Ghassan Awwad - Larry A. Lawson - Chief Executive Officer, President, Director, Member of US Government Security Committee, Chief Executive Officer of Spirit Aerosystems Inc and President of Spirit Aerosystems Inc Sanjay Kapoor - Chief Financial Officer and Senior Vice President.

Carter Copeland - Barclays Capital, Research Division Howard A. Rubel - Jefferies LLC, Research Division Joseph B. Nadol - JP Morgan Chase & Co, Research Division Cai Von Rumohr - Cowen and Company, LLC, Research Division Douglas S. Harned - Sanford C. Bernstein & Co., LLC., Research Division Samuel J.

Pearlstein - Wells Fargo Securities, LLC, Research Division Jason M. Gursky - Citigroup Inc, Research Division Robert Spingarn - Crédit Suisse AG, Research Division George D. Shapiro - Shapiro Research Kenneth Herbert - Canaccord Genuity, Research Division.

Good day, ladies and gentlemen, and welcome to Spirit AeroSystems Holdings, Inc.'s Third Quarter 2014 Earnings Conference Call. My name is Christine, and I'll be your coordinator today. [Operator Instructions] Please note that this conference is being recorded. I would now like to turn the presentation over to Mr.

Ghassan Awwad, Director of Investor Relations. Please proceed..

Good morning. Welcome to Spirit's Third Quarter 2014 Earnings Call. I'm Ghassan Awwad. In the room with me today are Spirit's President and Chief Executive Officer, Larry Lawson; and Spirit's Vice -- Senior Vice President and Chief Financial Officer, Sanjay Kapoor.

After opening comments by Larry and Sanjay regarding our performance and outlook, we will take your questions, and then Larry will share some closing comments.

[Operator Instructions] Before we begin, I need to remind you that any projections or goals we may include in our discussion today are likely to involve risks, which are detailed in our earnings release, in our SEC filings and in the forward-looking statements at the end of this web presentation.

In addition, we refer you to our earnings release and presentation for disclosures and reconciliation of non-GAAP measures we use when discussing our results. As a reminder, you can follow today's broadcast and slide presentation on our website at spirit.com (sic) [spiritaero.com].

With that, I would like to turn the call over to our Chief Executive Officer, Larry Lawson..

type certification of the A350 and the first flight of the A320neo. We would like to congratulate Airbus on these accomplishments. Our performance on the A350 continues to track to plan.

We've delivered 11 A350 units to Airbus this year, a total of 22 units overall, and you can see the improvement in our financial results with a 50% reduction in deferred cost per ship set versus last quarter. The improvement was primarily driven by a reduction in travel work and engineering change travel.

I'll continue to stress, it's early and we have a lot more work to do. On the topic of cost. We continued our comprehensive cost-reduction efforts, as we raise the bar on performance. We are driving the business operations for better alignment between what is made in-house and what is purchased. The analysis is still ongoing and it does track both ways.

There are some parts that were outsourced that make better sense to bring in-house and other activities we engage in may become buy items. The big picture strategy is to focus on our core capabilities and the markets where our economies of scale position us to where we are or reasonably can become best-in-class.

On the topic of maximizing our internal capabilities more effectively. This quarter, we continue to consolidate our global engineering resources to have better workforce stability, improve domain expertise and lower cost.

We are also in the final stages of centralizing our procurement activities, which is already yielding improvements in both performance and cost. In terms of progress on defense this quarter. We delivered the first Sikorsky CH-53K to start up [ph], which met all of its customer and delivery requirements.

Just for context, we delivered 7 units previously and successfully restarted the production line after a 1.5-years shutdown. Our other defense programs, the Boeing P-8 and the KC-46 tanker and the Valor V-280 prototype, continued to make great progress.

Spirit's capability and affordability on materials, processes and tools make us a natural fit for future defense programs. This quarter, Onyx completed the sale of its shares of Spirit common stock. Onyx has been a great partner and we certainly appreciate their contribution to our company. Now let's turn to our financial guidance and results.

We've tightened our revenue guidance to between $6.8 billion to $6.9 billion for the year, and we have increased our earnings per share to a range of between $3.35 to $3.45, up from $2.90 to $3.05. And we raised our free cash flow guidance to $275 million, up from $250 million.

For the third quarter, we reported revenues of $1.7 billion, which was up 13% year-over-year, operating income of $216 million. Operating margins were 13%. We reported earnings per share of $1.20, or $0.90 excluding the partial release of the deferred tax valuation allowance. Operating cash flow was $119 million and free cash flow was $75 million.

Our backlog grew roughly $3 billion to $44 billion on the strength of new orders, which is over 6 years of sales visibility. So with that, I'll turn the call over to Sanjay, and he can walk you through the details.

Sanjay?.

Thank you, Larry, and good morning, everyone, and of course, Happy Halloween. Looking forward to sharing our quarterly results and updating our outlook for you today.

