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Article by DailyStocks_admin    (12-09-08 01:51 AM)

The Daily Magic Formula Stock for 12/08/2008 is L-3 Communications Holdings Inc. According to the Magic Formula Investing Web Site, the ebit yield is 14% and the EBIT ROIC is 50-75%.

Dailystocks.com only deals with facts, not biased journalism. What is a better way than to go to the SEC Filings? It's not exciting reading, but it makes you money. We cut and paste the important information from SEC filings for you to get started on your research on a specific company.


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BUSINESS OVERVIEW

Overview

L-3 Holdings, a Delaware corporation organized in April 1997, derives all of its operating income and cash flow from its wholly-owned subsidiary, L-3 Communications. L-3 Communications, a Delaware corporation, was organized in April 1997. L-3 is a prime system contractor in aircraft modernization and maintenance, Command, Control, Communications, Intelligence, Surveillance and Reconnaissance (C 3 ISR) systems, and government services. L-3 is also a leading provider of high technology products, subsystems and systems. Our customers include the U.S. Department of Defense (DoD) and its prime contractors, U.S. Government intelligence agencies, the U.S. Department of Homeland Security (DHS), U.S. Department of State (DoS), U.S. Department of Justice (DoJ), allied foreign governments, commercial customers and select other U.S. federal, state and local government agencies.

For the year ended December 31, 2007, we generated sales of approximately $14 billion, operating income of $1,448 million and net cash from operating activities of $1,270 million. The table below presents a summary of our 2007 sales by major category of end customer.

We have the following four reportable segments: (1) C 3 ISR, (2) Government Services, (3) Aircraft Modernization and Maintenance (AM&M), and (4) Specialized Products. Financial information for our reportable segments, including financial information about geographic areas, is included in ‘‘Part II — Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations’’ and in Note 20 to our audited consolidated financial statements.

Business Strategy

Our business strategy is customer-focused and aims to increase shareholder value by providing products and services to our customers that create value for them with responsive, high-quality and affordable solutions. Financially, our emphasis is on sustainably growing earnings per share and cash flow. Our strategy involves a flexible and balanced combination of organic growth, cost reductions, business acquisitions, dividends and share repurchases, enabling us to grow the company and return cash to our shareholders. We intend to maintain and expand our position as a leading supplier of systems, subsystems, products and services to the DoD, other U.S. Government agencies, allied foreign governments and commercial customers, both domestic and international. Our strategy includes the objectives discussed below.

Expand Prime Contractor and Supplier Positions. We intend to expand our prime system contractor roles in select business areas where we have domain expertise, including C 3 ISR, aircraft modernization and maintenance and government services. We also will enter into ‘‘teaming’’ arrangements with other prime system contractors and platform original equipment manufacturers to compete for select new business opportunities. As an independent supplier of a broad range of products in several key business areas, our growth will partially be driven by expanding our share on existing programs and participating on new programs. We will also identify opportunities to use our customer relationships and leverage the capabilities of our various businesses, including their proprietary technologies, to expand the scope of our products and services to existing and new customers. We also intend to supplement our growth by participating in and competing for new programs internationally, particularly in Canada, the United Kingdom and Australia.

Align Research & Development, and Capital Expenditures. We intend to continue to align our internal investments in research and development, business development and capital expenditures to proactively address customer requirements and priorities with our products, services and solutions. We will also grow our sales through increased collaboration of our businesses, including combining select products into subsystems to offer competitive solutions to our customers.

Grow Sales Organically and with Business Acquisitions. We will use our existing prime contractor and supplier positions and internal investments to grow our sales organically. We expect to benefit from our positions as a supplier to multiple bidders on select prime contract bids. We plan to maintain our diversified and broad business mix with its limited reliance on any single program and significant follow-on and new business opportunities. We also will supplement our organic sales growth by selectively acquiring businesses that add new products, technologies, programs or customers to our existing businesses, with attractive returns on investment.

Favorable Contract Performance. A foundation for our objectives of expanding L-3’s prime contractor and supplier positions and growing sales organically is favorable performance on our existing contracts. We believe that a prerequisite for growing and winning new business is to retain our existing business with successful contract performance, including schedule, cost, technical and other performance criteria. Therefore, we will continue to focus on delivering superior contract performance to our customers to maintain our reputation as an agile and responsive contractor and to differentiate L-3 from its competitors.

Continuous Cost Improvement. We will continue to aggressively improve and reduce our direct contract costs and overhead costs, including general and administrative costs. Effective management of labor, material, subcontractor and other direct costs is a primary element of favorable contract performance. We also intend to grow sales at a faster rate than overhead costs. We believe continuous cost improvement will enable us to flexibly use costs savings to increase L-3’s value by expanding operating margin and selectively investing in new product development, bids and proposals and other business development activities to grow sales organically.

Selected Recent Business Acquisitions

During the year ended December 31, 2007, we used cash of $235 million for business acquisitions. See ‘‘Part II — Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations — Business Acquisitions’’ for additional details about our 2007 business acquisitions, including their aggregate purchase prices.

Products and Services

Our four reportable segments provide a wide range of products and services to various customers and are described below.

C 3 ISR Reportable Segment

In 2007, C 3 ISR net sales of $2,310 million represented 17% of our total net sales. The businesses in this segment provide products and services for the global ISR market, specializing in signals intelligence (SIGINT) and communications intelligence (COMINT) systems. These products and services provide to the warfighter in real-time, the unique ability to collect and analyze unknown electronic signals from command centers, communication nodes and air defense systems for real-time situational awareness and response. The businesses in this reportable segment also provide C 3 systems, networked communications systems and secure communications products for military and other U.S. Government and foreign government intelligence, reconnaissance and surveillance applications. We believe that these products and services are critical elements for a substantial number of major command, control and communication, intelligence gathering and space systems. These products and services are used to connect a variety of airborne, space, ground and sea-based communication systems and are used in the transmission, processing, recording, monitoring and dissemination functions of these communication systems. Major products and services for this reportable segment include:

• highly specialized fleet management sustainment and support, including procurement, systems integration, sensor development, modifications and periodic depot maintenance for SIGINT and ISR special mission aircraft and airborne surveillance systems;

• strategic and tactical SIGINT systems that detect, collect, identify, analyze and disseminate information;

• secure data links that enable real-time information collection and dissemination to users of networked communications for airborne, satellite, ground and sea-based remote platforms, both manned and unmanned;

• secure terminal and communication network equipment and encryption management; and

• communication systems for surface and undersea vessels and manned space flights.

Government Services Reportable Segment

In 2007, Government Services net sales of $4,334 million represented 31% of our total net sales. The businesses in this segment provide a full range of engineering, technical, information technology, advisory, training and support services to the DoD, DoS, DoJ and U.S. Government intelligence agencies and allied foreign governments. Major services for this reportable segment include:

• communication software support, information technology services and a wide range of engineering development services and integration support;

• high-end engineering and information systems support services used for command, control, communications and ISR architectures, as well as for air warfare modeling and simulation tools for applications used by the DoD, DHS and U.S. Government intelligence agencies, including missile and space systems, UAVs and manned military aircraft;

• developing and managing extensive programs in the United States and internationally that focus on teaching, training and education, logistics, strategic planning, organizational design, democracy transition and leadership development;

• human intelligence support and other services, including linguist and translation services and related management to support contingency operations and current intelligence-gathering requirements;

• aviation and maritime services in support of maritime and expeditionary warfare;

• intelligence solutions support to the DoD, including the U.S. Armed Services combatant commands and the U.S. Government intelligence agencies, including those within the U.S. Armed Services;

• technical and management services, which provide support of intelligence, logistics, C 3 and combatant commands; and

• conventional high-end enterprise information technology (IT) support, systems and other services to the DoD and other U.S. federal agencies.

Aircraft Modernization and Maintenance (AM&M) Reportable Segment

In 2007, AM&M net sales of $2,528 million represented 18% of our total net sales. The businesses in this segment provide modernization, upgrades and sustainment, maintenance and logistics support services for military and various government aircraft and other platforms. We sell these services primarily to the DoD, the Canadian Department of National Defense (DND) and other allied foreign governments. Major products and services for this reportable segment include:

• engineering, modification, maintenance, logistics and upgrades for aircraft, vehicles and personnel equipment;

• turnkey aviation life cycle management services that integrate custom developed and commercial off-the-shelf products for various military fixed and rotary wing aircraft, including heavy maintenance and structural modifications and interior modifications and construction; and

• aerospace and other technical services related to large fleet support, such as aircraft and vehicle modernization, maintenance, repair and overhaul, logistics, support and supply chain management, primarily for military training, tactical, cargo and utility aircraft, anti-missile defense systems and tanks.

CEO BACKGROUND

John M. Shalikashvili 71 Director since August 1998. Member of the Compensation and Nominating/Corporate Governance Committees. General Shalikashvili (U.S. Army—Ret.) is an independent consultant and a Visiting Professor at Stanford University. General Shalikashvili was the senior officer of the United States military and principal military advisor to the President of the United States, the Secretary of Defense and the National Security Council when he served as the thirteenth Chairman of the Joint Chiefs of Staff, Department of Defense, for two terms from 1993 to 1997. Prior to his tenure as Chairman of the Joint Chiefs of Staff, he served as the Commander in Chief of all United States forces in Europe and as NATO’s tenth Supreme Allied Commander, Europe (SACEUR). He has also served in a variety of command and staff positions in the continental United States, Alaska, Belgium, Germany, Italy, Korea, Turkey and Vietnam.

