Hello, everyone. Good morning. Its great to see a Beautiful Day and such a beautiful place in a very important time for many, many reasons. But we here today to talk about the challenges that the Defense Industry and our Government Faces as a result of the pressure from wall street. How does that Quarterly Earnings report affect the ability of our government to innovate and protect us . If the big question, its an important question with lots of ramifications for years to come. Here to discuss this and attack this problem, we have mr. Michael leskinen, executive director, aerospace and defense, jpmorgan. He is the wall street guy thats basically demanding all these things so you have some good insight for us. We have mr. Raj shah, managing director, diux. Hes part of the entity, 200 million from the government had out in Silicon Valley to go out and acquire new technologies and find the need is, coolest things on the horizon that can really help us. We had the secretary of the navy, honorable Richard Spencer right here next to me. And we have mr. Michael strianese, chairman and ceo of l3 technology is also looking for a lot of this technology that he can then present to the secretary to see what it is that can best protect us. Im going to take it off, well have a conversation and what remind you all to jump into the conversation, you can do that online through the rndf mobile app anyone watching at home if you have any questions just submit them to us on twitter, and will be watching for all of those, twitter at hashtag rndf for anybody whos watching online or on fox business now. So lets kick it off. First michael, tell us about what it is that you want from an investors standpoint from these companies, like michaels, what is it that you want, what is its unique and what do your investors since expect. Was for some of what he thank you for being here. Its a real privilege to be with this distinctive so thank you for that. The topic of putting more money into the business is something that the are doing more of come youre seeing more i read. As an investor, there are tradeoffs. I can take a dip in. I can for a buyback with the companies can invest, invest in the business. For me to want to allocate my shareholders money to companies that are investing, i need to see three things. I need to see stable budgets. Thats not necessarily ten or 20 higher budgets but stable budgets that can be planned on. China has a fiveyear plan. You can plan for five years. I need to see that. I need to see companies be disproportionately rewarded for taking risk versus for taking a low risk in production programs. That should be a lower fee versus programs that you may innovate, spend irad and then you dont when the production phase. That does not instant investment and i would rather see dividend buyback if thats the case. Thirdly, i think important from the department standpoint is you want to see companies rewarded for past performance and vice versa. So if your are on a tanker or an Aircraft Program and you do not deliver on time and on budget, that should have an impact on how likely are to win the next program. When i i look at how programs e awarded that doesnt happen today. So those are the three pieces i would focus on. Mr. Secretary, when you hear this and you know theres this pressure from investors like michael and all of wall street they want the most out of these companies, how do you think about in terms of making sure youre getting the most in terms of the most Innovative Technology that is out there . It fascinating having come from wall street, everyone is saying old friends are calling up and sing whats it like to work inside the pentagon . And if you look at the job of the secretary of the navy man, equip, training deliver, a title x hat adaware is running a business. I have a budget, i deploy funds. I get the equipment. I delivered to the combatant commanders. It is imperative for me to be a responsible consumer, a responsible client. The word that we are putting out right now, and this starts from the top on down through, we want to erase the whiteboard and get away from transactional relationships in the general sense and really Welcome Partnership with the Industrial Base. What do i mean by partnership . What i mean is shared risk, should benefit. We want to make sure that we are taking risks and at risk are being shared. The government shouldnt take 90 of the risk and leave 10 . Has to be distributed. Its incumbent on us to send that signal out to the Industrial Base. Norm augustine told the ones stop writing about Industrial Base what is doing to the pentagon. They are simply mirroring the system that you have. And its human nature. Its true. We have to change that and were looking forward to opening the doors for this relationship concepts. We have a relationship now but to strengthen it because i dont have enough the funds that a need for the requirements that are being heaped on me. I need to increase my capabilities, and every single aspect why do business and the only way i can do that is by working in partnership with the Industrial Base, and in that line that sends a trickle down to michael is going to make the investment appropriate because capital is the universal lubricant for my business, in order for my suppliers and my supply chain to function correctly. You are caught in the middle because you have michael who is demanding those Quarterly Earnings. You have a client that wants the best technology for the future so how are you fixing that . There is the dilemma. We are a Public Company subject to the Competitive Pressures of Capital Markets. We have our customers which we care about that new technology and need investment. We have our shareholders that would like the market return. Were not the only industry you can invest in. There are other industries that im sure raj sees everyday on the west coast that produce returns way greater than the Defense Industry, but we are an industry known for being predictable over the longterm generating reasonably good returns. However i think as return of the past decade of shrieking flat budgets its been difficult for many of the companies in the industry to make Investment Decisions that work for the long term because of the lack of certainty whether there would be a program, how long it will take, whether not to get the money back, whether it will be terminated. You run into problems and you get a nasty call from that guy, or even worse 11 activist show up. Ive had the personal pleasure of dealing with that. For truly we are here and they are not. Im not happy to say that, but its a dicey environment. We want to keep our customers and our war fighters the best fighting force the world has ever seen. The u. S. Military has always had a substantial technology advantage, and i think with a bit of a deficit that is occurred over the past decade that needs to be brought back. We need to be again competitive within the Capital Markets so we are viewed as an attractive place to invest. Its a balancing act. For sure. I want to circle back to that because i think activist investors are very march very much a new phenomena in the last ten years, lease the extent to which their operating. That makes it challenging for any business that ads on a whole other lit when talking about the Defense Industry because its so relevant to you, mr. Secretary, and to all of us in keeping us safe. Before i do that i want to go to raj for a moment because youre part of what the government is trying to do to discover these new technologies before l3 does or before wall street does. Tell about your process and what youre doing. Thank you for the invitation to be here as the department of defenses