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EX-32.1 - EXHIBIT 32.1 - AEROJET ROCKETDYNE HOLDINGS, INC.exhibit321q32017.htm
EX-31.2 - EXHIBIT 31.2 - AEROJET ROCKETDYNE HOLDINGS, INC.exhibit312q32017.htm
EX-31.1 - EXHIBIT 31.1 - AEROJET ROCKETDYNE HOLDINGS, INC.exhibit311q32017.htm
EX-10.1 - EXHIBIT 10.1 - AEROJET ROCKETDYNE HOLDINGS, INC.exhibit101q32017.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 FORM 10-Q
 (Mark One)
ý
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended: September 30, 2017
or
¨
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from                      to                     
Commission File Number 1-01520
  Aerojet Rocketdyne Holdings, Inc.
(Exact name of registrant as specified in its charter)
Delaware
 
34-0244000
(State of Incorporation)
 
(I.R.S. Employer
Identification No.)
 
 
222 N. Sepulveda Blvd., Suite 500
El Segundo, California
 
90245
(Address of Principal Executive Offices)
 
(Zip Code)
Registrant’s telephone number, including area code (310) 252-8100
 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
ý
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
¨ (Do not check if a smaller reporting company)
Smaller reporting company
 
¨
 
 
 
 
 
Emerging growth company
¨

 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
As of October 26, 2017, there were 75.1 million outstanding shares of our common stock, including unvested common shares, $0.10 par value.




Aerojet Rocketdyne Holdings, Inc.
Quarterly Report on Form 10-Q
For the Quarterly Period Ended September 30, 2017
Table of Contents 
Item
Number
 
Page
1
Financial Statements
2
Management’s Discussion and Analysis of Financial Condition and Results of Operations
3
Quantitative and Qualitative Disclosures About Market Risk
4
Controls and Procedures
1
Legal Proceedings
1A
Risk Factors
2
Unregistered Sales of Equity Securities and Use of Proceeds
3
Defaults Upon Senior Securities
4
Mine Safety Disclosures
5
Other Information
6
Exhibits
 
Signatures
 
Exhibit Index





Part I — FINANCIAL INFORMATION
Item 1. Financial Statements
Aerojet Rocketdyne Holdings, Inc.
Condensed Consolidated Statements of Operations
(Unaudited) 
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions, except per share amounts)
Net sales
$
484.1

 
$
463.8

 
$
1,349.0

 
$
1,229.1

Operating costs and expenses:
 
 
 
 
 
 
 
Cost of sales (exclusive of items shown separately below)
417.1

 
405.4

 
1,153.7

 
1,071.6

Selling, general and administrative
22.5

 
10.8

 
55.7

 
36.0

Depreciation and amortization
18.6

 
15.4

 
54.0

 
45.9

Other expense, net
0.6

 
17.6

 
1.0

 
19.3

Total operating costs and expenses
458.8

 
449.2

 
1,264.4

 
1,172.8

Operating income
25.3

 
14.6

 
84.6

 
56.3

Non-operating (income) expense:
 
 
 
 
 
 
 
Loss on debt

 
34.1

 

 
34.5

Interest income
(1.0
)
 
(0.1
)
 
(2.3
)
 
(0.4
)
Interest expense
7.7

 
5.9

 
22.9

 
27.4

Total non-operating expense, net
6.7

 
39.9

 
20.6

 
61.5

Income (loss) before income taxes
18.6

 
(25.3
)
 
64.0

 
(5.2
)
Income tax provision (benefit)
6.0

 
(14.2
)
 
21.2

 
(5.1
)
Net income (loss)
$
12.6

 
$
(11.1
)
 
$
42.8

 
$
(0.1
)
Earnings (Loss) Per Share of Common Stock
 
 
 
 
 
 
Basic and Diluted
 
 
 
 
 
 
 
Net income (loss) per share
$
0.17

 
$
(0.17
)
 
$
0.57

 
$

Weighted average shares of common stock outstanding, basic
73.5

 
67.0

 
72.8

 
64.6

Weighted average shares of common stock outstanding, diluted
73.9

 
67.0

 
73.0

 
64.6

See Notes to Unaudited Condensed Consolidated Financial Statements.

1



Aerojet Rocketdyne Holdings, Inc.
Condensed Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)
 
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Net income (loss)
$
12.6

 
$
(11.1
)
 
$
42.8

 
$
(0.1
)
Other comprehensive income:
 
 
 
 
 
 
 
Amortization of actuarial losses and prior service credits, net of income taxes
10.0

 
9.2

 
29.1

 
27.3

Comprehensive income (loss)
$
22.6

 
$
(1.9
)
 
$
71.9

 
$
27.2

See Notes to Unaudited Condensed Consolidated Financial Statements.

2



Aerojet Rocketdyne Holdings, Inc.
Condensed Consolidated Balance Sheets
(Unaudited)
 
September 30,
2017
 
December 31, 2016
 
(In millions, except per share  amounts)
ASSETS
Current Assets
 
 
 
Cash and cash equivalents
$
392.5

 
$
410.3

Accounts receivable
283.1

 
136.4

Inventories
160.8

 
185.1

Recoverable from the U.S. government and other third parties for environmental remediation costs
26.7

 
25.2

Receivable from Northrop Grumman Corporation (“Northrop”)
6.0

 
6.0

Other current assets, net
71.0

 
91.7

Total Current Assets
940.1

 
854.7

Noncurrent Assets
 
 
 
Property, plant and equipment, net
349.6

 
366.0

Real estate held for entitlement and leasing
93.4

 
91.8

Recoverable from the U.S. government and other third parties for environmental remediation costs
225.5

 
239.8

Receivable from Northrop
60.0

 
62.0

Deferred income taxes
251.2

 
292.5

Goodwill
160.0

 
158.1

Intangible assets
88.4

 
94.4

Other noncurrent assets, net
126.7

 
90.2

Total Noncurrent Assets
1,354.8

 
1,394.8

Total Assets
$
2,294.9

 
$
2,249.5

LIABILITIES, REDEEMABLE COMMON STOCK, AND STOCKHOLDERS’ EQUITY
Current Liabilities
 
 
 
Current portion of long-term debt
$
22.4

 
$
55.6

Accounts payable
126.2

 
96.2

Reserves for environmental remediation costs
35.8

 
37.1

Postretirement medical and life insurance benefits
5.2

 
5.2

Advance payments on contracts
182.7

 
221.8

Other current liabilities
192.6

 
167.8

Total Current Liabilities
564.9

 
583.7

Noncurrent Liabilities
 
 
 
Long-term debt
596.2

 
608.0

Reserves for environmental remediation costs
298.6

 
312.6

Pension benefits
486.5

 
548.2

Postretirement medical and life insurance benefits
35.4

 
37.4

Other noncurrent liabilities
162.0

 
124.0

Total Noncurrent Liabilities
1,578.7

 
1,630.2

Total Liabilities
2,143.6

 
2,213.9

Commitments and contingencies (Note 8)

 

Redeemable common stock, par value of $0.10; 0.1 million shares issued and outstanding as of December 31, 2016

 
1.1

Stockholders’ Equity
 
 
 
Preference stock, par value of $1.00; 15.0 million shares authorized; none issued or outstanding

 

Common stock, par value of $0.10; 150.0 million shares authorized; 73.6 million shares issued and outstanding as of September 30, 2017; 69.2 million shares issued and outstanding as of December 31, 2016
7.4

 
6.9

Other capital
501.3

 
456.9

Treasury stock at cost, 3.5 million shares as of September 30, 2017 and December 31, 2016
(64.5
)
 
(64.5
)
Accumulated deficit
(19.0
)
 
(61.8
)
Accumulated other comprehensive loss, net of income taxes
(273.9
)
 
(303.0
)
Total Stockholders’ Equity
151.3

 
34.5

Total Liabilities, Redeemable Common Stock and Stockholders’ Equity
$
2,294.9

 
$
2,249.5

See Notes to Unaudited Condensed Consolidated Financial Statements.

3



Aerojet Rocketdyne Holdings, Inc.
Condensed Consolidated Statement of Stockholders’ Equity
(Unaudited) 
 
Common Stock
 
 
 
 
 
 
 
Accumulated Other
 
Total
 
 
 
Other
Capital
 
Treasury
Stock
 
Accumulated
Deficit
 
Comprehensive
Loss
 
Stockholders'
Equity
 
Shares
 
Amount
 
 
(In millions)
December 31, 2016
69.2

 
$
6.9

 
$
456.9

 
$
(64.5
)
 
$
(61.8
)
 
$
(303.0
)
 
$
34.5

Net income

 

 

 

 
42.8

 

 
42.8

Amortization of actuarial losses and prior service credits, net of income taxes

 

 

 

 

 
29.1

 
29.1

Conversion of debt to common stock
3.9

 
0.4

 
35.2

 

 

 

 
35.6

Reclassification from redeemable common stock
0.1

 

 
0.9

 

 

 

 
0.9

Cumulative effect of change in accounting guidance (see Note 1)

 


 
0.3

 

 

 

 
0.3

Repurchase of shares for withholding taxes and option costs under employee equity plans
(0.4
)
 

 
(5.7
)
 

 

 

 
(5.7
)
Stock-based compensation and shares issued under equity plans
0.8

 
0.1

 
13.7

 

 

 

 
13.8

September 30, 2017
73.6

 
$
7.4

 
$
501.3

 
$
(64.5
)
 
$
(19.0
)
 
$
(273.9
)
 
$
151.3

See Notes to Unaudited Condensed Consolidated Financial Statements.

