Huntington Ingalls Industries - Earnings Call - Q1 2025

Executive Summary

• Q1 2025 revenue was $2.734B (-2.5% YoY; -9.0% QoQ), while diluted EPS was $3.79 (+20% QoQ; -2% YoY). Backlog ended at $48.0B with $2.1B in new awards. EPS beat Street, revenue was slightly below [Q1 2025 consensus EPS $2.88*, revenue $2.786B* vs actual $3.79 and $2.734B].
• Segment performance mixed: Newport News Shipbuilding (NNS) margin improved on contract incentives; Mission Technologies expanded margin; Ingalls margin stepped down on amphib program performance.
• Free cash flow was -$462M on timing of incentives and working capital (in line with quarterly guide), dividend paid was $1.35/share; cash balance $167M; liquidity ~$1.5B; a $500M note was repaid post-quarter.
• Guidance reaffirmed: FY25 shipbuilding revenue $8.9–$9.1B; shipbuilding operating margin 5.5–6.5%; Mission Technologies revenue $2.9–$3.1B, margin 4.0–4.5%; FY25 FCF $300–$500M. Q2 FCF $200–$300M; shipbuilding margins guided near low end.
• Catalysts: cost-type 2-boat Block V award (supports workforce and parts availability), outsourcing ramp, HD Hyundai MOU, and uncrewed/laser wins in Mission Technologies.

What Went Well and What Went Wrong

• What Went Well

  • NNS margin improved to 6.1% on Virginia-class incentives and Columbia volume; consolidated operating margin rose to 5.9% (+40 bps YoY).
  • Mission Technologies margin expanded to 5.4% (from 3.7% YoY) with strong performance in cyber, EW & space and uncrewed systems.
  • Strategic momentum: signed MOU with HD Hyundai to accelerate ship production; delivered first Lionfish UUVs; selected to develop high-energy laser counter-UAS prototype.
  • Management quote: “We intend to reach our goal of $250 million in annualized cost reduction by year's end”.

• What Went Wrong

  • Revenue declined across all segments (NNS, Ingalls, Mission Tech) on lower volumes, and consolidated revenue fell 2.5% YoY.
  • Free cash flow was -$462M (low end of planned range) due to timing of incentives and program receipts/disbursements; cash from operations was -$395M.
  • CVN 80 progress impacted by late major equipment deliveries; Ingalls amphib programs pressured margins; Q2 shipbuilding margins guided near low end (conservatism).
  • Analyst concerns about Ingalls margin trajectory and positive EACs; management acknowledged neutral EACs (80 up/80 down net zero) and experience/parts drag post-COVID.

Transcript

Operator (participant)

Ladies and gentlemen, thank you for standing by, and welcome to the first quarter 2025 HII Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, please press star followed by one on your telephone keypad. If you change your mind, please press star followed by two. Please be advised that today's conference is being recorded. If you need further assistance, then please press star followed by zero. I would now like to hand the call over to Christie Thomas, Vice President of Investor Relations. Mrs. Thomas, you may begin.

Christie Thomas (VP of Investor Relations)

Thank you, Operator, and good morning, everyone. Welcome to the HII first quarter 2025 conference call. Matters discussed on today's call that constitute forward-looking statements, including our estimates regarding the company's outlook, involve risks and uncertainties, and reflect the company's judgment based on information available at the time of this call. These risks and uncertainties may cause our actual results to differ materially. Additional information regarding these factors is contained in today's press release and the company's SEC filings. We will also refer to certain non-GAAP financial measures. For additional disclosures about these non-GAAP measures, including reconciliations to comparable GAAP measures, please see the slides that accompany this webcast, which are available on the investor relations page of our website at ir.hii.com. On the call today are Chris Kastner, President and Chief Executive Officer, and Tom Stiehle, Executive Vice President and Chief Financial Officer.

I will now turn the call over to Christopher.

Christopher Kastner (President and CEO)

Thanks, Christie. Good morning, everyone, and thank you for joining the call. I'll start by providing an update on our 2025 operational initiatives, which include enhancing shipbuilding throughput, reducing costs, and securing new contract awards. In the first quarter, we made progress against our goal of improving shipbuilding throughput by 20% year over year. Ingalls is largely on plan, and their production milestones remain unchanged. Newport News is modestly behind plan. Half of this variance is driven by the atypical weather we experienced in January and February. The most significant variance in Newport News resides with CVN 80. This is directly related to the late major equipment that is to be installed in the hull of the ship. These delays directly impact the construction approach and have limited the progress we can make on the ship.

Once this equipment is received from our suppliers, which is scheduled throughout the summer, we anticipate an acceleration of progress. Additionally, for both shipyards, our outsourcing efforts continue, and we expect this to ramp throughout the year to support our throughput goals. Our South Carolina production facility is online and has already completed the first carrier unit for Newport News. The team remains focused on meeting our delivery schedules and is working with the Navy to identify additional initiatives that will accelerate scheduled performance. Turning to our cost reduction efforts, plans are in place, and we intend to reach our goal of $250 million in annualized cost reduction by year's end. We have an agreement on the Block 5 FY24 two-boat contract and will now turn our focus to the Block 6 and Columbia Build 2 contracts.

