UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

FORM 8-K

CURRENT REPORT

 

 

PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

 

 

Date of Report (Date of earliest event reported)

 

 

June 17, 2011

For the quarterly period ended December 31, 2010

 

NORTHROP GRUMMAN CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

 

1840 Century Park East, Los Angeles, California 90067 (310) 553-6262

(Address and telephone number of principal executive offices)

 

 

Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions:

 

 

o  Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)

 

 

o  Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)

 

 

o  Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))

 

 

o  Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))

 

 

NORTHROP GRUMMAN CORPORATION

 

 

Northrop Grumman Corporation (the “company”) is filing this Current Report on Form 8-K to recast the presentation of its consolidated financial statements that were initially filed with the Securities and Exchange Commission (“SEC”) on February 9, 2011 in our Annual Report on Form 10-K for the year ended December 31, 2010 (the “Form 10-K”). The recasting reflects the reclassification of our Shipbuilding business (“Shipbuilding”) as discontinued operations.

 

Effective March 31, 2011, we completed the spin-off to our shareholders of Huntington Ingalls Industries, Inc. (“HII”), which was formed to operate the company’s Shipbuilding business. The spin-off was the culmination of our exploration of strategic alternatives for Shipbuilding. We believe that the separation of Shipbuilding is in the best interests of shareholders, customers, and employees and allows both Northrop Grumman and Shipbuilding to pursue more effectively their respective opportunities to maximize shareholder value. As a result of the spin-off, the assets, liabilities, results of operations and cash flows for the former Shipbuilding segment were classified as discontinued operations in our condensed consolidated financial statements and other disclosures included in our Form 10-Q for the quarter ended March 31, 2011, (the “First Quarter 10-Q”).

 

The SEC requires a registrant to include or incorporate by reference in a registration statement filed with the SEC under the Securities Act of 1933 (the “Securities Act”), recasted information for previously issued financial statements whenever a component of the registrant is reflected as discontinued operations in financial statements for subsequent periods. Accordingly, we are revising and including in this Form 8-K the following portions of the Form 10-K: Business (Item 1), Selected Financial Data (Item 6), Management’s Discussion and Analysis of Financial Condition and Results of Operations (Item 7) and Financial Statements and Supplementary Data (Item 8).

 

In order to preserve the nature and character of the disclosures set forth in the Form 10-K, the items included in this Form 8-K have been updated solely for matters relating specifically to the reclassification of Shipbuilding as discontinued operations as described above. No attempt has been made in the Form 8-K, and it should not be read, to modify or update other disclosures as presented in the Form 10-K to reflect events or occurrences after the date of the filing of the Form 10-K, February 9, 2011. Therefore, this Form 8-K should be read in conjunction with the Form 10-K filed February 9, 2011, and the company’s filings made with the SEC subsequent to the filing of the Form 10-K, including the First Quarter 10-Q. References in the attached exhibits to the Form 10-K or parts thereof refer to the Form 10-K for the year ended December 31, 2010, except to the extent portions of such Form 10-K have been recast in this Form 8-K, in which case, they refer to the applicable recast portion in this Form 8-K.

 

 

(d) Exhibits.

 

Exhibit 12(a) Computation of Ratio of Earnings to Fixed Charges*

 

Exhibit 23 Consent of Independent Registered Public Accounting Firm*

 

Exhibit 99.1 Item 1. Business*

 

Exhibit 99.2 Item 6. Selected Financial Data*

 

Exhibit 99.3 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations*

 

Exhibit 99.4 Item 8. Financial Statements and Supplementary Data*

 

 

 

NORTHROP GRUMMAN CORPORATION

 

SIGNATURE(S)

 

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 hereunto duly authorized.

 

NORTHROP GRUMMAN CORPORATION

(Registrant)

 

(Signature)

Jennifer C. McGarey

Corporate Vice President and Secretary

 

June 17, 2011

(Date)

 

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT INDEX

 

Exhibit 12(a) Computation of Ratio of Earnings to Fixed Charges*

 

Exhibit 23 Consent of Independent Registered Public Accounting Firm*

 

Exhibit 99.1 Item 1. Business*

 

Exhibit 99.2 Item 6. Selected Financial Data*

 

Exhibit 99.3 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations*

 

Exhibit 99.4 Item 8. Financial Statements and Supplementary Data*

 

 

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT 12(a)

 

COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES

 

 

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT 23

 

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

We consent to the incorporation by reference in Registration Statement Nos. 033-59815, 033-59853, 333-67266, 333-100179, 333-107734, 333-121104, 333-125120 and 333-127317 on Form S-8; Registration Statement No. 333-152596 on Form S-3; and Registration Statement Nos. 333-83672 on Form S-4 of our reports dated February 8, 2011 (June 16, 2011 as to the reclassification of the Shipbuilding segment as discontinued operations as described in Note 1), relating to the financial statements of Northrop Grumman Corporation appearing in this Current Report on Form 8-K of Northrop Grumman Corporation dated June 17, 2011.

 

Los Angeles, California

June 16, 2011

 

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT 99.1

 

Item 1. Business

 

HISTORY AND ORGANIZATION

 

History

Northrop Grumman Corporation (herein referred to as “Northrop Grumman”, the “company”, “we”, “us”, or “our”) is an integrated enterprise consisting of businesses that address the global security spectrum, from undersea to outer space and into cyberspace. The companies that are part of today’s Northrop Grumman have achieved historic accomplishments, from transporting Charles Lindbergh across the Atlantic to carrying astronauts to the moon’s surface and back.

 

The company was originally formed as Northrop Corporation in California in 1939 and was reincorporated in Delaware in 1985. From 1994 through 2002, we entered a period of significant expansion through acquisitions of other businesses, most notably:

 

 

Since 2002, other notable acquisitions include Integic Corporation (2005), an information technology provider specializing in enterprise health and business process management solutions and Essex Corporation (2007), a signal processing product and services provider to U.S. intelligence and defense customers. In addition, we divested our Advisory Services Division, TASC, Inc., in 2009. See Business Acquisitions and Business Dispositions in Part II, Item 7.

 

These and other transactions have shaped us into our present position as a premier provider of technologically advanced, innovative products, services and solutions in aerospace, electronics, and information and services. As prime contractor, principal subcontractor, partner, or preferred supplier, we participate in many high-priority defense and commercial technology programs in the U.S. and abroad. We conduct most of our business with the U.S. Government, principally the Department of Defense (DoD). We also conduct business with local, state, and foreign governments, and domestic and international commercial customers. For a discussion of risks associated with our DoD and foreign operations, see Risk Factors in Part I, Item 1A.

 

Subsequent Event – Effective March 31, 2011, we completed the spin-off to our shareholders of Huntington Ingalls Industries, Inc. (HII), which was formed to operate the business that was previously our Shipbuilding business (Shipbuilding). The spin-off was the culmination of our exploration of strategic alternatives for Shipbuilding. We believe that the separation of Shipbuilding is in the best interests of shareholders, customers, and employees and allows both Northrop Grumman and Shipbuilding to pursue more effectively their respective opportunities to maximize shareholder value. As a result of the spin-off, the assets, liabilities, results of operations

 

NORTHROP GRUMMAN CORPORATION

 

and cash flows for the former Shipbuilding segment have been reclassified as discontinued operations for all periods presented. See Notes 1 and 6 to our consolidated financial statements in Part II, Item 8 for further information.

 

Organization

From time to time, we acquire or dispose of businesses, and realign contracts, programs or business areas among and within our operating segments that possess similar customers, expertise, and capabilities. Internal realignments are designed to more fully leverage existing capabilities and enhance development and delivery of products and services. The operating results for all periods presented have been revised to reflect these changes made through December 31, 2010.

 

As of December 31, 2010, we are aligned into four operating segments: Aerospace Systems, Electronic Systems, Information Systems, and Technical Services. See Note 7 to our consolidated financial statements in Part II, Item 8.

 

AEROSPACE SYSTEMS

 

Aerospace Systems, headquartered in Redondo Beach, California, is a leading designer, developer, integrator and producer of manned and unmanned aircraft, spacecraft, high-energy laser systems, microelectronics and other systems and subsystems critical to maintaining the nation’s security and leadership in technology. Aerospace Systems’ customers, primarily government agencies, use these systems in many different mission areas including intelligence, surveillance and reconnaissance; communications; battle management; strike operations; electronic warfare; missile defense; earth observation; space science; and space exploration. The segment consists of four business areas: Strike & Surveillance Systems, Space Systems, Battle Management & Engagement Systems, and Advanced Programs & Technology.

 

Strike & Surveillance Systems – designs, develops, manufactures and integrates tactical and long-range strike aircraft systems, unmanned systems, and missile systems. These include the RQ-4 Global Hawk unmanned reconnaissance system, B-2 stealth bomber, F-35 Lightning II, F/A-18 Super Hornet strike fighter, Minuteman III Intercontinental Ballistic Missile (ICBM), MQ-8B Fire Scout unmanned aircraft system, Multi-Platform Radar Technology Insertion Program (MP-RTIP), and aerial targets.

 

Space Systems – designs, develops, manufactures, and integrates spacecraft systems, subsystems and electronic and communications payloads.  Major programs include the James Webb Space Telescope (JWST), Advanced Extremely High Frequency (AEHF) payload, Space Tracking and Surveillance System (STSS) and many restricted programs.

 

Battle Management & Engagement Systems – designs, develops, manufactures, and integrates airborne early warning, surveillance, battlefield management, and electronic warfare systems. Key programs include the E-2 Hawkeye, Joint Surveillance Target Attack Radar System (Joint STARS), Broad Area Maritime Surveillance (BAMS) unmanned aircraft system, Long Endurance Multi Intelligence Vehicle (LEMV), the EA-6B Prowler, and its next generation platform, the EA-18G Growler.

 

Advanced Programs & Technology – creates advanced technologies and concepts to satisfy existing and emerging customer needs. This business area matures these technologies and concepts to create and capture new programs that other Aerospace Systems business areas can execute. Existing programs include the Navy Unmanned Combat Air System (N-UCAS), the Airborne Laser Test Bed (ALTB), and other directed energy and advanced concepts programs.

 

NORTHROP GRUMMAN CORPORATION

 

ELECTRONIC SYSTEMS

 

Electronic Systems, headquartered in Linthicum, Maryland, is a leader in the design, development, manufacture, and support of solutions for sensing, understanding, anticipating, and controlling the environment for our global military, civil, and commercial customers and their operations. Electronic Systems provides a variety of defense electronics and systems, airborne fire control radars, situational awareness systems, early warning systems, airspace management systems, navigation systems, communications systems, marine systems, space systems, and logistics services. The segment consists of five business areas: Intelligence, Surveillance, & Reconnaissance Systems; Land & Self Protection Systems; Naval & Marine Systems; Navigation Systems; and Targeting Systems.

 

Intelligence, Surveillance & Reconnaissance (ISR) Systems – delivers products and services for space satellite applications, airborne and ground based surveillance, multi-sensor processing and analysis to provide battlespace awareness, missile defense, and command and control. The division also develops advanced space-based radar and electro-optical early warning and surveillance systems for strategic, tactical, and weather operations along with systems for enhancing the discovery, sharing, and exploitation of ISR data. Key products include the Space Based Infrared System (SBIRS), Defense Meteorological Satellite Program (DMSP), Defense Support Program (DSP), ground processing, exploitation and dissemination systems, the TPS-78/703 family of ground based surveillance radars, and the Multi-role Electronically Scanned Array (MESA) radar.

 

Land & Self Protection Systems – delivers products, systems, and services that support ground-based, helicopter and fixed wing platforms (manned and unmanned) with sensor and protection systems. These systems perform threat detection and countermeasures that defeat infrared and radio frequency (RF) guided missile and tracking systems. The division also provides integrated electronic warfare capability, communications, and intelligence systems; unattended ground sensors; automatic test equipment; and advanced threat simulators. Key programs include the U.S. Marine Corps Ground/Air Task Oriented Radar (G/ATOR) multi-mission radar; the Large Aircraft Infrared Countermeasures (LAIRCM) system for the U.S. Air Force, U.S. Navy, and strategic international and NATO allies; the AN/ALQ-131(V) electronic countermeasures pods; the LR-100 high-performance radar warning receiver (RWR)/electronic support measures (ESM)/electronic intelligence (ELINT) receiver system; the U.S. Army’s STARLite synthetic aperture radar for Unmanned Aerial Vehicles (UAVs); the U.S. Army Vehicle Intercom Systems (VIC 3 and VIC-5); the U.S. Army Next Generation Automated Test System (NGATS); the U.S. Air Force Joint Threat Emitter (JTE) training range system; and the Vehicle and Dismount Exploitation Radar (VADER) system that enables UAVs to track individual persons or vehicles.

