Good day, welcome, everyone, to the Lockheed Martin first quarter 2014 earnings results conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Jerry Kircher, Vice President of Investor Relations. Please go ahead, sir.
Thank you, Stephanie, good morning, everyone. I'd like to welcome you to our first quarter 2014 earnings conference call. Joining me today on the call are Marillyn Hewson, our Chairman, President, and Chief Executive Officer, and Bruce Tanner, our Executive Vice President and Chief Financial Officer. Statements made in today's call that are not historical fact are considered forward-looking statements and are made pursuant to the safe harbor provisions of federal securities law. Actual results may differ. Please see today's press release and our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results. We have posted charts on our website today that we plan to address during the call to supplement our comments. Please access our website at www.lockheedmartin.com and click on the investor relations link to view and follow the charts.
With that, I'd like to turn the call over to Marillyn.
Thanks, Jerry. Good morning, everyone, thank you for joining the call today. We're pleased to have you with us to review our first quarter results. As today's release details, we had an exceptionally strong quarter, financially and operationally. The corporation continued to operate at a very high level in returning value to stockholders while delivering critical solutions to our customers. Our Lockheed Martin team delivered broad-based results across the corporation, I am extraordinarily proud of their focus and efforts. I want to highlight a few key achievements in the quarter, Bruce will follow my remarks and cover the balance of the financial metrics in more detail. Financial results for the first quarter of 2014 were higher in almost every metric than the first quarter last year, other than a slight decline in sales.
While sales decreased in the quarter, they were better than our plan, and we remain on track to achieve our full-year sales guidance. Noteworthy financial accomplishments were securing new order bookings significantly above last year's level and a direct reflection of our portfolio alignment with customer requirements. This strong program alignment is essential as customers allocate resources in today's constrained budget environment. Beyond our solid order bookings, net earnings and earnings per share each increased over 20%, while segment operating margin matched the high point in our corporate history at 13.4%. Through our continuous focus on cash generation, we delivered over $2 billion in cash from operations in the quarter. Strong and growing cash generation is a hallmark of our corporation and a key differentiator in returning value to stockholders while enabling continued investments in the future of our business.
I'm very pleased that strong year-to-date financial performance enabled us to increase full-year 2014 guidance for segment operating profit, earnings per share, and cash from operations. In addition to the increased guidance, we were also able to reaffirm our full-year orders and sales guidance based on bookings to date and existing backlog composition. This level of financial performance is a direct reflection of our world-class team as they deliver results on a daily basis to our customers and stockholders, and I thank everyone for their efforts. In addition to the strong financial results, we continue to deploy our robust cash flow in the areas of share repurchases and dividend payments, returning value to our stockholders. In the quarter, we repurchased over $1 billion of our shares, more than double the amount we expended in the same period last year.
These repurchases, combined with our industry-leading per-share dividend payments, returned approximately $1.6 billion in cash to stockholders. Turning briefly to DoD budgets, in early March, the President released his formal fiscal year 2015 base defense budget at just below $500 billion. This budget is flat with FY 2014 and is consistent with the two-year Bipartisan Budget Act caps established last December. The President also proposed adding an additional $26 billion to the 2015 DoD base budget for opportunity, growth, and security initiatives. If approved, these additional funds would be used primarily to increase budgets for procurement and operations and maintenance activities. The initial outline of base budget allocations signals solid support for our portfolio of programs, and we look forward to finalization of congressional budget deliberations, which are expected to be completed later this year.
Moving outside DoD budgets, momentum continues to build in efforts supporting our newly launched Lockheed Martin International organization and international expansion strategy. This past quarter, I had the opportunity to travel to multiple countries in both Europe and the Middle East to participate in wide-ranging discussions on our spectrum of products and services in the increasingly complex geopolitical environment, which requires agile and adaptive solutions for potential overseas customers. While in the Middle East, I was able to tour our future Center for Innovation and Security Solutions in the UAE. This center will expand our collaboration with the UAE government, academia, and local business partners in helping bring forward new technologies. Future technology applications are expected to be in areas such as cybersecurity, integrated air and missile defense, and other security-related areas. The center will be another link in our longstanding partnership with the people and government of the UAE.
My time in Israel enabled me to meet with the prime minister, participate in the opening of the new Lockheed Martin office in Be'er Sheva, expanding our Information Systems & Global Solutions presence, and lastly, celebrate the arrival of the first C-130J Super Hercules to the Israeli fleet with its unmatched airlift capabilities. We continue to see strong and expanding international interest in our air and missile defense products, air mobility, tactical aircraft, and cybersecurity. These areas are already showing growth in our financials as we were able to expand the international content of total corporate revenues this past quarter. We remain solidly on track towards our goal of achieving at least 20% of international sales in the next year or so.