Michael T. Strianese 52 President and Chief Executive Officer, and a Director. Mr. Strianese became President and Chief Executive Officer and a Director in October of 2006 and until February 2007 was also our Corporate Ethics Officer. He was our interim Chief Executive Officer and Chief Financial Officer from June 2006. Mr. Strianese became Chief Financial Officer in March 2005. From March 2001 until March 2005 he was our Senior Vice President — Finance. He joined us in April 1997 as Vice President — Finance and Controller and was our Controller until July 2000. From April 1996, when Loral was acquired by Lockheed Martin, until April 1997, Mr. Strianese was Vice President and Controller of Lockheed Martin’s C3I and Systems Integration Sector. In addition, he served as acting Chief Financial Officer of Lockheed Martin’s Electronics Sector. Prior to Lockheed’s acquisition of Loral, Mr. Strianese spent six years with Loral where he held a number of positions with increasing responsibility in areas of mergers and acquisitions and financial management. Mr. Strianese is a Certified Public Accountant and a graduate of St. John’s University with a Bachelor’s degree in Accounting. He is a member of the Aerospace Industries Association’s Board of Governors and serves on its Finance Committee.
John P. White 71 Director since October 2004. Member of the Nominating/Corporate Governance Committee. John P. White is the Robert and Renée Belfer Lecturer at the John F. Kennedy School of Government, Harvard University and the Managing Partner of Global Technology Partners, LLC. Dr. White has a long history of government service, serving as U.S. Deputy Secretary of Defense from 1995-1997; as Deputy Director of the Office of Management and Budget from 1978 to 1981, and as Assistant Secretary of Defense, Manpower, Reserve Affairs and Logistics from 1977 to 1978. Dr. White also served as a lieutenant in the United States Marine Corps from 1959 to 1961. Prior to his most recent government position, Dr. White was the Director of the Center For Business and Government at Harvard University and the Chairman of the Commission on Roles and Missions of the Armed Forces. Dr. White has extensive private sector experience, including service as Chairman and CEO of the Interactive Systems Corporation, a position he held from 1981 to 1988. Following Interactive Systems Corporation’s sale to the Eastman Kodak Company in 1988, he was General Manager of the Integration and Systems Product Division and a Vice President of Kodak until 1992. Dr. White also spent nine years at the RAND Corporation, where he served as the Senior Vice President of National Security Research Programs and as a member of the Board of Trustees. He continues to serve as a Senior Fellow to the RAND Corporation. Dr. White is a current member of the Council on Foreign Relations. He also serves as a Director of IRG International, Inc., the Institute for Defense Analyses and the Concord Coalition. He is a member of the Policy and Global Affairs Oversight Committee of the National Research Council.

The nominees for election to the Board of Directors are hereby proposed for approval by the stockholders. The affirmative vote of the holders of a majority of the shares present or represented and entitled to vote at the Annual Meeting will be necessary to approve each nominee.

Directors whose term continues beyond the 2008 Annual Meeting and who are not subject to election this year.

Class III — Directors Whose Term Expires in 2009

Peter A. Cohen 61 Director since October 2005. Chairman of the Compensation Committee and a member of the Executive Committee. Mr. Cohen is the founding and managing partner of Ramius Capital Group, LLC, a private investment management and merchant banking firm formed in 1994. Prior to that, he formed Republic New York Securities, an investment management firm, in 1991 and was employed by Shearson Lehman Brothers, an investment banking firm, from 1978 to 1991. At Shearson, Mr. Cohen held a number of executive positions, including President and Chief Operating Officer from 1981 through 1990, and Chairman and Chief Executive Officer from 1983 to 1990. Over the course of his career, he has served on numerous corporate and philanthropic boards including the New York Stock Exchange, The American Express Company, Titan Incorporated and Kroll Inc. He is currently a director of The Mount Sinai Medical Center, and the Scientific Games Corporation where he serves as lead director.
Robert B. Millard 57 Director since April 1997. Non-Executive Chairman of the Board of Directors, member of the Compensation Committee and Chairman of the Executive Committee. Mr. Millard is a Managing Director of Lehman Brothers Inc., head of Lehman Brothers’ Global Trading Strategies Group. Mr. Millard joined Lehman Brothers Inc. in 1978 when Kuhn Loeb & Co. was acquired by Lehman Brothers Inc. and became a Managing Director of Lehman Brothers Inc. in 1983. Mr. Millard joined Kuhn Loeb & Co. in 1976. Mr. Millard is a director of GulfMark Offshore, Inc., Weatherford International, Inc., Associated Universities, Inc., Massachusetts Institute of Technology, New School University, Parsons School of Design, Population Council and the Remarque Institute. He is also a current member of the Council on Foreign Relations.
Arthur L. Simon 76 Director since April 2001. Member of the Audit and Nominating/Corporate Governance Committees. Mr. Simon is an independent consultant. Before his retirement, Mr. Simon was a partner at Coopers & Lybrand LLP, Certified Public Accountants, from 1968 to 1994. He is a director of Loral Space & Communications Corp.

Claude R. Canizares 62 Director since May 2003. Member of the Audit Committee. Since 1971, Professor Canizares has been at the Massachusetts Institute of Technology (MIT). He currently serves as the Vice President for Research and Associate Provost and is the Bruno Rossi Professor of Physics. In addition, he is a principal investigator on NASA’s Chandra X-ray observatory and Associate Director of its science center. Professor Canizares is a member of the National Academy of Sciences, the International Academy of Astronautics, and a fellow of the American Academy of Arts and Sciences, the American Physical Society and the American Association for the Advancement of Science. He also serves on the governing council of the National Academy of Sciences.
Thomas A. Corcoran 63 Director since July 1997. Chairman of the Audit Committee since April 27, 2004 and a member of the Executive Committee. Mr. Corcoran is also Chief Executive Officer of Corcoran Enterprises, LLC, a private management consulting firm, and in this capacity, he works closely with The Carlyle Group, a Washington D.C. — based private equity firm. Mr. Corcoran has been a senior advisor to The Carlyle Group since 2004. From March 2001 to April 2004, Mr. Corcoran was the President and Chief Executive Officer of Gemini Air Cargo, a Carlyle company. Since February 2006, he has been Chairman of Proxy Aviation, Inc., a private company in Germantown, MD. Mr. Corcoran was the President and Chief Executive Officer of Allegheny Teledyne Incorporated from October 1999 to December 2000. From April 1993 to September 1999 he was the President and Chief Operating Officer of the Electronic Systems Sector and Space & Strategic Missiles Sector of Lockheed Martin Corporation. Prior to that he worked for General Electric for 26 years and from 1983 to 1993 he held various management positions with GE Aerospace and was a company officer from 1990 to 1993. Mr. Corcoran is a member of the Board of Trustees of Stevens Institute of Technology and the Boards of Directors of the American Ireland Fund, Remec Inc., Proxy Aviation Systems Inc, Aircraft Management Technologies (Dublin, Ireland), LaBarge, Inc., Aer Lingus Ltd., Serco Ltd. and ARINC, a Carlyle company.
Alan H. Washkowitz 67 Director since April 1997. Chairman of the Nominating/Corporate Governance Committee and member of the Compensation Committee. Mr. Washkowitz is a former Managing Director of Lehman Brothers, and was responsible for the oversight of Lehman Brothers Inc. Merchant Banking Portfolio Partnership L.P. Mr. Washkowitz joined Lehman Brothers Inc. in 1978 when Kuhn Loeb & Co. was acquired by Lehman Brothers. Mr. Washkowitz is a director of Peabody Energy Corporation. Mr. Washkowitz retired from Lehman Brothers Inc. in July 2005 and is currently a private investor.


MANAGEMENT DISCUSSION FROM LATEST 10K

Financial Section Roadmap

Management’s discussion and analysis (MD&A) can be found on pages 27 to 54, the report related to the financial statements and internal control over financial reporting can be found on page 55 and the financial statements and related notes can be found on pages F1 to F61. The following table is designed to assist in your review of MD&A.

L-3’s Business

L-3 is a prime system contractor in aircraft modernization and maintenance, Command, Control, Communications, Intelligence, Surveillance and Reconnaissance (C 3 ISR) systems, and government services. L-3 is also a leading provider of high technology products, subsystems and systems. Our customers include the U.S. Department of Defense (DoD) and its prime contractors, U.S. Government intelligence agencies, the U.S. Department of Homeland Security (DHS), U.S. Department of State (DoS) and U.S. Department of Justice (DoJ), allied foreign governments, commercial customers and select other U.S. federal, state and local government agencies.

We have the following four reportable segments: (1) C 3 ISR, (2) Government Services, (3) Aircraft Modernization and Maintenance (AM&M), and (4) Specialized Products. Financial information for our reportable segments is included in Note 20 to our audited consolidated financial statements.

The C 3 ISR reportable segment provides products and services for the global ISR market, networked communications systems and secure communications products. We believe that these products and services are critical elements for a substantial number of major command, control, communication, intelligence gathering and space systems. These products and services are used to connect a variety of airborne, space, ground and sea-based communication systems and are used in the transmission, processing, recording, monitoring and dissemination functions of these communication systems. The Government Services reportable segment provides training and operational support services, information technology solutions, intelligence solutions and support, aviation, maritime and engineering services and other technical services. The AM&M reportable segment provides modernization, upgrades and sustainment, maintenance and logistics support services for military and various government aircraft and other platforms. The Specialized Products reportable segment provides a broad range of products across several business areas that include power & control systems, microwave, avionics & displays, training & simulation, electro-optic/infrared (EO/IR), precision engagement, security & detection systems, propulsion systems, undersea warfare and telemetry and advanced technology.