representative out in the valley. Its great to be on the wall street panel. You know, the nature of warfare is changing and its being driven by technologies Whose Development being led in the commercial sector. There are sloughs of the startups, Tech Companies that are Building Technology for the own commercial market that are going to play a major role in the defense of our nation and on the battlefield. The pentagon used to be a monopoly buyer, buying the stuff ourselves. That world is changing and has a lot of implications for us. One, these companies are going to build this technology whether or not we participate or not. I think about Artificial Intelligence and autonomy, how it is disrupting the financial markets, disrupting technology companies. Its embedded in all the phones that you and your pockets right now. You have realtime translation of any language. That didnt exist five years ago. The world of self driving cars on the way. All these things have military implications. Because, two things, one is, tech is moving so fast, and two, it is accessible to our adversaries but we dont have exclusive rights to them. Whats most important is its not necessarily just the protection of that technology, its how fast we can ingest and incorporate that into the hands of our men and women on the battlefield. I think were seeing a slew of Different Things that are really interesting. We are seeing the use of drones, commercial low cost of drones by our adversaries, some noted cases of isis and others taking a hobbyist drone and putting a grenade onto it and impacting our troops are we have to think about our approach. I think the last time there was a discussion about how much dating we collect of overhead imagery, we do. We can have humans looking at the screens. So thats another piece of Critical Technology and we can talk more about it but the good news is that the Capital Markets, even in earlystage Capital Markets, are beginning to look to department problems as one they want to solve and invest in. Mr. Secretary, how has investment in technology changed over the last several decades . When you think about the military it feels like there was a time in history where we report all kinds of resources into defense, and we backed off that and i think defense has had a change of many ways, including military because much of this now is outsourced. That may be far more efficient but walk us through that change and the current state of things now. Its very interesting, trish, if you look back to the days when darpa was new and you really had the department of defense leaving innovation, literally between nasa and dod. They were probably the biggest innovators back in the 50s, 60s and 70s. Commercial world hot up. The last ten, 15 years you look at whats happened to us on a budgeting cycle for the dod specifically, and the requirements, the tasks we have received to do our job. We no longer had the money to make those investments. It naturally trickled away. If i was to look back over the last ten years, and i just talked about the responsibilitt i have of being a good client to my suppliers and my supply chain, we have obviously, i wont say we have set a failed signal. We sent the signal we are not investing because you have the primes in the largest stock buyback and dividends, and thats because they dont find any opportunities that were giving them to invest in on a Business Case basis. So bad on us for not crafting a good enough message, more importantly bad on us for not having a sustainable source of resources to signal to the marketplace that were in this for the long run so they can afford to invest the dollars to make the returns so michael invest in their companies. Its a true relationship. Its symbiotic, and i dont know if it was truly understood inside the building. The responsible of being a good client, to be very frank with you. Michael, at l3 you want the best most Cutting Edge Technology to show to your client but how do you do that in an environment that is so driven by a bottom line . How critical is knowing that your client is going to be there in support of the projects that you are investing in in terms of your overall portfolio . We are very confident our client will still be there. The question is, will the Congress Fund our client . We like all companies have invested. We went into the public is an urgent requirement because of a deployment or whatever the case may be, a new thread is identified and you need to move forward as they say and invest it a new technology or a new system that can counter, you know, keep our men and women in uniform safe. Making those decisions have become a little more challenging when the funding is not as clear. So unlike our adversaries, whether its russia or china who have state run industries that can they can do anything they want without, they can act a lot faster if we dont make anything in the pentagon as you know. There are not tanks and ships going out the back door. It comes of in industry and toe from us. We need a tighter relationship in terms of the budget certainties, and things that give us the confidence Going Forward a little more, not run into problems with our investors. I can put a point on that which i dont know how many of you in the room have really paid attention to this, but the budget control act, sequestration and the caps, i was asked isamu board of directors allmale to ask what that has cost the navy. The last nine crs have cost the navy, in the neighborhood of 4 billion. Thats not opportunity lost. Thats putting 4 billion in a trashcan, putting lighter fluid on it and burning it. Thats exactly, this is the symbiotic relationship we have to have with the Industrial Base. Thats a tough environment to work in when we think we can turn a switch on and off to build a ship or to fund a project. The whipsaw effect let alone what happened to the pentagon delivery schedule and cost of dollars, it trickles down to our supply chain and our suppliers. In a magnified manner. If i might expand on that. The returns of the Defense Industry very good. This is a great business. Its not a question of not investing in a because of their current returns. Its a question of if i invested it is a going to drive more revenue in the future and with sequestration you dont get there. With oco funding requirement you dont get there. Thats the hesitancy to invest. You said mike is in the middle between customer and investor and thats not exactly true because we are outlined. The business is good. If i see Revenue Growth driven by irad im going to support investment all day long. And the second point i would make is on development, on new programs. And for a company like l3, if the acquisitions rules. Are you out there in competition finding these new technologies. And you would have to acquire them because i would think its cheaper to acquire them than to put capital expense into something and know know whether its going to pan out or not. True, and i think that either theres interest or more expensive. But, you know, i would say just for discussion, follow the money the past several years, this industry has plowed tens of billions of dollars into purchases. Why . Because we had a certain return. Its risk free and that has the defensive earnings. It wasnt in technology, it wasnt in future production, very simple, that was the only place to go during a number of years when the budget was contracting and shrinking, you know, and looking forward to a smaller pie for the next year and theres not a lot to think about that if you wanted to sustain your company and operate in the capital market. Thats what weve seen with this coming at the end of this cycle because weve shifted