements.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (FASB) issued a new standard that will change the way we recognize revenue and significantly expand the disclosure requirements for revenue arrangements. Unless the FASB delays the effective date of the new standard, it will be effective for us beginning on January 1, 2017, and may be adopted either retrospectively or on a modified retrospective basis whereby the new standard would be applied to new contracts and existing contracts with remaining performance obligations as of the effective date, with a cumulative catch-up adjustment recorded to beginning retained earnings at the effective date for existing contracts with remaining performance obligations. Early adoption is not permitted. We are currently evaluating the methods of adoption allowed by the new standard and the effect the standard is expected to have on our consolidated financial statements and related disclosures. As the new standard will supersede substantially all existing revenue guidance affecting us under GAAP, it could impact revenue and cost recognition on thousands of contracts across all our business segments, in addition to our business processes and our information technology systems. As a result, our evaluation of the effect of the new standard will likely extend over several future periods.