4



Aerojet Rocketdyne Holdings, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
 
Nine months ended September 30,
 
2017
 
2016
 
(In millions)
Operating Activities
 
 
 
Net income (loss)
$
42.8

 
$
(0.1
)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
 
 
 
Depreciation and amortization
54.0

 
45.9

Amortization of debt discount and deferred financing costs
6.3

 
1.7

Stock-based compensation
21.2

 
7.7

Retirement benefits, net
(16.2
)
 
17.8

Loss on debt

 
34.5

Loss on disposal of long-lived assets
0.3

 
0.4

Changes in assets and liabilities, net of effects from acquisition:
 
 
 
Accounts receivable
(135.2
)
 
22.2

Inventories
24.3

 
(1.0
)
Other current assets, net
20.6

 
(13.3
)
Real estate held for entitlement and leasing
(2.2
)
 
(4.5
)
Receivable from Northrop
2.0

 
0.9

Recoverable from the U.S. government and other third parties for environmental remediation costs
12.8

 
(36.8
)
Other noncurrent assets
(47.2
)
 
(12.3
)
Accounts payable
28.1

 
11.5

Advance payments on contracts
(39.1
)
 
(26.9
)
Other current liabilities
8.5

 
(57.8
)
Deferred income taxes
23.5

 
9.2

Reserves for environmental remediation costs
(15.3
)
 
51.0

Other noncurrent liabilities and other
36.7

 
(0.9
)
Net Cash Provided by Operating Activities
25.9

 
49.2

Investing Activities
 
 
 
Purchase of Coleman Aerospace (see Note 5)
(17.0
)
 

Proceeds from sale of technology

 
0.5

Capital expenditures
(10.5
)
 
(30.5
)
Net Cash Used in Investing Activities
(27.5
)
 
(30.0
)
Financing Activities
 
 
 
Proceeds from issuance of debt

 
500.0

Debt issuance costs

 
(3.7
)
Debt repayments
(15.0
)
 
(595.3
)
Repurchase of shares for withholding taxes and option costs under employee equity plans
(5.7
)
 
(2.4
)
Proceeds from shares issued under equity plans
4.5

 
3.0

Net Cash Used in Financing Activities
(16.2
)
 
(98.4
)
Net Decrease in Cash and Cash Equivalents
(17.8
)
 
(79.2
)
Cash and Cash Equivalents at Beginning of Period
410.3

 
208.5

Cash and Cash Equivalents at End of Period
$
392.5

 
$
129.3

Supplemental disclosures of cash flow information
 
 
 
Cash paid for interest
$
15.2

 
$
35.2

Cash paid for income taxes
2.7

 
30.5

Cash refund for income taxes
21.3

 
0.2

Conversion of debt to common stock
35.6

 
43.0

See Notes to Unaudited Condensed Consolidated Financial Statements.

5



Aerojet Rocketdyne Holdings, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1. Basis of Presentation and Nature of Operations
Aerojet Rocketdyne Holdings, Inc. (“Aerojet Rocketdyne Holdings” or the “Company”) has prepared the accompanying unaudited condensed consolidated financial statements, including its accounts and the accounts of its wholly-owned subsidiaries, in accordance with the instructions to Form 10-Q. The December 31, 2016 condensed consolidated balance sheet was derived from audited financial statements, but does not include all of the disclosures required by accounting principles generally accepted in the United States of America (“GAAP”). These interim financial statements should be read in conjunction with the financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2016. Certain reclassifications have been made to financial information for the prior year to conform to the current year’s presentation.
The Company believes the accompanying unaudited condensed consolidated financial statements reflect all adjustments, including normal recurring accruals, necessary for a fair statement of its financial position, results of operations, and cash flows for the periods presented. All significant intercompany balances and transactions have been eliminated in consolidation. The preparation of the unaudited condensed consolidated financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect the amounts reported in the unaudited condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates. In addition, the operating results for interim periods may not be indicative of the results of operations for a full year.
The Company is a manufacturer of aerospace and defense products and systems with a real estate segment. The Company’s operations are organized into two segments:
Aerospace and Defense — includes the operations of the Company’s wholly-owned subsidiary Aerojet Rocketdyne, Inc. (“Aerojet Rocketdyne”), a leading technology-based designer, developer and manufacturer of aerospace and defense products and systems for the United States (“U.S.”) government, including the Department of Defense (“DoD”), the National Aeronautics and Space Administration (“NASA”), major aerospace and defense prime contractors as well as portions of the commercial sector.
Real Estate — includes the activities of the Company’s wholly-owned subsidiary Easton Development Company, LLC (“Easton”) related to the re-zoning, entitlement, sale, and leasing of the Company’s excess real estate assets. The Company is currently in the process of seeking zoning changes and other governmental approvals on its excess real estate assets to optimize its value.
A detailed description of the Company’s significant accounting policies can be found in the Company’s most recent Annual Report on Form 10-K for the fiscal year ended December 31, 2016.
AR1 Research and Development
Company-sponsored research and development ("R&D") expenses (reported as a component of cost of sales) are generally reimbursed via allocation of such expenses among all contracts and programs in progress under U.S. government contractual arrangements. The newest large liquid booster engine development project, the AR1, accounted for $54.0 million of such reimbursable costs from its inception through September 30, 2017. In February 2016, the U.S. Air Force selected Aerojet Rocketdyne and United Launch Alliance ("ULA") to share in a public-private partnership to develop jointly the AR1 engine. The total agreement is valued at $804.0 million with the U.S. Air Force investing two-thirds of the funding required to complete development of the AR1 engine by 2019. The work is expected to be completed no later than December 31, 2019. The U.S. Air Force has obligated $174.0 million with Aerojet Rocketdyne contributing $77.7 million and ULA contributing $5.8 million in cash and $3.5 million in "in-kind" R&D expense. The total potential U.S. government investment, including all options, is $536.0 million. The total potential investment by Aerojet Rocketdyne and its partners, including all options, is $268.0 million. Under the terms of the AR1 agreement, the U.S. Air Force contributions are recognized proportionately as an offset to R&D expenses. In the event the Company records a receivable for a milestone prior to expending the prospective proportional share to be contributed by the Company, the amount is recorded as an accrued liability until earned. The AR1 inception to date project costs at September 30, 2017, were as follows (in millions):
AR1 R&D costs incurred
$
236.6

Less amounts funded by the U.S. Air Force
(141.2
)
Less amounts funded by ULA
(9.3
)
AR1 R&D costs net of reimbursements
86.1

AR1 R&D costs expensed and not applied to contracts
(32.1
)
Net AR1 R&D costs applied to contracts
$
54.0


6



Revenue Recognition
In the Company’s Aerospace and Defense segment, recognition of profit on long-term contracts requires the use of assumptions and estimates related to total contract revenue, the total cost at completion and the measurement of progress towards completion. Due to the nature of the programs, developing the estimated total contract revenue and cost at completion requires the use of significant judgment. Estimates are continually evaluated as work progresses and are revised as necessary. Factors that must be considered in estimating the work to be completed include, but are not limited to: labor productivity, the nature and technical complexity of the work to be performed, availability and cost volatility of materials, subcontractor and vendor performance, warranty costs, volume assumptions, anticipated labor agreements, inflationary trends, schedule delays, availability of funding from the customer, and the recoverability of costs incurred outside the original contract included in any estimates to complete. The Company reviews contract performance and cost estimates for some contracts at least monthly and for others at least quarterly and more frequently when circumstances significantly change. When a change in estimate is determined to have an impact on contract profit, the Company will record a positive or negative adjustment to the statement of operations. Changes in estimates and assumptions related to the status of certain long-term contracts may have a material effect on the Company’s operating results. The following table summarizes the impact of the change in significant contract accounting estimates on the Company’s Aerospace and Defense segment operating results accounted for under the percentage-of-completion method of accounting:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions, except per share amounts)
Favorable (unfavorable) effect of the changes in contract estimates on income before income taxes
$
11.5

 
$
1.1

 
$
25.2

 
$
(2.3
)
Favorable (unfavorable) effect of the changes in contract estimates on net income
6.9

 
0.7

 
15.1

 
(1.4
)
Favorable (unfavorable) effect of the changes in contract estimates on basic and diluted net income per share
0.09

