<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1994
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 1-3685
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MCDONNELL DOUGLAS CORPORATION
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(Exact name of registrant as specified in its charter)
Maryland 43-0400674
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Post Office Box 516, St. Louis, MO 63166
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(Address and zip code of principal executive offices)
314-232-0232
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for each shorter period
that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes X No .
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Common shares outstanding at October 31, 1994 - 39,562,299 shares
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TABLE OF CONTENTS
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PART I FINANCIAL INFORMATION Page
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ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED STATEMENT OF EARNINGS 3-4
CONSOLIDATED BALANCE SHEET 5
CONSOLIDATED STATEMENT OF CASH FLOWS 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7-15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 16-30
PART II OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS 31
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 31
<PAGE> 3
PART I FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS
MCDONNELL DOUGLAS CORPORATION
CONSOLIDATED STATEMENT OF EARNINGS
(Millions of dollars, except share data)
THREE MONTHS ENDED SEPTEMBER 30 1994 1993
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(Unaudited)
Revenues $ 3,461 $ 3,428
Costs and expenses:
Cost of products, services and rentals 2,950 2,949
General and administrative expenses 150 155
Research and development 76 82
Interest expense:
Aerospace segments 23 (8)
Financial services and other segment 29 32
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Total Costs and Expenses 3,228 3,210
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EARNINGS BEFORE INCOME TAXES 233 218
Income taxes 72 76
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NET EARNINGS $ 161 $ 142
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EARNINGS PER SHARE $ 4.07 $ 3.62
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DIVIDENDS DECLARED PER SHARE $ .35 $ .35
======== ========
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The accompanying notes are an integral part of the consolidated financial
statements.
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MCDONNELL DOUGLAS CORPORATION
CONSOLIDATED STATEMENT OF EARNINGS
(Millions of dollars, except share data)
NINE MONTHS ENDED SEPTEMBER 30 1994 1993
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(Unaudited)
Revenues $ 9,664 $10,855
Costs and expenses:
Cost of products, services and rentals 8,082 9,347
General and administrative expenses 490 504
Research and development 236 256
Postretirement benefit curtailment - (70)
Interest expense:
Aerospace segments 102 38
Financial services and other segment 91 97
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Total Costs and Expenses 9,001 10,172
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EARNINGS FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES 663 683
Income taxes 230 192
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EARNINGS FROM CONTINUING OPERATIONS 433 491
Discontinued operations, net of income taxes - 37
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NET EARNINGS $ 433 $ 528
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EARNINGS PER SHARE:
Continuing operations $ 10.98 $ 12.53
Discontinued operations - .93
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$ 10.98 $ 13.46
======== ========
DIVIDENDS DECLARED PER SHARE $ 1.05 $ 1.05
======== ========
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The accompanying notes are an integral part of the consolidated financial
statements.
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MCDONNELL DOUGLAS CORPORATION
CONSOLIDATED BALANCE SHEET
(Millions of dollars and shares)
SEP 30 DEC 31
1994 1993
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(Unaudited)
ASSETS
Cash and cash equivalents $ 262 $ 86
Accounts receivable 710 555
Finance receivables and property on lease 2,068 2,357
Contracts in process and inventories 5,907 5,774
Property, plant and equipment 1,628 1,750
Other assets 1,514 1,504
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Total Assets $ 12,089 $ 12,026
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LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Accounts payable and accrued expenses $ 2,441 $ 2,190
Accrued retiree benefits 1,324 1,388
Income taxes 685 574
Advances and billings in excess of
related costs 1,143 1,251
Notes payable and long-term debt:
Aerospace segments 1,285 1,625
Financial services and other segment 1,321 1,513
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8,199 8,541
Minority Interest 72 72
Shareholders' Equity:
Preferred Stock - none issued
Common Stock - issued and outstanding:
1994, 39.5 shares; 1993, 39.3 shares 40 39
Additional capital 355 335
Retained earnings 3,435 3,043
Translation of foreign currency statements (3) (4)
Unearned compensation (9) -
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3,818 3,413
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Total Liabilities and Shareholders' Equity $ 12,089 $ 12,026
========= =========
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The accompanying notes are an integral part of the consolidated financial
statements.
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MCDONNELL DOUGLAS CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(Millions of dollars)
NINE MONTHS ENDED SEPTEMBER 30 1994 1993
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(Unaudited)
OPERATING ACTIVITIES
Earnings from continuing operations $ 433 $ 491
Adjustments to reconcile earnings
from continuing operations to net
cash provided by operating activities:
Depreciation and amortization 210 228
Gain on sale of assets (26) (4)
Pension income (99) (104)
Postretirement benefit curtailment - (70)
Non-cash retiree health care costs 9 18
Change in operating assets and liabilities 180 (233)
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NET CASH PROVIDED BY OPERATING ACTIVITIES 707 326
INVESTING ACTIVITIES
Property, plant and equipment acquired (82) (48)
Finance receivables and property on lease 54 215
Proceeds from sale of discontinued business - 181
Proceeds from sale of assets 24 32
Other 43 38
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NET CASH PROVIDED BY INVESTING ACTIVITIES 39 418
FINANCING ACTIVITIES
Net change in borrowings (maturities 90 days
or less) (53) (475)
Debt having maturities more than 90 days:
New borrowings 450 162
Repayments (929) (556)
Minority Interest - 75
Payments from ESOP - net - 36
Proceeds of stock options exercised 3 4
Dividends paid (41) (41)
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NET CASH USED BY FINANCING ACTIVITIES (570) (795)
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INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS 176 (51)
Cash and cash equivalents at beginning of year 86 82
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Cash and cash equivalents at end of period $ 262 $ 31
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The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 7
MCDONNELL DOUGLAS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1994
(Millions of dollars)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements reflect all
adjustments (which comprise only normal recurring accruals) necessary, in
the opinion of management, for a fair presentation of the financial
position, the results of operations and the cash flows for the interim
periods presented. The statements should be read in conjunction with the
consolidated financial statements and footnotes thereto included in
McDonnell Douglas Corporation's (MDC) Annual Report to Shareholders for
the year ended December 31, 1993.
2. Discontinued Operations
In March 1993 MDC sold its McDonnell Douglas Information Systems
International (MDISI) business. The sale of MDISI resulted in a gain of
$37 million, net of income taxes of $25 million.
3. Accounts Receivable
In August 1990, MDC entered into a three-year agreement with a financial
institution to sell a participation interest in a designated pool of
government and commercial receivables, with limited recourse, in amounts
up to $300 million. A one-year replacement agreement with another
financial institution for up to $300 million was completed during February
1994. Under the agreements, participation interests in new receivables
have been and will continue to be sold as previously sold amounts are
collected. The participation interests are sold at a discount which is
included in general and administrative expenses in the consolidated
statement of earnings. Under both agreements, MDC has and will continue
to act as an agent for the purchaser by performing record keeping and
collection functions.
During the negotiation of the replacement agreement, MDC continued to
sell, and the original financial institution continued to purchase,
participation interests. At September 30, 1994 and December 31, 1993,
accounts receivable are net of $79 million and $100 million, respectively,
representing receivable interests sold.
<PAGE> 8
4. Contracts in Process and Inventories
Contracts in Process and Inventories consist of the following:
September 30 December 31
1994 1993
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Government contracts in process $ 5,977 $ 6,347
Commercial products in process 4,243 4,005
Material and spare parts 789 873
Progress payments to subcontractors 1,351 1,362
Progress payments received (6,453) (6,813)
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$ 5,907 $ 5,774
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Substantially all government contracts in process (less applicable
progress payments received) represent unbilled revenue and revenue which
is currently not billable.
