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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

For the year ended December 31, 2003

NORTHROP GRUMMAN CORPORATION

(Exact name of registrant as specified in its charter)

1840 Century Park East, Los Angeles, California 90067

www.northropgrumman.com

(Address of principal executive offices and internet site)

(310) 553-6262

(Registrant’s telephone number, including area code)

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

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

None

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).

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

As of June 30, 2003, 182,947,091 shares of Common Stock were outstanding, and the aggregate market value of the Common Stock (based upon the closing price of the stock on the New York Stock Exchange) of the Registrant held by nonaffiliates was approximately $15,787 million.

As of March 3, 2004, 180,974,286 shares of Common Stock were outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the 2004 Annual Meeting of Stockholders.    Part III

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SELECTED EXHIBITS

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PART I

Item 1.     Business

Northrop Grumman Corporation (Northrop Grumman or the company) provides technologically advanced, innovative products, services, and solutions in defense and commercial electronics, nuclear and non-nuclear shipbuilding, information technology, mission systems, systems integration, and space technology. As prime contractor, principal subcontractor, partner, or preferred supplier, Northrop Grumman participates in many high-priority defense and commercial technology programs in the United States and abroad. The majority of the company’s products and services are ultimately sold to the U.S. Government, which accounted for 86.7 percent of total revenue in 2003, and the company is therefore affected by, among other things, the federal budget process.

History

Originally formed in California in 1939, Northrop Corporation was reincorporated in Delaware in 1985. In 1994 the company purchased the outstanding common stock of Grumman Corporation and, effective May 18, 1994, Northrop Corporation was renamed Northrop Grumman Corporation. On April 2, 2001, NNG, Inc., a newly formed Delaware holding company, exchanged its common shares for all of the outstanding Northrop Grumman Corporation common shares on a one-for-one basis, through a merger in which Northrop Grumman Corporation became a subsidiary of NNG, Inc. In connection with this merger, NNG, Inc. changed its name to Northrop Grumman Corporation and the former Northrop Grumman Corporation changed its name to Northrop Grumman Systems Corporation (Northrop Systems).

In April 2001, the company purchased approximately 97 percent of the common stock and approximately 59 percent of the preferred stock of Litton Industries, Inc. (Litton). The company issued 13 million shares of its common stock and 3.5 million shares of its preferred stock and paid cash for the balance of the Litton shares. In May and June 2001, the company acquired all of the remaining shares of Litton common and preferred stock for cash.

In November 2001, pursuant to a tender offer that expired on November 29, 2001, the company purchased approximately 80.7 percent of the outstanding shares of Newport News Shipbuilding Inc. (Newport News). For the year ended December 31, 2001, the company accounted for the remaining 19.3 percent of Newport News common shares as minority interest. On January 18, 2002, the company acquired the remaining 19.3 percent of Newport News shares not purchased in the tender offer.

On December 11, 2002, the company issued 69.4 million shares in exchange for all outstanding shares of TRW Inc. (TRW) which consisted of two defense related businesses and an automotive business (Auto). On February 28, 2003, the company sold Auto to The Blackstone Group for $3.3 billion in cash, a $600 million face value payment-in-kind note, initially valued at $455 million, and a 19.6 percent interest in the new enterprise, initially valued at $170 million. The acquirer also assumed debt of approximately $200 million. The cash received from the sale of Auto was adjusted from the sale agreement amount by cash sold with the business, preliminary purchase price adjustments, and an asset retained. Cash proceeds from the sale were primarily used to reduce debt. The payment-in-kind note matures in 2018 and bears interest at an effective yield of 11.7 percent per annum. In January 2004, the restrictions on the investment in Auto were amended to provide the company more flexibility in monetization. In February 2004, the company’s investment in Auto was diluted to 17.2 percent as a result of Auto’s initial public offering. In connection with the acquisition of TRW, the company entered into a formal stipulation and consent decree with the U.S. Department of Justice that was filed in the U. S. District Court for the District of Columbia on December 11, 2002. Key provisions of the consent decree are intended to assure that the merger will not impede fair and open competition related to certain electronic satellite payloads. The consent decree does not require the divestiture of any businesses, and permits the company to operate its businesses and those of TRW as planned. The retained portions of TRW represent the Mission Systems and Space Technology sectors discussed more fully herein. Additional information describing the aforementioned mergers and acquisitions is contained in Note 3 to the Consolidated Financial Statements in Part II, Item 8.

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In 2002, the company decided to sell the majority of the businesses comprising its Component Technologies (CT) operating sector and sold two businesses in its Electronic Systems sector; Ruggedized Displays and Electron Devices. These businesses and Auto are reported as discontinued operations. Additional information is contained in Note 4 to the Consolidated Financial Statements in Part II, Item 8.

Summary Segment Financial Data

In the following table of segment and major customer data, revenue from the U.S. Government includes revenue from contracts on which Northrop Grumman is the prime contractor as well as those on which the company is a subcontractor and the ultimate customer is the U.S. Government. The company’s discontinued operations are excluded from all of the data elements in this table, except for assets designated as held for sale. The 2002 income statement does not include TRW’s post-acquisition results as they were not material. TRW backlog acquired and assets at December 31, 2002, are included in the following table. The following are certain factors to be considered when analyzing the segment financial data presented below:

Foreign Sales – Foreign sales amounted to approximately $1.6 billion, $1.3 billion, and $1.3 billion or 6.1 percent, 7.6 percent, and 10 percent of total revenue for the years ended December 31, 2003, 2002, and 2001, respectively. All of the company’s segments engage in international business, for which the company retains a large number of sales representatives and consultants who are not employees of the company. Foreign sales by their very nature are subject to greater variability in risk than the company’s domestic sales, particularly to the U.S. Government. International sales and services subject the company to numerous stringent U.S. and foreign laws and regulations, including, without limitation, regulations relating to import-export control, repatriation of earnings, exchange controls, the Foreign Corrupt Practices Act, and the anti-boycott provisions of the U.S. Export Administration Act. Failure by the company or its sales representatives or consultants to comply with these laws and regulations could result in administrative, civil, or criminal liabilities and could in the extreme case result in suspension or debarment from government contracts or suspension of the company’s export privileges, which could have material adverse consequences.

Unallocated Expenses – The reconciling item captioned “Unallocated expenses” includes the portion of corporate, legal, environmental, state income tax, other retiree benefits, and other expenses not considered allowable under Cost Accounting Standards (CAS) and not allocated to the segments.

Pension – Pension expense is included in the sectors’ cost of sales to the extent that these costs are currently recognized under CAS. In order to reconcile from segment operating margin to total company operating margin, these amounts are reported under the caption “Reversal of CAS pension expense included above.” Total pension (expense) income, determined in accordance with accounting principles generally accepted in the United States, is reported separately as a reconciling item under the caption “Pension (expense) income.”

Goodwill – During the second quarter of 2002, the company completed the first step of the required initial test for potential impairment of goodwill as of January 1, 2002. The company used a discounted cash flow approach, corroborated by comparative market multiples, where appropriate, to determine the fair value of its reporting units. The results indicated potential impairment only in the reporting units of the Component Technologies sector due to unfavorable market conditions. Accordingly, the company recorded a non-cash charge of $432 million, or $3.67 per diluted share, which is reported as “Cumulative effect of accounting change.” For additional information see Note 9 to the Consolidated Financial Statements contained in Part II, Item 8.