I'd like to move to the F-35 Joint Strike Fighter and provide some color on the favorable progress the program is achieving in securing domestic and international customer support and reaching key technical milestones. New business support of the program continues to grow, both domestically and internationally, with increased levels of annual aircraft order quantities. While the current DoD budget cap agreements for FY 2014 and FY 2015 resulted in some near-term reductions and deferrals of planned F-35 aircraft quantities, the revised order profile still shows significant annual growth. Fiscal year 2014 order quantities for new aircraft are projected to increase by over 20% above prior fiscal year levels, and Fiscal year 2015 budget projections reflect an additional expansion of over 30% in new aircraft orders. These increases in projected annual aircraft order quantities are indicative of increasing aircraft maturity and growing customer demand for this revolutionary fifth-generation fighter.
International support of the program is also expanding in helping mitigate domestic pressures from constrained budgets. Another key new business milestone achieved this past quarter was the formal announcement by the Republic of Korea to procure the F-35 for its F-X fighter acquisition program. Their decision followed a comprehensive evaluation process of competitor aircraft and makes Korea the third foreign military sales country and 12th country overall to select the F-35. We look forward to supporting the discussions between this valued ally and the U.S. government to formalize an agreement and add a multibillion-dollar order to our backlog of future F-35 work. Turning to the development program, while new technical accomplishments were achieved on a daily basis, this quarter included the key completion of all flight test objectives of the carrier variant aircraft using the redesigned tailhook system.
The success of the newly certified arresting hook clears the way for the aircraft to conduct sea trials for the U.S. Navy in October and moves the carrier variant another step closer to joining the fleet. In the area of software, we are making good progress on the Block 2B software that will enable initial operating capability of the STOVL aircraft in 2015, and we are progressing on Block 3I software that will enable the planned IOC for the Air Force variant aircraft in 2016. Finally, we look forward to showcasing the F-35 when it heads overseas in July to fly at the Royal International Air Tattoo and the Farnborough International Airshow in the United Kingdom. This will mark the aircraft's first appearance outside the U.S. and enable a world audience to see some of the revolutionary capabilities of this next-generation fighter.
Overall, the F-35 program is retiring development risk and increasing production tempo while reducing program costs. Shifting the focus of my remarks to portfolio shaping, we recently completed our acquisition of Industrial Defender, a leading provider of cybersecurity solutions for industrial control systems to monitor, manage, and protect critical infrastructures in such areas as electric power grids, chemical facilities, and oil and gas pipelines. Industrial Defender's offerings provide cybersecurity for automation systems in operational environments and are a natural extension and strengthening of our existing IT cybersecurity business suite of solutions for domestic and international customers. This addition will enable us to offer an even more comprehensive spectrum of technology and services designed to face modern-day threats to both operational and information security.
Before turning the call over to Bruce, I want to say that we are enormously proud to receive the 2014 Catalyst Award this past quarter as recognition of our initiatives to expand opportunities for women in business. We are pleased to be the first aerospace and defense company to receive this award as recognition of the progress we have made in ensuring women's voices are contributing to the diverse perspectives so essential in today's competitive landscape. Embracing diversity is a business imperative of our corporation. It drives innovation and performance, it helps create and utilize the full potential of our team's human capital. I'll now ask Bruce to go through the details of first quarter financial performance and our increased 2014 guidance, then we'll open up the line for questions.
Thanks, Marillyn. Good morning, everyone. As I highlight our key financial accomplishments, please follow along with the web charts that we included with our earnings release today. Let's start with chart three and an overview of the quarter. Sales in the quarter were $10.7 billion, down slightly from last year, but in line with our expectations for the start of this year. Segment operating margin was very strong at 13.4%, and this performance, along with the improvement in our FAS CAS pension adjustment, increased earnings per share by 23% to $2.87. We generated $2.1 billion in cash from operations, the same amount as in the first quarter of last year, returned $1.6 billion to shareholders. We increased our outlook for operating profit, EPS, and cash from operations. We're off to a good start in 2014, extending upon our strong performance from 2013.
Turning to chart four and comparing our sales and segment operating margin results for the first quarter this year versus last year. Overall, sales were down 4% compared with last year, but as I just noted, this was in line with our expectations, and we expect to have sequential top-line growth for the remainder of 2014. Segment operating margin matched our highest level ever at 13.4% and was broad-based across our business areas, as we'll outline on the next chart. Chart five shows that segment operating margins improved significantly over our results from a year ago. Four business areas had higher margins this quarter compared with last year, with the increases for Missiles and Fire Control and Mission Systems and Training leading to our increased segment operating profit outlook for the year. As expected, Aeronautics margin was slightly lower than last year due to a change in the program mix.