The Navy on January 7, 1991, notified MDC and General Dynamics Corporation
(the Team) that it was terminating for default the Team's contract for
development and initial production of the A-12 aircraft. On June 7, 1991,
the Team filed a legal action to contest the Navy's default termination,
assert its rights to convert the termination to one for "the convenience
of the Government," and obtain payment for work done and costs incurred on
the A-12 contract, but not paid to date. The Navy has agreed to continue
to defer repayment of $1.335 billion alleged to be due with interest from
January 7, 1991, from the Team as a result of the termination for default
of the A-12 program. The agreement provides that it will remain in force
until the dispute as to the type of termination is resolved by the pending
litigation in the United States Court of Federal Claims or negotiated settle-
ment, subject to review by the U.S. Government annually on December 1,
to determine if there has been a substantial change in the financial
condition of either Team member such that deferment is no longer in the
best interest of the Government. MDC firmly believes it is entitled to
continuation of the deferment agreement in accordance with its terms.
At September 30, 1994, Contracts in Process and Inventories include
approximately $540 million of recorded costs on the A-12 contract, against
which MDC has established a loss provision of $350 million. The amount of
the provision, which was established in 1990, is based on MDC's belief
that the termination for default will be converted to a termination for
convenience, that the Team will recover a minimum of $250 million in
claims, that there is a range of reasonably possible results on
termination for convenience and that it is prudent to provide for what MDC
believes is the upper range of possible loss on termination for
convenience, namely $350 million. In MDC's opinion, this loss provision
continues to provide adequately for the reasonably possible reduction in
value of A-12 net contracts in process and nonreimbursed supplier
termination payments as of September 30, 1994,
<PAGE> 9
as a result of termination of the contract for the convenience of the
Government. MDC has been provided with an opinion of outside counsel that
the Government's termination of the contract for default is contrary to
law and fact, that the default is excusable, that the rights and
obligations of MDC are the same as if the termination had been issued for
the convenience of the Government and that, subject to prevailing that the
termination is properly one for the convenience of the Government, the
probable recovery on the claims is not less than $250 million.
If, contrary to MDC's belief, the termination is not deemed to be for the
convenience of the Government, it is estimated that an additional loss
would be incurred which could amount to approximately $1.2 billion.
In 1984, MDC entered into a full scale development letter contract,
containing a not-to-exceed price, for the T-45 Training System which
included the conversion of the land-based British Hawk aircraft with
minimal change into a carrier-capable Navy aircraft, designated the T-45A.
The final negotiated firm fixed price contract was agreed to in 1986. As
a result of flight testing in late 1988, the Navy indicated that changes
to the T-45 aircraft were necessary to meet its operational desires. MDC
advised the Navy that incorporation of the requested improvements into the
aircraft configuration would entitle it to additional compensation. MDC
proceeded with the improvements, and their cost has increased the cost at
completion for the development and low rate initial production contracts
to a point where it exceeds the fixed price of such contracts. At
September 30, 1994, Contracts in Process and Inventories include costs for
the related contracts of $162 million. Realization of this amount is
dependent in part on (i) costs to complete these contracts not exceeding
present estimates and (ii) realization of expected amounts of recovery on
claims filed with respect to these contracts. MDC believes it is entitled
to an equitable adjustment in contract price and schedule and other
appropriate relief for such improvements and submitted claims to the Navy
during 1990 for such relief. During 1993 the Navy denied these claims.
MDC has appealed the Navy's decision to the Armed Services Board of
Contract Appeals. The estimated revenue of the contracts at completion
includes $225 million from expected recovery on such claims filed with the
Navy. MDC's belief as to expected claims recovery is supported by an
opinion of outside counsel provided to MDC that there are reasonable
factual and legal bases for the current claims against the Navy and that,
based on MDC's labor and cost accounting records and computations, it is
probable that MDC will recover in excess of $225 million on the claims.
Additionally, if MDC were not to recover a portion of the claims amount
related to work for which a subcontractor is responsible, MDC, supported
by the opinion of outside counsel, believes the subcontractor would be
legally liable for such costs. If revenue from such claims is not
realized, a loss provision of approximately $154 million would be required
on the related development and low rate initial production contracts.
<PAGE> 10
Resolution of claims on the A-12 and T-45 contracts will involve
negotiation with the Government or litigation, and the ultimate
realization and receipt of future revenue may vary from current estimates.
In May 1993, a Defense Acquisition Board (DAB) initiated by the Under
Secretary of Defense for Acquisitions began a review of the C-17 program
in an effort to resolve outstanding issues and to make recommendations
regarding the C-17's future. In connection with the review, MDC provided
data and participated in numerous discussions. The Department of Defense
(DoD), in conjunction with the DAB, submitted a proposal to MDC in
December 1993 for a business settlement of a variety of issues concerning
the C-17 program. In January 1994, MDC and the DoD agreed to such a
settlement.
The settlement covered many issues open as of the date of the settlement,
including the allocation of sustaining engineering costs to the
development and production contracts, the sharing of flight test costs
over a previous level, and the resolution of claims and of
performance/specification issues. Terms of the settlement also stipulate
that MDC will expend funds on new or modified systems and on product
improvements. During the third quarter of 1994, the C-17 settlement was
given congressional approval in the FY95 defense authorization and
appropriations bills, subject to certain limitations on the Air Force's
ability to obligate settlement funds. The Air Force and the DoD are in
the process of complying with the legislation. MDC and the Air Force are
developing contractual modifications and agreements to implement the
settlement. While some aspects of the compliance process are ongoing, MDC
and the Air Force will execute the contract modifications and agreements
when applicable compliance is completed.
During the fourth quarter of 1993, MDC recorded a $450 million pre-tax
charge associated with the business settlement arranged with the DoD and
with cost growth on the development and initial production lots. Based
upon further definition and pricing of issues in the settlement, in the
first quarter of 1994, MDC reduced cost estimates associated with the
settlement. At the same time, MDC recognized additional cost growth for
work yet to be completed in the development and initial production lots.
During the 1994 second quarter, MDC recognized losses in the development
and initial production lots. These losses, however, were offset by
increased earnings in the current production lots. During the third
quarter of 1994, additional losses in the development and initial
production contracts were recognized; however, these losses were offset by
reduced cost estimates associated with the settlement.
At September 30, 1994, Contracts in Process and Inventories include costs
of $315 million for the fixed price type contracts for development and
first ten initial production C-17 military transport aircraft for the Air
Force. Contracts in Process and Inventories includes $208 million of
claim revenues expected to be collected as part of the settlement.
<PAGE> 11
During 1991, MDC combined the C-17 contracts for the development and first
ten initial production aircraft for financial accounting purposes. The
estimated costs at completion of the combined C-17 contracts, excluding
general and administrative costs and other period costs, exceed the
estimated revenue of the combined contracts. MDC has recorded loss
provisions in the amounts by which estimated costs on the combined
contracts, excluding general and administrative costs and other period
costs, exceed estimated revenues from the remaining work on the contracts.
The Air Force continues to reduce payments to MDC under the C-17
contracts, largely due to the DoD projecting production costs at
completion in excess of MDC's estimate at completion. In addition, during
1992 the Air Force questioned MDC's segregation of certain C-17
engineering costs between full scale engineering development (FSED) and
production lots. As required in the settlement, MDC and the Defense Plant
Representative Office have reached agreement on the charging methodology
to be used in the future and on impacts of the implementation of the new
methodology. Pending contractual implementation of the business
settlement, for progress payment purposes the Air Force has reclassified
to FSED a substantial portion of sustaining engineering costs applied by
MDC to production lots. As of September 30, 1994, the Air Force had
withheld approximately $291 million from MDC's payment requests on the
C-17 contracts principally as a result of higher cost estimates and the
sustaining engineering reclassification. The portion of this amount
associated with the sustaining engineering reclassification is $59
million, and is included in the provision for the C-17 business
settlement.
MD-11 production and tooling costs are charged to cost of sales based upon
the estimated average unit cost for the program. The estimated average
unit costs are based upon cost estimates of a 301 aircraft program. The
costs incurred in excess of the estimated average unit cost are deferred
to be recovered by production and sale of lower-than-average cost units.