Realignment – Effective January 1, 2004, the company realigned businesses among three of its operating segments that possess similar customers, expertise, and capabilities. The realignment more fully leverages existing capabilities and enhances development and delivery of highly integrated information systems and services. Mission Systems’ Global Information Technology, Civil Systems, and Mission Systems Europe businesses were transferred to the

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Information Technology segment. Prior to January 1, 2004, the three business areas comprised Mission Systems’ Federal & Civil Information Systems business. The Defense Mission Systems (DMS) business within the Information Technology segment was transferred to the Mission Systems segment. Prior to January 1, 2004, DMS is contained within Information Technology’s Government Information Technology business. The Command, Control & Intelligence (C2I) Systems business area of the Missions Systems segment transferred its Unmanned Air Vehicle business to the Air Combat Systems (ACS) business area within the Integrated Systems segment. Had the realignment taken place on January 1, 2003, 2003 sales would have been approximately $104 million lower than reported for the Information Technology sector, $57 million higher than reported for the Mission Systems sector, and $47 million higher than reported for the Integrated Systems sector. Subsequent to December 31, 2003, all financial information will be presented reflecting the above realignment. The realignment is not reflected in any historical financial information contained within this Form 10-K.

Reclassifications – Certain amounts for 2002 and 2001 have been reclassified to conform to the 2003 presentation.

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RESULTS OF OPERATIONS BY SEGMENT AND MAJOR CUSTOMER

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Organization, Products, and Services

The company operates in seven business sectors: Electronic Systems, Newport News, Ship Systems, Information Technology, Mission Systems, Integrated Systems, and Space Technology. For financial reporting purposes, the Electronic Systems, Information Technology, Mission Systems, Integrated Systems, and Space Technology sectors are each reportable segments. In accordance with the provisions of SFAS No. 131 – Disclosures about Segments of an Enterprise and Related Information, Newport News and Ship Systems results are aggregated and reported as the Ships segment.

Electronic Systems – Electronic Systems is a leading designer, developer, and manufacturer of a wide variety of advanced defense electronics and systems. Electronic Systems provides airborne radar systems, secondary surveillance systems, inertial navigation systems and sensors, electronic warfare systems, precision weapons, air traffic control systems, air defense systems, communications systems, space systems, marine systems, oceanic and naval systems, integrated avionics systems, and automation and information systems. Headquartered in Baltimore, Maryland, the sector includes the Aerospace Systems; Command, Control, Communications, Computers, Intelligence, Surveillance, and Reconnaissance (C4ISR) & Naval Systems; Defensive Systems; Navigation Systems; and Space Systems divisions. Operations not included in these divisions are reported as “Other.” Key products include fire control radars for the F-16, F-22 and F-35 fighter aircraft, as well as for the Longbow Apache helicopter. Other principal products include the Airborne Warning and Control System (AWACS) radar, Joint Surveillance Target Attack Radar System (Joint STARS) air-to-ground surveillance radar sensor, Longbow Hellfire missile, tactical military radars, countrywide air defense systems, airborne electronic countermeasures systems, sophisticated undersea warfare systems, and naval propulsion and power generation systems. Electronic Systems has 129 locations worldwide, 63 international offices, and approximately 23,600 employees.

Newport News – Newport News’ primary business is the design, construction, repair, maintenance, overhaul, life-cycle support, and refueling of nuclear-powered aircraft carriers and the design, life-cycle support, and construction of nuclear-powered submarines for the U.S. Navy. Newport News is the nation’s sole designer, builder, and refueler of nuclear-powered aircraft carriers and one of only two companies capable of designing and building nuclear-powered submarines. Major programs are the CVN 21 (next generation aircraft carrier), the Nimitz-class nuclear powered aircraft carriers, and the Virginia-class submarine program. The sector also provides after-market services for a wide array of naval and commercial vessels. Headquartered in Newport News, Virginia, the sector has approximately 19,000 employees.

Ship Systems – Ship Systems is one of the nation’s leading full service systems providers for the design, engineering, construction, and life cycle support of major surface ships for the U.S. Navy, U.S. Coast Guard, international navies, and for commercial vessels of all types. Major programs for the U.S. Navy include the WASP LHD 1 Class and San Antonio LPD 17 Class amphibious assault ships, the Arleigh Burke DDG 51, and next generation DD(X) destroyers. The company is also a partner in the Coast Guard’s Deepwater modernization program and produces double-hulled crude oil tankers. Ship Systems is headquartered in Pascagoula, Mississippi, with primary operations in Pascagoula, Mississippi; New Orleans, Louisiana; Gulfport, Mississippi; and Tallulah, Louisiana, as well as in fleet support offices in the U.S. and Japan. Ship Systems has approximately 19,000 employees.

Information Technology – Information Technology is a premier provider of advanced information technology (IT) solutions, engineering, and business services for government and commercial customers. The segment consists of four lines of business: Government Information Technology, Enterprise Information Technology, Technology Services, and Commercial Information Technology. Government Information Technology covers a wide range of large-scale systems integration, solutions, and services programs. This work is performed for government customers at the Department of Defense, federal, state, and local levels, and covers C4ISR, training and simulation, science and technology, and information systems markets. Enterprise Information Technology focuses on the delivery and integration of commercially available computers, networks, hardware, software, and peripherals to government and commercial customers. Technology Services include base and range support, training and simulation, information

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systems, and state and local information technology services. Commercial Information Technology provides complete IT outsourcing services directed at the commercial market. In addition, the sector provides IT services internally to all Northrop Grumman sectors. Headquartered in Herndon, Virginia, the sector employs approximately 22,200 professionals located in 197 sites worldwide.

Mission Systems – Mission Systems is a leading global system integrator of complex, mission-enabling systems for government, military, and business clients. The organization’s technology leadership spans four business areas: Command, Control & Intelligence Systems, Missile Systems, Federal & Civil Information Systems, and Technical and Management Services. Products and services are focused on the fields of command and control, strategic missiles, missile and air defense, airborne reconnaissance, unmanned aerial vehicles, intelligence management and processing, electro-magnetic and infrared analysis, and decision support systems. Headquartered in Reston, Virginia, Mission Systems has approximately 15,600 employees in more than 145 locations around the world.

Integrated Systems – Integrated Systems is a leader in the design, development, and production of airborne early warning, electronic warfare and surveillance, and battlefield management systems. Integrated Systems includes the Air Combat Systems, Airborne Early Warning & Electronic Warfare Systems, and Airborne Ground Surveillance & Battle Management Systems business areas. Integrated Systems is the prime contractor for the Joint STARS advanced airborne targeting and battle management system, Global Hawk, and B-2 Spirit stealth bomber. The sector has principal roles in the F/A-18 Hornet strike fighter and F-35 joint strike fighter programs. Integrated Systems is upgrading the EA-6B Prowler electronic countermeasures aircraft and produces the E-2C Hawkeye early warning aircraft. Headquartered in El Segundo, California, the sector has approximately 13,400 employees.

Space Technology – Space Technology develops a broad range of systems at the leading edge of space, defense, and electronics technology. The sector creates products primarily for the U.S. Government that contribute significantly to the nation’s security and leadership in science and technology. Its business areas focus on the design and manufacture of spacecraft systems and subsystems, electronic systems, including national defense space systems, space science instruments, environmental monitoring space systems, advanced avionics systems, and high energy laser systems. Headquartered in Redondo Beach, California, Space Technology has approximately 8,900 employees in 15 locations around the world.

