FOR THE PERIOD ENDED DECEMBER 31, 2003
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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 10-K

 


 

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

    For the fiscal year ended December 31, 2003.

 

¨ 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

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class


 

Name of Each Exchange on Which Registered


Common Stock, $.01 par value  

New York Stock Exchange

Chicago Stock Exchange

Pacific Exchange

Equity Security Units   New York Stock Exchange

 

Securities registered pursuant to Section 12(g) of the Act:

 

None


 

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  x    No  ¨

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K  ¨

 

Indicate by check mark whether the registrant is an accelerated filer.  Yes  x    No  ¨

 

The aggregate market value of the voting stock held by non-affiliates of the Registrant, as of June 29, 2003, was approximately $13.3 billion.

 

Number of shares of Common Stock outstanding as of December 31, 2003: 418,136,000.

 

Documents incorporated by reference and made a part of this Form 10-K:

 

Portions of the Proxy Statement for Raytheon’s 2004 Annual Meeting which will be filed with the Commission within 120 days after the close of Raytheon’s fiscal year.

   Part III

 



Table of Contents

INDEX

 

Table of Contents

 

         Page

PART I

        

Item 1.

 

Business

   3

Item 2.

 

Properties

   16

Item 3.

 

Legal Proceedings

   18

Item 4.

 

Submission of Matters to a Vote of Security Holders

   20

Item 4(A).

 

Executive Officers of the Registrant

   20

PART II

        

Item 5.

 

Market For Registrant’s Common Equity and Related Stockholder Matters

   23

Item 6.

 

Selected Financial Data

   24

Item 7.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   25

Item 7A.

 

Quantitative and Qualitative Disclosures About Market Risk

   39

Item 8.

 

Financial Statements and Supplementary Data

   40

Item 9.

 

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   68

Item 9A.

 

Controls and Procedures

   68

PART III

        

Item 10.

 

Directors and Executive Officers of the Registrant

   69

Item 11.

 

Executive Compensation

   69

Item 12.

 

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

   69

Item 13.

 

Certain Relationships and Related Transactions

   70

Item 14.

 

Principal Accountant Fees and Services

   70

PART IV

        

Item 15.

 

Exhibits, Financial Statement Schedules and Reports on Form 8-K

   71

 

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PART I

 

Item 1. Business

 

GENERAL

 

Raytheon Company (“Raytheon” or the “Company”), with worldwide 2003 sales of $18.1 billion, is an industry leader in defense and government electronics, space, information technology, technical services, and business and special mission aircraft. Raytheon was founded in 1922 and is currently incorporated in the state of Delaware. The Company is the surviving company of the 1997 merger of HE Holdings, Inc. and Raytheon Company.

 

Raytheon’s government and defense business is currently aligned in six business segments: Integrated Defense Systems; Intelligence and Information Systems; Missile Systems; Network Centric Systems; Space and Airborne Systems; and Technical Services. Raytheon Aircraft is one of the leading providers of business and special mission aircraft and delivers a broad line of jet, turboprop, and piston-powered airplanes to individual, corporate and government customers world-wide.

 

The Company’s principal executive offices are located at 870 Winter Street, Waltham, Massachusetts 02451. The Company’s Internet address is www.raytheon.com. The content on the Company’s website is available for information purposes only. It should not be relied upon for investment purposes, nor is it incorporated by reference into this Form 10-K.

 

The Company makes available free of charge on or through its Internet website under the heading “Investor Relations,” its report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports as soon as reasonably practicable after it electronically files such material with, or furnishes it to, the Securities and Exchange Commission.

 

BUSINESS SEGMENTS

 

Effective January 1, 2003, the Company began reporting its government and defense businesses in six segments. In addition, the Company’s Commercial Electronics businesses were reassigned to the new Integrated Defense Systems and Network Centric Systems defense segments. The Company has conformed its segment reporting accordingly and has reclassified comparative prior period information to reflect this change. See “Note P - Business Segment Reporting” within Item 8 of this Form 10-K.

 

Integrated Defense Systems. The Integrated Defense Systems (IDS) segment is Raytheon’s leader in mission systems integration. With a strong international and domestic customer base, including the U.S. Missile Defense Agency and the U.S. Armed Forces, IDS provides integrated air and missile defense and naval and maritime solutions.

 

IDS’ major programs, products and initiatives currently include: DD(X), SPY-3 Radar, the Patriot Air and Missile Defense System, Early Warning Radars, the Cobra Judy Replacement program, Surface-Launched AMRAAM (SLAMRAAM), Complementary Low-Altitude Weapon System (CLAWS), Theater High Altitude Area Defense (THAAD) Radar, Sea-Based X-Band Radar (SBX), Ballistic Missile Defense System (BMDS), Upgraded Early Warning Radar (UEWR), Joint Land Attack Cruise Missile Defense Elevated Netted Sensor (JLENS), Landing Platform Dock Amphibious Ship LPD-17, Common Aviation Command and Control System (CAC2S), Combat System Mk2 (CCS Mk2), Ship Self-Defense System (SSDS) and Aegis Weapon Systems radar equipment.

 

Some specific IDS accomplishments in 2003 included:

 

  Award of a contract to provide engineering, construction, integration and testing of a forward-deployable BMDS radar. The BMDS radar, is a transportable, X-band, phased array radar with sufficient sensitivity to detect, track and discriminate between missile threats;

 

  Mission systems engineering, software development, and test and evaluation services as systems integrator on the DD(X) program, the U.S. Navy’s next-generation surface combatant ship;

 

  Fabrication, assembly and testing of the Sea-based Test-XBR, a high powered, phased-array radar mounted on an ocean-going platform and designed to meet near-term ballistic missile threats;

 

  Design, production, integration, and testing of Cobra Judy Replacement Mission Equipment for the Naval Sea Systems Command. The existing Cobra Judy is an integrated, computer-driven surveillance and data collection radar system. IDS will replace the current Cobra Judy with a dual-band radar suite consisting of X-band and S-band active phased array sensors and other related mission equipment; and

 

  Development of the JLENS Spiral 2, a netted sensor system for cruise missile defense, for the U.S. Army Space and Missile Defense Command.

 

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Product performance and support and price are among the principal competitive factors considered by IDS’ customers, which include the U.S. Missile Defense Agency and the U.S. Armed Forces. IDS relies upon its domain knowledge and products to compete in the Missile Defense, Integrated Air Defense and other mission areas.

 

Intelligence and Information Systems. The Intelligence and Information Systems (IIS) segment is a leading provider of systems, subsystems, and software engineering services for national and tactical intelligence systems, as well as for homeland security and information technology solutions. Areas of special concentration include processing, analysis and dissemination of signals and imagery, production of geospatial intelligence, command and control of airborne and spaceborne platforms including unmanned aerial vehicles (UAV’s) and satellites, and integrated ground systems for weather and environmental programs. IIS contracts encompass a broad range of products from signal intelligence (SIGINT) sensors (used on platforms such as U2) to mission management systems (used to manage operation and data for platforms like Global Hawk). In addition, IIS delivers integrated solutions for government IT requirements and knowledge driven homeland security solutions for customers worldwide.

 

IIS’ major programs, products and initiatives currently include: UAV systems and Ground Stations, Signal and Imagery Intelligence Programs, Communications Systems, Information Solutions Programs, Department of Education Programs, Supercomputing, National Polar-orbiting Operational Environmental Satellite System Program, Mobile Very Small Aperture Satellite Terminal, Distributed Common Ground System, Managed Data Storage Solutions, Emergency Patient Tracking System, Global Broadcast System, RedWolf telecommunications surveillance products, plus numerous classified programs.

 

Some specific IIS accomplishments in 2003 included:

 

  Ground systems developer and integrator for the National Polar-orbiting Operational Environmental Satellite System (NPOESS). NPOESS is the low-Earth orbiting polar satellite system designed to meet the nation’s future civilian science and military needs for accurate weather forecasting. NPOESS will replace the Department of Commerce’s Polar-orbiting Operational Environmental Satellites and the Department of Defense’s Defense Meteorological Satellite Program satellites. Included in 2003 accomplishments was the completion of the build of two NPOESS systems elements, C3S (Command, Control and Communications System) and IDPS (Integrated Data Processing System).

 

  Information technology operations and maintenance of NASA’s Earth Observing System (EOS). EOS gathers, archives, and processes environmental earth observation data and then makes the data available to government and scientific communities. EOS serves more than two million users annually through a network of Distributed Active Archive Centers.

 

  Upgrading an intelligence system called the Distributed Common Ground System (DCGS), for the U.S. Air Force. The upgrade will transform the DCGS by integrating multiple intelligence systems into a single, worldwide network-centric Information Surveillance and Reconnaissance (ISR) enterprise, delivering time-critical, and decision quality information enabling war fighter dominance of the battlespace.

 

  Integrator of the ground system for a major classified modernization program, which the company transitioned to operations on schedule following a successful development and integration phase as well as receiving 100% Award Fees in 2003.

 

  Award of three competitive NSA programs, including one program for which IIS is the integrator for one of the customer’s important new missions.

 

  Award of a prime contract, PROCON, for major operations, maintenance and engineering services for a classified customer. PROCON consolidated several contracts under one integrated team led by IIS, affording the customer more unified operations and cost savings, both immediate and long term.

 

Technical solutions, value, delivery schedules, and past performance, are among the principal competitive factors considered by IIS’ customers, which include classified customers, the U.S. Air Force, NOAA, NASA, and the National Geospatial-Intelligence Agency (NGA). IIS relies upon its domain knowledge and ability to address customer issues, along with its program performance, to compete for its business.

 

Missile Systems. The Missile Systems (MS) segment provides ballistic missile defense systems; air defense; air-to-air, surface-to-air, surface-to-surface, and air-to-surface missiles; ship self-defense systems; strike, interdiction and cruise missiles; directed energy weapons; and guided projectiles and advanced technology.

 

MS’ major programs, products and initiatives currently include: AMMRAAM, AIM-9X Sidewinder, ASRAAM infrared seeker, Evolved SeaSparrow, various guided projectile programs, TOW, Javelin, Stinger, SeaRAM, Standard Missile, Sparrow, Phalanx, Rolling Airframe, Exoatmospheric Kill Vehicle, Kinetic Energy Interceptor, High-Power Microwave Active Denial System, Tomahawk, Tactical Tomahawk cruise missiles, Paveway, Maverick, High-Speed Anti-Radiation Missile Targeting System, Advanced Cruise Missile, and Joint Stand-off Weapon.

 

 

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Some specific MS accomplishments in 2003 included:

 

  Development of Tactical Tomahawk missiles. The Tactical Tomahawk missiles will incorporate innovative technologies to provide new operational capabilities while reducing acquisition and life cycle costs. Scheduled for fleet introduction in 2004, the Tactical Tomahawk will cost less than half of a newly built Block III missile and will have the capability to respond to changing battlefield conditions through the use of its loiter and mission flexibility features;

 

  Production of Paveway II Laser Guided Bomb Kits, the Air Intercept Missile (AIM-9X), the Evolved Sea Sparrow Missile (ESSM), the STANDARD Missile-2, the AIM-120 Advanced Medium Range Air-to-Air Missile (AMRAAM), the Exoatmospheric Kill Vehicle (EKV), and the Joint Standoff Weapon (JSOW). Since its inception in 1968, the Paveway series of laser-guided bombs has revolutionized tactical air-to-ground warfare. These semi-active laser guided munitions, which home on reflected energy directed on the target, not only reduce the numbers required to destroy a target, but also feature accuracy, reliability, and cost-effectiveness previously unattainable with conventional weapons. AIM-9X is a launch and leave, air combat missile that uses passive infrared (IR) energy for acquisition and tracking, which can be employed in the near beyond visual range and within visual range arenas. The Evolved Sea Sparrow Missile is an international cooperative upgrade of the RIM 7M/P NATO SeaSparrow Missile. It provides increased battle space against high-speed, highly maneuverable anti-ship missiles. The STANDARD Missile-2 (SM-2) provides area defense against enemy aircraft and anti-ship cruise missiles. The SM-2 Block IIIB is the latest version to enter the fleet, and incorporates a side-mounted infrared seeker. The SM-2 Block IV is the latest version to enter production and provides an extended range capability with the addition of a booster. The AIM-120 Advanced Medium Range Air-to-Air Missile (AMRAAM) provides operational and multi-shot capabilities. AMRAAM can be launched at an enemy aircraft day or night, and in all weather. It also allows the pilot to break away immediately after launch, permitting engagement of other targets and enhancing survivability. The Exoatmospheric Kill Vehicle (EKV) is the intercept component of the Ground Based Interceptor (GBI) of a potential system to protect the U.S. homeland from small-scale missile attacks. The EKV consists of an infrared seeker in a flight package used to detect and discriminate the reentry vehicle from other objects. The “hit-to-kill” concept involves colliding with the incoming warhead, completely pulverizing it. The Joint Standoff Weapon (JSOW) enables air strike launches from well beyond most enemy air defenses;

 

  Began Javelin production, through a joint venture, for the United Kingdom’s Ministry of Defence. The Javelin’s medium-range, anti-tank missile system is the world’s first one-man transportable and employable fire-and-forget anti-armor missile system. The compact, lightweight Javelin is well suited for single-soldier operation in all environments;

 

  Production of the Paveway IV began for the United Kingdom Ministry of Defence. Paveway IV provides state-of-the-art, all-weather precision munitions. Paveway IV utilizes second-generation GPS-aided inertial navigation that incorporates anti-spoofing and anti-jamming technology;

 

  Began development and demonstration of a Miniature Air-Launched Decoy (MALD) for the U.S. Air Force. The MALD is a low-cost expendable air-launched vehicle that mimics the radar signature and flight characteristics of fighter aircraft and bombers to deceive a threat air defense system;

 

  Began engineering development of the STANDARD Missile-3 (SM-3) for the U.S. Navy. STANDARD Missile-3 is being developed as part of the Navy Theater-Wide (NTW) Ballistic Missile Defense system which will provide “theater-wide” defense against medium and long range ballistic missiles;

 

  Commenced development, through a teaming arrangement with Northrop Grumman, development of the Kinetic Energy Interceptor (KEI) system for the Missile Defense Agency. The KEI is designed to shoot down medium and long-range ballistic missiles in their boost phase of flight; and

 

  Continued overhaul of the Phalanx Close-In Weapons System. This system is a fast reaction terminal self-protection system against low and high flying, high speed maneuvering anti-ship missile threats that have penetrated all other ships’ defenses.

 

Technical superiority, reputation, price, delivery schedules, financing, and reliability are among the principal competitive factors considered by MS customers, which include the U.S. Armed Forces and the U.S. Missile Defense Agency. As a result of consolidation in the defense industry, MS frequently partners on various programs with its major suppliers, some of whom are, from time to time, competitors on other programs.

 

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Network Centric Systems. The Network Centric Systems (NCS) segment provides network centric solutions to integrate sensors, communications, and command and control to manage the battlespace. NCS provides superior mission integration for communication and information dominance, real-time shared knowledge, and sensor systems. Its sophisticated solutions integrate systems for all branches of the U.S. military, the National Guard, the Department of Homeland Security, the Federal Aviation Administration, other U.S. national security agencies, and international customers. NCS produces air traffic control systems and radars, along with data fusion software to combine various radar inputs for complete ATC system integration, through its Air Traffic Management Systems business unit; and electro-optical and fire control systems for military applications through its Combat Systems business unit. NCS provides integrated solutions, systems and supporting services in Net-Centric Warfare, command and control systems, and secure architectures and information systems through its Command & Control Systems business unit; communication links through its Homeland Security business unit; secure voice and switching systems, military radios and satellite communications through its Integrated Communications Systems business unit; and infrared and visible detectors through its Precision Technologies & Components business unit.

 

NCS’ major programs, products and initiatives currently include: Standard Terminal Automation Replacement System (STARS), Long Range Advanced Scout Surveillance System (LRAS) 3, DD(X), Cooperative Engagement Capability (CEC) ship self-defense systems, Future Combat Systems (FCS), Secure Mobile Anti-Jam Reliable Tactical Terminal (SMART-T), Enhanced Position Location Reporting System (EPLRS) and the Navy/Marine Corps Intranet project (N/MCI).

 

Some specific NCS accomplishments in 2003 included:

 

  Supply and installation of radars throughout the United Kingdom for the United Kingdom’s National Air Traffic Services.

 

  Production of ship self-defense systems for the U.S. Navy’s Cooperative Engagement Capabilities (CEC) program. CEC is a sensor networking system that helps war fighters detect, target and kill fast-moving airborne weapons, such as cruise missiles, with extreme speed and accuracy. Considered an enabler of network centric warfare, CEC extracts data from sensors, turns the data into meaningful information and imparts knowledge to commanders. This knowledge helps commanders make weapon-firing decisions with speed and confidence; and

 

  Development of the Battle Command Mission Execution (BCME) component for the U.S. Army’s Future Combat Systems (FCS). BCME is part of a command and control (C2) system that will give war fighters an integrated battlefield picture-that is, one view of all troops and platforms. This new capability will allow commanders to dispatch people and equipment to the right place at the right time.

 

Price and performance are among the principal competitive factors considered by NCS’ customers. NCS relies upon its past performance reputation, technical expertise and pricing to compete for its business.

 

Space and Airborne Systems. The Space and Airborne Systems (SAS) segment provides electro-optic/ infrared sensors, airborne radars, solid state high energy lasers, precision guidance systems, electronic warfare systems, and space-qualified systems for civil and military applications. SAS is a leader in the design and development of integrated systems and solutions for advanced missions. These include: unmanned aerial operations, battle management command and control, electronic warfare, active electronically scanned array radars, airborne processors, weapon grade lasers, and missile defense, intelligence, surveillance and reconnaissance systems.

 

SAS’ major programs, products and initiatives currently include: Space Tracking and Surveillance System (STSS), Global Hawk, ATFLIR Targeting Pod, APG-79 AESA Radar, Airborne Stand-off Radar (ASTOR), U2, plus numerous classified programs.

 

Some specific SAS accomplishments in 2003 included:

 

  Award of a contract for the production of electronic warfare equipment for the Advanced Self –Protection Integrated Suite (ASPIS II) for the Hellenic Air Force (HAF) Block 52+ F-16 aircraft fleet. The ASPIS II is a new, enhanced version of the original ASPIS system delivered in the late 1990s for the HAF Block 30/50 F-16s;

 

  Design and production of electro-optic sensor systems for use on board helicopters during day or night operations for the U.S. Army’s Special Operations Command. The systems will contain laser range finders or laser spot trackers/designators, laser pointers, forward-looking infrared (FLIR) sensors, image intensified television (I2TV), and processing and control electronics;

 

  Modernization of the radar on the U.S. Air Force’s B-2 “Spirit” Bomber with a new Ku band active array radar antenna;

 

  Continued development of the Multi-platform Radar Technology Insertion Program (MP-RTIP) for the U.S. Air Force. MP-RTIP is a follow on to the Joint Surveillance Target Attack Radar System (J-Stars) and will detect, track and identify both stationary and moving ground vehicles and low-flying cruise missiles; and

 

 

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  Production of the AN/ASQ-228 Advanced Targeting Forward Looking Infrared (ATFLIR) pod for the U.S. Navy and Marine Corps’ F/A-18 fleet. ATFLIR features state-of-the-art third generation mid-wave infrared targeting and navigation FLIRs, an electro-optic sensor, laser rangefinder and target designator, and laser spot tracker. ATFLIR provides naval aviation with an increase in laser designation performance, target recognition range, and better EO/IR imagery.

 

Price and delivery schedules are among the principal competitive factors considered by SAS’ customers, which include Classified customers, the U.S. Navy, and the U.S. Air Force. As a result of consolidation in the defense industry, SAS frequently partners with its major suppliers, some of whom are, from time to time, competitors on other programs.

 

Technical Services. Raytheon Technical Services Company LLC (RTSC) provides technical, scientific, and professional services for defense, federal, and commercial customers worldwide.

 

RTSC provides integrated logistics support worldwide across product lines including base operations, logistics and maintenance support services for scientific research conducted by the National Science Foundation (NSF) on and around the continent of Antarctica, for U.S. Naval Facilities on Guam, and for several instrumented test and training ranges. RTSC also supplies comprehensive engineering, manufacturing and depot services. RTSC provides operations, maintenance and logistics services to secure and eliminate weapons of mass destruction, maintain safe conditions and monitor compliance with international treaties. RTSC also provides a significant amount of products and services to the Company’s other segments.

 

RTSC’s major programs, products and initiatives currently include: Scientific and Engineering Services - including space sciences, earth systems science, remote sensing, spacecraft and aeronautical engineering, science data systems implementation and operations and engineering services; Integrated Logistics Support - including procurement services, training, technical manuals, life cycle support, field engineering and flight test operations; Range Operations - including engineering, design, installation, and testing of instrumentation modifications, real-time mission data processing, test planning support, systems and software engineering, recovery of underwater weapons systems and total base support; Supply Chain Management - including inventory management, warehousing and distribution; Remote Site Logistics - including life support, training, requirements analysis, and facilities/equipment operations and maintenance; and Installation and Integration of Mission-Critical Equipment - including program management, engineering analysis and design, site survey/ preparation, construction management, equipment integration/installation, operator training and follow-on support, repair and refurbishment.

 

Some specific RTSC accomplishments in 2003 included:

 

  Support of facilities used to train astronauts and flight controllers on critical mission skills at NASA’s Johnson Space Center;

 

  Performance on Cooperative Threat Reduction Integrating Contract (CTRIC) task orders for the Defense Threat Reduction Agency;

 

  Support of the U.S. Government’s demilitarization activities in countries of the former Soviet Union; and

 

  Logistics and science support for the NSF’s Antarctica program.

 

Price, performance, and innovative service solutions are among the principal competitive factors considered by RTSC’s customers, which include all branches of the U.S. Armed Forces, NASA, NSF and foreign governments. RTSC relies upon its past performance reputation, service expertise and pricing to compete for its business.

 

Aircraft. Raytheon Aircraft Company (RAC) designs, manufactures, markets, and provides after-market support for business jets, turboprops, and piston-powered aircraft for the world’s commercial, fractional ownership, and military aircraft markets.

 

RAC’s major products and initiatives currently include:

 

  Aircraft and aviation services in the general aviation market, including a network of fixed-base operations providing business aviation services at airports throughout North America and in the United Kingdom;

 

  Supply of spare parts through its parts distribution business;

 

  Production, marketing and support of a piston-powered aircraft line that includes the single-engine Beech Bonanza A36 and the twin-engine Beech Baron 58 aircraft for business and personal flying;

 

  Production, marketing and support of the King Air turboprop series which includes the Beech King Air C90B, B200, and 350;

 

 

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  Production, marketing and support of the Hawker 400XP light jet, the Hawker 800XP midsize business jet, and the Beechcraft Premier I entry-level business jet;

 

  Development of a new super midsize business jet, the Hawker Horizon;

 

  Production and support of special mission aircraft, including military versions of the King Air and the U-125 search-and-rescue variant of the Hawker 800; and

 

  Aircraft training systems, including the T-6A trainer selected as the next-generation trainer for the U.S. Air Force and Navy under the Joint Primary Aircraft Training System (JPATS).

 

In December 2003, RAC received an order from NetJets Inc. for 50 new Hawker 400XP light jets and 8 new Hawker 800XP mid-sized jets. These aircraft will be delivered through 2009 and have an aggregate value of $360 million. The order includes an option for an additional 50 Hawker 400XP aircraft, which brings the total potential order value to more than $600 million.

 

Other. Beginning in the fourth quarter of 2003, the Company further realigned its segments by creating the Other segment. The Other segment is comprised of Flight Options LLC (FO), Raytheon Airline Aviation Services LLC (RAAS), and Raytheon Professional Services LLC (RPS). FO offers services in the fractional jet industry. RAAS manages the Company’s commuter aircraft business and Starship aircraft portfolio. RPS provides integrated learning solutions to commercial and government organizations worldwide.

 

Prior to the segment realignments in 2003, the Company’s government and defense businesses were conducted through three segments: Electronic Systems; Command, Control, Communication and Information Systems; and Technical Services.

 

The Electronic Systems (ES) segment focused on anti-ballistic missile systems; air defense; air-to-air, surface-to-air, and air-to-surface missiles; naval and maritime systems; ship self-defense systems; torpedoes; strike, interdiction and cruise missiles; and advanced munitions. ES also specialized in radar, electronic warfare, infrared, laser, and GPS technologies with programs focusing on land, naval, airborne and spaceborne systems used for surveillance, reconnaissance, targeting, navigation, commercial and scientific applications.

 

The IDS segment is a combination of the former Electronic Systems segment units of Air & Missile Defense Systems and Naval & Maritime Integrated Systems.

 

The MS segment is the Missile Systems business unit of the former Electronic Systems segment.

 

The SAS segment is a combination of the former Electronic Systems segment units of Surveillance & Reconnaissance Systems and Air Combat & Strike Systems.

 

The Command, Control, Communication and Information Systems segment (“C3I”) was classified into the following five principal businesses: Intelligence, Surveillance, Reconnaissance (“ISR”); Air Traffic Management (“ATM”); Command and Control / Battle Management (“C2BM”); Communications; and Information Technology / Information Systems. C3I products included command, control and communication systems; air traffic control automation and radar systems; tactical radios; satellite communication and ground control terminals; wide area surveillance systems; ground-based information processing systems; image processing; large scale information retrieval, processing and distribution systems; global broadcast systems and secure information technology solutions.

 

The NCS segment is a combination of the Tactical Systems unit of the former Electronic Systems segment and the Command, Control and Communications (C3S) business of the former Command, Control, Communication and Information Systems segment.

 

The IIS segment is a combination of the former Command, Control, Communication and Information Systems segment businesses of Imagery and Geospatial Systems and Strategic Systems.

 

SALES TO THE UNITED STATES GOVERNMENT

 

Sales to the United States Government (the “Government”), principally to the Department of Defense (“DoD”), were $13.4 billion in 2003 and $12.3 billion in 2002, representing 74% of total sales in 2003 and 73% of total sales in 2002. Of these sales, $0.9 billion in 2003 and $0.8 billion in 2002 represented purchases made by the Government on behalf of foreign governments.

 

GOVERNMENT CONTRACTS

 

The Company and its various subsidiaries act as a prime contractor or major subcontractor for many different Government programs, including those that involve the development and production of new or improved weapons or other types of electronic systems or major components of such systems. Over its lifetime, a program may be implemented by the award of many different individual contracts and subcontracts. The funding of Government programs is subject to congressional appropriations. Although multi-year contracts may be authorized in connection with major procurements, Congress generally appropriates funds on a fiscal year basis even though a program may continue for many years. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations. The Government is required to adjust equitably a contract price for additions or reductions in scope or other changes ordered by it.