So I want to start with where I left you last quarter, when we recounted the actions taken over my first year of building a strong leadership team, obtaining a reliable operating rhythm, resetting our cost structure, mitigating risks and, of course, identifying additional opportunities.

While this is an ongoing process and we always have more work to do, our third quarter results represent another step towards achieving our vision for the company of delivering consistent and predictable financial results.

Now let's start with the consolidated results in the quarter, then I'll review the quarterly segment results, and finally, we'll wrap up with our updated outlook for 2014. So let's turn to Slide 3 for the consolidated results of the company.

Overall revenues for the third quarter were up 13% as compared to the same period last year, driven by higher deliveries across multiple programs. Operating margins for the quarter were a solid 12.8% compared to 3.4% in 2013, which was impacted by forward loss charges.

Earnings per share for the quarter was $1.20 and included $0.30 associated with the partial release of the deferred tax asset valuation allowance. As we previously communicated, we will continue to follow accounting guidance and assess the need to maintain our valuation allowance against our U.S. net deferred tax assets.

Operating performance was strong and includes the benefit of $33 million or $0.16 of cumulative catch-up adjustments, which are the realization of some of the actions I mentioned earlier, undertaken to mitigate risk and reduce costs. A portion of the cumulative catch-up adjustment was on the recently closed 777 block.

The partial release of the deferred tax valuation allowance in the quarter was approximately $42 million. Cash from operations for the third quarter was $119 million source of cash, capital expenditures of $44 million for the quarter as we continue to adhere to disciplined decision-making processes.

And while I can assure you these processes will continue in the future, going-forward spend will be lumpy as we invest in our facilities in support of the rate increases as well as to improve our efficiency and cost. Free cash flow for the quarter was $75 million and includes a $109 million cash tax payment in the quarter.

Year-to-date free cash flow is $194 million, which is a $187 million improvement over the prior year. Let's move to Slide 4 that summarizes our cash and debt balances.

Cash balance at the end of the third quarter grew to $453 million and is net of approximately $150 million cash related to our share buyback and debt refinancing that we executed earlier in the year. At the end of the quarter, our total debt-to-capital ratio was 39% and our U.S. defined benefit pension plan remains fully funded.

Slide 5 summarizes net inventory balances at the end of the third quarter for 2014. Deferred inventory balances increased by $54 million driven by the A350 and the Gulfstream wings [ph], partially offset by mature programs and the 787. $37 million of the deferred growth is on the A350 as we delivered 4 ship sets in the quarter.

As you can see, we continue to substantially reduce our deferred cost per ship set each quarter. We are reducing the amount of travel work, which is inefficient and expensive as well as some of the engineering work that is typical in the early stages of a new program. We are pleased with our team's progress at this early stage of the program.

But at the same time, we have a lot more work to do. The 787 program realized a net decrease of $12 million in deferred inventory on 26 deliveries or roughly $450,000 per unit. The lower number of deliveries was driven by a planned 2-week Boeing shutdown. Full year deliveries are on track. Now let's discuss our segment performance on Slide 6.

Fuselage segment revenues rose to $804 million in the quarter and operating income was $142 million on higher delivery and cumulative catch-up adjustments on mature programs, and no forward losses in comparison to third quarter 2013.

The Fuselage segment's 737 program continues to drive performance, contributing to the $10 million in positive cumulative catch-up adjustment. In our Propulsion segment, revenues grew to $442 million, and operating income was $82 million driven by higher delivery and cumulative catch-up adjustments on mature programs.

The Propulsion segment's 737 and 777 production line had solid performance, contributing to $8 million in positive cumulative catch-up adjustments. The team delivered another strong quarter while progressing on the design of key new derivative programs, the 737 MAX and the 777X.

And our Wing segment revenues also grew, reaching $446 million on higher deliveries in the quarter. Operating income was $63 million on the -- as the segment benefited from no forward losses as compared to the same period last year.

Our 777/production line in Tulsa and the A320 wing program in Prestwick had strong performance in the quarter, both contributing to the $15 million positive cumulative catch-up adjustments. And the A320 wing team continued their dedicated support of the A320neo, as Airbus celebrated its first flight in the quarter. Now let's move to Slide 7.

As I have mentioned in the past, taking into account our year-to-date results and our forecast, we have updated our guidance for 2014. This guidance includes the impact of lower work days in the quarter. Compared to approximately 64 days on average in the first 3 quarters, the fourth quarter has 56 days.

And also consistent with my comments from previous quarters, the guidance includes possible modest charges in the short term because of initiatives that result in long-term benefits, such as the impact related to the recently offered voluntary retirement program, which we will account and absorb in Q4.

This is another example of us resetting our cost structure. For our full year 2014 guidance, revenue range is tightened to $6.8 billion to $6.9 billion. Earnings per share increased by $0.40 at the top end to a range of $3.35 to $3.45 to reflect mitigating risk and the realization of cost reduction activities.