Corporate Offices – The company’s principal executive offices are located at 1840 Century Park East, Los Angeles, California 90067. Total corporate employees approximate 900. The company’s telephone number is (310) 553-6262. The company’s home page on the Internet is www.northropgrumman.com. The company makes web site content available for information purposes. It is not incorporated by reference into this Form 10-K.

Employee Relations

The company believes that it maintains good relations with its 122,600 employees, of which approximately 20 percent are covered by 33 collective bargaining agreements. The company currently expects to complete negotiation of 14 collective bargaining agreements in 2004. One of these agreements, covering over 8,000 employees in the Ships segment, is expected to be completed by the second quarter of 2004. It is not expected that these negotiations will either individually or collectively cause a material adverse effect on the operations of the company.

Environmental Matters

Federal, state, and local laws relating to the protection of the environment affect the company’s manufacturing operations. The company has provided for the estimated cost to complete remediation where the company has determined that it is probable that the company will incur such costs in the future to address environmental impact at current or formerly owned operating facilities or at sites where it has been named a Potentially Responsible Party (PRP) by the Environmental Protection Agency or similarly designated by other environmental agencies. It

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is difficult to estimate the timing and ultimate amount of environmental cleanup costs to be incurred in the future due to the uncertainties regarding the extent of the required cleanup and the status of the law, regulations, and their interpretations.

In order to assess the potential impact on the company’s financial statements, management estimates the possible remediation costs that reasonably could be incurred by the company. Such estimates take into consideration the professional judgment of the company’s environmental engineers and, when necessary, consultation with outside environmental specialists. In most instances, only a range of reasonably possible costs can be estimated. However, in the determination of accruals, the most probable amount is used when determinable and the minimum is used when no single amount is more probable. The company records accruals for environmental cleanup costs in the accounting period in which the company’s responsibility is established and the costs can be reasonably estimated. The company does not anticipate and record insurance recoveries before collection is probable.

Management estimates that at December 31, 2003, the range of reasonably possible future costs for environmental remediation is $251 million to $366 million, of which $271 million has been accrued, including $25 million recorded in liabilities of businesses held for sale. Environmental reserves are recorded on an undiscounted basis. At sites involving multiple parties, the company provides environmental reserves based upon its expected share of liability, taking into account the financial viability of other jointly liable parties. Environmental expenditures are expensed or capitalized as appropriate. Capitalized expenditures relate to long-lived improvements in currently operating facilities. In addition, should other PRP’s not pay their allocable share of remediation costs, the company may have to incur costs in addition to those already estimated and accrued. Management does not believe that it will be required to assume a share of the liability of other PRP’s in an amount that would have a material effect on the company’s financial position or results of operations. The company makes the investments it believes will be necessary in order to comply with environmental laws.

Available Information

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

The company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and proxy statement for the annual shareholders’ meeting, as well as any amendments to those reports, are available free of charge through the company web site as soon as reasonably practicable after electronic filing of such material with the SEC. You can learn more about the company by reviewing the company SEC filings on the company web site. The company SEC reports can be accessed through the investor relations page of the company web site. The SEC also maintains a web site at www.sec.gov that contains reports, proxy statements and other information regarding SEC registrants, including Northrop Grumman.

Item 2.     Properties

At December 31, 2003, the company’s seven business sectors had available approximately 54 million square feet of space comprised of approximately 2,374 buildings/structures and land at 595 separate locations throughout the United States and the world for the purpose of manufacturing, warehousing, research and testing, administration, and various other productive and facility uses. Of the total square footage available to the company at December 31, 2003, 57 percent was company-owned, 39 percent was leased, and 4 percent was government-owned. At December 31, 2003, the company leased to others approximately 1.75 million square feet of floor space.

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

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The following is a summary of floor space available to the company at December 31, 2003:

The company believes its properties are well maintained and in good operating condition and that the productive capacity of the company’s properties is adequate to meet current contractual requirements for the foreseeable future.

Item 3.     Legal Proceedings

Various claims and legal proceedings arise in the ordinary course of business and are pending against the company and its properties. The company is a defendant in lawsuits alleging personal injury as a result of exposure to asbestos integrated into its premises and certain historical products. Many of these claims have been dismissed with no payment and the remaining resolved claims have involved amounts that were not material either individually or in the aggregate. Based upon the information available, the company does not believe that the resolution of any of these proceedings will have a material adverse effect upon its operations or financial condition.

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Departments and agencies of the U.S. Government have the authority to investigate various transactions and operations of the company, and the results of such investigations may lead to administrative, civil, or criminal proceedings, the ultimate outcome of which could be fines, penalties, repayments, or compensatory or treble damages. U.S. Government regulations provide that certain findings against a contractor may lead to suspension or debarment from future U.S. Government contracts or the loss of export privileges for a company or an operating division or subdivision. Suspension or debarment could have a material adverse effect on the company because of its reliance on government contracts. Based on available information, the company does not believe, but can give no assurance, that any matter resulting from a U.S. Government investigation would have a material adverse effect on its results of operations or financial condition.

In August 1992, in U.S. ex rel. Rex Robinson v. Northrop Grumman Corporation, the United States District Court for the Northern District of Illinois unsealed a complaint brought by four individuals in the name of the United States of America. The action was filed on August 10, 1989, seeking damages under the qui tam provision of the civil False Claims Act. On July 28, 1992, the government declined to intervene in this action. Plaintiffs amended their damage claim and now seek compensatory damages of approximately $369 million, which could be trebled under the False Claims Act, together with statutory penalties of up to $39 million, pre-judgment interest, loss of use of money and other unspecified damages for expenses, attorney fees, and costs. The individual relators also seek damages in their individual capacities for alleged retaliation. In 2001, the Civil Division of the U.S. Attorney’s Office filed a motion to intervene in the action, which motion was granted on October 12, 2001. The company denies the allegations and continues to vigorously defend the action.

Environmental Matters

On July 10, 2003, the South Coast Air Quality Management District (SCAQMD) issued a notice of violation (NOV) to the Space Technology facility in Redondo Beach, California alleging sixty-four deviations from the operating conditions of an air permit. The SCAQMD and the company settled all counts alleged in the NOV by agreement dated December 19, 2003. Pursuant to the terms of the settlement agreement, on January 12, 2004, the company paid a monetary penalty of $15,000. The company is negotiating with the SCAQMD on other matters. Additional penalties, if any, are not expected to be significant.

On April 24, 2003, Lucas Western Inc. (a wholly-owned subsidiary of the company upon the acquisition of TRW) entered into an Administrative Consent Order (Order) with the New York State Department of Environmental Conservation (DEC) for the alleged unpermitted discharge of pollutants into the waters of the State. Lucas Western, Inc. agreed to eliminate discharges and pay a civil penalty of $100,000, of which $50,000 was paid, with the remainder suspended, but subject to assessment at DEC discretion in the event of a violation of the Order or applicable State laws. The elimination of all unpermitted discharge of pollutants has been effected. It is anticipated that the Order will be terminated, thereby extinguishing the $50,000 penalty, in the first half of 2004.