 

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Generally, government contracts are subject to oversight audits by Government representatives, and, in addition, they include provisions permitting termination, in whole or in part, without prior notice at the Government’s convenience upon the payment of compensation only for work done and commitments made at the time of termination. In the event of termination for convenience, the contractor will receive some allowance for profit on the work performed. The right to terminate for convenience has not had any material adverse effect upon Raytheon’s business in light of its total government business.

 

The Company’s government business is performed under both cost reimbursement and fixed price prime contracts and subcontracts. Cost reimbursement contracts provide for the reimbursement of allowable costs plus the payment of a fee. These contracts fall into three basic types: (i) cost plus fixed fee contracts which provide for the payment of a fixed fee irrespective of the final cost of performance; (ii) cost plus incentive fee contracts which provide for increases or decreases in the fee, within specified limits, based upon actual results as compared to contractual targets relating to such factors as cost, performance and delivery schedule; and (iii) cost plus award fee contracts which provide for the payment of an award fee determined at the discretion of the customer based upon the performance of the contractor against pre-established criteria. Under cost reimbursement type contracts, Raytheon is reimbursed periodically for allowable costs and is paid a portion of the fee based on contract progress. Some costs incident to performing contracts have been made partially or wholly unallowable by statute or regulation. Examples are charitable contributions, certain merger and acquisition costs, lobbying costs and certain litigation defense costs.

 

The Company’s fixed-price contracts are either firm fixed-price contracts or fixed-price incentive contracts. Under firm fixed-price contracts, Raytheon agrees to perform a specific scope of work for a fixed price and as a result, benefits from cost savings and carries the burden of cost overruns. Under fixed-price incentive contracts, Raytheon shares with the Government savings accrued from contracts performed for less than target costs and costs incurred in excess of targets up to a negotiated ceiling price (which is higher than the target cost) and carries the entire burden of costs exceeding the negotiated ceiling price. Accordingly, under such incentive contracts, the Company’s profit may also be adjusted up or down depending upon whether specified performance objectives are met. Under firm fixed-price and fixed-price incentive type contracts, the Company usually receives either milestone payments equaling 90% of the contract price or monthly progress payments from the Government generally in amounts equaling 80% of costs incurred under Government contracts. The remaining amount, including profits or incentive fees, is billed upon delivery and final acceptance of end items under the contract.

 

The Company’s government business is subject to specific procurement regulations and a variety of socio-economic and other requirements. Failure to comply with such regulations and requirements could lead to suspension or debarment, for cause, from Government contracting or subcontracting for a period of time. Among the causes for debarment are violations of various statutes, including those related to procurement integrity, export control, government security regulations, employment practices, the protection of the environment, the accuracy of records and the recording of costs.

 

Under many government contracts, the Company is required to maintain facility and personnel security clearances complying with DoD requirements.

 

Companies which are engaged in supplying defense-related equipment to the Government are subject to certain business risks, some of which are peculiar to that industry. Among these are: the cost of obtaining trained and skilled employees; the uncertainty and instability of prices for raw materials and supplies; the problems associated with advanced designs, which may result in unforeseen technological difficulties and cost overruns; and the intense competition and the constant necessity for improvement in facilities and personnel training. Sales to the Government may be affected by changes in procurement policies, budget considerations, changing concepts of national defense, political developments abroad and other factors. See the “Risk Factors” section beginning on page 11 of this Form 10-K, for a description of additional business risks.

 

See “Sales to the United States Government” on page 8 of this Form 10-K for information regarding the percentage of the Company’s revenues generated from sales to the Government.

 

BACKLOG

 

The Company’s backlog of orders was $27.5 billion at December 31, 2003 and $25.7 billion at December 31, 2002. The 2003 amount includes backlog of approximately $21.4 billion from the Government compared with $18.3 billion at the end of 2002.

 

Approximately $3.4 billion of the overall backlog figure represents the unperformed portion of direct orders from foreign governments. Approximately $1.2 billion of the overall backlog represents non-government foreign backlog.

 

Approximately $14.8 billion of the $27.5 billion 2003 year-end backlog is not expected to be filled during the following twelve months. For additional information related to backlog figures, see “Segment Results” within Item 7 of this Form 10-K.

 

 

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RESEARCH AND DEVELOPMENT

 

During 2003, Raytheon expended $487 million on research and development efforts compared with $449 million in 2002 and $456 million in 2001. These expenditures principally have been for product development for the Government and for aircraft products. In addition, Raytheon conducts funded research and development activities under Government contracts which is included in net sales. For additional information related to research and development efforts, see “Note A – Accounting Policies” within Item 8 of this Form 10-K.

 

RAW MATERIALS, SUPPLIERS AND SEASONALITY

 

Delivery of raw materials and supplies to Raytheon is generally satisfactory. Raytheon is sometimes dependent, for a variety of reasons, upon sole-source suppliers for procurement requirements. However, Raytheon has experienced no significant difficulties in meeting production and delivery obligations because of delays in delivery or reliance on such suppliers. In recent years, revenues in the second half of the year have generally exceeded revenues in the first half. The timing of Government awards, the availability of Government funding, product deliveries and customer acceptance are among the factors affecting the periods in which revenues are recorded. Management expects this trend to continue in 2004.

 

COMPETITION

 

The Company’s defense electronics businesses are direct participants in most major areas of development in the defense, space, information gathering, data reduction and automation fields. Technical superiority and reputation, price, delivery schedules, financing, and reliability are among the principal competitive factors considered by defense electronics customers. The on-going consolidation of the U.S. and global defense, space and aerospace industries continues to intensify competition. Consolidation among U.S. defense, space and aerospace companies has resulted in a reduction in the number of principal prime contractors. As a result of this consolidation, the Company frequently partners on various programs with its major suppliers, some of whom are, from time to time, competitors on other programs.

 

The Aircraft segment competes primarily with four other companies in the business aviation industry. The principal factors for competition in the industry are price, financing, operating costs, product reliability, cabin size and comfort, product quality, travel range and speed, and product support. The Company believes it possesses competitive advantages in the breadth of our product line, the performance of our product line, and the strength of our product support.

 

PATENTS AND LICENSES

 

Raytheon and its subsidiaries own a large intellectual property portfolio which includes, by way of example, United States and foreign patents, unpatented know-how, trademarks and copyrights, all of which contribute significantly to the preservation of the Company’s competitive position in the market. In certain instances, Raytheon has augmented its technology base by licensing the proprietary intellectual property of others. Although these patents and licenses are, in the aggregate, important to the operation of the Company’s business, no existing patent, license, or similar intellectual property right is of such importance that its loss or termination would, in the opinion of management, have a material effect on the Company’s business.

 

EMPLOYMENT

 

As of December 31, 2003, Raytheon had approximately 78,000 employees compared with approximately 76,400 employees at the end of 2002. The increase is mainly due to overall business growth in multiple market sectors and on multiple programs during 2003.

 

Raytheon considers its union-management relationships to be generally satisfactory. In 2003, there were no work stoppages at any of the Company’s sites.

 

INTERNATIONAL SALES

 

Raytheon’s sales to customers outside the United States (including foreign military sales) were 19% of total sales in 2003, 21% of total sales in 2002 and 22% of total sales in 2001. These sales were principally in the fields of air defense systems, air traffic control systems, sonar systems, aircraft products, electronic equipment, computer software and systems, personnel training, equipment maintenance and microwave communication. Foreign subsidiary working capital requirements generally are financed in the countries concerned. Sales and income from international operations are subject to changes in currency values, domestic and foreign government policies (including requirements to expend a portion of program funds in-country) and regulations, embargoes and international hostilities. Exchange restrictions imposed by various countries could restrict the transfer of funds between countries and between Raytheon and its subsidiaries. Raytheon generally has been able to protect itself against most undue risks through insurance, foreign exchange contracts, contract provisions, government guarantees or progress payments. See revenues derived from external customers and long-lived assets by geographical areas set forth in “Note P – Business Segment Reporting” within Item 8 of this Form 10-K.

 

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Raytheon utilizes the services of sales representatives and distributors in connection with certain foreign sales. Normally representatives are paid commissions and distributors are granted resale discounts in return for services rendered.

 

The export from the U.S. of many of Raytheon’s products may require the issuance of a license by the U.S. Department of State under the Arms Export Control Act of 1976, as amended (formerly the Foreign Military Sales Act); or by the U.S. Department of Commerce under the Export Administration Act, as amended, and its implementing Regulations as kept in force by the International Emergency Economic Powers Act of 1977, as amended (“IEEPA”); or by the U.S. Department of the Treasury under IEEPA or the Trading with the Enemy Act of 1917, as amended. Such licenses may be denied for reasons of U.S. national security or foreign policy. In the case of certain exports of defense equipment and services, the Department of State must notify Congress at least 15 or 30 days (depending on the identity of the country that will utilize the equipment and services) prior to authorizing such exports. During that time, the Congress may take action to block a proposed export by joint resolution which is subject to Presidential veto.

 

RISK FACTORS

 

The following are some of the factors the Company believes could cause its actual results to differ materially from expected and historical results.

 

We heavily depend on our government contracts, which are only partially funded, subject to immediate termination and heavily regulated and audited, and the termination or failure to fund one or more of these contracts could have a negative impact on our operations.

 

We act as prime contractor or major subcontractor for many different Government programs. Over its lifetime, a program may be implemented by the award of many different individual contracts and subcontracts. The funding of Government programs is subject to congressional appropriations. Although multiple year contracts may be planned in connection with major procurements, Congress generally appropriates funds on a fiscal year basis even though a program may continue for several years. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations. The termination of funding for a Government program would result in a loss of anticipated future revenues attributable to that program. That could have a negative impact on our operations. In addition, the termination of a program or failure to commit funds to a prospective program or a program already started could increase our overall costs of doing business.

 

Generally, Government contracts are subject to oversight audits by Government representatives and contain provisions permitting termination, in whole or in part, without prior notice at the Government’s convenience upon the payment of compensation only for work done and commitments made at the time of termination. We can give no assurance that one or more of our Government contracts will not be terminated under these circumstances. Also, we can give no assurance that we would be able to procure new Government contracts to offset the revenues lost as a result of any termination of our contracts. As our revenues are dependent on our procurement, performance and payment under our contracts, the loss of one or more critical contracts could have a negative impact on our financial condition.

 

Our government business is also subject to specific procurement regulations and a variety of socio-economic and other requirements. These requirements, although customary in Government contracts, increase our performance and compliance costs. These costs might increase in the future, reducing our margins, which could have a negative effect on our financial condition. Failure to comply with these regulations and requirements could lead to suspension or debarment, for cause, from Government contracting or subcontracting for a period of time. Among the causes for debarment are violations of various statutes, including those related to:

 

procurement integrity

 

export control

 

government security regulations

 

employment practices

 

protection of the environment

 

accuracy of records and the recording of costs

 

foreign corruption

 

The termination of a Government contract or relationship as a result of any of these acts would have a negative impact on our operations and could have a negative effect on our reputation and ability to procure other Government contracts in the future.

 

In addition, sales to the Government may be affected by:

 

changes in procurement policies

 

budget considerations

 

unexpected developments, such as the terrorist attacks of September 11, 2001, which change concepts of national defense

 

political developments abroad, such as those occurring in the wake of the September 11 attacks

 

 

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The influence of any of these factors, which are largely beyond our control, could also negatively impact our financial condition. We also may experience problems associated with advanced designs required by the Government which may result in unforeseen technological difficulties and cost overruns. Failure to overcome these technological difficulties and the occurrence of cost overruns would have a negative impact on our results.

 

We depend on the U.S. Government for a significant portion of our sales, and the loss of this relationship or a shift in Government funding could have severe consequences on the financial condition of Raytheon.

 

Approximately 74% of our net sales in 2003 were for the U.S. Government. Therefore, any significant disruption or deterioration of our relationship with the U.S. Government would significantly reduce our revenues. Our U.S. Government programs must compete with programs managed by other defense contractors for a limited number of programs and for uncertain levels of funding. Our competitors continuously engage in efforts to expand their business relationships with the U.S. Government at our expense and are likely to continue these efforts in the future. The U.S. Government may choose to use other defense contractors for its limited number of defense programs. In addition, the funding of defense programs also competes with non-defense spending of the U.S. Government. Budget decisions made by the U.S. Government are outside of our control and have long-term consequences for the size and structure of Raytheon. A shift in Government defense spending to other programs in which we are not involved or a reduction in U.S. Government defense spending generally could have severe consequences for our results of operations.

 

We derive a significant portion of our revenues from international sales and are subject to the risks of doing business in foreign countries.

 

In 2003, sales to international customers accounted for approximately 19% of our net sales. We expect that international sales will continue to account for a significant portion of our revenues for the foreseeable future. As a result, we are subject to risks of doing business internationally, including:

 

changes in regulatory requirements

 

domestic and foreign government policies, including requirements to expend a portion of program funds locally and governmental industrial cooperation requirements

 

fluctuations in foreign currency exchange rates

 

delays in placing orders

 

the complexity and necessity of using foreign representatives and consultants

 

the uncertainty of adequate and available transportation

 

the uncertainty of the ability of foreign customers to finance purchases

 

uncertainties and restrictions concerning the availability of funding credit or guarantees

 

imposition of tariffs or embargoes, export controls and other trade restrictions

 

the difficulty of management and operation of an enterprise spread over various countries

 

compliance with a variety of foreign laws, as well as U.S. laws affecting the activities of U.S. companies abroad

 

economic and geopolitical developments and conditions, including international hostilities, acts of terrorism and governmental reactions, inflation, trade relationships and military and political alliances

 

While these factors or the impact of these factors are difficult to predict, any one or more of these factors could adversely affect our operations in the future.

 

We may not be successful in obtaining the necessary licenses to conduct operations abroad, and Congress may prevent proposed sales to foreign governments.

 

Licenses for the export of many of our products are required from government agencies in accordance with various statutory authorities, including the Export Administration Act of 1979, the International Emergency Economic Powers Act, the Trading with the Enemy Act of 1917 and the Arms Export Control Act of 1976. We can give no assurance that we will be successful in obtaining these necessary licenses in order to conduct business abroad. In the case of certain sales of defense equipment and services to foreign governments, the U.S. Department of State must notify the Congress at least 15 to 30 days, depending on the size and location of the sale, prior to authorizing these sales. During that time, the Congress may take action to block the proposed sale.

 

Competition within our markets may reduce our procurement of future contracts and our sales.

 

The military and commercial industries in which we operate are highly competitive. Our competitors range from highly resourceful small concerns, which engineer and produce specialized items, to large, diversified firms. Several established and emerging companies offer a variety of products for applications similar to those of our products. Our competitors may have more extensive or more specialized engineering, manufacturing and marketing capabilities than we do in some areas. There can be no assurance that we can continue to compete effectively with these firms. In addition, some of our largest customers could develop the capability to manufacture products similar to products that we manufacture. This would result in these customers supplying their own products and competing directly with us for sales of these products, all of which could significantly reduce our revenues and seriously harm our business.

 

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Furthermore, we are facing increased international competition and cross-border consolidation of competition. There can be no assurance that we will be able to compete successfully against our current or future competitors or that the competitive pressures we face will not result in reduced revenues and market share or seriously harm our business.

 

Our future success will depend on our ability to develop new technologies that achieve market acceptance.

 

Both our commercial and defense markets are characterized by rapidly changing technologies and evolving industry standards. Accordingly, our future performance depends on a number of factors, including our ability to:

 

identify emerging technological trends in our target markets

 

develop and maintain competitive products

 

enhance our products by adding innovative features that differentiate our products from those of our competitors

 

develop and manufacture and bring products to market quickly at cost-effective prices

 

effectively structure our businesses, through the use of joint ventures, teaming agreements, and other forms of alliances, to the competitive environment

 

Specifically, at Raytheon Aircraft Company, our future success is dependent on our ability to meet scheduled timetables for the development, certification and delivery of new product offerings.

 

We believe that, in order to remain competitive in the future, we will need to continue to develop new products, which will require the investment of significant financial resources. The need to make these expenditures could divert our attention and resources from other projects, and we cannot be sure that these expenditures will ultimately lead to the timely development of new technology. Due to the design complexity of our products, we may in the future experience delays in completing development and introduction of new products. Any delays could result in increased costs of development or deflect resources from other projects. In addition, there can be no assurance that the market for our products will develop or continue to expand as we currently anticipate. The failure of our technology to gain market acceptance could significantly reduce our revenues and harm our business. Furthermore, we cannot be sure that our competitors will not develop competing technologies which gain market acceptance in advance of our products. The possibility that our competitors might develop new technology or products might cause our existing technology and products to become obsolete. If we fail in our new product development efforts or our products fail to achieve market acceptance more rapidly than our competitors, our revenues will decline and our business, financial condition and results of operations will be negatively affected.

 

We enter into fixed-price contracts which could subject us to losses in the event that we have cost overruns.

 

Generally we enter into contracts on a firm, fixed-price basis. This allows us to benefit from cost savings, but we carry the burden of cost overruns. If our initial estimates are incorrect, we can lose money on these contracts. In addition, some of our contracts have provisions relating to cost controls and audit rights, and if we fail to meet the terms specified in those contracts then we may not realize their full benefits. Our financial condition is dependent on our ability to maximize our earnings from our contracts. Lower earnings caused by cost overruns and cost controls would have a negative impact on our financial results.

 

Our business could be adversely affected by a negative audit by the U.S. Government.

 

U.S. Government agencies such as the Defense Contract Audit Agency, or the DCAA, routinely audit and investigate government contractors. These agencies review a contractor’s performance under its contracts, cost structure and compliance with applicable laws, regulations and standards. The DCAA also reviews the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s purchasing, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific contract will not be reimbursed, while such costs already reimbursed must be refunded. If an audit uncovers improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines and suspension or prohibition from doing business with the U.S. Government. In addition, we could suffer serious reputational harm if allegations of impropriety were made against us.

 

We use estimates in accounting for many programs. Changes in our estimates could adversely affect our future financial results.

 

Contract and program accounting require judgment relative to assessing risks, including risks associated with customer directed delays and reductions in scheduled deliveries, unfavorable resolutions of claims and contractual matters, judgments associated with estimating contract revenues and costs, and assumptions for schedule and technical issues. Due to the size and nature of many of our contracts, the estimation of total revenues and cost at completion is complicated and subject to many variables. Assumptions have to be made regarding the length of time to complete the contract because costs also include expected increases in wages and prices for materials. Incentives or penalties related to performance on contracts are considered in estimating sales and profit rates, and are recorded when there is sufficient information for us to assess anticipated performance. Estimates of award fees are also used in estimating sales and profit rates based on actual and anticipated awards.

 

 

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Because of the significance of the judgments and estimation processes described above, it is likely that materially different amounts could be recorded if we used different assumptions or if the underlying circumstances were to change. Changes in underlying assumptions, circumstances or estimates may adversely affect future financial performance.

 

We consider several factors in determining lot size and use estimates in measuring average cost of manufacturing aircraft in the lot.

 

The Company uses lot accounting for new commercial aircraft such as the Beechcraft Premier I. Lot accounting involves selecting an initial lot size at the time a new aircraft begins to deliver and measuring an average cost over the entire lot for each aircraft sold. The Company determines lot size based on several factors, including the size of firm backlog, the expected annual production on the aircraft, and the anticipated market demand for the product.

 

Incorrect underlying assumptions, circumstances or estimates concerning the selection of the initial lot size or changes in market condition, along with a failure to realize predicted unit costs from cost reduction initiatives and repetition of task and production techniques as well as supplier cost reductions, may adversely affect future financial performance.

 

We consider several factors when determining the market or carrying value of used general aviation aircraft.

 

The Company considers independent published data on value of used aircraft, comparable like sales, and current market conditions. Changes in market or economic conditions and changes in products or competitive products may adversely impact the future valuation of used general aviation aircraft.

 

The level of returns on pension and retirement plans could affect our earnings in future periods.

 

Our earnings may be positively or negatively impacted by the amount of income or expense we record for our employee benefit plans. This is particularly true with income or expense for our pension plan. A lower return on assets will increase the funding requirements of the pension plans. The Company funds annually those pension costs which are calculated in accordance with Internal Revenue Service Regulations and standards issued by the Cost Accounting Standards Board. It uses a discount rate assumption that is determined by using a model consisting of a theoretical bond portfolio which matches the Company’s pension liability duration. Pension funding requirements are generally recoverable costs under government contracting regulations.

 

We may incur additional charges relating to our former Engineering and Construction Business.

 

We have significant outstanding letters of credit, surety bonds, guarantees and other support agreements related to a number of contracts and leases of our engineering and construction business unit (E&C Business), which we sold to Washington Group International in July 2000. The Company has honored its obligations under those support agreements and is working to close out those projects. There are risks that the costs incurred on these projects will increase beyond the Company’s estimates because of factors such as: equipment and subcontractor performance; risks associated with completing punch lists and warranty closeout; potential adverse resolution of claims and closeout issues under various contracts and leases; our lack of construction industry expertise due to the sale of the E&C Business; the recoverability and collection of claims and the outcome of defending claims asserted against us; and the risks inherent in the final resolution and closeout of large long-term fixed price contracts. While these potential obligations, liabilities and risks or the impact of them are difficult to predict, any one or more of these factors could have a material adverse impact on our financial condition.

 

During 2003, we recorded charges totaling $176 million due to increased costs for two large power plants being built in Massachusetts; $6 million primarily related to the settlement of warranty claims on one of the projects that had been rejected by Washington Group International in connection with its bankruptcy proceeding; and $49 million for legal, management, and other costs related to our E&C Business.

 

The outcome of litigation in which we have been named as a defendant is unpredictable and an adverse decision in any such matter could have a material adverse affect on our financial position and results of operations.

 

We are defendants in a number of litigation matters. These claims may divert financial and management resources that would otherwise be used to benefit our operations. Although we believe that we have meritorious defenses to the claims made in each and all of the litigation matters to which we have been named a party, and intend to contest each lawsuit vigorously, no assurances can be given that the results of these matters will be favorable to us. An adverse resolution of any of these lawsuits could have a material adverse affect on our financial position and results of operations.

 

We depend on the recruitment and retention of qualified personnel, and our failure to attract and retain such personnel could seriously harm our business.

 

Due to the specialized nature of our businesses, our future performance is highly dependent upon the continued services of our key engineering personnel and executive officers. Our prospects depend upon our ability to attract and retain qualified engineering, manufacturing, marketing, sales and management personnel for our operations. Competition for personnel is intense, and we may not be successful in attracting or retaining qualified personnel. Our failure to compete for these personnel could seriously harm our business, results of operations and financial condition.

 

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Some of our workforce is represented by labor unions.

 

Approximately 11,700 of our employees are unionized, which represented approximately 15% of our employees at December 31, 2003. As a result, we may experience prolonged work stoppages, which could adversely affect our business, and we are vulnerable to the demands imposed by our collective bargaining relationships. We cannot predict how stable these relationships, currently with 9 different U.S. labor organizations and 4 different non-U.S. labor organizations, will be or whether we will be able to meet the requirements of these unions without impacting the financial condition of Raytheon. In addition, the presence of unions may limit our flexibility in dealing with our workforce. Work stoppages and instability in our union relationships could negatively impact our ability to manufacture our products on a timely basis, resulting in strain on our relationships with our customers, as well as a loss of revenues. That would adversely affect our results of operations.

 

We may be unable to adequately protect our intellectual property rights, which could affect our ability to compete.

 

Protecting our intellectual property rights is critical to our ability to compete and succeed as a company. We own a large number of United States and foreign patents and patent applications, as well as trademark, copyright and semiconductor chip mask work registrations which are necessary and contribute significantly to the preservation of our competitive position in the market. There can be no assurance that any of these patents and other intellectual property will not be challenged, invalidated or circumvented by third parties. In some instances, we have augmented our technology base by licensing the proprietary intellectual property of others. In the future, we may not be able to obtain necessary licenses on commercially reasonable terms. We enter into confidentiality and invention assignment agreements with our employees, and enter into non-disclosure agreements with our suppliers and appropriate customers so as to limit access to and disclosure of our proprietary information. These measures may not suffice to deter misappropriation or independent third party development of similar technologies. Moreover, the protection provided to our intellectual property by the laws and courts of foreign nations may not be as advantageous to us as the remedies available under United States law.

 

Our operations expose us to the risk of material environmental liabilities.

 

Because we use and generate large quantities of hazardous substances and wastes in our manufacturing operations, we are subject to potentially material liabilities related to personal injuries or property damages that may be caused by hazardous substance releases and exposures. For example, we are investigating and remediating contamination related to our current or past practices at numerous properties and, in some cases, have been named as a defendant in related personal injury or “toxic tort” claims.

 

We are also subject to increasingly stringent laws and regulations that impose strict requirements for the proper management, treatment, storage and disposal of hazardous substances and wastes, restrict air and water emissions from our manufacturing operations, and require maintenance of a safe workplace. These laws and regulations can impose substantial fines and criminal sanctions for violations, and require the installation of costly pollution control equipment or operational changes to limit pollution emissions and/or decrease the likelihood of accidental hazardous substance releases. We incur, and expect to continue to incur, substantial capital and operating costs to comply with these laws and regulations. In addition, new laws and regulations, stricter enforcement of existing laws and regulations, the discovery of previously unknown contamination or the imposition of new clean-up requirements could require us to incur costs in the future that would have a negative effect on our financial condition or results of operations.

 

We depend on component availability, subcontractor performance and our key suppliers to manufacture and deliver our products and services.

 

Our manufacturing operations are highly dependent upon the delivery of materials by outside suppliers in a timely manner. In addition, we depend in part upon subcontractors to assemble major components and subsystems used in our products in a timely and satisfactory manner. While we enter into long-term or volume purchase agreements with a few of our suppliers, we cannot be sure that materials, components, and subsystems will be available in the quantities we require, if at all. We are dependent for some purposes on sole-source suppliers. If any of these sole-source suppliers fails to meet our needs, we may not have readily available alternatives. Our inability to fill our supply needs would jeopardize our ability to satisfactorily and timely complete our obligations under government and other contracts. This might result in reduced sales, termination of one or more of these contracts and damage to our reputation and relationships with our customers. All of these events could have a negative effect on our financial condition.

 

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The unpredictability of our results may harm the trading price of our securities, or contribute to volatility.

 

Our operating results may vary significantly over time for a variety of reasons, many of which are outside of our control, and any of which may harm our business. The value of our securities may fluctuate as a result of considerations that are difficult to forecast, such as:

 

volume and timing of product orders received and delivered

 

levels of product demand

 

consumer and government spending patterns

 

the timing of contract receipt and funding

 

our ability and the ability of our key suppliers to respond to changes in customer orders

 

timing of our new product introductions and the new product introductions of our competitors

 

changes in the mix of our products

 

cost and availability of components and subsystems

 

price erosion

 

adoption of new technologies and industry standards

 

competitive factors, including pricing, availability and demand for competing products

 

fluctuations in foreign currency exchange rates

 

conditions in the capital markets and the availability of project financing

 

regulatory developments

 

general economic conditions, particularly the cyclical nature of the general aviation market in which we participate

 

our ability to obtain licenses from the U.S. Government to sell products abroad.