back from, you know, predominantly repurchases to acquisitions and r d and bought a couple of companies the last couple of years and invested in areas that are not quite funded yet like undersea vehicles. But we have enough confidence our clients are going to get there. Michael hits the nail on the head. One of the things, weve been nibbling around the edge for reform for acquisition policy. The funny store when i was spooling up for confirmation, i got a briefing on the acquisition instruction, instruction 5000 and had two generals and two admirals briefing me and at the end of the table was, you know, marine corps captain and a Navy Lieutenant marine corps captain and i loved speaking to the Junior Officers and theyre through. And what do you two think about the acquisition program, instruction 5000 and the Navy Lieutenant chins it over to the marine and the marine kind of looks down and says, well, sir, if it was up to me id stamp top secret on instruction 5000 and leave it on the Chinese Embassy steps and they adopt it and we win. [laughter] very good. That kind of sums it up. So we actually have to get after this. Were doing great things like wciux and we have cells, fast buy cells, we have to make sure it inpregnantnates the whole organization because we are our own worst enemies in some cases. We sit here and from my point of view, we say we need this, need this top line, need, need, need. We do, but we also need to do work inside the building and make sure we spend your treasures the best way we can and we have to have the tools to do that. Industry is ready. As i referenced earlier with norm augustines statement, if we change the process, industry will adapt to that process and we have to go back to where we both share risk and share returns. And id like to actually address that and hit on the last comment about the partnership between the commercial sector and industry, you know . Commercial technology and businesses, underpins both the hard and soft power of this nation. I dont think theres any daylight, shouldnt be any daylight between the innovation and economy that weve seen crop up over the last decade or two, and our important partners in the Industrial Base. To be more specific, you have Young Companies that take high levels of risk, High Technology risks that are backed by Venture Capitalists that understand that risk, but when they find something that works, a particular type of technology and then we want to bring it to scale. And the department 3 million people, the Largest Organization in the world, if you want to bring it to scale, this is where our Industrial Partners are absolutely vital. They understand the process and they have the relationships and they know how to work in austere classified locations and so, you know, what weve seen from our Vantage Point is the most successful efforts are taking our best Young Companies, emerging technologies and fusing them with our Industrial Partners to say, you know, lets bring the strength of both together and we can do it in a timeline thats much, much faster. Michael, in terms of where the companies are trading, i think that, you know, in part the surprise over the election caused a lot of upside in Defense Companies that wasnt necessarily built in. So, the sector, as youve pointed out is doing extremely well. Where do you see it heading over the next six to 12 months, the p. E. Ratio sort of overall for the sector, what the valuation is where it goes or where it can go . Id like everyone in the room to buy j. P. Morgans funds no, look, the sector is valued at top 5 percentile of where it has been historically on a relative basis and so to see the multiple expand from here is tough. But to see contract, i think is unlikely as well because the cash profile with business is strong. The budgets have turned, the degree to how much they have turned is still in question, but were headed up from here. And the returns are stable. And so thats a very nice setup in a relatively slow growth world in a very attractive industry so i think thats i think that thats stable and that you see Earnings Growth drive, Stock Performance from here. Id like to see the players that are investing irad, as an american, id like to see the customers that are investing in irad get a disproportionate part of the topline growth. And that would be from the topline growth and thats what the department would like to see. An opportunity, talking about partnering, its a commercial analog. When you think about partnering for success, some in the industry says that boeing has gone too far with that, but the dod could adopt it and that is, on key programs, legacy programs like the 737 and the triple 7, there are contracts in place for boeing to deal with flyers, spirit air systems, ut or honeymowell. Theyve been trying to drive costs out and so what boeing has come up with, partnering for success, okay, we know contractually you can charge us x for this piece of landing gear and we cant outsource it to someone else, so this is a monopoly like what we see with the primes in many cases in dod. But if you work with us on this program and when we come out with the next airplane and do the next middle market aircraft or do a next variance of the 787 youll get business with us because youre working with us, partnering with us and that requires Program Managers to work across programs at a higher level and thats something that i think is low hanging fruit for the department to do, and here is where were going to have to change our acquisition parameters. One of the most fascinating things that ive had to do so far is the pa program which is new navy, antisub. Its a 737. And if you look at what goes on with the 737 on the commercial side, and now were a military buyer, you almost think were built commercial off the shelf, its not quite there, but its pretty close, and you look at exactly what michael is talking about, and boeing has a service, boeing commercial services where 24 hours the plane doesnt remain on the ground more than 24 hours. They dispatch the parts, et cetera. And i was saying, why didnt we sign up, why cant we take the mindset that were buying readiness. I dont care i dont want to actually own parts in the bin. I want to buy readiness so im buying 99 up. How the supply chain gets it there and dos it, thats the value they provide me and thats what i compensate them for. We couldnt use that system because there was no way for us to validate what a true price was. Because of the way that boeing handled it which was not their fault. Thats the way the commercial world looks at it. So, to adopt some of these programs, which are low hanging fruit, were going to have to really change the way that we do business. Michael, what do you think some of the most exciting technologies are that you have in your pipeline in terms of whats on the horizon and how does that get presented to the secretary . Well, we have regular dialog with the secretary and the staff, but weve invested this year in undersea vehicles, including muchneeded propulsion that does not rely on lithium ion batteries. We dont want lithium ion batteries on our ships and subs and come up with something else, and we have. Wed love to demo it shortly. In fact, i think the navy has witnessed a couple of demonstrations and is encouraged by the progress that weve made. Thats one example. Another example, where we saw a problem that needed solving is the congestion in the airport, going through the check points, something Everybody Loves to hate. Indeed. And when people dont recognize who l3 is, they have to do this and they know who we are when we go through the airport. And weve invested in a number of companies that have technology