Other Matters

In the event of termination for the government’s convenience, contractors are normally protected by provisions covering reimbursement for costs incurred subsequent to termination. The company received a termination for convenience notice on the Tri-Service Standoff Attack Missile (TSSAM) program in 1995. In December 1996, the company filed a lawsuit against the U.S. Government in the U.S. Court of Federal Claims seeking the recovery of approximately $750 million for uncompensated performance costs, investments, and a reasonable profit on the program. In prior years, the company had charged to operations in excess of $600 million related to this program. Northrop Grumman is unable to predict whether it will realize some or all of its claims, none of which are recorded on its balance sheet, from the U.S. Government related to the TSSAM contract.

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

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

PART II

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

The information required by this Item is contained in Notes 17 and 18 to the Consolidated Financial Statements located in Part II, Item 8.

The approximate number of common shareholders was 39,500 as of March 3, 2004.

Item 6.     Selected Financial Data

The data for the periods 1999 and 2000 presented in the following table, Selected Financial Data, have been adjusted to exclude the company’s discontinued operations except for number of employees at year-end, floor space, and all balance sheet data, including net working capital (deficit), total assets, notes payable to banks and long-term debt, long-term obligations and preferred stock, and shareholders’ equity. All data presented for the periods 2001 through 2003 have been adjusted to exclude discontinued operations except for floor space, net working capital (deficit), current ratio, and total assets.

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Selected Financial Data

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

OVERVIEW

Northrop Grumman provides technologically advanced, innovative products, services, and solutions in defense and commercial electronics, nuclear and non-nuclear shipbuilding, information technology, mission systems, systems integration, and space technology. As a prime contractor, principal subcontractor, partner, or preferred supplier, Northrop Grumman participates in many high-priority defense and commercial technology programs in the United States and abroad. Northrop Grumman conducts most of its business with the U.S. Government, principally the Department of Defense (DOD). The company also conducts business with foreign governments and makes domestic and international commercial sales.

2003 Results

The 2003 financial statements include TRW Inc. (TRW), which was acquired on December 11, 2002. This acquisition had a significant effect on the company’s operations and is an important factor to be considered in comparing 2003 results with 2002 results. Selected financial highlights are presented in the table below.

Sales increased in 2003 over 2002 by $9 billion, or 52 percent, due to the $6.7 billion of sales contributed by the newly acquired TRW business segments (Space Technology and Mission Systems) and the $2.3 billion, or 13 percent, growth in the company’s heritage segments (Electronic Systems, Ships, Information Technology, and Integrated Systems). Operating margin for 2003 increased by $147 million, or 11 percent, over 2002, reflecting $451 million from the new segments and an increase of $225 million, or 17 percent, from the heritage segments, offset by increased pension cost. Total operating margin in 2003 includes pension expense of $568 million compared with pension income of $90 million in 2002. Cost Accounting Standards (CAS) pension expense increased to $265 million in 2003 from $100 million for 2002.

Net income for 2002 included a $432 million charge for the cumulative effect of an accounting change on January 1, 2002, to recognize the impairment of goodwill in the company’s Component Technologies reporting units, and an additional goodwill impairment loss of $186 million reported in loss from discontinued operations.

Earnings per share are based on weighted-average diluted shares outstanding of 184.2 million for 2003 and 117.4 million for 2002. The significant increase in shares outstanding is primarily the result of the acquisition of TRW in exchange for stock.

Cash provided by operating activities was $891 million lower in 2003 compared with 2002. In 2003, cash provided by operating activities was reduced by approximately $1 billion for taxes paid related to the completion of the B-2 Engineering and Manufacturing Development (EMD) contract.

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In February 2003, the company sold the automotive business (Auto), a component of TRW, for $3.3 billion in cash, a payment-in-kind note, and an interest in the new enterprise. The cash received was used primarily to reduce debt. In 2003, the company also implemented a share repurchase program of up to $700 million of its outstanding common stock, purchasing over 2.2 million shares for approximately $200 million as of December 31, 2003.

Outlook

Through sixteen acquisitions over the past decade the company has evolved from an aircraft manufacturer into a global enterprise focused on providing a broad range of products and services needed to meet the nation’s defense and homeland security challenges. The company believes that its portfolio of technologically advanced, innovative products, services, and solutions in systems integration, defense electronics, information technology, advanced aircraft, shipbuilding, and space technology will generate revenue growth in 2004 and beyond. In 2004, based on its current total backlog (funded and unfunded) of $58 billion and its opportunity to win future programs, the company expects revenue of approximately $28 billion and improvements in net income and cash provided by operations over 2003. The major industry and economic factors that will affect the company’s future performance are described in the following paragraphs.

Industry Factors

While Northrop Grumman is subject to the usual vagaries of the marketplace, it is also affected by the unique characteristics of the defense industry and by certain elements peculiar to its own business mix. Lockheed Martin Corporation, The Boeing Company, Raytheon Company, and General Dynamics Corporation are among the largest companies in the defense industry at this time. Northrop Grumman competes against these and other companies for a number of programs, both large and small. Intense competition and long operating cycles are both key characteristics of Northrop Grumman’s business and the defense industry. It is common in this industry for work on major programs to be shared among a number of companies. A company competing to be a prime contractor may, upon ultimate award of the contract, turn out to be a subcontractor. It is not uncommon to compete with a peer company and, simultaneously on other contracts, to be either a supplier to or a customer of such competitor. The nature of major defense programs, conducted under binding contracts, allows companies that perform well to benefit from a level of program continuity unknown in many industries.

An individual company’s success in the competitive defense industry depends upon its ability to develop and market its products, as well as its ability to provide the people, facilities, equipment, and financial capacity needed to deliver those products with maximum efficiency. It is necessary to maintain, as the company has, sources for raw materials, fabricated parts, electronic components, and major subassemblies. In this manufacturing and systems integration environment, effective oversight of subcontractors and suppliers is as vital to success as managing internal operations. Northrop Grumman’s operating policies are designed to achieve these objectives.

Economic Opportunities, Challenges, and Risks

The defense of the United States and other North Atlantic Treaty Organization (NATO) countries requires the ability to respond to one or more regional conflicts, terrorist acts, homeland security, and proactive threat identification. Such engagements may require unilateral or cooperative initiatives ranging from passive surveillance to active engagement, deterrence, policing, or peacekeeping. In addition, the DOD’s strategy continues to be affected by the general public’s concern for placing military or civilian personnel at risk. As a result of these trends, both the United States and other NATO countries are increasingly relying on sophisticated weapon systems that provide long-range surveillance and intelligence, battle management, and precision strike capabilities combined with the ability to rapidly deploy complete defensive platforms around the world. Accordingly, defense procurement spending is expected to be weighted towards the development and procurement of advanced electronics and software that enhance the capabilities of individual weapons systems and provide for the real-time integration of individual surveillance, information management, strike, and battle management platforms.

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United States defense contractors have benefited from the upward trend in overall defense spending over recent years. Defense spending in NATO countries has stabilized, while those countries continue to increase their focus upon the development and procurement of advanced electronics and information systems capabilities. Although the ultimate size of future defense budgets remains uncertain, current indications are that the defense budget will increase over the next five years. Looking forward, based on the 2004 budget submitted by the President of the United States, the company continues to plan for steady, sustainable growth in national security spending. The Future Year Defense Program (FYDP) shows an increase to the DOD investment accounts of about 3 percent for 2005, with double-digit increases in areas like missile defense. The remainder of the FYDP shows approximately 6 percent annual growth through 2009. The company believes that spending on recapitalization and transformation of our homeland security and defense assets will continue to be a national priority, with particular emphasis on areas like national missile defense.