On chart six, we'll reconcile our earnings per share compared with the first quarter of last year. EPS in the quarter was 23% higher than a year ago, driven primarily by the FAS/CAS adjustment improvement from an expense last year to income this year, along with improved segment operating margin results we just discussed. Partially offsetting this increase was the lower volume this quarter and a substantial R&D tax credit in 2013 that was not repeated this year. If you'll turn to chart seven, we'll discuss our cash generation and deployment in the quarter. Cash generated in the quarter was very strong at $2.1 billion. This was similar to our cash generated in the first quarter of last year, but last year had nearly $350 million more in tax refunds associated with pension contributions than we had this year.
With free cash flow of $2 billion and cash returned to shareholders of just under $1.6 billion, we returned 78% of free cash flow in the quarter. Also similar to last year, we expect that cash generated in the first quarter will be the highest for the year, as we have both pension contributions and tax payments planned in future quarters that did not occur in the first quarter. On chart eight, we'll look at our share repurchases in more detail. We repurchased 7 million shares in the quarter, significantly more than what we did in the first quarter of 2013. This more than offset shares added from option exercises, the stock match on our 401(k) plans, and shares issued for the vesting of restricted stock, as our net share count was reduced by about 4 million shares.
Since we began our repurchase program at the end of 2002, we have reduced our share count by a net of approximately 31% to our current level of just over 315 million shares. Moving on to chart nine, we'll discuss our updated view of the guidance for the year. We are reaffirming our guidance for both orders and sales as our first quarter results were in line with our expectations. As I mentioned earlier, sales are expected to grow sequentially throughout the year, while orders are heavily weighted towards the second half of the year, and especially in the fourth quarter, similar to what we experienced last year. We increased our segment operating profit guidance by $75 million, driven by the strong performance of Missiles and Fire Control and Mission Systems and Training in the first quarter.
We increased our outlook for earnings per share by $0.25. We'll describe that in more detail on the next chart. We increased our cash from operations outlook by $100 million to greater than or equal to $4.7 billion, recognizing our strong start to the year. Chart 10 provides a reconciliation of our prior outlook for EPS compared with our new outlook. Our $75 million increase in segment operating profit results in a $0.15 increase in earnings per share, while our significant repurchase activity results in a lower average share count for the year that improves earnings per share by another $0.10. As a result, our EPS guidance is now $10.50-$10.80 per share. Moving to chart 11, our first quarter sales performance and nearly $80 billion in backlog enabled us to reaffirm our sales outlook for each of the business areas and in total.
On chart 12, we show our new segment operating profit outlook by business area and in total. We increased our outlook for Mission Systems and Training by $45 million and Missiles and Fire Control by $30 million, resulting in the overall increase of $75 million for the corporation. Finally, chart 13 provides our summary for the quarter. The first quarter represents another strong performance by the company with broad-based results operationally and financially. We had very good program execution and continue to take proactive measures that benefit our customers, our employees, and our stockholders. With that, we're ready for questions. Stephanie?
Thank you. Ladies and gentlemen, to ask a question, please press star then one on your touchtone telephone. If your question has been answered and you would like to remove yourself from the queue, you may press the pound key. As a reminder, in the interest of time, we are limiting you to one question. Please return to the queue for any follow-up question. Our first question comes from Robert Stallard with Bank of America. Your line is open.
Thanks very much. Good morning.
Good morning.
Bruce, I hate to kick off with pension, but I will. I was wondering if you could give us an update on what you expect to see from the CAS side over the next, say, two to three years, and also what's your expectation for pension contributions. Thanks a lot.
Rob, there's a couple of moving pieces going on with the pension discussion I'll try to capture in my response to your question there. CAS is going to increase fairly significantly over the next couple of years. I would expect that our cash contributions to our pension trust will probably be at a level close to what we're experiencing this year and maybe drop off a little bit in the year, what's that, 2016, the year after next. Importantly, within the discussion of pension in the near term is we do expect to see, we just had released the new mortality table that we'd kind of teed up, I think a few quarters back, and we would expect to incorporate that at the next remeasurement of our pension plans.
At least as I think about the effects of that mortality table change, sort of with current assumptions for the discount rate, and asset returns, if those were held constant, sort of current course and speed as we usually do, we'd expect to see both FAS expense and CAS to be higher in 2015 than it would have been without the mortality change. FAS will actually increase by a greater amount than will CAS. That alone would result in a slight reduction of FAS/CAS income than what it otherwise would have been. You should think of this as still being significantly greater at the end of the day in 2015 than what we experienced in 2015 on an order of magnitude of maybe 2x, what we're seeing in 2014.
Cash, on the other hand, is likely to see some near-term benefit, because we have been accelerating our pension contributions as required under ERISA. We're actually sitting pretty nicely, even with the effects of the mortality table required cash contributions. Those will come in sort of later years for us. The CAS impact, the Cost Accounting Standards impact, will be updated prior to those required ERISA contributions. We'll actually get, as I said, a bit of a near term net cash benefit. I said a lot there, Rob. Hopefully, that all made sense to you there.