And we are increasing our free cash flow guidance to approximately $275 million to reflect the improvement in operating cash as well as projected capital expense in the year. Full year effective tax rate remains in the range of 30% to 31%. I'll remind you of some of the important notes to our guidance.

It excludes any potential impact related to the divestiture of Tulsa; and two, it excludes the impact of a year-to-date valuation allowance release, which is $0.55, and any potential future adjustment to the deferred tax asset valuation allowance.

And lastly, early next year, when we discuss our fourth quarter earnings, we will also provide you 2015 guidance incorporating the team's work and our vision for meeting our commitments. We are happy to take your questions now..

[Operator Instructions] And our first question is from Carter Copeland of Barclays..

Just a couple of quick ones. One kind of bigger picture question, Larry, related to all the detail you gave around the cost front, whether it's in the engineering resources, the make-buy, all of that stuff.

If you take a step back and, say, where you are in the time line of attacking cost, what inning would you say you're in? And have you gotten through the low-hanging fruit yet on this set of initiatives? Or is there still a lot more to go?.

I think the -- it's certainly a question we're asking ourselves. As I look at it, it depends on what component of cost we're talking about. But we probably have captured most of the majority of, certainly, the low-hanging fruit and probably the things that are obvious to folks who run operations.

That doesn't mean that it's yet manifest in the financials because most of these decisions, they're reflected in future periods.

I would say probably the area where we are -- so as I kind of look at overhead, I made some pretty significant moves early on with, I think, probably it was second quarter, I announced a 1,000-head reduction mostly in the overhead arena. That was a pretty significant cut. I've continued to challenge the team and we continue to work that.

The attack from there really kind of moved to nonlabor and we've really been looking at, you name it, everything from cell phones to drill bits, it's amazing, to freight. But we're pretty -- we've got a pretty comprehensive plan. And again, Carter, I'd say most of that is in front of us in terms of the payoff.

But I think, the work in terms of what we know we have to do is laid in. So in those particular areas, I would say, "Hey, look, we've -- the plan's set, and you'll see -- as we go forward, you'll see the benefits of that and maybe some continued marginal improvements over time." We've really worked hard, kind of turned our eyes over to supply chain.

We've been working that all along. But we're really now, kind of thinking about the larger strategic approach in terms of consolidation on the supply chain side of things and what opportunities are manifest there. Our agreements expire over a period of time, ranging year to year to year to year, where the majority of those agreements expiring by 2018.

So again, as we work our way through that, you're going to see us make improvements in those things which will continue to manifest over quite a long period of time because not all those contracts are immediately available to us to renegotiate. I hope that's -- answers your question..

No, that's great. That's great color. I think it's just tough to -- for us to get an appreciation of how much you've done and how much we've seen of it yet. As a follow-up, just quickly on the 787 and the deferred cost there. You hinted at price step-downs at some point, perhaps, eliminating or reducing the deferred cost reduction per unit.

But obviously, we haven't seen that. You had another, I would say, respectable, maybe good is the right word, quarter on that front, again, this quarter.

Is that indicative of performance that's better than you had originally planned? Or we just haven't seen those pricing dynamics influence the P&L yet? How should we think about that?.

Yes, there really is -- we haven't -- we're on plan. I guess, it would be the way I would describe where we are on 787. When we laid the plan forward, when we declared the forward loss, I don't know how many quarters ago that was..

Last quarter, by Q2 -- Q4..

Q4, yes. And so we laid the plan in, and we're executing to that plan. And so I really don't have any additional -- I would say, we're not doing better than or worse than the expectations we laid out in that time frame. And we will continue to drive hard on 87 to try to beat the cost line down below the, obviously, the price step-downs.

But that's our -- that's the challenge in front of us..

Our next question is from Howard Rubel of Jefferies..

Larry, it seems as if you have worked very hard, and Boeing has worked very hard to improve the working relationship between the 2 of you.

Could you talk a little bit about some of the shared initiatives that have led to both of you benefiting?.

Well, I will -- I can certainly tell you that I don't think I've seen really a more important relationship in the industry than the one between these 2 companies, and it's an impressive thing.

As we -- probably the best example I have is that when you look at these decisions to take the rates up, the Boeing folks have been incredibly helpful in bringing in their expertise and the work that they've done in their factory and work that they've done in other parts of the business to bring it in and work with us in trying to optimize both our ability to, well, frankly, reduce the cost of producing these but also -- and that cost being really manifest in 2 categories, reducing the cost of the capital needed, but also reducing the cost of the build itself.

And so that partnership has been, really, I mean, extraordinary in figuring how to do that. It's not just a 37-related phenomena, by the way. I mean, the same dialogue's going on, on 777. And I really shouldn't leave any of the other programs out. I mean, the working relationships that -- the teams work quite well together.