Substantial new competitive opportunities for the company include space based radar, aerial common sensor, transformational communication system, the Joint Unmanned Combat Air System (J-UCAS), and several international and homeland security programs. The company continues to focus on operational and financial performance for continued growth in 2004 and beyond.

U.S. Government programs in which Northrop Grumman either participates, or strives to participate, must compete with other programs for consideration during our nation’s budget formulation and appropriation processes. Budget decisions made in this environment will have long-term consequences for the size and structure of Northrop Grumman and the entire defense industry.

Northrop Grumman has historically concentrated its efforts in high technology areas such as stealth, airborne surveillance, battle management, precision weapons, systems integration, defense electronics, and information technology. Through its acquisitions of Litton Industries, Inc. (Litton), Newport News Shipbuilding Inc. (Newport News), and TRW, the company now has a significant presence in space technology, Command, Control & Intelligence (C2I), federal and civil information systems, missile systems, and the manufacture of a broad range of ships including aircraft carriers and submarines. The company believes that its programs are a high priority for national defense, but there remains the possibility that one or more of them may be reduced, extended, or terminated.

The company provides certain product warranties that require repair or replacement of non-conforming items for a specified period of time. Most of the company’s product warranties are provided under government contracts, the costs of which are generally recoverable from the customer.

Prime contracts with various agencies of the U.S. Government and subcontracts with other prime contractors are subject to numerous procurement regulations, including the False Claims Act, and The International Traffic in Arms Regulation promulgated under the Arms Export Control Act with noncompliance found by any one agency possibly resulting in fines, penalties, debarment, or suspension from receiving additional contracts with all U.S. Government agencies. Given the company’s dependence on U.S. Government business, suspension or debarment could have a material adverse effect on the company’s future.

ORGANIZATION, PRODUCTS, AND SERVICES

The company is aligned into seven business sectors: Electronic Systems, Newport News, Ship Systems, Information Technology, Mission Systems, Integrated Systems, and Space Technology. For financial reporting purposes, each business sector is a reportable segment with the exception of Newport News and Ship Systems, which are aggregated and reported as the Ships segment in accordance with the provisions of SFAS No. 131 – Disclosures about Segments of an Enterprise and Related Information.

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Segment reporting for Mission Systems and Space Technology, TRW businesses acquired on December 11, 2002, commenced in the first quarter of 2003, as 2002 results for these new segments were not material to the company.

Effective January 1, 2004, the company realigned businesses among three of its operating segments. For additional information see Realignment discussion contained in the “Summary Segment Financial Data” section contained in Part I, Item 1.

Electronic Systems

The Electronic Systems segment, headquartered in Linthicum, Maryland, develops, produces, and supports high performance sensors, intelligence and processing, and navigation systems operating in all environments from undersea to outer space. It also develops, produces, and supports power, power control, and ship controls for naval combatants. The segment is comprised of five major business areas: Aerospace Systems; Command, Control, Communications, Computers, Intelligence, Surveillance, and Reconnaissance (C4ISR) & Naval Systems; Defensive Systems; Navigation Systems; Space Systems; and three smaller business areas referred to collectively as “Other.”

Aerospace Systems – Aerospace Systems products include sensors and integrated sensor suites which meet military surveillance and precision-strike needs. Such products include a wide variety of radar systems for fighter and surveillance aircraft as well as helicopters. Principal programs include: radar installed onboard F-16, F-16 Block 60, and F/A-22 aircraft as well as other key avionics systems for the B-1B and the F-35 Joint Strike Fighter; precision guided munitions for artillery and Unmanned Aerial Vehicle (UAV) delivery; night vision goggles and weapon sights; and airborne surveillance systems such as the Airborne Warning and Control System (AWACS) radar, the Multirole Electronically Scanned Array (MESA), the Multi-Platform Radar Technology Insertion Program (MP-RTIP), and the E-2C Radar Modernization Program (RMP).

C4ISR & Naval Systems – C4ISR & Naval Systems is a systems oriented business consisting of subsystems and major systems integration programs in C4ISR sensors and processing, ship power propulsion and control systems, and air defense/air traffic control systems. Principal programs include: various intelligence, surveillance and reconnaissance processing systems; bridge management and controls for naval combatants and commercial marine customers; large air defense systems for foreign states; launch tubes for Trident submarines; the Advanced SEAL Delivery System mini-submarine; power generation systems for aircraft carriers; and propulsion systems for the Virginia-class submarine.

Defensive Systems – Defensive Systems provides electronic and infrared countermeasure systems, targeting systems, automatic test equipment, simulation products, and laser systems. Products include radar warning receivers, self-protection jammers, special receivers, and integrated electronic warfare systems, which protect fixed-wing and rotary-wing aircraft. Countermeasure products also include the Directional Infrared Countermeasures (DIRCM) system, which protects military and commercial fixed-wing and rotary-wing aircraft from shoulder-launched, infrared-guided threats.

Navigation Systems – Navigation Systems supplies international and domestic defense and commercial markets with navigation and positioning systems as well as flight certified computers, multifunction displays, identification friend or foe interrogators/transponders, and integrates these components into complete systems. Its products are used in military air, land, space, and sea applications and in commercial aircraft and space applications. Key programs include: integrated avionics for the U.S. Marine Corps attack and utility helicopters; U.S. Navy surveillance aircraft and Eurofighter aircraft; navigation and positioning systems for the U.S. Air Force F-22, Joint U.S. Air Force-U.S. Navy unmanned combat aerial systems, Airbus A380, and military/commercial space applications; and fiber-optic acoustic systems for underwater surveillance such as for Virginia-class submarines.

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Space Systems – Space Systems products include visible, infrared, and radio frequency payloads and the associated ground processing for remote sensing applications, such as environmental monitoring, missile warning, and surveillance. Principal programs include the Space-Based Infrared Surveillance (SBIRS) program, payloads for classified programs, the Defense Meteorological Satellite Program (DMSP), the National Polar-Orbital Operational and Environmental Satellite Systems (NPOESS), and the Defense Support Program (DSP).

Other – Other product and service lines in the Electronic Systems segment include communications, homeland defense, postal automation, and logistics. It also includes Systems Development and Technology, which develops next generation technologies that support Electronic Systems’ market areas and position the segment in key developing markets, such as chemical and biological defense, cyberspace and signals intelligence, electro-optics and infrared systems, coherent ladar (laser based radar) technologies, and C4ISR.

Ships

The Ships segment combines two operating sectors, Newport News, headquartered in Newport News, Virginia, and Ship Systems, headquartered in Pascagoula, Mississippi, and includes the following products and services: Aircraft Carriers, Surface Combatants, Amphibious and Auxiliary, Submarines, Commercial and International, and Services and Other.