 

Naval & Marine Systems – delivers products and services to defense, civil, and commercial markets supporting smart navigation, shipboard radar surveillance, ship control, machinery control, integrated combat management systems for naval surface ships, high-resolution undersea sensors (for mine hunting, situational awareness, and other applications), unmanned marine vehicles, shipboard missile and encapsulated payload launch systems, propulsion and power generation systems, and nuclear reactor instrumentation and control. Key products include integrated bridge and navigation systems, voyage management system, integrated platform management systems, integrated combat Management System, AN/WSN 7 Gyro Navigator, anti-ship missile defense and surveillance radars (Cobra Judy, AN/SPQ 9B, AN/SPS 74), and propulsion equipment and missile launch systems for the Virginia-class submarines.

 

Navigation Systems – delivers products and services to defense, civil, and commercial markets supporting situational awareness, inertial navigation in all domains (air, land, sea, and space), embedded Global Positioning Systems, Identification Friend or Foe (IFF) systems, acoustic sensors, cockpit video monitors, mission computing, and integrated avionics and electronics systems. Key products include the Integrated Avionics System, the AN/TYQ-23 Aircraft Command and Control System, Fiber Optic Acoustic Sensors, and a robust portfolio of inertial sensors and navigation systems.

 

Targeting Systems – delivers products and services supporting airborne combat avionics (fire control radars, multi-function apertures and pods), airborne electro-optical/infrared targeting systems, and laser/electro-optical systems including hand-held, tripod-mounted, and ground or air vehicle mounted systems. Key products include fire

 

NORTHROP GRUMMAN CORPORATION

 

control radars for the B-1B, F-16 (worldwide), F-22 U.S. Air Force, and F-35; the AN/APN 241 navigation/weather radar; the AN/AAQ 28(V) LITENING family of targeting pods; Distributed Aperture EO/IR systems; and the Lightweight Laser Designator Rangefinder (LLDR).

 

In addition to the product and service lines discussed above, the Electronic Systems segment includes the Advanced Concepts & Technologies Division (AC&TD), an organization that develops next-generation systems, technologies, and architectures to position the segment in key developing markets. AC&TD focuses on understanding customer mission needs, conceiving affordable solutions, and demonstrating the readiness and effectiveness of Electronic Systems’ products, including all types of sensors, microsystems, and associated information systems. The segment uses a “Product Ownership” approach, which guides the transition of new technology from laboratory to market and implements multi-function modular open systems architecture product families that are readily reconfigurable and scalable to support new requirements, new products or component obsolescence.

 

INFORMATION SYSTEMS

 

Information Systems, headquartered in McLean, Virginia, is a leading global provider of advanced solutions for the DoD, national intelligence, federal civilian, state and local agencies, and commercial customers. Products and services are focused on the fields of command, control, communications, computers and intelligence; air and missile defense; airborne reconnaissance; intelligence processing; decision support systems; cybersecurity; information technology; and systems engineering and integration. The segment consists of three business areas: Defense Systems; Intelligence Systems; and Civil Systems.

 

Defense Systems – is a major end-to-end provider of net-enabled Battle Management C4ISR systems, decision superiority, and mission-enabling solutions and services in support of the national defense and security of our nation and its allies. The division is a prime developer and integrator of many of the DoD’s programs-of-record, particularly for command and control and communications for the U.S. Air Force, U.S. Army, U.S. Navy, and Joint Forces. Major products and services include Enterprise Infrastructure and Applications, Mission Systems Integration, Military Communications & Networks, Battle Management C2 and Decision Support Systems, Global and Operational C2, Ground and Maritime Combat Systems, Air and Missile Defense, Combat Support Solutions and Services, Defense Logistics Automation, and Force and Critical Infrastructure Protection. Systems are installed in operational and command centers world-wide and across all DoD services and joint commands.

 

Intelligence Systems – is focused on the delivery of world-class systems and services to the U.S. intelligence community. Major offerings include Studies & Analysis, Systems Development, Enterprise IT, Prime Systems Integration, Products, Sustainment, and Operations and Maintenance. The division focuses on several mission areas including Airborne ISR, Geospatial Intelligence, Ground Systems, Integrated Intelligence and dynamic Cyber defense. Sustaining and growing the business in today’s market mandates sharing meaningful information across agencies through development of cost effective systems that are responsive to mutual requirements. Intelligence Systems is also creating new responsive capabilities leveraging existing systems to provide solutions to customer needs through labs and integration centers.

 

Civil Systems – provides specialized information systems and services in support of critical government civil missions, such as homeland security, public health, cyber security, air traffic management and public safety. Primary customers are federal civilian, state and local agencies, and the U.S. Postal Service. Civil Systems develops and implements solutions that combine a deep understanding of civil government domains with core expertise in prime systems integration, enterprise applications development, and high value IT services including cyber security, identity management and advanced network communications.

 

TECHNICAL SERVICES

 

Technical Services, headquartered in Herndon, Virginia, is a provider of logistics, infrastructure, and sustainment support, while also providing a wide array of technical services including training and simulation. The segment

 

NORTHROP GRUMMAN CORPORATION

 

consists of three business areas: Defense and Government Services; Training Solutions, and Integrated Logistics and Modernization.

 

Defense and Government Services – provides logistics, maintenance and reconstitution services, as well as civil engineering work, aerial and ground range operations in support of the military, technical support functions which include space launch services, construction, protective and emergency services, and range-sensor-instrumentation operations. Primary customers include the Department of Energy (DoE), the DoD, the Department of Homeland Security, and the U.S. intelligence community, in both domestic and international locations.

 

Training Solutions – provides training across the live, virtual and constructive domains to both the U.S. military and International peacekeeping forces, designs and develops future conflict training scenarios, and provides U.S. warfighters and allies with tactics, techniques and procedures to be successful on the battlefield. This business area also offers diverse training applications ranging from battle command to professional military education. Primary customers include the DoD, Department of State, and Department of Homeland Security.

 

Integrated Logistics and Modernization – provides life cycle product support and weapons system sustainment. This business area is focused on providing Performance Based Logistical support to the warfighter including supply chain management services, warehousing and inventory transportation, field services and mobilization, sustaining engineering, maintenance, repair and overhaul, and ongoing weapon maintenance and technical assistance. The group specializes in performing Contractor Logistics Support of both original equipment manufacturer (OEM) and third party aviation platforms involving maintenance, modification, modernization and rebuilding essential parts and assemblies. Primary customers include the DoD as well as international military and commercial customers.

 

Corporate

Our principal executive offices are located at 1840 Century Park East, Los Angeles, California 90067. Our telephone number is (310) 553-6262 and our home page on the Internet is www.northropgrumman.com. References to our website in this report are provided as a convenience and do not constitute, and should not be viewed as, incorporation by reference of the information contained on, or available through, the website. Therefore, such information should not be considered part of this report. See Properties in Part I, Item 2.

 

SUMMARY SEGMENT FINANCIAL DATA

 

For a more complete understanding of our segment financial information, see Segment Operating Results in Part II, Item 7, and Note 7 to our consolidated financial statements in Part II, Item 8.

 

CUSTOMERS AND REVENUE CONCENTRATION

 

Our primary customer is the U.S. Government. Revenue from the U.S. Government (which includes Foreign Military Sales) accounted for approximately 90 percent of total revenues in 2010, 2009, and 2008. No single product or service accounted for more than ten percent of total revenue during any period presented. See Risk Factors in Part I, Item 1A.

 

PATENTS

 

The following table summarizes the number of patents we own or have pending as of December 31, 2010:

 

 

Patents developed while under contract with the U.S. Government may be subject to use by the U.S. Government. We license intellectual property to, and from, third parties. We believe our ability to conduct

 

NORTHROP GRUMMAN CORPORATION

 

operations would not be materially affected by the loss of any particular intellectual property right. See Risk Factors in Part I, Item 1A.

 

SEASONALITY

 

No material portion of our business is considered to be seasonal. Our revenue recognition timing is based on several factors, including the timing of contract awards, the incurrence of contract costs, cost estimation, and unit deliveries. See Critical Accounting Policies, Estimates, and Judgments – Revenue Recognition in Part II, Item 7.

 

BACKLOG

 

At December 31, 2010, total backlog was $46.8 billion compared with $48.7 billion at the end of 2009. Approximately 55 percent of backlog at December 31, 2010, is expected to be converted into sales in 2011.

 

Total backlog includes both funded backlog (firm orders for which funding is contractually obligated by the customer) and unfunded backlog (firm orders for which funding is not currently contractually obligated by the customer). Unfunded backlog excludes unexercised contract options and unfunded indefinite delivery indefinite quantity (IDIQ) orders. For multi-year services contracts with non-federal government customers having no stated contract values, backlog includes only the amounts committed by the customer. Backlog is converted into sales as work is performed or deliveries are made. For backlog by segment see Backlog in Part II, Item 7.

 

RAW MATERIALS

 

While we have generally been able to obtain key raw materials required in our production processes in a timely manner, a significant delay in supply deliveries could have a material adverse effect on our consolidated financial position, results of operations, or cash flows. See Risk Factors in Part I, Item 1A and Overview – Outlook in Part II, Item 7.

 

GOVERNMENT REGULATION

 

Our businesses are affected by numerous laws and regulations relating to the award, administration and performance of U.S. Government contracts. See Risk Factors in Part I, Item 1A.

 

The U.S. Government generally has the ability to terminate our contracts, in whole or in part, without prior notice, for convenience or for default based on performance. If any of our U.S. Government contracts were to be terminated for convenience, we would generally be protected by provisions covering reimbursement for costs incurred on the contracts and profit on those costs, but not the anticipated profit that would have been earned had the contract been completed. In the rare circumstance where a U.S. Government contract does not have such termination protection, we attempt to mitigate the termination risk through other means. Termination resulting from our default may expose us to liability and could have a material adverse effect on our ability to compete for contracts. See Risk Factors in Part I, Item 1A.

 

Certain programs with the U.S. Government that are prohibited by the customer from being publicly discussed in detail are referred to as “restricted” in this Form 10-K. The consolidated financial statements and financial information in this Form 10-K reflect the operating results of restricted programs under accounting principles generally accepted in the United States of America (GAAP). See Risk Factors in Part I, Item 1A.

 

RESEARCH AND DEVELOPMENT

 

Our research and development activities primarily include independent research and development (IR&D) efforts related to government programs. IR&D expenses are included in general and administrative expenses and are generally allocated to U.S. Government contracts. IR&D expenses totaled $580 million, $588 million, and $543 million in 2010, 2009, and 2008, respectively. We charge expenses for research and development sponsored by the customer directly to the related contracts.

 

NORTHROP GRUMMAN CORPORATION

 

EMPLOYEE RELATIONS

 

We believe that we maintain good relations with our 79,600 employees, of which approximately 3,900 are covered by 22 collective bargaining agreements. We negotiated or re-negotiated five of our collective bargaining agreements in 2010. These negotiations had no material adverse effect on our results of operations. For risks associated with collective bargaining agreements, see Risk Factors in Part I, Item 1A.

 

ENVIRONMENTAL MATTERS

 

Our manufacturing operations are subject to and affected by federal, state, foreign, and local laws and regulations relating to the protection of the environment. We provide for the estimated cost to complete environmental remediation where we determine it is probable that we will incur such costs in the future to address environmental impacts at currently or formerly owned or leased operating facilities, or at sites where we are named a Potentially Responsible Party (PRP) by the U.S. Environmental Protection Agency (EPA) or similarly designated by other environmental agencies. These estimates may change given the inherent difficulty in estimating environmental cleanup costs to be incurred in the future due to the uncertainties regarding the extent of the required cleanup, determination of legally responsible parties, and the status of laws, regulations, and their interpretations.