 
0.01

 
0.20

 
(0.02
)
Recently Adopted Accounting Pronouncements
In August 2014, the Financial Accounting Standards Board (“FASB”) issued an amendment to the accounting guidance related to the evaluation of an entity's ability to continue as a going concern. The amendment establishes management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern in connection with preparing financial statements for each annual and interim reporting period. The update also gives guidance to determine whether to disclose information about relevant conditions and events when there is substantial doubt about an entity’s ability to continue as a going concern. The Company adopted this guidance as of December 31, 2016 and no additional information was required to be presented as a result of the adoption. As the accounting standard only impacted presentation, the new standard did not have an impact on the Company's financial position, results of operations, or cash flows.
In November 2015, the FASB issued guidance that requires deferred tax liabilities and assets to be classified as noncurrent in the consolidated balance sheet. The standard is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Early adoption is permitted for financial statements that have not been previously issued. The Company adopted this guidance retrospectively to all periods presented as of December 31, 2016, which resulted in $36.5 million of current deferred income taxes as of December 31, 2015, being reclassified as noncurrent. As the accounting standard only impacted presentation, the new standard did not have an impact on the Company's financial position, results of operations, or cash flows.
In March 2016, the FASB amended the existing accounting guidance related to stock compensation. The amendment requires all income tax effects of awards to be recognized in the income statement when awards vest and allows a choice to account for forfeitures on an estimated or actual basis. There is also a requirement to present excess income tax benefits as an operating activity on the statement of cash flows. Effective January 1, 2017, the Company adopted the amendment requiring recognition of excess tax benefits and tax deficiencies in the income statement prospectively and the impact to the consolidated statement of operations for the first quarter of fiscal 2017. In addition, the Company elected to change its accounting policy to account for forfeitures when they occur for consistency with the U.S. government recovery accounting practices on a modified retrospective basis. The Company also elected to adopt the amendment related to the presentation of excess tax benefits within operating activities on the statement of cash flows, retrospectively.
Recently Issued Accounting Pronouncements
In May 2014, the FASB amended the existing accounting standards for revenue recognition. The amendments are based on the principle that revenue should be recognized to depict the transfer of promised goods or services to customers in an

7



amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The effective date of the new standard is for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The amendments may be applied retrospectively to each prior period presented or retrospectively with the cumulative effect recognized as of the date of initial application. The Company plans to adopt the guidance during the first quarter of fiscal 2018, retrospectively with the cumulative effect recognized during that quarter (modified retrospective basis). The Company has developed a comprehensive implementation plan across all segments that include evaluating the impact of the new guidance on existing contracts, and updating impacted accounting policies, processes, controls and systems. The Company expects the primary impact of the new guidance will be a change in the timing of when revenue is recognized on certain fixed price and cost reimbursable type contracts. The new guidance prescribes that an entity recognizes revenue when (or as) it satisfies a performance obligation by transferring a promised good or service to a customer. A good or service is transferred when (or as) the customer obtains control of that asset. Under this new guidance, the Company expects to discontinue the use of the unit-of-delivery method on certain customer contracts and remeasure progress toward completion using the cost-to-cost method. The unit-of-delivery method totaled 44% of net sales for the first nine months of fiscal 2017. The Company expects the adoption of this new standard will have a material impact on net sales recognized in any given fiscal year and a material impact on the amount reported for contract backlog. The adoption will also result in the reclassification of contract related assets on the consolidated balance sheet.
In February 2016, the FASB issued guidance requiring lessees to recognize a right-of-use asset and a lease liability on the balance sheet for all leases with the exception of short-term leases. For lessees, leases will continue to be classified as either operating or finance leases in the income statement. Lessor accounting is similar to the current model but updated to align with certain changes to the lessee model. Lessors will continue to classify leases as operating, direct financing or sales-type leases. The effective date of the new standard is for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. The new standard must be adopted using a modified retrospective transition and requires application of the new guidance at the beginning of the earliest comparative period presented. The Company is evaluating the impact of adopting this new accounting guidance on its consolidated financial statements.
In August 2016, the FASB issued an amendment to the accounting guidance related to classification of certain cash receipts and cash payments in the statement of cash flows. The standard provides guidance for eight targeted changes with respect to how cash receipts and cash payments are classified in the statement of cash flows, with the objective of reducing diversity in practice. The standard is effective for financial statements issued for fiscal years beginning after December 15, 2017, with early adoption permitted. The Company is evaluating the impact of adopting this new accounting guidance on its consolidated financial statements.
In January 2017, the FASB issued an amendment to the accounting guidance related to goodwill impairment. The update eliminates "Step 2" which involves determining the implied fair value of goodwill and comparing it to the carrying amount of goodwill to measure the goodwill impairment loss, if any. The quantitative assessment "Step 1" will be used to determine both the existence and amount of goodwill impairment. The standard should be applied on a prospective basis and is effective for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019, with early adoption permitted. The Company plans to adopt this new accounting guidance in conjunction with its annual impairment test on October 1, 2017. The Company does not expect the adoption to have a significant impact on its consolidated financial statements.
In March 2017, the FASB amended the existing accounting guidance relating to the presentation of net periodic pension cost and net periodic postretirement benefit cost ( the “NPPC”) in the income statement.  The amended guidance requires the service cost component to be presented in the same line item or items as other compensation arising from the services rendered by the pertinent employees during the period, and other components of the NPPC to be presented in the statement of operations separately from service cost components and outside a subtotal of income from operations.   If a separate line item or items are used to present the other components of the NPPC, that line item or items must be appropriately described.  If a separate line item or items are not used,  the line item or items used in the statement of operations to present the other components of NPPC must be disclosed. The new guidance is effective for financial statements issued for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted as of the beginning of an annual period for which financial statements (interim or annual) have not been issued. The Company is evaluating the impact of adopting this new accounting standard on its consolidated financial statements.

8



Note 2. Income (Loss) Per Share of Common Stock
A reconciliation of the numerator and denominator used to calculate basic and diluted income (loss) per share of common stock ("EPS") is presented in the following table:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions, except per share amounts)
Numerator:
 
 
 
 
 
 
 
Net income (loss)
$
12.6

 
$
(11.1
)
 
$
42.8

 
$
(0.1
)
Income allocated to participating securities
(0.3
)
 

 
(0.9
)
 

Net income (loss) for basic earnings per share
12.3

 
(11.1
)
 
41.9

 
(0.1
)
Interest on 4 1/16% Convertible Subordinated Debentures (“4 1/16% Debentures”)

 

 
0.1

 

Net income (loss) for diluted earnings per share
$
12.3

 
$
(11.1
)
 
$
42.0

 
$
(0.1
)
Denominator:
 
 
 
 
 
 
 
Basic weighted average shares
73.5

 
67.0

 
72.8

 
64.6

Effect of:
 
 
 
 
 
 
 
4 1/16% Debentures

 

 
0.1

 

2.25% Convertible Senior Notes ("2 1/4% Notes") (1)
0.3

 

 

 

Employee stock options and stock purchase plan
0.1

 

 
0.1

 

Diluted weighted average shares
73.9

 
67.0

 
73.0

 
64.6

Basic and Diluted
 
 
 
 
 
 
 
Net income (loss) per share
$
0.17

 
$
(0.17
)
 
$
0.57

 
$

_______
(1) The Company's 2 1/4% Notes were not included in the computation of diluted EPS for the first nine months of fiscal 2017 because the average market price of the common stock did not exceed the conversion price and the Company only expects the conversion premium for the 2 1/4% Notes to be settled in common shares.
The following table sets forth the potentially dilutive securities excluded from the computation because their effect would have been anti-dilutive: 
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
4 1/16% Debentures

 
5.8

 

 
8.0

Employee stock options and stock purchase plan

 
0.1

 

 
0.1

Unvested restricted shares
1.6

 
1.5

 
1.6

 
1.4

Total potentially dilutive securities
1.6

 
7.4

 
1.6

 
9.5



9



Note 3. Stock-Based Compensation
Total stock-based compensation expense by type of award was as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Stock appreciation rights
$
8.3

 
$
(0.3
)
 
$
10.7

 
$
1.6

Stock options
0.3

 
0.3

 
1.0

 
0.6

Restricted shares, service based
0.9

 
0.9

 
3.3

 
2.5

Restricted shares, performance based
1.3

 
1.3

 
5.7

 
2.7

Employee stock purchase plan
0.2

 
0.1

 
0.5

 
0.3

Total stock-based compensation expense
$
11.0

 
$
2.3

 
$
21.2

 
$
7.7


Stock-based compensation in the first nine months of fiscal 2017 includes expenses associated with the accelerated vesting of stock awards to a former executive officer and the August 2016 stock award granted to the Executive Chairman that vests according to the attainment of share prices ranging from $22 per share to $27 per share of the Company's common stock. In addition, the third quarter of fiscal 2017 includes a significant increase in the fair value of the stock appreciation rights.
Note 4. Balance Sheet Accounts
a. Fair Value of Financial Instruments
The accounting standards use a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. The following are measured at fair value:
 
 
 
Fair value measurement at September 30, 2017
 
Total
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
(In millions)
Money market funds
$
122.1

 
$
122.1

 
$

 
$

 
 
 
Fair value measurement at December 31, 2016
 
Total
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
(In millions)
Money market funds
$
328.5