Most of our contracts (revenue arrangements) with the U.S. Government are subject to U.S. Defense Contract Audit Agency audits and various cost and pricing regulations, and include standard provisions for termination for the convenience of the U.S. Government. Multiyear U.S. Government contracts and related orders are subject to cancellation if funds for contract performance for any subsequent year become unavailable. Foreign government contracts generally include comparable provisions relating to termination for the convenience of the relevant foreign government.

Business Strategy

Our business strategy is customer-focused and aims to increase shareholder value by providing products and services to our customers that advantage them with responsive, high-quality and affordable solutions. Financially, our emphasis is on sustainably growing earnings per share and cash flow. Our strategy involves a flexible and balanced combination of organic growth, cost reductions, business acquisitions, dividends and share repurchases, enabling us to grow the company and return cash to our shareholders. We intend to maintain and expand our position as a leading supplier of systems, subsystems, products and services to the DoD, other U.S. Government agencies, allied foreign governments and commercial customers, both domestic and international. Our strategy includes the objectives discussed below.

We intend to expand our prime system contractor roles in select business areas where we have domain expertise, including C 3 ISR, aircraft modernization and maintenance and government technical services. We also will enter into ‘‘teaming’’ arrangements with other prime system contractors and platform original equipment manufacturers to compete for select new business opportunities. As an independent supplier of a broad range of products in several business areas, our growth will partially be driven by expanding our share on existing programs and participating on new programs. We will also identify opportunities to use our customer relationships and leverage the capabilities of our various businesses, including their proprietary technologies, to expand the scope of our products and services to existing and new customers. We also intend to supplement our growth by participating in and competing for new programs internationally, particularly in Canada, the United Kingdom and Australia.

We intend to continue to align our internal investments in research and development, business development and capital expenditures to proactively address customer requirements and priorities with our products, services and solutions. We will also grow our sales through increased collaboration of our businesses, including combining select products into subsystems to offer competitive solutions to our customers.

We will use our existing prime contractor and supplier positions and internal investments to grow our sales organically. We expect to benefit from our positions as a supplier to multiple bidders on select prime contract bids. We plan to maintain our diversified and broad business mix with its limited reliance on any single program and significant follow-on and new business opportunities. We also will supplement our organic sales growth by selectively acquiring businesses that add new products, technologies, programs or customers to our existing businesses, with attractive returns on investment.

A foundation for our objectives of expanding L-3’s prime contractor and supplier positions and growing sales organically is favorable performance on our existing contracts. We believe that a prerequisite for growing and winning new business is to retain our existing business with successful contract performance, including schedule, cost, technical and other performance criteria. Therefore, we will continue to focus on delivering superior contract performance to our customers to maintain our reputation as an agile and responsive contractor and to differentiate L-3 from its competitors.

We will continue to aggressively improve and reduce our direct contract costs and overhead costs, including general and administrative costs. Effective management of labor, material, subcontractor and other direct costs is a primary element of favorable contract performance. We also intend to grow sales at a faster rate than overhead costs. We believe continuous cost improvement will enable us to flexibly use costs savings to increase L-3’s value by expanding operating margin and selectively investing in new product development, bids and proposals and other business development activities to grow sales organically.

Industry Considerations

In recent years, domestic and geo-political developments have significantly affected the markets for defense systems, products and services. There has been a fundamental and philosophical shift in focus from a ‘‘threat-based’’ model to one that emphasizes the capabilities needed to defeat a full spectrum of adversaries, which has transformed the U.S. defense posture to a capabilities-based orientation. This approach involves creating the ability for (1) a more flexible response, with greater force, agility and stronger space capabilities, and (2) improved missile defense systems, networked communications and information systems, and security systems. This transformation also includes an increased emphasis on homeland defense. We anticipate that the U.S. Quadrennial Defense Review to be completed in 2010 will incorporate lessons learned from the U.S. military operations in Iraq, Afghanistan and the Balkans, and promote additional special operations, intelligence gathering, language and cultural capabilities, improved communications and enhanced security cooperation activities.

Over the past several years, the DoD budgets have experienced increased focus on C 3 ISR, precision-guided weapons, UAVs, network-centric communications, Special Operations Forces (SOF) and missile defense. In addition, the DoD philosophy has focused on a transformation strategy that balances modernization and recapitalization (or upgrading existing platforms) while enhancing readiness and joint operations. As a result, defense budget program allocations continue to favor advanced information technologies related to C 3 and ISR. Furthermore, the DoD’s emphasis on system interoperability, force multipliers and providing battlefield commanders with real-time data is increasing the electronic content of nearly all major military procurement and research programs. Therefore, it is expected that the DoD’s budget for communications and defense electronics will continue to grow. We believe L-3 is well positioned to benefit from the expected increased spending in those areas. While there is no assurance that the requested DoD budget increases will continue to be approved by Congress, the current outlook is one of increased DoD spending, which we believe will continue to positively affect L-3’s future orders and sales, operating results and cash flows. Conversely, a decline in the DoD budget would generally have a negative effect on future orders, sales, operating profits and cash flows of defense contractors, including L-3, depending on the weapons platforms and programs affected by such budget reductions.

In addition, increased emphasis on U.S. homeland security may increase demand for our capabilities in areas such as security systems, information security, crisis management, preparedness and prevention services, and civilian security operations.

Key Performance Measures

The key financial performance measures that L-3 uses to manage its businesses and monitor results of operations are sales growth and operating income growth. Combined, these financial performance measures are the primary growth drivers for L-3’s earnings per share and net cash from operating activities. We define organic sales growth as the increase or decrease in sales for the current period compared to the prior period, excluding sales in the current period from business acquisitions that have been included in L-3’s actual results of operations for less than twelve months. The two main determinants of our operating income growth are sales growth and improvements in operating margin. We define operating margin as operating income as a percentage of sales.

Sales Growth. Our average annual sales growth for the five years ended December 31, 2007, was 29%, with average annual organic sales growth of approximately 10%, and average annual sales growth from business acquisitions of approximately 19%. Organic sales growth was 9.6% for the year ended December 31, 2007. Sales growth from business acquisitions for the year ended December 31, 2007 was 2.3%. Prior to January 1, 2007, the larger portion of our historical sales growth has been generated from business acquisitions. We made our largest acquisition on July 29, 2005, when we acquired Titan for a purchase price of approximately $2.8 billion. Generally, we expect that our sales growth rate from business acquisitions will decline from pre-2007 levels for the foreseeable future. Our largest contract in terms of annual sales was the Linguist Contract and it generated sales of $738 million for the year ended December 31, 2007. On December 9, 2007, the Linguist Contract period of performance was extended to March 8, 2008. As discussed above in ‘‘Major Customers,’’ INSCOM made an award of the follow-on contract to another service provider.

We, as most U.S. defense contractors, have benefited from the upward trend in DoD budget authorization and spending outlays over recent years, including supplemental appropriations for military operations in Iraq, Afghanistan and the Global War on Terror (GWOT). We believe that our businesses should be able to generate organic sales growth for the foreseeable future because we anticipate the defense budget will continue its focus on areas that match certain of the core competencies of L-3:

communications and persistent ISR, precision engagement, SOF, wartime support services and simulation & training. The increased DoD spending during recent years has included supplemental appropriations for military operations in Iraq and Afghanistan. These appropriations have enabled the DoD to proceed with its recapitalization and reconstitution programs that are directly related to the U.S. military operations in Iraq and Afghanistan, which allows for the focus of the base budget resources on transformational modernization programs.

The substantial majority of L-3’s sales are made to U.S. Government agencies, primarily the DoD, as discussed above. In addition to the current DoD budget and level of future Congressional supplemental appropriations for U.S. military operations in Iraq and Afghanistan, our sales to the U.S. Government may be affected by changes in U.S. procurement policies, budget considerations, changing national security and defense requirements, and geo-political developments, which are beyond our control. Any of these factors could impact L-3’s future results of operations, including our organic sales growth rate. Additionally, L-3’s future results of operations and sales growth are affected by our ability to retain our existing business and to successfully compete for new business, which largely depend on 1) our successful performance on existing contracts, 2) the effectiveness and innovation of our technologies and research and development activities, 3) our ability to offer better program performance than our competitors at a lower cost, and 4) our ability to retain our employees and hire new ones, particularly those employees who have U.S. Government security clearances.

Operating Income Growth. Our consolidated operating income was $1,448.1 million for the year ended December 31, 2007, an increase of 30.4% from $1,110.9 million for the year ended December 31, 2006. Our consolidated operating margin was 10.4% for the year ended December 31, 2007 and 8.9% for the year ended December 31, 2006. For the year ended December 31, 2006, our operating income and operating margin was reduced by two matters totaling $168.2 million ($103.7 million after income taxes or $0.83 per share) as follows: (1) a pre-tax litigation charge of $129.0 million ($78.2 million after income taxes, or $0.63 per share) in connection with an adverse jury verdict currently on appeal and (2) a pre-tax charge of $39.2 million ($25.5 million after income taxes or $0.20 per share) in connection with our voluntary review of past stock option granting practices. These two charges are collectively referred to herein as the ‘‘Q2 2006 Charges’’. Excluding the reductions from the Q2 2006 Charges, consolidated operating income for the year ended December 31, 2006 would have been $1,279.1 million and operating margin would have been 10.3%.