 

We assess the potential impact on our financial statements by estimating the possible remediation costs that we could reasonably incur on a site-by-site basis. These estimates consider our environmental engineers’ professional judgment and, when necessary, we consult with outside environmental specialists. In most instances, we can only estimate a range of reasonably possible costs. We accrue our best estimate when determinable or the minimum amount when no single amount is more probable. We record accruals for environmental cleanup costs in the accounting period in which it becomes probable we have incurred a liability and the costs can be reasonably estimated. We record insurance recoveries only when we determine that collection is probable. Our environmental remediation accruals do not include any litigation costs related to environmental matters, nor do they include any amounts recorded as asset retirement obligations.

 

We estimate that at December 31, 2010, the range of reasonably possible future costs for environmental remediation sites is $277 million to $671 million, of which we accrued $106 million in other current liabilities and $207 million in other long-term liabilities in the consolidated statements of financial position. We record environmental accruals on an undiscounted basis. At sites involving multiple parties, we provide environmental accruals based upon our expected share of liability, taking into account the financial viability of other jointly liable parties. We expense or capitalize environmental expenditures as appropriate. Capitalized expenditures relate to long-lived improvements in currently operating facilities. We may have to incur costs in addition to those already estimated and accrued if other PRPs do not pay their allocable share of remediation costs, which could have a material effect on our consolidated financial position, results of operations, or cash flows. We have made the investments we believe necessary to comply with environmental laws.

 

We could be affected by future laws or regulations, including those enacted in response to climate change concerns and other actions known as “green initiatives.” We established a goal of reducing our greenhouse gas emissions over a five-year period through December 31, 2014. To comply with existing green initiatives and our greenhouse gas emissions goal, we expect to incur capital and operating costs, but at this time we do not expect that such costs will have a material adverse effect on our financial position, results of operations or cash flows.

 

COMPETITIVE CONDITIONS

 

We compete with many companies in the U.S. defense industry and the information and services markets for a number of programs, both large and small. In the U.S. defense industry, Lockheed Martin Corporation, The Boeing Company, Raytheon Company, General Dynamics Corporation, L-3 Communications Corporation, SAIC, and BAE Systems Inc. are our primary competitors. Intense competition and long operating cycles are both key characteristics of our business and the defense industry. It is common in the defense industry for work on major programs to be shared among a number of companies. A company competing to be a prime contractor

 

NORTHROP GRUMMAN CORPORATION

 

may, upon ultimate award of the contract to another competitor, become a subcontractor for the ultimate prime contracting company. It is not unusual to compete for a contract award with a peer company and, simultaneously, perform as a supplier to or a customer of that same competitor on other contracts, or vice versa. The nature of major defense programs, conducted under binding contracts, allows companies that perform well to benefit from a level of program continuity not frequently found in other industries.

 

Our success in the competitive defense industry depends upon our ability to develop and market our products and services, as well as our ability to provide the people, technologies, facilities, equipment, and financial capacity needed to deliver those products and services affordably and efficiently. Like most of our competitors, we are vertically integrated but also have a high reliance on the supply chain. We must continue to maintain dependable sources for raw materials, fabricated parts, electronic components, and major subassemblies. In this increasingly complex manufacturing and systems integration environment, effective oversight of subcontractors and suppliers is vital to our success.

 

Similarly, there is intense competition among many companies in the information and services markets, which are generally more labor intensive with highly competitive margin rates and contract performance periods of shorter duration. Competitors in the information and services markets include the defense industry participants mentioned above as well as many other large and small entities with specialized expertise. Our ability to successfully compete in the information and services markets depends on a number of factors. The most important factor is the ability to deploy skilled professionals, many requiring security clearances, at competitive prices across the diverse spectrum of these markets. Accordingly, we have implemented various workforce initiatives to ensure our success in attracting, developing and retaining these skilled professionals in sufficient numbers to maintain or improve our competitive position within these markets.

 

In both the U.S. defense industry and information and services markets, the federal government has recently indicated that it intends to increase industry competition for its future procurement of products and services. This may lead to fewer sole source awards and more emphasis on cost competitiveness and affordability than in the past. In addition, the DoD has announced several initiatives to improve efficiency, refocus priorities and enhance DoD best practices including those used to procure goods and services from defense contractors. See Overview in Part II, Item 7, and Risk Factors in Part I, Item 1A. These new initiatives, when implemented, could result in fewer new opportunities for our industry as a whole, and a reduced opportunity set would in turn intensify competition within the industry as companies compete for a more limited set of new programs.

 

EXECUTIVE OFFICERS

 

See Part III, Item 10, for information about our executive officers.

 

AVAILABLE INFORMATION

 

Throughout this Form 10-K, we incorporate by reference information from parts of other documents filed with the Securities and Exchange Commission (SEC). The SEC allows us to disclose important information by referring to it in this manner, and you should review this information in addition to the information contained in this report.

 

Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and proxy statement for the annual shareholders’ meeting, as well as any amendments to those reports, are available free of charge through our web site as soon as reasonably practicable after we file them with the SEC. You can learn more about us by reviewing our SEC filings in the investor relations page on our web site at www.northropgrumman.com.

 

The SEC also maintains a web site at www.sec.gov that contains reports, proxy statements and other information about SEC registrants, including Northrop Grumman. You may also obtain these materials at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. You can obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT 99.2

 

 

The data presented in the following table is derived from the audited consolidated financial statements and other information adjusted to reflect the effects of discontinued operations. See also Business Acquisitions and Business Dispositions in Part II, Item 7.

 

Selected Financial Data

 

 

 

NORTHROP GRUMMAN CORPORATION

 

EXHIBIT 99.3

 

FORWARD-LOOKING STATEMENTS AND PROJECTIONS

 

Statements in this Form 10-K and the information we are incorporating by reference, other than statements of historical fact, constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as “expect,” “intend,” “plan,” “project,” “forecast,” “believe,” “estimate,” “outlook,” “anticipate,” “trends” and similar expressions generally identify these forward-looking statements. Forward-looking statements are based upon assumptions, expectations, plans and projections that are believed valid when made. These statements are not guarantees of future performance and inherently involve a wide range of risks and uncertainties that are difficult to predict. Specific factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements include, but are not limited to, those identified under Risk Factors in Part I, Item 1A and other important factors disclosed in this report and from time to time in our other filings with the SEC.

 

You are urged to consider the limitations on, and risks associated with, forward-looking statements and not unduly rely on the accuracy of predictions contained in such forward-looking statements. These forward-looking statements speak only as of the date of this report or, in the case of any document incorporated by reference, the date of that document. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by applicable law.

 

 

OVERVIEW

 

Business

We provide technologically advanced, innovative products, services, and integrated solutions in aerospace, electronics, and information and services to our global customers. We participate in many high-priority defense and commercial technology programs in the United States (U.S.) and abroad as a prime contractor, principal subcontractor, partner, or preferred supplier. We conduct most of our business with the U.S. Government, principally the Department of Defense (DoD). We also conduct business with local, state, and foreign governments and domestic and international commercial customers.

 

Notable Events

Certain notable events or activities affecting our 2010 consolidated financial results included the following:

 

Significant financial events for the year ended December 31, 2010

 

 

 

 

 

 

 

 

Other notable events for the year ended December 31, 2010

 

 

 

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Outlook

Beginning with the credit crisis of 2008 through the present, the United States and global economies have experienced a period of substantial economic uncertainty and turmoil, and the related financial markets have been characterized by significant volatility. While the financial markets have begun to stabilize and improve in 2009 and 2010, the U.S. and global economies continue to struggle as a result of high levels of national debt and historic levels of borrowing to support stimulus and financial support spending.

 

Current levels of deficit spending are at high levels and likely are unsustainable for the U.S. and several of its allies and we expect that U.S. and allied government defense spending may come under increasing pressure as governments search for ways to reduce deficits and national debts. Defense Secretary Gates recently proposed a baseline fiscal 2012 defense budget of $553 billion, which is $6 billion higher than the fiscal 2011 budget request, but $13 billion less than previously planned. Under this budget proposal, the overall defense budget will decline by $78 billion over a five year period beginning in fiscal 2012 from the previous plan, and will include program cancellations and restructurings, including reducing the number of F-35 joint strike fighters from 449 to 325 jets over that period. Northrop Grumman is one of the largest subcontractors on the F-35 program, and if approved by Congress, the reduction would impact our revenues.

 

Secretary Gates also outlined future opportunities for which we could compete, including a next generation nuclear capable long-range bomber, additional F/A-18 E/F aircraft to offset the reduction in the F-35 aircraft, as well as numerous opportunities to apply our unmanned airborne technologies and capabilities and our broad sensor technologies to new products and to upgrade several existing platforms.

 

While the real rate of growth in the top line defense budget may be slowing for the first time since 9/11, the U.S. Government’s budgetary process continues to give us good visibility regarding future spending and the threat areas that it is addressing. We believe that our current contracts, and our strong backlog of previously awarded contracts align well with our customer’s future needs, and this provides us with good insight regarding future cash flows from our businesses. Nonetheless, we recognize that no business is immune to the current economic situation and new policy initiatives could adversely affect future defense spending levels, which could lower our expected future revenues. Certain programs in which we participate may be subject to potential reductions due to this slower rate of growth in the U.S. defense budget and the utilization of funds to support the ongoing conflicts in Iraq and Afghanistan.

 

Liquidity Trends – In light of the ongoing economic situation, we have evaluated our future liquidity needs, both from a short-term and long-term perspective. We expect that cash on hand at the beginning of the year plus cash generated from operations and cash available under credit lines will be sufficient in 2011 to service debt, finance capital expansion projects, pay federal, foreign, and state income taxes, fund pension and other post-retirement benefit plans, and continue paying dividends to shareholders. We have a committed $2 billion revolving credit facility, with a maturity date of August 10, 2012, that can be accessed on a same-day basis.

 

We believe we can obtain additional capital to provide for long-term liquidity, if necessary, from such sources as the public or private capital markets, the sale of assets, sale and leaseback of operating assets, and leasing rather than purchasing new assets. We have an effective shelf registration statement on file with the SEC. See Liquidity and Capital Resources below for further discussions about our financing activities.

 

Industry Factors

We are subject to the unique characteristics of the U.S. defense industry as a monopsony, whereby demand for our products and services comes primarily from one customer, and by certain elements peculiar to our own business mix.

 

Recent Developments in U.S. Cost Accounting Standards (CAS) Pension Recovery Rules – On May 10, 2010, the CAS Board published a Notice of Proposed Rulemaking (NPRM) that if adopted would provide a framework to partially harmonize the CAS rules with the Pension Protection Act of 2006 (PPA) funding requirements. The NPRM would “harmonize” by mitigating the mismatch between CAS costs and PPA-amended Employee

 

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Retirement Income Security Act (ERISA) minimum funding requirements. Until the final rule is published, and to the extent that the final rule does not completely eliminate mismatches between ERISA funding requirements and CAS pension costs, government contractors maintaining defined benefit pension plans will continue to experience a timing mismatch between required contributions and pension expenses recoverable under CAS. The final rule is expected to be issued in 2011 and to apply to contracts starting the year following the award of the first CAS covered contract after the effective date of the new rule. This would mean the rule would apply to our contracts in 2012. We anticipate that contractors will be entitled to an equitable adjustment for any additional CAS contract costs resulting from the final rule.

 

Economic Opportunities, Challenges, and Risks

The United States continues to face a complex and rapidly changing national security environment, while simultaneously addressing domestic economic challenges such as unemployment, federal budget deficits and the growing national debt. The U.S. Government’s investment in capabilities that respond to constantly evolving threats is increasingly being balanced against the need to address domestic economic challenges. We believe that the U.S. Government will continue to place a high priority on defense spending and national security, as well as economic challenges, and will continue to invest in sophisticated systems providing long-range surveillance and intelligence, battle management, precision strike, and strategic agility.

 

The U.S. Government faces the additional challenge of recapitalizing equipment and rebuilding readiness while also pursuing modernization and reducing overhead and inefficiency. The DoD has announced several initiatives to improve efficiency, refocus priorities and enhance DoD business practices including those used to procure goods and services from defense contractors.