 
$
328.5

 
$

 
$

As of September 30, 2017, the carrying amounts of cash and cash equivalents and the grantor trust by investment type is as follows:
 
Total
 
Cash and
Cash Equivalents
 
Money Market
Funds
 
(In millions)
Cash and cash equivalents
$
392.5

 
$
277.3

 
$
115.2

Grantor trust (included as a component of other current and noncurrent assets)
6.9

 

 
6.9

 
$
399.4

 
$
277.3

 
$
122.1

The carrying amounts of certain of the Company’s financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued compensation, and other accrued liabilities, approximate fair value because of their short maturities.
The estimated fair value and principal amount for the Company’s outstanding debt is presented below:

10



 
Fair Value
 
Principal Amount
 
September 30, 2017
 
December 31, 2016
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Term loan
$
375.0

 
$
390.0

 
$
375.0

 
$
390.0

2 1/4% Notes
446.0

 
294.9

 
300.0

 
300.0

4 1/16% Debentures (1)

 
70.8

 

 
35.6

 
$
821.0

 
$
755.7

 
$
675.0

 
$
725.6

_______
(1)
In December 2016, the Company notified holders of its 4 1/16% Debentures that the Company would redeem, on February 3, 2017, all of their 4 1/16% Debentures at a purchase price equal to 100% of the principal amount of the 4 1/16% Debentures to be redeemed, plus any accrued and unpaid interest. In January 2017, $35.6 million of the 4 1/16% Debentures (the entire amount outstanding as of December 31, 2016) were converted to 3.9 million shares of common stock.
The fair values of the 2 1/4% Notes and 4 1/16% Debentures were determined using broker quotes that are based on open markets for the Company’s debt securities (Level 2 securities). The term loan bore interest at variable rates, which adjusted based on market conditions, and its carrying value approximated fair value.
b. Accounts Receivable

September 30, 2017

December 31, 2016
 
(In millions)
Billed
$
145.4


$
55.7

Unbilled
177.6


124.1

Reserve for overhead rate disallowance
(40.8
)

(44.5
)
Total receivables under long-term contracts
282.2


135.3

Other receivables
0.9


1.1

Accounts receivable
$
283.1


$
136.4

c. Inventories
 
September 30, 2017

December 31, 2016
 
(In millions)
Long-term contracts at average cost
$
605.0


$
551.9

Progress payments
(445.5
)

(368.2
)
Total long-term contract inventories
159.5


183.7

Total other inventories
1.3


1.4

Inventories
$
160.8


$
185.1

d. Other Current Assets, net
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Recoverable from the U.S. government for acquisition related integration costs
$
11.9

 
$
11.9

Recoverable from the U.S. government for competitive improvement program obligations (see Note 10)
20.7

 
7.6

Prepaid expenses
17.0

 
16.5

Cost-share and other receivables, net
10.7

 
17.8

Income taxes receivable
5.1

 
26.8

Indemnification receivable from United Technologies Corporation, net
0.2

 
5.5

Other
5.4

 
5.6

Other current assets, net
$
71.0

 
$
91.7


11



e. Property, Plant and Equipment, net
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Land
$
71.2


$
71.4

Buildings and improvements
317.0


304.2

Machinery and equipment
542.7


540.8

Construction-in-progress
20.5


30.4


951.4


946.8

Less: accumulated depreciation
(601.8
)

(580.8
)
Property, plant and equipment, net
$
349.6


$
366.0

f. Other Noncurrent Assets, net

September 30, 2017

December 31, 2016
 
(In millions)
Recoverable from the U.S. government for conditional asset retirement obligations
$
21.1


$
20.3

Recoverable from the U.S. government for restructuring costs
27.1

 
12.8

Recoverable from the U.S. government for acquisition related integration costs
2.0


10.9

Recoverable from the U.S. government for competitive improvement program obligations (see Note 10)
22.9

 
1.3

Deferred financing costs
2.8


3.4

Grantor trusts
26.6


16.6

Income taxes receivable
10.7


10.8

Notes receivable, net
9.0

 
9.0

Other
4.5


5.1

Other noncurrent assets, net
$
126.7


$
90.2

g. Other Current Liabilities
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Accrued compensation and employee benefits
$
102.5


$
105.7

Contract related liabilities
47.4

 
24.7

Competitive improvement program obligations (see Note 10)
21.3

 
7.6

Income taxes payable
0.3

 
2.1

Interest payable
2.2


4.1

Contract loss provisions
4.5


6.8

Other
14.4


16.8

Other current liabilities
$
192.6


$
167.8


12



h. Other Noncurrent Liabilities
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Conditional asset retirement obligations
$
40.3


$
30.6

Pension benefits, non-qualified
17.1


17.5

Deferred compensation
31.1


19.8

Deferred revenue
12.8


13.3

Competitive improvement program obligations (see Note 10)
22.9

 
1.3

Uncertain income tax positions
24.4

 
28.4

Other
13.4


13.1

Other noncurrent liabilities
$
162.0


$
124.0

i. Accumulated Other Comprehensive Loss, Net of Income Taxes
Changes in accumulated other comprehensive loss by components, net of income taxes:

Actuarial
Losses, Net

Prior Service
Credits, Net

Total
 
(In millions)
December 31, 2016
$
(303.2
)
 
$
0.2

 
$
(303.0
)
Amortization of actuarial losses and prior service credits, net of $18.5 million of income taxes
29.1

 

 
29.1

September 30, 2017
$
(274.1
)

$
0.2


$
(273.9
)
j. Redeemable Common Stock
On May 30, 2017, the Company made a registered rescission offer to buy back unregistered shares from eligible Plan participants at the original purchase price plus interest, or to reimburse eligible Plan participants for losses they may have incurred if their shares had been sold. The registered rescission offer expired on June 30, 2017, and settlement payments of $3.5 million under the offer were completed in the third quarter of fiscal 2017 (see Note 13).
The Company inadvertently failed to register with the Securities Exchange Commission ("SEC") the issuance of certain of its common shares in its defined contribution 401(k) employee benefit plan (the “Plan”). As a result, certain Plan participants who purchased such securities pursuant to the Plan may have had the right to rescind certain of their purchases for consideration equal to the purchase price paid for the securities (or if such security has been sold, to receive consideration with respect to any loss incurred on such sale) plus interest from the date of purchase. In June 2008, the Company filed a registration statement on Form S-8 to register future transactions in the Company's stock fund in the Plan.
Note 5. Acquisition
On February 24, 2017, the Company closed on an agreement to purchase substantially all of the assets of Coleman Aerospace, a systems engineering and integration provider, from L3 Technologies, Inc. ("L3"). Coleman Aerospace operates now as a subsidiary of Aerojet Rocketdyne, Inc. and was renamed Aerojet Rocketdyne Coleman Aerospace, Inc. ("Coleman"). The acquisition builds upon and expands the Company’s capabilities in mission analysis and systems engineering, and increases its product portfolio to include vehicle integration for small-, medium- and intermediate-range ballistic missile targets and other small launch vehicles.
The aggregate consideration paid to L3 for the purchase of Coleman was $17.0 million, which included $15.0 million of cash paid at closing and a $2.0 million working capital adjustment paid in the third quarter of fiscal 2017. The Company incurred $1.0 million of expenses related to the acquisition of Coleman.
The preliminary purchase price allocation has been developed based on preliminary estimates of the fair value of the assets and liabilities of Coleman that the Company acquired. In addition, the allocation of the preliminary purchase price to acquired intangible assets is based on preliminary fair value estimates.
 

13



The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the acquisition date (in millions):
Current assets
$
12.0

Property, plant and equipment
3.8

Total tangible assets acquired
15.8

Intangible assets acquired
4.2

Deferred income taxes
0.3

Total assets acquired
20.3

Liabilities assumed, current
(5.2
)
Total identifiable net assets acquired
15.1

Goodwill (Consideration less total identifiable net assets acquired)
$
1.9

The purchase price allocation resulted in the recognition of $1.9 million in goodwill, all of which is deductible for tax purposes and included within the Company’s Aerospace and Defense segment. Goodwill recognized from the acquisition primarily relates to the expected contributions of Coleman to the Company’s overall corporate strategy.
The estimated fair value of Coleman's intangible assets acquired included the following:
 
Gross Carrying Amount (in millions)
Amortization Period (years)
Trade name
$
0.5

8
Customer relationships
2.8

8
Developed technology
0.9

10
Total intangible assets
$
4.2

 
The acquisition of Coleman was not considered a significant business combination.
Note 6. Income Taxes
 
Nine months ended September 30,
 
2017
 
2016
 
(In millions)
Income tax provision (benefit)
$
21.2

 
$
(5.1
)
In the first nine months of fiscal 2017, the income tax provision was at an effective tax rate less than the federal statutory rate primarily due to tax benefits attributable to the expiration of the statute of limitations, excess tax benefits from the exercise and vesting of stock-based compensation, and the revisions of estimated tax balances based on expected tax filings.
In the first nine months of fiscal 2016, the income tax benefit was at an effective tax rate greater than the federal statutory rate primarily due to tax benefits attributable to the expiration of the statute of limitations.
A valuation allowance is required when it is more-likely-than-not that all or a portion of deferred tax assets may not be realized. Assessing the need for a valuation allowance requires management to evaluate, on a quarterly basis, all available evidence, both positive and negative. As of September 30, 2017, the Company continues to believe that the weight of the positive evidence outweighed the negative evidence regarding the realization of its net deferred tax assets.
In the next twelve months, the Company believes it is reasonably possible that the unrecognized tax benefits could decrease by approximately $23.9 million as a result of the resolution of certain outstanding positions.
In the second quarter of fiscal 2017, the Company received a refund of $21.3 million from the Internal Revenue Service associated with federal taxes on deposit.