 

FORWARD-LOOKING STATEMENTS — SAFE HARBOR PROVISIONS

 

This filing and the information we are incorporating by reference, including any statements relating to the Company’s future plans, objectives, and projected future financial performance, contain or are based on, forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Specifically, statements that are not historical facts, including statements accompanied by words such as “believe,” “expect,” “estimate,” “intend,” or “plan,” variations of these words, and similar expressions, are intended to identify forward-looking statements and convey the uncertainty of future events or outcomes. The Company cautions readers that any such forward-looking statements are based on assumptions that the Company believes are reasonable, but are subject to a wide range of risks, and actual results may differ materially. Given these uncertainties, readers of this filing should not rely on forward-looking statements. Forward-looking statements also represent the Company’s estimates and assumptions only as of the date that they were made. The Company expressly disclaims any current intention to provide updates to forward-looking statements, and the estimates and assumptions associated with them, after the date of this filing. Important factors that could cause actual results to differ include, but are not limited to those discussed in the immediately preceding section of this Item, under “Risk Factors.”

 

Item 2. Properties

 

The Company and its subsidiaries operate in a number of plants, laboratories, warehouses and office facilities in the United States and abroad.

 

At December 31, 2003, the Company owns or leases approximately 36 million square feet of floor space for manufacturing, engineering, research, administration, sales and warehousing, approximately 91% of which was located in the United States. Of such total, approximately 43% was owned (or held under a long term ground lease with ownership of the improvements), approximately 46% was leased, and approximately 11% was made available under facilities contracts for use in the performance of United States Government contracts. At December 31, 2003 the Company had approximately 1 million square feet of additional floor space that was not in use, including approximately 219,000 square feet in Company-owned facilities.

 

There are no major encumbrances on any of the Company’s facilities other than financing arrangements which in the aggregate are not material. In the opinion of management, the Company’s properties have been well maintained, are suitable and adequate for the Company to operate at present levels, and the productive capacity and extent of utilization of the facilities are appropriate for the existing real estate requirements of the Company.

 

 

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At December 31, 2003, the Company had major operations at the following locations:

 

Network Centric Systems — Fullerton, CA; Goleta, CA; Largo, FL; St. Petersburg, FL; Ft. Wayne, IN; Towson, MD; Marlboro, MA; Dallas, TX; McKinney, TX; Plano, TX; Richardson, TX; Sherman, TX; Midland, Ontario, Canada; and Waterloo, Ontario, Canada;

 

Raytheon Aircraft — Little Rock, AR; Atlanta, GA; and Wichita, KS;

 

Space and Airborne Systems — El Segundo, CA; Goleta, CA; Forest, MS; and Dallas, TX;

 

Integrated Defense Systems — San Diego, CA; Andover, MA; Bedford, MA; Sudbury, MA; Tewksbury, MA; Waltham; MA; Portsmouth, RI; Poulsbo, WA; and Kiel, Germany;

 

Missile Systems — East Camden, AR; Tucson, AZ; and Louisville, KY;

 

Raytheon Technical Services Company — Chula Vista, CA; Long Beach, CA; Pomona, CA; Van Nuys, CA; Indianapolis, IN; Burlington, MA; Norfolk, VA; Reston, VA; Canberra, Australia; and Tamuning, Guam;

 

Intelligence and Information Systems — Aurora, CO; Landover, MD; Linthicum, MD; St. Louis, MO; Omaha, NE; State College, PA; Garland, TX; Falls Church, VA; Springfield, VA; and Reston, VA;

 

Flight Options LLC — Richmond Heights, OH;

 

Raytheon Airline Aviation Services, LLC — Wichita, KS;

 

Raytheon Professional Services, LLC — Troy, MI;

 

Raytheon United Kingdom — Harlow, England; and Glenrothes, Scotland;

 

Administration and Services — Waltham, MA; and Arlington, VA.

 

A summary of the Company’s owned and leased floor space at December 31, 2003, follows:

 

(in square feet with 000’s omitted)

 

     LEASED

   OWNED*

   GOV’T
OWNED


   TOTAL

Network Centric Systems

   2,556    4,305    0    6,861

Raytheon Aircraft Company

   1,748    3,746    0    5,494

Space and Airborne Systems

   2,487    2,823    13    5,323

Integrated Defense Systems

   1,220    3,807    182    5,209

Missile Systems

   3,002    721    1,247    4,970

Raytheon Technical Services Company LLC

   1,990    125    2,416    4,531

Intelligence and Information Systems

   2,237    855    0    3,092

Flight Options, LLC

   138    125    0    263

Administration and Services

   270    150    0    420

Raytheon United Kingdom

   108    155    0    263

Raytheon Professional Services, LLC

   123    0    0    123

Raytheon International, Inc.

   79    0    0    79

Raytheon Airline Aviation Services, LLC

   25    20    0    45
    
  
  
  
TOTALS    15,983    16,832    3,858    36,673
    
  
  
  

* Ownership may include either fee ownership of land and improvements or a long term land lease with ownership of improvements.

 

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Additional information regarding the effect of compliance with environmental protection requirements and the resolution of environmental claims against the Company and its operations is contained in the “Risk Factors” section beginning on page 11 of this Form 10-K, in Item 3. “Legal Proceedings” immediately below, in “Commitments and Contingencies” within Item 7 of this Form 10-K and in “Note M – Commitments and Contingencies” within Item 8 of this Form 10-K.

 

Item 3. Legal Proceedings

 

The Company is primarily engaged in providing products and services under contracts with the U.S. Government and, to a lesser degree, under direct foreign sales contracts, some of which are funded by the U.S. Government. These contracts are subject to extensive legal and regulatory requirements and, from time to time, agencies of the U.S. Government investigate whether the Company’s operations are being conducted in accordance with these requirements. U.S. Government investigations of the Company, whether relating to these contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon the Company, 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 the Company. Defense contractors are also subject to many levels of audit and investigation. Agencies which oversee contract performance include: the Defense Contract Audit Agency, the Department of Defense Inspector General, the General Accounting Office, the Department of Justice and Congressional Committees. The Department of Justice from time to time has convened grand juries to investigate possible irregularities by the Company.

 

As previously reported, during late 1999, the Company and two of its officers were named as defendants in several purported class action lawsuits. These lawsuits were consolidated into a single complaint in June 2000, when four additional former or present officers were named as defendants in a Consolidated and Amended Class Action Complaint (the “Consolidated Complaint”) with the caption, In Re Raytheon Securities Litigation (Civil Action No. 12142-PBS), filed in the U.S. District Court in Massachusetts. The Consolidated Complaint principally alleges that the defendants violated federal securities laws by purportedly making misleading statements and by failing to disclose material information concerning the Company’s financial performance during the purported class period. In September 2000, the Company and the individual defendants filed a motion to dismiss the Consolidated Complaint. The plaintiffs opposed the motions. The court heard arguments in February 2001, and in August 2001 the court issued an order dismissing most of the claims asserted against the Company and the individual defendants. In March 2002, the court certified the class of plaintiffs as those people who purchased Raytheon stock between October 7, 1998 through October 12, 1999. On March 17, 2003 the named plaintiff filed a Second Consolidated and Amended Complaint which did not change the claims against the Company or the individual defendants, but which sought to add the Company’s auditor as an additional defendant. In May 2003, the court issued an order dismissing one of the two claims that had been asserted in the Amended Consolidated Complaint against the Company’s auditor. On February 20, 2004, the Company and the individual defendants filed a motion for summary judgment, which the plaintiff opposes. The Company’s auditor also filed a motion for summary judgment which the plaintiff opposes. A hearing on the summary judgment motions is scheduled for April 8, 2004. The Court has scheduled a trial to begin on May 3, 2004.

 

As previously reported, the Company also was named as a nominal defendant and all of its directors at the time (except one) were named as defendants in purported derivative lawsuits filed on October 25, 1999 in the Court of Chancery of the State of Delaware in and for New Castle County by Ralph Mirarchi and others (No. 17495- NC), and on November 24, 1999 in Middlesex County, Massachusetts, Superior Court by John Chevedden (No. 99-5782). On February 28, 2000, Mr. Chevedden filed another derivative action in the Delaware Chancery Court entitled John Chevedden v. Daniel P. Burnham, et al., (No. 17838- NC) and on March 22, 2000, Mr. Chevedden’s Massachusetts derivative action was dismissed. The Mirarchi and Chevedden derivative complaints contain allegations similar to those included in the Consolidated Complaint in the In Re Raytheon Securities Litigation, and further allege that the defendants purportedly breached fiduciary duties to the Company and allegedly failed to exercise due care and diligence in the management and administration of the affairs of the Company. In December 2001 the Company and the individual defendants filed a motion to dismiss the Mirarchi complaint (the only one of these actions for which service of process of the complaint was by then completed.) The court has since consolidated the Mirachi and Chevedden actions, and plaintiffs have filed a Consolidated Amended Complaint under the caption In re: Raytheon Derivative Litigation (No. 17495-NC). On April 25, 2003, the defendants filed a motion to dismiss the Consolidated Amended Complaint which has not yet been heard as the briefing on the motion is not yet complete.

 

As previously reported, in June 2001, a purported class action lawsuit entitled, Muzinich & Co., Inc. et al v. Raytheon Company, et. al., (Civil Action No. 01-0284-S-BLW) was filed in federal court in Boise, Idaho allegedly on behalf of all purchasers of common stock or

 

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senior notes of Washington Group International, Inc. (“WGI”) during the period April 17, 2000 through March 1, 2001 (the class period). The putative plaintiff class claims to have suffered harm by purchasing WGI securities because the Company and certain of its officers allegedly violated federal securities laws by purportedly misrepresenting the true financial condition of RE&C in order to sell RE&C to WGI at an artificially inflated price. An amended complaint was filed on October 1, 2001 alleging similar claims. The Company and the individual defendants filed a motion seeking to dismiss the action in mid-November 2001. On April 30, 2002, the Court denied the Company’s and the individual defendants’ motion to dismiss the complaint. Thereafter, the defendants filed a petition with the District Court requesting permission to seek an immediate appeal of the District Court’s decision to the United States Court of Appeals for the Ninth Circuit, which the District Court granted on July 1, 2002. In August 2002, the Ninth Circuit issued an order denying the petition for interlocutory appeal. In April 2003, the District Court conditionally certified the class and defined the class period as that between April 17, 2000 and March 2, 2001, inclusive. Defendants have filed their answer to the amended complaint and discovery is proceeding.

 

As previously reported, the Company has been named as a nominal defendant and all of its directors at the time have been named as defendants in two identical purported derivative lawsuits filed in Chancery Court in New Castle County, Delaware in July 2001, entitled Melvin P. Haar v. Barbara M. Barrett, et. al., (Civil Action No. 19018) and Howard Lasker v. Barbara M. Barrett, et. al., (Civil Action No. 19027). The Haar and Lasker derivative complaints contain allegations similar to those included in the Muzinich class action complaint and further allege that the individual defendants breached fiduciary duties to the Company and purportedly failed to maintain systems necessary for prudent management and control of the Company’s operations. In December 2001 the Company and the individual defendants filed a motion to dismiss the Haar complaint, the only one of these actions for which service was by then completed. Since then, the Haar and Lasker actions have been consolidated under the caption In re Raytheon Company Shareholders Litigation (No. 19018-NC). On January 30, 2004, the plaintiffs filed a Consolidated Amended Derivative Complaint. On March 1, 2004, the defendants filed a motion to dismiss the Consolidated Amended Derivative Complaint, which has not yet been heard as a briefing schedule for the motion has not been established. In addition, the Company has been named as a nominal defendant and members of its Board of Directors and several current and former officers have been named as defendants in another purported shareholder derivative action entitled Richard J. Kager v. Daniel P. Burnham, et. al., (Civil Action No. 01-11180-JLT) filed in July 2001 in the U. S. District Court in Massachusetts. The Kager derivative complaint contains allegations similar to those included in the Muzinich complaint, and further alleges that the individual defendants breached fiduciary duties to the Company and purportedly failed to maintain systems necessary for prudent management and control of the Company’s operations. On June 28, 2002, all of the defendants in the Kager matter filed a motion to dismiss the complaint. In September 2002, the plaintiff agreed voluntarily to dismiss this action without prejudice so that the plaintiff may re-file the action in Delaware.

 

As previously reported, in May 2003 two purported class action lawsuits entitled, Benjamin Wall v. Raytheon Company et al. (Civil Action No. 03-10940-RGS) and Joseph I. Duggan, III v. Raytheon Company et al. (Civil Action No. 03-10995-RGS), were filed in federal court in Boston, Massachusetts on behalf of participants in the Company’s savings and investment plans who invested in the Company’s stock between August 19, 1999 and May 27, 2003. The two class action complaints are brought pursuant to the Employee Retirement Income Security Act (ERISA). Both complaints allege that the Company and certain officers and directors breached ERISA fiduciary and co-fiduciary duties arising out of the Company’s savings and investment plans’ investment in the Company stock. In September 2003, these actions were consolidated.

 

Although the Company believes that it has meritorious defenses to the claims made in each and all of the aforementioned complaints and intends to contest each proceeding vigorously, an adverse resolution of any of the proceedings could have a material adverse effect on the Company’s financial position and results of operations. The Company is not presently able to reasonably estimate potential losses, if any, related to any of the lawsuits.

 

On February 27, 2003, the Company entered into a settlement agreement with the U.S. Attorney for the District of Massachusetts, the U.S. Customs Service, and the office of Defense Trade Controls of the U.S. Department of State to resolve the U.S. government’s investigation of the contemplated sale by the Company of troposcatter radio equipment to a customer in Pakistan. According to the terms of the settlement, the Company paid a $23 million civil penalty, and will spend $2 million to improve the Company’s export compliance program. In addition, the Company has agreed to appoint a special compliance officer from outside the Company to oversee the Company’s export activities principally at the communications business of NCS.

 

As previously reported, in June 2002 the Company received service of a grand jury subpoena issued by the United States District Court for the Central District of California. The subpoena seeks documents relating to the activities of an international sales representative engaged by the Company relating to a foreign military sales contract in Korea in the late 1990s. The Company has cooperated fully in the investigation including, producing documents in response to the subpoena. The Company has in place appropriate compliance policies and procedures, and believes its conduct has been consistent with those policies and procedures.

 

The Company continues to cooperate with the staff of the Securities and Exchange Commission (SEC) on a formal investigation related to the Company’s accounting practices primarily related to the commuter aircraft business and the timing of revenue recognition at Raytheon Aircraft. The Company has been providing documents and information to the SEC staff. In addition, certain present and former officers and employees of the Company have provided testimony in connection with this investigation. The Company is unable to predict the outcome of the investigation or any action that the SEC might take.

 

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As previously reported, several claims have been asserted and certain proceedings have been commenced against the Company and certain third parties seeking schedule and performance liquidated damages and payment under certain outstanding Company guarantees in connection with the Jindal, Posven, Ratchaburi, Saltend, Ilijan and Red Oak construction contracts. These contracts were rejected by WGI in bankruptcy. Recently, the claims against the Company involving the Jindal contracts were resolved. The claims against the Company involving the Posven contracts also have been resolved, with the exception of two subcontractor-related disputes. Additionally, several other proceedings have been commenced against the Company by parties that had contractual relationships with certain former indirect subsidiaries of the Company which comprised its engineering and construction business. These former indirect subsidiaries were transferred to WGI in the sale of the engineering and construction business to WGI. The plaintiffs in these proceedings have alleged that the Company is responsible to them on various theories including alter ego liability and the assignment to, and/or the assumption by, the Company of the former indirect subsidiaries’ obligations. While the Company cannot predict the outcome of these matters, in the opinion of management, any liability arising from them will not have a material adverse effect on the Company’s financial position, liquidity or results of operations after giving effect to provisions already recorded.

 

The Company is involved in various stages of investigation and cleanup relative to remediation of various environmental sites. All appropriate costs expected to be incurred in connection therewith have been accrued. 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 the Company’s responsibility, it is difficult to determine the ultimate outcome of these matters. However, in the opinion of management, any liability will not have a material effect on the Company’s financial position, liquidity or results of operations. Additional information regarding the effect of compliance with environmental protection requirements and the resolution of environmental claims against the Company and its operations is contained in the “Risk Factors” section beginning on page 11 of this Report, in “Commitments and Contingencies” within Item 7 of this Form 10-K and in “Note M – Commitments and Contingencies” within Item 8 of this Form 10-K.

 

Accidents involving personal injuries and property damage occur in general aviation travel. When permitted by appropriate government agencies, Raytheon Aircraft investigates many accidents related to its products involving fatalities or serious injuries. Through a relationship with FlightSafety International, Raytheon Aircraft provides initial and recurrent pilot and maintenance training services to reduce the frequency of accidents involving its products.

 

Raytheon Aircraft is a defendant in a number of product liability lawsuits that allege personal injury and property damage and seek substantial recoveries including, in some cases, punitive and exemplary damages. Raytheon Aircraft maintains partial insurance coverage against such claims and maintains a level of uninsured risk determined by management to be prudent. Additional information regarding aircraft product liability insurance is contained in “Note M – Commitments and Contingencies” within Item 8 of this Form 10-K.

 

The insurance policies for product liability coverage held by Raytheon Aircraft do not exclude punitive damages, and it is the position of Raytheon Aircraft and its counsel that punitive damage claims are therefore covered. Historically, the defense of punitive damage claims has been undertaken and paid by insurance carriers. Under the law of some states, however, insurers are not required to respond to judgments for punitive damages. Nevertheless, to date no judgments for punitive damages have been sustained.

 

Various other claims and legal proceedings generally incidental to the normal course of business are pending or threatened on behalf of or against the Company. While the Company cannot predict the outcome of these matters, in the opinion of management, any liability arising from them will not have a material adverse effect on the Company’s financial position, liquidity or results of operations after giving effect to provisions already recorded.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

No matters were submitted to a vote of security holders during the fourth quarter of 2003.

 

Item 4(A). Executive Officers of the Registrant

 

The executive officers of the Company are listed below. Each executive officer was elected by the Board of Directors to serve for a term of one year and until his or her successor is elected and qualified or until his or her earlier removal, resignation or death.

 

Thomas M. Culligan: Executive Vice President - Business Development and CEO of Raytheon International, Inc. since March 2001. From 2000 to March 2001, Mr. Culligan was Vice President and General Manager of Defense and Space at Honeywell International Inc. From 1994 to 2000, Mr. Culligan held various positions at Allied Signal, including Vice President and General Manager, Vice President -Europe, Africa and the Middle East - Marketing, Sales and Service unit and President of Government Operations. Prior to joining Allied Signal, he held executive positions at McDonnell Douglas. Age 52.

 

Bryan J. Even: Vice President of Raytheon Company since April 2002 and President of Raytheon Technical Services Company (RTSC) since October 2001. Before assuming leadership of RTSC, Mr. Even had oversight for the Engineering and Production Support business unit in Indianapolis, formerly the Naval Air Warfare Center, from 1999 to 2001. From 1998 to 1999, Mr. Even was Director of East Coast Depot Operations for RTSC. Prior thereto, he was the Deputy General Manager of the Engineering and Depots Group of Raytheon Service Company. Age 43.

 

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Louise L. Francesconi: Vice President of Raytheon Company and President of Missile Systems since September 2002. From November 1999 to September 2002, Ms. Francesconi was a vice president of Raytheon Company and General Manager of the Missile Systems business unit within Electronic Systems. From February 1998 to November 1999, she was Senior Vice President of the former Raytheon Systems Company and Deputy General Manager of the company’s Defense Systems segment. Ms. Francesconi joined Raytheon in 1997 with the merger of Hughes, where she had served as the President of the Hughes Missile Company since 1996. Age 50.

 

Charles E. Franklin: Vice President of Raytheon Company leading the Raytheon Company Evaluation Team (RCET) since September 2003. President of Integrated Defense Systems (IDS) from September 2002 to September 2003. From 1998 to September 2002, Mr. Franklin was Vice President and General Manager of the Air and Missile Defense Systems business unit within Electronic Systems. From 1996 to 1998, Mr. Franklin was Vice President, Programs and Mission Success at Lockheed Martin Sanders Company. Age 65.

 

Richard A. Goglia: Vice President and Treasurer since January 1999. From March 1997 to January 1999, Mr. Goglia was Director, International Finance. Prior to joining the Company, Mr. Goglia spent 16 years in various positions at General Electric and General Electric Capital Corporation. Age: 52.

 

John D. Harris: Vice President of Contracts for Raytheon Company since June 2003. From September 2002 to June 2003, Mr. Harris was Vice President of Contracts for Raytheon’s government and defense businesses. From April 2001 to September 2002, he was Vice President of Operations and Contracts for the former Electronic Systems business. Mr. Harris joined Raytheon in 1983 as a contract administrator and he has held positions of increasing responsibility with the Company since 1983. Age 42.

 

Jack R. Kelble: Vice President of Raytheon Company and President of Space and Airborne Systems (SAS) since September 2002. From October 2001 to September 2002, Mr. Kelble was Vice President and General Manager of the Surveillance and Reconnaissance business unit within Electronic Systems. From January 2000 to October 2001, Mr. Kelble was Vice President of Engineering for Electronic Systems. From October 1998 to January 2000, he was Senior Vice President and Deputy General Manager of the Sensors and Electronic Systems business unit within Electronic Systems. From January 1998 to October 1998, he was Vice President and General Manager of the Integrated Systems business unit within Electronic Systems. He joined Raytheon in 1979 and held positions of increasing responsibility within the Company. Age 61.

 

Michael D. Keebaugh: Vice President of Raytheon Company and President of Intelligence and Information Systems (IIS) since September 2002. From February 1998 to September 2002, Mr. Keebaugh was Vice President and General Manager of the Imagery and Geospatial Systems business unit within Command, Control, Communication and Information Systems. Mr. Keebaugh joined Raytheon in 1990 as a result of an acquisition and held other senior positions within the Company including Vice President and General Manager of Imagery and Geospatial Systems within Raytheon Systems Company. Age 58.

 

Keith J. Peden: Senior Vice President – Human Resources since March 2001. From November 1997 to March 2001, Mr. Peden was Vice President and Deputy Director – Human Resources. From April 1993 to November 1997, Mr. Peden was Corporate Director of Benefits and Compensation. Age 53.

 

Edward S. Pliner: Senior Vice President and Chief Financial Officer since December 2002. From April 2000 to December 2002, Mr. Pliner was Vice President and Corporate Controller. From September 1995 to April 2000, Mr. Pliner was a partner at PricewaterhouseCoopers LLP. Age 46.

 

Biggs C. Porter: Vice President and Corporate Controller since May 2003. From December 2000 to May 2003, Mr. Porter was corporate controller at TXU Corp. From 1996 to December 2000, he was chief financial officer of Northrop Grumman’s Integrated Systems and Aerostructure Sector and its Commercial Aircraft Division. Age 50.

 

Rebecca B. Rhoads: Vice President and Chief Information Officer since April 2001. From February 2000 to April 2001, Ms. Rhoads was Vice President of Information Systems Technology for Electronic Systems. From July 1999 to February 2000, she was Vice President of Information Technology for the Defense Systems business unit of Raytheon Systems Company. From 1996 to 1999, Ms. Rhoads was Director of the Raytheon Test Systems Design Center. Age 46.

 

Colin Schottlaender: Vice President of Raytheon Company and President of Network Centric Systems (NCS) since September 2002. From November 1999 to September 2002, Mr. Schottlaender was Vice President and General Manager of the Tactical Systems business unit within Electronic Systems. From December 1997 to November 1999, Mr. Schottlaender was Vice President of Tactical Systems within the Sensors and Electronic Systems business unit of Raytheon Systems Company. He joined Raytheon in 1977 and held positions of increasing responsibility in domestic and international business development, program management, quality assurance, test engineering and product design/manufacture. Age 48.

 

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James E. Schuster: Executive Vice President of Raytheon Company and Chief Executive Officer of Raytheon Aircraft Company since May 2001. From April 2000 to May 2001, Mr. Schuster was Vice President of Raytheon Company and President of Aircraft Integration Systems. From September 1999 to April 2000, he was Deputy General Manager for Aircraft Integration Systems. Age 50.

 

Gregory S. Shelton: Vice President – Engineering and Technology since May 2001. From 1998 to May 2001, Mr. Shelton served as Vice President of Engineering for Raytheon’s Missile Systems business unit within the Electronic Systems segment. From 1996 to 1997, he was Vice President, Engineering for Hughes Weapons Systems. From 1995 to 1996, he served as Vice President and Product Line Manager, Air Missiles and Advanced Programs and Technology for Hughes Missile Systems Company. Age 53.

 

Daniel L. Smith: President of Raytheon Integrated Defense Systems (IDS) since September 2003. From August 2002 to September 2003, Mr. Smith was Vice President and Deputy of IDS. From October 1996 to August 2002, he served as Vice President and General Manager of Raytheon’s Naval & Maritime Integrated Systems business unit. Mr. Smith joined Raytheon in 1996 as the manager of programs for U.S. Navy LPD-17 class ships. Age 51.

 

Jay B. Stephens: Senior Vice President and General Counsel of Raytheon since October 2002. From January 2002 to October 2002, Mr. Stephens was Associate Attorney General of the United States. From 1997 to 2001, Mr. Stephens was Corporate Vice President and Deputy General Counsel for Honeywell International (formerly AlliedSignal). From 1993 to 1997, he was a partner in the Washington office of the law firm of Pillsbury, Madison & Sutro (now Pillsbury and Winthrop). Mr. Stephens served as United States Attorney for the District of Columbia from 1988 to 1993. From 1986 to 1988, he served in the White House as Deputy Counsel to the President. Age 57.

 

William H. Swanson: Chairman since January 2004; Chief Executive Officer since July 2003; President since July 2002. Mr. Swanson joined Raytheon in 1972 and has held increasingly responsible management positions, including: Executive Vice President of Raytheon Company and President of Raytheon’s Electronic Systems segment from January 2000 to July 2002; Executive Vice President of Raytheon Company and Chairman and CEO of Raytheon Systems Company from January 1998 to January 2000; Executive Vice President of Raytheon Company and General Manager of Raytheon’s Electronic Systems segment from March 1995 to January 1998; and Senior Vice President and General Manager of Missile Systems Division from August 1990 to March 1995. Age 55.

 

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PART II

 

Item 5. Market For Registrant’s Common Equity and Related Stockholder Matters

 

At December 31, 2003, there were approximately 71,000 record holders of the Company’s common stock. The Company’s common stock is traded on the New York Stock Exchange, the Chicago Stock Exchange and the Pacific Exchange under the symbol RTN. For information concerning stock prices and dividends paid during the past two years, see “Note Q – Quarterly Operating Results (unaudited)” within Item 8 of this Form 10-K.