Prospectively, we expect to continue to generate modest increases in operating margin as we expect to increase sales, grow sales faster than indirect costs and improve our overall contract performance. However, in the future, select business acquisitions and select new business could reduce our operating margins, if the margins for them are lower than L-3’s existing operating margin. Our business objectives include sustainably growing earnings per share and cash flow, and improving operating margins is one method for achieving this growth but it is not the only one.

Business Acquisitions

As discussed above, a portion of our growth strategy is to selectively acquire businesses that add new products, technologies, programs or customers to our existing businesses. We intend to continue acquiring select businesses for reasonable valuations that will provide attractive returns to L-3. Our business acquisitions, depending on their business-type, contract-type sales mix or other factors, could reduce L-3’s consolidated operating margin while still increasing L-3’s operating income, earnings per share, and net cash from operating activities.


MANAGEMENT DISCUSSION FOR LATEST QUARTER


Overview and Outlook

L-3’s Business

L-3 is a prime system contractor in aircraft modernization and maintenance, Command, Control, Communications, Intelligence, Surveillance and Reconnaissance (C 3 ISR) systems, and government services. L-3 is also a leading provider of high technology products, subsystems and systems. Our customers include the U.S. Department of Defense (DoD) and its prime contractors, U.S. Government intelligence agencies, the U.S. Department of Homeland Security (DHS), U.S. Department of State (DoS) and U.S. Department of Justice (DoJ), allied foreign governments, domestic and international commercial customers and select other U.S. federal, state and local government agencies.

We have the following four reportable segments: (1) C 3 ISR, (2) Government Services, (3) Aircraft Modernization and Maintenance (AM&M), and (4) Specialized Products. Financial information for our reportable segments is included in Note 18 to our unaudited condensed consolidated financial statements. C 3 ISR provides products and services for the global ISR market, networked communication systems and secure communications products. We believe that these products and services are critical elements for a substantial number of major command, control, communication, intelligence gathering and space systems. These products and services are used to connect a variety of airborne, space, ground and sea-based communication systems and are used in the transmission, processing, recording, monitoring, and dissemination functions of these communication systems. Government Services provides training and operational support services, information technology solutions, intelligence solutions and support, engineering solution services and other technical services. AM&M provides modernization, upgrades and sustainment, maintenance and logistics support services for military and various government aircraft and other platforms. Specialized Products provides a broad range of products across several business areas that include power & control systems, microwave, avionics & displays, training & simulation, electro-optic/infrared (EO/IR), precision engagement, security and detection systems, propulsion systems, undersea warfare and telemetry and advanced technology.

Key Performance Measures

The primary financial performance measures that L-3 uses to manage its businesses and monitor results of operations are sales growth and operating income growth. Management believes that these financial performance measures are the primary growth drivers for L-3’s earnings per share and net cash from operating activities. L-3’s business strategy is focused on increasing sales from organic growth and select business acquisitions that add new products, technologies, programs or customers in areas that complement L-3’s existing businesses. We define organic sales growth as the increase or decrease in sales for the current period compared to the prior period, excluding sales in the (1) current period from business and product line acquisitions that have been included in L-3’s actual results of operations for less than twelve months and (2) prior period from business and product line divestitures that have been included in L-3’s actual results of operations for the twelve-month period prior to the divestiture date. The two main determinants of our operating income growth are sales growth and improvements in operating margin. We define operating margin as operating income as a percentage of sales.

Sales Growth. Our average annual sales growth for the five years ended December 31, 2007 was 29%, with average annual organic sales growth of approximately 10% and average annual sales growth from business acquisitions of approximately 19%. Sales growth for the quarter ended September 26, 2008 (2008 Third Quarter) was 6%, comprised of organic sales growth of 4%, and sales growth from business acquisitions, net of divestitures, of 2%. Sales growth for the year-to-date period ended September 26, 2008 (2008 Year-to-Date Period) was 7%, comprised of organic sales growth of 5%, and sales growth from business acquisitions, net of divestitures, of 2%.

Our largest contract (revenue arrangement) in terms of annual sales for the year ended December 31, 2007, which generated 5.3% of consolidated sales, was the World Wide Linguist Support Services contract (Linguist Contract). On February 15, 2008, the U.S. Army Intelligence and Security Command (INSCOM) announced that it did not select our proposal for the Translation and Interpretation Management Services (TIMS) contract, and on February 22, 2008, we filed a protest of INSCOM’s selection with the U.S. Government Accountability Office (GAO). The TIMS contract is the successor contract to the portion of the Linguist Contract that provides translators and linguists in support of the U.S. military operations in Iraq. In March 2008, the U.S. Army extended L-3’s period of performance on the Linguist Contract through June 9, 2008. Additionally, in March 2008, L-3 entered into a subcontract with Global Linguist Solutions (GLS) to supply translation and interpretation services in Iraq under the TIMS contract, and L-3 withdrew its previously filed protest with the GAO of GLS’s selection for the TIMS contract. Total linguist-Iraq sales, including our subcontract, were $56 million for the 2008 Third Quarter and $356 million for the 2008 Year-to-Date Period.

Our current largest contract (revenue arrangement) in terms of estimated annual sales for the year ending December 31, 2008, is the U.S. Air Force (USAF) Contract Field Teams (CFT) contract, which currently generates almost 3% of our annual sales. CFT is a multi-sourced contract, which provides worldwide quick reaction maintenance of deployed aircraft and ground vehicles for the U.S. military. The USAF recently selected L-3 as one of the winning contractors for the next CFT indefinite delivery/indefinite quantity contract that began on October 1, 2008. There will be more contractors competing for task orders on the new CFT contract compared to the existing contract, and therefore, we can provide no assurance that we will be able to maintain our annual sales on the new contract.

We, as most U.S. defense contractors, have benefited from the upward trend in DoD budget authorization and spending outlays over recent years, including supplemental appropriations for military operations in Iraq, Afghanistan and the Global War on Terror (GWOT). We believe that our businesses should be able to generate organic sales growth for the foreseeable future because we anticipate the defense budget will continue its focus on areas that match certain of the core competencies of L-3: communications and persistent ISR, sensors, precision engagement, Special Operations Forces, wartime support services and simulation & training. The increased DoD spending during recent years has included supplemental appropriations for military operations in Iraq and Afghanistan. These appropriations have enabled the DoD to proceed with its recapitalization and reconstitution programs that are directly related to the U.S. military operations in Iraq and Afghanistan, which allows for the focus of base budget resources on transformational modernization programs.

Operating Income Growth. Our consolidated operating income was $400 million for the 2008 Third Quarter, an increase of 7.8% from $371 million for the quarter ended September 28, 2007 (2007 Third Quarter). Our consolidated operating margin was 10.9% for the 2008 Third Quarter, an increase of 10 basis points from 10.8% for the 2007 Third Quarter. For the 2008 Year-to-Date Period, our consolidated operating income was $1,269 million and our consolidated operating margin was 11.7%. Our operating income and operating margins for the 2008 Year-to-Date Period were impacted by certain items which occurred during the 2008 second quarter, as further discussed below, and increased operating income by $110 million and operating margin by 110 basis points. Excluding these same items, our consolidated operating income was $1,159 million for the 2008 Year-to-Date Period, an increase of 10.2% from $1,052 million for the year-to-date period ended September 28, 2007 (2007 Year-to-Date Period). Excluding these same items, our consolidated operating margin was 10.6% for the 2008 Year-to-Date Period, an increase of 20 basis points from 10.4% for the 2007 Year-to-Date Period.

Prospectively, we expect to continue to generate modest annual increases in operating margin as we expect to increase sales, grow sales at a faster rate than indirect costs and improve our overall contract performance. However, in the future, select business acquisitions and select new business could reduce our operating margins, if the margins are lower than L-3’s existing operating margin. Our business objectives include growing earnings per share and cash flow. Improving operating margins is one method for achieving this growth, but it is not the only one.

Other 2008 Year-to-Date Events. Our 2008 Year-to-Date Period results were affected by three matters, which increased consolidated operating income by $110 million, income before income taxes by $117 million, net income by $71 million and diluted earnings per share (EPS) by $0.57, which are collectively referred to as the Q2 2008 Items:


• A gain of $133 million ($81 million after income taxes, or $0.65 per share) for the reversal of a $126 million current liability for pending and threatening litigation as a result of a June 27, 2008 decision by the U.S. Court of Appeals that vacated an adverse 2006 jury verdict and $7 million of related accrued interest, which is recorded in interest expense and other items (the “Litigation Gain”).

• A gain of $12 million ($7 million after income taxes, or $0.06 per share) from the sale of a product line (the “Product Line Divestiture Gain”).

• A non-cash impairment charge of $28 million ($17 million after income taxes, or $0.14 per share) relating to a write-down of capitalized software development costs for a general aviation product (the “Impairment Charge”).

Business Acquisitions and Business and Product Line Dispositions

Our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 summarizes the business acquisitions that we completed during the three years ended December 31, 2007. Also see Note 3 to our unaudited condensed consolidated financial statements contained in this quarterly report for a discussion of the business acquisitions and business and product line dispositions that we completed during the 2008 Year-to-Date Period. During the 2008 Year-to-Date Period, we used $224 million of cash to acquire three businesses, increase our ownership interest in a subsidiary, and pay earnouts and remaining contractual purchase prices for certain business acquisitions completed prior to January 1, 2008. We also sold a product line within the Specialized Products segment and recognized a preliminary after-tax gain of approximately $7 million (pre-tax gain of $12 million). Additionally, on October 8, 2008, we sold our 85% ownership interest in our Medical Patients Simulator business, which is within the Specialized Products segment. The sale is expected to result in an after-tax gain of approximately $18 million (pre-tax gain of approximately $29 million). The gain will be recorded in the results of operations for the quarter ended December 31, 2008. The sales price and related estimated gain with respect to this transaction are subject to adjustment based on actual closing net working capital.