14



Note 7. Long-term Debt
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Term loan, bearing interest at variable rates (rate of 3.24% as of September 30, 2017), maturing in June 2021
$
375.0


$
390.0

Unamortized deferred financing costs
(1.8
)
 
(2.0
)
Total senior debt
373.2


388.0

Senior convertible notes, bearing interest at 2.25% per annum, interest payments due in June and December, maturing in December 2023
300.0


300.0

Unamortized discount and deferred financing costs
(54.6
)
 
(60.0
)
Total convertible senior notes
245.4


240.0

Convertible subordinated debentures, bearing interest at 4.0625% per annum, interest payments due in June and December, maturing in December 2039


35.6

Total convertible subordinated notes


35.6

Total debt, net of unamortized discount and deferred financing costs
618.6


663.6

Less: Amounts due within one year
(22.4
)

(55.6
)
Total long-term debt, net of unamortized discount and deferred financing costs
$
596.2


$
608.0

Senior Credit Facility
On June 17, 2016, the Company entered into a new $750.0 million senior secured senior credit facility (the "Senior Credit Facility").  The Senior Credit Facility matures on June 17, 2021 and consists of (i) a $350.0 million revolving line of credit (the "Revolver") and (ii) a $400.0 million term loan (the "Term Loan").  Under the Revolver, up to an aggregate of $100.0 million is available for the issuance of letters of credit and up to an aggregate of $10.0 million is available for swingline loans. The Senior Credit Facility amends and replaces the prior $300.0 million credit facility which was set to mature in May 2019.
On the closing date, the Company borrowed $100.0 million of loans under the Revolver and used the proceeds to repay in full the $90.0 million of outstanding term loans under the prior credit facility, fees incurred for the Senior Credit Facility, and for general corporate purposes.  As of September 30, 2017, the Company had $375.0 million outstanding under the Term Loan, zero borrowings under the Revolver, and had issued $39.1 million letters of credit.  
The Term Loan and loans under the Revolver bear interest at LIBOR (or the base rate) plus an applicable margin ranging from 175 to 250 basis points based on the Company's leverage ratio (the "Consolidated Net Leverage Ratio") at the end of the most recent fiscal quarter.  In addition to interest, the Company must also pay certain fees including (i) letter of credit fees ranging from 175 to 250 basis points per annum on the amount of issued but undrawn letters of credit and (ii) commitment fees ranging from 30 to 45 basis points per annum on the unused portion of the Revolver. 
The Term Loan amortizes at a rate of 5.0% per annum of the original drawn amount starting on September 30, 2016, increasing to 7.5% per annum on September 30, 2018, and increasing to 10.0% per annum from September 30, 2020 to be paid in equal quarterly installments with any remaining amounts, along with outstanding borrowings under the Revolver, due on the maturity date.  Outstanding borrowings under the Revolver and the Term Loan may be voluntarily repaid at any time, in whole or in part, without premium or penalty.
Subject to certain restrictions, all the obligations under the Senior Credit Facility are guaranteed by the Company and the existing and future material domestic subsidiaries, other than Easton (the "Guarantors").  As collateral security for the amount outstanding under the Senior Credit Facility and the guarantees thereof, the Company and the Guarantors (collectively, the "Loan Parties") have granted to the administrative agent for the benefit of the lenders: (i) certain equity interests of the Loan Parties; (ii) first priority liens on substantially all of the tangible and intangible personal property of the Loan Parties; and (iii) first priority liens on certain real properties located in Los Angeles, California, Culpepper, Virginia and Redmond, Washington (but excluding all other owned real properties).
The Senior Credit Facility contains covenants requiring the Company to (i) maintain an interest coverage ratio (the "Consolidated Interest Coverage Ratio") of not less than 3.00 to 1.00 and (ii) maintain a Consolidated Net Leverage Ratio not to exceed (a) 4.00 to 1.00 for period ended September 30, 2017; (b) 3.75 to 1.00 for periods ending from December 31, 2017 through September 30, 2018; and (c) 3.50 to 1.00 for periods ending from December 31, 2018 thereafter, provided that the maximum leverage ratio for all periods shall be increased by 0.50 to 1.00 for two quarters after consummation of a qualified acquisition. 
The Company may generally make certain investments, redeem debt subordinated to the Senior Credit Facility and make certain restricted payments (such as stock repurchases) if the Company's Consolidated Net Leverage Ratio does not exceed 3.25

15



to 1.00 pro forma for such transaction. The Company is otherwise subject to customary covenants including limitations on asset sales, incurrence of additional debt, and limitations on certain investments and restricted payments.   
Financial Covenant
Actual Ratios as of
September 30, 2017
  
Required Ratios
Consolidated Interest Coverage Ratio, as defined under the Senior Credit Facility
10.97 to 1.00
  
Not less than: 3.00 to 1.00
Consolidated Net Leverage Ratio, as defined under the Senior Credit Facility
2.47 to 1.00
  
Not greater than: 4.00 to 1.00
The Company was in compliance with its financial and non-financial covenants as of September 30, 2017.
2.25% Convertible Senior Notes
On December 14, 2016, the Company issued $300.0 million aggregate principal amount of 2¼% Notes in a private placement to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended.
The Company separately accounted for the liability and equity components of the 2¼% Notes. The initial liability component of the 2¼% Notes was valued based on the present value of the future cash flows using an estimated borrowing rate at the date of the issuance for similar debt instruments without the conversion feature, which equals the effective interest rate of 5.8% on the liability component. The equity component, or debt discount, was initially valued equal to the principal value of the 2¼% Notes, less the liability component. The debt discount is being amortized as a non-cash charge to interest expense over the period from the issuance date through December 15, 2023.
The debt issuance costs of $5.8 million incurred in connection with the issuance of the 2¼% Notes were capitalized and bifurcated into deferred financing costs of $4.7 million and equity issuance costs of $1.1 million. The deferred financing costs are being amortized to interest expense from the issuance date through December 15, 2023.
The 2¼% Notes consisted of the following (in millions, except years, percentages, conversion rate, and conversion price):
 
September 30, 2017
 
December 31, 2016
Carrying value, long-term
$
245.4

 
$
240.0

Unamortized discount and deferred financing costs
54.6

 
60.0

Principal amount
$
300.0

 
$
300.0

Carrying amount of equity component, net of equity issuance costs
$
54.5

 
$
54.5

Remaining amortization period (years)
6.3

 
7.0

Effective interest rate
5.8
%
 
5.8
%
Conversion rate (shares of common stock per $1,000 principal amount)
38.4615

 
38.4615

Conversion price (per share of common stock)
$
26.00

 
$
26.00

Based on the Company's closing stock price of $35.01 on September 30, 2017, the if-converted value of the 2¼% Notes exceeded the aggregate principal amount of the 2¼% Notes by $104.0 million.
The following table presents the interest expense components for the 2¼% Notes for the first nine months of fiscal 2017 (in millions):
Interest expense-contractual interest
$
5.1

Interest expense-amortization of debt discount
5.0

Interest expense-amortization of deferred financing costs
0.4

 
$
10.5

4.0625% Convertible Subordinated Debentures
As of September 30, 2017, the Company fully redeemed the outstanding principal amount of its 4 1/16% Debentures. In December 2016, the Company notified holders of its 4 1/16% Debentures that the Company would redeem, on February 3, 2017, all of their 4 1/16% Debentures at a purchase price equal to 100% of the principal amount of the 4 1/16% Debentures to be redeemed, plus any accrued and unpaid interest. In January 2017, $35.6 million of the 4 1/16% Debentures (the entire amount outstanding as of December 31, 2016) were converted to 3.9 million shares of common stock.