 

The DoD initiatives are organized into five major areas: affordability and cost growth; productivity and innovation; competition; services acquisition; and processes and bureaucracy. Initial plans resulting from these initiatives were announced in early 2010 and the defense department expects that these initiatives will generate $100 billion in savings. On January 6, 2011, Secretary Gates provided initial details on fiscal year 2012 defense budget and programmatic plans and elaborated on the allocation of the $100 billion in expected savings from efficiency initiatives. The Secretary described plans to allocate $28 billion for increased operating costs and $70 billion for investment in high priority capabilities. In addition to the efficiency savings, the DoD plans to reduce defense spending from its prior plans by $78 billion over the next five fiscal years.

 

At the date of this Form 10-K, the fiscal year 2012 defense budget has not been submitted by the President and Congress had not yet passed a baseline fiscal year 2011 defense budget or any of the appropriations funding bills relating to our customer base. As a result, the U.S. Government is currently operating under a Continuing Resolution (CR) that funds programs and services at fiscal year 2010 levels. The CR is set to expire on March 4, 2011, after which Congress will either pass a new appropriations bill or extend a CR. The latter case would likely fund programs at fiscal year 2010 levels and would affect the profitability of some of our programs and potentially delay new awards. We anticipate continued spirited debate over defense spending in 2011 as part of a larger dialog around the federal deficit and potential cuts in government spending. Budget decisions made in this environment could have long-term consequences for our company and the entire defense industry.

 

Although reductions to certain programs in which we participate or for which we expect to compete are always possible, we believe that spending on recapitalization, modernization and maintenance of defense and homeland security assets will continue to be a national priority. Future defense spending is expected to include the development and procurement of new manned and unmanned military platforms and systems along with advanced electronics and software to enhance the capabilities of individual systems and provide for the real-time integration of individual surveillance, information management, strike, and battle management platforms. Given the current era of irregular warfare, we expect an increase in investment in persistent awareness with intelligence, surveillance and reconnaissance (ISR) systems, cyber warfare, and expansion of information available for the warfighter to make timely decisions. Other significant new competitive opportunities include long range strike, directed energy applications, missile defense, satellite communications systems, restricted programs, cybersecurity,

 

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technical services and information technology contracts, and numerous international and homeland security programs.

 

Prime contracts with various agencies of the U.S. Government and subcontracts with other prime contractors are subject to numerous procurement and other regulations, including the False Claims Act and the International Traffic in Arms Regulations promulgated under the Arms Export Control Act. Noncompliance found by any one agency could result in fines, penalties, debarment, or suspension from receiving contracts with all U.S. Government agencies. We could experience material adverse effects on our business operations if we or a portion of our business were suspended or debarred.

 

We could be affected by future laws or regulations, including those enacted in response to climate change concerns and other actions known as “green initiatives.” We recently established a goal of reducing our greenhouse gas emissions over a five-year period through December 31, 2014. To comply with existing green initiatives and our greenhouse gas emissions goal, we expect to incur capital and operating costs, but at this time we do not expect that such costs will have a material adverse effect upon our financial position, results of operations or cash flows.

 

See Risk Factors located in Part I, Item 1A for a more complete description of risks faced by us and the defense industry.

 

BUSINESS ACQUISITIONS

 

2009 – We acquired Sonoma Photonics, Inc., as well as assets from Swift Engineering’s Killer Bee Unmanned Air Systems product line in April 2009 for an aggregate amount of approximately $33 million. The operating results from the date of acquisition are reported in the Aerospace Systems segment from the date of acquisition.

 

2008 – We acquired 3001 International, Inc. (3001 Inc.) in October 2008 for approximately $92 million in cash. 3001 Inc. provides geospatial data production and analysis, including airborne imaging, surveying, mapping and geographic information systems for U.S. and international government intelligence, defense and civilian customers. The operating results of 3001 Inc. are reported in the Information Systems segment from the date of acquisition.

 

BUSINESS DISPOSITIONS

 

2009 – We sold our Advisory Services Division (ASD) in December 2009, for $1.65 billion in cash to an investor group led by General Atlantic, LLC and affiliates of Kohlberg Kravis Roberts & Co. L.P., and recognized a gain of $15 million, net of taxes. ASD was a business unit comprised of the assets and liabilities of TASC, Inc., its wholly owned subsidiary TASC Services Corporation, and certain contracts carved out from other businesses also in Information Systems that provide systems engineering technical assistance (SETA) and other analysis and advisory services. Sales for ASD in the years ended December 31, 2009, and 2008, were approximately $1.5 billion, and $1.6 billion, respectively. The assets, liabilities and operating results of this business unit are reported as discontinued operations in the consolidated financial statements for all periods presented.

 

2008 – We sold our Electro-Optical Systems (EOS) business in April 2008 for $175 million in cash to L-3 Communications Corporation and recognized a gain of $19 million, net of taxes. EOS, formerly a part of the Electronic Systems segment, produces night vision and applied optics products. Sales for this business through April 2008 were approximately $53 million. The assets, liabilities and operating results of this business are reported as discontinued operations in the consolidated financial statements for all periods presented.

 

Subsequent Event – As previously discussed in Part I, Item 1, we completed the spin-off to our shareholders of HII effective March 31, 2011. HII was formed to operate the business that was previously our Shipbuilding segment prior to the spin-off. We made a pro rata distribution to our shareholders of one share of HII common stock for every six shares of our common stock held on the record date of March 30, 2011, or 48.8 million shares of HII common stock. There was no gain or loss recognized by us as a result of the spin-off transaction. In connection

 

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with the spin-off, HII issued senior notes and entered into a credit facility with third-party lenders, and HII used a portion of the proceeds of the debt and credit facility to fund a $1,429 million cash contribution to us.

 

Prior to the completion of the spin-off, we and HII entered into a Separation and Distribution Agreement dated March 29, 2011 and several other agreements that will govern the post-separation relationship. These agreements generally provide that each party will be responsible for its respective assets, liabilities and obligations following the spin-off, including employee benefits, intellectual property, information technology, insurance and tax-related assets and liabilities. The agreements also describe our future commitments to provide HII with certain transition services for up to one year and the costs incurred for such services that will be reimbursed by HII.

 

In connection with the spin-off, we incurred $28 million and $4 million of non-deductible transaction costs for the years ended December 31, 2010 and 2009, respectively, which have been included in discontinued operations.

 

Discontinued Operations – Earnings for the businesses classified within discontinued operations (primarily the Shipbuilding business and ASD) were as follows:

 

 

The loss in 2008 included a Shipbuilding non-cash goodwill impairment charge of $2,490 million due to adverse equity market conditions that caused a decrease in market multiples and our stock price. Tax rates on discontinued operations vary from the company’s effective tax rate generally due to the non-deductibility of goodwill for tax purposes and the effects, if any, of capital loss carryforwards.

 

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The major classes of assets and liabilities included in discontinued operations for the Shipbuilding business are presented in the following table:

 

 

CONTRACTS

 

We generate the majority of our business from long-term government contracts for development, production, and support activities. Government contracts typically include the following cost elements: direct material, labor and subcontracting costs, and certain indirect costs including allowable general and administrative costs. Unless otherwise specified in a contract, costs billed to contracts with the U.S. Government are determined under the requirements of the Federal Acquisition Regulation (FAR) and CAS regulations as allowable and allocable costs. Examples of costs incurred by us and not billed to the U.S. Government in accordance with the requirements of the FAR and CAS regulations include, but are not limited to, certain legal costs, lobbying costs, charitable donations, interest expense and advertising costs.

 

Our long-term contracts typically fall into one of two broad categories:

 

Flexibly Priced Contracts – Includes both cost-type and fixed-price incentive contracts. Cost-type contracts provide for reimbursement of the contractor’s allowable costs incurred plus a fee that represents profit. Cost-type contracts generally require that the contractor use its best efforts to accomplish the scope of the work within some specified time and some stated dollar limitation. Fixed-price incentive contracts also provide for reimbursement of the contractor’s allowable costs, but are subject to a cost-share limit which affects profitability. Fixed-price incentive contracts effectively become firm fixed-price contracts once the cost-share limit is reached.

 

Firm Fixed-Price Contracts – A firm fixed-price contract is a contract in which the specified scope of work is agreed to for a price that is a pre-determined, negotiated amount and not generally subject to adjustment regardless of costs incurred by the contractor. Time-and-materials contracts are considered firm fixed-price contracts as they specify a fixed hourly rate for each labor hour charged.

 

The following table summarizes 2010 revenue recognized by contract type and customer:

 

 

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Contract Fees – Negotiated contract fee structures, for both flexibly priced and fixed-price contracts include, but are not limited to: fixed-fee amounts, cost sharing arrangements to reward or penalize for either under or over cost target performance, positive award fees, and negative penalty arrangements. Profit margins may vary materially depending on the negotiated contract fee arrangements, percentage-of-completion of the contract, the achievement of performance objectives, and the stage of performance at which the right to receive fees, particularly under incentive and award fee contracts, is finally determined.

 

Award Fees – Certain contracts contain provisions consisting of award fees based on performance criteria such as cost, schedule, quality, and technical performance. Award fees are determined and earned based on an evaluation by the customer of the company’s performance against such negotiated criteria. Fees that can be reasonably assured and reasonably estimated are recorded over the performance period of the contract. Award fee contracts are used in certain of our operating segments. Examples of significant long-term contracts with substantial negotiated award fee amounts are the Broad Area Maritime Surveillance (BAMS) Unmanned Aircraft System and the majority of satellite contracts.

 

Compliance and Monitoring – We monitor our policies and procedures with respect to our contracts on a regular basis to ensure consistent application under similar terms and conditions as well as compliance with all applicable government regulations. In addition, costs incurred and allocated to contracts with the U.S. Government are routinely audited by the Defense Contract Audit Agency.

 

CRITICAL ACCOUNTING POLICIES, ESTIMATES, AND JUDGMENTS

 

Revenue Recognition

Overview – We derive the majority of our business from long-term contracts for the production of goods and services provided to the federal government, which are accounted for in conformity with accounting principles generally accepted in the United States of America (GAAP) for construction-type and production-type contracts and federal government contractors. We classify contract revenues as product sales or service revenues depending on the predominant attributes of the relevant underlying contract. We also enter into contracts that are not associated with the federal government, such as contracts to provide certain services to non-federal government customers. We account for those contracts in accordance with the relevant GAAP revenue recognition principles.

 

We consider the nature of these contracts and the types of products and services provided when determining the proper accounting method for a particular contract.

 

Percentage-of-Completion Accounting – We generally recognize revenues from our long-term contracts under the cost-to-cost or the units-of-delivery measures of the percentage-of-completion method of accounting. The percentage-of-completion method recognizes income as work on a contract progresses. For most contracts, sales are calculated based on the percentage of total costs incurred in relation to total estimated costs at completion of the contract. The units-of-delivery measure is a modification of the percentage-of-completion method, which recognizes revenues as deliveries are made to the customer generally using unit sales values in accordance with the contract terms. We estimate profit as the difference between total estimated revenue and total estimated cost of a contract and recognize that profit over the life of the contract based on deliveries.

 

The use of the percentage-of-completion method depends on our ability to make reasonably dependable cost estimates for the design, manufacture, and delivery of our products and services. Such costs are typically incurred over a period of several years, and estimation of these costs requires the use of judgment. We record sales under cost-type contracts as costs are incurred.

 

Many contracts contain positive and negative profit incentives based upon performance relative to predetermined targets that may occur during or subsequent to delivery of the product. These incentives take the form of potential additional fees to be earned or penalties to be incurred. Incentives and award fees that can be reasonably assured and reasonably estimated are recorded over the performance period of the contract. Incentives and award fees that are not reasonably assured or cannot be reasonably estimated are recorded when awarded or at such time as a reasonable estimate can be made.

 

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Other changes in estimates of contract sales, costs, and profits are recognized using the cumulative catch-up method of accounting. This method recognizes in the current period the cumulative effect of the changes on current and prior periods. Hence, the effect of the changes on future periods of contract performance is recognized as if the revised estimate had been the original estimate. A significant change in an estimate on one or more contracts could have a material effect on our consolidated financial position or results of operations.