All of our business acquisitions are included in our consolidated results of operations from their dates of acquisition. We regularly evaluate potential business acquisitions.

Results of Operations

The following information should be read in conjunction with our unaudited condensed consolidated financial statements contained in this quarterly report. Our results of operations for the periods presented are affected by our business acquisitions. See Note 4 to our audited consolidated financial statements for the year ended December 31, 2007, included in our Annual Report on Form 10-K, for a discussion of our 2007 business acquisitions, and Note 3 to our unaudited condensed consolidated financial statements, included in this report, for a discussion of our business acquisitions and dispositions during the 2008 Year-to-Date Period.

Net sales: For the 2008 Third Quarter, consolidated net sales increased 6% compared to the 2007 Third Quarter driven by continued strong demand for ISR systems, networked communication systems, engineering solution services, base support services and several specialized product areas, including simulation & training, power & control systems and precision engagement. These increases were partially offset by a decrease in linguist services, which is further discussed in the Government Services segment below. The increase in sales from acquired businesses, net of divestitures, was $74 million or 2%. Sales from services increased by $16 million to $1,910 million, representing approximately 52% of consolidated net sales for the 2008 Third Quarter, compared to $1,894 million, or 55% of consolidated net sales for the 2007 Third Quarter. The increase in service sales was primarily due to organic sales growth in ISR systems, engineering solution services, base and aircraft support services, and several areas in the Specialized Products reportable segment. This increase was partially offset by a decrease for linguist services. Sales from products increased by $198 million to $1,752 million, representing approximately 48% of consolidated net sales for the 2008 Third Quarter, compared to $1,554 million, or 45% of consolidated net sales for the 2007 Third Quarter. The increase in product sales was primarily due to growth in C 3 ISR products and several areas in the Specialized Products reportable segment, partially offset by a decrease in aircraft modernization for international customers. See the reportable segment results below for additional discussions of our sales growth.

For the 2008 Year-to-Date Period, consolidated net sales increased 7% compared to the 2007 Year-to-Date Period, driven by continued strong demand for networked communication systems, ISR systems, government services, base and aircraft support services, and several specialized product areas, including power & control systems, microwave products, EO/IR products, precision engagement, and simulation & training. These increases were partially offset by a decrease in linguist services. The increase in sales from acquired businesses, net of divestitures, was $199 million, or 2%. Sales from services increased by $316 million to $5,769 million, representing approximately 53% of consolidated net sales for the 2008 Year-to-Date Period, compared to $5,453 million, or 54% of consolidated net sales for the 2007 Year-to-Date Period. The increase in service sales was primarily due to organic sales growth in C 3 ISR, government services, and base and aircraft support, partially offset by a decrease for linguist services. Sales from products increased by $419 million to $5,121 million, representing approximately 47% of consolidated net sales for the 2008 Year-to-Date Period, compared to $4,702 million, or 46% of consolidated net sales for the 2007 Year-to-Date Period. The increase in product sales was primarily due to growth in several areas in the Specialized Products reportable segment and C 3 ISR products, partially offset by a decrease in aircraft modernization for international customers. See the reportable segment results below for additional discussions of our sales growth.

Operating income and operating margin: The 2008 Third Quarter operating income increased by $29 million to $400 million from $371 million for the 2007 Third Quarter. Operating margin increased by 10 basis points to 10.9% compared to the 2007 Third Quarter. Operating income for the 2008 Nine Months increased by $217 million to $1,269 million from $1,052 million for the 2007 Year-to-Date Period. The Q2 2008 Items increased consolidated operating income by an aggregate $110 million. Excluding the Q2 2008 Items, consolidated operating margin increased by 20 basis points to 10.6% compared to the 2007 Year-to-Date Period. See the reportable segment results below for discussion of our segment operating income and margin results.

Interest expense and other items: Interest expense and other items for the 2008 Third Quarter decreased compared to the same period last year, primarily due to lower interest rates on our outstanding variable rate debt. Interest expense and other items for the 2008 Year-to-Date Period decreased compared to the same period last year primarily due to the reversal of $7 million of accrued interest during the quarter ended June 27, 2008 in connection with the Litigation Gain and lower interest rates on our outstanding variable rate debt.

Effective income tax rate: The effective tax rate for the 2008 Third Quarter increased by 280 basis points compared to the same quarter last year. The increase was primarily due to: (1) a benefit in the 2007 Third Quarter for a reversal of previously accrued amounts related to the 2003 U.S. Federal income tax return that did not recur in the 2008 Third Quarter, and (2) the expiration of the U.S. Federal research and experimentation tax credit (R&E Tax Credit) on December 31, 2007 that was re-enacted on October 3, 2008, which did not affect the 2008 Third Quarter. The effective tax rate for the 2008 Year-to-Date Period compared to the same period last year increased by 200 basis points. The Q2 2008 Items increased the effective tax rate by 30 basis points. The remaining increase was primarily driven by a benefit for the reversal of previously accrued amounts related to the 2002 and 2003 U.S. Federal income tax return that did not recur in the 2008 Year-to-Date Period and the re-enactment of the R&E Tax Credit on October 3, 2008.

Diluted earnings per share and net income: In the 2008 Third Quarter as compared to the 2007 Third Quarter, diluted EPS increased by $0.17 to $1.73 from $1.56, and net income increased by $13 million to $212 million from $199 million. In the 2008 Year-to-Date Period as compared to the 2007 Year-to-Date Period, diluted EPS increased by $1.17 to $5.51 from $4.34, and net income increased by $133 million to $682 million from $549 million. Excluding the Q2 2008 Items, diluted EPS increased $0.60 to $4.94 and net income increased $62 million to $611 million.

Diluted shares outstanding: Diluted shares outstanding for the 2008 Third Quarter and 2008 Year-to-Date Period decreased by 4.3 million shares and 2.7 million shares, respectively, compared to the 2007 Third Quarter and 2007 Year-to-Date Period, respectively. The decrease was primarily due to repurchases of our common stock in connection with our share repurchase program authorized by our Board of Directors, partially offset by additional shares issued in connection with various employee stock-based compensation programs and contributions to employee savings plans made in common stock.

Reportable Segment Results of Operations

The table below presents selected data by reportable segment reconciled to consolidated totals.

C 3 ISR net sales for the 2008 Third Quarter increased by 20% compared to the 2007 Third Quarter primarily due to continued demand and new contracts from the Department of Defense (DoD) resulting in higher sales of $106.5 million primarily for airborne ISR and networked communication systems for manned and unmanned platforms.

C 3 ISR operating income for the 2008 Third Quarter increased by 23% compared to the 2007 Third Quarter primarily because of higher sales volume and higher operating margin. Operating margin increased by 20 basis points. Higher sales volume for networked communication systems and lower development costs for new secure communications products were partially offset by higher costs for international airborne ISR systems.

C 3 ISR net sales for the 2008 Year-to-Date Period increased by 13% compared to the 2007 Year-to-Date Period resulting in higher sales of $212.6 million driven by trends similar to those for the 2008 Third Quarter. Sales growth was lower in the 2008 Year-to-Date Period compared to the 2008 Third Quarter because of lower sales growth during the quarter ended March 28, 2008 due to timing of airborne ISR system deliveries.

C 3 ISR operating income for the 2008 Year-to-Date Period increased by 25% compared to the 2007 Year-to-Date Period primarily because of higher sales volume and higher operating margin. Operating margin increased by 100 basis points due primarily to higher sales volume and improved contract performance for airborne ISR and networked communication systems, and lower development costs for new secure communications products.

Government Services net sales for the 2008 Third Quarter decreased by 6% compared to the 2007 Third Quarter. A decline for linguist services of $124.3 million was partially offset by increases of $42.6 million primarily for engineering solution services to the DoD. The decline in linguist services is due to a decline in L-3’s work share in connection with the transition on June 9, 2008 from an L-3 prime contract to a subcontract following the loss of a previous contract upon re-competition. Total linguist-Iraq sales were $56 million for the 2008 Third Quarter. The increase in net sales from acquired businesses, net of divestitures, was $15.1 million, or 1%.

Government Services operating income for the 2008 Third Quarter decreased by 9% compared to the 2007 Third Quarter primarily because of lower sales and lower operating margin. Operating margin for the 2008 Third Quarter decreased by 40 basis points. Operating margin declined by 60 basis points primarily due to lower sell prices on certain new contracts. A decline in lower margin linguist sales improved operating margin by 10 basis points. Acquired businesses increased operating margin by 10 basis points.

Government Services net sales for the 2008 Year-to-Date Period increased by approximately 1% compared to the 2007 Year-to-Date Period. The increase in net sales from acquired businesses, net of divestitures, was $44.0 million. A decline in sales of $167.9 million for linguist services was largely offset by an increase in sales primarily for the DoD of $144.6 million for engineering solution services, training services, information technology and other support services. Total linguist-Iraq sales for the 2008 Year-to-Date Period were $356 million.

Government Services operating income for the 2008 Year-to-Date Period increased by 6% compared to the 2007 Year-to-Date Period primarily because of higher sales and higher operating margin. Operating margin for the 2008 Year-to-Date Period increased by 50 basis points compared to the 2007 Year-to-Date Period primarily due to higher sales and lower indirect costs as a percentage of sales. Operating margin increased by 10 basis points because of a decline in lower margin linguist sales. These increases were partially offset by approximately $4 million, or 10 basis points, for severance and other costs related to business realignment and consolidation activities.