Commercial products in process for the MD-11 program at September 30,
1994, includes net deferred production costs of $1.286 billion and
unamortized tooling of $251 million. These amounts are to be applied to
the remainder of the 301 aircraft pool. Commercial products in process
for the MD-11 program at December 31, 1993, included net deferred
production costs of $1.324 billion and unamortized tooling of $257
million. Under the current costing percentage, an estimated $1.1 billion
of current and future deferred costs will be recovered from firm orders
received after September 30, 1994.
As of September 30, 1994, MDC had delivered 125 MD-11 aircraft and has 46
aircraft on firm order. In addition, MDC has 88 options and reserves
representing potential future orders for the MD-11. Estimated proceeds
from the undelivered aircraft in the pool exceed the production and
tooling costs in inventory at September 30, 1994, plus the estimated
additional production and tooling costs to be incurred. However, if fewer
than 301 MD-11 aircraft are sold, if the proceeds
<PAGE> 12
from future sales of MD-11 aircraft are less than currently estimated, or
if the costs to complete the program exceed current estimates, substantial
amounts of unrecoverable costs may be charged to expense in subsequent
fiscal periods. MDC believes that the slowdown in MD-11 orders is
temporary and that it will sell in excess of 301 MD-11 aircraft over the
life of the program.
5. Income Taxes
During 1991, MDC settled tax years 1977-1985 with the Internal Revenue
Service (IRS). The settlement resulted in net earnings of $32 million in
1991 and a substantial future obligation payable upon completion of the
1986-1989 IRS audit. During 1993 and 1994 this obligation was reduced by
the resolution with the IRS of certain accounting method and tax credit
issues. The resolution of these issues resulted in net earnings of $158
million in the first three quarters of 1993 and net earnings of $21
million in the third quarter of 1994. Upon substantial completion of the
1986-1989 audit in August 1994, MDC made a tax and interest payment to the
IRS of approximately $165 million.
6. Debt & Credit Arrangements
Aerospace Credit Agreements
At September 30, 1994, MDC had a revolving credit agreement (RCA) under
which MDC could borrow up to $1.25 billion through July 1998. Under the
credit agreement, the interest rate, at the option of MDC, is a floating
rate generally based on a defined prime rate, a fixed rate related to the
London interbank offered rate (LIBOR), or as quoted under a competitive
bid. A fee is charged on the amount of the commitment. The agreement
contains restrictive covenants including but not limited to net worth (as
defined), indebtedness, subsidiary indebtedness, customer financing,
interest coverage and liens. There were no amounts outstanding under the
credit agreement at September 30, 1994.
In August 1992, MDC commenced an offering of up to $550 million of its
medium-term notes due from and exceeding nine months from the date of
issue. The interest rate applicable to each note and certain other
variable terms are established at the date of issue. As of September 30,
1994, MDC has issued $132 million of medium-term notes, of which $108
million is currently outstanding at rates ranging from 5.7% to 7.4% due in
1994 through 1996. During 1993, MDC issued $200 million of 8.25% senior
debt securities due on July 1, 2000. As of September 30, 1994, $218
million of securities registered under the shelf registration remain
unissued.
Senior debt securities totalling $1,145 million were outstanding at
September 30, 1994. The notes were issued in 1992 and 1993 with interest
rates of 8.3% to 9.8% and maturities from 1997 to 2012.
<PAGE> 13
Aerospace long-term debt also includes an aerospace-related obligation of
McDonnell Douglas Realty Company in the amount of $32 million at September
30, 1994.
Financial Services Credit Agreements
At September 30, 1994, McDonnell Douglas Financial Services Corporation
(MDFS), parent company of McDonnell Douglas Finance Corporation (MDFC),
and MDFC have a joint revolving credit agreement under which MDFC may
borrow a maximum of $220 million, reduced by MDFS borrowings under this
same agreement. This agreement, which became effective September 29,
1994, expires September 28, 1998. By the terms of this agreement, MDFS
can borrow no more than $16 million. The interest rate, at the option of
MDFC or MDFS, is either a floating rate generally based on a defined prime
rate or fixed rate related to LIBOR. There were no amounts outstanding
under this agreement at September 30, 1994.
The provisions of various credit and debt agreements require MDFC to
maintain a minimum net worth, restrict indebtedness, and limit MDFC's cash
dividends and other distributions.
In June 1993, MDFC commenced an offering of up to $250 million of its
general term notes and subsequently commenced offerings of up to an
aggregate of $399 million of its medium-term notes. The interest rate
applicable to each note and certain other variable terms are established
at the date of issue. As of September 30, 1994 , MDFC has issued pursuant
to such offerings $91 million of general term notes at rates ranging from
5.0% to 8.4% due in 1995 through 2011, $140 million of senior medium-term
notes at fixed rates ranging from 4.6% to 6.8% due in 1995 through 1998,
$150 million of senior medium-term notes due in 1995 through 1999 at
floating rates based on LIBOR and reset quarterly, and $20 million of
subordinated medium-term notes at a fixed rate of 8.31% due in 2004. As of
September 30, 1994, $248 million of securities registered under the shelf
registration remain unissued.
7. Commitments and Contingencies
The marketing of commercial aircraft at times will result in agreements to
provide or guarantee long-term financing of some portion of the delivery
price of aircraft, to lease aircraft, or to guarantee customer lease
payments, tax benefit transfers or aircraft values. At September 30,
1994, $335 million in guarantees are outstanding on delivered aircraft.
At September 30, 1994, MDC had made offers totaling $463 million to lease
aircraft scheduled to be delivered during 1995 to 1998 and had made offers
of $83 million and commitments of $51 million to accept notes in payment
for aircraft or guarantee financing for customers for ordered but
undelivered aircraft. In addition, MDFS has commitments to provide
leasing and other financing in the aggregate amount of $79 million at
September 30, 1994.
<PAGE> 14
MDC's outstanding guarantees include approximately $125 million related to
MD-11s operated by a foreign carrier. During March 1994, this carrier
notified its aircraft lenders and lessors that it was temporarily
suspending payments pending a restructuring of its financial obligations,
and requested a "standstill" agreement to protect itself from default
remedies for sixty days. MDC is currently making lease payments on behalf
of the carrier. These payments are not expected to have a significant
adverse effect on cash flow or financial position. Restructuring
discussions that were initiated with the carrier during the second quarter
are still in progress.
Trans World Airlines, Inc. (TWA), MDC's largest aircraft leasing
customer, recently proposed a restructuring plan relating to its
indebtedness and leasehold obligations to its creditors. As part of an
overall plan, TWA has requested MDC to defer six months of lease and other
payments and to convert 50% of the deferral to equity. MDC is currently
evaluating the proposal and is engaged in discussions with TWA. While the
ultimate outcome of the proposed restructuring plan is dependent upon
factors beyond the control of MDC, it is not expected to be materially
adverse to MDC.
MDC is a party to a number of proceedings brought under the Comprehensive
Environmental Response, Compensation and Liability Act, commonly known as
Superfund, or similar state statutes. MDC has been identified as a
potentially responsible party (PRP) at 28 sites. Of these, MDC believes
that it has de minimis liability at 19 sites, including nine sites at
which it believes that it has no future liability. At the nine sites at
which MDC's liability is not considered to be de minimis, either final or
interim cost sharing agreements have been effected between the cooperating
PRPs, although such agreements do not fix the amount of cleanup costs
which the parties will bear. In addition, MDC is remediating, or has
begun environmental engineering studies to determine cleanup requirements,
at certain of its current operating sites or former sites of industrial
activity. At September 30, 1994, the accrued liability for environmental
cleanup matters at Superfund sites and on MDC's current and former
operating sites is $29 million. This amount has not been reduced by
potential recoveries of insurance proceeds. MDC believes that the final
outcome of these environmental liabilities will not have a material
adverse effect on its financial position, results of operations or cash
flows.