 

 

 

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Item 6. Selected Financial Data

 

FIVE-YEAR STATISTICAL SUMMARY

 

(In millions except share amounts and total employees)


   2003

    2002

    2001

    2000

    1999

 

Results of Operations

                                        

Net sales

   $ 18,109     $ 16,760     $ 16,017     $ 15,817     $ 16,142  

Operating income

     1,316       1,783       766 (1)     1,580       1,645  

Interest expense

     537       497       696       761       724  

Income from continuing operations

     535       756       2 (1)     477       546  

Loss from discontinued operations, net of tax

     (170 )     (887 )     (757 )     (339 )     (94 )

Cumulative effect of change in accounting principle, net of tax

     —         (509 )     —         —         (53 )

Net income (loss)

     365       (640 )     (755 )(1)     138       399  

Diluted earnings per share from continuing operations

   $ 1.29     $ 1.85     $ 0.01 (1)   $ 1.40     $ 1.60  

Diluted earnings (loss) per share

     0.88       (1.57 )     (2.09 )(1)     0.40       1.17  

Dividends declared per share

     0.80       0.80       0.80       0.80       0.80  

Average diluted shares outstanding (in thousands)

     415,429       408,031       361,323       341,118       340,784  
    


 


 


 


 


Financial Position at Year-End

                                        

Cash and cash equivalents

   $ 661     $ 544     $ 1,214     $ 871     $ 230  

Current assets

     6,585       7,190       9,647       9,444       10,732  

Property, plant, and equipment, net

     2,711       2,396       2,196       2,339       2,224  

Total assets

     23,668       23,946       26,773       27,049       28,222  

Current liabilities

     3,849       5,107       5,815       5,071       7,998  

Long-term liabilities (excluding debt)

     3,281       2,831       1,846       2,021       1,886  

Long-term debt

     6,517       6,280       6,874       9,051       7,293  

Subordinated notes payable

     859       858       857       —         —    

Total debt

     7,391       8,291       9,094       9,927       9,763  

Stockholders’ equity

     9,162       8,870       11,381       10,906       11,045  
    


 


 


 


 


General Statistics

                                        

Total backlog

   $ 27,542     $ 25,666     $ 25,605     $ 25,709     $ 24,034  

U.S. government backlog included above

     21,353       18,254       16,943       16,650       14,575  

Capital expenditures

     428       458       461       421       507  

Depreciation and amortization

     393       364       677       642       646  

Total employees from continuing operations

     77,700       76,400       81,100       87,500       90,600  
    


 


 


 


 


 

(1) Includes charges of $745 million pretax related to the Company’s commuter aircraft business and Starship aircraft portfolio, $484 million after-tax, or $1.34 per diluted share.

 

Certain prior year amounts have been reclassified to conform with the current year presentation.

 

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

 

OVERVIEW

 

Raytheon Company (the “Company”) is one of the largest defense electronics contractors in the world, serving all branches of the U.S. military and other U.S. government agencies, NATO, and many allied governments. The Company is a leader in defense electronics, including missiles; radar; sensors and electro-optics; intelligence, surveillance, and reconnaissance (ISR); command, control, communication, and information systems; naval systems; air traffic control systems; and technical services. The Company’s defense businesses are well positioned to capitalize on emerging opportunities in missile defense; precision engagement; intelligence, surveillance, and reconnaissance; and homeland security. Due to the multi-year defense spending cycle, recent increased budget authorizations in these areas are expected to favorably impact the Company’s defense businesses over the next several years.

 

Raytheon Aircraft is a leading provider of business and special mission aircraft and delivers a broad line of jet, turboprop, and piston-powered airplanes to individual, corporate, and government customers worldwide.

 

Defense Industry Considerations

 

Recent events, including the global War on Terrorism, Operation Enduring Freedom, and Operation Iraqi Freedom, have altered the defense and security environment of the United States. These events have had, and for the foreseeable future are likely to continue to have, a significant impact on the markets for defense and advanced technology systems and products. The U.S. Department of Defense continues to focus on both supporting ongoing operations and transforming our military to confront future threats. Our customers plan to operate in a new paradigm. They define an approach that emphasizes speed, precision, and flexibility, by sharing superior knowledge, enabling forces to seize and sustain initiative, concentrate combat power, and prevent an enemy response. In this new environment, the need for advanced technology and defense electronics is clear.

 

The recent growth in military expenditures is driven by the multi-pronged approach required to fight the War on Terrorism, replenish war materials consumed during continued operations in Afghanistan and Iraq, and sustain the momentum in pursuit of transformation.

 

The Company’s strategy is designed to capitalize on the breadth and depth of the Company’s technology and extensive domain expertise in order to meet the evolving needs of the Company’s customers. The Company is focusing on the following Strategic Business Areas, which are aligned with the ongoing military operations and Department of Defense transformation goals:

 

  Missile Defense

 

  Precision Engagement

 

  Intelligence, Surveillance and Reconnaissance

 

  Homeland Security

 

Missile Defense

 

The Company provides an extensive array of technologies and is a major partner in missile defense. The Company is committed to helping the U.S. Missile Defense Agency, the organization responsible for developing an operational Ballistic Missile Defense System achieve its objectives. The President’s commitment to have a U.S. missile defense system operational by 2004 is reinforced by the increase in emphasis and funding in the latest budgets. The Company’s broad array of technologies covers all three phases of the missile defense system – boost, midcourse, and terminal defense – and includes Standard Missile-3, Space Tracking and Surveillance System, Cobra Judy, Exo-Atmospheric Kill Vehicle, Early Warning Radar, Sea-Based X-Band Radar, High Power Discriminator, Terminal High-Altitude Area Defense, and Patriot.

 

Precision Engagement

 

The Company provides mission solutions across the entire precision engagement chain. The Company’s customers are increasingly looking for mission solutions that address the need to operate jointly (across services and between allied forces), work in a new net-centric paradigm, minimize collateral damage, and strike time sensitive targets. The Company’s precision engagement systems include: U-2 sensor suite, F-15 and F/A-18 Active Electronically Scanned Array radars, Advanced Medium Range Air-to-Air Missile, Situation Awareness Data Link, NetFires, Joint Standoff Weapon, Paveway, Tactical Tomahawk, F/A-18 Radar Warning Receiver, High Power Microwave, and High Energy Lasers.

 

Intelligence, Surveillance and Reconnaissance

 

The Company’s innovative sensing, processing, and dissemination technologies effectively compress the information gap from hours to minutes. The Company provides integrated systems solutions for observing, locating, processing, deciding, and disseminating actionable information, enabling network-centric operations for decision makers. These abilities are crucial for war fighters to achieve information dominance throughout the entire battlespace. The Company’s key ISR programs include: Global Hawk sensor suite, E-10A Battle Management Command and Control, Space Based Radar, National Polar-orbiting Operational Environmental Satellite Systems, Future Combat Systems, DD(X), and numerous classified programs.

 

Homeland Security

 

In the area of Homeland Security, the Company has skills, experience, and technology in areas such as airport security; command, control, and communication; and the integration and fusion of sensory inputs for real-time decision support. This is still a new market with significant uncertainty and the ultimate customers and available funding have yet to be determined.

 

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Unlike many major defense contractors, the Company provides electronics for a wide range of missions and platforms. The Company has several thousand programs which the Company believes reduces some of the risk and volatility often inherent in the defense industry.

 

The Company generally acts as a prime contractor or subcontractor on its programs. The funding of U.S. government programs is subject to Congressional authorization and appropriation. While Congress generally appropriates funds on a fiscal year basis, major defense programs are usually conducted under binding contracts over multiple years. The termination of funding for a U.S. government program could result in a loss of future revenues, which would have a negative effect on the Company’s financial position and results of operations. U.S. government contracts are also subject to oversight audits and contain provisions for termination. Failure to comply with U.S. government regulations could lead to suspension or debarment from U.S. government contracting.

 

Sales to the U.S. government may be affected by changes in procurement policies, budget considerations, changing defense requirements, and political developments. The influence of these factors, which are largely beyond the Company’s control, could impact the Company’s financial position or results of operations.

 

Aircraft Industry Considerations

 

The health of the markets for Raytheon Aircraft’s products and services is influenced by a number of key economic and environmental factors including:

 

  Economic growth or sustained market stability

 

  The industry-wide level of inventory of used aircraft available for sale

 

  Regulatory and environmental factors including continued open access to national airspace and airports and operational equipment requirements

 

  Introduction of new products

 

While the economy has shown signs of recovery by most measures including GDP, corporate profits, and personal disposable income, the general aviation market continues to be depressed from its peak performance in 2001. Historically, the industry has lagged the U.S. economic recovery by 12 -18 months.

 

Traditionally, the used aircraft market has led the recovery of the new aircraft market by approximately nine months, however, the current size of the worldwide fleet of used aircraft available for sale and a slower economic recovery could delay market demand for new aircraft.

 

The size of the worldwide fleet of used aircraft available for sale has created intense price pressure on new aircraft and, as a result, many manufacturers have reduced line or production rates to avoid oversupplying the market with products that will only be moved through deep discounting. To support a recovery of the new aircraft market, the current worldwide inventory of used aircraft must be reduced.

 

Despite the increased activity in the used aircraft market during the last half of 2003 and strong fourth quarter sales activity for new aircraft, driven in large part by the bonus depreciation benefit of the Jobs Growth Tax Relief Reconciliation Act of 2003, the industry consensus is that the market for new aircraft will remain flat to slightly higher through 2005 with a modest recovery beginning in 2006.

 

Financial Summary

 

As discussed in more detail throughout Management’s Discussion and Analysis of Financial Condition and Results of Operations:

 

Gross bookings were $22.7 billion in 2003, $17.9 billion in 2002, and $17.0 billion in 2001 resulting in backlog of $27.5 billion, $25.7 billion, and $25.6 billion at December 31, 2003, 2002, and 2001, respectively. Backlog represents future sales and cash flow that will be recognized over the next several years.

 

Net sales were $18.1 billion in 2003, $16.8 billion in 2002, and $16.0 billion in 2001. The increase in sales was a result of strong growth at the defense businesses, primarily Integrated Defense Systems, Missile Systems, and Space and Airborne Systems.

 

Operating income was $1.3 billion in 2003, $1.8 billion in 2002, and $0.8 billion in 2001. Operating income as a percent of net sales was 7.3 percent, 10.6 percent, and 4.8 percent in 2003, 2002, and 2001, respectively. Included in operating income was a FAS/CAS Pension Adjustment, described below in Consolidated Results of Operations, of $109 million of expense in 2003, $210 million of income in 2002, and $386 million of income in 2001. The FAS/CAS Pension Adjustment in 2004 is expected to be approximately $450 million of expense. Also included in operating income were 2003 charges at Network Centric Systems and Technical Services of $276 million, 2001 charges at Raytheon Airline Aviation Services of $745 million, and 2001 goodwill amortization of $334 million.

 

Operating cash flow from continuing operations was $2.1 billion in 2003, $2.2 billion in 2002, and $0.8 billion in 2001. The increase from 2001 was due to better working capital management at the defense businesses and better inventory management at Raytheon Aircraft. Although the Company will continue to focus on working capital management at the defense businesses, this level of improvement is not expected to continue into the foreseeable future.

 

CRITICAL ACCOUNTING POLICIES

 

The Company has identified the following accounting policies that require significant judgment. The Company believes its judgments related to these accounting policies are appropriate.

 

Sales under long-term government contracts are recorded under the percentage of completion method. Incurred costs and estimated gross margins are recorded as sales as work is performed based on the percentage that incurred costs bear to estimated total costs using the Company’s estimates of costs and contract value. Cost estimates include direct and indirect costs

 

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such as labor, materials, warranty, and overhead. Some contracts contain incentive provisions based upon performance in relation to established targets which are included at estimated realizable value. Contract change orders and claims are included when they can be reliably estimated and realization is probable. Due to the long-term nature of many of the Company’s programs, developing estimates of costs and contract value often requires significant judgment. Factors that must be considered in estimating the work to be completed and ultimate contract recovery include labor productivity and availability, the nature and complexity of the work to be performed, the impact of change orders, availability of materials, the impact of delayed performance, availability and timing of funding from the customer, award fee estimations, and the recoverability of claims. In 2003, 2002, and 2001, operating income as a percent of net sales for the defense businesses did not vary by more than 1.5 percent. If operating income as a percent of net sales for the defense businesses had been higher or lower by 1.5 percent in 2003, the Company’s operating income would have changed by approximately $250 million.

 

The Company uses lot accounting for new commercial aircraft introductions at Raytheon Aircraft. Lot accounting involves selecting an initial lot size at the time a new aircraft begins to be delivered and measuring an average cost over the entire lot for each aircraft sold. The costs attributed to aircraft delivered are based on the estimated average cost of all aircraft in the lot and are determined under the learning curve concept which anticipates a predictable decrease in unit costs from cost reduction initiatives and as tasks and production techniques become more efficient through repetition. Once production costs stabilize, which is expected by the time the initial lot has been completed, the use of lot accounting is discontinued. The selection of lot size is a critical judgment. The Company determines lot size based on several factors, including the size of firm backlog, the expected annual production for the aircraft, and experience on similar new aircraft. The size of the initial lot for the Beechcraft Premier I, the only aircraft the Company is currently utilizing lot accounting for, is 200 units. In 2003, the Company recorded a pretax charge of $22 million to reflect the expected loss on the initial lot. A five percent increase in the remaining estimated cost to produce the aircraft would reduce the Company’s operating income by approximately $20 million.

 

The valuation of used aircraft in inventories, which are stated at cost, but not in excess of realizable value, requires significant judgment. As part of the assessment of realizable value, the Company must evaluate many factors including current market conditions, future market conditions, the age and condition of the aircraft, and availability levels for the aircraft in the market. A five percent decrease in the aggregate realizable value of used aircraft in inventory at December 31, 2003, would result in an impairment charge of approximately $20 million. The valuation of aircraft materials and parts which support the worldwide fleet of aircraft, which are stated at cost, but not in excess of realizable value, also requires significant judgment. As part of the assessment of realizable value, the Company must evaluate many factors including the expected useful life of the aircraft, some of which have remained in service for up to 50 years. A five percent decrease in the aggregate realizable value of aircraft materials and purchased parts at December 31, 2003, would result in an impairment charge of approximately $15 million.

 

The Company evaluates the recoverability of long-lived assets upon indication of possible impairment by measuring the carrying amount of the assets against the related estimated undiscounted cash flows. When an evaluation indicates that the future undiscounted cash flows are not sufficient to recover the carrying value of the assets, the asset is adjusted to its estimated fair value. The determination of what constitutes an indication of possible impairment, the estimation of future cash flows, and the determination of estimated fair value are all significant judgments. In addition, the Company performs an annual goodwill impairment test in the fourth quarter of each year. The Company estimates the fair value of reporting units using a discounted cash flow model based on the Company’s most recent five-year plan and compares the estimated fair value to the net book value of the reporting unit, including goodwill. Preparation of forecasts for use in the five-year plan involve significant judgments. Changes in these forecasts could affect the estimated fair value of certain of the Company’s reporting units and could result in a goodwill impairment charge in a future period.

 

The Company has pension plans covering the majority of its employees, including certain employees in foreign countries. The selection of the assumptions used to determine pension expense or income involves significant judgment. The Company’s long-term return on asset (ROA) and discount rate assumptions are considered to be the key variables in determining pension expense or income. To develop the long-term ROA assumption, the Company considered the current level of expected returns on risk-free investments, the historical level of the risk premium associated with the other asset classes in which the Company has invested pension plan assets, and the expectations for future returns of each asset class. Since the Company’s investment policy is to employ active management strategies in all asset classes, the potential exists to outperform the broader markets, therefore, the expected returns were adjusted upward. The expected return for each asset class was then weighted based on the target asset allocation to develop the long-term ROA assumption. The long-term ROA assumption is based on target asset allocations of between 65 and 70 percent equities with a 9.75% expected return, between 20 and 25 percent fixed income with a 5.25% expected return, up to 5 percent real estate with an 8.25% expected return, and between 5 and 10 percent other (including private equity and cash) with a 10.5% expected return. The long-term ROA assumption for the Company’s domestic pension plans in 2004 is 8.75%. The discount rate assumption was determined by using a model consisting of a theoretical bond portfolio that matches the Company’s

 

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pension liability duration. The discount rate assumption for the Company’s domestic pension plans in 2004 is 6.25%. The Company’s pension expense is expected to be approximately $700 million in 2004 and $750 million in 2005. For every 2.5 percent that in the actual domestic pension plan asset return exceeds or is less than the long-term ROA assumption for 2004, the Company’s pension expense for 2004 will change by approximately $15 million. If the Company adjusts the discount rate assumption for 2005 up or down by 25 basis points, the Company’s pension expense would change by approximately $40 million.

 

Effective January 1, 2004, the Company changed the measurement date for its pension and other postretirement benefit plans from October 31 to December 31. This change in measurement date will be accounted for as a change in accounting principle. The cumulative effect of this change in accounting principle is anticipated to be a gain of $34 million after-tax for pension benefits and a gain of $7 million after-tax for other postretirement benefits and will be recognized in 2004. Using the Company’s year end as the measurement date for pension and other postretirement benefit plans more appropriately reflects the plans’ financial status for the years then ended.

 

CONSOLIDATED RESULTS OF OPERATIONS

 

Net sales were $18.1 billion in 2003, $16.8 billion in 2002, and $16.0 billion in 2001. The increase in sales was due primarily to higher U.S. Department of Defense expenditures in the Company’s defense businesses, primarily Integrated Defense Systems, Missile Systems, and Space and Airborne Systems. Sales to the U.S. Department of Defense were 65 percent of sales in 2003, 62 percent in 2002, and 59 percent in 2001. Total sales to the U.S. government, including foreign military sales, were 74 percent of sales in 2003, 73 percent in 2002, and 70 percent in 2001. International sales, including foreign military sales, were 19 percent of sales in 2003, 21 percent in 2002, and 22 percent in 2001. While international sales have remained flat, the amount as a percent of sales has declined as a result of increased sales to the U.S. Department of Defense.

 

Gross margin (net sales less cost of sales) was $3.1 billion in 2003, $3.4 billion in 2002, and $2.4 billion in 2001, or 17.2 percent of sales in 2003, 20.3 percent in 2002, and 14.7 percent in 2001. Included in gross margin was a FAS/CAS Pension Adjustment, described below, of $109 million of expense, $210 million of income, and $386 million of income in 2003, 2002, and 2001, respectively. The change in the FAS/CAS Pension Adjustment was due primarily to the reduction in the Company’s long-term return on asset assumption and the actual rate of return on pension plan assets over the last several years. The decrease in gross margin as a percent of sales in 2003 was due, in part, to charges of $237 million at Network Centric Systems and $39 million at Technical Services, described below in Segment Results. Included in gross margin in 2001 was goodwill amortization of $334 million, which was discontinued January 1, 2002 as described below. Excluding goodwill amortization, gross margin was $2.7 billion or 16.8 percent of sales in 2001. Included in gross margin in 2001 were charges of $745 million at Raytheon Aviation Airline Services, described below in Segment Results.

 

Statement of Financial Accounting Standards No. 87, Employers’ Accounting for Pensions (SFAS No. 87), outlines the methodology used to determine pension expense or income for financial reporting purposes, which is not necessarily indicative of the funding requirements of pension plans, which are determined by other factors. A major factor for determining pension funding requirements are Cost Accounting Standards (CAS) that proscribe the allocation to and recovery of pension costs on U.S. government contracts. The Company now reports the difference between SFAS No. 87 (FAS) pension expense or income and CAS pension expense as a separate line item in the Company’s segment results called FAS/CAS Pension Adjustment. The results for each segment only include pension expense as determined under CAS, which can generally be recovered through the pricing of products and services to the U.S. government.

 

Administrative and selling expenses were $1,306 million or 7.2 percent of sales in 2003, $1,170 million or 7.0 percent of sales in 2002, and $1,131 million or 7.1 percent of sales in 2001. Included in administrative and selling expenses in 2002 was a $29 million gain on the sale of the Company’s corporate headquarters.

 

Research and development expenses were $487 million or 2.7 percent of sales in 2003, $449 million or 2.7 percent of sales in 2003, and $456 million or 2.8 percent of sales in 2001.

 

Operating income was $1,316 million or 7.3 percent of sales in 2003, $1,783 million or 10.6 percent of sales in 2002, and $766 million or 4.8 percent of sales in 2001. Excluding goodwill amortization, operating income was $1,100 million or 6.9 percent of sales in 2001. The changes in operating income by segment are described below in Segment Results.

 

Interest expense from continuing operations was $537 million in 2003, $497 million in 2002, and $696 million in 2001. In 2002 and 2001, the Company allocated $79 million and $18 million, respectively, of interest expense to discontinued operations. The Company did not allocate interest expense to discontinued operations in 2003 as described below in Discontinued Operations. Total interest expense was $576 million in 2002 and $714 million in 2001. The decrease in interest expense in 2003 was due to a lower weighted-average cost of borrowing. The decrease in 2002 was due to lower average debt and a lower weighted-average cost of borrowing due, in part, to the interest rate swaps entered into in 2001, described below in Capital Structure and Resources. The weighted-average cost of borrowing was 6.0 percent in 2003, 6.7 percent in 2002, and 7.1 percent in 2001.

 

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Interest income was $50 million in 2003, $27 million in 2002, and $36 million in 2001. The increase in interest income was due to interest on long-term receivables brought onto the Company’s books as part of the buy-out of the Aircraft Receivables Facility in the fourth quarter of 2002, described below in Financial Condition and Liquidity.

 

Other expense, net was $67 million in 2003, $237 million in 2002, and $6 million in 2001. Included in other expense, net in 2003 was a $77 million charge related to the Company’s repurchase of long-term debt, described below in Capital Structure and Resources, and $20 million of equity losses related to Flight Options LLC, offset by an $82 million gain from the sale of the Company’s investment in its former aviation support business, both described below in Major Affiliated Entities. Included in other expense, net in 2002 was a $175 million charge to write-off the Company’s investment in Space Imaging and accrue for a related credit facility guarantee which the Company paid in 2003, described below in Major Affiliated Entities. Other income and expense also includes gains and losses on divestitures and equity losses in unconsolidated subsidiaries, as described in Note S, Other Income and Expense of the Notes to Consolidated Financial Statements.

 

The effective tax rate was 29.8 percent in 2003 and 29.7 percent in 2002, reflecting the U.S. statutory rate of 35 percent reduced by ESOP dividend deductions, foreign sales corporation tax credits, and research and development tax credits applicable to certain government contracts. The effective tax rate was 98.0 percent in 2001, reflecting the U.S. statutory rate of 35 percent reduced by foreign sales corporation tax credits and research and development tax credits applicable to certain government contracts, increased by non-deductible amortization of goodwill. Excluding the effect of goodwill amortization, the effective tax rate was 29.3 percent in 2001. At December 31, 2003, the Company had net operating loss carryforwards of $1.4 billion that expire in 2020 through 2023. The Company believes it will be able to utilize all of these carryforwards over the next 3 years.

 

Income from continuing operations was $535 million or $1.29 per diluted share on 415.4 million average shares outstanding in 2003, $756 million or $1.85 per diluted share on 408.0 million average shares outstanding in 2002, and $2 million or $0.01 per diluted share on 361.3 million average shares outstanding in 2001. Excluding goodwill amortization, income from continuing operations was $307 million or $0.85 per diluted share in 2001. The increase in average shares outstanding in 2003 was due primarily to benefit plan-related activity. The increase in average shares outstanding in 2002 was due primarily to the issuance of 14,375,000 and 31,578,900 shares of common stock in May and October 2001, respectively.

 

The loss from discontinued operations, net of tax, described below in Discontinued Operations, was $170 million or $0.41 per diluted share in 2003, $887 million or $2.17 per diluted share in 2002, and $757 million or $2.10 per diluted share in 2001.

 

Effective January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (SFAS No. 142). This accounting standard addresses financial accounting and reporting for goodwill and other intangible assets and requires that goodwill amortization be discontinued and replaced with periodic tests of impairment. In accordance with SFAS No. 142, goodwill amortization was discontinued as of January 1, 2002. In 2002, the Company recorded a goodwill impairment charge of $360 million related to its former Aircraft Integration Systems business (AIS) as a cumulative effect of change in accounting principle. Due to the non-deductibility of this goodwill, the Company did not record a tax benefit in connection with this impairment. Also in 2002, the Company completed the transitional review of the other businesses for potential goodwill impairment in accordance with SFAS No. 142 and recorded a goodwill impairment charge of $185 million pretax or $149 million after-tax, which represented all of the goodwill at Raytheon Aircraft, as a cumulative effect of change in accounting principle. The Company also determined that there was no impairment of goodwill related to any of the defense businesses beyond the $360 million related to AIS. The total goodwill impairment charge in 2002 was $545 million pretax, $509 million after-tax, or $1.25 per diluted share.

 

Net income was $365 million or $0.88 per diluted share in 2003 versus a net loss of $640 million or $1.57 per diluted share in 2002 and a net loss of $755 million or $2.09 per diluted share in 2001. Excluding goodwill amortization, the net loss was $422 million or $1.17 per diluted share in 2001.

 

SEGMENT RESULTS

 

Reportable segments have been determined based upon product lines and include the following: Integrated Defense Systems, Intelligence and Information Systems, Missile Systems, Network Centric Systems, Space and Airborne Systems, Technical Services, Aircraft, and Other. In 2003, the Company began reporting its defense businesses in six segments. In addition, the Company’s Commercial Electronics businesses were reassigned to the new defense businesses. Also, the Company created an Other segment comprised of Flight Options LLC, Raytheon Airline Aviation Services LLC, and Raytheon Professional Services LLC. Also in 2003, the Company changed the way pension expense or income is reported in the Company’s segment results as described above in Consolidated Results of Operations. Information for all periods presented was restated to reflect these changes.