AM&M net sales for the 2008 Third Quarter increased by 2% compared to the 2007 Third Quarter primarily driven by $30.7 million of higher sales for base and aircraft support services and the Joint Cargo Aircraft (JCA) contract. These increases were partially offset by $21.1 million of lower sales for aircraft modernization for international customers.

AM&M operating income for the 2008 Third Quarter increased by 10% compared to the 2007 Third Quarter primarily because of higher sales volume and higher operating margin. Operating margin for the 2008 Third Quarter compared to the 2007 Third Quarter increased by 90 basis points. Improved contract performance, including delivery incentive fees, increased operating margin by 30 basis points and an adjustment of approximately $3 million to litigation accruals for costs to settle certain claims increased operating margin by 60 basis points.

AM&M net sales for the 2008 Year-to-Date Period increased by 2% compared to the 2007 Year-to-Date Period. The increase was primarily driven by $117.5 million of higher sales for the base and aircraft support services and the JCA contract. These increases were partially offset by lower sales of: (1) $34.0 million for the Canadian Maritime Helicopter program due to previously completed milestones, and (2) $41.0 million for aircraft modernization, primarily to modify C-130 aircraft for international customers and head-of-state aircraft for foreign government customers.

AM&M operating income for the 2008 Year-to-Date Period decreased by 7% compared to the 2007 Year-to-Date Period primarily because of lower operating margin partially offset by higher sales volume. Operating margin for the 2008 Year-to-Date Period compared to the 2007 Year-to-Date Period decreased by 100 basis points. The 2008 Year-to-Date Period includes $10 million of litigation accruals for costs to settle certain claims, which reduced operating margin by 50 basis points. Operating margin for the 2008 Year-to-Date Period compared to the 2007 Year-to-Date Period also declined by another 50 basis points due to change in sales mix, primarily the JCA contract, and lower international sales, partially offset by improved contract performance.

Specialized Products net sales for the 2008 Third Quarter increased by 14% compared to the 2007 Third Quarter reflecting higher sales volume primarily of: (1) $37.4 million for simulation & training due to timing of deliveries, (2) $24.4 million for precision engagement primarily related to new contracts and timing of deliveries on existing contracts, (3) $24.3 million for power & control systems mostly for commercial shipbuilding, (4) $16.0 million primarily for propulsion systems and microwave products due to demand from the U.S. Army, and (5) $15.6 million for EO/IR products primarily due to higher demand and deliveries from existing and follow-on contracts. These increases were partially offset by a decrease of $11.6 million for displays due to timing of contractual deliveries and completed contracts. The increase in net sales from acquired businesses, net of divestitures, was $58.9 million, or 5%.

Specialized Products operating income for the 2008 Third Quarter increased by 14% compared to the 2007 Third Quarter primarily because of higher sales volume. Operating margin for the 2008 Third Quarter was unchanged compared to the 2007 Third Quarter. Contract performance and higher sales across several business areas increased operating margin by 40 basis points and acquired businesses increased operating margin by 40 basis points. These increases were offset by 30 basis points due to an adjustment of $4 million to certain litigation accruals for costs to settle a claim. In addition, a $7 million gain in the 2007 Third Quarter from the settlement of a third party claim that did not recur decreased operating margin by 50 basis points.

Specialized Products net sales for the 2008 Year-to-Date Period increased by 13% compared to the 2007 Year-to-Date Period reflecting higher sales volume primarily of: (1) $106.7 million for power & control systems mostly for commercial shipbuilding, (2) $61.2 million for microwave products due to higher demand and deliveries of mobile communications systems and satellite and space components for the U.S. military, (3) $50.0 million for precision engagement primarily related to new contracts and increased shipments of fuzing products, (4) $44.7 million for EO/IR products primarily due to higher demand and deliveries on existing and follow-on contracts, (5) $39.0 million for simulation & training primarily related to timing of deliveries, and (6) $36.7 million for acoustic undersea warfare products and ocean mapping related to new and existing contracts, and aviation products primarily related to spare parts for the U.S. military and safety avionics systems for general and regional aviation markets. These increases were partially offset by a decrease of $34.1 million for displays due to timing of contractual deliveries and completed contracts. The increase in net sales from acquired businesses, net of divestitures, was $155.4 million, or 5%.

Specialized Products operating income for the 2008 Year-to-Date Period increased by 12% compared to the 2007 Year-to-Date Period primarily because of higher sales volume partially offset by lower operating margins. The 2008 Year-to-Date Period includes a gain of $12 million for the Product Line Divestiture Gain and a $28 million non-cash Impairment Charge. Excluding these two items, operating income was $473.0 million and operating margin increased 20 basis points to 12.1%. Operating margin increased by 60 basis points due to improved contract performance and higher sales across several business areas. These increases were partially offset by 20 basis points due to $6 million of litigation accruals to settle a claim. Additionally, a $7 million gain from the settlement of a claim against a third party in the 2007 Third Quarter that did not recur decreased operating margin by 20 basis points.

Liquidity and Capital Resources

Anticipated Sources of Cash Flow

Our primary source of liquidity is cash flow generated from operations. We also have funds of $957 million available to use under our revolving credit facility, subject to certain conditions as of September 26, 2008. Notwithstanding the recent declines in domestic and foreign equity and fixed income financial markets, severely diminished liquidity and credit availability and global economic uncertainty, we currently believe that our cash from operating activities, together with available borrowings under the revolving credit facility, will be adequate to meet our anticipated requirements for working capital, capital expenditures, defined benefit plan contributions, commitments, contingencies, research and development expenditures, contingent purchase price payments on previous business acquisitions, program and other discretionary investments, interest payments, income tax payments, L-3 Holdings’ dividends and our share repurchase program for the foreseeable future. There can be no assurance, however, that our business will continue to generate cash flow at current levels, or that currently anticipated improvements will be achieved. If we are unable to generate sufficient cash flow from operations to service our debt, we may be required to sell assets, reduce capital expenditures, refinance all or a portion of our existing debt or obtain additional financing and there is no assurance we will be able to do so on a timely basis or on satisfactory terms. Our ability to make scheduled principal payments or to pay interest on or to refinance our indebtedness depends on our future performance and financial results, which, to a certain extent, are subject to general conditions in or affecting the defense industry and to general economic, political, financial, competitive, legislative and regulatory factors beyond our control.

Balance Sheet

Billed receivables increased by $13 million to $1,292 million at September 26, 2008 from $1,279 million at December 31, 2007 primarily due to (1) our sales growth and timing of collections and billings for aircraft modernization and maintenance, microwave products, power & control systems and networked communication systems, and (2) the acquisition of Northrop Grumman’s Electro-Optical Systems (EOS) business. These increases were partially offset by collections primarily for ISR systems and government services.

Contracts in process increased by $170 million to $2,269 million at September 26, 2008 from $2,099 million at December 31, 2007. The increase included $14 million of acquired contracts-in-process balances for business acquisitions and $161 million from:


• Increases of $113 million in unbilled contract receivables primarily due to sales exceeding billings for ISR systems, engineering solution services, aircraft modernization, training services, intelligence solutions, and networked communication systems. These increases were partially offset by lower sales for linguist services; and

• Increases of $48 million in inventoried contract costs across several business areas to support customer demand.

These increases were partially offset by a decrease of $5 million due to foreign currency translation adjustments.

L-3’s receivables days sales outstanding (DSO) was 71 at September 26, 2008, compared with 72 at December 31, 2007 and 71 at September 28, 2007. We calculate our DSO by dividing (1) our aggregate end of period billed receivables and net unbilled contract receivables, by (2) our trailing 12 month sales adjusted, on a pro forma basis, to include sales from business acquisitions that we completed as of the end of the period, multiplied by the number of calendar days in the trailing 12 month period (364 days at September 26, 2008). Our trailing 12 month pro forma sales were $14,819 million at September 26, 2008, $14,042 million at December 31, 2007 and $13,618 million at September 28, 2007.

The increase in inventories was primarily for commercial shipbuilding customers to support demand.

The increase in property, plant and equipment (PP&E) during the 2008 Year-To-Date Period was principally due to capital expenditures and completed business acquisitions, partially offset by depreciation expense. The percentage of depreciation expense to average gross PP&E was 7.8% for the 2008 Year-To-Date Period compared to 8.4% for the 2007 Year-To-Date Period. We did not change any of the depreciation methods or assets estimated useful lives that L-3 uses to calculate its depreciation expense.

Goodwill increased by $111 million to $8,276 million at September 26, 2008 from $8,165 million at December 31, 2007. The net increase in goodwill included: (1) an increase of $143 million for business acquisitions completed and an additional ownership interest acquired during the 2008 Year-to-Date Period, (2) an increase of $9 million for earnouts related to certain business acquisitions completed prior to January 1, 2008, and (3) an increase of $5 million primarily related to final purchase price determinations for certain business acquisitions completed prior to January 1, 2008. These increases were partially offset by decreases of $43 million for foreign currency translation adjustments and $3 million related to the completion of the final estimate of the fair value of assets acquired and liabilities assumed for certain business acquisitions completed prior to January 1, 2008.

The increase in other assets was primarily due to investments in equipment in connection with a sales type lease for simulation & training and equity investments, partially offset by the Impairment Charge recorded in the second quarter of 2008 related to a write-down of capitalized software development costs.