A number of legal proceedings and claims are pending or have been asserted
against MDC including legal proceedings and claims relating to alleged
injuries to persons associated with the disposal of hazardous waste. A
substantial portion of such legal proceedings and claims is covered by
insurance. MDC believes that the final outcome of such proceedings and
claims will not have a material adverse effect on MDC's financial
position, results of operations or cash flows.
See Note 4, Contracts in Process and Inventories, for a discussion of
certain risks on fixed price development contracts including the
<PAGE> 15
termination on January 7, 1991, by the Navy of a contract with MDC and
General Dynamics Corporation for the development and initial production of
the A-12 aircraft.
8. Investment in Financial Services Subsidiary
The condensed financial data presented below have been summarized from the
consolidated financial statements of MDFS.
Nine Months Ended September 30 1994 1993
-------- --------
Earned income $ 145 $ 140
Costs and expenses 113 126
Net earnings 20 -
Dividends 16 -
9. Supplementary Payment Information
Nine Months Ended September 30 1994 1993
-------- --------
Interest paid $ 253 $ 248
Income taxes paid 108 45
Prior year amounts have been reclassified to conform to the current year
presentation.
10. Earnings Per Share
Earnings per share computations are based upon the weighted average common
shares outstanding during the nine month period which were 39,451,548 in
1994 and 39,236,812 in 1993.
11. Unearned Compensation
In April 1994, MDC initiated a Performance and Equity Incentive Plan
(Plan). Under the Plan, 1,900,000 shares were authorized for issuance in
connection with stock options, stock appreciation rights, restricted
stock, performance shares, cash awards, and other stock-based awards. As
of September 30, 1994, 105,220 restricted shares of MDC common stock had
been granted. Compensation is being amortized to expense over periods of
three to five years, depending on the award. Unearned compensation is
reflected as a component of shareholders' equity.
<PAGE> 16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
-----------------------------------------------------------
AND RESULTS OF OPERATIONS
-------------------------
The following discussion and analysis should be read in conjunction with
the Notes to Consolidated Financial Statements, page 7, and with
Management's Discussion and Analysis of Financial Condition and Results of
Operations, Audited Consolidated Financial Statements and Notes to
Consolidated Financial Statements appearing in MDC's 1993 Annual Report to
Shareholders.
Financial Condition
General. MDC's financial statements include McDonnell Douglas
Financial Services Corporation (MDFS) and McDonnell Douglas Realty Company
(MDRC) on a fully consolidated basis. MDFS is the parent company of
McDonnell Douglas Finance Corporation (MDFC), a diversified financial
services company that has a capital structure significantly different from
MDC's other business segments. The following table allocates MDC's
capital structure at September 30, 1994 and December 31, 1993 between its
aerospace segments (including aerospace-related obligations of MDRC in the
amount of $32 million as of September 30, 1994 and $107 million as of
December 31, 1993) and its financial services and other segment, which is
comprised principally of MDFS, MDFC and MDRC. The debt of MDFS, MDFC and
MDRC is non-recourse to MDC. See also Note 6, Debt and Credit
Arrangements, page 12.
Financial
Services
Aerospace and Other
September 30, 1994 Segments Segment Total
- ------------------ ---------- --------- -------
(Dollar amounts in millions)
Debt $ 1,285 $ 1,321 $ 2,606
Equity 3,508 310 3,818
------- ------- -------
$ 4,793 $ 1,631 $ 6,424
======= ======= =======
Debt-to-equity ratio .37 4.26
- ------------------------ ======= =======
Financial
Services
Aerospace and Other
December 31, 1993 Segments Segment Total
- ----------------- ---------- --------- -------
(Dollar amounts in millions)
Debt $ 1,625 $ 1,513 $ 3,138
Equity 3,123 290 3,413
------- ------- -------
$ 4,748 $ 1,803 $ 6,551
======= ======= =======
Debt-to-equity ratio .52 5.22
======= =======
<PAGE> 17
The aerospace segments' debt-to-equity ratio decreased during 1994 as a
result of a $340 million reduction in aerospace debt and improved
earnings. MDC generated positive cash flow from operations, a portion of
which was used to reduce aerospace debt during the first nine months of
1994. Cash and cash equivalents of aerospace segments increased by $225
million during the first nine months to $240 on September 30, 1994.
Cash provided by operations on a consolidated basis during the first nine
months of 1994 and 1993 was $707 million and $326 million, respectively.
Cash flow from aerospace operations was over $110 million for the 1994
third quarter and over $725 million for the first nine months of 1994,
prior to being reduced by a third quarter tax payment of approximately
$165 million related to a prior years' IRS tax examination.
Commercial Aircraft. MDC delivered 16 MD-80 twin jets and 13 MD-11
trijets in the first nine months of 1994 as compared to 38 MD-80 twin jets
(including eight under lease arrangements) and 25 MD-11 trijets (including
one under a lease arrangement) in the first nine months of 1993. Lease
arrangements generally do not result in the immediate recognition of
revenue. The weakness in the commercial aircraft market, evidenced by the
reduction in deliveries, is expected to continue during the remainder of
1994 and into 1995. Current commercial aircraft production plans
anticipate MD-80 deliveries in the low 20's and MD-11 deliveries in the
high teens in 1994. Production plans for 1995 anticipate MD-80/90
deliveries in the low 30's, with slightly higher deliveries of MD-80's
compared to MD-90's. MD-11 deliveries in 1995 are expected to be in the
high teens. Aircraft delivery delays or contract defaults by commercial
aircraft customers not anticipated by MDC could have a negative short-term
impact on cash flow. Aggressive cost reduction actions have been
undertaken in the commercial aircraft segment in an effort to match costs
with the production rate. Employment in the commercial aircraft segment
decreased from 35,418 at December 31, 1991 to 12,102 at September 30, 1994
reflecting cost reduction efforts and scheduled production rate declines.
C-17 Globemaster III. During the past several years, MDC increased its
cost estimate at completion for the C-17 Globemaster III contracts for the
full scale engineering development and first ten initial production
aircraft. A 1993 charge of $450 million reflected the estimated impact of
the C-17 settlement with the DoD and other increases in the estimated
remaining cost on the development and initial production contracts. In
the 1994 first quarter, additional cost growth for work yet to be
completed in the development and initial production lots was largely
offset by reduced cost estimates associated with the C-17 settlement.
During the 1994 second quarter, MDC recognized losses in the development
and initial production lots. These losses, however, were offset by
increased earnings in the current production lots. During the third
quarter of 1994, additional losses
<PAGE> 18
in the development and initial production contracts were recognized;
however these losses were offset by reduced cost estimates associated with
the settlement. Although completion of the full scale engineering and
development portion of the C-17 program is approaching, MDC continues to
bear additional costs in the development and initial production contracts.
MDC is incurring costs, among other things, to improve the aircraft in
preparation for the Operational Readiness Evaluation demonstration
scheduled for 1995. In part, this evaluation will be used to gather data
to determine compliance with logistical support requirements of the
contracts including warranted reliability, maintainability and
availability. The evaluation will also be used by the Under Secretary of
Defense in his previously announced end of 1995 review of the program for
future procurement of the C-17. See Note 4, Contracts in Process and
Inventories, page 8, and Results of Operations, page 18.
A-12. MDC and General Dynamics Corporation (GD) have filed a legal action
to contest the Navy's termination for default on the A-12 program. The
Navy has agreed to continue to defer repayment of $1.335 billion alleged
to be due, with interest from January 7, 1991, from MDC and GD as a result
of the termination for default of the A-12 program. The agreement
provides that it will remain in force until the dispute as to the type of
termination is resolved by the pending litigation in the U.S. Court of
Federal Claims or negotiated settlement, subject to review by the U.S.