Also, I want to highlight how our strategic focus in 2025 aligns nicely with the administration's defense priorities. On April 9, the Trump administration released two executive orders: modernizing defense acquisitions and spurring innovation in the defense industrial base and restoring America's maritime dominance. We are working with our customers on strengthening the industrial base and accelerating the transition of new capabilities to the warfighter. We are leaning into the use of other transaction authorities and are working with the Rapid Capabilities Office as a means to leverage new technologies. For example, in April, we delivered the first two Lionfish, small uncrewed undersea vehicles, to the U.S. Navy under a program that could scale to 200 vehicles. The program was developed in partnership with the U.S. Navy and Defense Innovation Unit to accelerate adoption of dual-use commercial technologies into U.S. Department of Defense programs.

This quarter, we also announced that our Mission Technologies Division was selected to develop an open architecture high-energy laser counter drone system for the U.S. Army's Rapid Capabilities and Critical Technologies Office. HII will develop and test a high-energy laser prototype to acquire, track, and destroy small to medium-sized unmanned aircraft systems. On the shipbuilding side of the business, we established an MOU with HD Hyundai Heavy Industries. The MOU provides a framework for us to jointly explore opportunities to collaborate on accelerating ship production in support of defense and commercial shipbuilding projects. Like our existing strategic relationship with U.K.-based Babcock International, we believe international partnerships are crucial to strengthening the allied industrial base. Given our core business, these strategic relationships position us to support initiatives that may result from the maritime executive order. Turning to the results, first quarter revenue was $2.7 billion and earnings per share was $3.79.

We ended the first quarter with backlog of $48 billion, of which approximately $28 billion is currently funded. Now, let me share a few first quarter highlights. During the quarter, at Ingalls Shipbuilding, we launched DDG 129, Jeremiah Denton, christened LPD 30, Harrisburg, and started fabrication of LPD 32, Philadelphia. At Newport News, CVN 79 Kennedy continued catapult testing and achieved 95% of compartments turned over to the Navy. On the Virginia-class program, we completed a major test event on the first boat of Block 5, SSN 802, Oklahoma. Also, at our recently acquired Newport News Charleston Operations, we retained 99% of the transitioning workforce, and these new shipbuilding team members are working on submarine and carrier units to help increase throughput at Newport News. We also celebrated the graduation of 115 apprentices during the apprentice school graduations at both shipyards.

These graduates started the apprentice program during COVID, and we look forward to higher numbers of graduates in upcoming years following the expanded enrollment we have recently experienced. Turning to Mission Technologies, in addition to delivering the initial Lionfish small UUVs I mentioned earlier, we surpassed 700 REMUS uncrewed underwater vehicles sold and delivered to 30 countries. Key wins at Mission Technologies in the quarter, in addition to the high-energy laser weapon system, included a contract to expand shipboard and shore-based training support for the U.S. Navy and Coalition forces, a pilot training contract to support the nation's combat-ready force, an award from the U.S. Air Force to protect systems and software, and a task order to support global air and space operations.

Turning to activities in Washington for a moment, while a full year continuing resolution for defense is unprecedented, we are pleased with the support provided for our shipbuilding programs, which supports our target of achieving more than $50 billion in new awards across 2025 and 2026. The full year Continuing Appropriations and Extensions Act 2025 included funding for three Arleigh Burke-class surface combatants, one Virginia-class submarine, one San Antonio-class amphibious ship, and the RCOH for CVN 75. I'll note that we do not expect a material impact related to tariffs. We purchased the vast majority of our material domestically. We have long-term purchase agreements in place for material that may be impacted by tariffs. In summary, I'm encouraged by the results to date and the progress our team has made against the operational initiatives we've laid out.

I also know there is significant work to be done as we continue to execute for our customers and create value for our shareholders. Our outlook is unchanged, and over the next few years, as we execute on the pre-COVID contracts and transition into the post-COVID contracts, we will continue to reduce risk and align our portfolio baselines with the current environment. I fully expect top-line growth with a forecast of $15 billion of revenue by 2030, as well as margin of free cash flow normalization in the years ahead. Now I'll turn the call over to Tom for some remarks on our financial performance. Tom?

Thomas Stiehle (EVP and CFO)

Thanks, Christopher, and good morning. Let me start by briefly discussing our first quarter results, and then I will address our reaffirmed outlook for the year. For more detail, please refer to the earnings release issued this morning and posted to our website. Beginning with our consolidated results on slide five of the presentation, our first quarter revenues of approximately $2.7 billion decreased 2.5% compared to the same period last year. This decreased revenue was attributable to declines at Newport News Shipbuilding, Ingalls Shipbuilding, and Mission Technologies. Ingalls revenues of $637 million decreased by 2.7% compared to the first quarter of 2024, driven primarily by lower volume on amphibious assault ships. Newport News revenues of $1.4 billion decreased by 2.6% compared to the first quarter of 2024, driven primarily by lower volumes in aircraft carriers and naval nuclear support services, partially offset by higher volumes in the Columbia-class submarine program.