Probably a near-term area that, I think, we've seen a lot of success as well is where we've pushed hard on -- we have a mutual cost reduction plan that we work together with Boeing, and there's been some significant improvements that not only reduce the cost of the aircraft, but actually reduce the wait.

And I probably don't want to get in details, but just say that I think there's some real great success stories there as it relates to our partnership and our working relationship..

And then Sanjay, there are 2 items that kind of will create a little bit of odds and ends. One is I noticed that charge in Other, around $8 million, or thereabouts. And then you talked about some restructuring actions in the fourth quarter.

Can you put some brackets around the latter point and a little description on the first point?.

Sure, sure, Howard. The Other expense, basically, it's foreign currency impacts. We have a small revolver with our Prestwick operations. And as you know, we have to value that market-to-market at the end of the quarter. The dollar has been appreciating. So this quarter, we had a small impact because of that.

Quite frankly, on a year-to-date basis, that's much smaller. So that's what that $8 million or $9 million was.

Your second question, we did announce a voluntary retirement program and obviously, there's a fairly sizable portion of the population that's eligible, but as with most programs like this, we expect a small, modest percentage that will accept. And based on who accepts some time in this month, we will then calculate the cost of that.

But it's very modest. It should be in the single -- low single-digits in terms of EPS. But again, like I've tried to -- this is what we're trying to build an organization here so that all of these kinds of decisions that have long-term benefits may have an impact on the near term.

We want to do and we want to include that in our guidance so that those are decisions we make consciously, and then we are accountable for those decisions and it's all part of the guidance that we give you. So it's a small number, but it's in there and it's in my guidance for the year..

Our next question is from Joe Nadol of JPMorgan..

Very good progress on A350 this quarter. I wanted to ask you if, first of all, that if you think that this is a new baseline and that we won't see any backsliding.

In other words, was there anything that helped this quarter that might hurt in future quarters? And then secondly, if you could maybe bracket for us the amount of travel work in sort of -- negative impact on the results on the A350 that has still has yet to bleed off..

Joe, I'll take that question. So the -- I've tried to explain a pretty complex set of contributors to the deferred inventory. And so the answer to your -- the direct answer to your question is not that I believe there's anything that would take us back the other direction in terms of increasing the amount of deferred inventory per ship set.

I don't see that. I see us actually -- as I told you, there's kind of -- there's been a backlog of work that's discrete that we've been working down.

And so what I would probably say is minus a major discovery, which haven't been forthcoming out of flight test that would drive a significant modification to an aircraft, both aircraft built or weapon flow [ph] or future aircraft. I don't see that kind of thing happening right now.

What I see us doing is working through that backlog and I think I had told you previously. You asked for kind of a skyline on that. I think I said that, that would be complete by the end of fall, beginning of winter, and we're still on that path.

And so my expectation is as we continue to work off these discrete items, next quarter you'll see an improvement once again..

Okay, that's great. Second question is for Sanjay. You've been under-running your plan, I think, a little bit on CapEx, but you mentioned during your prepared remarks that it's going to be lumpy going forward. Obviously, we have the rate news this quarter from -- for Boeing and the 37.

Could you update us on how we should think about the profile of CapEx going forward into next year and the following years, just given the announcements and how you've been running year-to-date?.

Joe, as you can imagine, in any business, there's some amount of core capital that's required just to replenish activity that we have in our factory, and that, of course, continues. And then like you said, the lumpiness will come because of the rate increases that are in front of us.

But as you can imagine, the rate increases, whether they'd be on the Boeing programs or the Airbus programs, the capital on that is driven by the timing of when those rate increases require the facilitization of that work. And by its very nature, therefore, each quarter it can be a little bit lower and a little bit high.

I will tell you one other thing because I do -- I think I've been talking about this for the last 2 or 3 quarters since I got here, that in line with what Larry had laid out, we do make very disciplined decision-making.

And as I do sit and review with the operations and with our P&L leaders the investments that we make in our facilities, both for rate increases as well as to reduce our cost of goods as well as to improve our processes.

And even though you're seeing a slightly lower CapEx so far, I just want to make sure you understand, it's not got anything to do with -- we are not investing in our facility or we are not investing in our business. We are making these decisions based on return on investments and, of course, that will continue.

Going forward, yes, you'll see a little bit of an uptick in capital going forward, some of it in the fourth quarter and some of it next year and so on, but that's all baked into our plan. And that's -- of course, we'll talk about '15, like I said in my prepared remarks, in the first quarter call next year.

But we are investing and we're making some pretty good decisions. And capital just comes in based on when programs require that -- requires them. You will notice we lowered the number for CapEx for 2014 by about $10 million and likewise, we upped our free cash flow guidance by $25 million. So that's what I see [ph]..

Sanjay, are you willing, at this point -- I know you're going to give guidance in January. But are you willing to, at this point, say that CapEx will be -- our prior expectation is that CapEx will be down next year.

Are you willing to say that it will be down or flat or up, just given the things that have changed?.