 

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Net Sales

 

                        

(In millions)


   2003

    2002

    2001

 

Integrated Defense Systems

   $ 2,864     $ 2,366     $ 2,265  

Intelligence and Information Systems

     2,045       1,887       1,736  

Missile Systems

     3,538       3,038       2,901  

Network Centric Systems

     2,809       3,091       2,865  

Space and Airborne Systems

     3,677       3,243       2,738  

Technical Services

     1,963       2,133       2,050  

Aircraft

     2,088       2,040       2,471  

Other

     573       210       207  

Corporate and Eliminations

     (1,448 )     (1,248 )     (1,216 )
    


 


 


Total

   $ 18,109     $ 16,760     $ 16,017  
    


 


 


Operating Income                         

(In millions)


   2003

    2002

    2001

 

Integrated Defense Systems

   $ 331     $ 289     $ 238  

Intelligence and Information Systems

     194       180       139  

Missile Systems

     424       373       257  

Network Centric Systems

     19       278       246  

Space and Airborne Systems

     492       428       339  

Technical Services

     107       116       123  

Aircraft

     2       (39 )     (77 )

Other

     (34 )     (12 )     (758 )

FAS/CAS Pension Adjustment

     (109 )     210       386  

Corporate and Eliminations

     (110 )     (40 )     (127 )
    


 


 


Total

   $ 1,316     $ 1,783     $ 766  
    


 


 


Operating Margin                         
     2003

    2002

    2001

 

Integrated Defense Systems

     11.6 %     12.2 %     10.5 %

Intelligence and Information Systems

     9.5       9.5       8.0  

Missile Systems

     12.0       12.3       8.9  

Network Centric Systems

     0.7       9.0       8.6  

Space and Airborne Systems

     13.4       13.2       12.4  

Technical Services

     5.5       5.4       6.0  

Aircraft

     0.1       (1.9 )     (3.1 )

Other

     (5.9 )     (5.7 )     (366.2 )

FAS/CAS Pension Adjustment

                        

Corporate and Eliminations

                        
    


 


 


Total

     7.3 %     10.6 %     4.8 %
    


 


 


 

Integrated Defense Systems (IDS) provides mission systems integration for the air, surface, and subsurface battlespace. IDS had 2003 sales of $2.9 billion versus $2.4 billion in 2002 and $2.3 billion in 2001. The increase in sales in 2003 was due to continued growth on DD(X), the Navy’s future destroyer program, as well as strong missile defense sales. The increase in sales in 2002 was due to higher missile defense volume. Operating income was $331 million in 2003 versus $289 million in 2002 and $238 million in 2001. Excluding goodwill amortization, operating income was $256 million in 2001 or 11.3 percent of net sales. The decrease in operating margin in 2003 was due to lower volume on higher margin international programs.

 

Intelligence and Information Systems (IIS) provides signal and image processing, geospatial intelligence, airborne and spaceborne command and control, ground engineering support, weather and environmental management, and information technology. IIS had 2003 sales of $2.0 billion versus $1.9 billion in 2002 and $1.7 billion in 2001. The increase in sales in 2003 and 2002 was due to strong growth in classified programs, as well as the start-up of the NPOESS (National Polar-orbiting Operational Environmental Satellite Systems) program. Operating income was $194 million in 2003 versus $180 million in 2002 and $139 million in 2001. Excluding goodwill amortization, operating income was $179 million in 2001 or 10.3 percent of net sales.

 

Missile Systems (MS) provides air-to-air, precision strike, surface Navy air defense, and land combat missiles, guided projectiles, kinetic kill vehicles, and directed energy weapons. MS had 2003 sales of $3.5 billion versus $3.0 billion in 2002 and $2.9 billion in 2001. The increase in sales in 2003 was due to the Tomahawk remanufacture program reaching full rate production and several production programs transitioning from engineering development to low rate initial production including Air Intercept Missile (AIM-9X), Evolved Sea Sparrow Missile (ESSM), and Tactical Tomahawk. Sales also increased on several missile defense programs in order to meet accelerated deployment. The increase in sales in 2002 was due to the ramp up on the Exo-Atmospheric Kill Vehicle program and the transition of the ESSM program to full rate production. Operating income was $424 million in 2003 versus $373 million in 2002 and $257 million in 2001. Excluding goodwill amortization, operating income was $356 million in 2001 or 12.3 percent of net sales.

 

Network Centric Systems (NCS) provides network centric solutions to integrate sensors, communications, and command and control to manage the battlespace. NCS had 2003 sales of $2.8 billion versus $3.1 billion in 2002 and $2.9 billion in 2001. Operating income was $19 million in 2003 versus $278 million in 2002 and $246 million in 2001. Excluding goodwill amortization, operating income was $313 million in 2001 or 10.9 percent of net sales. The decrease in sales and operating income in 2003 was due to charges affecting operating income totaling $237 million which also resulted in a $228 million reduction in sales. Performance deterioration in ten programs primarily within the Air Traffic Management Systems business and the Communications business resulted in a charge in the third quarter of 2003 of $147 million. There were a number of unfavorable events that occurred on these ten programs including unsuccessful resolution of technical issues, inability to achieve production rates and milestones, customer directed delays and reductions in scheduled deliveries, and unfavorable rulings and negotiations on contractual matters. In the first six months of 2003, the Company recorded a $50 million charge on two of these programs related to schedule and production delays. In addition to the ten programs, the Company recorded a charge of $40 million in the third quarter of 2003 resulting from negative developments on a few claims and other performance issues in other parts of the business.

 

Space and Airborne Systems (SAS) provides electro-optical/ infrared sensors, airborne radars, solid state high energy lasers, precision guidance systems, electronic warfare systems, and

 

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space-qualified systems for civil and military applications. SAS had 2003 sales of $3.7 billion versus $3.2 billion in 2002 and $2.7 billion in 2001. The increase in sales in 2003 was due to higher sales on classified and Airborne Radar programs for the Air Force such as Multi-platform Radar Technology Insertion Program, B-2 Radar Modernization Program, F-15 Korea, and increased production of the F/A-22 Radar. Operating income was $492 million in 2003 versus $428 million in 2002 and $339 million in 2001. Excluding goodwill amortization, operating income was $416 million in 2001 or 15.2 percent of net sales.

 

Technical Services (TS) provides technical, scientific, and professional services for defense, federal, and commercial customers worldwide. TS had 2003 sales of $2.0 billion versus $2.1 billion in 2002 and 2001. The decrease in sales in 2003 was due to the loss of several key programs. Operating income was $107 million in 2003 versus $116 million in 2002 and $123 million in 2001. Excluding goodwill amortization, operating income was $148 million in 2001 or 7.2 percent of net sales. The decrease in operating income in 2003 was primarily due to write-offs of $39 million related to an unfavorable change in scope on a long-term contract of $22 million and a provision for the collectibility of certain unbilled costs of $17 million. Included in operating income for 2002 was a $28 million write-off of contract costs that the Company determined to be unbillable. The decrease was offset by a similarly sized reserve at corporate established by the Company in the second half of 2001 to address the issue.

 

Raytheon Aircraft Company (RAC) designs, manufactures, markets, and provides after-market support for business jets, turbo-props, and piston-powered aircraft for the world’s commercial, fractional ownership, and military aircraft markets. RAC had 2003 sales of $2.1 billion versus $2.0 billion in 2002 and $2.5 billion in 2001. The decrease in sales in 2002 was due to lower aircraft deliveries, the divestiture of a majority interest in the Company’s aviation support business in June 2001, and the divestiture of a majority interest in the Company’s aircraft fractional ownership business in March 2002. Operating income was $2 million in 2003 versus an operating loss of $39 million in 2002 and $77 million in 2001. Excluding goodwill amortization, RAC had an operating loss of $69 million in 2001 or (2.8) percent of net sales.

 

The increase in operating income in 2003 was due to higher productivity and cost saving initiatives implemented over the last year. Included in 2003 operating income was a $46 million favorable profit adjustment on the Joint Primary Aircraft Training System (JPATS) program partially offset by a $22 million charge on the Premier program reflecting cost estimate increases. Included in 2002 operating income was a $26 million favorable profit adjustment on the JPATS program. The Company has made a significant investment in its Premier aircraft, the realization of which is contingent upon future sales at forecasted prices and reductions in production costs on future deliveries. The Company continues to monitor the development costs and certification and delivery schedule of the Horizon aircraft with anticipated certification in the third quarter of 2004 and first delivery by year-end 2004. The Company continues to believe there is risk in the market outlook for both new and used aircraft.

 

The Other segment, which is comprised of Flight Options LLC (FO), Raytheon Airline Aviation Services LLC (RAAS), and Raytheon Professional Services LLC (RPS) had 2003 sales of $573 million versus $210 million in 2002 and $207 million in 2001. FO offers services in the aircraft fractional ownership industry. RAAS is a unit formed to manage the Company’s commuter aircraft business and Starship aircraft portfolio. RPS works with customers to design and execute learning solutions. The increase in sales was due to the consolidation of FO in June 2003 as described below in Major Affiliated Entities. The Other segment had an operating loss of $34 million in 2003 versus $12 million in 2002 and $758 million in 2001. The loss in 2003 included a $32 million operating loss at RAAS due, in part, to an increase in a loan reserve on one major customer.

 

Included in the 2001 results was a charge of $693 million related to the commuter aircraft business. This was a result of continued weakness in the commuter aircraft market and the impact of the events of September 11, 2001 on the commuter airline industry. During the first half of 2001, the Company experienced a significant decrease in the volume of used commuter aircraft sales. An evaluation of commuter aircraft market conditions and the events of September 11, 2001 indicated the market weakness would continue into the foreseeable future. As a result, the Company completed an analysis of the estimated fair value of the various models of commuter aircraft and reduced the book value of commuter aircraft inventory and equipment leased to others accordingly. In addition, the Company adjusted the book value of notes receivable and established a reserve for off balance sheet receivables where there was recourse to the Company based on the Company’s estimate of exposures on customer financed assets due to defaults, refinancing, and remarketing of these aircraft. Immediately prior to the charge, the Company had exposure on approximately $1,600 million of commuter-related assets consisting of 511 aircraft including financing receivables, inventory, and leases. At December 31, 2003 and 2002, the Company’s exposure on commuter-related assets was approximately $650 million consisting of 349 aircraft and approximately $800 million consisting of 433 aircraft, respectively. Commuter aircraft customers are generally thinly capitalized companies that are dependant on the commuter aircraft industry. A downturn in this industry could have a material adverse effect on these customers and the Company.

 

The Company also recorded a $52 million charge related to a fleet of Starship aircraft in 2001. During the first three quarters of 2001, the Company had not sold any of these aircraft and recorded a charge to reduce the value of the aircraft to their estimated fair value.

 

In 2002, the Company bought back the remaining off balance sheet receivables, described below in Financial Condition and Liquidity. In connection with the buyback of the off balance sheet receivables, the Company recorded the long-term receivables at estimated fair value, which included an assessment of the value of the underlying aircraft. As a result of this assessment, the Company adjusted the value of certain underlying aircraft, including both

 

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commuter and Starship aircraft, some of which were written down to scrap value. There was no net income statement impact as a result of this activity.

 

Backlog at December 31

 

(In millions)


   2003

   2002

   2001

Integrated Defense Systems

   $ 6,526    $ 5,011    $ 4,400

Intelligence and Information Systems

     3,899      3,540      3,052

Missile Systems

     5,028      3,509      3,437

Network Centric Systems

     3,259      2,853      3,208

Space and Airborne Systems

     4,865      4,523      5,075

Technical Services

     1,510      1,603      1,958

Aircraft

     2,279      4,396      4,114

Other

     176      231      361
    

  

  

Total

   $ 27,542    $ 25,666    $ 25,605
    

  

  

Funded backlog included above

   $ 17,532    $ 17,062    $ 17,057
    

  

  

U.S. government backlog included above

   $ 21,353    $ 18,254    $ 16,943
    

  

  

 

Funded backlog excludes U.S. and foreign government contracts for which funding has not been appropriated.

 

Gross Bookings

 

(In millions)


   2003

   2002

   2001

Integrated Defense Systems

   $ 4,344    $ 2,987    $ 2,558

Intelligence and Information Systems

     2,371      2,478      1,957

Missile Systems

     5,117      3,110      3,236

Network Centric Systems

     3,118      2,582      2,534

Space and Airborne Systems

     3,619      2,372      2,471

Technical Services

     1,398      1,339      1,250

Aircraft

     2,207      2,953      2,783

Other

     519      99      228
    

  

  

Total

   $ 22,693    $ 17,920    $ 17,017
    

  

  

 

The increase in backlog in 2003 was due to strong bookings across the defense businesses, particularly several large contract awards at Integrated Defense Systems and Missile Systems. In 2003, the Company reduced its reported Aircraft backlog by $834 million related to an order received from Flight Options as a result of Flight Options being consolidated with the Company in the second quarter of 2003 as described below in Major Affiliated Entities. In addition, an Aircraft customer canceled its order for 50 Hawker Horizon aircraft resulting in an $895 million backlog reduction.

 

DISCONTINUED OPERATIONS

 

In 2000, the Company sold its Raytheon Engineers & Constructors businesses (RE&C) to Washington Group International, Inc. (WGI). In May 2001, WGI filed for bankruptcy protection. As a result of the sale and the WGI bankruptcy, the Company was required to perform various contract and lease obligations in connection with a number of different projects under letters of credit, surety bonds, and guarantees (Support Agreements) that it had provided to project owners and other parties.

 

Among the projects involved were two construction projects, the Mystic Station facility in Everett and the Fore River facility in Weymouth (the “Massachusetts Projects”). Following WGI’s abandonment of these projects in 2001, the Company undertook construction efforts on these projects, subsequently delivered care, custody, and control of these projects to their owners, and, as of December 31, 2003, was continuing to perform work on these projects. On February 23, 2004, the Company closed on a settlement agreement with the project owners and other interested parties. The settlement included, among other things, a payment to the Company of approximately $30 million, the return to the Company of approximately $73 million in letters of credit the Company had provided to the project owners, and a release of various claims related to these projects. In addition, under the settlement, the Company remained responsible for all subcontractor and vendor claims prior to the settlement and the project owners assumed responsibility for all post-settlement obligations, including completing the construction of the projects, and all punch list and warranty obligations. The Company believes that the obligations retained on these projects are not material.

 

The Company recorded charges of $176 million in 2003, $796 million in 2002, and $814 million in 2001 related to the Massachusetts Projects. The charges resulted from delays, labor and material cost growth, productivity issues, equipment and subcontractor performance, schedule liquidated damages, inaccurate estimates of field engineered materials, and disputed changes.

 

In addition to the Massachusetts Projects, the Company has or had obligations under Support Agreements on a number of other projects. In several cases, the Company has entered into settlement agreements that resolve the Company’s obligations under the related Support Agreements. In connection with a number of other projects on which the Company has obligations under Support Agreements, the Company is continuing to undertake the final stages of work, which includes warranty obligations, commercial closeout, and claims resolution. In 2003, the Company recorded charges of $6 million primarily related to the settlement of warranty claims on one of these projects. In 2002 and 2001, the Company recorded charges of $53 million and $210 million, respectively, for various issues in connection with these projects, including but not limited to, punch list items, start-up costs, reliability testing, and turbine-related delays. Finally, there are projects with Support Agreements provided by the Company on which WGI is continuing to perform work, which could present risk to the Company if WGI fails to meet its obligations in connection with those projects.

 

In performing its obligations under the remaining Support Agreements, the Company has various risks and exposures, including delays, equipment and subcontractor performance, warranty closeout, various liquidated damages issues, collection of amounts due under contracts, and potential adverse claims resolution under various contracts and leases. In addition, the Company’s cost estimates for these obligations are heavily dependent upon third parties, including WGI, and their ability to perform construction

 

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management, cost estimating, and other tasks requiring industry expertise that the Company no longer possesses.

 

In 2003, the Company recorded charges of $49 million for legal, management, and other costs related to RE&C versus $38 million in 2002 and $30 million in 2001. In 2002 and 2001, the Company allocated $79 million and $18 million, respectively, of interest expense to RE&C based upon actual cash outflows since the date of disposition. Since the Massachusetts Projects were nearing completion, the Company did not allocate interest expense to RE&C in 2003. In addition, in 2001, the Company recorded a charge of $71 million to write off certain assets and liabilities as a result of the WGI bankruptcy filing.

 

In 2003, 2002, and 2001, the pretax loss from discontinued operations related to RE&C was $231 million, $966 million, and $1,143 million, respectively.

 

Net cash used in operating activities from discontinued operations related to RE&C was $513 million in 2003 versus $1,129 million in 2002 and $635 million in 2001. The Company expects its operating cash flow to be negatively affected by approximately $50 million to $75 million in 2004 which includes project completion, legal, and management costs related to RE&C. Further increases to project costs may increase the estimated operating cash outflow for RE&C in 2004.

 

In 2002, the Company sold its Aircraft Integration Systems business (AIS) for $1,123 million, net, subject to purchase price adjustments. The Company is currently involved in a purchase price dispute related to the sale of AIS. There was no pretax gain or loss on the sale of AIS, however, due to the non-deductible goodwill associated with AIS, the Company recorded a tax provision of $212 million, resulting in a $212 million after-tax loss on the sale of AIS. As part of the transaction, the Company retained the responsibility for performance of the Boeing Business Jet (BBJ) program. The Company also retained $106 million of BBJ-related assets, $18 million of receivables and other assets, and rights to a $25 million jury award related to a 1999 claim against Learjet. At December 31, 2003, the balance of these retained assets was $45 million.

 

In 2003, the Company recorded charges related to AIS of $17 million related to cost growth on the BBJ program and $13 million as a result of continued difficulty the Company has been experiencing liquidating the BBJ-related assets. In 2002, the Company recorded charges of $66 million, which included a $23 million write-down of a BBJ-related aircraft owned by the Company, a $28 million charge for cost growth on one of the two BBJ aircraft not yet delivered, and a $10 million charge to write down other BBJ-related assets to the then estimated net realizable value, offset by a $13 million gain resulting from the finalization of the 1999 claim, described above. The write-down of the BBJ-related aircraft resulted from the Company’s decision to market this aircraft unfinished due to the environment of declining prices for BBJ-related aircraft at the time. The Company was previously marketing this aircraft as a customized executive BBJ.

 

In 2003 and 2002, the pretax loss from discontinued operations related to AIS was $30 million and $47 million, respectively. In 2001, pretax income from discontinued operations related to AIS was $5 million.

 

FINANCIAL CONDITION AND LIQUIDITY

 

Net cash provided by operating activities in 2003 was $1,569 million versus $1,039 million in 2002 and $155 million in 2001. Net cash provided by operating activities from continuing operations was $2,102 million in 2003 versus $2,235 million in 2002 and $751 million in 2001. The increase in net cash provided by operating activities from continuing operations from 2001 was due to better working capital management at the defense businesses, better inventory management at Raytheon Aircraft, a $156 million tax refund received in 2002 as a result of the Job Creation and Worker Assistance Act of 2002, and $95 million received from the close-out of certain interest rate swaps, described below in Capital Structure and Resources. Although the Company will continue to focus on working capital management at the defense businesses, this level of improvement is not expected to continue into the foreseeable future. As the Company continues to convert portions of existing financial systems to a new integrated financial package, certain planned delays in billings to customers may occur during 2004, however, the Company does not expect these delays to negatively impact full year cash flow results.

 

Savings and investment plan activity includes certain items related to Company’s 401(k) plan that were funded through the issuance of the Company’s common stock and are non-cash operating activities included on the statement of cash flows. In 2004, these items may be funded by the issuance of the Company’s common stock or through purchases of the Company’s common stock on the open market.

 

Net cash used in investing activities was $243 million in 2003 versus $719 million in 2002 and $47 million in 2001. The Company provides long-term financing to its aircraft customers. Origination of financing receivables was $402 million in 2003, $431 million in 2002, and $663 million in 2001. In 2003, the Company received proceeds of $279 million related to the sale of certain general aviation finance receivables, described below in Off Balance Sheet Financing Arrangements. The Company also maintained a program under which it sold general aviation and commuter aircraft long-term receivables under a receivables purchase facility through the end of 2002. Sale of financing receivables was $263 million in 2002 and $696 million in 2001. The Company bought out the receivables that remained in the facility in 2002 for $1,029 million, brought the related assets onto the Company’s books, and eliminated the associated $1.4 billion receivables purchase

 

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facility. Repurchase of financing receivables was $347 million in 2002 and $329 million in 2001.

 

Capital expenditures were $428 million in 2003, $458 million in 2002, and $461 million in 2001. Capital expenditures in 2004 are expected to approximate $475 million. In 1998, the Company entered into a $490 million property sale and five-year operating lease (synthetic lease) facility under which property, plant, and equipment was sold and leased back to the Company. In 2003, the lease facility expired and the Company bought back the assets remaining in the lease facility for $125 million. Proceeds from sales of property, plant, and equipment were $25 million in 2003, $11 million in 2002, and $9 million in 2001. Capitalized expenditures for internal use software were $98 million in 2003, $138 million in 2002, and $149 million in 2001. Capitalized expenditures for internal use software in 2004 are expected to approximate $160 million. In 2003, the Company paid $130 million related to the Space Imaging credit facility guarantee, described below in Major Affiliated Entities.

 

Proceeds from the sale of operating units and investments were $111 million in 2003 versus $1,166 million in 2002 and $266 million in 2001. In 2003, the Company sold the remaining interest in its former aviation support business for $97 million and other investments for $14 million. In 2002, the Company sold its AIS business for $1,123 million, described above in Discontinued Operations, and an investment for $43 million, described below in Major Affiliated Entities. In 2001, the Company sold a majority interest in its aviation support business for $154 million, its recreational marine business for $100 million, and other investments for $12 million. Total sales and operating income related to the businesses divested in 2001 were $248 million and $13 million, respectively, in 2001.

 

Payments for purchases of acquired companies, net of cash received, were $60 million in 2003 versus $10 million in 2002. There were no acquisitions in 2001.

 

In October 2001, the Company and Hughes Electronics agreed to a settlement regarding the purchase price adjustment related to the Company’s merger with the defense business of Hughes Electronics Corporation (Hughes Defense). Under the terms of the agreement, Hughes Electronics agreed to reimburse the Company approximately $635 million of its purchase price, with $500 million received in 2001 and the balance received in 2002. The settlement resulted in a $555 million reduction in goodwill.

 

Net cash used in financing activities was $1,209 million in 2003 versus $990 million in 2002. Net cash provided by financing activities was $235 million in 2001. Dividends paid to stockholders were $331 million in 2003, $321 million in 2002, and $281 million in 2001. The quarterly dividend rate was $0.20 per share for each of the four quarters of 2003, 2002, and 2001.

 

CAPITAL STRUCTURE AND RESOURCES

 

Total debt was $7.4 billion at December 31, 2003 and $8.3 billion at December 31, 2002. Cash and cash equivalents were $661 million at December 31, 2003 and $544 million at December 31, 2002. The Company’s outstanding debt has interest rates ranging from 1.6% to 8.3% and matures at various dates through 2028. Total debt as a percentage of total capital was 44.7 percent and 48.3 percent at December 31, 2003 and 2002, respectively.

 

In 2003, the Company issued $425 million of long-term debt and used the proceeds to reduce the amounts outstanding under the Company’s lines of credit. Also in 2003, the Company issued $500 million of fixed rate long-term debt and $200 million of floating rate notes and used the proceeds to partially fund the repurchase of long-term debt with a par value of $924 million. The Company has on file a shelf registration with the Securities and Exchange Commission registering the issuance of up to $3.0 billion in debt securities, common or preferred stock, warrants to purchase any of the aforementioned securities, and/or stock purchase contracts, under which $1.3 billion remained outstanding at December 31, 2003.

 

In December 2003, the Company entered into various interest rate swaps that correspond to a portion of the Company’s fixed rate debt in order to effectively hedge interest rate risk. The $250 million notional value of the interest rate swaps effectively converted a portion of the Company’s total debt to variable rate debt.

 

In 2002, the Company issued $575 million of long-term debt to reduce the amounts outstanding under the Company’s lines of credit. Also in 2002, the Company repurchased debt with a par value of $96 million.

 

In 2001, the Company entered into various interest rate swaps that corresponded to a portion of the Company’s fixed rate debt in order to effectively hedge interest rate risk. In 2002, the Company closed out these interest rate swaps and received proceeds of $95 million which are being amortized over the remaining life of the debt as a reduction to interest expense. At December 31, 2003, the unamortized balance was $45 million. Also in 2001, the Company repurchased long-term debt with a par value of $1,375 million.

 

The Company’s most restrictive bank agreement covenant is an interest coverage ratio that currently requires earnings before interest, taxes, depreciation, and amortization (EBITDA), excluding certain charges, to be at least 2.5 times net interest expense for the prior four quarters. In July 2003, the covenant was amended to exclude pretax charges of $100 million related to RE&C and in October 2003, the covenant was further amended to exclude $226 million of pretax charges related to Network Centric Systems and Technical Services and $78 million of pretax charges related to RE&C. In July 2002, the covenant was amended to exclude charges of $450 million related to discontinued operations. In the third quarter of 2004, the interest coverage ratio will require EBITDA to be at least 3.0 times net interest expense for the prior four quarters. The Company was in compliance with the interest

 

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coverage ratio covenant, as amended, during 2003 and expects to continue to be in compliance throughout 2004.

 

Credit ratings for the Company were assigned by Fitch’s at F3 for short-term borrowing and BBB- for senior debt, by Moody’s at P-3 for short-term borrowing and Baa3 for senior debt, and by Standard and Poor’s at A-3 for short-term borrowing and BBB- for senior debt.

 

Lines of credit with certain commercial banks exist to provide short-term liquidity. The lines of credit bear interest based upon LIBOR and were $2.7 billion at December 31, 2003, consisting of $1.4 billion which matures in November 2004 and $1.3 billion which matures in 2006. The lines of credit were $2.85 billion at December 31, 2002. There were no borrowings under the lines of credit at December 31, 2003, however, the Company had approximately $300 million of outstanding letters of credit which effectively reduced the Company’s borrowing capacity under the lines of credit to $2.4 billion. There were no borrowings under the lines of credit at December 31, 2002.

 

Credit lines with banks are also maintained by certain foreign subsidiaries to provide them with a limited amount of short-term liquidity. These lines of credit were $99 million and $79 million at December 31, 2003 and 2002, respectively. There was $1 million outstanding under these lines of credit at December 31, 2003 and 2002.

 

In May 2001, the Company issued 17,250,000, 8.25% equity security units for $50 per unit totaling $837 million, net of offering costs of $26 million. The net proceeds of the offering were used to reduce debt and for general corporate purposes. Each equity security unit consists of a contract to purchase shares of the Company’s common stock on May 15, 2004, which will result in cash proceeds to the Company of $863 million, and a mandatorily redeemable equity security, with a stated liquidation amount of $50 due on May 15, 2006, which will require a cash payment by the Company of $863 million. The contract obligates the holder to purchase, for $50, shares of common stock equal to the settlement rate. The settlement rate is equal to $50 divided by the average market value of the Company’s common stock at that time. The settlement rate cannot be greater than 1.8182 or less than 1.4903 shares of common stock per purchase contract. The terms of the equity security units required that the mandatorily redeemable equity securities be remarketed. On February 11, 2004, the mandatorily redeemable equity securities were remarketed and the quarterly distribution rate was reset at 7%. The Company did not receive any proceeds from the remarketing. The proceeds were pledged to collateralize the holders’ obligations under the contract to purchase the Company’s common stock on May 15, 2004.