Mission Technologies revenues of $735 million decreased by 2% compared to the first quarter of 2024, driven primarily by lower volume in C5ISR. Results for the quarter exceeded our guidance. The year-over-year decline was expected and related to non-recurring sales in the first quarter of 2024. Moving on to slide six, segment operating income of $171 million in the first quarter of 2025 increased less than 1% compared to the first quarter of 2024, driven by improved performance at Mission Technologies in cyber, electronic warfare, and space, and uncrewed systems, which was largely offset by lower amphibious assault ship risk retirements at Ingalls. At Newport News, segment operating income improved by $3 million, or 3.7% compared to the first quarter of 2024.

Results in the quarter included unfavorable performance-related adjustments for CVN 80 Enterprise, as well as Block 4 and Block 5 of the Virginia-class program, which were offset by contract incentives. Consolidated operating income for the quarter of $161 million increased by $7 million, or 4.5% from the first quarter of 2024, an operating margin of 5.9% in the quarter compared to 5.5% in the same period last year. The improvement was driven by a more favorable operating FAS/CAS adjustment, as well as the favorable segments results I've noted. Net earnings in the quarter were $149 million compared to $153 million in the first quarter of 2024. Diluted earnings per share in the quarter were $3.79 compared to $3.87 in the same period last year. Our contractual commitments increased by approximately $2.1 billion in the period, bringing backlog to $48 billion at the end of the quarter.

Turning to slide seven, cash used in operations was $395 million in the quarter. Net capital expenditures were $67 million, or 2.5% of revenues. Free cash flow in the quarter was negative $462 million. This was within our free cash flow guidance range for the quarter, though at the low end of the range due to timing of incentives and normal fluctuations in program receipts and disbursements. During the quarter, we did not repurchase any shares. We did pay a cash dividend of $1.35 per share, or $53 million in aggregate. Turning to liquidity and the balance sheet, we ended the quarter with a cash balance of $167 million and liquidity of approximately $1.5 billion. Today, we are repaying a $500 million note and plan to utilize a revolving credit facility and commercial paper program to support interim liquidity as free cash flow generation ramps through the year.

This is in line with our prior expectations and was contemplated in the interest expense guidance that we had previously provided, and I'm reiterating today. Our capital allocation priorities are unchanged. We value our investment-grade credit rating. We will continue to strategically invest in our shipyards, thoughtfully grow our dividend, and return excess cash through share repurchases. Moving on to our outlook on slide eight, we are reiterating all elements of the 2025 guidance, and there's no change to our medium to long-term thinking in terms of growth and profitability expectations. Our guidance is predicated on achieving the operational initiatives we have laid out for 2025. As Chris noted, we are progressing on each of these items, and we expect to achieve a meaningful improvement in throughput over the course of the year.

For shipbuilding, we expect second quarter sales of approximately $2.2 billion and margins near the low end of our annual guidance range. For Mission Technologies, we expect second quarter sales that are relatively flat sequentially and margins of 3%-3.5%. We expect second quarter free cash flow to be between $200 million and $300 million. To close, I will echo Christopher's positive sentiment regarding the company's mid to long-term outlook. We see incredible demand for critical products and services that we provide and are heartened by the administration's clear focus on growing our domestic shipbuilding capability and supporting a strong maritime industrial base. With that, I'll turn the call back over to Christie to manage the Q&A.

Christie Thomas (VP of Investor Relations)

Thanks, Tom. As a reminder to everyone on the call, please limit yourself to one initial question and one follow-up so we can get as many people through the queue as possible. Operator, I will turn it over to you to manage the Q&A.

Operator (participant)

Thank you very much, Christie. If you would like to ask a question, please press star followed by one on your telephone keypad now. Please ensure your device is unmuted locally. If you change your mind or your question has already been answered, please press star followed by two. Our first question comes from Douglas Harned with Bernstein. Douglas, your line is now open. Please go ahead.

Douglas Harned (Managing Director)

Good morning. Thank you.

Christopher Kastner (President and CEO)

Good morning, Douglas.

Douglas Harned (Managing Director)

Yeah. We've seen now with the CR, with additional money for shipbuilding infrastructure, and then this big authorization proposal that came up on the weekend. Now, when you look at all of this, there should be more money there. The thing that I've sort of struggled with here is how to take that money and convert it into a plan that can address what you say on the Virginia-class, you, Electric Boat, and the whole infrastructure needs to happen to really get throughput up. Can you comment on where the responsibilities lie, what the Navy is actually doing so that we can have confidence that not just the money is there, but the real actions are there to change the way things have been going over the last few years?

Christopher Kastner (President and CEO)

Sure, Doug. Let me give that a shot. That's a big question. It's not only the budget, the FY24 two-boat, the executive orders related to commercial shipbuilding, and then reconciliation. There's just a lot of tailwinds right now related to shipbuilding that we need to participate in. The first step in seeing what the investments are in that regard is this FY24 two-boat contract. That was a product of really a couple of years of effort by the Navy and the shipbuilders to evaluate the investments that were required to get at accelerating throughput. You see that in the award of that contract. It was very thoughtfully put together. It's wage support and workforce development support. It's very targeted investments to increase the submarine build rate. That's all very positive.