Yes. Joe, I'd rather wait till January. I'll give you a much better and I'm -- rather than me give you trends here on just CapEx. I think we've always told you that '15 cash flow is better than '14. I'd rather just stay there and we will certainly talk about capital for '15 as we get -- as we talk about all of the components of cash flow for next year..

Our next question is from Cai Von Rumohr of Cowen and Company..

Could you update us on where you ended the quarter on deferred production credits on the balance sheet? And maybe give us some color on how the Gulfstream programs, each of those did in the quarter in terms of deferred production costs..

All right. Cai, thank you. I -- on the deferred production credits on some of our mature programs, again, let's just make sure everybody understands our process at the end of each quarter.

And particularly, and I think I may have even mentioned this in the prior call, where we changed our processes a little bit to do more sort of bottoms-up, comprehensive EAC reviews, 2 quarters in Q2, Q4, and we kind of do a scrub in the others. The deferred inventory balances on our mature programs didn't really change.

We assess that based on risk, and we assess that based on where we are in the current block. So there was a negative deferred inventory number, and that really hasn't changed. That's -- the deferred inventory on 350 and 787 I talked about.

So now in the second question in terms of how did we do on the 650 and the 280, I will tell you, we are tracking well on plan on those, very similar to what we talked about in the third quarter. Our deliveries are on track. The teams are very focused on making sure we are -- there are improvements in our cost, in our deliveries and our quality.

And we continue to make good progress like we did the last quarter. We continue that progress in Q4 as well -- I'm sorry, in Q3 as well..

And then the second one, your accounts receivables spiked up in the third quarter.

Explain that, and where should they be going, going forward?.

Cai, that's good. Listen, accounts receivable is a timing issue. I mean, if you look at our -- I mean, look at our working capital, Cai, and I was looking at it earlier as well. I mean, look at our physical inventory. It's pretty flat. We've done a good job there. Receivables are up, payables are up and again, you see our business has been growing a lot.

Just the quarter-over-quarter was a 13% increase in our revenue. For the full year, it's higher than that. And as you can imagine, working capital does change a bit. Our DSO, returns really haven't deteriorated. Some of the receivable increase is purely timing at this stage. So there's nothing more than that in that number..

Our next question is from Doug Harned of Sanford Bernstein..

I wanted to get back to the 787 for a minute. It looks like you've -- for the year, you've delivered 90 so far through the third quarter. So it looks very much on plan. Can you comment on how the 787-9 is impacting you. And Boeing specifically talked about pulling forward inventory in the last couple of quarters.

Is that a strategy that has affected you in any way?.

Well, we -- yes, I'll take that, Doug. We saw some of this impact actually last year, where -- when we were building -8s and -9s simultaneously. And it did create both a labor disruption as well as some inventory impacts because the -- it's not -- the configurations are a little bit different.

And our piece of the airplane that's -- it's only represents a fraction of what Boeing would be dealing with in the larger context. But yes, there was some impact affiliated with that, and most of that all absorbed last year. This year, the bigger challenge wasn't the -9 -- -8, -9. It was more around the rate transition.

And it was -- I know it sounds like we went from, say, the 8 to 10 or 7 to 10, but the truth is when we were doing the mix of the 9s and 8s and there was a little bit of slowdown in the plan, it really was quite a big step for us, and so we're really pleased we're able to absorb all that this year and be able to track to our plan.

But it was pretty challenging early in the year, and we're tracking right along. So we're pretty pleased..

So the -9, it sounds like that is smooth at this stage..

Yes. It's not -- yes, it's pretty smooth at this stage.

I don't know, Sanjay, you want to add anything? Did I miss anything?.

No. Doug, I mean, again, the quantity is small at this stage. We are early in the -9 and like Larry talked about, we saw a big increase both in terms of physical inventories associated with the switches as well as the natural inefficiencies that you have when you have a sort of model mix change online.

But for us, no -- our teams have been quite focused and have worked that thing very well..

Yes. I think one thing I should point out is, obviously, we tend to lead..

Yes, we do that..

We tend to lead Boeing. So something that might have hit us in '13 might not be an impact to Boeing until '14, Doug..

So -- but you said the rate increase was more of a challenge. And just going back to the previous question about investment in the future.

When you look at the rate increase ahead of you to 12 and the 14 and the 87 and then to 47 and 52 on the 37, is there one of those or another one that looks particularly challenging to you? Or are they all pretty routine?.

No, I will tell you that I think the bigger one was really getting to 10. And I think that we -- I'd tell you, we're pretty tight in terms of working the details of all of this. So I'd just say, we're in the process of working the details on increases to 47 and 52.

Those are, obviously, the larger in magnitude in terms of its facilitization, and we're working hard to make that happen. But that's kind of a conversation that's an ongoing conversation between us and our customers..

Our next question is from Sam Pearlstein of Wells Fargo..