Our next question comes from Joseph Nadol with JPMorgan. Your line is open.
Thanks. Good morning.
Good morning.
My question is on the share purchase plan. You guys have been offsetting for two-plus years, the options issuance, et cetera. In this quarter, for the first time in over two years, you broke below that 319 level. I was just wondering if you could comment on, I guess, the strategy with share purchase now. Are you looking at reducing the share count going forward, or is this just a quarterly timing issue? Thanks.
Yeah. I'll try that one as well, Joe. Good question. At least as I think about share repurchase, I'll give you kind of a winding answer here. We've always said we're committed to offsetting share count creep, by offsetting the dilutive effects, in particular of option exercises. I'll remind you that we also, especially in the first part of the year, we also increase share count for the vesting of our restricted stock units. All throughout the year, we make additional contributions to our 401 match in the form of stock as well. Those numbers tend to creep up throughout the year. What we've said historically as well as this year is that we intend to offset that dilutive effect, as I said. We also try to be opportunistic. We'll do the same this year.
At least as I think of the next three quarters or so, Joe, we've offset most of the effect of both, well, clearly of the option exercise that took place in the first quarter, as well as the RSU vesting. We'll continue to offset those option exercises and the 401 matches as they occur over the next three quarters. There is some variability that might play into how much we buy back associated with any potential acquisitions, if any, that we would make in the rest of the year. Sort of depending on all the things I just described, the level of option exercises, potential acquisitions, if any, we could see repos at a level that would bring cash on the balance sheet about back to the level we started the year with, and we started the year at about $2.6 billion.
I recognize that's not what we have reflected in our current guidance, but that's kind of the way I'm thinking about it right now. Maybe just one final point. I think we started the year a little under 10 million options available to be exercised. We had about 2.3 million exercised in the first quarter. If you annualize that, and that's an assumption on my part that that'll be spread equal over the next few quarters. We'll be at about the same level of option exercises as we were last year, 9 million+. That would leave us literally at the end of this year with less than 1 million options left to be vested. Clearly our rate of dilution, if you will start to diminish pretty significantly at the end of this year.
Our next question comes from Myles Walton with Deutsche Bank. Your line is open.
Thanks. Good morning. Actually two questions, but I'll slide one as clarification. MST, the implied margins for the remaining nine months, can you give us some color on to the why of the step down? Obviously, outsized performance here in the first quarter, but even that looks like the step down that last nine months you can help with. The other is the C-130 margins. I think they're pretty impressive in terms of the margin expansion in C-130 in 2013. It looks like you had more margin expansion here in the first quarter. When you transition to that next multi-year, is that something we have to think about a step down on? Thanks.
I'll give a shot at that, Myles, and see if Marillyn has any color she wants to add to it. MST might look a little unusual for a couple of reasons. One, we did have a very strong first quarter of the year from an EBIT perspective, and that kind of came in two flavors. One was we had some accelerated risk retirements that were actually planned for later in the year that simply because of good performance were accelerated into the first quarter. That obviously won't be a change to the year. On the other hand, we actually had some just outright stronger performance than we had expected in the plan. That's the amount, if you will, that we increased the full-year outlook by for MST.
The piece that might be missing a little bit in your thinking is recall in the January call, we talked about the restructure cost and the phasing of some of the expenses. These are expenses for a number of things, accelerated depreciation, some of the facilities movement, personnel movements, and so forth. Personnel relocation, I should say. We talked about that being about $80 million for the year. MST was about $25 million of that, and Space Systems was at about $55 million of that we expected to hit EBIT. I think I described that as about a $0.16 hit to EPS overall had it not been for that restructure charge. Nearly all of that $25 million is going to fall in the last three quarters of the year for MST. The same thing with Space, by the way, although you didn't ask about Space.
The vast majority, think of probably of the $80 million, $75 million or so of that remaining restructure expense that we expect to incur in 2014 will hit the next three quarters and just about equally spread about $25 million a quarter. That's contributing to not just the MST scenario, but the lower going forward scenario for Space Systems as well. Having said all that, as I look at the business areas and where we sit today versus where we expect to be at the end of the year, I do think we have some potential upside pressure, especially at MST and maybe a couple of the other business areas as well. It's just a little too early in the quarter, or excuse me, a little too early in the year to recognize that goodness at this time. I'm sorry, C-130.
I forgot that you'd asked about C-130. They were stronger, to your point, in the first quarter, Myles, than they were last year. We had some step-ups associated with a couple of either completions or near completions of some contracts that, to your point, also are in advance of the multi-year. As usual, whenever we kind of get to the end of a contract is when you'll see the majority of those risk retirements take place. I think, the multi-year, as with all sort of DoD contracts, we sort of start with a new sheet of paper in terms of starting with the cost at the lower level than maybe where we had on a previous contract. Risk retirements theoretically should be tougher from that lower number to begin with.