The increases in accounts payable and accrued expenses were primarily due to the timing of payments and invoices received for purchases from third-party vendors and subcontractors. The increase in advance payments and billings in excess of costs incurred was primarily due to advance payments received on contracts for ISR systems and government services. Other current liabilities decreased primarily due to the reversal of a current liability in connection with the Litigation Gain. Non-current deferred income tax liabilities increased primarily due to tax amortization of certain goodwill and other identifiable intangible assets.

The increase in pension and postretirement benefit plan liabilities was primarily due to pension expenses exceeding pension cash contributions during the 2008 Year-to-Date Period. The obligations for our pension plans and postretirement benefit plans as of December 31, 2008 and the related annual costs of employee benefits for 2009 will be calculated based on several factors, including discount rate assumptions for employee benefit liabilities and actual rates of return on plan assets. Changes in the discount rate assumptions for the year ended December 31, 2008 and differences between the 2008 actual and expected rates of return on plan assets, if significant, can materially affect the benefit obligations at December 31, 2008 and the amount of annual net periodic benefit costs recognized in our results of operations for 2009. We will determine these factors as of December 31, 2008. Recent declines in domestic and foreign equity and fixed income financial markets and changes in the credit markets have negatively affected the year-to-date actual return on our pension plan assets, and may also lead to an increased discount rate that we expect to use to determine our benefit obligations at December 31, 2008 and net periodic benefit costs to be recognized during 2009. As a consequence, we are currently evaluating the amount of our pension funding for the remainder of 2008. We contributed cash of $46 million to our pension plans and $7 million to our postretirement benefit plans during the year-to-date period ended September 26, 2008. For the year ending December 31, 2008, we initially planned to contribute cash of approximately $65 million to our pension plans, and approximately $12 million to our postretirement benefit plans. However, because of the recent declines described above, we will likely increase our 2008 pension funding by at least $100 million and possibly up to $200 million. A change in financial and credit market conditions by December 31, 2008 may change our initial 2008 pension funding plans, and may lead us to increase or decrease the amount of expected funding. Postretirement benefit plan funding for 2008 is not expected to change.

CONF CALL

Karen Tripp

Good morning, everyone, and welcome to the L-3 third quarter conference call. With us today are Michael Strianese, Chairman, President and Chief Executive Officer; and Ralph D'Ambrosio, Vice President and Chief Financial Officer. As always, after our formal presentation, we will be available to take your questions.

During this call, management will reiterate forward-looking statements that were made in the press release we issued this morning. Please refer to this press release as well as our SEC filings for a more detailed description of the factors that may cause actual results to differ materially from those anticipated.

Please note that this call will be simultaneously broadcast live over the internet.

I will now turn the call over to our Chairman, President and Chief Executive Officer, Mr. Michael Strianese.

Michael Strianese

Good morning, everyone. Thanks for joining us for our third quarter call. Let me hit the highlights of some of our results. I am sure you've all seen them. Overall, we had another strong quarter in Q3.

Funded orders for the third consecutive quarter this year topped $4 billion, and we're very happy with that performance. Our book-to-bill for the quarter was 1.08, again, orders outrunning sales by about 8%. Funded backlog increased to $11.3 billion. That's an 18% increase from December 31, '07. It's giving us some nice visibility into 2009.

Sales for the quarter were about $3.7 billion, which is approximately 6% growth. Our earnings per share grew at 11% to $1.73. Margins were up by 10 basis points to 10.9%, and our free cash flow was $340 million. That's a 17% increase from the third quarter of 2007.

These results are the result of the efforts of a lot of people, so let us thank our employees for their hard work and the Group presidents for their leadership for the great performance this quarter.

We had a number of new wins during the quarter as well as follow-on business. But just to touch quickly on some of the segment results: for the ISR Group, the book-to-bill ratio for the quarter was 1.17, with total sales growth of over 20%. And that just demonstrates the continued strength in the ISR segment with the requirements for consistent surveillance that has just been going on unabated in terms of network security, network sensors and streaming video. We're seeing continued demand in that area.

Our government services had a book-to-bill of 1.09 for the quarter and sales decline of 6%. Of course, that's driven by the Linguist program that was lost and had transitioned to a subcontract earlier this spring. If you strip out the effect of that decline from Linguist, the rest of the government services segment grew at 5.4%.

Aircraft Maintenance and Modernization had a book-to-bill of just under 0.9. It was a little bit softer there than we would have liked. Nevertheless, the sales growth was about 1.6%. We had very low sales in the quarter related to the JCA program due to its completion for the first two deliveries. But again, there is additional funding for seven more Army aircraft in the budget. So, that will pick up next year, and in addition, when you consider that the services applying the oldest fleet of airplanes in the U.S. history, we're optimistic of future growth prospects in that segment.

Specialized Products grew. First of all, the book-to-bill is 1.12 for the quarter, and the overall sales growth was 13.8%. There were a couple of acquisitions in the result. Organically, it was up about 8.3%. And if you look at the total, again all adjusted for Linguist, just because it was such a significant item, the overall sales growth number was 6.2. Linguist was about just under a 4% headwind on that number. So, the overall growth of the rest of the business, but for Linguist, was slightly north of 10% actually.

In terms of follow-on orders, it was really pretty strong across the board, but especially in the ISR segment, in the areas such as the Rivet Joint program, Systems for QAVs, our Rover product, logistics work for Big Safari, our classified work in the ISR space, C3 program. In addition, in services, you have support in Afghanistan. In the products side, additional funding on Bradley transmissions, EO/IR turrets, even an uptick from the TSA for examiner service work.

Our ship marine business has been benefiting from a strong commercial shipbuilding market so far. So, their orders have been increased also over the quarter, particularly driven by our SAM Electronics business in Germany; and just overall strong performance in orders.

In terms of recompetes, we had two major ones we were tracking with you. One of them was the Contract Field Teams, and as you know, we were selected as a winner in that competition. However, there is competition for each of the task orders, and we last week notified that we did win the task order for Southwest Asia, which is the largest task of the task orders under that program. It runs about $250 million for the year in sales force. So, we're happy to have that one behind us.

Last of the recompetes for this year is JOG, and that's a sole source contract with SOCOM. Our bid was submitted on October 1st. The current contract ceiling was about $2.1 billion with annual sales for L-3 approaching $400 million. The new contract that we have bid on, the recompete, is worth about $5 billion over 10 years. So that's a big one. It should be awarded by the end of the year or early in the first quarter.

On the Joint Cargo Aircraft program, as we've been saying, we planned to deliver on time and indeed we did on September 25th. And we have a very happy customer and just a great job by the entire team, especially the folks at Alenia who worked 24/7 for most of the summer on getting these airplanes ready. JCA Number 2 is in the facility Waco. We were there last week, and that will be delivered on time in November as well.

As I mentioned, the fiscal '09 DoD budget includes funding for seven additional Army JCAs. Some of the Air Force funding for the program was in and out of the budget. You may have seen that. But at the end of the day, R&D was included and the Air Force is continuing to work the hill as far as we know.

You're heard about a program called Project Liberty. It's some ISR assets. And there is a limited amount I can tell you about it because of customer sensitivities and the like. But L-3 along with a number of other contractors is participating in efforts to augment the airborne ISR Surge capability of the Air Force to the forward-role fighter.

The primary capability is to provide more coverage for streaming video to U.S. ground forces in Afghanistan and Iraq. Several Beechcraft King Air 350s are being modified to provide that capability. In addition to the aircraft modifications, L-3 is working through multiple vendors to provide contract field support for maintenance, repairs, and logistics in both the U.S. and overseas locations. The order flow on that program is approximately $200 million this year, and we're looking at $300 million next year.

In terms of new program starts, there are several of them. Some of them have been slowed down like the tanker program. But the point I'd like to make is the whether it's BAM, Aerial Common Sensor, the EPX, JLTV or the tanker, the KCX, L-3 has positions on all teams, in some cases, multiple teams for our products and/or integration work. And I think we're well positioned on all those programs.

We continue to work with our business units to get more synergies through more collaborative work on programs as well as more consolidation of operations, and that continues to drive forward. You can see some of the increase in margin over the year in the government services segment for one.

In terms of capital deployment, as I mentioned earlier, we generated almost $900 million of free cash flow through the third quarter. As for the deployment of that cash, to date we've repurchased $688 million of our stock, 73 of that was acquired during the third quarter.

We expect to complete the current authorization, which was $750 million this year, which is again ahead of schedule, it was a two year authorization. And again we'll ask our Board to approve a new authorization.

As far as acquisitions, year-to-date we acquired four companies for just under $200 million. We continue to evaluate several other companies. We are being cautious however, on valuations due to the declining multiples for different assets. We closed the quarter with over 850 million of cash in an unused revolver of 950 million approximately, and expect to complete the year with over $1 billion of cash.

We might make a few more acquisitions by the end of the year, but they are likely to be small ones. I think in terms of balance sheet and liquidity, we believe we are in good shape, and that maintaining our good performance and giving us financial flexibility going forward will pay off through attractive acquisition opportunities.

During the quarter, we also completed a divestiture that we will report in Q4. It happened at the beginning of October, and that was the medical patients' simulator business that we had an 85% interest in. It had about $60 million of annual sales, it was consolidated. Proceeds from the sale before taxes were 53 million and generated a $29 million pre-tax gain, which we will report in the fourth quarter.

We don't expect any further divestiture this year, although we are working with several other business units and potential buyers; so possibly more in the first or second quarter of next year.

In terms of our outlook, we updated our 2008 guidance today, increasing our EPS. We are expecting 14.7 billion in sales for 2008, with earnings per share reaching $6.75 excluding the unusual items, and free cash flow remains at $1.2 billion.