or weve developed it on our own where the traveler does not have to divest liquid from their commuter because the machine will identify an Energy Material or not. And and the hope is that well get the lines moving faster and the public will be safer and well get some enjoyment back in our vacation travel, but thats a tall order. But wed all appreciate it for sure. So walk me through the process. Are you, mr. Secretary, saying, this is our problem. Michael, can you solve it . Or are you, michael, saying, hey, im seeing this and that and this and this and this on the horizon, maybe makes more sense for the navy. More of the former than the latter. We have to shift that. Our primary job as defined is provide the requirements to the Industrial Base of what our problems is, what the problem set is and say, okay, you guys go back, spitball, do your r ann r d and come back with a solution. We have to be out there with a periscope looking around, going, here are atypical or nonstandard developments that are out there in the marketplace that we wouldnt see normally through our traditional supply base or suppliers. We have to be doing both and we have to be doing the latter now more and i think that raj is an example of how were approaching that. Its a communication give and take. Rajs group is pretty recent, 18 months ago . Its a 18month organization. When were talking about capital, one of the challenges is, how do we adequately fund and invest in commercial technology that, you know, may not meet that Quarterly Earnings impact . And resident real challenge and driver here is that our adversaries are not waiting. They recognize this. So ill share a couple of stats that weve looked at. If you look at all venture deals in the United States in 2016, 12 have an investor from china. Thats up from 6 in 2010. If you look at certain technologies, such as robotics, in particular, 17 of the funding was from china. And so, you know, you can make determinations or observations of, you know, why theyre doing it, but if we think these things are going to be military relevant in the future, them getting a seat at the table early, prior to our regulatory sifius type of activities take place, thats a big deal. And so, you know, its quite theyre quite open about it. So they set up two venture funds this past year, theres a billion dollar fund focused on taking technologies from our universities and commercializing it, entirely chinese funded. Theres a 500 million fund started in San Francisco that is focused on these technologies, Artificial Intelligence, autonomy and its the sovereign wealth fund. So, you know, its the challenge for us, i think, is, you know, we look at our economic arm and our National Security arm quite separately. And if our adversaries dont and take a partnership. Its alarming, 200 million and theyve got a billion, and 500 million the chinese, i mean, look, let me ask you this. Are they spending the money from what youve seen wisely or are they just throwing money at the problem . I guess if youre throwing off, youre likely to get lucky on a few, but is it money wellspent or are they just gobbling up everything they can think of . And thats a venture, and you dont know if its a good bet until five years down the road. Maybe its a foolhardy enterprise, but if we know these things are important, its incumbent on us to play a role in that. It doesnt necessarily have to be investors. Were not an investment fund, we are writing contracts quickly to bring that in. But how the secretary says, how do we do this faster, how do woo he prototype and experiment and thats the model that needs to change and the good news is that were seeing that in the department. One of the critical inhibitors for a Young Company to work with the department, particularly if its a software business, is you know, if you go into any leading Technology Company or startup and wherever and you walk into their office and show me your server room and you open the door, theres one comcast box. Thats their server room. No one has racks and racks of processing memory, they use the clouds. And you say to the company, come to the department and build these, and theres a rack and do something they havent done since the 80s, it doesnt work. And the department launched an effort and the secretary has put a directive out to help the entire department embrace Cloud Computing and such as processing and memory, that is how do you build applications in the cloud. And across multiple classification levels. I think were starting to make those right steps to be agile. And let me put an example out here just so you dont think that the dod is the complete trogladyte. We might have calluses on our knuckles, but and going out and seeing the sailors and marines, i was out on the west coast and had a chance to stop by an amtrak repa repair facility, which is an armored track vehicle. And there was a white connex box and it was Additive Manufacturing being done in the field. And they had a couple of simple plastic parts, health visor, adapter, had a fourweek wait and it was a 400 part that they were making right there for, you know, 14. But i got to the end of the table and here was this amazingly elegant turbine that looked like if youd cut a sea shell in half it had curved blades and it was part of an ejector for a abrams tank and without getting too technical and spins dirt out of the again begin. And 19week delay from order to delivery, 23 part. A corporal in the marine corps took the measurement tool, the Development Tool home with her on the weekend and put together an algorithm to cad this thing, comes to work on monday, we have someone who works there, a civilian, here is the algorithm, can we get this produced . This is outside of san diego. They find someone to cad it, ap put this thing on, first one failed, second one got it. Theyre doing this in one week. If you take rands equation for what a corporal cost in the marine corps, times 14 hours, plus the aluminum, plus the milling charge, it was 2300 to deliver that part. This is the speed of relevancy that we need to get to. This is the application of technology. Were actually doing it. The reason i wanted to bring this up to you all, to let you know this is happening out in the field, but this is the speed of relevance we have to move at. Ironically, capital is not the issue, capital moves quicker than lightning. We have to start moving in the speed of relevance. Indeed. What do you say to that, michael . Has it been challenging for you guys, particularly well, these printers that can generate spare parts in the field have been something of great interest. From a logistic standpoint chain that takes 30 days to get a part to a remote base. For not a lot of cost you could have one of these printers generate the part on site and especially when were taking care of aviation, you know, aircraft, helicopters, vehicles, theres a steady stream of part requirements and, you know, thats an application of technology to a real problem that is existing today. I mean, given the number of basings around the world for the u. S. Military, the logistics chain is quite complex and looking at the 24hour turn around on equipment is kind of the goal. Raj, who do you consider the biggest threat in terms of having the most Cutting Edge Technology for their military right now. The biggest threat, i guess candidly ourselves the department of defense in that y you it change a part and i think were fortunate, we have a Senior Leadership team that is very focused on modernization and ensurge that we never have a fair fight. The operators that we have on the ground, you go out and see them. Theyre the most innovative people in the world. We dont have