 

In May 2001, the Company issued 14,375,000 shares of common stock for $27.50 per share. In October 2001, the Company issued 31,578,900 shares of common stock for $33.25 per share. The proceeds of the offerings were $1,388 million, net of $56 million of offering costs, and were used to reduce debt and for general corporate purposes.

 

The Company’s need for, cost of, and access to funds are dependent on future operating results, as well as conditions external to the Company. Cash and cash equivalents, cash flow from operations, proceeds from divestitures, and other available financing resources are expected to be sufficient to meet anticipated operating, capital expenditure, and debt service requirements during the next twelve months and for the foreseeable future.

 

OFF BALANCE SHEET FINANCING ARRANGEMENTS

 

In 2003, the Company sold $337 million of general aviation finance receivables to a qualifying special purpose entity which in turn issued beneficial interests in these receivables to a commercial paper conduit, received proceeds of $279 million, retained a subordinated interest in and servicing rights to the receivables, and recognized a gain of $2 million. The sale was non-recourse to the Company, and effectively reduced the Company’s exposure to general aviation market risk for receivables by approximately 25 percent.

 

MAJOR AFFILIATED ENTITIES

 

In 2002, the Company formed a joint venture, Flight Options LLC (FO), whereby the Company contributed its Raytheon Travel Air fractional ownership business and loaned the new entity $20 million. In June 2003, the Company participated in a financial recapi-talization of FO. As a result of this recapitalization, the Company now owns approximately 66 percent of FO and is consolidating FO’s results in its financial statements. Prior to the financial recapitalization, 100 percent of FO’s $20 million of losses were recorded in other expense in the first six months of 2003 since the Company had been meeting all of FO’s financing requirements. The consolidation of FO did not have a significant effect on the Company’s financial position or results of operations, although the Company’s reported revenue, operating income, and other expense changed as a result of the consolidation of FO’s results. FO’s customers, in certain instances, have the contractual ability to require FO to buy back their fractional share based on its current fair market value. The estimated value of this potential obligation was approximately $575 million at December 31, 2003.

 

In 1995, through the acquisition of E-Systems, Inc., the Company invested in Space Imaging and currently has a 31 percent equity investment in Space Imaging LLC. In 2002, the Company recorded a $175 million charge to write-off the Company’s investment in Space Imaging and accrue for payment under the Company’s guarantee of a Space Imaging credit facility that matured in March 2003. In the first quarter of 2003, the Company paid $130 million related to the credit facility guarantee. In exchange for this payment, the Company received a note from Space Imaging for this amount that the Company has valued at zero.

 

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Investments, which are included in other assets, consisted of the following at December 31:

 

(In millions)


   2003
Ownership %


   2003

   2002

Equity method investments:

                  

Thales-Raytheon Systems Co. Ltd.

   50.0    $ 78    $ 59

HRL Laboratories, LLC

   33.3      30      29

Indra ATM S.L.

   49.0      12      12

TelASIC Communications

   23.5      7      2

Hughes Arabia Limited

   49.0      1      13

Raytheon Aerospace

   —        —        5

Other

   n/a      8      —  
    
  

  

            136      120

Other investments:

                  

Alliance Laundry Systems

          —        19

Other

          10      15
         

  

            10      34
         

  

Total

        $ 146    $ 154
         

  

 

In 2003, the Company sold the remaining interest in its former aviation support business (Raytheon Aerospace) for $97 million and recorded a gain of $82 million. The Company had sold a majority interest in Raytheon Aerospace in 2001 for $154 million in cash and retained $47 million in trade receivables and $66 million in preferred and common equity in the business. The $66 million represented a 26 percent ownership interest and was recorded at zero because the new entity was highly leveraged.

 

In 2003, the Company sold its investment in Alliance Laundry Systems for $15 million and recorded a loss of $4 million. The Company had sold its commercial laundry business unit to Alliance in 1998 for $315 million in cash and $19 million in securities.

 

In 2001, the Company formed a joint venture, Thales-Raytheon Systems (TRS), that has two major operating subsidiaries, one of which the Company controls and consolidates. TRS is a system of systems integrator and provides fully customized solutions through the integration of command and control centers, radars, and communication networks. HRL Laboratories is a scientific research facility whose staff engages in the areas of space and defense technologies. Indra develops flight data processors for air traffic control automation systems. TelASIC Communications delivers high performance, cost-effective radio frequency (RF), analog mixed signal, and digital solutions for both the commercial and defense electronics markets. Hughes Arabia Limited was formed in connection with the award of the Peace Shield program and offers certain tax advantages to the Company.

 

In addition, the Company has entered into joint ventures formed specifically to facilitate a teaming arrangement between two contractors for the benefit of the customer, generally the U.S. government, whereby the Company receives a subcontract from the joint venture in the joint venture’s capacity as prime contractor. Accordingly, the Company records the work it performs for the joint venture as operating activity.

 

COMMITMENTS AND CONTINGENCIES

 

Defense contractors are subject to many levels of audit and investigation. Agencies that oversee contract performance include: the Defense Contract Audit Agency, the Department of Defense Inspector General, the General Accounting Office, the Department of Justice, and Congressional Committees. The Department of Justice, from time to time, has convened grand juries to investigate possible irregularities by the Company. Except as noted in the following paragraphs, individually and in the aggregate, these investigations are not expected to have a material adverse effect on the Company’s financial position or results of operations.

 

In 2002, the Company received service of a grand jury subpoena issued by the United States District Court for the Central District of California. The subpoena seeks documents related to the activities of an international sales representative engaged by the Company related to a foreign military sales contract in Korea in the late 1990s. The Company has cooperated fully in the investigation including producing documents in response to the subpoena. The Company has in place appropriate compliance policies and procedures, and believes its conduct has been consistent with those policies and procedures.

 

The Company continues to cooperate with the staff of the Securities and Exchange Commission (SEC) on a formal investigation related to the Company’s accounting practices primarily related to the commuter aircraft business and the timing of revenue recognition at Raytheon Aircraft. The Company has been providing documents and information to the SEC staff. In addition, certain present and former officers and employees of the Company have provided testimony in connection with this investigation. The Company is unable to predict the outcome of the investigation or any action that the SEC might take.

 

In late 1999, the Company and two of its officers were named as defendants in several class action lawsuits which were consolidated into a single complaint in June 2000, when four additional former or present officers were named as defendants (the “Consolidated Complaint”). The Consolidated Complaint principally alleges that the defendants violated federal securities laws by making misleading statements and by failing to disclose material information concerning the Company’s financial performance during the purported class period. In March 2000, the court certified the class of plaintiffs as those people who purchased the Company’s stock between October 7, 1998 and October 12, 1999. In August 2001, the court issued an order dismissing most of the claims asserted against the Company and the individual defendants. In March 2003, the plaintiff filed an amendment to the Consolidated Complaint which sought to add the Company’s independent auditor as an additional defendant. In May 2003, the court issued an order dismissing one of the two claims that had been asserted against the Company’s independent auditor. In February 2004, the Company and the individual defendants filed a motion for summary judgment, which the plaintiff opposes. A hearing on the summary judgment motion is scheduled for April 2004. The Court has scheduled a trial to begin in May 2004. The Company’s independent auditor has also filed a motion for summary judgment which the plaintiff opposes.

 

In 1999 and 2000, the Company was named as a nominal defendant and all of its directors at the time (except one) were named as defendants in purported derivative lawsuits. The derivative

 

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complaints contain allegations similar to those included in the Consolidated Complaint and further allege that the defendants breached fiduciary duties to the Company and allegedly failed to exercise due care and diligence in the management and administration of the affairs of the Company. In December 2001, the Company and the individual defendants filed a motion to dismiss one of the derivative lawsuits. These actions have since been consolidated, and the plaintiffs have filed a consolidated amended complaint. In April 2003, the defendants filed a motion to dismiss the consolidated amended complaint.

 

In June 2001, a class action lawsuit was filed on behalf of all purchasers of common stock or senior notes of WGI during the class period of April 17, 2000 through March 1, 2001 (the “WGI Complaint”). The plaintiff class claims to have suffered harm by purchasing WGI securities because the Company and certain of its officers allegedly violated federal securities laws by misrepresenting the true financial condition of RE&C in order to sell RE&C to WGI at an artificially inflated price. An amended complaint was filed in October 2001 alleging similar claims. The Company and the individual defendants filed a motion seeking to dismiss the action in November 2001. In April 2002, the motion to dismiss was denied. The defendants have filed their answer to the amended complaint and discovery is proceeding. In April 2003, the District Court conditionally certified the class and defined the class period as that between April 17, 2000 and March 2, 2001, inclusive. The defendants have filed their answer to the amended complaint and discovery is proceeding.

 

In July 2001, the Company was named as a nominal defendant and all of its directors at the time have been named as defendants in two identical purported derivative lawsuits. These lawsuits were consolidated into one action (the “Consolidated Amended Derivative Complaint”) in January 2004 and contain allegations similar to those included in the WGI Complaint and further allege that the individual defendants breached fiduciary duties to the Company and failed to maintain systems necessary for prudent management and control of the Company’s operations. The defendants filed a motion to dismiss the Consolidated Amended Derivative Complaint in March 2004.

 

Also in July 2001, the Company was named as a nominal defendant and members of its Board of Directors and several current and former officers have been named as defendants in another purported shareholder derivative action, which contains allegations similar to those included in the WGI Complaint and further alleges that the individual defendants breached fiduciary duties to the Company and failed to maintain systems necessary for prudent management and control of the Company’s operations. In June 2002, the defendants filed a motion to dismiss the complaint. In September 2002, the plaintiff agreed to voluntarily dismiss this action without prejudice so that it can be re-filed in another jurisdiction.

 

In May 2003, two purported class action lawsuits were filed on behalf of participants in the Company’s savings and investment plans who invested in the Company’s stock between August 19, 1999 and May 27, 2003. The two class action complaints are brought pursuant to the Employee Retirement Income Security Act (ERISA). Both lawsuits are substantially similar and have been consolidated into a single action. The complaints allege that the Company and certain members of the Company’s Investment Committee breached ERISA fiduciary and co-fiduciary duties by allegedly failing to (1) disseminate necessary information regarding the savings and investment plans’ investment in the Company’s stock, (2) diversify the savings and investment plans’ assets away from the Company’s stock, (3) monitor investment alternatives to the Company’s stock, and (4) avoid conflicts of interest.

 

Although the Company believes that it and the other defendants have meritorious defenses to each and all of the aforementioned class action and derivative complaints and intends to contest each lawsuit vigorously, an adverse resolution of any of the lawsuits could have a material adverse effect on the Company’s financial position and results of operations. The Company is not presently able to reasonably estimate potential losses, if any, related to any of the lawsuits.

 

In addition, various claims and legal proceedings generally incidental to the normal course of business are pending or threatened against the Company. While the ultimate liability from these proceedings is presently indeterminable, any additional liability is not expected to have a material adverse effect on the Company’s financial position or results of operations.

 

The Company is involved in various stages of investigation and cleanup related to remediation of various environmental sites. The Company’s estimate of total environmental remediation costs expected to be incurred is $119 million. Discounted at 8.5 percent, the Company estimates the liability to be $72 million before U.S. government recovery and had this amount accrued at December 31, 2003. A portion of these costs are eligible for future recovery through the pricing of products and services to the U.S. government. The recovery of environmental cleanup costs from the U.S. government is considered probable based on the Company’s long history of receiving reimbursement for such costs. Accordingly, the Company has recorded $47 million at December 31, 2003 for the estimated future recovery of these costs from the U.S. government, which is included in contracts in process. The Company leases certain government-owned properties and is generally not liable for environmental remediation at these sites, therefore, no provision has been made in the financial statements for these costs. 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 the Company’s responsibility, it is difficult to determine the ultimate outcome of these matters, however, any additional liability is not expected to have a material adverse effect on the Company’s financial position or results of operations.

 

The Company issues guarantees and has banks and surety companies issue, on its behalf, letters of credit and surety bonds to meet various bid, performance, warranty, retention, and advance payment obligations. Approximately $1,316 million, $890 million,

 

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and $389 million of these guarantees, letters of credit, and surety bonds, for which there were stated values, were outstanding at December 31, 2003, respectively and $1,614 million, $1,227 million, and $458 million were outstanding at December 31, 2002, respectively. These instruments expire on various dates through 2007. At December 31, 2003, the amount of guarantees, letters of credit, and surety bonds, for which there were stated values, that remained outstanding was $90 million, $146 million, and $283 million, respectively, related to discontinued operations and are included in the numbers above. Additional guarantees of project performance for which there is no stated value also remain outstanding.

 

In 1997, the Company provided a first loss guarantee of $133 million on $1.3 billion of U.S. Export-Import Bank debt through 2015 related to the Brazilian government’s System for the Vigilance of the Amazon (SIVAM) program.

 

The following is a schedule of the Company’s contractual obligations outstanding (excluding working capital items) at December 31, 2003:

 

(In millions)


   Total

   Less than
1 Year


   1–3
years


   4–5
years


   After 5
years


Debt

   $ 6,564    $ 15    $ 1,208    $ 1,709    $ 3,632

Subordinated notes payable

     863      —        863      —        —  

Interest payments

     7,031      395      740      592      5,304

Operating leases

     1,477      294      507      349      327

IT outsourcing

     392      68      131      128      65

Equity security unit distributions

     156      65      91      —        —  

Pension contributions

     635      320      315      —        —  
    

  

  

  

  

Total

   $ 17,118    $ 1,157    $ 3,855    $ 2,778    $ 9,328
    

  

  

  

  

 

Interest payments include interest on debt that is redeemable at the option of the Company.

 

The Company currently estimates that pension plan cash contributions will be approximately $320 million in 2004 and $315 million in 2005. These estimates are based upon certain assumptions, outlined above in Critical Accounting Policies, and contemplate passage of the Pension Funding Equity Act, which will provide a certain amount of pension funding relief to the Company. The estimate for 2005 is subject to change and will not be known with certainty until the Company’s SFAS No. 87 assumptions are updated at the end of 2004. Estimates for 2006 and beyond have not been provided due to the significant uncertainty of these amounts, which are subject to change until the Company’s SFAS No. 87 assumptions can be updated at the appropriate times. In addition, pension contributions are eligible for future recovery through the pricing of products and services to the U.S. government, therefore, the amounts noted above are not necessarily indicative of the impact these contributions will have on the Company’s liquidity.

 

At December 31, 2003, RAC had unconditional purchase obligations of $29 million primarily related to component parts for the Horizon aircraft with varying purchase quantities for up to 200 aircraft. In addition, the Company’s defense businesses may enter into purchase commitments which can generally be recovered through the pricing of products and services to the U.S. government. These unconditional purchase obligations are not included in the table above.

 

ACCOUNTING STANDARDS

 

In January 2003, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 (FIN 46). FIN 46 addresses the consolidation of certain variable interest entities (VIEs) and may be applied prospectively with a cumulative effect adjustment or by restating previously issued financial statements with a cumulative effect adjustment as of the beginning of the first year restated. In December 2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 (FIN 46R). FIN 46R significantly narrowed the original scope of FIN 46 by excluding entities possessing certain characteristics, among other things. FIN 46R deferred the effective date of FIN 46 for interests held in VIEs created before February 1, 2003, except for special purpose entities as defined by FIN 46R, until the end of the first interim period ending after March 15, 2004. The adoption of FIN 46R is not expected to have a material effect on the Company’s financial position or results of operations.

 

In December 2003, the FASB issued Statement of Financial Accounting Standards No. 132 (revised 2003), Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88, and 106. Information about foreign plans is required by this accounting standard for fiscal years ending after June 15, 2004, including additional disclosures about assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans.

 

 

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

 

The Company’s primary market exposures are to interest rates and foreign exchange rates.

 

The Company meets its working capital requirements with a combination of variable rate short-term and fixed rate long-term financing. The Company enters into interest rate swap agreements with commercial and investment banks primarily to manage interest rates associated with the Company’s financing arrangements. The Company also enters into foreign currency forward contracts with commercial banks only to fix the dollar value of specific commitments and payments to international vendors and the value of foreign currency denominated receipts. The market-risk sensitive instruments used by the Company for hedging are entered into with commercial and investment banks and are directly related to a particular asset, liability, or transaction for which a firm commitment is in place. The Company has used a special purpose entity to sell aircraft receivables and retains a partial interest that includes servicing rights, interest only strips, and subordinated certificates.

 

Financial instruments held by the Company which are subject to interest rate risk include notes payable, long-term debt, long-term receivables, investments, and interest rate swap agreements. The aggregate hypothetical loss in earnings for one year of those financial instruments held by the Company at December 31, 2003 and 2002, which are subject to interest rate risk resulting from a hypothetical increase in interest rates of 10 percent, was less than $1 million after-tax for both years. Fixed rate financial instruments were not evaluated, as the risk exposure is not material.

 

 

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Item 8. Financial Statements and Supplementary Data

 

CONSOLIDATED BALANCE SHEETS

 

     December 31:

 

(In millions except share amounts)


   2003

    2002

 

Assets

                

Current assets

                

Cash and cash equivalents

   $ 661     $ 544  

Accounts receivable, less allowance for doubtful accounts of $35 in 2003 and $73 in 2002

     485       675  

Contracts in process

     2,762       3,016  

Inventories

     1,998       2,032  

Deferred federal and foreign income taxes

     466       601  

Prepaid expenses and other current assets

     154       247  

Assets from discontinued operations

     59       75  
    


 


Total current assets

     6,585       7,190  

Property, plant, and equipment, net

     2,711       2,396  

Deferred federal and foreign income taxes

     337       281  

Prepaid retiree benefits

     703       676  

Goodwill

     11,479       11,170  

Other assets, net

     1,853       2,233  
    


 


Total assets

   $ 23,668     $ 23,946  
    


 


Liabilities and Stockholders’ Equity

                

Current liabilities

                

Notes payable and current portion of long-term debt

   $ 15     $ 1,153  

Advance payments, less contracts in process of $1,071 in 2003 and $1,688 in 2002

     1,038       819  

Accounts payable

     833       776  

Accrued salaries and wages

     767       710  

Other accrued expenses

     1,153       1,316  

Liabilities from discontinued operations

     43       333  
    


 


Total current liabilities

     3,849       5,107  

Accrued retiree benefits and other long-term liabilities

     3,281       2,831  

Long-term debt

     6,517       6,280  

Subordinated notes payable

     859       858  

Commitments and contingencies (note M)

                

Stockholders’ equity

                

Preferred stock, par value $0.01 per share, 200,000,000 shares authorized, none outstanding in 2003 and 2002

                

Common stock, par value $0.01 per share, 1,450,000,000 shares authorized, 418,136,000 and 408,209,000 shares outstanding in 2003 and 2002, respectively, after deducting 168,000 and 97,000 treasury shares in 2003 and 2002, respectively

     4       4  

Additional paid-in capital

     8,421       8,146  

Accumulated other comprehensive income

     (2,194 )     (2,180 )

Treasury stock, at cost

     (6 )     (4 )

Retained earnings

     2,937       2,904  
    


 


Total stockholders’ equity

     9,162       8,870  
    


 


Total liabilities and stockholders’ equity

   $ 23,668     $ 23,946  
    


 


 

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

 

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CONSOLIDATED STATEMENTS OF OPERATIONS

 

     Years Ended December 31:

 

(In millions except per share amounts)


   2003

    2002

    2001

 

Net sales

   $ 18,109     $ 16,760     $ 16,017  
    


 


 


Cost of sales

     15,000       13,358       13,664  

Administrative and selling expenses

     1,306       1,170       1,131  

Research and development expenses

     487       449       456  
    


 


 


Total operating expenses

     16,793       14,977       15,251  
    


 


 


Operating income

     1,316       1,783       766  
    


 


 


Interest expense

     537       497       696  

Interest income

     (50 )     (27 )     (36 )

Other expense, net

     67       237       6  
    


 


 


Non-operating expense, net

     554       707       666  
    


 


 


Income from continuing operations before taxes

     762       1,076       100  

Federal and foreign income taxes

     227       320       98  
    


 


 


Income from continuing operations

     535       756       2  

Loss from discontinued operations, net of tax

     (170 )     (887 )     (757 )
    


 


 


Income (loss) before accounting change

     365       (131 )     (755 )

Cumulative effect of change in accounting principle, net of tax

     —         (509 )     —    
    


 


 


Net income (loss)

   $ 365     $ (640 )   $ (755 )
    


 


 


Earnings per share from continuing operations

                        

Basic

   $ 1.30     $ 1.88     $ 0.01  

Diluted

     1.29       1.85       0.01  
    


 


 


Earnings (loss) per share

                        

Basic

   $ 0.88     $ (1.59 )   $ (2.12 )

Diluted

     0.88       (1.57 )     (2.09 )
    


 


 


 

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

 

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CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

 

Years Ended

December 31, 2003, 2002, and 2001

(In millions except per share amounts)


   Common
Stock


   Additional
Paid-in
Capital


   

Accumulated

Other Compre-

hensive Income


    Treasury
Stock


    Retained
Earnings


    Total
Stockholders’
Equity


 

Balance at December 31, 2000

   $ 3    $ 6,477     $ (106 )   $ (382 )   $ 4,914     $ 10,906  
                                           


Net loss

                                    (755 )     (755 )

Other comprehensive income

                                               

Minimum pension liability

                    (100 )                     (100 )

Foreign exchange translation

                    (4 )                     (4 )

Unrealized losses on interest-only strips

                    (2 )                     (2 )
                                           


Comprehensive income

                                            (861 )
                                           


Dividends declared–$0.80 per share

                                    (292 )     (292 )

Issuance of common stock

     1      1,369                               1,370  

Common stock plan activity

            36                               36  

Trust preferred security distributions

            (6 )                             (6 )

Treasury stock activity

            (153 )             381               228  
    

  


 


 


 


 


Balance at December 31, 2001

     4      7,723       (212 )     (1 )     3,867       11,381  
                                           


Net loss

                                    (640 )     (640 )

Other comprehensive income

                                               

Minimum pension liability

                    (2,002 )                     (2,002 )

Interest rate lock

                    (2 )                     (2 )

Foreign exchange translation

                    31                       31  

Cash flow hedges

                    5                       5  
                                           


Comprehensive income

                                            (2,608 )
                                           


Dividends declared–$0.80 per share

                                    (323 )     (323 )

Issuance of common stock

            328                               328  

Common stock plan activity

            106                               106  

Trust preferred security distributions

            (11 )                             (11 )

Treasury stock activity

                            (3 )             (3 )
    

  


 


 


 


 


Balance at December 31, 2002

     4      8,146       (2,180 )     (4 )     2,904       8,870  
                                           


Net income

                                    365       365  

Other comprehensive income

                                               

Minimum pension liability

                    (118 )                     (118 )

Foreign exchange translation

                    82                       82  

Cash flow hedges

                    19                       19  

Unrealized gains on residual interest securities

                    2                       2  

Interest rate lock

                    1                       1  
                                           


Comprehensive income

                                            351  
                                           


Dividends declared–$0.80 per share

                                    (332 )     (332 )

Issuance of common stock

            264                               264  

Common stock plan activity

            22                               22  

Trust preferred security distributions

            (11 )                             (11 )

Treasury stock activity

                            (2 )             (2 )
    

  


 


 


 


 


Balance at December 31, 2003

   $ 4    $ 8,421     $ (2,194 )   $ (6 )   $ 2,937     $ 9,162  
    

  


 


 


 


 


 

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

 

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CONSOLIDATED STATEMENTS OF CASH FLOWS

 

     Years Ended December 31:

 

(In millions)


   2003

    2002

    2001

 

Cash flows from operating activities

                        

Income from continuing operations

   $ 535     $ 756     $ 2  

Adjustments to reconcile income from continuing operations to net cash provided by operating activities from continuing operations, net of the effect of acquisitions and divestitures

                        

Depreciation and amortization

     393       364       677  

Deferred federal and foreign income taxes

     94       264       7  

Net gain on sales of operating units and investments

     (82 )     (4 )     (74 )

Savings and investment plan activity

     190       181       193  

Decrease (increase) in accounts receivable

     193       (20 )     (20 )

Decrease in contracts in process

     285       152       528  

Decrease (increase) in inventories

     110       10       (288 )

Decrease (increase) in prepaid expenses and other current assets

     78       124       (74 )

Increase (decrease) in advance payments

     136       (52 )     (268 )

Increase (decrease) in accounts payable

     26       (105 )     (109 )

Increase in accrued salaries and wages

     60       137       57  

(Decrease) increase in other accrued expenses

     (163 )     223       251  

Other adjustments, net

     247       205       (131 )
    


 


 


Net cash provided by operating activities from continuing operations

     2,102       2,235       751  

Net cash used in operating activities from discontinued operations

     (533 )     (1,196 )     (596 )
    


 


 


Net cash provided by operating activities

     1,569       1,039       155  
    


 


 


Cash flows from investing activities

                        

Origination of financing receivables

     (402 )     (431 )     (663 )

Sale of financing receivables

     279       263       696  

Repurchase of financing receivables

     —         (347 )     (329 )

Collection of financing receivables not sold

     588       156       121  

Buy-out of off balance sheet receivables facility

     —         (1,029 )     —    

Expenditures for property, plant, and equipment

     (428 )     (458 )     (461 )

Synthetic lease maturity payment

     (125 )     —         —    

Proceeds from sales of property, plant, and equipment

     25       11       9  

Capitalized expenditures for internal use software

     (98 )     (138 )     (149 )

Increase in other assets

     (3 )     (36 )     (6 )

Space Imaging debt guarantee payment

     (130 )     —         —    

Proceeds from sales of operating units and investments

     111       1,166       266  

Payment for purchases of acquired companies, net of cash received

     (60 )     (10 )     —    

Hughes Defense settlement

     —         134       500  
    


 


 


Net cash used in investing activities from continuing operations

     (243 )     (719 )     (16 )

Net cash used in investing activities from discontinued operations

     —         —         (31 )
    


 


 


Net cash used in investing activities

     (243 )     (719 )     (47 )
    


 


 


Cash flows from financing activities

                        

Dividends

     (331 )     (321 )     (281 )

(Decrease) increase in short-term debt and other notes

     —         (163 )     140  

Issuance of long-term debt, net of offering costs

     1,113       566       —    

Repayments of long-term debt

     (2,078 )     (1,294 )     (1,910 )

Issuance of equity security units

     —         —         837  

Issuance of common stock

     74       147       1,426  

Proceeds under common stock plans

     13       75       25  
    


 


 


Net cash (used in) provided by financing activities from continuing operations

     (1,209 )     (990 )     237  
    


 


 


Net cash used in financing activities from discontinued operations

     —         —         (2 )
    


 


 


Net cash (used in) provided by financing activities

     (1,209 )     (990 )     235  

Net increase (decrease) in cash and cash equivalents

     117       (670 )     343  

Cash and cash equivalents at beginning of year

     544       1,214       871  
    


 


 


Cash and cash equivalents at end of year

   $ 661     $ 544     $ 1,214  
    


 


 


 

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

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

NOTE A: ACCOUNTING POLICIES

 

PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of Raytheon Company (the “Company”) and all wholly-owned and majority-owned domestic and foreign subsidiaries (except for RC Trust I, as described in Note J, Equity Security Units). All material intercompany transactions have been eliminated. Certain prior year amounts have been reclassified to conform with the current year presentation.