Aircraft Carriers – Newport News is the nation’s sole designer, builder, and refueler of nuclear-powered aircraft carriers. The U.S. Navy’s newest carrier, the USS Ronald Reagan, was christened on March 4, 2001, and commissioned into the U.S. Navy’s fleet on July 12, 2003. The keel of the last carrier in the Nimitz class, the USS George H. W. Bush, was laid in 2003 with the christening scheduled to occur in 2006 and delivery to the U.S. Navy in 2008. Advanced design work on the new generation carrier, CVN 21, is currently underway with a construction contract anticipated in 2007. CVN 21 will incorporate transformational technologies that will result in manning reductions, improved war fighting capability, and a new nuclear propulsion plant design. The company also provides ongoing maintenance for the U.S. Navy aircraft carrier fleet through overhaul, refueling, and repair work. Currently, Newport News is overhauling and refueling the USS Dwight D. Eisenhower with re-delivery expected in 2004. Planning for the USS Carl Vinson refueling and overhaul is also underway. The USS Carl Vinson is expected to arrive at Newport News in 2005.

Surface Combatants – Ship Systems builds Surface Combatants, which includes: the design and construction of the Arleigh Burke DDG 51 Class Aegis guided missile destroyers; design of DD(X), the Navy’s future transformational surface combatant class; and the Coast Guard’s Deepwater Modernization Program. The latter two programs were awarded in 2002. Ship Systems is one of two prime contractors designing and building DDG 51 Class destroyers, which provide primary anti-aircraft and anti-ship missile protection for the U.S. Navy fleet. Seven Arleigh Burke Class Destroyers are currently under construction with an additional four ships in backlog. The DD(X) program is a $2.9 billion development contract to develop and test eleven Engineering Development Models (EDMs) including an Integrated Electric Propulsion System (IPS), an all composite low signature deckhouse with embedded radar and communication apertures, a new stealthy hull form, and a new Peripheral Vertical missile Launching System (PVLS). The contract further provides for incorporating these advanced technologies into the design of the next generation destroyer, DD(X). These technologies are also to be incorporated into the next generation cruiser, CG(X), and many ships already in the fleet, as well as other future new ship classes. Construction of the first DD(X) is scheduled to begin in 2006. Ship Systems and Lockheed Martin are joint venture partners for the Coast Guard’s Deepwater Modernization Program. Ship Systems has design and production responsibility for all surface ships, including three new classes of cutters. The program is a 20-year program with the surface ship content representing $8.1 billion.

Amphibious and Auxiliary – Ship Systems is also responsible for Amphibious and Auxiliary programs, which include the design and construction of amphibious assault ships for the U.S. Navy, including the WASP LHD 1 Class, the

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San Antonio LPD 17 Class ships and the Bob Hope Fast Sealift Auxiliary. Ship Systems is the sole provider for the LHD class of large-deck, 40,500-ton multipurpose amphibious assault ships, which serve as the centerpiece of an Amphibious Ready Group. Currently, the LHD 8 is in the final stages of design and is a significant upgrade from the preceding seven sister ships. The design and production of the LHD 8 is a $1.4 billion program with delivery scheduled for 2007. Ship Systems is also the sole provider of the LPD 17 class of ships, which function as amphibious transports. Ship Systems also builds Sealift ships for the Military Sealift Command. These very large ships are used for prepositioning U.S. military vehicles and equipment overseas.

Submarines – Newport News is one of only two companies capable of designing and building nuclear-powered submarines. In February 1997, the sector and Electric Boat Corporation (Electric Boat), a wholly owned subsidiary of General Dynamics Corporation, reached an agreement to cooperatively build the first four new nuclear attack submarines of the Virginia-class over the next 10 years. The current schedule calls for the delivery of the USS Virginia by Electric Boat in 2004 followed over the balance of the contract by the USS Texas, the USS Hawaii, and the USS North Carolina. Electric Boat and Newport News were awarded a construction contract in August 2003, which was subsequently modified in January 2004, for the second flight of six Virginia-class submarines.

Commercial and International – Ship Systems is under contract to produce five Polar Tankers, three ships of which have been delivered. These tankers each transport one million barrels of crude oil from Alaska to west coast refineries and are fully compliant with the Oil Pollution Act of 1990. The remaining two ships are expected to be delivered in 2004 and 2005.

Services and Other – Newport News and Ship Systems also provide after-market services, including on-going maintenance and repair work, for a wide array of naval and commercial vessels. The company has ship repair facilities in the U.S. Navy’s largest homeports of Norfolk, Virginia, and San Diego, California.

Information Technology

The Information Technology segment, headquartered in Herndon, Virginia, consists of four lines of business: Government Information Technology, Enterprise Information Technology, Technology Services, and Commercial Information Technology.

Government Information Technology – This business area covers a wide range of large-scale systems integration, solutions, and services programs for government customers across the Department of Defense, Federal civilian agencies, state and local, and national intelligence agencies. Such programs encompass C4ISR, public safety, infrastructure systems and services, applied sciences and technology, and training and simulation. Government Information Technology is also the lead business area for the company’s Homeland Security (HLS) efforts. HLS solutions include emergency operations centers, identity management and identification/authentication, port and border security, training and exercises, cyber-warfare modeling, HLS requirements and optimization of systems, and consequence management.

C4ISR capabilities include mission planning and rehearsal, battle management command and control systems, tactical communications, satellite systems and applications, and wireless communications solutions. Public safety and citizen services information systems provides emergency response solutions, citizen security systems, transportation systems (traffic management), and a wide variety of business and government systems. Infrastructure systems and services provides enterprise communications and infrastructure systems, information technology (IT) outsourcing, network operations center IT services, logistics systems, mission support systems, commercial services, and information assurance to a broad range of customers, not only in the public and commercial sectors, but also internally to the company. In the applied sciences and technology market, products include laser and imaging systems, weapons of mass destruction threat reduction analysis and simulation, systems analysis and modeling, health and applied science systems, and high-performance computing. In the training and simulation market, the

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sector is a prime developer and operator of modeling, simulation and analysis systems, computer-driven war-gaming and training, flight simulations, knowledge management systems, and mission readiness exercises.

Enterprise Information Technology – Enterprise Information Technology provides advanced solutions and complex IT products and professional services to public sector and commercial customers alike, specifically in two core market segments: enterprise computing and multiservice networking and security.

Technology Services – Technology Services includes logistics and range support, training and simulation, and state and local information technology services. Contracts include support of systems, logistics support, facilities management services, flight systems and simulation services, mission integration and planning support, operation and support of simulation enhanced training programs, systems integration, information security, data center management, and systems engineering and networking.

Commercial Information Technology – Commercial Information Technology provides complete IT outsourcing services directed to the commercial market. This work includes desktop and server management, hardware and software maintenance, help desk support, systems administration, network design, systems modernization and integration, and facility management services.

Mission Systems

The Mission Systems segment, headquartered in Reston, Virginia, is a leading global system integrator of complex, mission-enabling systems. The segment consists of four lines of business: Command, Control & Intelligence (C2I) Systems; Missile Systems; Federal & Civil Information Systems; and Technical and Management Services.

Command, Control & Intelligence Systems – C2I Systems provides a variety of command, control, communications, computers, and intelligence support to the various branches of the U.S. Department of Defense. Offerings include signals intelligence and exploitation systems, system engineering and integration, data collection and operations and maintenance, modeling and product generation, system simulation and integration and test, spacecraft C2 systems, payload control and terminal software, Army and tactical global combat service support, and legacy standard Army management information systems. In the platform integration and UAV market, the segment supports the division tactical UAV system, light and heavy joint service nuclear, biological and chemical reconnaissance systems, and tactical operation centers.