 

Certain Service Contracts – We generally recognize revenue under contracts to provide services to non-federal government customers when services are performed. Service contracts include operations and maintenance contracts, and outsourcing-type arrangements, primarily in Technical Services and Information Systems. We generally recognize revenue under such contracts on a straight-line basis over the period of contract performance, unless evidence suggests that the revenue is earned or the obligations are fulfilled in a different pattern. Costs incurred under these service contracts are expensed as incurred, except that direct and incremental set-up costs are capitalized and amortized over the life of the agreement. Operating profit related to such service contracts may fluctuate from period to period, particularly in the earlier phases of the contract.

 

Contracts that include more than one type of product or service are accounted for under the relevant GAAP guidance for revenue arrangements with multiple-elements. Accordingly, for applicable arrangements, revenue recognition includes the proper identification of separate units of accounting and the allocation of revenue across all elements based on relative fair values.

 

Cost Estimation – The cost estimation process requires significant judgment and is based upon the professional knowledge and experience of our engineers, program managers, and financial professionals. Factors that are considered in estimating the work to be completed and ultimate contract recovery include the availability, productivity and cost of labor, the nature and complexity of the work to be performed, the effect of change orders, the availability of materials, the effect of any delays in performance, the availability and timing of funding from the customer, and the recoverability of any claims included in the estimates to complete. A significant change in an estimate on one or more contracts could have a material effect on our consolidated financial position or results of operations. We update our contract cost estimates at least annually and more frequently as determined by events or circumstances. We generally review and reassess our cost and revenue estimates for each significant contract on a quarterly basis.

 

We record a provision for the entire loss on the contract in the period the loss is determined when estimates of total costs to be incurred on a contract exceed estimates of total revenue to be earned. We offset loss provisions first against costs that are included in unbilled accounts receivable or inventoried assets, with any remaining amount reflected in liabilities.

 

Purchase Accounting and Goodwill

Overview – We allocate the purchase price of an acquired business to the underlying tangible and intangible assets acquired and liabilities assumed based upon their respective fair market values, with the excess recorded as goodwill. Such fair market value assessments require judgments and estimates that can be affected by contract performance and other factors over time, which may cause final amounts to differ materially from original estimates. Adjustments to the fair value of purchased assets and liabilities after the measurement period are recognized in net earnings.

 

Acquisition Accruals – We establish certain accruals in connection with indemnities and other contingencies from our acquisitions and divestitures. We have recorded these accruals and subsequent adjustments during the purchase price allocation period for acquisitions and as events occur for divestitures. The accruals were determined based upon the terms of the purchase or sales agreements and, in most cases, involve a significant degree of judgment. We recorded these accruals in accordance with our interpretation of the terms of the purchase or sale agreements, known facts, and an estimation of probable future events based on our experience.

 

Tests for Impairment – We perform impairment tests for goodwill as of November 30th of each year, or when evidence of potential impairment exists. We record a charge to operations when we determine that an

 

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impairment has occurred. In order to test for potential impairment, we use a discounted cash flow analysis, corroborated by comparative market multiples where appropriate.

 

The principal factors used in the discounted cash flow analysis requiring judgment are the projected results of operations, weighted average cost of capital (WACC), and terminal value assumptions. The WACC takes into account the relative weights of each component of our consolidated capital structure (equity and debt) and represents the expected cost of new capital adjusted as appropriate to consider lower risk profiles associated with longer-term contracts and barriers to market entry. The terminal value assumptions are applied to the final year of the discounted cash flow model.

 

The results of our annual goodwill impairment test as of November 30, 2010, indicated that the estimated fair value of all reporting units were substantially in excess of their carrying values.

 

Due to the many variables inherent in the estimation of a business’s fair value and the relative size of our recorded goodwill, differences in assumptions may have a material effect on the results of our impairment analysis.

 

Litigation, Commitments, and Contingencies

Overview – We are subject to a range of claims, lawsuits, environmental and income tax matters, and administrative proceedings that arise in the ordinary course of business. Estimating liabilities and costs associated with these matters requires judgment and assessment based upon professional knowledge and experience of management and our internal and external legal counsel. In accordance with our practices relating to accounting for contingencies, we record amounts as charges to earnings after taking into consideration the facts and circumstances of each matter known to us, including any settlement offers, and determine that it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The ultimate resolution of any such exposure to us may vary from earlier estimates as further facts and circumstances become known. When a range of costs is possible and no amount within that range is a better estimate than another, we record the minimum amount of the range.

 

U.S. Government Claims – From time to time, our customers advise us of ordinary course claims and penalties concerning certain potential disallowed costs. When such findings are presented, we engage U.S. Government representatives in discussions to enable us to evaluate the merits of these claims as well as to assess the amounts being claimed. Where appropriate, provisions are made to reflect our expected exposure to the matters raised by the U.S. Government representatives and such provisions are reviewed on a quarterly basis for sufficiency based on the most recent information available.

 

Environmental Accruals – We are subject to the environmental laws and regulations of the jurisdictions in which we conduct operations. We record a liability for the costs of expected environmental remediation obligations when we determine that it is probable we will incur such costs, and the amount of the liability can be reasonably estimated. When a range of costs is possible and no amount within that range is a better estimate than another, we record the minimum amount of the range.

 

Factors which could result in changes to the assessment of probability, range of estimated costs, and environmental accruals include: modification of planned remedial actions, increase or decrease in the estimated time required to remediate, discovery of more extensive contamination than anticipated, results of efforts to involve other legally responsible parties, financial insolvency of other responsible parties, changes in laws and regulations or contractual obligations affecting remediation requirements, and improvements in remediation technology.

 

Litigation Accruals – Litigation accruals are recorded as charges to earnings when management, after taking into consideration the facts and circumstances of each matter, including any settlement offers, has determined that it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The ultimate resolution of any exposure to us may vary from earlier estimates as further facts and circumstances become known to us.

 

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Uncertain Tax Positions – Tax positions meeting the more-likely-than-not recognition threshold may be recognized or continue to be recognized in the financial statements. The timing and amount of accrued interest is determined by the applicable tax law associated with an underpayment of income taxes. If a tax position does not meet the minimum statutory threshold to avoid payment of penalties, we recognize an expense for the amount of the penalty in the period the tax position is claimed in our tax return. We recognize interest accrued related to unrecognized tax benefits in income tax expense. Penalties, if probable and reasonably estimable, are recognized as a component of income tax expense. See Note 10 to our consolidated financial statements in Part II, Item 8. Under existing GAAP, prior to January 1, 2009, changes in accruals associated with uncertainties arising from the resolution of pre-acquisition contingencies of acquired businesses were charged or credited to goodwill; effective January 1, 2009, such changes will be recorded to income tax expense. Adjustments to other tax accruals are generally recorded in earnings in the period they are determined.

 

Retirement Benefits

Overview – We annually evaluate assumptions used in determining projected benefit obligations and the fair values of plan assets for our pension plans and other post-retirement benefits plans in consultation with our outside actuaries. In the event that we determine that plan amendments or changes in the assumptions are warranted, future pension and post-retirement benefit expenses could increase or decrease.

 

Assumptions – The principal assumptions that have a significant effect on our consolidated financial position and results of operations are the discount rate, the expected long-term rate of return on plan assets, the health care cost trend rate and the estimated fair market value of plan assets. For certain plan assets where the fair market value is not readily determinable, such as real estate, private equity, and hedge funds, estimates of fair value are determined using the best information available.

 

Discount Rate – The discount rate represents the interest rate that is used to determine the present value of future cash flows currently expected to be required to settle the pension and post-retirement benefit obligations. The discount rate is generally based on the yield of high-quality corporate fixed-income investments. At the end of each year, the discount rate is primarily determined using the results of bond yield curve models based on a portfolio of high quality bonds matching the notional cash inflows with the expected benefit payments for each significant benefit plan. Taking into consideration the factors noted above, our weighted-average pension composite discount rate was 5.75 percent at December 31, 2010, and 6.03 percent at December 31, 2009. Holding all other assumptions constant, and since net actuarial gains and losses were in excess of the 10 percent accounting corridor in 2010, an increase or decrease of 25 basis points in the discount rate assumption for 2010 would have decreased or increased pension and post-retirement benefit expense for 2010 by approximately $66 million, of which $2 million relates to post-retirement benefits, and decreased or increased the amount of the benefit obligation recorded at December 31, 2010, by approximately $725 million, of which $50 million relates to post-retirement benefits. The effects of hypothetical changes in the discount rate for a single year may not be representative and may be asymmetrical or nonlinear for future years because of the application of the accounting corridor. The accounting corridor is a defined range within which amortization of net gains and losses is not required. Due to adverse capital market conditions in 2008 our pension plan assets experienced a negative return of approximately 16 percent in 2008. As a result, substantially all of our plans experienced net actuarial losses outside the 10 percent accounting corridor at the end of 2008, thus requiring accumulated gains and losses to be amortized to expense. As a result of this condition, sensitivity of net periodic pension costs to changes in the discount rate were much higher in 2009 and 2010 than was the case in 2008 and prior. This condition is expected to continue into the near future.

 

Expected Long-Term Rate of Return – The expected long-term rate of return on plan assets represents the average rate of earnings expected on the funds invested in a specified target asset allocation to provide for anticipated future benefit payment obligations. For 2010 and 2009, we assumed an expected long-term rate of return on plan assets of 8.5 percent. An increase or decrease of 25 basis points in the expected long-term rate of return assumption for 2010, holding all other assumptions constant, would increase or decrease our pension and post-

 

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retirement benefit expense for 2010 by approximately $47 million, of which $2 million relates to post-retirement benefits.

 

Health Care Cost Trend Rates – The health care cost trend rates represent the annual rates of change in the cost of health care benefits based on external estimates of health care inflation, changes in health care utilization or delivery patterns, technological advances, and changes in the health status of the plan participants. Using a combination of market expectations and economic projections including the effect of health care reform, we selected an expected initial health care cost trend rate of 8 percent for 2011 and an ultimate health care cost trend rate of 5 percent reached in 2017. In 2009, we assumed an expected initial health care cost trend rate of 7 percent for 2010 and an ultimate health care cost trend rate of 5 percent reached in 2014. Although our actual cost experience is much lower at this time, market conditions and the potential effects of health care reform are expected to increase medical cost trends in the next one to three years thus our past experience may not reflect future conditions.

 

Differences in the initial through the ultimate health care cost trend rates within the range indicated below would have had the following impact on 2010 post-retirement benefit results:

 

 

NORTHROP GRUMMAN CORPORATION

 

CONSOLIDATED OPERATING RESULTS

 

Selected financial highlights are presented in the table below.

 

 

Sales and Service Revenues

Sales and service revenues consist of the following:

 

 

2010 – Sales and service revenues increased $493 million, or 2 percent, over 2009. The increase is due to $87 million higher product sales and $406 million higher service revenues. The 1 percent increase in product sales is primarily due to sales growth in Aerospace Systems partially offset by lower product sales in Electronic Systems and Information Systems. The 3 percent increase in service revenues is primarily due to sales growth in Technical Services.

 

2009 – Sales and service revenues increased $1.4 billion, or 5 percent, over 2008. The increase is primarily due to $1.4 billion higher product sales. The 10 percent increase in product sales is primarily due to sales growth in Aerospace Systems and Electronic Systems.

 

See the Segment Operating Results section below for further information.

 

NORTHROP GRUMMAN CORPORATION

 

Cost of Sales and Service Revenues and General and Administrative Expenses

Cost of sales and service revenues and general and administrative expenses are comprised of the following:

 

 

Cost of Product Sales and Service Revenues

2010 – Cost of product sales in 2010 decreased $518 million, or 4 percent, as compared with 2009. The decrease in cost of product sales and cost of product sales as a percentage of product sales is primarily due to lower GAAP pension expense and performance improvements in Aerospace Systems and Electronic Systems.

 

Cost of service revenues in 2010 increased $562 million, or 5 percent, over 2009 primarily due to the higher sales volume in Technical Services described above. The increase in cost of service revenues as a percentage of service revenues is primarily due to program mix changes at Information Systems.

 

2009 – Cost of product sales in 2009 increased $1.4 billion, or 12 percent, over 2008. The increase in cost of product sales and cost of product sales as a percentage of product sales is primarily due to the higher sales volume described above and higher GAAP pension expense.

 

Cost of service revenues in 2009 increased $412 million, or 4 percent, over 2008. The increase in cost of service revenues and cost of service revenues as a percentage of service revenues is primarily due to higher GAAP pension expense.