Sales growth for the year; if we take the Linguist program out, it should be about 8%. Ralph's going to give you more details on the 2008 guidance in about a minute or two.

Geopolitically, it's a situation that, while Iraq seems to be improving due to the surge, we are hearing good news; Afghanistan we hear is deteriorating daily, when you take into account other areas such as Iran, Pakistan, which seems to be moving backwards or sideways. North Korea, while manageable, is a bit unstable.

The most important thing, I guess, that happened over the past several months is some of the issues with Russia, which seems to be reasserting its relevance and the question there is the end game. It was the military exercises that have really been unprecedented in the last couple of weeks, including the firings of Kruse missiles, which hasn’t been done for 25 years. And we do not have to talk too much about Venezuela. We know there are some Russian ships down in the Caribbean. And China is always a challenge whether it's in the area of space or cyber.

Point is that, with the election coming, we don't hear either candidate really talking about substantial or actually any reductions in defense spending. In fact both are talking about a strong National Security policy. And for those reasons we think that the budget should remain pretty stable going forward.

I think that everybody has seen the numbers. But the '09 budget was approved at $488 billion, supplemental funding so far of 66 billion has been approved with an additional expected. I think all of L-3's will continue to grow that we've been growing at.

Iraq drawdown won't be an issue until post-election. One candidate wants to do it a little faster than another. But at the end of the day there will be offset I think with Afghanistan, and again as I've been saying consistently, it's unclear as to the impact on the business model, because we're not assuming there's a pro rata drawdown with the people we have in countries. So that's kind of a wildcard I think for everybody, but I don't think anything is going to happen very quickly in any event.

As you know, we will have an investor conference here in New York in a couple of weeks, just about two week on November 13th. We intend to provide comprehensive guidance to 2009, and we'll have our Group Presidents available for your questions, as we always have.

As you also know there are some non-operating headwinds, as everybody calls it, for next year and notably pensions. So we know there'll be an increase next year. But I could tell you that in terms of the 2009 EPS growth, we are expecting to continue to achieve our objective of double-digit growth; that is at least 10% over 2008 guidance of 675 excluding the unusual items.

To be sure, depending on how the year looks like it's going to close, Ralph's going to give you more details on pension. In all likelihood, we will pre-fund the contributions in the fourth quarter, so it will probably give a lift to 2009 cash flow.

In addition, we're working with our actuaries and tax folks to determine the optimum amount of fund. We may fund a little more in December. That will offset some of that headwind. So, fortunately, a good cash performance gives us some options on how we will deal with the pension issue.

So, with that, I think I'd like to turn it over to Ralph to give you some more financial details, and then we'll take your questions. Go ahead, Ralph.

Ralph D'Ambrosio

Okay. Thank you, Mike. I'll comment on some key points about the Q3 results, the balance sheet, the changes to our 2008 guidance, and then a quick look at how the next year looks.

As Mike said, EPS grew 11% to $1.73. That growth was driven by an 8% increase in operating income and a 3% reduction in diluted shares. Lower net interest expense offset a higher tax rate in the quarter. And the operating income increase was driven by both sales growth, which was 6%, and 10 basis points of improvement in operating margin.

On the sales, as Mike said, we had the highest organic growth in the C3ISR segment, which was 20%. That was driven by continued strong demand for network, communications systems, airborne ISR systems and classified work. We expect that growth rate in C3ISR to slow down in Q4. We will have a very tough comparison in Q4.

If you recall, in Q4 of 2007, we had unusually high special aircraft deliveries, with about $80 million happening in December of '07 that we had anticipated to happen in January of '08. So, that's going to impact the Q4 '08 growth rate in that segment.

Specialized products grew 14%. Organic growth was 9%. It was led by simulation and training, EO/IR, power and control systems, precision engagement and propulsion systems. M&A growth in that segment was 5%. The Aircraft Modernization and Maintenance segment grew 2% organically. And what's happening there is that the lower aircraft mod sales continue to reduce the growth rate. We're expecting growth to increase in Q4 because of higher sales on JCA, and they support services.

And Mike talked about the impact on Linguist in the Government Services segment. Linguist was down $130 million compared to last year. And we'll have a similar sales headwind in Government Services in Q4 because of Linguist. It could be down by about $150 million.

On operating margins, they improved 10 basis points on a consolidated basis. C3ISR improved 20 basis points to 9.2%. The improvement there came from higher sales and lower development costs for secure comm products. And together, those improvements offset $9 million of cost growth on international airborne ISR systems, which we were not expecting to incur.

In Aircraft Modernization and Maintenance, the margin was up significantly. We had some early delivery incentive fees in Q3 and we also had a $3 million favorable litigation accrual reversal for a settlement of a claim.

In specialized products, we had a negative for a litigation cost settlement increase of $4 million which offset operational improvements. And in Government Services, margins declined 40 basis points to 9.5%. We're seeing some more price competition in that segment on certain contracts.

Moving on to cash flow, we had a very good Q3 with free cash flow of $340 million. That represented 1.6 times of net income. Increases in receivables and inventories were pretty much fully offset by a $59 million increase in advances, and we expect to liquidate most of those Q3 advances next year.

Cash tax payments were $71 million Q3 of this year versus $49 million in Q3 of 2007. CapEx increased by $29 million to $63 million, and we also expect to have slightly higher CapEx in Q4. We're making some investments for the ISR Surge.

On pension funding, we funded $23 million in Q3. Our guidance assumes $65 million for the full year. But as Mike commented, we will likely increase pension funding in Q4 by at least $100 million, possibly $200 million. And if we do that, we'll end up reducing the '08 free cash flow guidance by about $100 million or a little bit more.

On the balance sheet, our debt was unchanged at $4.5 billion. And our leverage, at least as far as calculated for the banks, was 2.2 times at the end of September. As Mike said, we believe we have a strong liquidity position with our cash balance and our unused revolver of nearly $1 billion. And we're happy to report that at this time, we have no near-term needs for external capital.

If you want to take a look at our debt maturities; the first one occurs in March of 2010, when our senior credit facilities, including the 600 million of term loans and revolver matures. We expect to refinance them in the first quarter of 2010.

The second possible debt maturity will occur on February 1, 2011. And that's with our 700 million of convertible debt. On that day, holders of those notes can exercise a put option, requiring L-3 to repurchase the notes for 100% at par. And beyond that, our subordinated notes will begin maturing not until June of 2012.

So generally, we expect credit market conditions to continue to improve, and certainly by the time those maturities begin happening a few years out.

In terms of the 2008 financial guidance, we kept sales unchanged at, at least $14.7 billion. We're expecting a little more sales on Linguist for about $20 million, but that's going to be largely offset by lower sales from the business that we divested earlier this month.

On EPS we dropped a low-end of our previous range and kept the high-end at 675. That excludes the unusual items that Mike talked about. If you look at what's happening with EPS; number one, a lower share count is going to add about $0.02. We had some operational improvements offsetting the 9 million of cost growth in C3ISR, and that's adding about $0.02. And then the divestiture of that medical business subtracts about a penny.

Operating margin remains at 10.7%. The full year tax rate is now at 36.4%. It includes the federal R&E tax credit, which was reenacted on October 3rd. And if you recall, we had been assuming that it would be reenacted all along in our 2008 guidance. So what will happen is that our tax rate is going to drop in Q4 to about a 35.5%.

The free cash flow guidance is 1.2 billion, but that of course, assumes that we make no additional pension pre-funding or contributions and we likely will.

On Q4 of this year, we didn't provide any guidance in the earnings release. But if you look at our full year guidance, you can back into the fact that we're expecting sales to be at least 3.8 billion, with EPS of about $1.80 and free cash flow before the additional pension funding should be around $300 million.

Moving on to the outlook for 2009; we will formally provide our initial 2009 guidance at the November 13th investor conference. That said, I'll give you a quick look at 2009 sales and EPS growth.

On sales, we expect that our '09 guidance range will be in the 5% to 7% growth area. And that's after absorbing a $300 million or 2% sales decline on the Linguist contract and the CST contract '09 versus '08. Also as of right now, we expect that acquisition growth will be offset almost 100% by sales from this year's divestitures. So the '09 growth is all organic, that I'm talking about.

On earnings per share, as of today, as Mike said, we expect that our initial guidance range for next year will include 10% nominal EPS growth. And if you remove or exclude a 2009 pension expense increase that we will have as well as the impact of some accounting rule changes, the 10% nominal growth rate in EPS translates to about 15% underlying EPS growth.

On pension expense, to give you a little more detail, we do not smooth asset returns, and therefore the negative 2008 pension returns will immediately affect 2009. And depending on how the asset pension returns finally end for this year; and we won't know until December 31st, we are confident that we have a strong cash position available to us and the ability to deploy excess cash to offset the pension headwind.

There are two accounting rule changes that are going to impact next year. And they've both become effective on January 1st, 2009. While they are both non-cash items, they'll reduce 2009 EPS by $0.15. One of the changes effects on convertible debt and it will require us to record about 20 million of non-cash interest expense, which lowers EPS by $0.10. And the second accounting rule change affects the way companies account for restricted stock that pays dividends during divesting periods.

And what happens there is that we'll have to treat them as fully outstanding shares on a day of grant and that's going to reduce our EPS next year by about $0.05. Both accounting rules will be applied retroactively, so the back to years will be restated beginning in Q1, 2009.

And overall, we believe next year will be another good year of growth of L-3 and I look forward to giving you more details on 2009 at the Investor Conference.

That concludes my comments, and I'll turn it back to you, Mike. Thank you.

Karen Tripp

We're ready to proceed with questions now.

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