16



Note 8. Commitments and Contingencies
a. Capital Lease Commitments
In September 2017, the Company entered into an agreement to lease 122,000-square feet of office space in Huntsville, Alabama. The term of the lease is twenty years and is expected to commence in March 2018 resulting in an estimated financial commitment of $48.8 million representing a present value of $25.1 million. The lease obligation over the next five fiscal years is as follows: zero in fiscal 2017, $1.2 million in fiscal 2018, and approximately $2.0 million each year for fiscal 2019 through fiscal 2021.
In October 2017, the Company entered into an agreement to lease a new 136,000-square-foot advanced manufacturing facility located in Huntsville, Alabama. The term of the lease is thirty-one years and is expected to commence in December 2018 resulting in an estimated financial commitment of $32.8 million representing a present value of $21.0 million. The lease obligation over the next five fiscal years is as follows: zero in fiscal 2017, $0.9 million in fiscal 2018, and $1.6 million each year for fiscal 2019 through fiscal 2021.
b. Legal Matters
The Company and its subsidiaries are subject to legal proceedings, including litigation in U.S. federal and state courts, which arise out of, and are incidental to, the ordinary course of the Company’s on-going and historical businesses. The Company is also subject from time to time to suits under the U.S. federal False Claims Act, known as “qui tam” actions, and to governmental investigations by federal and state agencies. The Company cannot predict the outcome of such proceedings with any degree of certainty. Loss contingency provisions are recorded for probable losses at management’s best estimate of a loss, or when a best estimate cannot be made, a minimum loss contingency amount is recorded. These estimates are often initially developed substantially earlier than when the ultimate loss is known, and are refined each quarterly reporting period as additional information becomes available. For legal settlements where the cash payments are fixed and determinable, the Company will estimate an interest factor and discount the liability accordingly.
Asbestos Litigation
The Company has been, and continues to be, named as a defendant in lawsuits alleging personal injury or death due to exposure to asbestos in building materials, products, or in manufacturing operations. The majority of cases are pending in Texas and Illinois. There were 63 asbestos cases pending as of September 30, 2017.
Given the lack of any significant consistency to claims (i.e., as to product, operational site, or other relevant assertions) filed against the Company, the Company is generally unable to make a reasonable estimate of the future costs of pending claims or unasserted claims. As of September 30, 2017, the Company has accrued an immaterial amount related to pending claims.
Inflective, Inc. (“Inflective”) Litigation
On December 18, 2014, Inflective filed a complaint against Aerojet Rocketdyne and Kathleen E. Redd, individually, in the Superior Court of the State of California, Sacramento County, Inflective, Inc. v Aerojet Rocketdyne, Inc., Kathleen E. Redd, et al, Case No. 34-2014-00173068. Inflective asserted in the complaint causes for breach of contract, breach of implied contract, false promise, inducing breach of contract, intentional interference with contractual relations, negligent interference with prospective economic relations, and intentional interference with prospective economic relations and sought compensatory damages in excess of $3.0 million, punitive damages, interest and attorney’s costs. The complaint arose out of the Company’s implementation of ProjectOne, a company-wide enterprise resource planning (“ERP”) system, for which Inflective had been a consultant to the Company. After a series of motions and demurrers over nearly two years in which the Court dismissed the claims against Ms. Redd and certain claims against the Company, the Company entered into a settlement of the litigation with Inflective during the second quarter of fiscal 2017 and the case was dismissed with prejudice. The terms of the settlement are not material to the Company’s financial statements. 
Separately, Satish Rachaiah, a former consultant on ProjectOne (working for Inflective), attempted to intervene in the action and assert claims against Aerojet Rocketdyne arising out of Aerojet Rocketdyne’s alleged interference with his employment with Inflective.  Aerojet Rocketdyne opposed intervention, and the Court ultimately denied Mr. Rachaiah’s motion to intervene.  On December 30, 2015, Rachaiah filed a separate lawsuit in the Superior Court of the State of California, Sacramento County, Satish Rachaiah v. Aerojet Rocketdyne, Inc., Case No. 34-2015-00188516. The Company received the complaint on April 7, 2016, and an amended complaint was served on June 17, 2016.  Rachaiah asserted the same claims in the complaint as attempted when he tried to intervene.  On June 3, 2016, the Court granted Rachaiah’s motion to consolidate the case with the Inflective litigation, finding that the two cases involve common parties, witnesses, legal issues and facts.  Aerojet Rocketdyne filed a demurrer to Rachaiah’s first amended complaint on July 22, 2016.  On September 26, 2016, the Court granted the demurrer in part and overruled it in part, dismissing the plaintiff’s claims for intentional and negligent interference with prospective economic relations with leave to amend.  On October 6, 2016, Rachaiah filed a second amended complaint, once again asserting claims for intentional and negligent interference with prospective economic relations. Aerojet

17



Rocketdyne filed its answer to the second amended complaint on November 11, 2016. Discovery is in process. No liability for the Rachaiah matter has been recorded by the Company as of September 30, 2017.
Socorro
On May 12, 2015, a complaint for personal injuries, loss of consortium and punitive damages was filed by James Chavez, Andrew Baca, and their respective spouses, against Aerojet Rocketdyne and the Board of Regents of New Mexico Tech in the Seventh Judicial District, County of Socorro, New Mexico, James Chavez, et al., vs. Aerojet Rocketdyne, Inc., et al., Case No. D725CV201500047. Messrs. Chavez and Baca were employees of Aerotek, a contractor to Aerojet Rocketdyne, who were injured when excess energetic materials being managed by the Energetic Materials Research and Testing Center, a research division of New Mexico Tech, ignited in an unplanned manner. The complaint alleges causes of action based on negligence and negligence per se, strict liability, and willful, reckless and wanton conduct against Aerojet Rocketdyne, and seeks unspecified compensatory and punitive damages. The Company has filed its answer and discovery has commenced. Trial is scheduled for February 5, 2018. No liability for this matter has been recorded by the Company as of September 30, 2017.
Occupational Safety
On January 16, 2015, the Company received a notice that the State of California, Division of Occupational Safety & Health (“Cal\OSHA”), Bureau of Investigation (“BOI”) is conducting an investigation into an accident that occurred at the Rancho Cordova facility in November 2013.  The accident involved the deflagration of solid rocket propellant following a remote cutting operation and resulted in injuries to two employees, one of whom ultimately died from his injuries. Cal\OSHA issued nine citations relating to the accident with penalties of approximately $0.1 million, all of which the Company has appealed. The BOI is the criminal investigatory arm of Cal\OSHA and is required by law to investigate any occupational fatality to determine if criminal charges will be recommended. In August 2016, the BOI advised that it had completed its investigation and the criminal aspect of the case was closed. Pre-hearing conferences on the Company’s appeal of the citations were held on May 22, 2017 and September 11, 2017.  The judge will likely set a hearing date for early 2018.
Department of Justice ("DOJ") Investigation
The Company is responding to a civil investigative demand issued by the DOJ in the first quarter of fiscal 2017 requesting information relating to allegations under the False Claims Act that the Company may have previously made false representations to the U.S. government regarding the Company’s compliance with certain regulatory cybersecurity requirements.  The Company is cooperating with the DOJ in its investigation of the false claim allegations.
c. Environmental Matters
The Company is involved in approximately forty environmental matters under the Comprehensive Environmental Response Compensation and Liability Act, the Resource Conservation Recovery Act, and other federal, state, local, and foreign laws relating to soil and groundwater contamination, hazardous waste management activities, and other environmental matters at some of its current and former facilities. The Company is also involved in a number of remedial activities at third party sites, not owned by the Company, where it is designated a potentially responsible party (“PRP”) by either the U.S. Environmental Protection Agency ("EPA") and/or a state agency. In many of these matters, the Company is involved with other PRPs. In some instances, the Company’s liability and proportionate share of costs have not been determined largely due to uncertainties as to the nature and extent of site conditions and the Company’s involvement. While government agencies frequently claim PRPs are jointly and severally liable at such sites, in the Company’s experience, interim and final allocations of liability and costs are generally made based on relative contributions of waste or contamination. Anticipated costs associated with environmental remediation that are probable and estimable are accrued. In cases where a date to complete remedial activities at a particular site cannot be determined by reference to agreements or otherwise, the Company projects costs over an appropriate time period not exceeding fifteen years. In such cases, generally the Company does not have the ability to reasonably estimate environmental remediation costs that are beyond this period. Factors that could result in changes to the Company’s estimates include completion of current and future soil and groundwater investigations, new claims, future agency demands, discovery of more or less contamination than expected, discovery of new contaminants, modification of planned remedial actions, changes in estimated time required to remediate, new technologies, and changes in laws and regulations.
As of September 30, 2017, the aggregate range of these anticipated environmental costs was $334.4 million to $496.4 million and the accrued amount was $334.4 million. See Note 8(d) for a summary of the environmental reserve activity. Of these accrued liabilities, approximately 99% relates to the Company’s U.S. government contracting business and a portion of this liability is recoverable. The significant environmental sites are discussed below. The balance of the accrued liabilities, which are not recoverable from the U.S. government, relate to other sites for which the Company’s obligations are probable and estimable.
Sacramento, California Site