 

REVENUE RECOGNITION Sales under long-term government contracts are recorded under the percentage of completion method. Incurred costs and estimated gross margins are recorded as sales as work is performed based on the percentage that incurred costs bear to estimated total costs utilizing the Company’s estimates of costs and contract value. Cost estimates include direct and indirect costs such as labor, materials, warranty, and overhead. Some contracts contain incentive provisions based upon performance in relation to established targets, which are included at estimated realizable value. Contract change orders and claims are included when they can be reliably estimated and realization is probable. Since many contracts extend over a long period of time, revisions in cost and contract value estimates during the progress of work have the effect of adjusting earnings applicable to performance in prior periods in the current period. When the current contract estimate indicates a loss, provision is made for the total anticipated loss in the current period.

 

Revenue from aircraft sales are recognized at the time of physical delivery of the aircraft. Revenue from certain qualifying non-cancelable aircraft lease contracts are accounted for as sales-type leases. The present value of all payments, net of executory costs, are recorded as revenue, and the related costs of the aircraft are charged to cost of sales. Associated interest, using the interest method, is recorded over the term of the lease agreements. All other leases for aircraft are accounted for under the operating method wherein revenue is recorded as earned over the rental period. Service revenue is recognized ratably over contractual periods or as services are performed.

 

PRODUCT WARRANTY Costs incurred under warranty provisions performed under long-term contracts are accounted for as contract costs as the work is performed. The estimation of these costs is an integral part of the determination of the pricing of the Company’s products and services.

 

Warranty provisions related to aircraft sales are determined based upon an estimate of costs that may be incurred under warranty and other post-sales support programs. Activity related to aircraft warranty provisions was as follows:

 

(In millions)


      

Balance at December 31, 2001

   $ 19  

Accruals for aircraft deliveries in 2002

     25  

Accruals related to prior year aircraft deliveries

     10  

Warranty services provided in 2002

     (27 )
    


Balance at December 31, 2002

     27  

Accruals for aircraft deliveries in 2003

     27  

Accruals related to prior year aircraft deliveries

     8  

Warranty services provided in 2003

     (23 )
    


Balance at December 31, 2003

   $ 39  
    


 

LOT ACCOUNTING The Company uses lot accounting for new commercial aircraft introductions at Raytheon Aircraft. Lot accounting involves selecting an initial lot size at the time a new aircraft begins to be delivered and measuring an average cost over the entire lot for each aircraft sold. The costs attributed to aircraft delivered are based on the estimated average cost of all aircraft in the lot and are determined under the learning curve concept, which anticipates a predictable decrease in unit costs from cost reduction initiatives and as tasks and production techniques become more efficient through repetition. Costs incurred on in-process and delivered aircraft in excess of the estimated average cost were included in inventories and totaled $84 million and $110 million at December 31, 2003 and 2002, respectively. Once production costs stabilize, which is expected by the time the initial lot has been completed, the use of lot accounting is discontinued. The Company determines lot size based on several factors, including the size of firm backlog, the expected annual production on the aircraft, and experience on similar new aircraft. The size of the initial lot for the Beechcraft Premier I, the only aircraft for which the Company is currently utilizing lot accounting for, is 200 units.

 

RESEARCH AND DEVELOPMENT EXPENSES Expenditures for company-sponsored research and development projects are expensed as incurred. Customer-sponsored research and development projects performed under contracts are accounted for as contract costs as the work is performed.

 

FEDERAL AND FOREIGN INCOME TAXES The Company and its domestic subsidiaries provide for federal income taxes on pretax accounting income at rates in effect under existing tax law. Foreign subsidiaries have recorded provisions for income taxes at applicable foreign tax rates in a similar manner.

 

CASH AND CASH EQUIVALENTS Cash and cash equivalents consist of cash and short-term, highly liquid investments with original maturities of 90 days or less.

 

ALLOWANCE FOR DOUBTFUL ACCOUNTS The Company maintains an allowance for doubtful accounts to provide for the estimated amount of accounts receivable that will not be collected. The allowance is based upon an assessment of customer credit-

 

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worthiness, historical payment experience, the age of outstanding receivables, and collateral to the extent applicable. Activity related to the allowance for doubtful accounts was as follows:

 

(In millions)


      

Balance at December 31, 2000

   $  132  

Provisions

     2  

Utilizations

     (21 )
    


Balance at December 31, 2001

     113  

Provisions

     2  

Utilizations

     (42 )
    


Balance at December 31, 2002

     73  

Provisions

     1  

Utilizations

     (39 )
    


Balance at December 31, 2003

   $ 35  
    


 

PREPAID EXPENSES AND OTHER CURRENT ASSETS Included in prepaid expenses and other current assets at December 31, 2002 was $56 million of cash received in 2002 that was restricted for payment in connection with the Company’s merger with the defense business of Hughes Electronics Corporation in December 1997. Also included at December 31, 2002 was $48 million of restricted cash from the sale of the Company’s corporate headquarters. This cash was used to fund the construction of the Company’s new corporate headquarters and the acquisition of three other properties. In June 2003, the restrictions related to the use of this cash expired, therefore, the remaining $10 million that had not yet been spent was reflected in the statement of cash flows as proceeds from sales of property, plant, and equipment in 2003.

 

CONTRACTS IN PROCESS Contracts in process are stated at cost plus estimated profit but not in excess of realizable value.

 

INVENTORIES Inventories are stated at cost (principally first-in, first-out or average cost), but not in excess of realizable value. A provision for excess or inactive inventory is recorded based upon an analysis that considers current inventory levels, historical usage patterns, and future sales expectations.

 

PROPERTY, PLANT, AND EQUIPMENT Property, plant, and equipment are stated at cost. Major improvements are capitalized while expenditures for maintenance, repairs, and minor improvements are charged to expense. When assets are retired or otherwise disposed of, the assets and related accumulated depreciation and amortization are eliminated from the accounts and any resulting gain or loss is reflected in income. Gains and losses resulting from the sale of property, plant, and equipment at the defense businesses are included in overhead and reflected in the pricing of products and services to the U.S. government.

 

Provisions for depreciation are generally computed using a combination of accelerated and straight-line methods. Depreciation provisions are based on estimated useful lives as follows: buildings – 20 to 45 years, machinery and equipment – 3 to 10 years, and equipment leased to others – 5 to 10 years. Leasehold improvements are amortized over the lesser of the remaining life of the lease or the estimated useful life of the improvement.

 

IMPAIRMENT OF LONG-LIVED ASSETS Effective January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (SFAS No. 142). This accounting standard addresses financial accounting and reporting for goodwill and other intangible assets and requires that goodwill amortization be discontinued and replaced with periodic tests of impairment. A two-step impairment test is used to first identify potential goodwill impairment and then measure the amount of goodwill impairment loss, if any.

 

In 2002, the Company recorded a goodwill impairment charge of $360 million related to its former Aircraft Integration Systems business (AIS) as a cumulative effect of change in accounting principle. The fair value of AIS was determined based upon the proceeds received by the Company in connection with the sale, as described in Note B, Discontinued Operations. Due to the non-deductibility of this goodwill, the Company did not record a tax benefit in connection with this impairment. Also in 2002, the Company completed the transitional review for potential goodwill impairment in accordance with SFAS No. 142 and recorded a goodwill impairment charge of $185 million pretax or $149 million after-tax, which represented all of the goodwill at Raytheon Aircraft, as a cumulative effect of change in accounting principle. The fair value of Raytheon Aircraft was determined using a discounted cash flow approach. The total goodwill impairment charge in 2002 was $545 million pretax, $509 million after-tax, or $1.25 per diluted share. The Company performs the annual impairment test in the fourth quarter of each year. There was no goodwill impairment associated with the annual impairment test performed in the fourth quarter of 2003 and 2002.

 

The amount of goodwill by segment at December 31, 2003 was $751 million for Integrated Defense Systems, $1,349 million for Intelligence and Information Systems, $3,438 million for Missile Systems, $2,306 million for Network Centric Systems, $2,639 million for Space and Airborne Systems, $868 million for Technical Services, and $128 million for Other. Information about additions to goodwill in 2003 is included in Note C, Acquisitions and Divestitures and Note H, Other Assets.

 

In accordance with SFAS No. 142, goodwill amortization was discontinued as of January 1, 2002. The following adjusts reported income from continuing operations and basic and diluted earnings

 

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per share (EPS) from continuing operations to exclude goodwill amortization:

 

(In millions except per share amounts)


   2001

Reported income from continuing operations

   $ 2

Goodwill amortization, net of tax

     305
    

Adjusted income from continuing operations

   $ 307
    

Reported basic EPS from continuing operations

   $ 0.01

Goodwill amortization, net of tax

     0.86
    

Adjusted basic EPS from continuing operations

   $ 0.87
    

Reported diluted EPS from continuing operations

   $ 0.01

Goodwill amortization, net of tax

     0.84
    

Adjusted diluted EPS from continuing operations

   $ 0.85
    

 

The following adjusts reported net loss and basic and diluted loss per share to exclude goodwill amortization:

 

(In millions except per share amounts)


   2001

 

Reported net loss

   $ (755 )

Goodwill amortization, net of tax

     333  
    


Adjusted net loss

   $ (422 )
    


Reported basic loss per share

   $ (2.12 )

Goodwill amortization, net of tax

     0.94  
    


Adjusted basic loss per share

   $ (1.18 )
    


Reported diluted loss per share

   $ (2.09 )

Goodwill amortization, net of tax

     0.92  
    


Adjusted diluted loss per share

   $ (1.17 )
    


 

Intangible assets subject to amortization consisted primarily of drawings and intellectual property totaling $59 million (net of $38 million of accumulated amortization) at December 31, 2003 and $27 million (net of $30 million of accumulated amortization) at December 31, 2002. Amortization expense is expected to approximate $11 million for each of the next five years.

 

In 2002, the Company adopted Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. Accordingly, upon indication of possible impairment, the Company evaluates the recoverability of held-for-use long-lived assets by measuring the carrying amount of the assets against the related estimated undiscounted future cash flows. When an evaluation indicates that the future undiscounted cash flows are not sufficient to recover the carrying value of the asset, the asset is adjusted to its estimated fair value. In order for long-lived assets to be considered held-for-disposal, the Company must have committed to a plan to dispose of the assets.

 

During the first half of 2001, the Company experienced a significant decrease in the volume of used commuter aircraft sales. An evaluation of commuter aircraft market conditions and the events of September 11, 2001 indicated the market weakness would continue into the foreseeable future. As a result, the Company completed an analysis of the estimated fair value of the various models of commuter aircraft and reduced the book value of commuter aircraft inventory and equipment leased to others accordingly. In addition, the Company adjusted the book value of notes receivable and established a reserve for off balance sheet receivables based on the Company’s estimate of exposures on customer financed assets due to defaults, refinancing, and remarketing of these aircraft. As a result of these analyses, the Company recorded a charge of $693 million in the third quarter of 2001 which consisted of a reduction in inventory of $158 million, a reduction of equipment leased to others of $174 million, a reserve for notes receivable of $16 million, and a reserve for off balance sheet receivables of $345 million. The balance of this reserve was $361 million at December 31, 2001. In 2002, the Company utilized $121 million of this reserve, leaving a balance of $240 million at the time the Company bought back the remaining off balance sheet receivables, as described in Note H, Other Assets.

 

The Company also recorded a $52 million charge in the third quarter of 2001 related to a fleet of Starship aircraft. During the first three quarters of 2001, the Company had not sold any of these aircraft and recorded a charge to reduce the value of the aircraft to their estimated fair value. The charge consisted of a reduction in the value of aircraft in inventory of $31 million, a reduction in the value of equipment leased to others of $14 million, and a reserve of $7 million related to the Company’s estimate of exposures on customer financed assets due to defaults, refinancing, and remarketing of these aircraft.

 

In connection with the buyback of the off balance sheet receivables, the Company recorded the long-term receivables at estimated fair value, which included an assessment of the value of the underlying aircraft. As a result of this assessment, the Company adjusted the value of certain underlying aircraft, including both commuter and Starship aircraft, some of which were written down to scrap value. There was no net income statement impact as a result of this activity.

 

COMPUTER SOFTWARE Internal use computer software is stated at cost less accumulated amortization and is amortized using the straight-line method over its estimated useful life, generally 10 years.

 

INVESTMENTS Investments, which are included in other assets, include equity ownership of 20 percent to 50 percent in unconsolidated affiliates and of less than 20 percent in other companies. Investments in unconsolidated affiliates are accounted for under the equity method. Investments in other companies with readily determinable market prices are stated at estimated fair value with

 

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unrealized gains and losses included in other comprehensive income. Other investments are stated at cost.

 

COMPREHENSIVE INCOME Comprehensive income and its components are presented in the statement of stockholders’ equity.

 

Accumulated other comprehensive income consisted of the following at December 31:

 

(In millions)


   2003

    2002

 

Minimum pension liability

   $ (2,240 )   $ (2,122 )

Unrealized losses on interest-only strips

     (2 )     (2 )

Interest rate lock

     (1 )     (2 )

Foreign exchange translation

     24       (58 )

Cash flow hedges

     24       5  

Unrealized gains (losses) on investments

     1       (1 )
    


 


Total

   $ (2,194 )   $ (2,180 )
    


 


 

The minimum pension liability adjustment is shown net of tax benefits of $1,195 million and $1,132 million at December 31, 2003 and 2002, respectively. The unrealized losses on interest-only strips are shown net of tax benefits of $1 million at December 31, 2003 and 2002. The interest rate lock is shown net of tax benefits of $1 million at December 31, 2003 and 2002. The cash flow hedges are shown net of tax liabilities of $13 million and $3 million at December 31, 2003 and 2002, respectively.

 

TRANSLATION OF FOREIGN CURRENCIES Assets and liabilities of foreign subsidiaries are translated at current exchange rates and the effects of these translation adjustments are reported as a component of accumulated other comprehensive income in stockholders’ equity. Deferred taxes are not recognized for translation-related temporary differences of foreign subsidiaries as their undistributed earnings are considered to be permanently invested. Income and expenses in foreign currencies are translated at the weighted-average exchange rate during the period. Foreign exchange transaction gains and losses in 2003, 2002, and 2001 were not material.

 

PENSION COSTS The Company has several pension and retirement plans covering the majority of employees, including certain employees in foreign countries. Annual charges to income are made for the cost of the plans, including current service costs, interest on projected benefit obligations, and net amortization and deferrals, increased or reduced by the return on assets. Unfunded accumulated benefit obligations are accounted for as a long-term liability. The Company funds annually those pension costs which are calculated in accordance with Internal Revenue Service regulations and standards issued by the Cost Accounting Standards Board.

 

INTEREST RATE AND FOREIGN CURRENCY CONTRACTS The Company meets its working capital requirements with a combination of variable rate short-term and fixed rate long-term financing. The Company enters into interest rate swap agreements or interest rate locks with commercial and investment banks primarily to manage interest rates associated with the Company’s financing arrangements. The Company also enters into foreign currency forward contracts with commercial banks only to fix the dollar value of specific commitments and payments to international vendors and the value of foreign currency denominated receipts. The hedges used by the Company are transaction driven and are directly related to a particular asset, liability, or transaction for which a commitment is in place. These instruments are executed with credit-worthy institutions and the majority of the foreign currencies are denominated in currencies of major industrial countries. The Company does not hold or issue financial instruments for trading or speculative purposes.

 

FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair value of certain financial instruments, including cash, cash equivalents, and short-term debt approximates the carrying value due to their short maturities and varying interest rates. The estimated fair value of notes receivable approximates the carrying value based principally on the underlying interest rates and terms, maturities, collateral, and credit status of the receivables. The estimated fair value of investments, other than those accounted for under the cost or equity method, are based on quoted market prices. The estimated fair value of long-term debt of approximately $7.0 billion at December 31, 2003 was based on quoted market prices.

 

Estimated fair values for financial instruments are based on pricing models using current market information. The amounts realized upon settlement of these financial instruments will depend on actual market conditions during the remaining life of the instruments.

 

EMPLOYEE STOCK PLANS Proceeds from the exercise of stock options under employee stock plans are credited to common stock at par value and the excess is credited to additional paid-in capital. The fair value at the date of award of restricted stock is credited to common stock at par value and the excess is credited to additional paid-in capital. The fair value is charged to income as compensation expense over the vesting period. Income tax benefits arising from employees’ premature disposition of stock option shares and exercise of nonqualified stock options are credited to additional paid-in capital.

 

The Company applies Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations, in accounting for its stock-based compensation

 

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plans. Accordingly, no compensation expense has been recognized for its stock-based compensation plans other than for restricted stock.

 

Had compensation expense for the Company’s stock option plans been determined based on the fair value at the grant date for awards under these plans, consistent with the methodology prescribed under Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation, the Company’s net income and earnings per share would have approximated the pro forma amounts indicated below:

 

(In millions except per share amounts)


   2003

    2002

    2001

 

Reported net income (loss)

   $ 365     $ (640 )   $ (755 )

Stock-based compensation expense included in reported net income (loss), net of tax

     5       4       8  

Compensation expense determined under the fair value method for all stock-based awards, net of tax

     (73 )     (63 )     (57 )
    


 


 


Pro forma net income (loss)

   $ 297     $ (699 )   $ (804 )
    


 


 


Reported basic earnings (loss) per share

   $ 0.88     $ (1.59 )   $ (2.12 )

Reported diluted earnings (loss) per share

     0.88       (1.57 )     (2.09 )
    


 


 


Pro forma basic earnings (loss) per share

   $ 0.72     $ (1.74 )   $ (2.25 )

Pro forma diluted earnings (loss) per share

     0.72       (1.71 )     (2.23 )
    


 


 


 

The weighted-average fair value of each stock option granted in 2003, 2002, and 2001 was estimated as $8.57, $13.46, and $9.25, respectively, on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:

 

     2003

    2002

    2001

 

Expected life

   4 years     4 years     4 years  

Assumed annual dividend growth rate

   —       —       1 %

Expected volatility

   40 %   40 %   40 %

Assumed annual forfeiture rate

   8 %   12 %   12 %
    

 

 

 

The risk free interest rate (month-end yields on 4-year treasury strips equivalent zero coupon) ranged from 2.0% to 3.0% in 2003, 2.5% to 4.7% in 2002, and 3.7% to 5.0% in 2001.

 

ACCOUNTING STANDARDS In January 2003, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 (FIN 46). FIN 46 addresses the consolidation of certain variable interest entities (VIEs) and may be applied prospectively with a cumulative effect adjustment or by restating previously issued financial statements with a cumulative effect adjustment as of the beginning of the first year restated. In December 2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 (FIN 46R). FIN 46R significantly narrowed the original scope of FIN 46 by excluding entities possessing certain characteristics, among other things. FIN 46R deferred the effective date of FIN 46 for interests held in VIEs created before February 1, 2003, except for special purpose entities as defined by FIN 46R, until the end of the first interim period ending after March 15, 2004. The adoption of FIN 46R is not expected to have a material effect on the Company’s financial position or results of operations.

 

In December 2003, the FASB issued Statement of Financial Accounting Standards No. 132 (revised 2003), Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88, and 106. Information about foreign plans is required by this accounting standards for fiscal years ending after June 15, 2004, including additional disclosures about assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans.

 

RISKS AND UNCERTAINTIES The Company is engaged in supplying defense-related equipment to the U.S. and foreign governments, and is subject to certain business risks specific to that industry. Sales to the government may be affected by changes in procurement policies, budget considerations, changing concepts of national defense, political developments abroad, and other factors.

 

The highly competitive market for business and special mission aircraft is also subject to certain business risks. These risks include timely development and certification of new product offerings, the current state of the general aviation and commuter aircraft markets, and government regulations affecting commuter aircraft.

 

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

 

NOTE B: DISCONTINUED OPERATIONS

 

In 2000, the Company sold its Raytheon Engineers & Constructors businesses (RE&C) to Washington Group International, Inc. (WGI). In May 2001, WGI filed for bankruptcy protection. As a result of the sale and the WGI bankruptcy, the Company was required to perform various contract and lease obligations in connection with a number of different projects under letters of credit, surety bonds, and guarantees (Support Agreements) that it had provided to project owners and other parties.

 

Among the projects involved were two construction projects, the Mystic Station facility in Everett and the Fore River facility in Weymouth (the “Massachusetts Projects”). Following WGI’s abandonment of these projects in 2001, the Company undertook construction efforts on these projects, subsequently delivered care, custody, and control of these projects to their owners, and, as of December 31, 2003, was continuing to perform work on these projects. On February 23, 2004, the Company closed on a settlement agreement with the project owners and other interested parties. The settlement included, among other things, a payment to the

 

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Company of approximately $30 million, the return to the Company of approximately $73 million in letters of credit the Company had provided to the project owners, and a release of various claims related to these projects. In addition, under the settlement, the Company remained responsible for all subcontractor and vendor claims prior to the settlement and the project owners assumed responsibility for all post-settlement obligations, including completing the construction of the projects, and all punch list and warranty obligations. The Company believes that the obligations retained on these projects are not material.

 

The Company recorded charges of $176 million in 2003, $796 million in 2002, and $814 million in 2001 related to the Massachusetts projects. The charges resulted from delays, labor and material cost growth, productivity issues, equipment and subcontractor performance, schedule liquidated damages, inaccurate estimates of field engineered materials, and disputed changes.

 

In addition to the Massachusetts Projects, the Company has or had obligations under Support Agreements on a number of other projects. In several cases, the Company has entered into settlement agreements that resolve the Company’s obligations under the related Support Agreements. In connection with a number of other projects on which the Company has obligations under Support Agreements, the Company is continuing to undertake the final stages of work, which includes warranty obligations, commercial closeout, and claims resolution. In 2003, the Company recorded charges of $6 million primarily related to the settlement of warranty claims on one of these projects. In 2002 and 2001, the Company recorded charges of $53 million and $210 million, respectively, for various issues in connection with these projects, including but not limited to, punch list items, start-up costs, reliability testing, and turbine-related delays. Finally, there are projects with Support Agreements provided by the Company on which WGI is continuing to perform work, which could present risk to the Company if WGI fails to meet its obligations in connection with those projects.

 

In performing its obligations under the remaining Support Agreements, the Company has various risks and exposures, including delays, equipment and subcontractor performance, warranty closeout, various liquidated damages issues, collection of amounts due under contracts, and potential adverse claims resolution under various contracts and leases. In addition, the Company’s cost estimates for these obligations are heavily dependent upon third parties, including WGI, and their ability to perform construction management, cost estimating, and other tasks requiring industry expertise that the Company no longer possesses.

 

In 2003, the Company recorded charges of $49 million for legal, management, and other costs related to RE&C versus $38 million in 2002 and $30 million in 2001. In 2002 and 2001, the Company allocated $79 million and $18 million, respectively, of interest expense to RE&C based upon actual cash outflows since the date of disposition. Since the projects were nearing completion, the Company did not allocate interest expense to RE&C in 2003. In addition, in 2001, the Company recorded a charge of $71 million to write off certain assets and liabilities as a result of the WGI bankruptcy filing.

 

The loss from discontinued operations, net of tax, related to RE&C was $151 million, $645 million, and $752 million in 2003, 2002, and 2001, respectively.

 

Assets and liabilities related to RE&C consisted of the following at December 31:

 

(In millions)    2003

   2002

Current liabilities

   $ 37    $ 319
    

  

Total liabilities

   $ 37    $ 319
    

  

 

In 2002, the Company sold its Aircraft Integration Systems business (AIS) for $1,123 million, net, subject to purchase price adjustments. The Company is currently involved in a purchase price dispute related to the sale of AIS. There was no pretax gain or loss on the sale of AIS, however, due to the non-deductible goodwill associated with AIS, the Company recorded a tax provision of $212 million, resulting in a $212 million after-tax loss on the sale of AIS. As part of the transaction, the Company retained the responsibility for performance of the Boeing Business Jet (BBJ) program. The Company also retained $106 million of BBJ-related assets, $18 million of receivables and other assets, and rights to a $25 million jury award related to a 1999 claim against Learjet. At December 31, 2003, the balance of these retained assets was $45 million.

 

In 2003, the Company recorded charges related to AIS of $17 million related to cost growth on the BBJ program and $13 million as a result of continued difficulty the Company has been experiencing liquidating the BBJ-related assets. In 2002 the Company recorded charges of $66 million, which included a $23 million write-down of a BBJ-related aircraft owned by the Company, a $28 million charge for cost growth on one of the two BBJ aircraft not yet delivered, and a $10 million charge to write down other BBJ-related assets to the then estimated net realizable value, offset by a $13 million gain resulting from the finalization of the 1999 claim, described above. The write-down of the BBJ-related aircraft resulted from the Company’s decision to market this aircraft unfinished due to the environment of declining prices for BBJ-related aircraft at the time. The Company was previously marketing this aircraft as a customized executive BBJ.

 

The income (loss) from discontinued operations related to AIS, including the $212 million after-tax loss on the sale, was as follows:

 

(In millions)


   2003

    2002

    2001

 

Net sales

   $ —       $ 202     $ 850  

Operating expenses

     —         196       845  
    


 


 


Income before taxes

     —         6       5  
    


 


 


Federal and foreign income taxes

     —         2       10  
    


 


 


Income (loss) from discontinued operations

     —         4       (5 )

Loss on disposal of discontinued operations, net of tax

     —         (212 )     —    

Adjustments, net of tax

     (19 )     (34 )     —    
    


 


 


Total

   $ (19 )   $ (242 )   $ (5 )
    


 


 


 

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The components of assets and liabilities related to AIS were as follows at December 31:

 

(In millions)


   2003

   2002

Current assets

   $ 59    $ 75
    

  

Total assets

   $ 59    $ 75
    

  

Current liabilities

   $ 6    $ 14
    

  

Total liabilities

   $ 6    $ 14
    

  

 

In 2003, the total loss from discontinued operations was $261 million pretax, $170 million after-tax, or $0.41 per diluted share versus $1,013 million pretax, $887 million after-tax, or $2.17 per diluted share in 2002 and $1,138 million pretax, $757 million after-tax, or $2.10 per diluted share in 2001.

 

NOTE C: ACQUISITIONS AND DIVESTITURES

 

In 2003, the Company acquired Solipsys Corporation for $170 million, net of cash received, to be paid over two years. The Company paid $40 million, net, in cash in 2003 and intends to make the remaining payments, which have been accrued, in cash. In addition, the Company may be required to make certain performance-based incentive payments. Assets acquired included $7 million of contracts in process. Liabilities assumed included $2 million of accounts payable and $3 million of accrued salaries and wages. The Company also recorded $8 million of intangible assets and $160 million of goodwill (at Integrated Defense Systems) in connection with this acquisition.