When you look at the SIB and the MIB funding that have been applied to the supplier base, that's also very positive. You see a build-up of the infrastructure in shipbuilding that will support the growth that we think is ahead of us. It's really, I would think, an industry-wide, all-hands-on-deck effort to identify a build-out of that industrial base. It's not easy. It takes time. These are heavy manufacturing facilities and equipment. This is building a workforce in a challenging environment. I think it's only positive for HII and positive for shipbuilding.

Douglas Harned (Managing Director)

I guess the challenge here is that there's been a lot of discussion about this over the last few years. Just are there some specific things, like if you start to look at what you need to get to that rate of two Virginia-class per year, what's the trajectory for this? Are there specific things that will enable you and your partner to get there?

Christopher Kastner (President and CEO)

Absolutely. Really, the first step of that is this FY24 two-boat contract, targeted investments in workforce, equipment, facilities, training that will accelerate the throughput. We have a lot of confidence that when these investments take hold, it's going to start to ramp throughput for the submarine program. This shouldn't end here. We're going to negotiate Block 6 of the Columbia Build 2 contracts. We've identified additional investments that could potentially be applied to further accelerate. It's going to, as I said before, take a while. You just don't build a building overnight. You don't build a workforce overnight. I absolutely think that these are the right investments to get at the build rate.

Douglas Harned (Managing Director)

Okay. Very good. Thank you.

Christopher Kastner (President and CEO)

Thank you.

Operator (participant)

Our next question comes from David Strauss with Barclays. David, your line is now open. Please go ahead.

David Strauss (Managing Director)

Hi. Good morning.

Christopher Kastner (President and CEO)

Morning.

David Strauss (Managing Director)

Christopher, following up on the CR money, the 24-2 contract that was announced yesterday, it looks like it's some form of cost contract. How is that? I thought we were operating under a fixed price on Virginia class. So how is that potentially different? What does that contract contemplate differently, I guess, than prior contract?

Christopher Kastner (President and CEO)

Yeah. It's a bit of a hybrid, but I'll kick it over to Tom. He can answer that.

Thomas Stiehle (EVP and CFO)

Yeah. So it's a cost-type contract. It covers both parties, the Navy and ourselves, concerns as far as what wants to be put on contract. It's a good mix and blend between affordability and profitability. It covers the business environment that we find ourselves operating in. It's a CPIF, and it has some constraints as far as some parameters around the outskirts of where costs can land. We're happy that we were able to get that done. We've worked hard with the Navy, and it was approved through the government channels. As you saw, it was awarded last night. We're excited about that to get going on that contract.

David Strauss (Managing Director)

Okay. Any more detail on, obviously, the shipbuilding margins in total came through better than what you had guided to. Newport News got a fair amount better. Ingalls kind of continued to step back. Can you give a little bit more detail on exactly what's going on and why you're forecasting kind of a margin step down again in Q2? If you also want to talk about what EACs were in the quarter. Thanks.

Thomas Stiehle (EVP and CFO)

Yeah. Sure. We guided 5-5 for the quarter, so we're happy with where we landed. We landed about 90 basis points above that. Ingalls came in at 7-2, and it was a pacing quarter for them. I guess I can start with the EAC adjustments. We had 80 up and 80 down for a net of zero. There is no break at that for you. There were no cumulative adjustments across the company as a net. Ingalls' pacing quarter, I would say, right now, we're watching how Amphibs are performing. We saw a little pressure on the sales front. They're just kind of working ourselves through the heart of those programs down there. From a Newport News perspective, it was a good quarter as they came in at 6.1% on the margin side.

It was a mix of some pressures that we've seen on CVN 80 that Chris talked about in his remarks. As we're waiting for parts to pop in there, it's just having a little bit of a draw on the EAC and schedule on that front. The VCS program as we're working people and parts to make sure we have enough people, talented people. The wage element of this recent award will help that. On the parts side, just making sure we can feed that production line as that production line ramps up and wants to get to the 1 plus 2 that we've talked about earlier here. The new award assisted with that with some incentives that helped to offset that. As I said, overall, it was net neutral for EAC cum adjustments across the corporation.

Christopher Kastner (President and CEO)

Yeah. David, this is Chris. I think you're seeing a bit of frustration regarding the timing of incentives kind of across the portfolio. I've spoken previously that we just have more incentives on our contracts now, and the timing is variable at some point. We try to guide based on what we see in front of us. If incentives fall before or after, then it adjusts that a bit. We're comfortable with our guidance.

Thomas Stiehle (EVP and CFO)

From an MT perspective, we saw that they had a very strong quarter. The CEW business unit performed well against the contracts they had. The uncrewed business unit that we have there is performing well right now. There is a couple of dollars of margin created on that front. The guide for Q2 that you asked about, I think we are just being conservative right now. As Chris said, there is a lot of work to do. Although we are on pace and where we want to be on cost reductions and throughput and the contract awards, we have got the first increment of this one here in the spring. We have VCS Block 6 and Columbia Build 2 at the back half of the year. I think it is just conservatism and prudence on our side that we went back to the lower end of the range. All right.