I think your question's the right one, and we'll just have to continue to see the sign of performance that we've had in the past. I'd like to think that we have, with the international mix going forward and the international interest and not all of those in the FMS sale variety, that we have some potential to keep the C-130 program close to where we are today. You're absolutely right that there is some pressure going into the multi-year side of things.
Our next question comes from David Strauss with UBS. Your line is open.
Good morning.
Morning.
Morning.
On F-35, it looks like most of the growth that you're anticipating over the next couple of years is on the international side. Marillyn, you did address Korea coming into the fall. How do you feel about overall the stability on the international side? It sounds like Italy's a little wobbly. Canada's obviously reevaluating things. Just how confident are you that this backlog is pretty secure? Thanks.
Thanks for the question, David. I would say we're pretty confident. When we look at the next five years, close to half of our orders in the next five years will come from international customers on the F-35 program.
Each one of these customers, our partners, they go through their process. They periodically look at their security and their defense needs, and they have to go through a decision process. We're confident when you look at the South Koreans making their formal announcement, Israel, we could potentially see additional from Israel. Australia, as they move through their procurement plan. At some time in the future, we think Singapore will revisit the F-35 it turned down when they went to buy. Canada is in their procurement process and working through that. We feel confident that the unique capabilities of the F-35 is going to make it remain the best choice for these customers and expect to see that go forward.
Our next question comes from Richard Safran with Buckingham Research. Your line is open.
Thanks. Good morning, everybody.
Good morning.
I just wanted to ask a relatively simple question here about your outlook and your bookings guidance. I noted that you didn't change it, understand. I thought maybe you could give us a bit of an update here on your booking guidance overall, that you reported when you reported 4Q. Can you tell us maybe, for example, what has to happen to achieve or exceed the high end of the range and just how you're looking at it now?
Yeah. I'll throw it out. Rich, there's a lot of moving pieces. It's a simple question, it may not be a simple answer. There's a lot of moving pieces you would expect at this point in the year from sort of an orders or a booking outlook as you described it. I think we were actually pleased. I know the book-to-bill might have seemed a little light to some. We were actually pleased. We actually exceeded our estimate of what we were expecting to receive from an orders perspective in the first quarter, and a lot of that, frankly, was international content. We were pleased with that as well. As I look forward in the next few quarters, I would think we should probably see a similar pattern to last year.
I think if I was a betting person, I'd say the next 2 quarters will probably receive about $10 billion plus or minus each in the next few quarters. The biggest single order in the second quarter we're expecting is closing on the Lot 8 F-35 proposal, which by itself is probably worth about $3.5 billion. There's also the FY 2014 buy for the C-5 program. Think of that as $600 million or so. An international PAC-3 for probably a half billion, $600 million. The FY 2014 buy of the Fleet Ballistic Missile, about a half billion dollars. Then several satellites, including spacecraft seven and eight from the GPS III program and a commercial satellite that collectively is about a half billion dollars in total. All that collectively, again, as we say, I think it's about $10 billion a quarter, both in the second and third.
Similar to last year, we'd expect to see a pretty good-sized spike in the fourth quarter. If you just sort of back into the numbers from where we are today, that's probably about, in the numbers I just gave you, that's probably about $16 billion or so in the fourth quarter. The biggest single item there is the C-130J multi-year at close to $5 billion. That's really when we get all of our sort of new government fiscal year orders. That's not an unusual pattern that we would expect to see there. We ended the first quarter, like I said, a little higher than we thought, maybe at just below $80 billion, and we still think we've got a chance to be above $80 billion as we get towards the end of the year.
Our next question comes from Jason Gursky from Citigroup. Your line is open.
Good morning, everyone.
Good morning, Jason.
Bruce, I've got a quick follow-up question for you, and then just one quick one. On the follow-up, you talked about the impacts of the mortality tables and there being higher FAS relative to CAS as a result of the change in the mortality table. Is there a way for you to quantify in some sort of range how much higher the FAS might be than the CAS as a result of the change in the mortality table? My question is on CapEx. You came in at a run rate of only $400 million for the year, which would be down significantly year-on-year.
I was wondering if you could talk a little bit about the trajectory of CapEx for the rest of this year, the rate it will exit the year, and what that perhaps implies for CapEx as we move out into 2015 and 2016.
Yeah. Jason, I'll try that one. I should have said on the answer to the first question, we probably shouldn't refer to it as a mortality table. We actually like the term longevity table. It just somehow sounds more appealing to us than we talk about mortality. We'll start from now on calling it a longevity table. I did try to tee up that we see an increase in both FAS and CAS as soon as that is included in our remeasurement. I did not mean to imply that FAS will be higher than CAS. Simply the change in FAS will be higher than the change in CAS, if that makes sense. Even with that, and that was the point I was trying to get to, Jason.