 

See the Segment Operating Results section below for further information.

 

General and Administrative Expenses – In accordance with industry practice and the regulations that govern the cost accounting requirements for government contracts, most general corporate expenses incurred at both the segment and corporate locations are considered allowable and allocable costs on government contracts. For most components of the company, these costs are allocated to contracts in progress on a systematic basis and contract performance factors include this cost component as an element of cost. General and administrative expenses primarily relate to segment operations. General and administrative expenses for 2010 decreased $104 million from the prior year primarily due to the 2009 disposition of ASD at our Information Systems segment. General and administrative expenses as a percentage of total sales and service revenues decreased from 9.3 percent in 2009 to 8.8 percent in 2010, primarily due to cost reductions realized from the 2009 streamlining of our organizational structure which reduced the number of operating segments. General and administrative expenses as a percentage of total sales and service revenues decreased from 9.8 percent in 2008 to 9.3 percent in 2009, primarily due to lower corporate overhead costs and a $64 million gain from a legal settlement in 2009, net of legal provisions and related expenses.

 

Goodwill Impairment

In 2008, we recorded a non-cash charge totaling $570 million at Aerospace Systems as a result of adverse equity market conditions that caused a decrease in market multiples and our stock price.

 

NORTHROP GRUMMAN CORPORATION

 

Operating Income

We consider operating income to be an important measure for evaluating our operating performance and, as is typical in the industry, we define operating income as revenues less the related cost of producing the revenues and general and administrative expenses. We also further evaluate operating income for each of the business segments in which we operate.

 

We internally manage our operations by reference to “segment operating income.” Segment operating income is defined as operating income before unallocated expenses and net pension adjustment, neither of which affect the operating results of segments, and the reversal of royalty income, which is classified as “other, net” for financial reporting purposes. Segment operating income is one of the key metrics we use to evaluate operating performance. Segment operating income is not, however, a measure of financial performance under GAAP, and may not be defined and calculated by other companies in the same manner.

 

The table below reconciles segment operating income to total operating income:

 

 

Segment Operating Income

Segment operating income in 2010 increased $375 million, or 14 percent, as compared with 2009. Total segment operating income was 10.7 percent and 9.5 percent of total sales and service revenues in 2010 and 2009, respectively. The increase in 2010 segment operating income is primarily due to the 2 percent increase in sales volume and performance improvements across all operating segments. Segment operating income in 2009 was $2.6 billion as compared with segment operating income of $2 billion in 2008. The lower operating income in 2008 was primarily due to a goodwill impairment charge of $570 million at Aerospace Systems. See discussion of Segment Operating Results below for further information.

 

Unallocated Corporate Expenses

Unallocated corporate expenses generally include the portion of corporate expenses not considered allowable or allocable under applicable CAS and FAR rules, and therefore not allocated to the segments, such as management and administration, legal, environmental, certain compensation and retiree benefits, and other expenses. Unallocated corporate expenses for 2010 increased $82 million, or 82 percent, as compared with 2009, primarily due to inclusion of a $64 million net gain from a legal settlement in 2009, as well as an increase in environmental, health and welfare, and stock compensation expenses in 2010. Unallocated corporate expenses for 2009 decreased $41 million, or 29 percent, as compared with 2008, primarily due to a $64 million net gain from a legal settlement in 2009, partially offset by higher costs related to environmental remediation and post-retirement employee benefits.

 

Net Pension Adjustment

Net pension adjustment reflects the difference between pension expenses determined in accordance with GAAP and pension expense allocated to the operating segments determined in accordance with CAS. The pension adjustment in 2010 decreased by $247 million as compared with 2009 primarily due to lower GAAP pension expense as a result of favorable returns on pension plan assets in 2009. The net pension adjustment in 2009 was an expense of $237 million, as compared with income of $272 million in 2008. The net pension expense in 2009 was primarily the result of negative returns on plan assets in 2008.

 

NORTHROP GRUMMAN CORPORATION

 

Royalty Income Adjustment

Royalty income is included in segment operating income and reclassified to other income for financial reporting purposes. See Other, net below.

 

Interest Expense

2010 – Interest expense in 2010 was comparable to 2009.

 

2009 – Interest expense in 2009 decreased $2 million, or 1 percent, as compared with 2008. The decrease is primarily due to higher capitalized interest and lower interest rates.

 

Charge on Debt Redemption

2010 – In November 2010, we repurchased outstanding debt held by our subsidiary, Northrop Grumman Systems Corporation, and recorded a pre-tax charge of $229 million primarily related to premiums paid on the debt tendered. See Liquidity and Capital Resources below and Note 13 to our consolidated financial statements in Part II, Item 8.

 

Other, net

2010 – Other, net for 2010 decreased $28 million as compared with 2009, primarily due to lower royalty income and lower returns on investments in marketable securities used as a funding source for non-qualified employee benefits.

 

2009 – Other, net for 2009 increased $29 million as compared with 2008, primarily due to positive mark-to-market adjustments on investments in marketable securities used as funding for non-qualified employee benefits and a gain from the recovery of a loan to an affiliate. For 2008, Other, net included $60 million in royalty income from patent infringement settlements at Electronic Systems.

 

Federal and Foreign Income Taxes

2010 – Our effective tax rate on earnings from continuing operations for 2010 was 19.5 percent compared with 30.7 percent in 2009. In 2010, we recognized net tax benefits of $298 million to reflect the final approval from the IRS and the U.S. Congressional Joint Committee on Taxation (Joint Committee) of the IRS’ examination of our tax returns for the years 2004 through 2006. In 2009, we recognized net tax benefits of $75 million primarily as a result of a final settlement with the IRS Office of Appeals and the Joint Committee related to our tax returns for years ended 2001 through 2003.

 

2009 – Our effective tax rate on earnings from continuing operations for 2009 was 30.7 percent compared with 34.1 percent in 2008 (excluding the non-cash, non-deductible goodwill impairment charge of $570 million at Aerospace Systems). The 2009 tax rate reflects net tax benefits of approximately $75 million related to a final settlement with the IRS as discussed above.

 

Earnings from Discontinued Operations, Net of Tax

2010 – Earnings from discontinued operations, net of tax were $149 million and were primarily attributable to the operations of the Shipbuilding business which was spun-off in March 2011, and adjustments to the gain on the 2009 sale of ASD to reflect a purchase price adjustment and the utilization of additional capital loss carry-forwards.

 

2009 – Earnings from discontinued operations, net of tax were $252 million for 2009, compared with a loss of $2,280 million in 2008. The earnings in 2009 were primarily attributable to the operations of the Shipbuilding business which was spun-off in March 2011, and the operations and gain on disposition of ASD, which was sold in December 2009. The loss in 2008 included a Shipbuilding non-cash goodwill impairment charge of $2,490 million due to adverse equity market conditions that caused a decrease in market multiples and our stock price. See Notes 6 and 11 to our consolidated financial statements in Part II, Item 8.

 

NORTHROP GRUMMAN CORPORATION

 

Diluted Earnings Per Share from Continuing Operations

2010 – Diluted earnings per share from continuing operations in 2010 were $6.32 per share, as compared with $4.44 diluted earnings per share in 2009. Diluted earnings per share are based on weighted-average diluted shares outstanding of 301.1 million for 2010 and 323.3 million for 2009, respectively.

 

2009 – Diluted earnings per share from continuing operations in 2009 were $4.44 per share, as compared with $2.98 diluted earnings per share in 2008. Earnings per share are based on weighted-average diluted shares outstanding of 323.3 million for 2009 and weighted average diluted shares outstanding of 341.6 million for 2008. The goodwill impairment charge of $570 million at Aerospace Systems reduced our 2008 diluted earnings per share from continuing operations by $1.67 per share.

 

Cash Provided by Continuing Operations

2010 – Cash provided by continuing operations in 2010 was $2.1 billion as compared with $2 billion in 2009 and reflects higher cash paid to our suppliers offset by lower tax payments, primarily due to $508 million for taxes paid in 2009 related to the sale of ASD. In 2010, we contributed $789 million to our pension plans, of which $728 million was voluntarily pre-funded, as compared with $657 million in 2009, of which $601 million was voluntarily pre-funded. Income taxes paid, net of refunds, was $1.1 billion in 2010, as compared with $1.3 billion in 2009.

 

Cash provided by continuing operations for 2010 included $94 million of federal and state income tax refunds and $11 million of interest income received.

 

2009 – Cash provided by continuing operations in 2009 was $2 billion compared with $2.7 billion in 2008 and reflects higher pension plan contributions and income tax payments. In 2009, we contributed $657 million to our pension plans, of which $601 million was voluntarily pre-funded, as compared with $206 million in 2008, of which $140 million was voluntarily pre-funded. Income taxes paid, net of refunds, was $1.3 billion in 2009, as compared with $719 million in 2008. Income taxes paid in 2009 included $508 million resulting from the sale of ASD.

 

Cash provided by continuing operations for 2009 included $171 million of federal and state income tax refunds and $11 million of interest income.

 

SEGMENT OPERATING RESULTS

 

Basis of Presentation

We are aligned into four reportable segments: Aerospace Systems, Electronic Systems, Information Systems and Technical Services. See Note 7 to our consolidated financial statements in Part II, Item 8 for more information about our segments.

 

In January 2010, we transferred our internal information technology services unit from the Information Systems segment to our corporate shared services group. The intersegment sales and operating income for this unit that were previously recognized in the Information Systems segment are immaterial and have been eliminated for the years presented.

 

 

NORTHROP GRUMMAN CORPORATION

 

 

 

See Consolidated Operating Results – Operating Income above for more information on non-segment factors affecting our operating results.

 

KEY SEGMENT FINANCIAL MEASURES

 

Operating Performance Assessment and Reporting

We manage and assess the performance of our businesses based on our performance on individual contracts and programs obtained generally from government organizations using the financial measures referred to below, with consideration given to the Critical Accounting Policies, Estimates and Judgments described on page 21. As indicated in our discussion on “Contracts” on page 20, our portfolio of long-term contracts is largely flexibly-priced, which means that sales tend to fluctuate in concert with costs across our large portfolio of active contracts, with operating income being a critical measure of operational performance. Due to FAR rules that govern our business, most types of costs are allowable, and we do not focus on individual cost groupings (such as cost of sales or general and administrative costs) as much as we do on total contract costs, which are a key factor in determining contract operating income. As a result, in evaluating our operating performance, we look primarily at changes in sales and service revenues, and operating income, including the effects of significant changes in operating income as a result of changes in contract estimates and the use of the cumulative catch-up method of accounting in accordance with GAAP. Unusual fluctuations in operating performance attributable to

 

NORTHROP GRUMMAN CORPORATION

 

changes in a specific cost element across multiple contracts, however, are described in our analysis. Based on this approach and the nature of our operations, the discussion of results of operations generally focuses around our five segments versus distinguishing between products and services. Our Aerospace Systems and Electronic Systems segments generate predominantly product sales, while the Information Systems and Technical Services segments generate predominantly service revenues.

 

Sales and Service Revenues

Period-to-period sales reflect performance under new and ongoing contracts. Changes in sales and service revenues are typically expressed in terms of volume. Unless otherwise described, volume generally refers to increases (or decreases) in reported revenues due to varying production activity levels, delivery rates, or service levels on individual contracts. Volume changes will typically carry a corresponding income change based on the margin rate for a particular contract.

 

Segment Operating Income

Segment operating income reflects the aggregate performance results of contracts within a business area or segment. Excluded from this measure are certain costs not directly associated with contract performance, including the portion of corporate expenses such as management and administration, legal, environmental, certain compensation and other retiree benefits, and other expenses not considered allowable or allocable under applicable CAS regulations and the FAR, and therefore not allocated to the segments. Changes in segment operating income are typically expressed in terms of volume, as discussed above, or performance. Performance refers to changes in contract margin rates. These changes typically relate to profit recognition associated with revisions to total estimated costs at completion of the contract (EAC) that reflect improved (or deteriorated) operating performance on a particular contract. Operating income changes are accounted for on a cumulative to date basis at the time an EAC change is recorded.