David Strauss (Managing Director)

Thanks very much.

Christopher Kastner (President and CEO)

Thanks.

Operator (participant)

Our next question comes from Scott Mikus with Melius Research. Scott, your line is now open. Please go ahead.

Scott Mikus (VP)

Morning, Christopher and Tom. I wanted to follow up on David's question about the two-boat Virginia contract. It was surprising to see that it was cost-plus. Obviously, there's funding in there for workforce development. Electric Boat has an ongoing labor negotiation. I think Newport News is three collective bargaining agreements expiring in 2027. Until those negotiations are wrapped up, should we expect a greater share of shipbuilding orders over the remainder of this year and next year to be more cost-plus incentive fee type structures?

Christopher Kastner (President and CEO)

Yeah. I would not necessarily assume that. We need to really get the wage support that is provided in the two-boat out to our workforce as quickly as we can. I am not going to get into dates or commitments about when that happens because we do have to discuss that with our labor unions. We believe that when we get the workforce, the support, the wage support to our workforce, retention will improve and productivity will improve, and we will be able to make our throughput and our schedule commitments. I would not necessarily think that that would dictate the contract types. We are going to evaluate the appropriate contract types based on the situation at hand when we negotiate the contracts. We are just going to have to kind of move ahead from here on Block 6 and Columbia Build 2.

The hybrid approach that essentially was put in place with the two-boat contract forms an interesting basis to roll into those discussions. We are going to have to establish those contract types as we engage with the customer and our partner.

Scott Mikus (VP)

Okay. The Golden Dome is also a big priority for the administration. That is going to require a lot of equipment, especially radars and potentially the Aegis Ashore system. Lead times on radars are also very long. Has there been communication between shipbuilding and the administration about how to produce enough radars for both the Golden Dome and what the Navy needs for shipbuilding priorities?

Christopher Kastner (President and CEO)

Yeah. We have not been involved in those discussions to date. I'm unaware of any discussions with the Navy and potential suppliers for that. I will say our DDG 51 program, Aegis program, is going well. We saw 129 go in the water. 128 will get to its first trials this year. We're making progress on our milestones there, relative to those ships with those new radars. I'm unaware of any discussions relative to Golden Dome with our product.

Scott Mikus (VP)

All right. Thanks for taking the questions.

Christopher Kastner (President and CEO)

Sure.

Operator (participant)

Thank you very much. Our next question is from Peter Skibitski with Alembic Global. Pete, your line is now open. Please go ahead.

Peter Skibitski (Managing Director)

Hey. Good morning, guys. I guess, Christopher or Tom, I'm not sure, but kind of a complicated situation. You guys have nearly $50 billion in total backlog right now. You're talking about an incremental $50 billion in new awards in the relative near term. How can we not think that there's upward pressure on that 4% shipbuilding revenue growth guide in this type of backdrop? Is it still just early, or is the labor situation that confounding? I assume the 4% doesn't include the $150 billion in defense ads that's potentially coming down the pike as well. Just wanted to hear your thoughts on that.

Christopher Kastner (President and CEO)

Yeah. The $50 billion in new awards includes the FY24 two-boat contract, Block 6, and the Columbia build. It also includes the Amphib bundle down in Ingalls. I would not necessarily correlate it to a $50 billion add in backlog from our current backlog levels. Now, tailwinds related to the 4% absolutely could happen. I am not going to go there from a guidance standpoint at all right now. The tailwinds between reconciliation, the executive order, these contracts being put under contract, the investments that are being made in the industrial base and the shipyards, there is absolutely medium-term upside related to that top-line growth number. We just need to take advantage of it. That is what we are going to work to do over the next couple of years.

Peter Skibitski (Managing Director)

Okay. I appreciate it. Just one last one for me on Ingalls' margin. It used to be kind of reliably in the double digits, and it's kind of regressed over the past five quarters or so. What time frame is reasonable for us to think about the current environment changing to one where positive EAC adjustments are maybe more likely than not?

Thomas Stiehle (EVP and CFO)

Yeah. I think you nailed it there, Pete. The culprit is the positive EAC adjustments. It's not so much that we're realizing kind of negative adjustments, but we're staying on our run rate, and we're neutral there. All three of those programs are in the production environment. The engineering works, the facility's up and running. We've come through the shipyard of the future, and we're facilities. It's really just about people and parts, being able to hire enough and keep the retention. As we go forward with that to make sure that we feed the factory to run in its production environment there. I am comfortable with the leadership down there and that we understand those ships. I think it's just coming post-COVID and getting the stand out of the gears there and having the production flow run as fast as possible.

We are down at probably a couple of years and hours of experience down there. That just works itself through maybe not as cost-efficient to realize those upsides or maybe a little bit more rework from time to time. Maybe a piece of late material, whether it's CFE or GFE, just all conspires to maybe not have a month or two early in schedule or an EAC reduction that we just kind of finish on par. I'm comfortable with where they are right now. I mean, I'd love to see upsides every quarter, but we have not seen major setbacks down there. I think they understand what's in front of them. It's the throughput we've talked about, more cost efficiency, keep the factory fed with parts. That shipyard with that portfolio has a legacy of performance. I think that they'll turn the corner.