 

In 2003, the Company acquired the Aerospace and Defence Services business unit of Honeywell International Inc. for $20 million in cash. Assets acquired included $4 million of contracts in process. Liabilities assumed included $1 million of accounts payable and $2 million of other accrued expenses. The Company also recorded $8 million of intangible assets and $11 million of goodwill (at Technical Services) in connection with this acquisition.

 

In 2002, the Company acquired JPS Communications, Inc. for $10 million in cash. Assets acquired included $2 million of accounts receivable and $2 million of inventories. The Company also recorded $4 million of goodwill (at Network Centric Systems) and $2 million of intangible assets in connection with this acquisition.

 

Pro forma financial information has not been provided for these acquisitions as they are not material either individually or in the aggregate. In addition, the Company has entered into other acquisition and divestiture agreements in the normal course of business that have not been separately disclosed as they are not material.

 

In 2002, the Company formed a joint venture with Flight Options, Inc. whereby the Company contributed its Raytheon Travel Air fractional ownership business and loaned the new entity $20 million. In June 2003, the Company participated in a financial recapitalization of Flight Options LLC (FO) and exchanged certain FO debt for equity. As a result of this recapitalization, the Company now owns approximately 66 percent of FO and is consolidating FO’s results in its financial statements. Assets acquired included $83 million of inventories and $27 million of other current assets. Liabilities assumed included $97 million of notes payable and long-term debt, $90 million of advance payments, and $77 million of accounts payable and accrued expenses. The Company also recorded $26 million of intangible assets and $128 million of goodwill in connection with this recapitalization.

 

In 2001, the Company sold its recreational marine business for $100 million and recorded a gain of $39 million. Additional information about certain other acquisitions and divestitures is included in Note H, Other Assets.

 

The Company merged with the defense business of Hughes Electronics Corporation (Hughes Defense) in December 1997. In October 2001, the Company and Hughes Electronics agreed to a settlement regarding the purchase price adjustment related to the Company’s merger with Hughes Defense. Under the terms of the merger agreement, Hughes Electronics agreed to reimburse the Company approximately $635 million of its purchase price, with $500 million received in 2001 and the balance received in 2002. The settlement resulted in a $555 million reduction in goodwill.

 

NOTE D: RESTRUCTURING

 

Prior to 2000, the Company recorded restructuring charges and exit costs in connection with the 1997 acquisition of Texas Instruments’ defense business and merger with Hughes Defense. The Company essentially completed all related restructuring initiatives in 2000 except for ongoing idle facility costs.

 

Restructuring charges and exit costs recognized in connection with business combinations include the cost of involuntary employee termination benefits and related employee severance costs, facility closures, and other costs associated with the Company’s approved plans. Employee termination benefits include severance, wage continuation, medical, and other benefits. Facility closure and related costs include disposal costs of property, plant, and equipment, lease payments, lease termination costs, and net gain or loss on sales of closed facilities.

 

In 2001, the Company determined that the cost of certain restructuring initiatives would be lower than originally planned and recorded an $8 million favorable adjustment to cost of sales.

 

In 2002, the Company determined that the cost of certain restructuring initiatives would be lower than originally planned and recorded a $4 million favorable adjustment to cost of sales, a $3 million favorable adjustment to general and administrative expenses, and a $1 million reduction in goodwill.

 

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Activity related to restructuring initiatives was as follows:

 

Exit Costs                        

(In millions)


   2003

   2002

    2001

 

Accrued liability at beginning of year

   $ 4    $ 17     $ 47  

Changes in estimate

                       

Severance and other employee-related costs

     —        —         —    

Facility closure and related costs

     —        (1 )     —    
    

  


 


       —        (1 )     —    
    

  


 


Costs incurred

                       

Severance and other employee-related costs

     —        2       3  

Facility closure and related costs

     3      10       27  
    

  


 


       3      12       30  
    

  


 


Accrued liability at end of year

   $ 1    $ 4     $ 17  
    

  


 


Cash expenditures

   $ 3    $ 4     $ 18  
    

  


 


Restructuring

                       

(In millions)


   2003

   2002

    2001

 

Accrued liability at beginning of year

   $ —      $ 7     $ 28  

Changes in estimate

                       

Severance and other employee-related costs

     —        (3 )     (4 )

Facility closure and related costs

     —        (4 )     (4 )
    

  


 


     $ —        (7 )     (8 )
    

  


 


Costs incurred

                       

Severance and other employee-related costs

     —        —         6  

Facility closure and related costs

     —        —         7  
    

  


 


       —        —         13  
    

  


 


Accrued liability at end of year

   $ —      $ —         7  
    

  


 


Cash expenditures

   $ —      $ —       $ 8  
    

  


 


 

NOTE E: CONTRACTS IN PROCESS

 

Contracts in process consisted of the following at December 31, 2003:

 

(In millions)


   Cost
Type


   Fixed
Price


    Total

 

U.S. government end-use contracts

                       

Billed

   $ 424    $ 315     $ 739  

Unbilled

     569      3,813       4,382  

Less progress payments

     —        (3,233 )     (3,233 )
    

  


 


       993      895       1,888  
    

  


 


Other customers

                       

Billed

     13      322       335  

Unbilled

     10      925       935  

Less progress payments

     —        (396 )     (396 )
    

  


 


       23      851       874  
    

  


 


Total

   $ 1,016    $ 1,746     $ 2,762  
    

  


 


 

Contracts in process consisted of the following at December 31, 2002:

 

(In millions)


   Cost
Type


   Fixed
Price


    Total

 

U.S. government end-use contracts

                       

Billed

   $ 428    $ 112     $ 540  

Unbilled

     670      3,793       4,463  

Less progress payments

     —        (2,740 )     (2,740 )
    

  


 


       1,098      1,165       2,263  
    

  


 


Other customers

                       

Billed

     15      391       406  

Unbilled

     —        861       861  

Less progress payments

     —        (514 )     (514 )
    

  


 


       15      738       753  
    

  


 


Total

   $ 1,113    $ 1,903     $ 3,016  
    

  


 


 

The U.S. government has title to the assets related to unbilled amounts on contracts that provide for progress payments. Unbilled amounts are primarily recorded on the percentage of completion method and are recoverable from the customer upon shipment of the product, presentation of billings, or completion of the contract.

 

Included in contracts in process at December 31, 2003 and 2002 was $77 million and $113 million, respectively, related to claims on contracts, which were recorded at their estimated realizable value. The Company believes that it has a legal basis for pursuing recovery of these claims and that collection is probable. The settlement of these amounts depends on individual circumstances and negotiations with the counterparty, therefore, the timing of the collection will vary and approximately $18 million of collections are expected to extend beyond one year.

 

Billed and unbilled contracts in process include retentions arising from contractual provisions. At December 31, 2003, retentions amounted to $22 million and are anticipated to be collected as follows: $12 million in 2004, $1 million in 2005, and the balance thereafter.

 

NOTE F: INVENTORIES

 

Inventories consisted of the following at December 31:

 

(In millions)


   2003

   2002

Finished goods

   $ 669    $ 597

Work in process

     1,023      1,042

Materials and purchased parts

     306      393
    

  

Total

   $ 1,998    $ 2,032
    

  

 

Inventories at Raytheon Aircraft, Raytheon Airline Aviation Services, and Flight Options totaled $1,603 million at December 31, 2003 (consisting of $647 million of finished goods, $717 million of work in process, and $239 million of materials and parts) and $1,612 million at December 31, 2002 (consisting of $557 million of finished goods, $761 million of work in process, and $294 million of materials and parts).

 

Included in inventories was $103 million and $76 million at December 31, 2003 and 2002, respectively, related to the Horizon aircraft. The Company anticipates certification of the Horizon aircraft in the third quarter of 2004 and first delivery by year end 2004.

 

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NOTE G: PROPERTY, PLANT, AND EQUIPMENT

 

Property, plant, and equipment consisted of the following at December 31:

 

(In millions)


   2003

    2002

 

Land

   $ 90     $ 91  

Buildings and leasehold improvements

     1,769       1,606  

Machinery and equipment

     3,592       3,083  

Equipment leased to others

     189       189  
    


 


       5,640       4,969  

Less accumulated depreciation and amortization

     (2,929 )     (2,573 )
    


 


Total

   $ 2,711     $ 2,396  
    


 


 

Depreciation expense was $333 million, $305 million, and $289 million in 2003, 2002, and 2001, respectively. Accumulated depreciation of equipment leased to others was $25 million and $39 million at December 31, 2003 and 2002, respectively.

 

In 1998, the Company entered into a $490 million property sale and five-year operating lease (synthetic lease) facility under which property, plant, and equipment was sold and leased back to the Company. In 2003, the lease facility expired and the Company bought back the assets remaining in the lease facility for $125 million.

 

Future minimum lease payments from non-cancelable aircraft operating leases, which extend to 2014, amounted to $73 million at December 31, 2003 and were due as follows :

 

(In millions)


    

2004

   $ 17

2005

     11

2006

     10

2007

     8

2008

     7

Thereafter

     20

 

NOTE H: OTHER ASSETS

 

Other assets, net consisted of the following at December 31:

 

(In millions)


   2003

   2002

Long-term receivables

             

Due from customers in installments to 2015

   $ 464    $ 969

Other, principally due through 2005

     40      17

Sales-type leases, due in installments to 2013

     50      135

Computer software, net

     456      397

Pension-related intangible asset

     199      217

Investments

     146      154

Other noncurrent assets

     498      344
    

  

Total

   $ 1,853    $ 2,233
    

  

 

The Company provides long-term financing to its aircraft customers. The underlying aircraft serve as collateral for general aviation and commuter aircraft receivables. The Company maintains reserves for estimated uncollectible aircraft-related long-term receivables. The balance of these reserves was $60 million and $69 million at December 31, 2003 and 2002, respectively. The reserves for estimated uncollectible aircraft-related long-term receivables represent the Company’s current estimate of future losses. The Company established these reserves based on an overall evaluation of identified risks. As a part of that evaluation, the Company considered certain specific receivables and considered factors including extended delinquency and requests for restructuring, among other things. Long-term receivables included commuter aircraft receivables of $363 million and $680 million at December 31, 2003 and 2002, respectively.

 

The Company accrues interest on long-term aircraft customer receivables in accordance with the terms of the underlying notes. When a long-term aircraft receivable is over 90 days past due, the Company generally stops accruing interest. At December 31, 2003 and 2002, there were $37 million and $38 million, respectively, of long-term aircraft receivables on which the Company was not accruing interest. Interest payments related to these receivables are credited to income when received. Once a receivable has been brought current, the Company begins to accrue interest again. Interest deemed to be uncollectible is written off at the time the determination is made.

 

In 2003, the Company sold an undivided interest in $337 million of general aviation finance receivables, received proceeds of $279 million, retained a subordinated interest in and servicing rights to the receivables, and recognized a gain of $2 million. In connection with the sale, the Company formed a qualifying special purpose entity (QSPE) for the sole purpose of buying these receivables. The Company irrevocably and without recourse, transferred the receivables to the QSPE which in turn, issued beneficial interests in these receivables to a commercial paper conduit. The assets of the QSPE are not available to pay the claims of the Company or any other entity. The Company retained a subordinated interest in the receivables sold of approximately 17 percent. The conduit obtained the funds to purchase the interest in the receivables, other than the retained interest, by selling commercial paper to third-party investors. The Company retained responsibility for the collection and administration of receivables. The Company continues servicing the sold receivables and charges the third party conduit a monthly servicing fee at market rates.

 

The Company accounted for the sale under Statement of Financial Accounting Standards No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities. The gain was determined at the date of transfer based upon the relative fair value of the assets sold and the interests retained. The Company estimated the fair value at the date of transfer and at December 31, 2003 based on the present value of future expected cash flows using certain key assumptions, including collection period and a discount rate of 5.0%. At December 31, 2003 a 10 and 20 percent adverse change in the collection period and discount rate would not have a material effect on the Company’s financial position or results of operations.

 

At December 31, 2003, the outstanding balance of securitized accounts receivable held by the third party conduit totaled $320 million, of which the Company’s subordinated retained interest was $58 million, and the fair value of the servicing asset was $6 million.

 

The Company also maintained a program under which it sold general aviation and commuter aircraft long-term receivables under a receivables purchase facility through the end of 2002. The Company bought out the receivables that remained in the facility in 2002 for $1,029 million and brought the related assets onto the Company’s books. In connection with the buyback, the Company recorded the long-term receivables at estimated fair value using the reserves established in 2001, as described in Note A, Accounting Policies, Impairment of Long-Lived Assets. The loss resulting from

 

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the sale of receivables was $6 million and $2 million in 2002 and 2001, respectively.

 

The increase in computer software in 2003 was due to the Company’s conversion of significant portions of its existing financial systems to a new integrated financial package. Accumulated amortization of computer software was $241 million and $219 million at December 31, 2003 and 2002, respectively.

 

Investments, which are included in other assets, consisted of the following at December 31:

 

(In millions)


  

2003

Ownership %


   2003

   2002

Equity method investments:

                  

Thales-Raytheon Systems Co. Ltd.

   50.0    $ 78    $ 59

HRL Laboratories, LLC

   33.3      30      29

Indra ATM S.L.

   49.0      12      12

TelASIC Communications

   23.5      7      2

Hughes Arabia Limited

   49.0      1      13

Raytheon Aerospace

   —        —        5

Other

   n/a      8       
    
  

  

            136      120

Other investments:

                  

Alliance Laundry Systems

          —        19

Other

          10      15
         

  

            10      34
         

  

Total

        $ 146    $ 154
         

  

 

In 2003, the Company sold the remaining interest in its former aviation support business (Raytheon Aerospace) for $97 million and recorded a gain of $82 million. The Company had sold a majority interest in Raytheon Aerospace in 2001 for $154 million in cash and retained $47 million in trade receivables and $66 million in preferred and common equity in the business. The $66 million represented a 26 percent ownership interest and was recorded at zero because the new entity was highly-leveraged.

 

In 2003, the Company sold its investment in Alliance Laundry Systems for $15 million and recorded a loss of $4 million. The Company had sold its commercial laundry business unit to Alliance in 1998 for $315 million in cash and $19 million in securities.

 

In 2001, the Company formed a joint venture, Thales-Raytheon Systems (TRS) that has two major operating subsidiaries, one of which the Company controls and consolidates. TRS is a system of systems integrator and provides fully customized solutions through the integration of command and control centers, radars, and communication networks. HRL Laboratories is a scientific research facility whose staff engages in the areas of space and defense technologies. Indra develops flight data processors for air traffic control automation systems. TelASIC Communications delivers high performance, cost-effective radio frequency (RF), analog mixed signal, and digital solutions for both the commercial and defense electronics markets. Hughes Arabia Limited was formed in connection with the award of the Peace Shield program and offers certain tax advantages to the Company.

 

In addition, the Company has entered into joint ventures formed specifically to facilitate a teaming arrangement between two contractors for the benefit of the customer, generally the U.S. government, whereby the Company receives a subcontract from the joint venture in the joint venture’s capacity as prime contractor. Accordingly, the Company records the work it performs for the joint venture as operating activity.

 

Certain joint ventures and equity and cost method investments are not listed separately in the table above as the Company’s investment in these entities is less than $5 million. Information for these joint ventures and investments has not been separately disclosed since they are not material either individually on in the aggregate.

 

NOTE I: NOTES PAYABLE AND LONG-TERM DEBT

 

Notes payable and long-term debt consisted of the following at December 31:

 

(In millions)


   2003

   2002

 

Notes payable at a weighted average interest rate of 6.25% for 2003 and 4.48% for 2002

   $ 15    $ 1  

Current portion of long-term debt

     —        1,152  
    

  


Notes payable and current portion of long-term debt

     15      1,153  
    

  


Notes due 2003, 5.70%, not redeemable prior to maturity

     —        377  

Notes due 2003, 7.90%, not redeemable prior to maturity

     —        775  

Notes due 2005, 6.30%, not redeemable prior to maturity

     123      438  

Notes due 2005, floating rate, 1.64% at December 31, 2003, redeemable after 2004

     200      —    

Notes due 2005, 6.50%, not redeemable prior to maturity

     689      687  

Notes due 2006, 8.20%, redeemable at any time

     191      797  

Notes due 2007, 4.50%, redeemable at any time

     224      224  

Notes due 2007, 6.75%, redeemable at any time

     924      920  

Notes due 2008, 6.15%, redeemable at any time

     542      542  

Notes due 2010, 6.00%, redeemable at any time

     222      222  

Notes due 2010, 6.55%, redeemable at any time

     244      244  

Notes due 2010, 8.30%, redeemable at any time

     398      398  

Notes due 2011, 4.85%, redeemable at any time

     496      —    

Notes due 2012, 5.50%, redeemable at any time

     346      345  

Notes due 2013, 5.375%, redeemable at any time

     419      —    

Debentures due 2018, 6.40%, redeemable at any time

     372      371  

Debentures due 2018, 6.75%, redeemable at any time

     249      249  

Debentures due 2025, 7.375%, redeemable after 2005

     205      205  

Debentures due 2027, 7.20%, redeemable at any time

     359      359  

Debentures due 2028, 7.00%, redeemable at any time

     184      184  

Other notes with varying interest rates

     85      6  

Interest rate swaps

     45      89  

Less installments due within one year

     —        (1,152 )
    

  


Long-term debt

     6,517      6,280  
    

  


Subordinated notes payable

     859      858  
    

  


Total debt issued and outstanding

   $ 7,391    $ 8,291  
    

  


 

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The floating rate notes due in 2005 are redeemable on or after June 10, 2004 at the option of the Company at a redemption price equal to 100 percent of par. The debentures due in 2025 are redeemable at the option of the Company on or after July 15, 2005 at redemption prices no greater than 103 percent of par. The notes and debentures redeemable at any time are at redemption prices equal to the present value of remaining principal and interest payments. Information about the subordinated notes payable is included in Note J, Equity Security Units.

 

In 2003, the Company issued $425 million of long-term debt and used the proceeds to reduce the amounts outstanding under the Company’s lines of credit. Also in 2003, the Company issued $500 million of long-term debt and $200 million of floating rate notes. The proceeds were used to partially fund the repurchase of long-term debt with a par value of $924 million at a loss of $77 million pretax, which was included in other expense, $50 million after-tax, or $0.12 per diluted share. The Company has on file a shelf registration with the Securities and Exchange Commission registering the issuance of up to $3.0 billion in debt securities, common or preferred stock, warrants to purchase any of the aforementioned securities, and/or stock purchase contracts, under which $1.3 billion remained outstanding at December 31, 2003.

 

In December 2003, the Company entered into various interest rate swaps that correspond to a portion of the Company’s fixed rate debt in order to effectively hedge interest rate risk. The $250 million notional value of the interest rate swaps effectively converted a portion of the Company’s total debt to variable rate debt.

 

In 2002, the Company issued $575 million of long-term debt to reduce the amounts outstanding under the Company’s lines of credit. Also in 2002, the Company repurchased debt with a par value of $96 million at a gain of $2 million pretax, which was included in other income, or $1 million after-tax.

 

In 2001, the Company repurchased long-term debt with a par value of $1,375 million at a loss of $24 million pretax, which was included in other expense, $16 million after-tax, or $0.04 per diluted share.

 

In 2001, the Company entered into various interest rate swaps that corresponded to a portion of the Company’s fixed rate debt in order to effectively hedge interest rate risk. In 2002, the Company closed out these interest rate swaps and received proceeds of $95 million which are being amortized over the remaining life of the debt as a reduction of interest expense. At December 31, 2003, the unamortized balance was $45 million.

 

The principal amounts of long-term debt were reduced by debt issue discounts and interest rate hedging costs of $102 million and $105 million, respectively, on the date of issuance, and are reflected as follows at December 31:

 

(In millions)


   2003

    2002

 

Principal

   $ 6,593     $ 7,511  

Unamortized issue discounts

     (41 )     (39 )

Unamortized interest rate hedging costs

     (35 )     (40 )

Installments due within one year

     —         (1,152 )
    


 


Total

   $ 6,517     $ 6,280  
    


 


 

The aggregate amounts of installments due on long-term debt for the next five years are:

 

(In millions)


    

2004

   $ —  

2005

     1,048

2006

     228

2007

     1,149

2008

     544

 

The Company’s most restrictive bank agreement covenant is an interest coverage ratio that currently requires earnings before interest, taxes, depreciation, and amortization (EBITDA), excluding certain charges, to be at least 2.5 times net interest expense for the prior four quarters. In July 2003, the covenant was amended to exclude pretax charges of $100 million related to RE&C and in October 2003 the covenant was further amended to exclude $226 million of pretax charges related to Network Centric Systems and Technical Services, and $78 million of pretax charges related to RE&C. In July 2002, the covenant was amended to exclude charges of $450 million related to discontinued operations. The Company was in compliance with the interest coverage ratio covenant, as amended, during 2003.

 

Lines of credit with certain commercial banks exist to provide short-term liquidity. The lines of credit bear interest based upon LIBOR and were $2.7 billion at December 31, 2003, consisting of $1.4 billion which matures in November 2004 and $1.3 billion which matures in 2006. The lines of credit were $2.85 billion at December 31, 2002. There were no borrowings under the lines of credit at December 31, 2003, however, the Company had approximately $300 million of outstanding letters of credit which effectively reduced the Company’s borrowing capacity under the lines of credit to $2.4 billion. There were no borrowings under the lines of credit at December 31, 2002.

 

Credit lines with banks are also maintained by certain foreign subsidiaries to provide them with a limited amount of short-term liquidity. These lines of credit were $99 million and $79 million at

 

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December 31, 2003 and 2002, respectively. There was $1 million outstanding under these lines of credit at December 31, 2003 and 2002. Compensating balance arrangements are not material.

 

Total cash paid for interest was $515 million, $522 million, and $705 million in 2003, 2002, and 2001, respectively, including amounts classified as discontinued operations.

 

NOTE J: EQUITY SECURITY UNITS

 

The Company has 17,250,000, 8.25%, $50 par value equity security units outstanding. Each equity security unit consists of a contract to purchase shares of the Company’s common stock on May 15, 2004 and a mandatorily redeemable equity security with a stated liquidation amount of $50 due on May 15, 2006.

 

The contract obligates the holder to purchase, for $50, shares of common stock equal to the settlement rate. The settlement rate is equal to $50 divided by the average market value of the Company’s common stock at that time. The settlement rate cannot be greater than 1.8182 or less than 1.4903 shares of common stock per purchase contract. The contract requires a quarterly distribution, which is recorded as a reduction in additional paid-in capital, of 1.25% per year of the stated amount of $50 per purchase contract. Cash paid for the quarterly distribution on the contract was $11 million in 2003 and 2002, and $6 million in 2001. The mandatorily redeemable equity security represents preferred stock of RC Trust I (RCTI), a subsidiary of the Company that initially issued this preferred stock to the Company in exchange for a subordinated note. The subordinated notes payable have the same terms as the mandatorily redeemable equity security and represent an undivided interest in the assets of RCTI, a Delaware business trust formed for the purpose of issuing these securities and whose assets consist solely of subordinated notes receivable issued by the Company. RCTI is considered to be a variable interest entity under the provisions of FIN 46, described above in Note A, Accounting Policies, Accounting Standards, and because the preferred stock was a part of the equity security units issued by the Company, the Company is not considered the primary beneficiary of RCTI. As a result, RCTI is not consolidated by the Company under the provisions of FIN 46. The subordinated notes payable were previously reported as mandatorily redeemable equity securities on the Company’s balance sheet and in accordance with FIN 46 prior periods have been restated to reflect this change.

 

The subordinated notes payable pay a quarterly distribution, which is included in interest expense, of 7% per year until May 15, 2004. Cash paid for the quarterly distribution on the subordinated notes payable was $60 million in 2003 and 2002, and $31 million in 2001.

 

The terms of the equity security units required that the mandatorily redeemable equity securities be remarketed. On February 11, 2004, the mandatorily redeemable equity securities were remarketed and the quarterly distribution rate on the madatorily redeemable equity securities and the subordinated notes payable were reset at 7%. Neither the Company nor RCTI received any proceeds from the remarketing. The proceeds were pledged to collateralize the holders’ obligations under the contract to purchase the Company’s common stock on May 15, 2004.

 

NOTE K: STOCKHOLDERS’ EQUITY

 

The changes in shares of common stock outstanding were as follows:

 

(In thousands)


      

Balance at December 31, 2000

   340,620  

Issuance of common stock

   46,809  

Common stock plan activity

   1,230  

Treasury stock activity

   6,773  
    

Balance at December 31, 2001

   395,432  

Issuance of common stock

   9,218  

Common stock plan activity

   3,638  

Treasury stock activity

   (79 )
    

Balance at December 31, 2002

   408,209  

Issuance of common stock

   8,977  

Common stock plan activity

   1,021  

Treasury stock activity

   (71 )
    

Balance at December 31, 2003

   418,136  
    

 

The Company issued 6,486,000 and 5,100,000 shares of common stock in 2003 and 2002, respectively, to fund the Company Match and Company Contributions, as described in Note O, Pension and Other Employee Benefits. In addition, employee-directed 401(k) plan purchases (Employee Contributions) of the Company stock fund were funded through the issuance of 2,491,000 and 4,118,000 shares of common stock in 2003 and 2002, respectively. The Company issued 855,000 shares of common stock and 6,809,000 shares out of treasury in 2001 to fund the Company Match and Company Contributions.

 

In May 2001, the Company issued 14,375,000 shares of common stock for $27.50 per share. In October 2001, the Company issued 31,578,900 shares of common stock for $33.25 per share. The proceeds of the offerings were $1,388 million, net of $56 million of offering costs, and were used to reduce debt and for general corporate purposes.

 

Basic earnings per share (EPS) is computed by dividing net income by the weighted-average shares outstanding during the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity.

 

The weighted-average shares outstanding for basic and diluted EPS were as follows:

 

(In thousands)


   2003

   2002

   2001

Average common shares outstanding for basic EPS

   412,686    401,444    356,717

Dilutive effect of stock options, restricted stock, and equity security units

   2,743    6,587    4,606
    
  
  

Shares for diluted EPS

   415,429    408,031    361,323
    
  
  

 

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Stock options to purchase 30.6 million, 23.7 million, and 20.5 million shares of common stock outstanding at December 31, 2003, 2002, and 2001, respectively, did not affect the computation of diluted EPS. The exercise prices for these options were greater than the average market price of the Company’s common stock during the respective years.

 

Stock options to purchase 15.3 million, 17.9 million, and 15.5 million shares of common stock outstanding at December 31, 2003, 2002, and 2001, respec