Government annually on December 1, to determine if there has been a
substantial change in the financial condition of either MDC or GD such
that deferment is no longer in the best interest of the Government. MDC
firmly believes it is entitled to continuation of the deferment agreement
in accordance with its terms. However, if the agreement is not continued,
MDC intends to contest collection efforts. If payments of the deferred
amount were required, such payments would have a material adverse effect
on MDC's cash flows. See Note 4, Contracts in Process and Inventories,
page 8.
Results of Operations
Net earnings for the third quarter of 1994 were $161 million compared with
earnings of $142 million in 1993's third quarter. The 1994 third quarter
included earnings of $21 million related to the resolution of an issue
with the IRS over the now substantially completed prior years' tax
examination. The 1993 third quarter included earnings of $41 million from
resolution of several issues with the IRS.
Net earnings for the first nine months of 1994 were $433 million compared
with earnings of $528 million in 1993's first nine months. Unusual items
for the first nine months of 1994 totaled the aforementioned $21 million.
Unusual items in the same period of 1993 totaled $220 million, and were
related to tax issues, retiree health care cost reversal, and the sale of
McDonnell Douglas Information Systems International (MDISI). Setting
aside unusual items in both
<PAGE> 19
years, MDC had third quarter earnings in 1994 of $140 million compared
with $101 million in 1993. On a similar basis, MDC had nine month
earnings in 1994 of $412 million compared with $308 million in 1993.
Revenues for the third quarter of 1994 were slightly higher than the third
quarter of 1993. The military aircraft and commercial aircraft segments
reported increases in third quarter revenues; however, these increases
were largely offset by a decrease in revenues from the missiles, space and
electronic systems segment. Revenues decreased 11 percent for the first
nine months of 1994 compared to the year earlier period. The 1994
decrease resulted principally from reduced deliveries in the commercial
aircraft segment and MDC's reduced role in the downsized Space Station
program, partially offset by increased revenues in a few military aircraft
programs.
The military aircraft segment had record operating earnings for both the
third quarter and first nine months of 1994. The missiles, space and
electronic systems segment reported strong third quarter and nine month
operating earnings, although lower than the earnings for the same periods
in 1993. The commercial aircraft segment remained profitable during the
third quarter and first nine months of 1994. The financial services and
other segment reported strong earnings in both the third quarter and first
nine months of 1994, with significant improvement over 1993 levels.
Aerospace interest expense in the third quarter of 1994 was $33 million,
down from $53 million in the same period for 1993 after excluding from
1994 the reversal of $10 million and from 1993 the reversal of $61 million
in interest associated with the resolution of tax issues with the IRS.
Aerospace interest expense for the first nine months was $112 million,
down from $173 million in 1993's first nine months after excluding from
1994 the reversal of $10 million and from 1993 the reversal of $135
million in interest associated with the previously mentioned tax issues.
The lower interest expense reflects reduced aerospace debt.
Income taxes were $230 million in the first nine months of 1994, an
effective tax rate of 35 percent. The 1994 tax provision includes the
reversal of $15 million in the third quarter associated with the
resolution of tax issues with the IRS. Excluding discontinued operations,
taxes in 1993's first nine months were $192 million, an effective tax rate
of 28 percent. The 1993 tax provision included the reversal of $75
million, $22 million of which was reversed during the third quarter,
associated with the previously mentioned IRS matters. During 1993's third
quarter, MDC also recorded an additional tax provision of $18 million
associated with the tax increase included in the Omnibus Budget
Reconciliation Act.
In light of declining defense spending and the continuing depressed
condition of the commercial aircraft business, reported financial
information by segment may not be indicative of MDC's future operating
results.
<PAGE> 20
Three Months Ended Nine Months Ended
September 30 September 30
1994 1993 1994 1993
------ ------ ------ ------
Revenues
Military aircraft $ 1,991 $ 1,851 $ 5,729 $ 5,230
Commercial aircraft 967 868 2,366 3,469
Missiles, space and
electronic systems 420 638 1,312 1,947
Financial services and other 80 66 247 199
-------- -------- -------- --------
Operating revenues 3,458 3,423 9,654 10,845
Non-operating income 3 5 10 10
-------- -------- -------- --------
Total Revenues $ 3,461 $ 3,428 $ 9,664 $10,855
======== ======== ======== ========
Earnings
Military aircraft $ 182 $ 136 $ 501 $ 353
Commercial aircraft 8 14 35 38
Missiles, space and
electronic systems 56 63 196 260
Financial services and other 11 (2) 43 9
-------- -------- -------- --------
Operating earnings from
continuing operations 257 211 775 660
Discontinued operations,
net of income taxes - - - 37
Corporate and other (1) (1) (10) (9)
Postretirement benefit
curtailment - - - 70
Interest expense (23) 8 (102) (38)
Income taxes (72) (76) (230) (192)
-------- -------- -------- --------
Net Earnings $ 161 $ 142 $ 433 $ 528
======== ======== ======== ========
Military Aircraft
Operating revenues in the military aircraft segment increased 8 percent
for the third quarter of 1994 and 10 percent for the first nine months of
1994 compared with the same periods in 1993. Increased revenues for these
periods were primarily attributed to the F/A-18 and C-17 programs.
The military aircraft segment had record third quarter operating earnings
of $182 million, compared with $136 million in 1993's third quarter.
Operating earnings for the segment in the first nine months of 1994 were a
record $501 million, compared with $353 million in the first nine months
of 1993. Improved earnings in the F/A-18 and the C-17 programs along with
continued strong performance in most other
<PAGE> 21
major programs for both the third quarter and the nine month periods
contributed to the strong results.
The C-17 program includes a development and initial production contract
nearing completion and several current production contracts, each of which
is affected by a business settlement arranged with the DoD. Strong
performance in the current production contracts continues. In the third
quarter, losses in the development and initial production contracts were
offset with reduced cost estimates associated with the C-17 settlement.
See also "C-17 Globemaster III," page 17.
Commercial Aircraft
Commercial aircraft revenues were 11 percent higher in 1994's third
quarter as compared to the same period in 1993. The 1994 third quarter
revenues included the sale of an MD-11 trijet that had previously been on
lease, while the 1993 third quarter revenues excluded deliveries of four
MD-80's and one MD-11 to customers under lease arrangements. Commercial
aircraft revenues for the first nine months of 1994 decreased 32 percent
as compared to the prior year same period. The decrease in nine month
revenues reflects reduced aircraft deliveries and the overall softness in
the commercial aircraft market.
The commercial aircraft segment had third quarter operating earnings of $8
million compared with $14 million in 1993's third quarter. Earnings for
the first nine months of 1994 were $35 million, compared with $38 million
in the same period of 1993. Continued overhead reductions and
improvements in productivity have allowed the commercial aircraft segment
to maintain relatively stable earnings with fewer aircraft deliveries.
MDC delivered four MD-80 twin jets in the third quarter and 16 in the
first nine months of 1994, as compared with 14 in the third quarter and 38
in the first nine months of 1993. Included in the 1993 twin jet
deliveries were eight aircraft leased to customers of which four occurred
in the third quarter. MDC delivered six MD-11 trijets in the third
quarter of each year and 13 in the first nine months of 1994, as compared
with 25 in the first nine months of 1993. The 1994 third quarter also
included the sale of an MD-11 trijet previously leased. One of the 1993
third quarter MD-11 trijet deliveries was to a customer under a lease
arrangement.
Missiles, Space and Electronic Systems
Operating revenues in the missiles, space and electronic systems segment
totaled $420 million in the third quarter of 1994, down from $638 million
in the same period of 1993. Revenues through nine months decreased 33
percent in 1994 compared with the same period in 1993. Decreased revenues
were attributable to lower volume on the downsized Space Station, Delta,
and several missiles and electronic systems programs. This segment had
third quarter operating earnings of $56 million compared to $63 million in
1993's third quarter. Earnings in
<PAGE> 22
the first nine months of 1994 were $196 million, down from $260 million in
the first nine months of 1993. The third quarter of 1993 included a $51 million
charge as a result of difficulties in several electronic systems programs.