We haven't given you the time frame yet. We'll keep you informed quarterly as we watch that proceed forward.

Peter Skibitski (Managing Director)

Okay. Appreciate it, guys.

Operator (participant)

Our next question comes from Myles Walton with Wolfe Research. Myles, your line is now open. Please go ahead.

Myles Walton (Managing Director)

Thanks. Maybe Christopher, could you start by talking a little bit about the workforce and how it trended in the first quarter? I think you probably picked up about 500 employees with W International. The press release is still talking about 44,000 employees. Was there much of a movement in net hiring, and how's attrition doing?

Christopher Kastner (President and CEO)

Yeah. Interesting. Good question, Myles. We hired 1,000 people in the first quarter, 1,000 craftsmen and women. That's directly related to the change in the strategy in both shipyards to hire more experienced personnel and improve the mix of experience versus new hires. We think that strategy makes sense. We're going to continue to execute on that. The good news is attrition is down in both shipyards. Not materially down, not back to pre-COVID levels, but it is definitely moving in the right direction. Yeah, hired 1,000, which is a bit south of where we wanted to be, but it's consistent with our strategy. Attrition is a bit better in both shipyards, which is very positive.

Myles Walton (Managing Director)

Okay. Regarding the 35% increase in outsourcing, can you comment on where you are with respect to that and sort of how the performance quality is looking from what you're outsourcing?

Christopher Kastner (President and CEO)

Actually, the way we've executed on our outsourcing program has been very positive. We had some tough lessons learned back at Ingalls and outsourcing in the early 2000s. We've used those lessons learned and applied them in both shipyards. The quality is pretty good. We do pilots in these manufacturing yards before they actually execute work at scale. We learn through that process. They've done that. We are on schedule in both yards in outsourcing for the year. The quality looks good. We're going to continue it. We need to. The industrial base is expanding. We need to take advantage of it. We need to make sure that it's always high quality because if it's not, you have to redo it. That doesn't help us at all. Yeah, it's very positive right now.

Myles Walton (Managing Director)

Okay. Last one on the SAS program. Is there a direct benefit to the carrier programs, or is it more of an indirect benefit with the submarines being the direct beneficiaries?

Christopher Kastner (President and CEO)

Yeah. It supports the entire nuclear industrial base and nuclear infrastructure. Aircraft carriers get support in that as well.

Myles Walton (Managing Director)

All right. Thank you.

Christopher Kastner (President and CEO)

Sure.

Operator (participant)

Our next question comes from Seth Seifman with JP Morgan. Seth, your line is now open. Please go ahead.

Seth Seifman (Executive Director)

Hey. Thanks very much. Good morning.

Thomas Stiehle (EVP and CFO)

Good morning.

Seth Seifman (Executive Director)

When we think about kind of the direct impact of the contract that was announced last night, is there kind of a sizable cash advance associated with it? Is that part of the cash guidance for Q2? Does it enable signing the contract, give you opportunity to change some of the assumptions across the different work at Newport News beyond just the two subs that were contracted?

Christopher Kastner (President and CEO)

Let me start with that. Guidance assumes execution of the Block 5 two-boat contract that it has all year. We assume incentives and capital incentives in all of our guidance. There are some incentives in Q2 related to that contract as well as other contracts. It is all in the mix when we come through our guidance for free cash flow for Q2 as well as the end of the year. I would love Tom, if you want to add anything in regard to that.

Thomas Stiehle (EVP and CFO)

I don't know how to really hit it. I mean, it was incorporated into the guide that we gave you for Q2. We mentioned at the very beginning of the year expectation to have both that award and then in the back half of the year, VCS Block 6 and Columbia Build 2. We are really happy we got that done here. Cash comes from margin. Margin can come from operational performance, capital incentives, performance incentives. With the new contract add, it helps out incrementally, but it was in the mix. It was in line with what we expected here. I am comfortable with both the guide that we've given you now for Q2 at $200-$300, supports the $300-$500 for the entire year with no change. We have pathways to get there. I appreciate the question.

Seth Seifman (Executive Director)

On the booking rate part of that?

Christopher Kastner (President and CEO)

It is all included in our guide and in our accounting. So we had always assumed this contract was going to get done this year in all of our accounting and in our guidance.

Seth Seifman (Executive Director)

Okay. And then just a little bit bigger picture. You had this announcement, I think, with Hyundai during the quarter. One of the topics that some people in Washington are discussing in terms of ways to accelerate shipbuilding is through partnership with other countries. This seems like a pretty early effort based on what was in the press release. How do you think about where that could go and where international partners might actually be able to fit in?