Even with that, saying that our pension income, if you will be lower than it otherwise would have been without the mortality table, we would still expect to see our FAS/CAS adjustment more than double from where we are today. Where are we? About $435 million today. That number is, and once again, as my usual caveat, current course and speed on the discount rate and asset return. As we see the longevity, excuse me, table impact in 2015, that number is north of $800 million. Beyond that, Jason, that number sort of continues to increase in the out years, at least for the next couple of years beyond 2015. As I look at the CapEx in the first quarter, we're almost historically low.
I wish that were not the case, frankly, but it just takes a while sometimes for us to sort of break the gears loose on the CapEx. Last year, in the first quarter, I think we did just north of $100 million, like $103 or something. This year, believe it or not, we're actually a little higher at $106 million. We do expect to see, just as we did last year, to kind of close on the number that we include when we give our free cash flow for the year. We do have some pretty good size items, including some restructure capital for the facilities movements that we talked last year or January of this year, including the space systems consolidation that have yet to play out.
Those are bigger than maybe some of the ones we would typically have in an annual year, and that is expected to happen in the next three quarters.
Our next question comes from Doug Harned with Sanford Bernstein. Your line is open.
Good morning.
Morning, Doug.
On the F-35, we saw a reduction of quantities for the C model in the president's budget, and there's the potential for further reductions in quantities if we see sequestration in 2016. Now, I know that your pricing for the program is volume dependent, but can you describe the impact, if there's any, on program margins related to the 2015 cuts, and what could happen to margins if sequestration goes into effect and we see further cuts, given the way you structure these contracts?
Yeah. I'll take a shot at that, Doug. It's not inconsequential, but it's maybe not as large as you might otherwise think. Clearly, we will price the current fiscal year offering Lot 8 in this case with sort of the known quantities, and run those known quantities through our overhead rates, which is where some of the variability would come in from the quantity changes, so that we would capture that in sort of the instant contract that we're pricing. Where we may have a bit of pressure is prior contracts. Lot 6 and 7, for instance, would have been priced with an assumed higher quantity of F-35s going forward in Lot 8 and beyond. Sort of the overhead absorption impact of losing those quantities of aircraft will play out, and hit, if you will, some of the performance of Lot 6 and 7.
Obviously, we'll try to mitigate as much of that as possible, but unfortunately, not all our overhead is 100% variable, so some portion of the fixed cost will get spread in any event. The other side of that is not so much on six and seven, but some of the prior aircraft and some of the other businesses with our contracts within Aeronautics are flexibly priced cost-plus in nature or fixed price incentive in nature. There will be some sharing of those cost increases result of that base deterioration. I should remind you that all this has yet to play out completely because, for instance, the program of record which is what we tie to on the F-35 program.
While it would have had higher domestic quantities of aircraft in what we were pricing the previous few lots on, that program of record, for instance, did not include the South Korean aircraft quantities in it. There's at least, hopefully, somewhat of a mitigating aspect to that in the not too distant future.
Our next question comes from Noah Poponak with Goldman Sachs. Your line is open.
Hi, good morning, everyone.
Morning, Noah.
Bruce, going back to the margin conversation. I guess the company has realigned businesses, is making changes with facilities, making changes with other costs where the numbers look pretty large, but I guess we don't know what the starting point was. I'm sort of curious if there's a way to categorize how much more can still change from a cost perspective to boost margins. Then, forgetting about this year, forgetting about next year, just bigger picture, longer term, is this low 13% segment operating margin in the realistic scenario analysis of what the long-term Lockheed Martin segment operating margin can be?
Okay. Just let me think about that for a second, Noah. You asked a lot of detail there, and I've got to get my head around it. Sort of my summation, how much more cost takeout potential is left? Yeah, I always believe, and I know Marillyn has ingrained this in my thinking and probably the corporation's thinking, but we try to get to, I've said this in the past, as much of a variable cost mentality as possible. A lot of that is sort of environmentally dependent. Not all of our business areas are sort of created equal in that regard. One of the more flexible businesses we have, for instance, is our short cycle IS&GS business, where we have a lot of facilities that are leased in nature and not owned.
Not all of them, by the way, but a lot of them there. We've been able to flex pretty dramatically. If you just look back the last few years at IS&GS and look at the unfortunate headcount reductions we've had to take, we've been able to maintain margins throughout that period with a pretty sizable reduction in our overall workforce. That's, for instance, one business area that has the ability to flex to match its environment. Some of our longer cycle businesses, as you would expect, like space systems or aeronautics, they have a higher capital cost content, and therefore that's harder to remove. One of the things we've been trying to do is take a look at our total square footage and optimizing our square footage around the corporation.