an innovation problem. You find the young corporal, we need a part and doesnt want to wait to get it built. What we have is an incentive problem, right . We have built a set of structures and rules that does not encourage speed, right . You have processes where no one gets you dont get fired for going slow, but you might get fired for making a small mistake. How do we begin to make those cultural changes so that, you know, speed in and of its he have is is something thats rewarded. Appropriate risk. We take risks all the time on the battlefield flying an airplane, its a calculated risk. We need to do the same in our administrative processes and i think i look internally to the dod and the d. C. At large, but the good news is were starting to see change. Things are happening. Michael, forgive me can i do a punctuation on that. I cant stress that enough. Over the past maybe its 15 years or so, the organization has i, in my opinion, has drifted away from Risk Management to risk amelioration. Were trying to get risk out of the equation. I can get you to zero risk, i cant afford it. We have to become true and get back to the game of managing risk. Its not going to be perfect. And i dont mean to talk cavalierly when it comes to life, thats what im talking about, directly, we have to be able to quantify the risk and manage the risk to get the best effectiveness and management out of what were doing. I think weve strayed away from that as an enterprise and we need to get back there. Any ideas how to do that given your perspective on things as an investor, youre constantly managing risk in your portfolio. How is it that this industry grows quickly enough to meet the needs that we have while, you know, simultaneously being careful enough . Look, if theres budget, there will be plenty of investment in this industry. Its a question of budget certainty. Its a good. Some more money . Its a good return in this business. We need to see a clear path to budget and thats a political question and thats the biggest cause of hesitation. I would make a point though on unno evaluation and manufacturing, so were talking 3d printing and additive manufacturers. Theres a growing number of products that can be produced that way cheaply and ten years from now there will be a lot more, but i would say that the nature of our contracting as a government disincents that in many ways, if a cost costs 2300 and 10 on sales, i make 230 in dollars. If i can figure out how to make that for 50 and theres no flexibility within the accounting that says, well, we should still be able to make a 200 profit or a lesser profit, youre actually cannibalizing your own business and thats backwards, thats not a partnership. And so, i think more innovative thinking around that could go a long way in pushing towards, you know, we should be focused on bringing the cost to the taxpayer down for the best product for the war fighter and thats not always the case. Michael strianese, how do you think about investing in different technologies when competitors, both the u. S. And overseas are investing in similar technologies, and how do you get there first to make money on it . Were no stranger to acquiring companies, probably been one of the more active players over the last 20 years, so, you know, its always a make versus buy. We can invest in r d and get there on our own or buy the company. And talking about the underseas, and power plant, and battery its not really a battery, theres current. It was a startup, i believe came out of mit. And you know, its a bit of a premium from what were use today paying and we had a lot of confidence in it and we just bought it. And we have it today. Not two years from now. And you know, weve had the confidence in our decisions when we make skwigs acquisitions like that. And same with Airport Security and buying technology that is going to complement what were going to do and buy the company. Are they where are you seeing the most innovation, here . I know that israel has had a lot of tremendous innovation as well. Where are you acquiring it from . Well, generally privatelyowned individual startups that are theyre not all garage shops, but theyre generally Small Companies that have found a technology and have a number of customers they sell to and we could take that technology and apply it to a broader problem that we see or fills a niche that we have or will short and Development Cycle that were undertaking. Its, you know, a great model and served us well over the past 20 years. Mr. Secretary, what is the technology that you really want right now . Theres no one specific, trish. What were looking at, i think a fourth multiplier for us, when im wearing my navy title 10 hat, which is navy and marine corps is the unmanned sector, both in the air, on the sea and under the sea. I think that neural networks, Artificial Intelligence, whatever you want to call it, i think you heard the general saying the other day that we need to have equipment that thinks quicker, smarter, shares and learns, and thats the punctuation mark, to learn. And thats going to be a fourth multiplier, also. And i was interested in this, asking how much time you spend in a given week, how much if you were to divvy up and say percentagewise, how much do you focus on this new technology and whats next . And the number was quite high, but ill let you share it. Its 25 and that is, and a footnote for that, thats problem solving with a technological bent to, yes. I mean, its front and center. And what about you, michael . As ceo of l3, how much are you focused on whats next, what is the technology that will drive you guys forward . You know, in connection with our Business Units and we put our Heads Together quite often, it probably runs about a third of the time, reviewing where we are, where we need to be. And thats like 100 of what you do, raj. Youre always looking at the next thing. How do you guys think about the things. And theyre publicly traded, but some of them might come out on the ipo and are you looking forward that next big thing as well . Sure, well, certainly at j. P. Morgan, on my team, were dealing with large cap stocks and so when i think about the next big thing, were looking at the big program, b21, virginia, columbia class. The confidence we have in those programs being funded, and the confidence we have in the primes executing on those programs, and so we will i will differentiate where were shifting our investment based on that forward look, and i think were different in that we are looking at five years, despite all of the uncertainty, thats my job is to think about what this companys going to look five years from today, not what theyre going to earn the next quarter. Thats a luxury that we have that a lot of investors dont. I dont always here that and it may indeed be a luxury, because i think, you know, a lot of shareholders, they check their portfolio every single day, the market closes, look, how did i do . A lot of investors, mom and pop investors. The markets did well, we can go out on friday night. And you transfer that right to a bigger scale to very large funds. I mean, carl icahn, great example, talk about an activist. He knows exactly what his portfolio did on any given day. He knows if hes up or hes down and so, whether its, you know, mom and pop saying, yeah, hey, were going to go out this weekend because the market did well, or a billionaire investor like carl, people care whether theyre up or down and when you say, okay, its going to be five years. How does that get received . Well, we do, too, make no mace tmistake, i know exactly how my portfolio has done every day. And the longterm is made up of success of shortterm. If theres a piece of