Christopher Kastner (President and CEO)

Yeah. Thank you for that question. Yeah. It is early on in a strategic relationship that is very broad in nature. It is going to apply to commercial shipbuilding and potentially taking advantage of the economic situation arising out of the executive order on commercial shipbuilding to see if there is an economic model that makes sense for expanding the commercial shipbuilding base in the United States. Then best practices in defense and military shipbuilding. We have been in their shipyard. They have been in our shipyard. They are a great shipbuilder. We are a great shipbuilder. We can learn from each other. It is very broad in its nature right now. I think when you think about having allies participate in shipbuilding, that only makes sense. An expansion of the capacity only makes sense. Bringing the best people to the table to execute against this is only the right thing to do.

We don't know where it's exactly going to take us at this point. It's in the initial talks. It's part of taking advantage of what we see as a pretty significant tailwind in shipbuilding.

Seth Seifman (Executive Director)

Okay. Very interesting. Thanks.

Christopher Kastner (President and CEO)

Yeah.

Operator (participant)

Our next question comes from Jason Gursky with Citigroup. Jason, your line is now open. Please go ahead.

Jason Gursky (Equity Research Analyst)

Great. Thanks. Good morning, everybody. Hey.

Thomas Stiehle (EVP and CFO)

Good morning.

Jason Gursky (Equity Research Analyst)

Chris, we've talked about this kind of in bits and pieces throughout the call today and I think in prior calls. I would like to just ask kind of a step back, bigger picture question about the timing of the transition from pre-COVID to post-COVID ships. Maybe give you an opportunity to kind of update us on any changes to the timing and maybe the major risks and opportunities in that timeline. I think you announced today some modest delays on the carrier side. I just want to make sure we're kind of re-baselined here on the expectations on timing of that transition.

Christopher Kastner (President and CEO)

Yeah. I think we said that 50% was going to, we're going to hit the 50% mark or beyond 50% mark in 2027.

Thomas Stiehle (EVP and CFO)

Sorry.

Christopher Kastner (President and CEO)

'27. That's correct.

Thomas Stiehle (EVP and CFO)

Sorry. Sorry.

Christopher Kastner (President and CEO)

You're correct to pick up on the issues with CVN 80 related to the equipment that's late in the bottom of the ship. We expect to get that over the summer. When that gets in, we'll start to make more progress. There's no change in the balance of our milestones. We're in a pretty good place there. I still expect that transition to be on schedule.

Jason Gursky (Equity Research Analyst)

Okay. Great. Christopher, he's restricting us to one follow-up question. This might be a couple, three parts here. I'm just kind of curious on all the reform in the executive orders that have been coming our way to get your thoughts on a couple of different things. First, on shipbuilding assistance and investment that might go into the shipbuilding industrial base, kind of what strings might be attached to it? Do you need to invest ahead of getting funds? Does that change the potential cash flow profile ahead for you? You mentioned OTAs in your prepared remarks. I think it's kind of tied up in the potential for acquisition reform, reform of FAR and DFARs specifically. I'm kind of curious.

Is that something that is going to impact those kinds of mechanisms, will impact the mission systems business more than shipbuilding per se? What do you think is the long-term impact on the mission systems business from a risk and opportunities and margins? Thanks.

Christopher Kastner (President and CEO)

Thanks, Jason. First things first, the reform, executive orders, and cash flow profile. Look, I think it's too early for that right now. There's a lot of work going into making recommendations on how those are rolled out. If you read the executive order, a significant amount of activity that we need to participate in quite actually because we think we can provide a lot of input to them so we can kind of get at the right answer. Yeah, a lot of work by the team, the government team, and the shipbuilding office over the next 30, 60, 90 days to further define what those mean, what the economics mean, what the investments mean. We'll know more. I don't see definitely a cash flow drain by us related to that at this point, but more to come. On the OTAs, those are only positive.

Things happen faster in an OTA environment. We're pretty good at them. Our small uncrewed vehicle was an OTA that was converted to a program of record and very positively. We only see upside related to that. We're comfortable with it. We're going to lean into it. There is potential upside within mission technologies related to that activities. The Rapid Capability Office sort of activities with our high-energy laser that we're providing for the army is also positive. I think you have to lean into this stuff. Historically, our mission technologies division has been very good at applying commercial technologies to some of the biggest problems that the DOD has. We're going to continue to do that. We have a team that can do that within mission technologies. As I said before, we're going to lean into it.

I see potential upside related to it.

Jason Gursky (Equity Research Analyst)

Awesome. Thank you.

Christopher Kastner (President and CEO)

Thanks.

Operator (participant)

Our next question comes from Noah Poponak with Goldman Sachs. Noah, your line is now open. Please go ahead.

Noah Poponak (Managing Director)

Hey. Good morning, everyone.

Thomas Stiehle (EVP and CFO)

Morning, Noah.

Noah Poponak (Managing Director)

Hey. Yes. Thanks. It was reported in the press, and I think you discussed that there was a draft of the maritime executive order that included the SAS language. Then we now have the executive order. It does not include it. We have kind of a—I mean, I know it is a very long-cycle business, but a long planning process to sort out where to go from here. I was curious what your sense is for why that changed in the process and how likely or unlikely it is that you eventually see SAS.