In addition, last year's first quarter included a $20 million incentive
award for achieving 100% launch success on a Delta Global Positioning
Satellite contract for the U.S. Air Force. For information regarding the
Tomahawk missiles program see also the discussion under "Military
Aerospace Business, Tomahawk," page 27.
Financial Services
Operating earnings in the financial services and other segment were $11
million for the 1994 third quarter, compared with a loss of $2 million in
the 1993 same period. The 1994 third quarter included gains from the sale
of several properties, while the 1993 third quarter included a write-down
of certain real estate holdings. Earnings for the first nine months of
1994 totaled $43 million, compared with $9 million in the 1993 same
period. The 1994 first quarter included a $20 million pre-tax gain from
the sale of commercial real estate by MDRC. The 1994 operating earnings
were also higher due to lower interest and debt expense, an operating
expense of the segment.
Discontinued Operations
The 1993 discontinued operations include the first quarter gain related to
the sale of MDISI.
Liquidity
As detailed in the following discussion, MDC believes that it has
sufficient sources of capital to meet anticipated needs. In addition to
the discussion in this section which follows, see also A-12, page 18, for
a discussion of the A-12 deferment agreement status.
Debt and Credit Arrangements. MDC has in place a number of credit
facilities with banks and other institutions. At September 30, 1994, MDC
had a revolving credit agreement under which MDC could borrow up to $1.25
billion through July 1998. There were no amounts outstanding under the
credit agreement at September 30, 1994.
In August 1992, MDC commenced an offering of up to $550 million aggregate
principal amount of its medium-term notes pursuant to a shelf registration
filed with the SEC. As of September 30, 1994, $218 million of securities
registered under the shelf registration remain unissued.
Amounts available under the revolving credit agreement and medium-term
note program may be accessed to meet cash requirements.
<PAGE> 23
On September 6, 1994, Duff & Phelps Credit Rating Company raised its
rating of MDC debt. MDC's senior debt rating was raised to BBB from BBB-.
MDFC's previous ratings of BBB and BBB- on its senior unsecured debt and
subordinated debt, respectively, were unchanged by this action.
On June 17, 1994, Standard and Poor's raised its rating on the commercial
paper of MDC and MDFC to A-2 from A-3. At the same time Standard and
Poor's affirmed MDC's and MDFC's senior long-term debt credit rating at
BBB. It also affirmed MDFC's subordinated debt credit rating at BBB- and
medium-term notes credit rating at BBB.
On March 31, 1994, Moody's Investors Service Inc. raised its ratings of
MDC and MDFC debt. MDC's senior debt rating was raised to Baa-3 from
Ba-2, while the short-term debt rating for commercial paper was upgraded to
Prime-3 from Not Prime. Ratings on the senior debt of MDFC were increased
to Baa-3 from Ba-1 and on subordinated debt to Ba-2 from Ba-3.
Shareholder Initiatives. On October 28, 1994, MDC's Board of Directors
authorized an increase in the quarterly dividend, a 3 for 1 stock split,
and a stock repurchase plan. The quarterly dividend will be increased
from 35 cents per share to 60 cents per share on a pre-split basis (20
cents per share post-split) payable on January 3, 1995, to shareholders of
record on December 2, 1994, distributable on January 3, 1995. The stock
split will be implemented by a stock dividend of two shares for each share
outstanding to shareholders of record on December 2, 1994. The stock
repurchase plan authorizes MDC to purchase up to 18 million shares on a
post-split basis, or about 15 percent of MDC's common stock. Although
funds are available under existing agreements, MDC intends to use excess
cash flow to finance the stock repurchase program and does not expect the
program to affect negatively MDC's ability to fund capital spending,
research and development, or acquisitions. The Board of Directors also
amended MDC's stock rights plan by adjusting the purchase price of
each right to $125 on a post stock-split basis and extending the term of
the plan to December 31, 2004.
Taxes. During 1991, MDC settled tax years 1977-1985 with the Internal
Revenue Service (IRS). The settlement resulted in net earnings of $32
million in 1991 and a substantial future obligation payable upon
completion of the 1986-1989 IRS audit. During 1993 and 1994 this
obligation was reduced by the resolution with the IRS of certain
accounting method and tax credit issues. The resolution of these issues
resulted in net earnings of $158 million in the first three quarters of
1993 and net earnings of $21 million in the third quarter of 1994.
Excluding the after-tax benefit for the related reduction in accrued
interest, the resolution resulted in a $75 million federal tax benefit in
1993 and a $15 million federal tax benefit in 1994. Upon substantial
completion of the 1986-1989 audit in August 1994, MDC made a tax and
interest payment to the IRS of approximately $165 million. See Note 5,
Income Taxes, page 11.
<PAGE> 24
C-17 Settlement. During January 1994, MDC reached a settlement with the
DoD which covered a range of issues related to the C-17 military aircraft
program. During the third quarter of 1994, the C-17 settlement was given
congressional approval as provided for in the FY95 defense authorization
and appropriations bills. The settlement is not expected to have any
significant adverse cash impact.
Commercial Aircraft Financing. Difficulties in the commercial aircraft
industry may continue to result in airlines not taking deliveries of
aircraft, requesting changes in delivery schedules, or defaulting on
contracts for firm orders. Aircraft delivery delays or defaults by
commercial aircraft customers not anticipated by MDC could have a negative
short-term impact on cash flow. During recent years, several airlines
filed for protection under the Federal Bankruptcy Code or became
delinquent on their obligations for commercial aircraft. As indicated in
Note 7, Commitments and Contingencies, page 13, MDC also has outstanding
guarantees of $335 million related to the marketing of commercial
aircraft. MDC does not anticipate that the existence of such guarantees
will have a material adverse effect upon its cash flow or financial
position.
Certain commercial aircraft contracts contain provisions requiring MDC to
repurchase used aircraft at the option of the commercial customers. In
view of the current market conditions for used aircraft, MDC's earnings
and cash flows could be adversely impacted by the exercise of such
options. MDC has also made offers to lease aircraft valued at
approximately $463 million and scheduled for delivery during 1995 through
1998. MDC does not anticipate that the existence of such repurchase
obligations and lease offers will have a material adverse effect upon its
cash flow or financial position.
MDC's outstanding guarantees include approximately $125 million related to
MD-11s operated by a foreign carrier. During March 1994, this carrier
notified its aircraft lenders and lessors that it was temporarily
suspending payments pending a restructuring of its financial obligations,
and requested a "standstill" agreement to protect itself from default
remedies for sixty days. MDC is currently making lease payments on behalf
of the carrier. These payments are not expected to have a significant
adverse effect on cash flow or financial position. Restructuring
discussions that were initiated with the carrier during the second quarter
are still in progress.
Trans World Airlines, Inc. (TWA), MDC's largest aircraft leasing
customer, recently proposed a restructuring plan relating to its
indebtedness and leasehold obligations to its creditors. As part of
an overall plan, TWA has requested MDC to defer six months of lease and
other payments and to convert 50% of the deferral to equity. MDC is
currently evaluating the proposal and is engaged in discussions with
TWA. While the ultimate outcome of the proposed restructuring plan
is dependent upon factors beyond the control of MDC, it is not
expected to be materially adverse to MDC.
<PAGE> 25
Financial Services. The financial services and other segment debt on
September 30, 1994 was $1.321 billion, down from $1.513 billion at
December 31, 1993. MDFS, through its MDFC subsidiary, has traditionally
obtained cash from operating activities, placement of term debt, issuances
of commercial paper, and the normal run-off of its portfolio to fund its
operations. In June 1993, MDFC commenced an offering of up to $250
million of its general term notes, its first public debt offering since
1990, and subsequently commenced offerings of up to an aggregate of $399
million of its medium-term notes. As of September 30, 1994, approximately
$91 million associated with the June 1993 offering and $310 million
associated with the medium-term notes offerings had been sold.