 

Operating income may also be affected by, among other things, the effects of workforce stoppages, natural disasters (such as hurricanes and earthquakes), resolution of disputed items with the customer, recovery of insurance proceeds, and other discrete events. At the completion of a long-term contract, any originally estimated costs not incurred or reserves not fully utilized (such as warranty reserves) could also impact contract earnings. Where such items have occurred, and the effects are material, a separate description is provided.

 

For a more complete understanding of each segment’s product and services, see the business descriptions in Part I, Item 1.

 

Program Descriptions

For convenience, a brief description of certain programs discussed in this Form 10-K are included in the “Glossary of Programs” below.

 

AEROSPACE SYSTEMS

 

Sales and Service Revenues

2010 – Aerospace Systems revenue increased $491 million, or 5 percent, as compared with 2009. The increase is primarily due to $517 million higher sales in Battle Management & Engagement Systems (BM&ES) and $218 million higher sales in Strike & Surveillance Systems (S&SS), partially offset by $315 million lower sales in Advanced Programs & Technology (AP&T). The increase in BM&ES is due to higher sales volume on the Broad Area Maritime Surveillance (BAMS) Unmanned Aircraft System, EA-6B, EA-18G, E-2 and Long Endurance Multi-Intelligence Vehicle (LEMV) programs. The increase in S&SS is primarily due to higher sales volume

 

NORTHROP GRUMMAN CORPORATION

 

associated with manned and unmanned aircraft programs, such as the Global Hawk High-Altitude Long-Endurance (HALE) Systems, the F-35 Lightning II (F-35), B-2 Stealth Bomber and F/A-18, partially offset by the termination of the Kinetic Energy Interceptor (KEI) program in 2009 and decreased activity on the Intercontinental Ballistic Missile (ICBM) program. The decrease in AP&T is primarily due to lower sales volume on restricted programs and the Navy Unmanned Combat Air System (N-UCAS) program.

 

2009 – Aerospace Systems revenue increased $594 million, or 6 percent, as compared with 2008. The increase was primarily due to $201 million higher sales in Space Systems (SS), $201 million higher sales in BM&ES, and $191 million higher sales in S&SS. The increase in SS was primarily due to the ramp-up of restricted programs awarded in 2008, partially offset by decreased sales volume on the National Polar-orbiting Operational Environmental Satellite System (NPOESS) and cancellation of the Transformational Satellite Communications System (TSAT) program. The increase in BM&ES was primarily due to higher sales volume on the BAMS Unmanned Aircraft System, the E-2D Advanced Hawkeye, and the EA-18G programs, partially offset by lower sales volume on the E2-C as the program is nearing completion. The increase in S&SS was primarily due to higher sales volume from the Global Hawk HALE Systems, F-35, F/A-18, and B-2 programs, partially offset by decreased activity on the KEI program, which was terminated for convenience in 2009, and the ICBM program.

 

Segment Operating Income

2010 – Aerospace Systems operating income increased $185 million, or 17 percent, as compared with 2009. The increase is primarily due to $128 million in net performance improvements across various programs, principally within SS, and $57 million from the higher sales volume discussed above.

 

2009 – Aerospace Systems operating income increased $655 million, or 157 percent, as compared with 2008. The increase was primarily due to a 2008 goodwill impairment charge of $570 million (see Note 11 to our consolidated financial statements in Part II, Item 8), $61 million from the higher sales volume discussed above, and $24 million in improved program performance. The $24 million in improved program performance was principally due to $67 million in performance improvements in S&SS programs, primarily related to the ICBM program and the Global Hawk HALE Systems, partially offset by $33 million in lower performance across various programs in SS and BM&ES.

 

ELECTRONIC SYSTEMS

 

Sales and Service Revenues

2010 – Electronic Systems revenue decreased $58 million, or less than 1 percent, as compared with 2009. The decrease is primarily due to $150 million lower sales in Land & Self Protection Systems, $84 million lower sales in Intelligence, Surveillance & Reconnaissance (ISR) Systems and $82 million lower sales in Naval & Marine Systems, partially offset by $186 million higher sales in Targeting Systems and $72 million higher sales in Advanced Concepts & Technologies. The decrease in Land & Self Protection Systems is due to lower sales volume on the Ground/Air Task Oriented Radar (G/ATOR) program as it transitions from the development phase to the integration and test phase and lower unit deliveries on the Vehicular Intercommunications Systems (VIS) program. The decrease in ISR Systems is due to lower sales volume on the Space Based Infrared Systems (SBIRS) program as it transitions to follow-on production, postal automation programs and various international programs. The decrease in Naval & Marine Systems is due to lower volume on the ship-board Cobra Judy replacement radar program. The increase in Targeting Systems is due to higher sales volume on the F-35, various laser systems and restricted programs and increased unit deliveries of the LITENING targeting pod system. The increase in Advanced Concepts & Technologies is primarily due to volume on restricted programs.

 

NORTHROP GRUMMAN CORPORATION

 

2009 – Electronic Systems revenue increased $623 million, or 9 percent, as compared with 2008. The increase was primarily due to $213 million higher sales in Targeting Systems, $188 million higher sales in ISR Systems, $88 million higher sales in Land & Self Protection Systems, $80 million higher sales in Navigation Systems and $30 million higher sales in Naval & Marine Systems. The increase in Targeting Systems was due to higher sales volume on the F-35 and restricted programs. The increase in ISR Systems was due to higher sales volume on SBIRS follow-on production and intercompany programs. The increase in Land & Self Protection Systems was due to higher deliveries associated with the Large Aircraft Infrared Countermeasures (LAIRCM) program, higher volume on the B-52 Sustainment and intercompany programs. The increase in Navigation Systems was due to higher volume on Inertial and Fiber Optic Gyro navigation programs. The increase in Naval & Marine Systems was due to higher volume on power and propulsion systems for the Virginia-class submarine program.

 

Segment Operating Income

2010 – Electronic Systems operating income increased $54 million, or 6 percent, as compared with 2009. The increase is primarily due to net performance improvements in land and self protection programs, higher volume in Targeting Systems, and lower operating loss provisions in postal automation programs.

 

2009 – Electronic Systems operating income increased $22 million, or 2 percent, as compared with 2008. The increase was primarily due to $79 million from the higher sales volume discussed above, partially offset by $57 million in higher unfavorable performance adjustments in 2009. The higher unfavorable performance adjustments in 2009 were due to adjustments of $98 million in ISR Systems, primarily on the Flats Sequencing System postal automation program, partially offset by favorable performance adjustments in targeting systems and land and self protection programs. Operating performance adjustments in 2008 included royalty income of $60 million and a $20 million charge for the MESA Wedgetail program associated with potential liquidated damages arising from the prime contractor’s announced schedule delay in completing the program.

 

INFORMATION SYSTEMS

 

Sales and Service Revenues

2010 – Information Systems revenue decreased $141 million, or 2 percent, as compared with 2009. The decrease is primarily due to $130 million lower sales in Intelligence Systems and $57 million lower sales in Civil Systems, partially offset by $55 million higher sales in Defense Systems. The decrease in Intelligence Systems is primarily due to lower sales volume on restricted programs and the loss of the Navstar Global Positioning System Operational Control Segment (GPS OCX) program. The decrease in Civil Systems is primarily due to lower sales volume on the New York City Wireless (NYCWiN) and Armed Forces Health Longitudinal Technology Application (AHLTA) programs. The increase in Defense Systems is primarily due to program growth on Battlefield Airborne Communications Node (BACN), Joint National Integration Center Research and Development Contract (JRDC) and Integrated Battle Command System (IBCS) activities, partially offset by lower sales volume on the Trailer Mounted Support System (TMSS) program as it nears completion, and decreased Systems and Software Engineer Support activities.

 

2009 – Information Systems revenue increased $362 million, or 4 percent, as compared with 2008. The increase was primarily due to $285 million in higher sales in Intelligence Systems and $194 million in higher sales in Defense Systems, partially offset by $123 million in lower sales in Civil Systems. The increase in Intelligence Systems was primarily due to program growth on the Counter Narco-Terrorism Program Office (CNTPO), Guardrail Common Sensor System indefinite delivery indefinite quantity (IDIQ) and certain restricted programs, partially offset by lower sales volume on the Navstar GPS OCX program. The increase in Defense Systems was

 

NORTHROP GRUMMAN CORPORATION

 

primarily due to program growth on TMSS, Airborne and Maritime/Fixed Stations Joint Tactical Radio Systems and BACN programs, partially offset by fewer delivery orders on the Force XXI Battle Brigade and Below (FBCB2) I-Kits program. The decrease in Civil Systems was primarily due to lower volume on NYCWiN and Virginia IT outsourcing (VITA) programs.

 

Segment Operating Income

2010 – Information Systems operating income increased $132 million, or 21 percent, as compared with 2009 and as percentage of sales increased 170 basis points. The increase is primarily due to performance improvements on Civil Systems programs. In 2009, operating income included $37 million of non-recurring costs associated with the sale of ASD.

 

2009 – Information Systems operating income decreased $2 million as compared with 2008. The decrease was primarily due to $30 million from the higher sales volume discussed above, offset by non-recurring costs associated with the sale of ASD and unfavorable performance results in Civil Systems programs, principally due to the VITA outsourcing program for the Commonwealth of Virginia.

 

TECHNICAL SERVICES

 

Sales and Service Revenues

2010 – Technical Services revenue increased $454 million, or 16 percent, as compared with 2009. The increase is primarily due to $379 million higher sales in the Integrated Logistics and Modernization Division (ILMD). The increase in ILMD is primarily due to the continued ramp-up of the recently awarded KC-10 and C-20 programs.

 

2009 – Technical Services revenue increased $241 million, or 10 percent, as compared with 2008. The increase was primarily due to $245 million higher sales in ILMD, and $74 million higher sales in Training Solutions Division (TSD), partially offset by $72 million lower sales in Defense and Government Services Division (DGSD). The increase in ILMD was due to increased task orders for the CNTPO program and higher demand on the Hunter Contractor Logistics Support (CLS) programs in support of the DoD’s surge in Intelligence, Surveillance, and Reconnaissance (ISR) initiatives. The increase in TSD was due to higher volume on various training and simulation programs including the Joint Warfighting Center Support, Saudi Arabia National Guard Modernization and Training, Global Linguist Solutions, National Level Exercise 2009 and African Contingency Operations Training Assistance programs. These increases were partially offset by lower 2009 sales in DGSD due to the completion of the Joint Base Operations Support program in 2008.

 

Segment Operating Income

2010 – Operating income at Technical Services increased $45 million, or 28 percent, as compared with 2009. The increase is primarily due to the higher sales volume discussed above. Operating income as a percentage of sales increased 60 basis points and reflects improved program performance and business mix changes.

 

2009 – Operating income at Technical Services increased $17 million, or 12 percent, as compared with 2008. The increase was primarily due to the higher sales volume discussed above and $3 million from performance improvements across numerous programs.

 

NORTHROP GRUMMAN CORPORATION

 

BACKLOG

 

Definition

Total backlog at December 31, 2010, was approximately $46.8 billion. Total backlog includes both funded backlog (firm orders for which funding is contractually obligated by the customer) and unfunded backlog (firm orders for which funding is not currently contractually obligated by the customer). Unfunded backlog excludes unexercised contract options and unfunded indefinite delivery indefinite quantity (IDIQ) orders. For multi-year services contracts with non-federal government customers having no stated contract values, backlog includes only the amounts committed by the customer.

 

The following table presents funded and unfunded backlog by segment at December 31, 2010, and 2009:

 

 

Backlog is converted into the following years’ sales as costs are incurred or deliveries are made. Approximately 55 percent of the $46.8 billion total backlog at December 31, 2010, is expected to be converted into sales in 2011. Total U.S. Government orders, including those made on behalf of foreign governments, comprised 88 percent of the total backlog at the end of 2010. Total foreign customer orders accounted for 7 percent of the total backlog at the end of 2010. Domestic commercial backlog represented 5 percent of total backlog at the end of 2010.

 

Backlog Adjustments

2010 – A $1.1 billion reduction in backlog was recorded in 2010 as a result of the restructure of the NPOESS program at our Aerospace Systems segment.

 

Backlog was also impacted in 2010 by an agreement we reached with the Commonwealth of Virginia related to the VITA contract. The agreement defined minimum revenue amounts for the remaining years under the base contract and extended the contract for three additional years through 2019. We recorded a favorable backlog adjustment of $824 million for the definitization of the base contract revenues for years 2011 through 2016, while the contract extension and 2010 portion of the base contract revenues, totaling $802 million, were recorded as new awards in the period in our Information Systems segment.

 

2009 – Total backlog in 2009 reflects a negative backlog adjustment of $5.1 billion for the Kinetic Energy Interceptor program termination for convenience at Aerospace Systems.

 

New Awards

2010 – The estimated value of contract awards included in backlog during the year ended December 31, 2010, was $26.4 billion. Significant new awards during this period include $1.2 billion for the Global Hawk HALE program, $979 million for the E-2 Hawkeye programs, $942 million for the AEHF program, $802 million for the VITA program, $677 million for the Joint National Integration Center Research and Development contract, $656 million for the F/A 18 Hornet Strike Fighter program, $654 million for the ICBM program, $631 million for the B-2 Stealth Bomber programs, $579 million for the F-35 program, $565 million for the NSTec program, $507 for the KC-10 program, $505 million for the Large Aircraft Infrared Counter-measures programs and various restricted awards.

 

NORTHROP GRUMMAN CORPORATION

 

2009 – The estimated value of new contract awards during the year ended December 31, 2009, was $27.3 billion. Significant new awards during this period include $1.2 billion for the F-35 LRIP program, $1.2 billion for the Global Hawk HALE program, $1 billion for the B-2 program, $485 million for the Nevada Test Site program, $484 million for the E2-D LRIP program, $437 million for the IBCS program, $403 million for the SBIRS follow on production program, $385 million for the Saudi Arabian National Guard Modernization and Training program, $360 million for the BACN program, $296 million to finalize the development of the Distributed Common Ground System-Army (DCGS-A), $286 million for the LAIRCM IDIQ, and various restricted awards.

 

LIQUIDITY AND CAPITAL RESOURCES

 

We endeavor to ensure the most efficient conversion of operating results into cash for deployment in growing our businesses and maximizing shareholder value. We actively manage our capital resources through working capital improvements, capital expenditures, strategic business acquisitions and divestitures, debt issuance and repayment, required and voluntary pension contributions, and returning cash to our shareholders through dividend payments and repurchases of common stock.

 

We use various financial measures to assist in capital deployment decision-making, including net cash provided by operations, free cash flow, net debt-to-equity, and net debt-to-capital. We believe these measures are useful to investors in assessing our financial performance.

 

The table below summarizes key components of cash flow provided by continuing operations.

 

 

 

Free Cash Flow

Free cash flow represents cash provided by continuing operations less capital expenditures and outsourcing contract and related software costs. Outsourcing contract and related software costs are similar to capital expenditures in that the contract costs represent incremental external costs or certain specific internal costs that are directly related to the contract acquisition and transition/set-up. These outsourcing contract and related software costs are deferred and expensed over the contract life. We believe free cash flow is a useful measure for investors to consider. This measure is a key factor used by management in our planning for and consideration of strategic acquisitions, stock repurchases and the payment of dividends.

 

Free cash flow is not a measure of financial performance under GAAP, and may not be defined and calculated by other companies in the same manner. This measure should not be considered in isolation, as a measure of residual cash flow available for discretionary purposes, or as an alternative to operating results presented in accordance with GAAP as indicators of performance.

 

NORTHROP GRUMMAN CORPORATION

 

The table below reconciles cash provided by continuing operations to free cash flow:

 

 

Cash Flows

The following is a discussion of our major operating, investing and financing activities for each of the three years in the period ended December 31, 2010, as classified on the consolidated statements of cash flows located in Part II, Item 8.

 

Operating Activities

2010 – Cash provided by continuing operations in 2010 increased $61 million as compared with 2009, primarily the result of lower tax payments. Pension plan contributions totaled $789 million in 2010, of which $728 million was voluntarily pre-funded. In 2009, cash provided by continuing operations included $508 million for taxes paid related to the sale of ASD.

 

In 2011, we expect to contribute the required minimum funding level of approximately $59 million to our pension plans and approximately $124 million to our other post-retirement benefit plans, and also expect to make additional voluntary pension contributions of approximately $500 million. We expect cash provided by continuing operations in 2011 will be sufficient to service debt and contract obligations, finance capital expenditures, continue acquisition of shares under the share repurchase program, and continue paying dividends to our shareholders. Although 2011 cash from continuing operations is expected to be sufficient to service these obligations, we may borrow under credit facilities to accommodate timing differences in cash flows. We have a committed $2 billion revolving credit facility that is currently undrawn and that can be accessed on a same-day basis. Additionally, we believe we could access capital markets for debt financing for longer-term funding, under current market conditions, if needed.

 

2009 – Cash provided by continuing operations in 2009 decreased $710 million as compared with 2008, reflecting higher voluntary pension contributions and increased income taxes paid resulting from the sale of ASD. Pension plan contributions totaled $657 million in 2009, of which $601 million was voluntary pre-funded.

 

2008 – Cash provided by continuing operations in 2008 increased $655 million as compared with 2007, and reflects lower income tax payments and continued trade working capital reductions. Pension plan contributions totaled $206 million in 2008, of which $140 million was voluntarily pre-funded, and were comparable to 2007. Cash provided by continuing operations for 2008 included $113 million of federal and state income tax refunds and $23 million of interest income.

 

Investing Activities

2010 – Cash used in investing activities by continuing operations was $571 million in 2010 and reflects $579 million of capital expenditures, which includes $57 million of capitalized software costs. Capital expenditure commitments at December 31, 2010, were approximately $386 million, which are expected to be paid with cash on hand.

 

2009 – Cash provided by investing activities by continuing operations was $1.1 billion in 2009. During 2009, we received $1.65 billion in proceeds from the sale of ASD (see Note 6 to our consolidated financial statements in Part II, Item 8), paid $68 million for outsourcing costs related to outsourcing services contracts, and paid

 

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$33 million to acquire Sonoma Photonics, Inc. and the assets from Swift Engineering’s Killer Bee Unmanned Air Systems product line (see Note 5 to our consolidated financial statements in Part II, Item 8). Capital expenditures in 2009 were $473 million and included $36 million of capitalized software costs.

 

2008 – Cash used in investing activities by continuing operations was $469 million in 2008. During 2008, we received $175 million in proceeds from the sale of the Electro-Optical Systems business, spent $92 million for the acquisition of 3001 International, Inc. (see Notes 5 and 6 to our consolidated financial statements in Part II, Item 8), paid $110 million for outsourcing costs related to outsourcing services contracts. We had $11 million in restricted cash as of December 31, 2008 related to the Xinetics Inc. purchase (see Note 5 to our consolidated financial statements in Part II, Item 8). Capital expenditures in 2008 were $463 million and included $23 million of capitalized software costs.

 

Financing Activities

2010 – Cash used in financing activities by continuing operations in 2010 was $1.1 billion as compared to $1.2 billion in 2009 and reflects $1 billion in debt payments, including the repurchase of $682 million of higher coupon debt, $229 million for fees and associated premiums paid to the tendering holders of these debt securities. These financing outflows were offset by $1.5 billion in net proceeds from new debt issuances. See Note 13 to our consolidated financial statements in Part II, Item 8. In addition, we repurchased $1.2 billion of our common shares outstanding in 2010.

 

2009 – Cash used in financing activities by continuing operations in 2009 was $1.2 billion compared with $2 billion in 2008 and reflects $843 million in net proceeds from new debt issuance in 2009. See Note 13 to our consolidated financial statements in Part II, Item 8.

 

2008 – Cash used in financing activities by continuing operations in 2008 was $2 billion compared to $1.5 billion in 2007. The $532 million increase is primarily due to $380 million more for share repurchases and $171 million lower proceeds from stock option exercises.

 

Share Repurchases – We repurchased 19.7 million, 23.1 million, and 21.4 million shares in 2010, 2009, and 2008, respectively. See Purchases of Equity Securities by Issuer and Affiliated Purchasers in Part II, Item 5 and Note 4 to our consolidated financial statements in Part II, Item 8 for a discussion concerning our common stock repurchases.

 

Credit Facility

We have a revolving credit agreement, which provides for a five-year revolving credit facility in an aggregate principal amount of $2 billion and a maturity date of August 10, 2012. The credit facility permits us to request additional lending commitments from the lenders under the agreement or other eligible lenders under certain circumstances, and thereby increase the aggregate principal amount of the lending commitments under the agreement by up to an additional $500 million. Our credit agreement contains a financial covenant relating to a maximum debt to capitalization ratio, and certain restrictions on additional asset liens, unless permitted by the agreement. As of December 31, 2010, we were in compliance with all covenants.

 

There were no borrowings during 2010 and 2009 under this facility. There was no balance outstanding under this facility at December 31, 2010, and 2009.

 

Other Sources and Uses of Capital

Additional Capital – We believe we can obtain additional capital, if necessary for long-term liquidity, from such sources as the public or private capital markets, the sale of assets, sale and leaseback of operating assets, and leasing rather than purchasing new assets. We have an effective shelf registration statement on file with the SEC.

 

We expect that cash on hand at the beginning of the year plus cash generated from continuing operations supplemented by borrowings under credit facilities and in the capital markets, if needed, will be sufficient in 2011 to service debt and contract obligations, finance capital expenditures, pay federal, foreign, and state income taxes, fund required and voluntary pension and other post retirement benefit plan contributions, continue

 

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acquisition of shares under the share repurchase program, and continue paying dividends to shareholders. We will continue to provide the productive capacity to perform our existing contracts, prepare for future contracts, and conduct research and development in the pursuit of developing opportunities.

 

Financial Arrangements – In the ordinary course of business, we use standby letters of credit and guarantees issued by commercial banks and surety bonds issued by insurance companies principally to guarantee the performance on certain contracts and to support our self-insured workers’ compensation plans. At December 31, 2010, there were $196 million of unused stand-by letters of credit, $192 million of bank guarantees, and $150 million of surety bonds outstanding.

 

Contractual Obligations

The following table presents the contractual obligations for our continuing operations as of December 31, 2010, and the estimated timing of future cash payments:

 

 

 

The table above also excludes estimated minimum funding requirements and expected voluntary contributions for retiree benefit plans as set forth by ERISA in relation to the company’s pension and postretirement benefit obligations totaling approximately $2.4 billion over the next five years: $683 million in 2011, $270 million in 2012, $484 million in 2013, $476 million in 2014, and $498 million in 2015. The company also has payments due under plans that are not required to be funded in advance, but are funded on a pay-as-you-go basis. See Note 16 to our consolidated financial statements in Part II, Item 8.

 

Further details regarding long-term debt and operating leases can be found in Notes 13 and 15, respectively, to our consolidated financial statements in Part II, Item 8.

 

OTHER MATTERS

 

Accounting Standards Updates

The Financial Accounting Standards Board has issued new accounting standards which are not effective until after December 31, 2010. For further discussion of new accounting standards, see Note 2 to our consolidated financial statements in Part II, Item 8.

 

Off-Balance Sheet Arrangements

As of December 31, 2010, we had no significant off-balance sheet arrangements other than operating leases. For a description of our operating leases, see Note 15 to our consolidated financial statements in Part II, Item 8.

 

NORTHROP GRUMMAN CORPORATION

 

GLOSSARY OF PROGRAMS

 

Listed below are brief descriptions of the programs discussed in Segment Operating Results of this Form 10-K.

 

 

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EXHIBIT 99.4

 

Item 8. Financial Statements and Supplementary Data

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Shareholders of

Northrop Grumman Corporation

Los Angeles, California

 

We have audited the accompanying consolidated statements of financial position of Northrop Grumman Corporation and subsidiaries (the “Company”) as of December 31, 2010 and 2009, and the related consolidated statements of operations, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2010. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Northrop Grumman Corporation and subsidiaries at December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2010, in conformity with accounting principles generally accepted in the United States of America.

 

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of December 31, 2010, based on the criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 8, 2011 expressed an unqualified opinion on the Company’s internal control over financial reporting.

 

Los Angeles, California

February 8, 2011

(June 16, 2011 as to the reclassification of the Shipbuilding segment as discontinued operations as described in Note 1)

 

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CONSOLIDATED STATEMENTS OF OPERATIONS

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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CONSOLIDATED STATEMENTS OF FINANCIAL POSITION