Christopher Kastner (President and CEO)

Yeah. That is probably not important to how it did not end up in the final executive order. I am sure that those are—that is why they are drafts. They go through review with different elements of the government. Ultimately, it was not included. Do I think SAS will happen in the future? Look, SAS did a lot of really interesting things. It was very innovative. It accelerated investment into the shipyards to get at the submarine production rate. Right now, our baseline is the Block 5 contract, the Block 6 contract, and Columbia Build 2. We are working with our customer to March 4th to get those under contract. The really good part about SAS is it identified in detail the investments we thought we needed to get this done. You see those investments show up in the Block 5 contract.

As we move through Block 6 and Columbia Build 2, they should show up there as well. SAS is called another name. The investments are required. The team knows it. They put those investments together as a team. We need to make sure that we continue to make those investments to get to the build rate. SAS is something that is a name at this point that could or could not happen in the future. The investments have to happen in order to get to the build rate.

Noah Poponak (Managing Director)

Okay. Christopher, how much have you been able to raise wages in recent periods to get the attrition improvement that you referenced? How much more do you have to raise wages to make much more significant strides on that front?

Christopher Kastner (President and CEO)

I think the attrition improvement's really been a result of the targeted hiring of more experienced labor. We have addressed wages very tactically, both at Ingalls and Newport News. We do have labor arrangements. We haven't been able to do broad labor adjustments. I think the attrition improvement is more directly related to our hiring strategies to focus on more experienced people.

Noah Poponak (Managing Director)

Okay. Lastly, Tom, can you just give us the very specifics on why both the shipbuilding and the MT margin are down a decent amount sequentially in the second quarter?

Thomas Stiehle (EVP and CFO)

Yeah. As you said earlier, just the guide that we're giving is on the conservative side. We saw from MT crewed and uncrewed and EW do well for the quarters as they booked up and they closed out some projects. We do not want to get ahead of ourselves. From a shipbuilding side, I think we're just being conservative. We have some risks to burn down through the year. The initiatives that we've talked about, more progress and the cost reductions, I want to see them kind of play out. We do have plans in place for that to occur. With the risk and variability, we're just staying and guiding closer to the low end of the range there. I'm still comfortable with the guide that we have from $5.5 billion-$6.5 billion. It was a good first quarter out of the gate.

We will adjust kind of going forward as we see successive quarters do well.

Noah Poponak (Managing Director)

Okay. Thank you.

Thomas Stiehle (EVP and CFO)

Sure.

Operator (participant)

Our next question comes from Ronald Epstein with Bank of America. Ron, your line is now open. Please go ahead.

Ronald Epstein (Senior Equity Analyst)

Hey. Yeah. Hey. Good morning, guys. Maybe going back to a couple of questions we've heard before, maybe Doug's earlier. What has to happen in the shipyards to really update the manufacturing process, right? I mean, when you look at how the Koreans do it and their commercial operations, it seems like there's more automation. They build ships differently. I mean, realistically, how much of that can be deployed in our military shipyards to improve throughput and the whole nine yards?

Christopher Kastner (President and CEO)

Yeah. I like the distinction you're making between the commercial manufacturing process and the defense process. They are different. When you're getting at a rate on fairly simple ships to build that aren't as dense, it's just a different process. What's it going to take? Fortunately, we've been doing this work for a while now, identifying what's it going to take to increase the submarine throughput. It's going to show up on that FY 24 two-boat contract. These are targeted investments to create capacity and increase the efficiency on how the ships and how the manufacturing works through the process. We've been working very hard at it. We know where the constraints are. Once they get implemented, I'm very confident that things are going to improve.

Ronald Epstein (Senior Equity Analyst)

I mean, is it more automation? I mean, are there things like that that you can do to take out variability or?

Christopher Kastner (President and CEO)

It's more about streamlining. There is some automation that can take place at the front end of the process. We have AI pilots going on in both shipyards where we can be more efficient in analysis of scheduling per se or quality. This is more about efficiency of the manufacturing process and eliminating roadblocks or ensuring that your critical path is squared away. It's not real automation when you get to the back half of the process. This is all about throughput and efficiency and throughput.

Ronald Epstein (Senior Equity Analyst)

Got it. Got it. Maybe just one more. What are you seeing in terms of demand for your unmanned product, for the autonomous stuff?

Christopher Kastner (President and CEO)

Yeah. Really good in the uncrewed space, not only in our—as I said in my remarks, we have really a couple hundred in backlog. We could have significant ramp this year executing on that small uncrewed underwater vehicle space. Demand's only improving in the uncrewed space, underwater uncrewed space, not only for that product but derivatives of that product, both domestically and internationally. Some very positive developments in the uncrewed space.

Ronald Epstein (Senior Equity Analyst)

Got it. All right. Thank you.

Christopher Kastner (President and CEO)

Sure.

Operator (participant)

Thank you very much. I'm not showing any further questions at this time. I would now like to hand the call back over to Mr. Kastner for any closing remarks.

Christopher Kastner (President and CEO)

Thanks again for your interest and participation today. I look forward to providing updates as we progress throughout the year.

Operator (participant)

Thank you very much, everyone, for joining. That concludes today's call. You may now disconnect your lines.