Larry, can you talk a little bit about your thoughts in terms of what you do with the cash that you've been generating? I mean, every quarter this year, you've certainly been increasing then. I know you bought some of the stock when Onyx sold some.

But can you just talk about as this cash improves, and it seems like it's going to continue, how you balance that and think about returning that to shareholders?.

share repurchases, dividends, obviously, I -- and I've been saying this for a couple of quarters, is investments, and Sanjay was just talking about capital as it relates to these 2 big rate increases.

They -- capital investments -- investments, capital investments that are just reducing cost of goods sold, that will be -- we will -- we are thinking very hard about the -- where we would make investments to improve our overall or reduce our overall cost in goods sold over the long haul. And -- so those are the areas and then growth.

I mean, we're going to do -- and we're going to do all of these things. And there's always a lot of emphasis on share repurchases. And share repurchases will become part of our nominal go-forward, as will all the other things that I just talked about. And finding the balance of what those things are is exactly what we're doing right now.

The growth type side tends to be opportunistic, and so we'll be agile as it relates to -- as we look out and see what opportunities we have. But we're going to -- the company needs to grow, and we're going to grow.

And we're going to continue to refine our thoughts around that, but there's a lot of time and energy going into exactly how we go forward with this and we'll disclose more of that as we kind of move into future quarters..

And then, Sanjay, can I just ask, the deferred tax valuation allowance. You had mentioned complying with whatever the rules are.

Is there a point where that could all go away? Or do you see this kind of coming back every quarter? And would it continue into 2015 as well?.

That's a great question and tongue in cheek a little bit. I never dreamt of being -- becoming a tax expert on particularly the deferred tax asset valuation allowances.

But here, the accounting principles and the way you compute this depend on trying to calculate sort of your last 3-year cumulative losses compared to -- and then, of course, your last 1-year cumulative losses. And then you compare that to going forward, what kind of projections we have. And each one of these categories has a different weightage.

Obviously, the losses for the near-term have more weightage than your projections do and so on. So we go through this calculation pretty much every quarter. And depending on our performance, then we release the valuation allowance.

And that, understand, quite frankly, that is one of the reasons why when I started this year, I wanted to keep it out of my guidance because it's difficult to predict. What do I see going forward? Depends on our performance, clearly.

Can I see a scenario where, at some stage, based on the calculations that I mentioned, we get to a sort of a binary event that says, "Okay, take it all to the bottom line." I could see one, but not for the near term. And again, this is something that we will see towards the end of this year. And probably in Q1 of next year, I'll talk about it..

Our next question is from Jason Gursky of Citi..

Sanjay, just a quick clarification.

Can you tell us which line number you're working on today on the 787? And remind us of when those price breaks to Boeing kick in? Is it lines 300 and 400, respectively?.

Jason, I'm not sure we've given out details, specifically on line units, where we have price step-downs. Other than to tell you guys that there are price step-downs in the contract, we haven't given specifics on that. In terms of specifics, again, we delivered 26 in the quarter.

I think -- I'm trying to do the math in my head very quickly here, Jason, as to what that number would be in terms of line unit delivery. I think at the end of last year, we were at 217, if I recall, but I don't have that at the top of my -- I don't have that at the top -- it's probably somewhere around 275, 280, something like that, Jason.

That's where we are today. And -- but in terms of step-downs, we haven't -- that's not something that we have given out in the past, I don't believe..

Okay, fair enough. And then, Larry, can you just give us an update on the opportunity set in expanding the work that you do into the defense world? I think you've mentioned in passing, in the past, there are some opportunities that your capabilities line up well with the potentially some of the needs of the prime contractors.

Can you just -- can you give us an update on where you think we are and whether we're going to convert any of these opportunities into revenues over the next couple of years?.

It's a -- I wish I could. I mean, I could say that, in general -- I'm going to talk in general terms here for a moment and just say that, in general, what I would say is there's 2 categories of defense acquisitions.

They really break into 2 groups, that is modernizing current products so that they apply to kind of -- you lengthen the life of the product by injecting technology into that product. That's really what a CH-53K is. I mean, if you go back and look at the CH-53, I mean, I believe its origins are 1957, something like that.

And so in an aircraft, it's a really long time. I'm very familiar with this because I, as you know, I used to run the C-130 program. It used to be one of my programs. And so the C-130J, obviously, was a similar kind of technology injection for an aircraft that's been around since the late '50s. So there is really that kind of thing going on.

The other side would be kind of, obviously, a middle ground would be the tanker, where Boeing, very smartly offered up a solution that leveraged an existing production line to introduce a product or the P-8, for that matter, again another plan of similar idea. And by the way, the P-8 was here last week and what a spectacular aircraft that is.

And/or then kind of the other end of the book end is the V-280, which is looking at -- it's a whole new product with a new niche.

So if you look at defense spending and defense acquisitions, and you say, "Okay, where are the opportunities to where a new product's being introduced or there's an opportunity to modify an existing product?" That's where our opportunities lie. We're not going to be the prime.