The moves that we just announced in November were to take out another 2.5 million sq ft on top of about 2 million sq ft we've done in the past few years. Well over 4 million in total. That's just sort of sizing the operations to the environment in which we operate. I think we're good at that. I think we're good at that across the corporation. You never know what you have to do until you're sort of hit with the predicament that the environment throws at you. We work it very hard. I'll also remind you that probably two-thirds of our cost is in the supply base, so we try to get that as well under control. That's a big part of it as well. While we're reducing space in some areas, we're actually growing concurrently in other areas.
For instance, our Troy, Alabama facility, or Camden, Arkansas, where we're doing some of the FAAD production and some of the missile production, missile and fire control, is actually growing. We've got this constant increasing and decreasing. I think we've become very good at that over the years we do that. I don't think that we've reached a limit as far as what we can or cannot do in the future. As far as the 13% long term, given that we've hit that twice and that's the highest, I would say that's a hard hurdle for us to maintain. Especially in the near term, as we've talked about in the past, Noah, with the significant growth coming on the F-35 program at lower than the overall margin rate, that's clearly going to put pressure on our ability to achieve that.
The flip side of that argument, though, is our international content is expected to grow over the near term. I think we'll hit close to 20% this year, and we could do more than that in the next couple of years even. That typically would have a mitigating function, but overall, I'd say it's going to be hard to maintain the 13%. That's just a level we've achieved infrequently, and it'll be hard to maintain that going forward.
Our next question comes from John Godyn with Morgan Stanley. Your line is open.
Thanks for taking my question. Bruce, there's a lot of debate among investors on how to really think about these pension tailwinds and what they mean for the stocks. I was hoping to focus in a little bit on the cash part of it, the cash tailwind from prepayments for CAS harmonization, and better understand how the management team thinks about it for capital allocation in the future. I guess at the extreme, some would argue that a temporary tailwind should be returned to investors in, I guess, above normal buybacks or something of that nature. That might be too simple, it also seems like it's too simple that a tailwind that's not going to last forever has no impact on how you think about capital allocation going forward.
I'm just curious if you could kind of focus in on that and maybe help investors understand how they should treat it for the purposes of analyzing the stocks. Thanks.
Well, John, I appreciate the question. I think it's a very well thought out question, so let me try to address everything you described there. In years past, and not this year, whenever we give the EPS performance, we've given adjusted EPS to try to take into account the fact that we thought our GAAP reported earnings were probably understated relative to the valuation of the company, and that wasn't necessarily a good measure for our investors to be basing their valuation of the stock upon. Now we've got the flip situation of that, where our reported earnings are actually getting a tailwind, as you said, because of the FAS/CAS adjustment.
What I've been trying to preach for a number of years is that the real valuation upon which the stock should be valued is the cash flow, and sort of a cash flow per share, to be specific with that. At least as we look at even with the substantial conversion from expense to income this year, as I said, I think $430 million or so of income added to our segment operating profit. That takes us to the current outlook again of about $10.55-$10.80. I think our free cash flow per share this year is somewhere north of $11.30. When I think of cash deployment in particular, and I look at the payout ratios from a dividend perspective or the cash available for share repurchases, I am very much focused on our sort of free cash flow per share.
I think that number grows over the next couple of years, potentially pretty significantly as we start to finally recover some of this $9 billion or so that we've had pre-funded into our pension trust that we've yet to recover via our billings to the government. Now, the mortality table that I just described has some longer-term implications that I've described. Obviously, as people live longer, that'll require additional contributions over the longer term. That should get reimbursed on our CAS contracts. As I said earlier, and I forgot who asked the question, in the near term, that actually is an upper to cash flow because we don't expect to have near term much of an incremental increase in our required contributions, but our CAS to our government customers will reflect that mortality table change earlier.
That's the way I think of it, very much looking at it from sort of a free cash per share basis. On that basis, I think we've still got some upside from both the dividend potential as well as share repurchase potential going forward.
Our next question comes from Ron Epstein with Bank of America Merrill Lynch. Your line is open.
Hey, good morning, Bruce and Marillyn.
Hey, Ron.
Just want to ask maybe a broad question on capital allocation. When you think about Lockheed stock at current levels and buying it here, do you think there's other places that the corporation can invest for growth? Right. Arguably, buying back the shares helps the earnings per share, but it's not really a strategy to fuel growth for the future, right? Are there other things to do, and are you contemplating it, and can you talk about that?
Yeah, I'm going to give it a shot, and I think Marillyn may add some color here as well. This is not an idle conversation that we have. We don't automatically drop to the fact that we need to be buying back shares and that's the best use of capital. We actually do look at growth opportunities for the corporation. We did two small acquisitions in the first quarter, as we described. We did those because we do believe that there's growth potential in both of those acquisitions. The other thing we try to do is invest internally. As you think of some of our independent research and development, if you take a look over the last two years, we're up some $100 million or so in just the level of IRAD.