Missile Systems – Missile Systems supports the Integrated Missile Defense system and the Intercontinental Ballistic Missile (ICBM) Program. The Integrated Missile Defense system market includes shooters, sensors, battle management command and control communications, modeling and simulation, and test and evaluation. For this market, the segment provides war games, modeling and simulation, system test and integration, targets and countermeasures, missile system engineering, and trainers to the Missile Defense Agency, Boeing, and Lockheed Martin. As prime contractor for the recently awarded Kinetic Energy Interceptors (KEI) program, the segment is leading development and test activities focused on the boost phase element of the Missile Defense Agency’s global layered missile defense system. As prime contractor for the ICBM Program Office, the segment offers ICBM domain knowledge, program management, systems engineering and integration, and sustainment and modernization services.

Federal & Civil Information Systems – Federal & Civil Information Systems provides information technology services to domestic and foreign government customers at the federal, state, and local levels. Products to these markets include network convergence solutions, enterprise-wide architecture, financial asset tracking, secure document technology, knowledge management, collaborative systems including advanced video teleconferencing, public health data systems, labor unemployment insurance systems, child welfare and support enforcement systems, transportation and airport security, statewide wireless communications systems, automated and criminal identification systems, and integrated justice information systems.

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Technical and Management Services – Technical and Management Services primarily supports the U.S. Departments of Defense, Labor, and Justice. Products and services offered include full life cycle design and information systems integration and operations, electromagnetic and infrared analysis, decision support with modeling tools, systems effectiveness evaluation, engineering prototypes and integration, simulation modeling for training resource allocation, multi-media training design and delivery, operational support of war fighting and peacekeeping (e.g., linguists and subject matter experts), base operating services, equipment maintenance, logistics and administrative support and freight forwarding services, biometrics, biological agent detection, maneuver and logistics training, force-on-force exercise development and control, force modernization and integration, new equipment training and fielding, educational and vocational training, residential living, placement and transition services, and web-based general education development training.

Integrated Systems

The Integrated Systems segment, headquartered in El Segundo, California, designs, develops, produces, and supports fully missionized integrated systems and subsystems in the areas of battlespace awareness, command and control systems, and integrated combat systems. The segment is organized into the following product lines: Air Combat Systems (ACS), which includes Unmanned Systems; Airborne Early Warning and Electronics Warfare (AEW/EW) Systems; and Airborne Ground Surveillance and Battle Management (AGS/BM) Systems.

Air Combat Systems – The principal programs in ACS are subcontractor work on the F/A-18 and F-35 programs, and the Multi-Platform Radar Technology Insertion Program (MP-RTIP). For the F/A-18, ACS is responsible for approximately 40 percent of the aircraft, including the full integration of the center and aft fuselage and vertical tail sections and associated subsystems. For the F-35, ACS is responsible for the detailed design and integration of the center fuselage and weapon bay, a large part of systems engineering, mission system software, ground and flight test support, signature/low observables development, and support of modeling and simulation activities. ACS is the prime systems integration contractor for the MP-RTIP to upgrade current aircraft and unmanned vehicles with an advanced technology radar subsystem, which includes higher resolution and greater accuracy.

The principal programs in the ACS Unmanned Systems product line consist of UAVs and the J-UCAS. UAVs include the Global Hawk, a high altitude, long endurance unmanned aerial reconnaissance system, and the Fire Scout, a vertical takeoff and landing tactical UAV system in development and low-rate initial production. The purpose of the J-UCAS program is to demonstrate the technical feasibility, military utility, and operational value for a networked system of high performance and weaponized unmanned air vehicles to effectively and affordably prosecute 21^st century combat missions.

Airborne Early Warning and Electronic Warfare – AEW/EW principal products include the E-2C (Hawkeye) and the EA-6B (Prowler) aircraft. The company is currently delivering E-2C aircraft under a multiyear contract with the U.S. Navy and has recently been awarded a follow-on contract for eight additional aircraft. The company is also developing the next generation capability including radar, mission computer, vehicle, and other system enhancements called the Advanced Hawkeye under a system development and demonstration contract with the U.S. Navy. The EA-6B is the armed services’ only offensive tactical radar jamming aircraft. AEW/EW is currently developing the next generation mission system for this aircraft under the ICAP (Increased Capability) III contract currently in the test and evaluation phase. Low-rate initial production for ICAP III Kits has been authorized. In addition, the company has received funding to incorporate the ICAP III mission system into a F/A-18 platform designated the EA-18G. Integrated Systems is the principal subcontractor to Boeing for this program currently in the system development and demonstration phase.

Airborne Ground Surveillance and Battle Management – AGS/BM Systems is the prime contractor on the Joint Surveillance Target Attack Radar System (Joint STARS) program. Joint STARS detects, locates, classifies, tracks, and targets potentially hostile ground movement in all weather conditions. It is designed to operate around the

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clock in constant communication through secure data links with Air Force command posts, Army mobile ground stations, or centers for military analysis far from the point of conflict. Two aircraft remain in the delivery contract, with one scheduled for the first quarter of 2004 and the last in early 2005. As Joint STARS nears the end of its production, a follow-on system, the E-10A Multi-Sensor Command & Control Aircraft (MC2A), is in development and will include the MP-RTIP radar. AGS/BM Systems was selected as the prime contractor for the E-10A Weapon System Integration program by the U.S. Air Force in 2003. AGS/BM Systems is currently in competition for the major Battle Management Command & Control (BMC2) subsystem to be decided in the second half of 2004.

Space Technology

The Space Technology sector, headquartered in Redondo Beach, California, develops a broad range of systems at the leading edge of space, defense, and electronics technology. The sector creates products primarily for the U.S. government that contribute significantly to the nation’s security and leadership in science and technology. This business primarily consists of the following major business areas: Intelligence, Surveillance & Reconnaissance (ISR); Civil Space; Satellite Communications (SatCom); Missile & Space Defense; Software Defined Radios; and Technology.

Intelligence, Surveillance & Reconnaissance – In the ISR business area, the sector’s capabilities give the nation’s monitoring systems a global reach and enhance national security. Addressing requirements in space-based intelligence, surveillance, and reconnaissance systems, the sector provides mission and system engineering, satellite systems, and mission operations. Customers are predominantly restricted, as are the major programs. The Defense Support Program (DSP) is also part of this business area, and has been monitoring ballistic missile launches for the Air Force for decades.

Civil Space – The Civil Space business area produces spacecraft, instruments, and services for space science missions, earth observation systems, and environmental satellite systems. A variety of systems and services are provided, including mission and system engineering services, spacecraft and instrument systems, mission operations, and propulsion systems. Customers include the National Aeronautics and Space Administration (NASA), National Oceanic and Atmospheric Administration (NOAA), and the DOD. Major programs include National Polar-orbiting Operational Environmental Satellite System (NPOESS), the James Webb Space Telescope (JWST), the Earth Observing System (EOS), and the legacy space telescope program Chandra.

Satellite Communications – The SatCom business area includes complex satellite communication systems and broadband payloads. Key customers are satellite prime contractors in support of the DOD and other government agencies. Major programs include Advanced Extremely High Frequency (AEHF) payload, and communication payload for the legacy Milstar program, currently in operation.