We don't have an aspiration to be a prime in the defense business or, for that matter, in our other businesses. We're going to stick to our knitting and -- but we think we're the ideal partner.

And so if you're out developing a new product and it's a new acquisition that fits -- kind of fits in our niche, we're the -- we think we'd be the partner of choice.

A natural, kind of one that sometimes we chat about here often is something like a UAV, something like this, where people are trying to take a technology that's been around, introduce advanced capability and reduce cost simultaneously. It's, again, one of those kinds of ideas that we think we would make a great partner to somebody.

But again, that's the best I can do in terms of kind of giving you a sense of where we think we play..

And Jason, if I can. Just to correct, we have, at the end of the third quarter, delivered 254 ship sets on the 787..

Our next question is from Robert Spingarn of Crédit Suisse..

Larry, low-hanging fruit came up before, and Sanjay talked about the deferred credits and just the strength of the mature programs. And you look over the last few quarters, you've had those contribute EACs more favorable cume catches of -- in the mid-teens each quarter. This quarter, the $16 million and similar type numbers last couple of quarters.

Now I know that's a mix of 73 and 777, I guess, but how do we think about that going forward? Is this a recurring opportunity? Or do you get to the point where you've really matured the line so much where the price step-downs come in from whatever types of agreements you have with Boeing.

How do we think about that on a forward basis?.

Well, you -- I think you said it pretty well, actually. Our plan, of course, is to -- so there's always -- you set your -- it really was a year ago today, I mean, or in this time frame, where we're sitting down trying to figure out what we think project for '14.

So in '13, you -- if you recall, it was still a bit volatile situation in terms of making predictions and we did a reasonable job. But obviously, in '15, we'll have a much more refined view of what the benefits were of the efforts we made.

Now what are some examples of that? I mean, when you look inside and how we manage, let's just take productivity, for example. I mean, we've had good productivity enhancements based on a number of initiatives we have underway that were difficult to predict what the value of those things were when we laid in 2014 projections.

But I think we have a much better sense of that now. So when you get our 2015 guidance and when you see our quarter-to-quarter performance in '15, you should see probably fewer of these. It will be in the EACs that kind of get locked down and in our guidance that kind of lays -- it gets laid in for '15..

Okay, that will certainly make it a little bit easier. I'm going to try with a high-level question for Sanjay. Your cash flow conversion, depending on how you want to look at it and there's some but, I guess, anomaly -- anomalies in here.

We've got the extra -- the advanced deferral from Boeing, but you're in that 40% free cash flow conversion neighborhood, let's call it. What kind of time frame? Or how do we think about the point at which you can convert closer to net income? I mean, I don't know, Sanjay, if that's for you or for Larry. But when we think longer-term....

Let me try, Robert, because this has been -- and either of us can answer. But I'm going to -- I think I've been pretty -- this has been really the predominant area of focus for us.

So it is the question on the table for us is at what point do we reach our destination? And what is our destination? Now I think you've probably figured that I'm generally a dissatisfied CEO.

So there is -- when we look at our peers, it's pretty easy to see -- you can kind of calculate what you think a lot of our peers do as it relates to their ability to convert revenue to cash and what that percentage looks like. And we certainly have studied that. We've studied our own business.

And so when we look at that, we kind of say, "Okay, how does that look like to us?" And the interesting thing is that you could lay in what you think is the time that you're going to reach that destination, which we did, and I kind of told you I thought this was a 3-year plan.

And then all of a sudden, other things happen, rate increases, other kinds of things that are good news. Frankly, it's not bad news. But then it kind of creates an impact to your overall free cash flow. So then you say, "Okay. Well, then I'm going to pay that bill." And then there are other things that you may do in terms of your financials.

So I don't know, I keep saying to the folks, "Hey, look, I think -- we have a projection of where we're going to be year by year in that conversion in terms of improving." But I sure hate to say we ever make the destination. I'm going to keep probably raising the bar a little bit, so there's always an expectation to do better.

And with the realization that in any given year, right, in any given year, there may be more investment made. And I think we're probably, to your -- back to your -- you have it dead-on right. We're at 4% right now. And clearly, we want to do better than that.

Our peers are doing better than that, our customers are doing better than that and we want to be there. But I don't want to kind of get in to a -- certainly, I don't want to get into a quarter-by-quarter conversation. Even a year-to-year conversation's a little tough, given the dynamics in the industry.

And the dynamics, by the way, are -- isn't necessarily a bad thing. I mean, the thing we love about the business is its long cycle. Sometimes the thing we hate about the business is it's capital intense [ph]..

Larry, just on that basis, though, without asking you to pinpoint it, though, given what you've got on your plate at this point, what you know about rates and so on, is there a particular moment in time where you see a real inflection?.