MDFC has also used, and in the future anticipates using, cash provided by
operations, borrowings under bank credit lines and the normal run-off of
its portfolio as its primary sources of funding. MDFC anticipates using
proceeds from the issuance of additional public debt to fund future
growth.
Business and Market Considerations
General
MDC is a major participant in both the defense and commercial aerospace
industries. MDC has a wide range of programs in production and
development, and is the world's leading producer of military aircraft.
From 1987 through 1993, MDC has been the largest U.S. defense contractor,
based on the DoD's list of prime contract awards and one of the larger
NASA prime contractors based on prime contracts awarded. MDC was the
second largest defense contractor in 1993, as indicated in a report
published by Defense News based on 1993 defense revenues. MDC is one of
the three principal manufacturers of large commercial transport aircraft
outside the former Soviet Union.
Downsizing has had and continues to have a negative impact on the
utilization of MDC's facilities and capacity, and on labor costs due to
inefficiencies caused by the reassignment of workers as a result of
layoffs. During 1992, MDC consolidated its six government aerospace
companies into one division and since then has closed or announced plans
to close several of its manufacturing facilities to streamline operations
and create greater efficiencies. MDC also communicated its strategy to
concentrate on its principal aerospace businesses, and as a result sold
non-core business assets to implement this strategy. As a result of this
strategy, MDC completed the sale of its Visual Simulation Systems (VSS)
business in January 1993, and in March 1993 sold its remaining information
technology business, MDISI, to a group of investors in the United Kingdom.
MDC continues to pursue a possible strategic alliance with organizations
throughout the world in order to enhance its commercial aircraft business.
<PAGE> 26
Employment levels were reduced 6% in the first nine months of 1994 to
65,906 as a result of further streamlining of MDC's government aerospace
companies and reduced production on several major programs. MDC has
continued its aggressive asset management plan of reducing accounts
receivable, inventory and work in process levels, as well as reducing
facilities commensurate with the levels of ongoing business.
Discussions under the captions "Military Aerospace Business," "Commercial
Aircraft Business" and "Government Business Audits, Reviews and
Investigations" reflect developments during the third quarter of 1994 and
should be read in conjunction with Management's Discussion and Analysis of
Financial Condition and Results of Operations in MDC's 1993 Annual Report
to Shareholders and in MDC's quarterly report on Form 10-Q for the
quarterly periods ended March 31, 1994 and June 30, 1994.
Military Aerospace Business
C-17 Globemaster III. The C-17 flight test program is nearing completion.
To date, the C-17 program has successfully completed ground static
qualification testing and has surpassed the halfway point in durability
testing. Flight testing is approximately 97 percent complete with the
remainder scheduled to be completed by the end of 1994.
The fourteenth and fifteenth C-17 production aircraft, P-14 and P-15, were
delivered to the Air Force ahead of schedule in August and September,
respectively. P-15 is the third C-17 in a row delivered ahead of schedule
and the first to be delivered a full month early. With the delivery of
P-14 and P-15, all of the aircraft in the 1992 Lot IV procurement have been
delivered and the first of six C-17s in the 1993 Lot V procurement has
been delivered. To date, the Air Force has taken delivery of sixteen
C-17s with P-15 being the tenth production aircraft to join the Airlift Wing
Command in Charleston, S.C., which will be the first operational C-17
unit. Currently, the unit is conducting flight and maintenance training
leading to initial operational capability in January 1995. The next two
production aircraft, P-16 and P-17, are over 90 percent complete and are
scheduled for early delivery during the fourth quarter.
For additional information regarding Government claims and inquiries on
the C-17 program, see also "Government Business Audits, Reviews and
Investigations," page 28.
F-18 Hornet. On September 23, 1994, the F/A-18 E/F Hornet assembly line
opened ahead of schedule. The F/A-18 E/F program is more than 30 percent
through development from a cost standpoint. Seven flight test aircraft
and three ground test articles will be built under the seven and a half
year contract. The advanced Hornet is scheduled to make its first flight
in December 1995 and expected to enter operational service in 2001.
<PAGE> 27
F-15 Eagle. MDC was recently awarded a $190 million contract by the U.S.
Air Force to upgrade the APG-63 radar in the F-15 C/D series Eagle. The
program will include improvements that are expected to make the upgraded
radar 10 times more reliable and maintainable than the fighter's current
system. The new radar is scheduled to begin flight testing in August 1997
and become operational in 1999.
T45TS. Upon the successful completion of a comprehensive operational
evaluation (OPEVAL) earlier in 1994, the Navy recommended that the T45TS
be approved for fleet introduction. The two phase OPEVAL, which began in
October 1993, consisted of a series of flight tests and technical
evaluations to determine the operational effectiveness and operational
suitability of the T45TS, and its readiness for fleet introduction.
MD Explorer. On July 25, 1994, the Federal Aviation Administration (FAA)
issued Type Inspection Authorization for the new MD Explorer twin jet
commercial helicopter, clearing the way for FAA certification. The MD
Explorer is on schedule for completion of all testing and issuance of the
FAA Type Certificate in December 1994. First deliveries of the
MD Explorer are expected to commence upon certification.
Tomahawk. Earlier in 1994, MDC and Hughes Missiles Systems Company
(Hughes) submitted proposals to the Navy to become the exclusive
contractor for the Tomahawk Cruise Missile. During the third quarter, the
Navy selected Hughes for FY94-98 missile production, depot maintenance and
flight operations in addition to a requirement for the development of the
Block IV Tomahawk missile. MDC has filed a protest with the Navy seeking
more information regarding the Navy's selection decision. Under the
existing contract, MDC's production role in the Tomahawk program will be
eliminated after the FY93 production is completed in mid 1995. MDC is
currently reviewing alternatives for the Tomahawk production facility
located in Florida.
Delta Clipper. During the third quarter, NASA awarded MDC a series of
cooperative research agreements, associated with the Delta Clipper (DC-X),
valued at approximately $43 million. Under these agreements, MDC will
develop specified reusable launch vehicle technologies and integrate key
advanced technology components into the DC-X, with the resulting vehicle
designated the DC-XA. DC-XA integrated system ground tests and flight
tests are expected to begin early in 1996.
Delta. On November 1, 1994, the Delta II rocket launched its 49th
consecutive successful flight. Over the past 16 years and 93 launches,
Delta rockets have maintained a 98.9% success rate.
Commercial Aircraft Business
The commercial aircraft business continues to be highly market sensitive,
and therefore competition and pricing are very aggressive. Difficulties
in the commercial aircraft industry have resulted and may
<PAGE> 28
continue to result in airlines not taking deliveries of aircraft,
requesting changes in delivery schedules, defaulting on contracts for firm
orders or not exercising options or reserves. MDC has refrained from
obtaining new business through drastic price reductions, instead focusing
on cost control measures.
On February 16, 1994, Saudi Arabian Airlines announced its intention of
purchasing a total of 50 commercial airliners from MDC and Boeing.
Negotiations with Saudia are in process; however, the number and types of
aircraft have not yet been finally determined. No firm orders were
received from Saudia during the first nine months of 1994.
During the third quarter, firm orders on MD-80 twin jets increased by four
and on MD-11 trijets decreased by one. In July 1994, MDC and Martinair
Holland announced one new order and two options for the freighter version
of the MD-11. On September 9, 1994, AOM French Airlines and MDC agreed to
the replacement of firm orders for two MD-11 trijets with orders for four
MD-80 twin jets to be delivered in the fourth quarter of 1994.
On June 30, 1994, MDC and General Dynamics Corporation (GD) agreed to
terminate their contract for the production of fuselage sections for the
MD-11 jetliner. The agreement transfers responsibility for the MD-11
fuselage production to MDC over the next 18 months. Under the agreement,
GD will increase production of MD-11 fuselage sections to build additional
inventory and assist in the transfer process. MDC plans to move the work
to a new location, with a decision on the location to be made later this
year.