Missile & Space Defense – Missile & Space Defense produces space, air, and ground-based systems that detect, track and destroy missiles and help to counter today’s widely proliferating missile threats. Key capabilities and products include system integration, spacecraft, directed energy and kinetic energy weapons, and tactical lasers. The Missile Defense Agency (MDA) is the primary customer. Major programs include the Space Tracking and Surveillance System (STSS), Airborne Laser (ABL), and Mobile Tactical High Energy Laser (MTHEL).

Software Defined Radios – In the Software Defined Radios business area, the sector has been pioneering radio technology and applying the results to advanced integrated Communications, Navigation and Identification (CNI) systems, radios, and avionics integration software. The sector’s avionics systems represent the “eyes and ears” of the F/A-22 Raptor jet fighter and F-35 Joint Strike Fighter.

Technology – The Technology business area consists primarily of government funded research and development (R&D) contracts in support of the five business areas described above.

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BUSINESSES ACQUIRED

The current composition of Northrop Grumman Corporation is the result of a series of strategic acquisitions, mergers, and divestitures.

In 2001, the company purchased Litton, the Electronics and Information Systems Group of Aerojet-General Corporation (EIS), and 80.7 percent of Newport News. On January 18, 2002, the company acquired the remaining shares of Newport News. The Litton business units’ operating results are included from the acquisition date in the company’s segment data as follows: Litton’s advanced electronics business is included in Electronic Systems; Litton’s information systems business is included in Information Technology; Litton’s ship business is included in Ships. Litton’s electronic components and materials business, Component Technologies (CT), is classified as discontinued operations. EIS was integrated into Electronic Systems, and Newport News is included in the Ships segment.

In December 2002, the company purchased 100 percent of the common stock of TRW valued at approximately $12.5 billion, including the assumption of TRW’s debt of $4.8 billion. The company issued approximately 69.4 million shares of its common stock at an exchange ratio of .5357 for each TRW share, with cash paid in lieu of any fractional share of the company’s stock, which otherwise would be issued to the TRW shareholders. These shares were valued at $107.31 per share for purchase accounting purposes. In accordance with generally accepted accounting principles, this value was determined based on the average closing stock price of the company’s common stock from October 15, 2002, through October 21, 2002. In connection with the acquisition of TRW, the company entered into a formal stipulation and consent decree with the United States Department of Justice that was filed in the U.S. District Court for the District of Columbia on December 11, 2002. Key provisions of the consent decree are intended to assure that the merger will not impede fair and open competition related to certain electronic satellite payloads. The consent decree does not require the divestiture of any businesses and permits the company to operate its business and those of TRW as planned. TRW’s defense business units are operated as two separate sectors, Mission Systems and Space Technology.

The consolidated financial statements as of December 31, 2002, reflect preliminary estimates of the fair market value for purchased intangibles, retiree benefits assets and liabilities, and debt as well as preliminary estimates of adjustments necessary to conform TRW to the company’s accounting policies. Auto was included in the total TRW valuation and was valued and recorded at its sale price which represents its fair market value. As of December 31, 2003, the company completed the fair market value and accounting conformance evaluation process for TRW and recorded an aggregate increase to goodwill of $1.6 billion.

BUSINESSES SOLD AND DISCONTINUED OPERATIONS

On February 28, 2003, the company sold Auto to The Blackstone Group for $3.3 billion in cash, a $600 million face value payment-in-kind note, initially valued at $455 million, and a 19.6 percent interest in the new enterprise, initially valued at $170 million. The cash received from the sale of Auto was adjusted from the sale agreement amount by cash sold with the business, preliminary purchase price adjustments, and an asset retained. The acquirer also assumed debt of approximately $200 million. Cash proceeds from the sale were primarily used to reduce debt. The payment-in-kind note matures in 2018 and bears interest at an effective yield of 11.7 percent per annum. In January 2004, the restrictions on the investment in Auto were amended to provide the company more flexibility in monetization. In February 2004, the company’s investment in Auto was diluted to 17.2 percent as a result of Auto’s initial public offering.

The company has retained certain liabilities associated with the Auto business as well as the Aeronautical Systems business that TRW divested in 2002. Subsequent adjustment to or resolution of accruals recorded as of December 31, 2003, in connection with the divestitures of TRW’s Auto and Aeronautical Systems businesses, will be charged to discontinued operations. There can be no assurance that such adjustments will not be material.

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During the third quarter of 2002, the company concluded that the CT businesses, which were acquired as part of the 2001 Litton acquisition, did not fit with the company’s long-term plan and decided to sell the businesses. In October 2002, Northrop Grumman completed the sale of two Electronic Systems sector businesses, Electron Devices and Ruggedized Displays, for $135 million. During 2003, the company sold several of the CT businesses: the VEAM business in the first quarter, Life Support during the third quarter, and Poly-Scientific during the fourth quarter. The company also sold its 51 percent interest in the operations of TRW Koyo Steering Systems Company in the fourth quarter of 2003. None of these sales, either individually or in the aggregate, had a material impact on the company’s financial condition or results of operations.

As of December 31, 2003, three CT businesses remain to be sold whose assets and liabilities have been classified as held for sale. One of these businesses, Kester, was sold in February 2004. The sale of the remaining businesses classified as discontinued operations is not expected to have, either individually or in the aggregate, a material impact on the company’s financial condition or results of operations.

In accordance with SFAS No. 144 – Accounting for the Impairment or Disposal of Long-Lived Assets, the results of operations of these businesses are reported as discontinued operations, net of applicable income taxes, for all periods presented. As such, discontinued operations includes the operating results for all sold companies up to the date of sale.

MANAGEMENT FINANCIAL MEASURES

The company manages and assesses the performance of its business primarily through measures of acquisitions, sales, segment operating margin, and backlog.

Acquisitions – Contract acquisitions represent orders received during the period for which funding has been contractually obligated by the customer. Contract acquisitions tend to fluctuate from year to year and are determined by the size and timing of new and follow-on orders. In the year that a business is purchased, its existing funded order backlog as of the purchase date is reported as contract acquisitions.

Sales – Year-to-year sales vary less than contract acquisitions and reflect performance under new and ongoing contracts.

Segment Operating Margin – Segment operating margin reflects the performance of the segments on their contracts and programs. Excluded from this measure are certain costs not directly associated with contract performance, including the portion of pension expense/income that is not currently recognized under CAS, as well as the portion of corporate, legal, environmental, state income tax, other retiree benefits, and other expenses not considered allowable costs under CAS and not allocated to the segments.

Effective January 1, 2002, the company adopted Statement of Financial Accounting Standards (SFAS) No. 142 - Goodwill and Other Intangible Assets, which changes the accounting for goodwill from an amortization method to an impairment-only approach and eliminates amortization of goodwill. The segment operating results for 2001 have not been adjusted to exclude amortization of goodwill. A reconciliation of previously reported 2001 financial information adjusted to exclude goodwill amortization is presented in Note 1 to the Consolidated Financial Statements in Part II, Item 8.

Backlog – Funded backlog represents unfilled orders for which funding has been contractually obligated by the customer. Unfunded backlog represents firm orders for which funding is not contractually obligated by the customer.

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SEGMENT OPERATING RESULTS

Certain prior year amounts in the tables within this section have been reclassified to conform to current year reporting.

Electronic Systems