shortterm news that, say, a program, theres a mistake on a program and indicates maybe this Management Team is more likely to screw up the next program, well, that will impact my investment. If they decide in any given quarter to make a thoughtful investment that will drive Revenue Growth in the future, well, thats an opportunity. The stock might trade off on that and thats for the longterm investor and thats where we try to differentiate ourselves. Thats different from not knowing what portfolios its hard, too, because i think a lot of fund managers, they want to beat the s p and youve got people that look at their 401 k s daily or weekly or quarterly. They doesnt want to be down. Nobody wants to lose money and in an environment were in right now, the stock market hit record levels, fortunately, nobodys losing money and gets back to reality. How do you balance risk and success, michael . Because youve got to deal with these angry investors if youre not doing what they want. If they see red on the screen, theyre not happy. No, theyre not. [laughte [laughter]. I cant say that they necessarily have the right solutions either though. Are they not always thinking about it, right . Im sorry . Are they not always thinking about it right . Are they too shortterm oriented . In my experience, offensively shortterm, sell a portion of the business or go borrow a billion dollars and pay a special dividend. It was actually said, you know, do anything you need to do to give us a shortterm increase in the price so we can sell off. Youve had that said to you . Im sorry . Youve had that said to you . Absolutely. Thats exactly what was said. Do anything you can do to give us a shortterm increase in the stock price. We dont care whether its a buyback, a special dividend, sell a piece of the business, but youre going to do something thats going to give us a gain and, well, were going to do whats best for the condition and shown the door and they ended up selling their position and havent heard from them again. And it was offensive. Offensive, yeah, id say. But, you know, look, thats not the only one thats happened to. Theres a lot of companies under this pressure right now and activist investors are certainly playing a role. So, i guess as we think about it in terms of National Security, as we think about it in terms of advancing what we need as a nation. Mr. Secretary, i mean, if youve got michael dealing with, you know, the pressure of we need something now, as opposed to we need something for the future, how do we balance this . I mean, as a nation, how do we think about this . And when china is out there putting a billion dollars into a company and raj is against them and this is america, please Pay Attention. If you look at under this banner of being responsible, a responsible clie client, this is something that doesnt keep me up at night, but it certainly is a worrisome issue because capital does move at light speed. And you do have a free market and i am an unapologetic capitalist and free marketeer. Good, because are here at the reagan library. Its interesting what does transpire in this case because one of the things that we have to be responsible about is the health of the Industrial Base and people go, actually, thats not your job. Well, you know what . If in fact we have limited resources to produce something that we must have, yes, i am now responsible. And it is its a dance that has to be done that youre dancing on a bit of a knife edge because youre out there with a fiduciary responsibility to buy the best piece of gear for the most efficient and effective way you can. Now, you add in, i wont use the word subsidizing, but you add in going, okay, i have to help an industry in a certain area or i have to make the Capital Investments myself to have this manufacturer produce. It flies in the face of pure and open competition, but we have to live with that because we need to get the gear. And im not saying that in a defeatist manner, its the way to do business, but the movement of capital is something you have to Pay Attention to. Its tricky because i, too, am a redblooded american capitalist who believes that the Capital Markets usually are the very best, most efficient ability in which to divide up resources and see growth, but sometimes, you know, you get to a point where if michael has to sell a division of his company that is very promising for five or ten years down the road, but that Technology Gets squashed because the investing public is so demanding of his Quarterly Earnings, you know, you start to wonder at what point how do we help manage this, right . What should you guys be doing, maybe it needs to be more than 200 million that youre investing for new technologies, and maybe youre bringing some of those new technologies to the likes of michael and to l3 and other corporations. Theres a multitude of Asset Classes that have importance in National Security and defense. You know, i think that the point i would highlight is as we think about these new emerging technologies, theres Ample Capital going into them today so lets take, for example, Artificial Intelligence, everyone likes to talk about that. Last year there was 40 billion invested r d in ai by large Tech Companies and others in Venture Capitalist and young startup companies. If i look at the number that the Defense Department itself put in, you know, its well under 100 million. And so, these funds are going. Theres great technologies being built. Our best and brightest engineers and pc graduates are going to the companies and so its happening. And thats a good thing. So, i think now the next step is, okay, how do we get that tech and bring it in to solve our problems, right . My experience that ive seen in going into the valley and boston, is these smart engineers, they want to work on important problems. And photo sharing apps are only so much fun compared to right . How do we make our sailors more lethal, how do we make our ships more survivable. But we have to provide them a mechanism to work on that and so, thats what longterm capital does. Its okay and theres a partnership that will be built, but we have to accept that some of the sources of this technology will require us to operate in ways that we havent before. And i want to follow along with that just so everyone has a full appreciation of the span of effort that were talking about. If i look at my budget just in the navy alone, which is quite a big chunk of the overall budget when you look at columbia cash, virginia payload, f45, Aircraft Carrier family. A amphibs down the line. Were building longterm ships, fiveyear builds, fouryear builds, we have to nurture that work force. There are various organizations out there that are contributing to these efforts that have to actually and now going back to something that we havent talked about in 20 years, which is vocational schools, working with states to teach people how to bead a weld and get a great job working in a ship yard. Its not just technology. We have to manage the whole span of work force. Its a great point and i think this is an issue that increasingly is coming up as our economy goes through this pretty significant shift. And as we move increasingly to technology, its not just the technology. Theres lots of other jobs and lots of other jobs that people can make good living at that weve gotten away from, right . As a nation for a variety of reasons, but we just havent been as focused on those opportunities, so, i think you make a great point, mr. Secretary and the reality is weve got a lot of people that can do a lot of Different Things, and how do we best put them to work. We have some questions in from the audience and i want to encourage everybody again, if you have questions you can tweet them at us. Everyone at home watching on fox business and the audience and anyone online. This is one of the questions that came through, just a reminder to put them in, if youre here at the premises, rndf mobile app and if youre watching on fox business, you can tweet them to us at rndf, thats the hash tag for twitter. Here is one of the questions right now, it has to do with stem. Does wall street factor the risk of the current and future critical work force shortages in stem, and defense, related fields and its impact on productivity, quality, and output . Michael, ill start with you on that. Well, you know, through our industry organization, the Aerospace Industry group, we have made that one of our top priorities, so, we are getting the word out in the stem programs as we can. And ive personally done it with my high school and get the word out. The lack of students coming through the science areas is going to rise to a National Security level. If its not remediated. If you think about the demographics here, we have bo boomers like myself a big wave of them, and hopefully well find a ways to do that. Do you find opportunities that are channllenging to fill. It seems we always have several thousand engineering jobs open across the country, but we have established partnerships with several colleges and universities where we sponsor research and we get access to the student body so we can be first in terms of attracting solve the students, the better students to these jobs, but it is an area that we should be concerned about. Michael, when youre looking at fiveyear time horizons in investments, are you looking at this as well . I like to say this is longterm when were five years out, some of this is longer term. Ill use Northrop Grumman as an example, theyre Building Centers of excellence for programs. And consolidated to the point where there are hundreds of programs material to that company and they have programs theyre delivering today that are needed to hit their Quarterly Earnings, but if theyve done that well and communicated expectations well to me and my peers, they have the ability to plant seeds for the future and so, weve been a little bit defeatist on this panel today and i think theres reasons to be optimistic now with stable budgets youre seeing more and more examples of like Northrop Grumman investing in centers of excellence that should and with construction and m and a in d. C. And a lot of that happening in 2017 and this may be directed absolutely at you, michael, because theyre asking, do you think you could bring in some more tier one and two suppliers inhouse . Well, the door is always open. I mean, we Love Technology and we have been a good partner for the Entrepreneurial Company where the founder would like to cash out, but still work. Weve done this over and over and over again. Weve done it at least a hundred times, probably 200 times. And does it typically work on one of the challenges was acquiring the technology, is youre acquiring a company that may have sort of a different cultural feel and theyre come in to l3 and youve got to incorporate them and their people and their personalities. And kind of teach them your ways. Thats one of the keys to doing it right and making sure that the cultures work. And you know, if you think about it, we talk about developments and plenty of capital for developments. But what theyre theres an art to doing it right. So, i dont think it would be very popular for any established Defense Company to undertake a project thats going to run 50 million a year losses for the next ten years until they get this. Its the wrong place to do it. You need to do it on a separate company basis and buy it at the end of the day or find a company many of the companies that weve acquired in the spaces have run losses for a decade or more, theyre invested all of this money and which kind of gets redeemed when we buy it. I mean, they get in other words, theyve taken the risk as opposed to you. Exactly, they take the risk and you know, again, it works in very specific areas, but thats so much m a in the coming year, not just 17, but 18, what do you think, much more. Yes, 17 has seen returns of some of the big deals, m and a deals in the Defense Space and there has been a number of them. We get targeting where we buy tuck in, as you call it acquisitions that fit well with what we do and theres no shortage of companies in that space. Go ahead. This is an interesting topic being unapologetic capitalist that i am. Its going to happen in the marketplace, the capitals going to move to the appropriate winner. I need to see an additive benefit for me in the acquisition field. And i have to do what michaels been talking about, which is reward risk because the best model that i should do is say, l3, here is my problem, go figure it out. Michael goes and buys a company that helps him solve that and figures it into the price to me, but i get a value plus from that. If somebody is just buying a company for cash flow and all of a sudden now im a legacy buyer from that and im getting no uplift and getting one more layer of management, i know i dont have a big vote in this thing, but ive got to figure out how to send a better signal that i need to see how is this going to help me as a client . Because at the end of the day, i do have a vote and this is a discussion that we have to have as a partnership that i opened with originally and this is what we look forward to. The senate has approved, or voted for a tax reform plan and expectations are, they may just actually do this thing. Theyre in the house and that it wont be repeal and replace all over again, but they may actually get this done. What is that going to mean, and i want to ask both michaels here, you specifically, michael, in terms of your company and your earnings and your ability to do things with that capital, and michael, what does it mean for your portfolio, if in fact tax reform goes through . Well, since you asked me first, i would rather vote on an increased Defense Budget than had a tax cut. And so, they gave that answer on this mornings show with neil cavuto and i guess they just called the president s baby ugly, but i guess ill be tweeted tomorrow. The reality is if were in a budget environment with low to no growth, any cash would not help in terms of dividends and share repurchasinrepurchasing, are we going to invest it thats why i would add vo advocate for a certain level of growth in the first place. Michael. Critically does the r d tax credit stay. If it does stay the benefit will accrue to all the primes. I know one for one ratio, i would expect. Does that accrue to the customer . I think if the customer tries to negotiate some of the ways weve discussed here on stage today maybe you get pieces of it, but i think most of that would accrue to shareholders. You think its going to go to shareholders. Would accrue. And youre not seeing enough demand for your goods, because budgets are restricted. Its all about the stability of the budget. Weve talked about budgets growing 14 in some of the proposals on the hill right now. Thats probably not good in the longterm. Id like to see a nice channel of 3 to 5 growth for five years. Were on the way, right. Better than 3 growth. What were going to get for next year, theres going to be a cr. So its hard to make longer term its hard to think longterm when the budgets are schizophrenic. Do you want to add to that at all . [laughter] youve said your piece. I dont know if you can be so antitax cuts when youre at reagan library, but well save that for another time. And another question, how are Defense Companies, priority ides and maintain priority on defense needs and have a focus from wall street about quarterly and financial statements. This is what were trying to get at, right . This is the essence of the conversation and what we need to reconcile in a world, mr. Secretary, where other nations have a lot of money to deploy and throw at this. We have, historically, now had for many decades the most powerful military and we all hope we have that many, many, many decades more, but its going to require some investment and weve got competition. What do we do . Thats a great question. If we look at if we look at china, theyve weaponized capital. If you look at what theyre doing with both the investing side and the one belt, one road efforts that theyve had. You know, its the old joke weve run out of money, we have to think smarter. We really i say were there now. We have to become much more innovative to increase capabilities. We are going to have to increase capacity and thats going to come over a period of time. We have to address our capability and this is why i talked about a force multiplier when you talked about unmanned, et cetera. We have to find the technologies, the processes that would give us that log rhythmic leap. And thats my Immediate Reaction to that. The Capital Markets are the Capital Markets, theyre going to do what they do. One more reason i come back to this, why we have to be in partnership in a Strategy Partnership with our Industrial Base. Okay. I would add, you know, to that, winter is not coming. We have strength that we can play to here in the u. S. We despite our actions of our adversaries have the greatest movement of capital both human as well as financial and we need to nurture that and one of the things i am seeing from our Industry Partners is, you know, a move of both, both types of capital to those centers of innovation and are trying to actively, through, you know, Venture Capital units and innovation units of their own, to try to get access to that and help bring them their products. So i think, you know, the opportunity for us is to, again, recognize these changes that are occurring, and then have the wherewithal to move fast enough and know that by moving fast, some things arent going to work, and change the status quo. Do you think weve ever had as much competition, say within the last 50 years, as we have right now from china . And i know you didnt want to name sort of the other big buyer of the technology and that, you know, who is our biggest competition. And i know you say we need to be, you know, in competition with ourselves, but if you think about who is out there trying to grow themselves economically, militarily, it just seems that china, china is the one that we need to be focused on and we need to be doing everything we can to make sure that were five steps ahead. I think we have to recognize the facts, we have to recognize the behavior and be appropriately, you know, actionable here. Mr. Secretary, how do you think about it in terms of, you know, if you compare this with the past times . You said we were at that sort of moment where we have to get smarter because were out of money, but is it nearing some kind of point where you worry that if were not more focused on this, if were not more vigilant and supportive of the industry, we run the risk of not being as successful militarily in the future . Yeah, and i think ill i referenced the joke were out of money, we have to be thinking. We are getting funds, but to answer your question directly, trish, i think the analogy is october much 1954 was sputnik. All of a sudden, you know, we used to own this space and now all of a sudden were seeing and hearing the pitterpatter of feet coming up behind us. Our overmatch is not as great as it used to be. We are at that, i believe we are at that Inflection Point and if you speak to secretary mattis and you listen to his language and signals, his statement let us move at the speed of relevance, that underscores it. All right. Final thoughts from you, michael . Well, you know, to sleep at night i take great, great pride in the products that this industry has turned out. I dont think anybody, whether its china or russia, is close. We command on our aircraft, ships, land vehicles, and doo you to the men and women that work in this industry and commitment to it and Technology Investments and were committed to continue on and make sure that the United States enjoys the technological advantages it has over forever, looking backwards. Weve always had the best and i think we will still continue to have the best, because we have the will to do that. Michael, raj, Congress Needs to get out of its own way then . I mean, look, from my Vantage Point, i appreciate the reception that organizations and department are inclined to do things differently and faster within the department and have received from our Industry Partners, have received, and we have all the right elements, we just have to have conviction to get it done. Exactly, how about for you, michael. Stability budgets, more partnership, and paying for risk taking, and, frankly, our interests on this stage are more aligned than not. So as we look forward to the next several years, do you feel weve reached a turning point at all . I know you say its a critical point, mr. Secretary, but are things changing . Is there a bigger, broader commitment that you feel in washington right now to defense, to our military . Looking back on the last ten years of kind of being around washington, in my eyes, ive never seen the stars aligned better for what were facing right now. It doesnt matter if im in front of the House Arms Services committee, the senator Arms Services committee, hack, sack d, everyone is leaning in and want to go help. Theres no partisanship, its all about the National Defense issues and so, not to leave everybody depressed at all, im actually really, actually, very, very excited about what can come out of this. I want to make sure we use the sobriety of what were facing right now to make the move to go forward and grasp hold of this opportunity to really make hay with it. Thats a good way to end this panel. Thank you very much to all of you, mr. Secretary, to michael, to raj, to michael, really outstanding conversation. Thank you. And i just want to say for all of our viewers on fox business, stay with us. I will be with you shortly. Adam shapiro is going to take it from here. Thank you so much to the panelists and all of you. Thank you. [inaudible conversations] cspans the series, history cases with a look at new Supreme Court cases. Experts join us to discuss the constitutional issues and personal stories behind these significant Supreme Court decisions beginning monday, february 26th, live at 9 p. M. Eastern. And to help you better understand each case, we have a companion guide written by journalist tony morrow. It costsed 8. 95 plus shipping and handling. Go to cspan. Org landmarkcases. The president of the United States. [applause] tonight, President Donald Trump gives his first state of the Union Address to congress and nation, join us on cspan for a preview of the evening starting at 8 p. M. Eastern. Then the state of the union speech, live at 9 p. M. Following this speech, the democratic response from congressman joe kennedy. Well also hear your reaction and comments from members of congress. President trumps state of the Union Address tonight, live on cspan. Listen live on the free cspan radio app and available live or on demand on your desk top, phone or tablet at cspan. Org. And here on cspan2 the senate about to gavel in. Working on the nomination to the 8th circuit court. A confirmation vote scheduled tore 2 15 eastern time after party lunches. Tonight, senator