No, not big. But some years are more challenging than others, given just kind of the dynamics of -- I mean, again, there's a lot of moving parts. There's advance repayments, there's capital investments, there's just -- it's -- there's a lot of things.

And then you want to be agile as it relates to, frankly, a desire regarding, who knows, you may want to make an investment. And so no, there isn't any, I'll say, significant inflection. We're on the journey.

It's just that the question is, is it a -- what year do you arrive? Or if -- or is that even a reasonable idea to say that you've ever arrived?.

Right. I guess, it'd be easier for you to answer this if you weren't growing and you weren't adding new work and with the rate increases, so that is good news and it makes it a little harder to do..

Yes. Yes, that's a very good way to look at it. I appreciate that summary..

Our next question is from George Shapiro of Shapiro Research LLC..

I wanted to pursue, on the Gulfstream programs, Larry, it seems like based on what you're saying that the deferred, which went up like $30 million in the last quarter, was probably up at least that much, maybe a little bit more. So, I mean, I guess, it could be due to higher deliveries of those planes.

But that's the one thing that I want to pursue from the standpoint of when that deferred starts to come down, and then also get into where that may stand in terms of the potential sale.

Also the arbitration that is supposed to start in Q1 '15 with Gulfstream, is that still going on? And last, in response to an earlier question about receivables, did the receivables increase in the quarter have anything to do with Gulfstream receivables going up more?.

Wow. Let me see. I didn't write all that down, so I'm going to do the best job I can as we approach the end of the hour here, George. So as it relates to the wings, I mean, the good news, and then Sanjay said this, is that we're on contract schedule.

We had -- if you recall, we had some really significant material issues that popped up at the end of '13 that really, frankly, created some challenges for us, but -- so we were marching along, but we're -- we've -- I mean, we have just seen great progress, but we've been running high.

And we've been running high, frankly, to get ahead of schedule, which is kind of where we are today, 280, we're doing, actually we're probably -- I think we're a little ahead of schedule on 280. Now we've had a lot of deliveries, back to your point, as it relates to inventory on the 650. But we're satisfied.

This has been an area, where it's -- we've applied a lot of resources, a lot of focus. So our best folks and we're very pleased. Now just today [ph]. Thanks. Sale update, okay. On the sale update, all I can say is I think you've got some color on this yesterday. George, if you were on the TGI call.

And I would say the process is moving along smartly and I'll leave it at that. And Sanjay, I'm going to throw receivables to you..

So George, no. The quick answer is, on the receivables, no. There's no material impact change in receivables quarter-over-quarter because of Gulfstream. Again, like we said, we were -- we delivered to our plans and the better you get at that, then you get paid accordingly. So there is no change or impact because of Gulfstream on that number..

The arbitration that starts -- supposed to start in....

Yes, George, the arbitration is ongoing. I mean, its -- the process is ongoing..

Our last question will be from Ken Herbert of Canaccord Genuity..

I just wanted to see, Larry and Sanjay, just one follow-up. On the fourth quarter, you've got, the -- I think you said sort of low to mid-single-digit EPS impact from the potential early retirement plan. You've got, give or take, 10% or 11% fewer working days.

Is there anything else that the guidance implies in the fourth quarter? Anything else we should be thinking about specific to that?.

No, Ken. No, I -- that's why I kind of highlighted those 2. I mean, again, they are small, but they're meaningful. And I just wanted to make sure -- listen, I -- all throughout the year, we've tried to give you our best updates on our forecast and again, like you see, I can -- I've tightened my guidance for the year.

I just want to make sure that as some of you try and do run rates, et cetera, that you at least incorporate the impact of the lower working days and the very modest amount on the ERP [ph] program. But no, nothing outside of that..

I'll now turn the call over to our President and Chief Executive Officer, Larry Lawson, for some closing comments..

Well, thanks to everyone for participating in the call and the questions, they were very good. I'll just close with a few comments here. I usually say this.

I don't know if it is worth saying, but we really do believe in our value proposition and we continue to refine and improve on it, we believe we're an affordable and reliable partner in the design and manufacture of aero systems. And I think we're in a good position, unique position in the industry. We also believe in the market that we're in.

We believe that the fundamentals driving air travel and aircraft replacement are lasting. The aircraft, the demand for aircraft is -- it's a global demand. And today, when you look at where the demand's coming from, it's not coming from one market.

It's coming from multiple markets, and it's an important perspective to take when you're thinking about the cycle. Correspondingly, I know that the price of fuel is down, but airplane -- airline planners around the world have to consider current, as well as future expectations as it relates to fuel prices.

And frankly, even today, these aircraft are attractive in terms of their contribution to the airlines. So in conclusion, 2014 looks to be a good year. We continue to drive performance and cost and remain agile as it relates to the deployment of capital.

We'll always have in mind, acting in a way that brings best value to our shareholders and to our employees. And just say thank you and I look forward to speaking to you again next quarter..

Thank you. And thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect..