10-Q 1 rtn-09292013x10q.htm FORM 10-Q RTN-09.29.2013-10Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
S
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
For the quarterly period ended September 29, 2013
£
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
For the transition period from               to              
Commission File Number 1-13699
________________________________________________________________________________
RAYTHEON COMPANY
(Exact name of Registrant as Specified in its Charter)
________________________________________________________________________________ 
Delaware
 
95-1778500
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)
870 Winter Street, Waltham, Massachusetts 02451
(Address of Principal Executive Offices) (Zip Code)
(781) 522-3000
(Registrant’s telephone number, including area code)
________________________________________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  S    No  £
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  S    No  £
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
 
S
  
Accelerated filer
 
£
Non-accelerated filer
 
£ (Do not check if a smaller reporting company)
  
Smaller reporting company
 
£
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  £    No  S
Number of shares of common stock outstanding as of October 21, 2013 was 319,472,000.



RAYTHEON COMPANY
TABLE OF CONTENTS
 
 
 
 
 
 
Page
PART I
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated Statements of Comprehensive Income (Unaudited) for the Three and Nine Months Ended September 29, 2013 and September 30, 2012
 
 
 
 
Consolidated Statements of Equity (Unaudited) for the Nine Months Ended September 29, 2013 and September 30, 2012
 
 
 
 
Consolidated Statements of Cash Flows (Unaudited) for the Nine Months Ended September 29, 2013 and September 30, 2012
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 

2


Cautionary Note Regarding Forward-Looking Statements
This Form 10-Q contains forward-looking statements within the meaning of federal securities laws, including information regarding our financial outlook, future plans, objectives, business prospects, trends and anticipated financial performance including with respect to our liquidity and capital resources, the impact and potential reductions of sequestration, the impact of a government shutdown, our cash tax payments, our pension expense and funding, the impact of new accounting pronouncements, our unrecognized tax benefits and the outcome of legal and administrative proceedings, claims, investigations, and commitments and contingencies. You can identify these statements by the fact that they include words such as “will,” “believe,” “anticipate,” “expect,” “estimate,” “intend,” “plan,” or variations of these words or similar expressions. These forward-looking statements are not statements of historical facts and represent only our current expectations regarding such matters. These statements inherently involve a wide range of known and unknown uncertainties. Our actual actions and results could differ materially from what is expressed or implied by these statements. Specific factors that could cause such a difference include, but are not limited to, those set forth under Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2012 and other important factors disclosed previously and from time to time in our other filings with the Securities and Exchange Commission (SEC). Given these factors, as well as other variables that may affect our operating results, you should not rely on forward-looking statements, assume that past financial performance will be a reliable indicator of future performance nor use historical trends to anticipate results or trends in future periods. We expressly disclaim any obligation or intention to provide updates to the forward-looking statements and the estimates and assumptions associated with them.



3


PART I. FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
RAYTHEON COMPANY
CONSOLIDATED BALANCE SHEETS
(In millions, except per share amounts)
 
(Unaudited)
Sep 29, 2013
 
Dec 31, 2012

Assets
 
 
 
 
Current assets
 
 
 
 
Cash and cash equivalents
 
$
2,942

 
$
3,188

Short-term investments
 
955

 
856

Contracts in process, net
 
5,248

 
4,543

Inventories
 
405

 
381

Deferred taxes
 
75

 
96

Prepaid expenses and other current assets
 
127

 
182

Total current assets
 
9,752

 
9,246

Property, plant and equipment, net
 
1,907

 
1,986

Deferred taxes
 
1,106

 
1,367

Goodwill
 
12,765

 
12,756

Other assets, net
 
1,248

 
1,331

Total assets
 
$
26,778

 
$
26,686

 
 
 
 
 
Liabilities and Equity
 
 
 
 
Current liabilities
 
 
 
 
Advance payments and billings in excess of costs incurred
 
$
2,232

 
$
2,398

Accounts payable
 
1,143

 
1,348

Accrued employee compensation
 
1,153

 
1,014

Other accrued expenses
 
1,311

 
1,142

Total current liabilities
 
5,839

 
5,902

Accrued retiree benefits and other long-term liabilities
 
7,194

 
7,854

Deferred taxes
 
1

 
9

Long-term debt
 
4,733

 
4,731

Commitments and contingencies (Note 9)
 


 

 
 
 
 
 
Equity
 
 
 
 
Raytheon Company stockholders’ equity
 
 
 
 
Common stock, par value, $0.01 per share, 1,450 shares authorized, 319 and 328
  shares outstanding at September 29, 2013 and December 31, 2012, respectively.
 
3

 
3

Additional paid-in capital
 
2,335

 
2,928

Accumulated other comprehensive loss
 
(7,314
)
 
(7,788
)
Retained earnings
 
13,817

 
12,883

Total Raytheon Company stockholders’ equity
 
8,841

 
8,026

Noncontrolling interests in subsidiaries
 
170

 
164

Total equity
 
9,011

 
8,190

Total liabilities and equity
 
$
26,778

 
$
26,686


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

4


RAYTHEON COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
 
 
 
Three Months Ended
 
Nine Months Ended
(In millions, except per share amounts)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Net sales
 
 
 
 
 
 
 
 
Products
 
$
4,882

 
$
5,065

 
$
14,916

 
$
14,937

Services
 
960

 
980

 
2,920

 
3,038

Total net sales
 
5,842

 
6,045

 
17,836

 
17,975

Operating expenses
 
 
 
 
 
 
 
 
Cost of sales—products
 
3,718

 
3,848

 
11,447

 
11,438

Cost of sales—services
 
816

 
841

 
2,445

 
2,562

Administrative and selling expenses
 
387

 
389

 
1,215

 
1,198

Research and development expenses
 
164

 
181

 
500

 
543

Total operating expenses
 
5,085

 
5,259

 
15,607

 
15,741

Operating income
 
757

 
786

 
2,229

 
2,234

Non-operating (income) expense, net
 
 
 
 
 
 
 
 
Interest expense
 
53

 
49

 
159

 
149

Interest income
 
(3
)
 
(3
)
 
(9
)
 
(6
)
Other (income) expense, net
 
(5
)
 
(5
)
 
(9
)
 
(10
)
Total non-operating (income) expense, net
 
45

 
41

 
141

 
133

Income from continuing operations before taxes
 
712

 
745

 
2,088

 
2,101

Federal and foreign income taxes
 
221

 
237

 
608

 
668

Income from continuing operations
 
491

 
508

 
1,480

 
1,433

Income (loss) from discontinued operations, net of tax
 
2

 
(1
)
 

 
(4
)
Net income
 
493

 
507

 
1,480

 
1,429

Less: Net income (loss) attributable to noncontrolling interests in subsidiaries
 
4

 
7

 
15

 
10

Net income attributable to Raytheon Company
 
$
489

 
$
500

 
$
1,465

 
$
1,419

 
 
 
 
 
 
 
 
 
Basic earnings (loss) per share attributable to Raytheon Company common stockholders:
 
 
 
 
 
 
 
 
Income from continuing operations
 
$
1.51

 
$
1.51

 
$
4.51

 
$
4.26

Income (loss) from discontinued operations, net of tax
 

 

 

 
(0.01
)
Net income
 
1.52

 
1.51

 
4.51

 
4.25

Diluted earnings (loss) per share attributable to Raytheon Company common stockholders:
 
 
 
 
 
 
 
 
Income from continuing operations
 
$
1.51

 
$
1.51

 
$
4.50

 
$
4.24

Income (loss) from discontinued operations, net of tax
 

 

 


(0.01
)
Net income
 
1.51

 
1.50

 
4.50

 
4.23

Amounts attributable to Raytheon Company common stockholders:
 
 
 
 
 
 
 
 
Income from continuing operations
 
$
487

 
$
501

 
$
1,465

 
$
1,423

Income (loss) from discontinued operations, net of tax
 
2

 
(1
)
 

 
(4
)
Net income
 
$
489

 
$
500

 
$
1,465

 
$
1,419

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

5


RAYTHEON COMPANY 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)

 
Three Months Ended
 
Nine Months Ended
(In millions)
Sep 29, 2013

 
Sep 30, 2012

 
Sep 29, 2013

 
Sep 30, 2012

Net income
$
493

 
$
507

 
$
1,480

 
$
1,429

Other comprehensive income (loss), before tax:
 
 
 
 
 
 
 
Foreign exchange translation
33

 
44

 
(18
)
 
43

Cash flow hedges and interest rate locks
8

 
7

 
(2
)
 
7

Unrealized gains (losses) on investments, and other, net
1

 
(2
)
 
(1
)
 
(2
)
Pension and other employee benefit plans, net:
 
 
 
 
 
 
 
Net loss arising during period
(110
)
 
(21
)
 
(110
)
 
(21
)
Amortization of prior service cost (credit) included in net periodic cost
2

 
1

 
5

 
5

Amortization of net actuarial loss included in net income
279

 
227

 
866

 
706

Pension and other employee benefit plans, net
171

 
207

 
761

 
690

Other comprehensive income (loss), before tax
213

 
256

 
740

 
738

Income tax (expense) benefit related to items of other comprehensive income (loss)
(63
)
 
(74
)
 
(266
)
 
(243
)
Other comprehensive income (loss), net of tax
150

 
182

 
474

 
495

Total comprehensive income
643

 
689

 
1,954

 
1,924

  Less: Comprehensive income (loss) attributable to noncontrolling interests in subsidiaries
4

 
7

 
15

 
10

Comprehensive income attributable to Raytheon Company
$
639

 
$
682

 
$
1,939

 
$
1,914

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


6


RAYTHEON COMPANY
CONSOLIDATED STATEMENTS OF EQUITY (UNAUDITED)
 
Nine months ended September 29, 2013 and September 30, 2012 (in millions)
 
Common
stock

 
Additional
paid-in
capital

 
Accumulated
other
comprehensive
 income (loss)

 
Retained
earnings

 
Total
Raytheon
Company
stockholders’
equity

 
Noncontrolling
interests in
subsidiaries

 
Total
equity

Balance at December 31, 2012
 
$
3

 
$
2,928

 
$
(7,788
)
 
$
12,883

 
$
8,026

 
$
164

 
$
8,190

Net income
 
 
 
 
 
 
 
1,465

 
1,465

 
15

 
1,480

Other comprehensive
   income (loss), net of tax
 
 
 
 
 
474

 
 
 
474

 
 
 
474

Dividends declared
 
 
 
 
 
 
 
(531
)
 
(531
)
 
 
 
(531
)
Distributions and other activity related to noncontrolling interests
 
 
 
 
 
 
 
 
 

 
(9
)
 
(9
)
Common stock plans activity
 
 
 
129

 
 
 
 
 
129

 
 
 
129

Share repurchases
 
 
 
(722
)
 
 
 
 
 
(722
)
 
 
 
(722
)
Balance at September 29, 2013
 
$
3

 
$
2,335

 
$
(7,314
)
 
$
13,817

 
$
8,841

 
$
170

 
$
9,011

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2011
 
$
3

 
$
3,523

 
$
(7,001
)
 
$
11,656

 
$
8,181

 
$
159

 
$
8,340

Net income
 
 
 
 
 
 
 
1,419

 
1,419

 
10

 
1,429

Other comprehensive income
(loss), net of tax
 
 
 
 
 
495

 
 
 
495

 
 
 
495

Dividends declared
 
 
 
 
 
 
 
(497
)
 
(497
)
 
 
 
(497
)
Distributions and other activity related to noncontrolling interests
 
 
 
 
 
 
 
 
 

 
(6
)
 
(6
)
Common stock plans activity
 
 
 
224

 
 
 
 
 
224

 
 
 
224

Share repurchases
 
 
 
(760
)
 
 
 
 
 
(760
)
 
 
 
(760
)
Balance at September 30, 2012
 
$
3

 
$
2,987

 
$
(6,506
)
 
$
12,578

 
$
9,062

 
$
163

 
$
9,225

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


7


RAYTHEON COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
 
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
Cash flows from operating activities
 
 
 
 
Net income
 
$
1,480

 
$
1,429

(Income) loss from discontinued operations, net of tax
 

 
4

Income from continuing operations
 
1,480

 
1,433

Adjustments to reconcile to net cash provided by (used in) operating activities from
  continuing operations, net of the effect of acquisitions and divestitures
 
 
 
 
Depreciation and amortization
 
332

 
341

Stock-based compensation
 
96

 
84

Deferred income taxes
 
(134
)
 
7

Tax benefit from stock-based awards
 
(11
)
 
(14
)
Changes in assets and liabilities
 
 
 
 
Contracts in process, net and advance payments and billings in excess of costs
    incurred
 
(883
)
 
(622
)
Inventories
 
(24
)
 
(145
)
Prepaid expenses and other current assets
 
70

 
37

Accounts payable
 
(206
)
 
(314
)
Income taxes receivable/payable
 
287

 
(90
)
Accrued employee compensation
 
138

 
191

Other accrued expenses
 
(13
)
 
(22
)
Other long-term liabilities
 
(16
)
 
(38
)
Pension and other postretirement benefit plans
 
175

 
120

Other, net
 
(15
)
 
(5
)
Net cash provided by (used in) operating activities from continuing operations
 
1,276

 
963

Net cash provided by (used in) operating activities from discontinued operations
 
1

 
6

Net cash provided by (used in) operating activities
 
1,277

 
969

Cash flows from investing activities
 
 
 
 
Additions to property, plant and equipment
 
(165
)
 
(204
)
Proceeds from sales of property, plant and equipment
 
1

 
46

Additions to capitalized internal use software
 
(34
)
 
(60
)
Purchases of short-term investments
 
(939
)
 
(831
)
Sales of short-term investments
 
325

 
150

Maturities of short-term investments
 
518

 
75

Payments for purchases of acquired companies, net of cash received
 
(14
)
 
(7
)
Other
 

 
(2
)
Net cash provided by (used in) investing activities
 
(308
)
 
(833
)
Cash flows from financing activities
 
 
 
 
Dividends paid
 
(520
)
 
(478
)
Repurchases of common stock
 
(675
)
 
(725
)
Activity under common stock plans
 
(23
)
 
90

Tax benefit from stock-based awards
 
11

 
14

Other
 
(8
)
 
(5
)
Net cash provided by (used in) financing activities
 
(1,215
)
 
(1,104
)
Net increase (decrease) in cash and cash equivalents
 
(246
)
 
(968
)
Cash and cash equivalents at beginning of the year
 
3,188

 
4,000

Cash and cash equivalents at end of period
 
$
2,942

 
$
3,032


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

8


RAYTHEON COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Note 1: Basis of Presentation
We prepared the accompanying unaudited consolidated financial statements of Raytheon Company and all wholly-owned and majority-owned domestic and otherwise controlled foreign subsidiaries on the same basis as our annual audited financial statements. We condensed or omitted certain information and footnote disclosures normally included in our annual audited financial statements, which we prepared in accordance with U.S. Generally Accepted Accounting Principles (GAAP). Our quarterly financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2012. As used in this report, the terms “we,” “us,” “our,” “Raytheon” and the “Company” mean Raytheon Company and its subsidiaries, unless the context indicates another meaning.
In the opinion of management, our financial statements reflect all adjustments, which are of a normal recurring nature, necessary for presentation of financial statements for interim periods in accordance with GAAP and with the instructions to Form 10-Q in Article 10 of Securities and Exchange Commission (SEC) Regulation S-X. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions about future events that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of our financial statements, and the reported amounts of revenue and expenses during the reporting periods. Actual results could differ from those estimates, and any such differences may be material to our financial statements.
As previously announced, effective April 1, 2013, we consolidated our structure into the following four businesses: Integrated Defense Systems (IDS); Intelligence, Information and Services (IIS); Missile Systems (MS); and Space and Airborne Systems (SAS).
The amounts, discussion and presentation of our business segments, including eliminations for intersegment activity, as set forth in this Form 10-Q, reflect our new structure. None of the changes impact our previously reported consolidated financial statements.

Note 2: Changes in Estimates under Percentage of Completion Contract Accounting
We have a Company-wide standard and disciplined quarterly Estimate at Completion (EAC) process in which management reviews the progress and performance of our contracts. As part of this process, management reviews information including, but not limited to, any outstanding key contract matters, progress towards completion and the related program schedule, identified risks and opportunities, and the related changes in estimates of revenues and costs. The risks and opportunities include management's judgment about the ability and cost to achieve the schedule (e.g., the number and type of milestone events), technical requirements (e.g., a newly-developed product versus a mature product), and other contract requirements. Management must make assumptions and estimates regarding labor productivity and availability, the complexity of the work to be performed, the availability of materials, the length of time to complete the contract (e.g., to estimate increases in wages and prices for materials and related support cost allocations), performance by our subcontractors, the availability and timing of funding from our customer, and overhead cost rates, among other variables. These estimates also include the estimated cost of satisfying our industrial cooperation agreements, sometimes referred to as offset obligations required under certain contracts. Based on this analysis, any quarterly adjustments to net sales, cost of sales, and the related impact to operating income are recognized as necessary in the period they become known. These adjustments may result from positive program performance, and may result in an increase in operating income during the performance of individual contracts, if we determine we will be successful in mitigating risks surrounding the technical, schedule, and cost aspects of those contracts or realizing related opportunities. Likewise, these adjustments may result in a decrease in operating income if we determine we will not be successful in mitigating these risks or realizing related opportunities. Changes in estimates of net sales, costs of sales, and the related impact to operating income are recognized quarterly on a cumulative catch-up basis, which recognizes in the current period the cumulative effect of the changes on current and prior periods based on a contract's percentage of completion. A significant change in one or more of these estimates could affect the profitability of one or more of our contracts. When estimates of total costs to be incurred on a contract exceed total estimates of revenue to be earned, a provision for the entire loss on the contract is recognized in the period the loss is determined.


9


Net EAC adjustments had the following favorable impact on our operating results:
 
Three Months Ended
 
Nine Months Ended
(In millions, except per share amounts)
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Operating income
$
143

 
$
157

 
$
438

 
$
472

Income from continuing operations attributable to Raytheon Company
93

 
102

 
285

 
307

Diluted earnings per share (EPS) from continuing operations attributable to Raytheon Company
$
0.29

 
$
0.31

 
$
0.88

 
$
0.92


Note 3: Inventories
Inventories consisted of the following: 
(In millions)
 
Sep 29, 2013
 
Dec 31, 2012
Materials and purchased parts
 
$
81

 
$
74

Work in process
 
315

 
291

Finished goods
 
9

 
16

Total
 
$
405

 
$
381

We capitalize costs incurred in advance of contract award or funding in inventories if we determine that contract award or funding is probable. To the extent these are precontract costs, start-up costs have been excluded. We included capitalized precontract costs and other deferred costs of $129 million and $100 million in inventories as work in process at September 29, 2013 and December 31, 2012, respectively.

Note 4: Accounting Standards
New pronouncements issued but not effective until after September 29, 2013 are not expected to have a material impact on our financial position, results of operations or liquidity.

Note 5: Acquisitions
In pursuing our business strategies, we acquire and make investments in certain businesses that meet strategic and financial criteria.

During the first nine months of 2013, we acquired Visual Analytics, Incorporated, subsequently renamed Raytheon Visual Analytics, Incorporated (RVAI), for $14 million in cash, net of cash acquired, and exclusive of retention payments. RVAI further extends our capabilities to meet the data analytics, data visualization and information sharing needs of our customers, and this acquisition is part of our strategy to enhance our Intelligence, Information and Services (IIS) offerings. In connection with this acquisition, we have recorded $12 million of goodwill, primarily related to expected synergies from combining operations and the value of the existing workforce, and $3 million of intangible assets. We completed the purchase price allocation process in the third quarter of 2013. Pro-forma financial information has not been provided for this acquisition because it is not material.
A rollforward of our goodwill by segment is as follows:
(In millions)
 
Integrated
Defense
Systems

 
Intelligence,
Information and Services

 
Missile
Systems

 
Space and
Airborne
Systems

 
Total

Balance at December 31, 2012 (1)
 
$
1,799

 
$
2,699

 
$
4,150

 
$
4,108

 
$
12,756

Acquisitions
 

 
12

 

 
(2
)
 
10

Effect of foreign exchange rates and other
 
1

 
(2
)
 

 

 
(1
)
Balance at September 29, 2013
 
$
1,800

 
$
2,709

 
$
4,150

 
$
4,106

 
$
12,765

(1) The December 31, 2012 balances were revised to reflect the new Raytheon structure as described in "Note 1: Basis of Presentation".

Note 6: Discontinued Operations
In pursuing our business strategies we have divested certain non-core businesses, investments, and assets when appropriate. All residual activity relating to our previously disposed businesses appears in discontinued operations.
We retained certain assets and liabilities of our previously disposed businesses. At September 29, 2013 and December 31, 2012, we had $3 million and $7 million, respectively, of assets primarily related to our retained interest in general aviation

10


finance receivables from the previously sold Raytheon Aircraft Company. At September 29, 2013 and December 31, 2012, we had $33 million and $36 million, respectively, of liabilities primarily related to non-income tax obligations, certain environmental and product liabilities and various contract obligations. We also retained certain pension assets and obligations, which we include in our pension disclosures.

Note 7: Derivative Financial Instruments
Our primary market exposures are to foreign exchange rates and interest rates, and we use certain derivative financial instruments to help manage these exposures. We execute these instruments with financial institutions that we judge to be credit-worthy, and the majority of our foreign currency forward contracts are denominated in currencies of major industrial countries. We do not hold or issue derivative financial instruments for trading or speculative purposes.
The fair value amounts of asset derivatives included in other assets, net and liability derivatives included in other accrued expenses on our consolidated balance sheets related to foreign currency forward contracts were as follows:
 
 
Asset Derivatives
 
Liability Derivatives
(In millions)
 
Sep 29, 2013
 
Dec 31, 2012
 
Sep 29, 2013
 
Dec 31, 2012
Derivatives designated as hedging instruments
 
$
15

 
$
13

 
$
15

 
$
12

Derivatives not designated as hedging instruments
 
3

 
4

 
2

 
2

Total
 
$
18

 
$
17

 
$
17

 
$
14

We recognized the following pretax gains (losses) related to foreign currency forward contracts designated as cash flow hedges: 
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Effective portion
 
 
 
 
 
 
 
 
Gain (loss) recognized in accumulated other comprehensive loss (AOCL)
 
$
6

 
$
6

 
$

 
$
4

Gain (loss) reclassified from AOCL to operating income
 
(3
)
 
(1
)
 
1

 
(1
)
Amount excluded from effectiveness assessment and ineffective portion
 
 
 
 
 
 
 
 
Gain (loss) recognized in operating income
 

 

 

 


Pretax gains (losses) related to foreign currency forward contracts not designated as cash flow hedges were not material at September 29, 2013 and December 31, 2012.

We use foreign currency forward contracts to fix the functional currency value of specific commitments, payments and receipts. The aggregate notional amount of the outstanding foreign currency forward contracts was $1,510 million and $1,305 million at September 29, 2013 and December 31, 2012, respectively.

Our foreign currency forward contracts contain off-set or netting provisions to mitigate credit risk in the event of counterparty default, including payment default and cross default. At September 29, 2013 and December 31, 2012, the fair value of our counterparty default exposure was less than $1 million and spread across numerous highly rated counterparties.

There were no interest rate swaps outstanding at September 29, 2013 or December 31, 2012.

In December 2012, we issued $1.1 billion of fixed rate long-term debt with a maturity of 10 years. In conjunction with the debt issuance, we entered into interest rate lock agreements with a total notional value of $700 million to manage interest rate risk, which resulted in a decrease to AOCL of $3 million to be amortized over the term of the debt issued. As of December 31, 2012, the above referenced interest rate locks were closed out.

Note 8: Fair Value Measurements
The estimated fair value of certain financial instruments, including cash and cash equivalents and short-term investments, approximates the carrying value due to their short maturities. The estimated fair value of notes receivable approximates the carrying value based principally on their underlying interest rates and terms, maturities, collateral and credit status of the receivables. The carrying value of long-term debt of $4,733 million at September 29, 2013 and $4,731 million at December 31, 2012, was recorded at amortized cost. The estimated fair value of long-term debt of approximately $5,046 million and $5,483 million at September 29, 2013 and December 31, 2012, respectively, was determined based on quoted prices in inactive markets, which falls within Level 2 of the fair value measurement hierarchy.

11


We invest in marketable securities in accordance with our short-term investment policy and cash management strategy. These marketable securities are classified as available-for-sale and are recorded at fair value as short-term investments in our consolidated balance sheets. At September 29, 2013, we had short-term investments of $955 million consisting of highly rated bank certificates of deposit with a minimum long-term debt rating of A or A2 and a minimum short-term debt rating of A-1 and P-1. The amortized cost of these securities closely approximated their fair value as of September 29, 2013. Unrealized gains and losses on our available-for-sale securities are recorded in AOCL, net of tax. Realized gains and losses on sales of our available-for-sale securities are recorded in other (income) expense, net on our consolidated statements of operations. When determined, other than temporary declines in the value of available-for-sale securities are recorded as a loss in earnings. We make such determinations by considering, among other factors, the length of time the fair value of the investment has been less than the carrying value, future business prospects for the investee, and information regarding market and industry trends for the investee's business, if available. For purposes of computing realized gains and losses on available-for-sale securities, we determine cost on a specific identification basis. There were no securities deemed to have other than temporary declines in value for the third quarter of 2013. In the third quarter of 2013, we recorded an unrealized gain on short-term investments of less than $1 million, net of tax, in AOCL. In the first nine months of 2013, we recorded sales of short-term investments of $325 million.

We did not have any significant nonfinancial assets or nonfinancial liabilities that would be recognized or disclosed at fair value on a recurring basis as of September 29, 2013 and December 31, 2012. In addition, we did not have any transfers of assets or liabilities between levels of the fair value hierarchy during the third quarter of 2013 or the year ended December 31, 2012.
Assets and liabilities measured at fair value on a recurring basis consisted of the following: 
September 29, 2013 (in millions)
 
Level 1

 
Level 2 (1)

 
Level 3

 
Total

Assets
 
 
 
 
 
 
 
 
Marketable securities held in trust
 
$
445

 
$

 
$

 
$
445

Short-term investments
 

 
955

 

 
955

Foreign currency forward contracts
 
18

 

 

 
18

Liabilities
 
 
 
 
 
 
 
 
Deferred compensation
 
274

 

 

 
274

Foreign currency forward contracts
 
17

 

 

 
17

December 31, 2012 (in millions)
 
Level 1

 
Level 2 (1)

 
Level 3

 
Total

Assets
 
 
 
 
 
 
 
 
Marketable securities held in trust
 
$
407

 
$

 
$

 
$
407

Short-term investments
 

 
856

 

 
856

Foreign currency forward contracts
 
17

 

 

 
17

Liabilities
 
 
 
 
 
 
 
 
Deferred compensation
 
251

 

 

 
251

Foreign currency forward contracts
 
14

 

 

 
14

(1) Fair value of Level 2 short-term investments is determined under a market approach using valuation models that utilize observable inputs, including maturity date, issue date, settlement date, current commercial paper rate, current certificate of deposit rate and coupon rates.

Note 9: Commitments and Contingencies
Environmental MattersWe are involved in various stages of investigation and cleanup related to remediation of various environmental sites. Our estimate of the liability of total environmental remediation costs includes the use of a discount rate and takes into account that a portion of these costs is eligible for future recovery through the pricing of our products and services to the U.S. Government. We consider such recovery probable based on government contracting regulations and our long history of receiving reimbursement for such costs, and accordingly have recorded the estimated future recovery of these costs from the U.S. Government within contracts in process, net. Our estimates regarding remediation costs to be incurred were as follows:

12


(In millions, except percentages)
 
Sep 29, 2013
 
Dec 31, 2012
Total remediation costs—undiscounted
 
$
203

 
$
202

Weighted average risk-free rate
 
5.6
%
 
5.6
%
Total remediation costs—discounted
 
$
139

 
$
131

Recoverable portion
 
94

 
86

We also lease certain government-owned properties and generally are not liable for remediation of preexisting environmental contamination at these sites; as a result, we generally do not provide for these costs in our consolidated financial statements.
Due to the complexity of environmental laws and regulations, the varying costs and effectiveness of alternative cleanup methods and technologies, the uncertainty of insurance coverage and the unresolved extent of our responsibility, it is difficult to determine the ultimate outcome of environmental matters; however, we do not expect any additional liability to have a material adverse effect on our financial position, results of operations or liquidity.
Financing Arrangements and Other—We issue guarantees, and banks and surety companies issue, on our behalf, letters of credit and surety bonds to meet various bid, performance, warranty, retention and advance payment obligations of us or our affiliates. These instruments expire on various dates through 2023. Additional guarantees of project performance for which there is no stated value also remain outstanding. The stated values outstanding consisted of the following:
(In millions)
 
Sep 29, 2013
 
Dec 31, 2012
Guarantees
 
$
378

 
$
255

Letters of credit
 
1,313

 
1,474

Surety bonds
 
238

 
239


Included in guarantees and letters of credit described above were $233 million and $216 million, respectively, at September 29, 2013, and $108 million and $225 million, respectively, at December 31, 2012, related to our joint venture in Thales-Raytheon Systems Co. Ltd. (TRS). We provide these guarantees and letters of credit to TRS and other affiliates to assist these entities in obtaining financing on more favorable terms, making bids on contracts and performing their contractual obligations. While we expect these entities to satisfy their loans, and meet their project performance and other contractual obligations, their failure to do so may result in a future obligation to us. We periodically evaluate the risk of TRS and other affiliates failing to satisfy their loans, project performance and meet other contractual obligations described above. At September 29, 2013, we believe the risk that TRS and other affiliates will not be able to perform or meet their obligations is minimal for the foreseeable future based on their current financial condition. All obligations were current at September 29, 2013. At September 29, 2013 and December 31, 2012, we had an estimated liability of $7 million and $4 million, respectively, related to these guarantees and letters of credit.
In 1997, we provided a first loss guarantee of $133 million on $1.3 billion of U.S. Export-Import Bank loans (maturing in 2015) to the Brazilian Government related to IDS' System for the Vigilance of the Amazon (SIVAM) program. Loan repayments by the Brazilian Government were current at September 29, 2013.
We have entered into industrial cooperation agreements, sometimes referred to as offset agreements, as a condition to obtaining orders for our products and services from certain customers in foreign countries. At September 29, 2013, the aggregate amount of our offset agreements had an outstanding notional value of approximately $5 billion. These agreements are designed to return economic value to the foreign country by requiring us to engage in activities supporting local defense or commercial industries, promoting a balance of trade, developing in-country technology capabilities, or addressing other local development priorities. Offset agreements may be satisfied through activities that do not require a direct cash payment, including transferring technology, providing manufacturing, training and other consulting support to in-country projects, and the purchase by third parties (e.g., our vendors) of supplies from in-country vendors. These agreements may also be satisfied through our use of cash for activities such as subcontracting with local partners, purchasing supplies from in-country vendors, providing financial support for in-country projects, and making investments in local ventures. Such activities may also vary by country depending upon requirements as dictated by their governments. We typically do not commit to offset agreements until orders for our products or services are definitive. The amounts ultimately applied against our offset agreements are based on negotiations with the customers and typically require cash outlays that represent only a fraction of the notional value in the offset agreements. Offset programs usually extend over several or more years and may provide for penalties in the event we fail to perform in accordance with offset requirements. We have historically not been required to pay any such penalties.
As a government contractor, we are subject to many levels of audit and investigation by the U.S. Government relating to our contract performance and compliance with applicable rules and regulations. Agencies that oversee contract performance include: the Defense Contract Audit Agency, the Defense Contract Management Agency, the Inspector General of the Department of Defense and other departments and agencies, the Government Accountability Office, the Department of Justice

13


and Congressional Committees. From time to time, these and other agencies investigate or conduct audits to determine whether our operations are being conducted in accordance with applicable requirements. Such investigations and audits could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon us, the suspension of government export licenses or the suspension or debarment from future U.S. Government contracting. U.S. Government investigations often take years to complete and many result in no adverse action against us. Our final allowable incurred costs for each year are also subject to audit and have from time to time resulted in disputes between us and the U.S. Government with litigation resulting at the Court of Federal Claims (COFC) or the Armed Services Board of Contract Appeals (ASBCA) or their related courts of appeals. In addition, the Department of Justice has, from time to time, convened grand juries to investigate possible irregularities by us. We also provide products and services to customers outside of the U.S. and those sales are subject to local government laws, regulations, and procurement policies and practices. Our compliance with such local government regulations or any applicable U.S. Government regulations (e.g., the Foreign Corrupt Practices Act and the International Traffic in Arms Regulations) may also be investigated or audited. Other than as specifically disclosed herein, we do not expect these audits, investigations or disputes to have a material effect on our financial position, results of operations or liquidity, either individually or in the aggregate.
On July 22, 2010, Raytheon Systems Limited (RSL) was notified by the UK Border Agency (UKBA) that it had been terminated for cause on a program. The termination notice included allegations that RSL had failed to perform on certain key milestones and other matters in addition to claiming entitlement to recovery of certain losses incurred and previous payments made to RSL. We believe that RSL performed well and delivered substantial capabilities to the UKBA under the program, which has been operating successfully and providing actionable information since live operations began in May 2009. As a result of the termination notice, we adjusted our estimated amounts of revenue and cost under the program in the second quarter of 2010. On July 29, 2010, RSL filed a dispute notice on the grounds that the termination by the UKBA was not valid. On August 18, 2010, the UKBA initiated arbitration proceedings on this issue. On March 22, 2011, the UKBA gave notice that it had presented a demand to draw on the approximately $80 million of letters of credit provided by RSL upon the signing of the contract with the UKBA in 2007. On March 23, 2011, the UKBA submitted a detailed claim in the arbitration of approximately £350 million (approximately $565 million based on foreign exchange rates as of September 29, 2013) for damages and clawback of previous payments, plus interest and arbitration costs, excluding any credit for capability delivered or draw on the letters of credit. The UKBA also asserted that additional amounts may be detailed in the claim in the future if estimates of its damages change, and for continuing post-termination losses and any re-procurement costs, which have not been quantified. At RSL's request, on March 29, 2011, the Arbitration Tribunal issued an interim order restraining the UKBA from drawing down on the letters of credit pending a hearing on the issue. Following the hearing, the Tribunal lifted the restraint on the basis that, at this early stage of the proceedings, the Tribunal had not heard the evidence needed to decide the merits of whether the contractual conditions for a drawdown had been established. The Tribunal also concluded that any decision on the UKBA's right to call on the letters of credit is inextricably intertwined with the ultimate decision on the merits in the arbitration. The Tribunal also preserved RSL's right to claim damages should RSL later establish that the drawdown was not valid. As a result, on April 6, 2011, the UKBA drew the $80 million on the letters of credit.
As a result of the Tribunal’s decision that the letters of credit are inextricably intertwined with the ultimate decision on the merits in the arbitration, we were no longer able to evaluate, independently from the overall claim, the probability of recovery of any amounts drawn on the letters of credit. We therefore recorded $80 million of costs related to the UKBA drawdown (UKBA LOC Adjustment), which was included in the operating expenses of our Intelligence, Information and Services segment in the first quarter of 2011.
In June 2011, RSL submitted in the arbitration its defenses to the UKBA claim as well as substantial counterclaims in the amount of approximately £500 million (approximately $807 million based on foreign exchange rates as of September 29, 2013) against the UKBA for the collection of receivables, damages and interest. On October 3, 2011, the UKBA filed its reply to RSL's counterclaims, and increased its claim amount by approximately £32 million, to include additional civil service and post termination costs, and approximately £33 million for interest, raising the gross amount of the UKBA claim for damages and clawback of previous payments to approximately £415 million (approximately $670 million based on foreign exchange rates as of September 29, 2013). On January 6, 2012, RSL filed its response to the UKBA's reply. RSL is pursuing vigorously the collection of all receivables for the program and damages in connection with the wrongful termination and is mounting a strong defense to the UKBA's alleged claims for losses and previous payments. RSL has also settled substantially all subcontractor claims, novated all key subcontracts to the UKBA and agreed with the UKBA that RSL's exit obligations to operate the previously delivered capability ended in April 2011. Effective April 15, 2011, the UKBA took over responsibility for operating the previously delivered capability. In March 2013, the UKBA updated the total net amount of its claims to approximately £302 million (approximately $487 million based on foreign exchange rates as of September 29, 2013) for damages, clawback of previous payments and interest, and inclusive of a credit for capability delivered by RSL. Arbitration hearings commenced in late 2012 and we expect to have a decision in 2013.

14


The receivables and other assets remaining under the program for technology and services delivered were approximately $40 million at September 29, 2013 and December 31, 2012. We believe the remaining receivables and other assets are probable of recovery in litigation or arbitration. We currently do not believe it is probable that RSL is liable for losses, previous payments (which includes the $80 million related to the drawdown on the letters of credit), clawback or other claims asserted by the UKBA either in its March 2011 arbitration filing or its October 2011 reply. Due to the inherent uncertainties in litigation and arbitration, and the complexity and technical nature of actual and potential claims and counterclaims, it is reasonably possible that the ultimate amount of any resolution of the termination could be less or greater than the amounts we have recorded. For the same reasons, at this time, we are unable to estimate a range of the possible loss or recovery, if any, beyond the claim and counterclaim amounts. If we fail to collect the receivable balances or are required to make payments against claims or other losses asserted by the UKBA in excess of the amounts we have recorded, it could have a material adverse effect on our financial position, results of operations or liquidity.

On June 29, 2012 and July 13, 2012, we received a contracting officer’s final decision (COFD) for 2004 and 2005 incurred costs at SAS. The COFDs demand a total payment of $241 million for costs, interest and penalties associated with several issues, the largest of which relates to specific research and development and capital projects undertaken by SAS between 2000 and 2005. To date, no COFDs have been provided for 2000 to 2003 periods at SAS on these issues. The Government alleges that the costs incurred on the projects should have been charged directly to U.S. Government contracts rather than through indirect rates and that these costs should not be recoverable. We strongly disagree with the Government's position. We have requested a deferment of the payment and in February and May 2013, we filed complaints in the U.S. COFC challenging the 2004 and 2005 COFDs, respectively. Due to the inherent uncertainties of litigation, we cannot estimate a range of potential loss. We believe that we appropriately charged the disputed costs based on government accounting standards and applicable precedent and properly disclosed our approach to the Government. We also believe that in many cases, the statute of limitations has run on the issues. Based upon the foregoing, we do not expect the results of the COFDs to have a material impact on our financial position, results of operations or liquidity.

In addition, various other claims and legal proceedings generally incidental to the normal course of business are pending or threatened against, or initiated by, us. We do not expect any of these proceedings to result in any additional liability or gains that would materially affect our financial position, results of operations or liquidity. In connection with certain of our legal matters, we may be entitled to insurance recovery for qualified legal costs. We do not expect any insurance recovery to have a material impact on the financial exposure that could result from these matters.
Product Warranty—We provide product warranties in conjunction with certain product sales for which we recognize revenue upon delivery.
Activity related to our product warranty accruals was as follows: 
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Beginning balance
 
$
31

 
$
36

 
$
33

 
$
38

Provisions for warranties
 
2

 
1

 
6

 
5

Warranty services provided
 
(1
)
 
(2
)
 
(7
)
 
(8
)
Ending balance
 
$
32

 
$
35

 
$
32

 
$
35

We account for warranty provision costs incurred under our long-term contracts using the cost-to-cost measure of progress as contracts costs, as the estimation of these costs is integral in determining the price of the related long-term contracts. The table above excludes these costs.
As part of the business consolidation disclosed in "Note 1: Basis of Presentation", the total costs of the severance benefits to terminated employees are not expected to be material, and almost all of the costs are incurred in accordance with existing termination benefit plans and not as one-time termination benefits. Additionally, relocation and other costs associated with the business consolidation are not material. Although not material, the majority of these costs will be recovered in our overhead rates.

15


Note 10: Stockholders’ Equity
The changes in shares of our common stock outstanding were as follows:
 
Nine Months Ended
Shares of Common Stock Outstanding (in millions)
Sep 29, 2013
 
Sep 30, 2012
Beginning balance
328.1

 
338.9

Stock plans activity
2.6

 
5.7

Stock repurchases
(11.3
)
 
(14.8
)
Ending balance
319.4

 
329.8

In September 2011, our Board of Directors authorized the repurchase of up to $2.0 billion of our outstanding common stock. At September 29, 2013, we had approximately $670 million available under this repurchase program. All previous programs were completed by the first quarter of 2012. Stock repurchases will take place from time to time at management’s discretion depending on market conditions.

Stock repurchases also include shares surrendered by employees to satisfy tax withholding obligations in connection with restricted stock awards, restricted stock units and stock options issued to employees.

Our stock repurchases were as follows:
 
 
Nine Months Ended
(In millions)
 
Sep 29, 2013

Sep 30, 2012
 
 
$
Shares


$
Shares

Stock repurchased under our stock repurchase program
 
$
675

10.5


$
725

14.1

Stock repurchased to satisfy tax withholding obligations
 
47

0.8


35

0.7

Total stock repurchases
 
$
722

11.3

 
$
760

14.8


In the fourth quarter of 2012, all outstanding treasury shares directly held by us were retired, with an offsetting reduction in common stock for the par value and the remaining amount offset in additional paid-in-capital. In addition, our Board of Directors authorized all future share repurchases, including those to satisfy tax withholding obligations, to be retired immediately upon repurchase.
In March 2013, our Board of Directors authorized a 10% increase to our annual dividend payout rate from $2.00 to $2.20 per share. Our Board of Directors also declared dividends of $1.65 per share during the first nine months of 2013, compared to dividends of $1.50 per share during the first nine months of 2012. Dividends are subject to quarterly approval by our Board of Directors.
Earnings Per Share (EPS)
We compute basic and diluted EPS using actual income from continuing operations attributable to Raytheon Company common stockholders, income (loss) from discontinued operations net of tax attributable to Raytheon Company common stockholders, net income attributable to Raytheon Company, and our actual weighted-average shares and participating securities outstanding rather than the numbers presented within our unaudited consolidated financial statements, which are rounded to the nearest million. As a result, it may not be possible to recalculate EPS as presented in our unaudited consolidated financial statements. Furthermore, it may not be possible to recalculate EPS attributable to Raytheon Company common stockholders by adjusting EPS from continuing operations by EPS from discontinued operations.

We include all unvested stock awards that contain non-forfeitable rights to dividends or dividend equivalents, whether paid or unpaid, in the number of shares outstanding in our basic and diluted EPS calculations. As a result, we have included all of our outstanding unvested restricted stock and Long-Term Performance Plan (LTPP) awards that meet the retirement eligible criteria in our calculation of basic and diluted EPS. We disclose EPS for common stock and unvested share-based payment awards, and separately disclose distributed and undistributed earnings. Distributed earnings represent common stock dividends and dividends earned on unvested share-based payment awards of retirement eligible employees. Undistributed earnings represent earnings that were available for distribution but were not distributed. Common stock and unvested share-based payment awards earn dividends equally.


16


EPS from continuing operations attributable to Raytheon Company common stockholders and unvested share-based payment awards was as follows: 
 
 
Three Months Ended
 
Nine Months Ended
 
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Basic EPS attributable to Raytheon Company common stockholders:
 
 
 
 
 
 
 
 
Distributed earnings
 
$
0.55

 
$
0.50

 
$
1.64

 
$
1.49

Undistributed earnings
 
0.96

 
1.01

 
2.87

 
2.77

Total
 
$
1.51

 
$
1.51

 
$
4.51

 
$
4.26

Diluted EPS attributable to Raytheon Company common stockholders:
 
 
 
 
 
 
 
 
Distributed earnings
 
$
0.54

 
$
0.50

 
$
1.64

 
$
1.48

Undistributed earnings
 
0.97

 
1.01

 
2.86

 
2.76

Total
 
$
1.51

 
$
1.51

 
$
4.50

 
$
4.24

Basic and diluted EPS from discontinued operations attributable to Raytheon Company common stockholders and unvested share-based payment awards was income of less than $0.01 and a loss of less than $0.01 for the third quarters of 2013 and 2012, respectively and a loss of less than $0.01 and a loss of $0.01 for the first nine months of 2013 and 2012, respectively.
The income attributable to participating securities was as follows:
 
Three Months Ended
 
Nine Months Ended
(In millions)
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Income from continuing operations attributable to participating securities
$
10

 
$
10

 
$
29

 
$
27

Income (loss) from discontinued operations, net of tax attributable to participating securities (1)

 

 

 

Net income attributable to participating securities
$
10

 
$
10

 
$
29

 
$
27

(1) Income (loss) from discontinued operations, net of tax attributable to participating securities was income of less than $1 million and a loss of less than $1 million for the third quarters of 2013 and 2012, respectively and a loss of less than $1 million for the first nine months ended 2013 and 2012.
The weighted-average shares outstanding for basic and diluted EPS were as follows:
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Shares for basic EPS (including 6.4 participating securities for the three months ended September 29, 2013 and September 30, 2012, and 6.4 and 6.2 for the nine months ended September 29, 2013 and September 30, 2012, respectively).
 
322.5

 
332.0

 
324.9

 
334.3

Dilutive effect of stock options and LTPP
 
0.8

 
1.0

 
0.8

 
1.1

Shares for diluted EPS
 
323.3

 
333.0

 
325.7

 
335.4

There were no stock options with exercise prices greater than the average market price (anti-dilutive) that were excluded from our calculation of diluted EPS for the third quarters of 2013 and 2012 and for the first nine months of 2013 and 2012. Stock options to purchase the following number of shares of common stock had exercise prices that were less than the average market price (dilutive) of our common stock and were included in our calculations of diluted EPS:
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Stock options included in calculations of EPS (dilutive)
 
0.1

 
1.1

 
0.1

 
1.1


17


Stock-based Compensation Plans
Restricted stock activity for the first nine months of 2013 was as follows:
(In millions)
Number of Shares

Outstanding unvested at December 31, 2012
5.8

Granted
1.8

Vested
(1.7
)
Forfeited
(0.4
)
Outstanding unvested at September 29, 2013
5.5

During the first nine months of 2013 and 2012, we issued 0.4 million and 0.5 million shares, respectively, of our common stock in connection with the vesting of our 2010–2012 and 2009–2011 LTPP awards. During the same periods, we also granted our 2013–2015 and 2012–2014 LTPP awards with an aggregate target award of 0.4 million and 0.5 million shares, respectively, for each period.
The performance goals for the 2013–2015 LTPP award are independent of each other and based on three metrics, as defined in the award agreements: return on invested capital (ROIC), weighted at 50%; total shareholder return (TSR) relative to a peer group, weighted at 25%; and cumulative free cash flow from continuing operations (CFCF), weighted at 25%. The ultimate award, which is determined at the end of the three-year cycle, can range from zero to 200% of the target award and includes dividend equivalents, which are not included in the aggregate target award numbers.

Other Comprehensive Income (Loss)
Other comprehensive income (loss) includes foreign exchange translation adjustments, gains and losses on derivative instruments qualified as cash flow hedges, unrealized gains (losses) on investments, and gains and losses associated with pension and other postretirement benefits. The computation of other comprehensive income (loss) and its components are presented in the consolidated statements of comprehensive income.

Other comprehensive income (loss) consisted of the following activity during the first nine months of 2013 and 2012:
 
Foreign exchange translation

 
Cash flow hedges and interest rate locks

 
Unrealized gains (losses) on investments and other, net

 
Pension and other employee benefit plans, net

 
Total

 
 
 
 
 
(In millions)
 
 
 
 
Balance at December 31, 2012
$
60

 
$
(5
)
 
$
(10
)
 
$
(7,833
)
 
$
(7,788
)
Before-Tax Amount
(18
)
 
(2
)
 
(1
)
 
761

 
740

Tax (Expense) or Benefit

 
1

 

 
(267
)
 
(266
)
Net-of-Tax Amount
(18
)
 
(1
)
 
(1
)
 
494

 
474

Balance at September 29, 2013
$
42

 
$
(6
)
 
$
(11
)
 
$
(7,339
)
 
$
(7,314
)
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2011
$
25

 
$
(13
)
 
$
(5
)
 
$
(7,008
)
 
$
(7,001
)
Before-Tax Amount
43

 
7

 
(2
)
 
690

 
738

Tax (Expense) or Benefit

 
(2
)
 
1

 
(242
)
 
(243
)
Net-of-Tax Amount
43

 
5

 
(1
)
 
448

 
495

Balance at September 30, 2012
$
68

 
$
(8
)
 
$
(6
)
 
$
(6,560
)
 
$
(6,506
)

Material amounts reclassified out of AOCL were related to amortization of net actuarial loss associated with our pension and other employee benefit plans, and were $866 million and $706 million before-tax in the first nine months of 2013 and 2012, respectively. This component of AOCL is included in the calculation of net periodic pension expense (income) (see "Note 11: Pension and Other Employee Benefits" for additional details).

The defined benefit pension and other employee benefit plans is shown net-of-tax benefits of $3,951 million and $4,218 million at September 29, 2013 and December 31, 2012, respectively. The cash flow hedges and interest rate locks are shown net-of-tax benefits of $3 million and $2 million at September 29, 2013 and December 31, 2012, respectively. The unrealized gains on investments and other are shown net-of-tax benefits of $4 million at September 29, 2013 and December 31, 2012.



18


We expect less than $1 million of after-tax net unrealized losses on our cash flow hedges at September 29, 2013 to be reclassified into earnings at then-current values over the next twelve months as the underlying hedged transactions occur.

Note 11: Pension and Other Employee Benefits
We have pension plans covering the majority of our employees, including certain employees in foreign countries (Pension Benefits). Our primary pension obligations relate to our domestic IRS qualified pension plans. We also provide certain health care and life insurance benefits to retired employees and to eligible employees upon retirement through other postretirement benefit plans (Other Benefits).
The components of net periodic pension expense (income) were as follows:
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Service cost
 
$
132

 
$
116

 
$
434

 
$
386

Interest cost
 
250

 
261

 
748

 
785

Expected return on plan assets
 
(370
)
 
(352
)
 
(1,122
)
 
(1,066
)
Amortization of prior service cost included in net periodic
  pension expense
 
3

 
2

 
7

 
7

Amortization of net actuarial loss included in net income
 
278

 
227

 
863

 
704

Loss due to curtailments/settlements
 
1

 
2

 
1

 
2

Net periodic pension expense (income)
 
$
294

 
$
256

 
$
931

 
$
818

Net periodic pension expense (income) includes expense from foreign Pension Benefit plans of $1 million and $2 million in the third quarters of 2013 and 2012, respectively, and $3 million and $4 million in the first nine months of 2013 and 2012, respectively.
The components of net periodic expense (income) related to our Other Benefits were as follows: 
 
 
Three Months Ended
 
Nine Months Ended
(In millions)
 
Sep 29, 2013
 
Sep 30, 2012
 
Sep 29, 2013
 
Sep 30, 2012
Service cost
 
$
2

 
$
2

 
$
6

 
$
6

Interest cost
 
8

 
9

 
24

 
29

Expected return on plan assets
 
(8
)
 
(7
)
 
(24
)
 
(22
)
Amortization of prior service cost included in net periodic
  postretirement expense
 
(1
)
 
(1
)
 
(2
)
 
(2
)
Amortization of net actuarial loss included in net income
 
1

 

 
3

 
2

Net periodic postretirement expense (income)
 
$
2

 
$
3

 
$
7

 
$
13

Long-term pension and other postretirement benefit plan liabilities were as follows:
(In millions)
 
Sep 29, 2013
 
Dec 31, 2012
Long-term pension liabilities
 
$
6,556

 
$
7,138

Other postretirement benefit plan liabilities
 
390

 
397

Total long-term pension and other postretirement benefit plan liabilities
 
$
6,946

 
$
7,535

On a periodic basis, generally planned annually in the third quarter, we update our actuarial estimate of the unfunded projected benefit obligation with final census and investment valuation data for the end of the prior year. As a result of this update, in the third quarter of 2013, we recorded an increase to the unfunded projected benefit obligation for our pension and other postretirement benefit plans of $107 million and $3 million, respectively, with a corresponding net after-tax increase of $71 million to AOCL. As a result of this update, our annual expected FAS/CAS Adjustment (as described in "Note 13: Business Segment Reporting") changed by $31 million of reduced expense, $25 million of which was recorded in the third quarter and first nine months of 2013.
We may make both required and discretionary contributions to our pension plans. Required contributions are primarily determined in accordance with the Pension Protection Act of 2006 (PPA), which amended the Employee Retirement Income Security Act of 1974 (ERISA) rules and are affected by the actual return on plan assets and plan funded status. The funding requirements under the PPA require us to fully fund our pension plans over a rolling seven-year period as determined annually

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based upon the PPA calculated funded status at the beginning of the year. The PPA funded status is based on actual asset performance, averaged over three years, and PPA discount rates, which are based on a 24-month average of high quality corporate bond rates, as published by the IRS. In July 2012, the Surface Transportation Extension Act, which is also referred to as the Moving ahead for Progress in the 21st Century Act (STE Act), was passed by Congress and signed by the President. The STE Act includes a provision for temporary pension funding relief from the current historically low interest rate environment. The provision adjusts the 24-month average high quality bond rates used to determine the PPA funded status so that they are within a floor and cap, or "corridor," based on the 25-year average of corporate bond rates. Beginning in 2012, interest rates must be between 90% and 110% of the 25-year rate, with a 5% increase in this corridor for each year from 2013–2016, resulting in a gradual phase-out of the provision. We made required contributions of $763 million and $711 million during the first nine months of 2013 and 2012, respectively, to our pension and other postretirement benefit plans. We did not make any discretionary contributions to our pension plans during the first nine months of 2013 and 2012; however, we periodically evaluate whether to make discretionary contributions.

Note 12: Income Taxes
We are subject to income taxes in the U.S. and numerous foreign jurisdictions. During the third quarter of 2013, we received final approval from the U.S. Congressional Joint Committee on Taxation (JCT) on a refund claim related to the 2011 tax year, which completed IRS examinations through 2011. We are participating in the IRS Compliance Assurance Process (CAP) program for the 2012 and 2013 tax years. We are also under audit by multiple state and foreign tax authorities.

We believe that our income tax reserves are adequate; however, amounts asserted by taxing authorities could be greater or less than amounts accrued and reflected in our consolidated balance sheets. Accordingly, we could record adjustments to the amounts for federal, foreign and state tax-related liabilities in the future as we revise estimates or as we settle or otherwise resolve the underlying matters. In the ordinary course of business, we may take new positions that could increase or decrease our unrecognized tax benefits in future periods.

The balance of our unrecognized tax benefits, exclusive of interest, was $71 million and $129 million at September 29, 2013 and December 31, 2012, respectively, and $150 million and $167 million at September 30, 2012 and December 31, 2011, the majority of which would affect our earnings if recognized. The $58 million net decrease in the balance of our unrecognized tax benefits during the first nine months of 2013 was a result of the completion of IRS examinations through 2011. The $17 million net decrease in the balance of our unrecognized tax benefits during the first nine months of 2012 was a result of the substantial completion of audits of certain years in certain jurisdictions. The majority of these decreases did not impact earnings as the resolution of the matters was consistent with the benefits previously recognized.

We accrue interest and penalties related to unrecognized tax benefits in tax expense. At September 29, 2013 and December 31, 2012, we had $13 million and $17 million, respectively, of interest and penalties accrued related to unrecognized tax benefits, which, net of the federal tax benefit, was approximately $8 million and $11 million, respectively.

Note 13: Business Segment Reporting
As previously announced, effective April 1, 2013, we consolidated our structure into the following four businesses:

Integrated Defense Systems (IDS)—IDS, headquartered in Tewksbury, Massachusetts, is a leader in integrated air and missile defense; radar solutions; naval combat and ship electronic systems; and command, control, communications, computers and intelligence (C4I) solutions. IDS provides solutions to the U.S. Department of Defense (DoD), its services and agencies, and numerous international customers.

Intelligence, Information and Services (IIS)—IIS, headquartered in Dulles, Virginia, provides a full range of technical and professional services to defense, federal, international and commercial customers worldwide. IIS specializes in intelligence, surveillance and reconnaissance (ISR), navigation, weather, cyber security, training, logistics, mission support and engineering solutions primarily for the intelligence community and government customers.

Missile Systems (MS)—MS, headquartered in Tucson, Arizona, is a premier developer and producer of missile and combat systems for the armed forces of the U.S. and other allied nations. Leveraging its capabilities in advanced airframes, guidance and navigation systems, high-resolution sensors, surveillance, targeting, and netted systems, MS develops and supports a broad range of advanced weapon systems, including missiles, smart munitions, close-in weapon systems, projectiles, kinetic kill vehicles, directed energy effectors and advanced combat sensor solutions. Key customers include the U.S. Navy, Army, Air Force and Marine Corps, the Missile Defense Agency (MDA) and the armed forces of more than 40 allied nations.

Space and Airborne Systems (SAS)—SAS, headquartered in McKinney, Texas, is a leader in the design and development of integrated systems and solutions for advanced missions, including traditional and non-traditional ISR, precision engagement,

20


unmanned aerial operations, communications, and space. Leveraging advanced concepts, state-of-the-art technologies and mission systems knowledge, SAS provides electro-optical/infrared sensors, airborne radars for surveillance and fire control applications, lasers, precision guidance systems, signals intelligence systems, processors, electronic warfare systems, communication systems, and space-qualified systems for civil and military applications. Key customers include the U.S. Navy, Air Force and Army, as well as classified and international customers.
The amounts, discussion and presentation of our business segments, including eliminations for intersegment activity, as set forth in this Form 10-Q, reflect our new structure. None of the changes impact our previously reported consolidated financial statements.

Segment total net sales and operating income generally include intersegment sales and profit recorded at cost plus a specified fee, which may differ from what the selling entity would be able to obtain on sales to external customers. Corporate and Eliminations includes corporate expenses and intersegment sales and profit eliminations. Corporate expenses represent unallocated costs and certain other corporate costs not considered part of management’s evaluation of reportable segment operating performance.

Segment financial results were as follows:
 
 
Three Months Ended

Nine Months Ended
Total Net Sales (in millions) (1)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
Integrated Defense Systems
 
$
1,603

 
$
1,610

 
$
4,920

 
$
4,762

Intelligence, Information and Services
 
1,496

 
1,547

 
4,587

 
4,732

Missile Systems
 
1,635

 
1,677

 
4,961

 
4,858

Space and Airborne Systems
 
1,556

 
1,678

 
4,758

 
5,003

Corporate and Eliminations
 
(448
)
 
(467
)
 
(1,390
)
 
(1,380
)
Total
 
$
5,842

 
$
6,045

 
$
17,836

 
$
17,975

(1) All periods prior to the April 1, 2013 business consolidation have been revised to reflect the new Raytheon structure as described in "Note 1: Basis of Presentation."

 
 
Three Months Ended

Nine Months Ended
Intersegment Sales (in millions) (1)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
Integrated Defense Systems
 
$
28

 
$
21

 
$
80

 
$
70

Intelligence, Information and Services
 
207

 
206

 
622

 
584

Missile Systems
 
39

 
37

 
120

 
115

Space and Airborne Systems
 
174

 
203

 
568

 
611

Total
 
$
448

 
$
467

 
$
1,390

 
$
1,380

(1) All periods prior to the April 1, 2013 business consolidation have been revised to reflect the new Raytheon structure as described in "Note 1: Basis of Presentation."

 
 
Three Months Ended

Nine Months Ended
Operating Income (in millions) (1)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
Integrated Defense Systems
 
$
286

 
$
278

 
$
874

 
$
785

Intelligence, Information and Services
 
134

 
126

 
389

 
400

Missile Systems
 
202

 
233

 
629

 
663

Space and Airborne Systems
 
224

 
236

 
667

 
705

FAS/CAS Adjustment
 
(46
)
 
(47
)
 
(189
)
 
(188
)
Corporate and Eliminations
 
(43
)
 
(40
)
 
(141
)
 
(131
)
Total
 
$
757

 
$
786

 
$
2,229

 
$
2,234

(1) All periods prior to the April 1, 2013 business consolidation have been revised to reflect the new Raytheon structure as described in "Note 1: Basis of Presentation."

We must calculate our pension and other postretirement benefit (PRB) costs under both Financial Accounting Standards (FAS) requirements under GAAP and U.S. Government cost accounting standards (CAS). GAAP outlines the methodology used to determine pension expense or income for financial reporting purposes, which is not indicative of the funding requirements for pension and PRB plans that we determine by other factors. CAS prescribes the allocation to and recovery of pension and PRB

21


costs on U.S. Government contracts. The results of each segment only include pension and PRB expense as determined under CAS. The CAS requirements for pension costs and its calculation methodology differ from the FAS requirements and calculation methodology. As a result, while both FAS and CAS use long-term assumptions in their calculation methodologies, each method results in different calculated amounts of pension and PRB cost. The FAS/CAS Adjustment, which is reported as a separate line in our segment results above, represents the difference between our pension and PRB expense or income under FAS in accordance with GAAP and our pension and PRB expense under CAS.
The components of our FAS/CAS Adjustment were as follows: 
 
 
Three Months Ended

Nine Months Ended
(In millions)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
FAS/CAS Pension Adjustment
 
$
(47
)
 
$
(49
)
 
$
(192
)
 
$
(189
)
FAS/CAS PRB Adjustment
 
1

 
2

 
3

 
1

FAS/CAS Adjustment
 
$
(46
)
 
$
(47
)
 
$
(189
)
 
$
(188
)
The components of operating income related to Corporate and Eliminations were as follows:  
 
 
Three Months Ended

Nine Months Ended
(In millions)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
Intersegment profit eliminations (1)
 
$
(39
)

$
(41
)

$
(125
)

$
(127
)
Corporate (1)
 
(4
)

1


(16
)

(4
)
Total
 
$
(43
)
 
$
(40
)
 
$
(141
)
 
$
(131
)
(1) All periods prior to the April 1, 2013 business consolidation have been revised to reflect the new Raytheon structure as described in "Note 1: Basis of Presentation."

 
 
Three Months Ended

Nine Months Ended
Intersegment Operating Income (in millions) (1)
 
Sep 29, 2013

Sep 30, 2012

Sep 29, 2013

Sep 30, 2012
Integrated Defense Systems
 
$
2

 
$
2