On September 21, 1994, the first production model of the MD-90 made its
first flight, three days ahead of schedule. The MD-90 is currently on
schedule to obtain type certification from the FAA in November. Delivery
of the first of the intermediate-range twin jets is scheduled for February
1995.
In July 1994, MDC began to solicit airline orders for a new 100-seat,
medium range twin-jet, called the MD-95, proposed to serve airline needs
on routes with relatively light traffic or where demand for frequent
departures limits the number of passengers on each flight. Formal launch
of the MD-95 is subject to meeting certain launch criteria, including
receipt of sufficient orders from airline and leasing company customers.
Government Business Audits, Reviews and Investigations
MDC, as a large defense contractor, is subject to many audits, reviews and
investigations by the U.S. Government of its negotiation and performance
of, accounting for, and general practices relating to Government
contracts. An indictment of a contractor may result in suspension from
eligibility for award of any new government contract, and a guilty plea or
conviction may result in debarment from eligibility for awards. The
Government may, in certain cases, also
<PAGE> 29
terminate existing contracts, recover damages, and impose other sanctions
and penalties. Based upon presently known facts, MDC believes that it has
not engaged in any criminal misconduct with respect to any of the matters
currently known to be under investigation and that the ultimate resolution
of these investigations will not have a material adverse effect on MDC's
financial position.
In March 1991, the Securities and Exchange Commission (SEC) issued a
Formal Order of Private Investigation (the "1991 SEC Investigation")
looking into whether MDC violated the Securities Act of 1933 and the
Securities Exchange Act of 1934 in connection with disclosures about and
accounting for the A-12. In February 1993, the SEC issued subpoenas
requesting additional information and broadened its inquiry to include the
C-17 and possibly other programs. MDC believes that it has properly
reported and disclosed information and accounted for its programs in
accordance with generally accepted accounting principles.
In January 1993, the DoD Inspector General (IG) completed an inquiry into
an allegation of favoritism and advantageous treatment accorded MDC by the
DoD in connection with the C-17 Globemaster III program. The IG's report
questioned contracting actions and payments by the U.S. Air Force and
related information provided by the U.S. Air Force and MDC personnel. MDC
believes that it properly reported and disclosed information relative to
the C-17 contract and that it properly submitted bills to and was paid by
the U.S. Air Force in accordance with DoD rules then in effect for work
performed. In April 1993, the Air Force issued an extensive report
responding to the allegations made by the IG. Although the Air Force
report reflected the difference between the parties concerning the
segregation and payment of certain C-17 engineering costs, the report
concluded that there was no illegal or improper plan or actions taken to
provide payments to MDC and that the integrity of the acquisition system
had not been compromised. In a November 1993 reply, the IG reasserted his
conclusion that there had been an Air Force plan to assist MDC that
exceeded the limits of what was permissible.
In May 1993, a Defense Acquisition Board (DAB) initiated by the Under
Secretary of Defense for Acquisitions began a review of the C-17 program
in an effort to resolve outstanding issues and to make recommendations
regarding the C-17's future. In connection with the review, MDC provided
data and participated in numerous discussions. The DoD, in conjunction
with the DAB, submitted a proposal to MDC in December 1993 for a business
settlement of a variety of issues concerning the C-17 program. In January
1994, MDC and the DoD agreed to such a settlement.
The settlement covered many issues open as of the date of the settlement,
including the allocation of sustaining engineering costs to the
development and production contracts, the sharing of flight test costs
over a previous level, and the resolution of claims and of
performance/specification issues. Terms of the settlement also stipulate
that MDC will expend funds on new or modified systems and on
<PAGE> 30
product improvements. During the third quarter of 1994, the C-17
settlement was given congressional approval as provided for in the FY95
defense authorization and appropriations bills, subject to certain
limitations on the Air Force's ability to obligate settlement funds. The
Air Force and the DoD are in the process of complying with the
legislation. MDC and the Air Force are developing contractual
modifications and agreements to implement the settlement. While some
aspects of the compliance process are ongoing, MDC and the Air Force will
execute the contract modifications and agreements when applicable
compliance is completed. See also Note 4, Contracts in Process and
Inventories, page 8.
<PAGE> 31
PART II OTHER INFORMATION
-----------------
ITEM 1. LEGAL PROCEEDINGS
-----------------
On August 23, 1994 a consent judgment was entered in the
Superior Court of Los Angeles County, California arising out
of an action by the California attorney general with respect
to emissions to the air from certain of MDC's southern
California facilities. The attorney general alleged that MDC
had not provided an adequate warning under state
statutes, that the emissions constituted a statutory
nuisance, and that the same acts also constituted an unlawful
business practice. MDC agreed to pay a $70,000 civil
penalty, reimburse the attorney general for $25,000 of its
litigation costs, and contribute $30,000 to a not-for-profit
foundation. MDC also agreed to upgrade the filter systems on
three paint booths.
On August 2, 1994, MDC received notice of a complaint filed by
the Long Beach, California city prosecutor against MDC in the
Long Beach Municipal Court arising out of a spill of jet fuel
to the storm sewer system. The complaint alleges violations
of State law for: disposal of hazardous waste without a
permit; discharge of a water pollutant without providing the
proper report; discharging oil to marine waters; failure to
immediately report the spill; permitting petroleum to pass
into waters of the state; and discharging a substance
deleterious to wildlife. The complaint seeks statutory
penalties. Settlement negotiations are in progress.
Resolution of this matter is not expected to have a
materially adverse impact on MDC.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
(a) Exhibits
--------
(27) Financial Data Schedule.
(99) Computation of Ratio of Earnings to Fixed Charges.
(b) Reports on Form 8-K
-------------------
None.
<PAGE> 32
SIGNATURE
- ---------
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by
the undersigned, its principal accounting officer, thereunto duly
authorized.
MCDONNELL DOUGLAS CORPORATION
-----------------------------
(Registrant)
Date: November 14, 1994 /s/ R. L. Brand
----------------------- -------------------------------
R. L. Brand
Vice President and Controller
and Registrant's Authorized
Officer
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Consolidated Statement of Earnings of McDonnell Douglas Corporation for the
nine months ended September 30, 1994, and the Consolidated Balance Sheet as of
September 30, 1994. Such information is qualified in its entirety by reference
to such Consolidated Financial Statements.
</LEGEND>
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1994
<PERIOD-END> SEP-30-1994
<CASH> 262
<SECURITIES> 0
<RECEIVABLES> 710
<ALLOWANCES> 0
<INVENTORY> 5,907
<CURRENT-ASSETS> 0
<PP&E> 4,230
<DEPRECIATION> 2,602
<TOTAL-ASSETS> 12,089
<CURRENT-LIABILITIES> 0
<BONDS> 0
<COMMON> 40
0
0
<OTHER-SE> 3,778
<TOTAL-LIABILITY-AND-EQUITY> 12,089
<SALES> 9,371
<TOTAL-REVENUES> 9,664
<CGS> 8,760
<TOTAL-COSTS> 9,001
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 193
<INCOME-PRETAX> 663
<INCOME-TAX> 230
<INCOME-CONTINUING> 433
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 433
<EPS-PRIMARY> 10.98
<EPS-DILUTED> 10.98
</TABLE>
Exhibit 99
McDonnell Douglas Corporation
Computation of Ratio of Earnings to Fixed Charges
Nine Months Ended September 30, 1994
(Dollars in Millions)
Earnings
Earnings from continuing operations
before income taxes $ 663
Add: Interest expense 193
Interest factor in rents 11
Amortization of capitalized interest 1
-----
$ 868
=====
Fixed Charges
Interest expense $ 193
Interest factor in rents 11
-----
$ 204
=====
Ratio of earnings to fixed charges 4.3X
=====