We're trying to do what's right from supporting our shareholders as well as supporting internal growth. I'll mention we just invested in a terrific facility in Palo Alto in California to create a new lab for one of our organizations out of Space Systems. That's sort of the forward-looking piece of that business. I think we're making those right decisions. Honestly, as we look at the environment right now, there's not enough of those to justify the ample cash that we are throwing off right now as a very mature business and in the environment that we're in from an overall budget perspective. Probably the last thing you would want us to do is to go chasing growth and overpaying for growth.
Given those prospects, I think what we're doing is what most investors would hope for us to do, and we're doing that in a very thoughtful and hopefully prudent manner.
I'd just add to that as well, Ron, that if you look at the things that we are investing in, as Bruce said, we were up on our R&D expenditures last year. Over the past five years, we've invested more than $3 billion into research and development, things like advanced materials, advanced manufacturing, autonomy and robotics, some of the acquisitions we've made in the unmanned space, quantum computing, cyber, energy. There's a lot of areas that we're continuing to invest in. Importantly, we're also continuing to invest in our current portfolio to keep it relevant. Making sure we're listening to our customers, extending the range, for example, on the PAC-3 and THAAD and JASSM and some of the key capabilities.
LRASM.
LRASM. Our opportunities that we look at it, offering different variants of the LCS to the international marketplace. We are definitely continuing to maintain that portfolio and look for opportunities, advanced concepts, and things that we can do to stay ahead of what our customers' needs are. You saw probably the SR-72 that we rolled out, which was a capability we've been working on for a number of years, and we've got a ways to go yet and demonstrate it, having an intelligence surveillance reconnaissance capability with the potential for strike platform, which is very interesting. That's just one example, but one that I think makes the point that we're going to continue to do what we do as a corporation to be focused on being a technology leader because that is the value that we create for our customers.
Our next question comes from Carter Copeland with Barclays. Your line is open.
Hey, good morning, almost afternoon all.
Good morning.
Sorry. Bruce, just one clarification then and then a question, if I will, on the longevity table as you stated it. The dynamic for 2016 and 2017, if you look out beyond 2015, presumably it's the same sort of impact in terms of FAS being revised up more than CAS on a relative basis in those years similar to what you're seeing in 2015. Is that correct?
It is Carter. I'll make hopefully the same point that I tried to make on the 2015. Even after that adjustment, we would still expect to see increasing pension income even after the longevity table is implemented from 2015 to 2016 to 2017.
Okay. You're still expecting a pretty sizable step-up to the contribution out there in, I guess it's 2016 or 2017?
We've got a fairly large contribution required in 2017, but we've also got a fairly large CAS recovery as we kind of get to the end of the CAS harmonization timeline there. I would expect, I'll say net cash from our pension to actually increase over those same years that you just described.
Okay. Then with respect to the DoD or the domestic versus the non-DoD or international growth and with respect to the 4% decline this quarter, how would that have looked on a domestic versus international basis? If you could do the same for bookings, that would be helpful as well.
Yeah. I think, and I'm doing this a little off the top of my head, Carter, but at the discussion we had with the media earlier today, I made the point that if you just take a look at our DoD sales on a standalone basis, they dropped 4% from the year 2012 to the year 2013. We expect pure DoD sales to drop another 6% from the end of 2013 to the end of 2014. A 10% drop year-over-year from 2012 to 2014. What's lost in some of that discussion, though, is we'd actually expected 2014 before sequestration to actually have an increase in sales amount.
Arguably from a plan perspective, we're actually down more than the 6% that I talked about just now because that's sort of going actuals to the end of the year expected actuals and not recognizing what it otherwise could have been without sequestration. Hopefully, that made some sense to you. In the quarter itself, in the non-DoD or the international content specifically, we're looking at something like a 13% increase year-over-year in our total international sales. From a total perspective, we're going from roughly 17% to right at or just a little bit below 20%. For the international growth, we would have seen a much larger impact because the DoD is again decreasing about 4% clip. The reason we're sort of down only the 1% or so that we're guiding towards is because of the mitigating effects of the international sales.
Stephanie, this is Jerry. I think we're coming up on the hour. Maybe we'll just turn this over to Marillyn for closing comments. Okay, thanks, Jerry. As we conclude today, I want to restate that the corporation had another outstanding quarter and is well positioned to deliver even higher value to stockholders and customers as we progress through 2014. Our robust cash generation, strong backlog of domestic and international work, our solid balance sheet, and the exceptional execution of our employees will continue to propel our corporation forward in 2014 and beyond. I'm confident in our future. Because of the outstanding innovation, performance, and integrity of our workforce, we will continue to support our customers and their essential missions. Thanks again for joining us on the call today. We look forward to speaking with you on our next earnings call in July. Stephanie, that concludes our call today.
Thank you. Ladies and gentlemen, that does conclude today's conference. You may all disconnect. Everyone, have a great day.