18



In 1989, a federal district court in California approved a Partial Consent Decree (“PCD”) requiring Aerojet Rocketdyne, among other things, to conduct a Remedial Investigation and Feasibility Study to determine the nature and extent of impacts due to the release of chemicals from the Sacramento, California site, monitor the American River and offsite public water supply wells, operate Groundwater Extraction and Treatment facilities that collect groundwater at the site perimeter, and pay certain government oversight costs. The primary chemicals of concern for both on-site and off-site groundwater are trichloroethylene, perchlorate, and n-nitrosodimethylamine. The PCD has been revised several times, most recently in 2002. The 2002 PCD revision (a) separated the Sacramento site into multiple operable units to allow quicker implementation of remedy for critical areas; (b) required the Company to guarantee up to $75 million (in addition to a prior $20 million guarantee) to assure that Aerojet Rocketdyne’s Sacramento remediation activities are fully funded; and (c) removed approximately 2,600 acres of non-contaminated land from the EPA superfund designation.
Aerojet Rocketdyne is involved in various stages of soil and groundwater investigation, remedy selection, design, and remedy construction associated with the operable units. In 2002, the EPA issued a Unilateral Administrative Order (“UAO”) requiring Aerojet Rocketdyne to implement the EPA-approved remedial action in the Western Groundwater Operable Unit. An identical order was issued by the California Regional Water Quality Control Board, Central Valley (“Central Valley RWQCB”). On July 7, 2011, the EPA issued Aerojet Rocketdyne its Approval of Remedial Action Construction Completion Report for Western Groundwater Operable Unit and its Determination of Remedy as Operational and Functional. On September 20, 2011, the EPA issued two UAOs to Aerojet Rocketdyne to complete a remedial design and implement remedial action for the Perimeter Groundwater Operable Unit. One UAO addresses groundwater and the other addresses soils within the Perimeter Groundwater Operable Unit. Issuance of the UAOs is the next step in the superfund process for the Perimeter Groundwater Operable Unit. Aerojet Rocketdyne submitted a final Remedial Investigation Report for the Boundary Operable Unit in 2010 and a revised Feasibility Study for the Boundary Operable Unit in 2012. A Record of Decision was issued by the EPA on August 4, 2015. Aerojet Rocketdyne anticipates the EPA will issue a UAO or negotiate a consent decree for implementation of the remedy. A draft Remedial Investigation Report for the Island Operable Unit was submitted in January 2013 and the Final Remedial Investigation Report was issued on September 3, 2015. A portion of the Island Operable Unit, Area 40, is being handled separately and Aerojet Rocketdyne submitted a draft Feasibility Study to the agencies on June 23, 2016. The remaining operable units are under various stages of investigation. On September 22, 2016, the EPA completed its first five-year remedy review of the Sacramento superfund site.  The five-year review required by statute and regulation applies to all remedial actions which result in hazardous substances above levels that allow unlimited use and unrestricted exposure.  The Company is working with the EPA to address the findings of the five-year remedy review.
Following completion of the five-year review, the EPA required Aerojet Rocketdyne to conduct a vapor intrusion evaluation of several of its Sacramento facility buildings, and off-site businesses and residences.  The evaluation was conducted to determine whether and to what extent volatile organic compounds, such as trichloroethylene, may be present in indoor air or in soil at concentrations that exceed EPA thresholds that would require some type of mitigation. Sample results in two buildings resulted in short-term responses, including efforts to increase air flow and prevent vapors from entering the buildings.  Off-site soil gas sampling did not identify trichloroethylene concentrations that warranted indoor air monitoring of residences or commercial buildings.  A second phase of indoor air sampling which includes resampling a subset of the on-site buildings sampled in the first phase and off-site soil gas sampling, as determined by EPA, began in September 2017.
The entire southern portion of the site known as Rio Del Oro was under state orders issued in the 1990s from the Department of Toxic Substances Control (“DTSC”) to investigate and remediate environmental contamination in the soils and the Central Valley RWQCB to investigate and remediate groundwater environmental contamination. On March 14, 2008, the DTSC released all but approximately 400 acres of the Rio Del Oro property from DTSC’s environmental orders regarding soil contamination. Aerojet Rocketdyne expects the approximately 400 acres of Rio Del Oro property that remain subject to the DTSC orders to be released once the soil remediation has been completed. The Rio Del Oro property remains subject to the Central Valley RWQCB’s orders to investigate and remediate groundwater environmental contamination emanating offsite from such property. Pursuant to a settlement agreement entered into in 2009, Aerojet Rocketdyne and The Boeing Company ("Boeing") have defined responsibilities with respect to future costs and environmental projects relating to this property.
As of September 30, 2017, the estimated range of anticipated costs discussed above for the Sacramento, California site was $202.3 million to $320.3 million and the accrued amount was $202.3 million included as a component of the Company’s environmental reserves. Expenditures associated with this matter are partially recoverable. See Note 8(d) below for further discussion on recoverability.
Baldwin Park Operable Unit (“BPOU”)
As a result of its former Azusa, California operations, in 1994 Aerojet Rocketdyne was named a PRP by the EPA in the area of the San Gabriel Valley Basin superfund site known as the BPOU. Between 1995 and 1997, the EPA issued Special Notice Letters to Aerojet Rocketdyne and eighteen other companies requesting that they implement a groundwater remedy. On June 30, 2000, the EPA issued a UAO ordering the PRPs to implement a remedy consistent with the 1994 record of decision. Aerojet Rocketdyne, along with seven other PRPs (the "Cooperating Respondents”) signed a project agreement in late March

19



2002 with the San Gabriel Basin Water Quality Authority, the Main San Gabriel Basin Watermaster, and five water companies (the “Water Entities”). The project agreement, which had a term of fifteen years, became effective May 9, 2002 and terminated in May 2017. In April 2017, the parties executed a new project agreement which became operational on May 9, 2017. The new agreement has a ten year term and has similar provisions as the 2002 project agreement requiring the Cooperating Respondents to fund through an escrow account the ongoing operation, maintenance, and administrative costs of certain treatment and water distribution facilities owned and operated by the water companies. There are also provisions in the project agreement for maintaining financial assurance.
Aerojet Rocketdyne and three of the remaining Cooperating Respondents entered into an agreement establishing final allocation among them and which also establishes as to the other Cooperating Respondent, that entity's obligation to pay an interim allocation at their current interim allocation and an arbitration process to establish their final allocation for project agreement related costs.  Aerojet Rocketdyne's current share of future BPOU costs will be approximately 74%.
As part of Aerojet Rocketdyne’s sale of its Electronics and Information Systems (“EIS”) business to Northrop in October 2001, the EPA approved a prospective purchaser agreement with Northrop to absolve it of pre-closing liability for contamination caused by the Azusa, California operations, which liability remains with Aerojet Rocketdyne. As part of that agreement, the Company agreed to provide a $25 million guarantee of its obligations under the project agreement.
As of September 30, 2017, the estimated range of anticipated costs was $119.1 million to $155.5 million and the accrued amount was $119.1 million included as a component of the Company’s environmental reserves. Expenditures associated with this matter are partially recoverable. See Note 8(d) below for further discussion on recoverability.
Wabash, Indiana Site
As part of the Company's automotive business that was divested in 2004, the Company owned and operated a former rubber processing plant in Wabash, Indiana from 1937 to 2004. Pursuant to a request from the Indiana Department of Environmental Management (“IDEM”), the Company conducted an initial site investigation of the soil and groundwater at the site and a report was submitted to IDEM. By letter of June 11, 2014, IDEM directed the Company to conduct additional investigation of the site, including a vapor intrusion investigation in areas in and around the site where trichloroethylene levels in groundwater were found to exceed screening levels for vapor intrusion. Vapor mitigation systems were installed in one residence and one business where indoor air screening levels were exceeded. The Company acquired a separate residence in August 2016 where indoor air screening levels were exceeded and a mitigation system was not economically feasible. The Company anticipates donating the property to the City of Wabash for use in connection with a city park.  The Company conducted further investigations of the site in accordance with the IDEM request and approved work plan. The Company met with IDEM on May 24, 2016, to present the results of the further investigation and IDEM requested the Company to submit a remedial action plan. The remedial action plan was submitted in January 2017 and approved by IDEM in March 2017. The work plan focuses on periodic monitoring and specific plans for long term remedial actions for on-site soils which will be deferred until City of Wabash access has been secured and a redevelopment plan is in place. The Company sent demands to other former owners/operators of the site to participate in the site work, but they declined to participate. As of September 30, 2017, the estimated range of the Company's share of anticipated costs for the Wabash, Indiana site was $0.4 million to $0.7 million and the accrued amount was $0.4 million. None of the expenditures related to this matter are recoverable from the U.S. government.
d. Environmental Reserves and Estimated Recoveries
Environmental Reserves
The Company reviews on a quarterly basis estimated future remediation costs and has an established practice of estimating environmental remediation costs over a fifteen year period, except for those environmental remediation costs with a specific contractual term. Environmental liabilities at the BPOU site are currently estimated through the term of the new project agreement. As the period for which estimated environmental remediation costs lengthens, the reliability of such estimates decreases. These estimates consider the investigative work and analysis of engineers, outside environmental consultants, and the advice of legal staff regarding the status and anticipated results of various administrative and legal proceedings. In most cases, only a range of reasonably possible costs can be estimated. In establishing the Company’s reserves, the most probable estimate is used when determinable; otherwise, the minimum amount is used when no single amount in the range is more probable. Accordingly, such estimates can change as the Company periodically evaluates and revises these estimates as new information becomes available. The Company cannot predict whether new information gained as projects progress will affect the estimated liability accrued. The timing of payment for estimated future environmental costs is influenced by a number of factors such as the regulatory approval process, and the time required designing, constructing, and implementing the remedy.
A summary of the Company’s environmental reserve activity is shown below:

20




Aerojet
Rocketdyne-
Sacramento

Aerojet
Rocketdyne-
BPOU

Other
Aerojet
Rocketdyne
Sites

Total
Aerojet
Rocketdyne

Other (1)

Total
Environmental
Reserve
 
(In millions)
December 31, 2016
$
210.1


$
126.8


$
8.5

 
$
345.4

 
$
4.3

 
$
349.7

Additions
9.7


3.1


0.9

 
13.7

 
0.6

 
14.3

Expenditures
(17.5
)

(10.8
)

(1.0
)
 
(29.3
)
 
(0.3
)
 
(29.6
)
September 30, 2017
$
202.3


$
119.1


$
8.4


$
329.8


$
4.6


$
334.4

______
(1) Related to the Company's legacy business operations that are primarily non-recoverable from the U.S. government.
The effect of the final resolution of environmental matters and the Company’s obligations for environmental remediation and compliance cannot be accurately predicted due to the uncertainty concerning both the amount and timing of future expenditures and due to regulatory or technological changes. The Company continues its efforts to mitigate past and future costs through pursuit of claims for recoveries from insurance coverage and other PRPs and continued investigation of new and more cost effective remediation alternatives and associated technologies.
As part of the acquisition of the Atlantic Research Corporation (“ARC”) propulsion business in 2003, Aerojet Rocketdyne entered into an agreement with ARC pursuant to which Aerojet Rocketdyne is responsible for up to $20.0 million of costs (“Pre-Close Environmental Costs”) associated with environmental issues that arose prior to Aerojet Rocketdyne’s acquisition of the ARC propulsion business. ARC is responsible for any cleanup costs relating to the ARC acquired businesses in excess of $20.0 million. Pursuant to a separate agreement with the U.S. government which was entered into prior to the completion of the ARC acquisition, these costs are recovered through the establishment of prices for Aerojet Rocketdyne’s products and services sold to the U.S. government. The Company reached the $20.0 million cap on cleanup costs in the first quarter of fiscal 2017 and expects that additional costs will be incurred due to contamination existing at the time of the acquisition and still requiring remediation and monitoring. On May 6, 2016, ARC informed Aerojet Rocketdyne that it was disputing certain costs that Aerojet Rocketdyne attributed to the $20.0 million Pre-Close Environmental Costs (“ARC Claim”). The Company has met with ARC and responded to the ARC Claim on June 23, 2017. Certain costs related to the ARC Claim may be allocable to Aerojet Rocketdyne and will be determined in conjunction with the Company’s evaluation and ultimate resolution of the ARC Claim.
Estimated Recoveries
On January 12, 1999, Aerojet Rocketdyne and the U.S. government implemented the October 1997 Agreement in Principle (“Global Settlement”) resolving certain prior environmental and facility disagreements, with retroactive effect to December 1, 1998. Under the Global Settlement, Aerojet Rocketdyne and the U.S. government resolved disagreements about an appropriate cost-sharing ratio with respect to the clean-up costs of the environmental contamination. The Global Settlement cost-sharing ratio does not have a defined term over which costs will be recovered. Additionally, in conjunction with the sale of the EIS business in 2001, Aerojet Rocketdyne entered into an agreement with Northrop (the “Northrop Agreement”) whereby Aerojet Rocketdyne is reimbursed by Northrop for a portion of environmental expenditures eligible for recovery under the Global Settlement, subject to an annual billing limitation of $6.0 million and a cumulative limitation of $189.7 million. The cumulative expenditure limitation of $189.7 million was reached in the second quarter of fiscal 2017. A summary of the Northrop Agreement activity is shown below (in millions):
Total reimbursable costs under the Northrop Agreement
$
189.7

Amount reimbursed to the Company through September 30, 2017
(123.7
)
Potential future cost reimbursements available
66.0

Less: Receivable from Northrop included in the unaudited condensed consolidated balance sheet as of September 30, 2017
(66.0
)
Potential future recoverable amounts available under the Northrop Agreement
$

Most of the environmental remediation costs are incurred by the Company's Aerospace and Defense segment, and certain of these costs are allowable to be included in the Company's contracts with the U.S. government. Excluding the receivable from Northrop of $66.0 million, the Company currently estimates approximately 24% of its future Aerospace and Defense segment environmental remediation costs will not likely be reimbursable and are expensed.
Allowable environmental remediation costs are charged to the Company’s contracts as the costs are incurred. Because these costs are recovered through forward-pricing arrangements, the ability of Aerojet Rocketdyne to continue recovering

21



these costs from the U.S. government depends on Aerojet Rocketdyne’s sustained business volume under U.S. government contracts and programs.
While the Company is currently seeking an arrangement with the U.S. government to recover environmental expenditures in excess of the reimbursement ceiling identified in the Northrop Agreement and Global Settlement, there can be no assurances that such a recovery will be obtained, or if not obtained, that such unreimbursed environmental expenditures will not have a materially adverse effect on the Company’s operating results, financial condition, and/or cash flows.
Environmental reserves and estimated recoveries impact to unaudited condensed consolidated statements of operations
The expenses associated with adjustments to the environmental reserves are recorded as a component of other expense, net in the unaudited condensed consolidated statements of operations. Summarized financial information for the impact of environmental reserves and recoveries to the unaudited condensed consolidated statements of operations is set forth below:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Estimated recoverable amounts under U.S. government contracts
$
4.4

 
$
53.7

 
$
12.1

 
$
60.0

Expense to unaudited condensed consolidated statement of operations
0.5

 
16.4

 
2.2

 
16.9

Total environmental reserve adjustments
$
4.9

 
$
70.1

 
$
14.3

 
$
76.9

Note 9. Arrangements with Off-Balance Sheet Risk
As of September 30, 2017, arrangements with off-balance sheet risk consisted of:
$39.1 million in outstanding commercial letters of credit, the majority of which may be renewed, primarily to collateralize obligations for environmental remediation and insurance coverage.
$55.4 million in outstanding surety bonds to primarily satisfy indemnification obligations for environmental remediation coverage.
Up to $120.0 million aggregate in guarantees by the Company of Aerojet Rocketdyne’s obligations to U.S. government agencies for environmental remediation activities.
Guarantees, jointly and severally, by the Company’s material domestic subsidiaries of their obligations under the Senior Credit Facility.
In addition to the items discussed above, the Company has and will from time to time enter into certain types of contracts that require the Company to indemnify parties against potential third-party and other claims. These contracts primarily relate to: (i) divestiture agreements, under which the Company may provide customary indemnification to purchasers of its businesses or assets including, for example, claims arising from the operation of the businesses prior to disposition, and liability to investigate and remediate environmental contamination existing prior to disposition; (ii) certain real estate leases, under which the Company may be required to indemnify property owners for claims arising from the use of the applicable premises; and (iii) certain agreements with officers and directors, under which the Company may be required to indemnify such persons for liabilities arising out of their relationship with the Company. The terms of such obligations vary. Generally, a maximum obligation is not explicitly stated.
Additionally, the Company issues purchase orders to suppliers for equipment, materials, and supplies in the normal course of business. These purchase commitments are generally for volumes consistent with anticipated requirements to fulfill purchase orders or contracts for product deliveries received, or expected to be received, from customers and would be subject to reimbursement if a cost-plus contract is terminated. During the third quarter of fiscal 2017, the Company outsourced certain information technology and cyber security functions resulting in a significant financial commitment over the next five years.
The Company provides product warranties in conjunction with certain product sales. The majority of the Company’s warranties are a one-year standard warranty for parts, workmanship, and compliance with specifications. On occasion, the Company has made commitments beyond the standard warranty obligation. While the Company has contracts with warranty provisions, there is not a history of any significant warranty claims experience. A reserve for warranty exposure is made on a product by product basis when it is both estimable and probable. These costs are included in the program’s estimate at completion and are expensed in accordance with the Company’s revenue recognition methodology as allowed under GAAP for that particular contract.

22



Note 10. Cost Reduction Plans
During fiscal 2015, the Company initiated the first phase ("Phase I") of the competitive improvement program (the "CIP”) comprised of activities and initiatives aimed at reducing costs in order for the Company to continue to compete successfully. Phase I is composed of three major components: (i) facilities optimization and footprint reduction; (ii) product affordability; and (iii) reduced administrative and overhead costs. On April 6, 2017, the Board of Directors approved the second phase (“Phase II”) of the Company’s previously announced CIP. Pursuant to Phase II, the Company plans to expand its CIP and further consolidate its Sacramento, California, and Gainesville, Virginia sites, while centralizing and expanding its existing presence in Huntsville, Alabama. The Company currently estimates that it will incur restructuring and related costs of the Phase I and II programs of approximately $235.1 million (including approximately $60.5 million of capital expenditures). The Company has incurred $71.6 million of such costs through September 30, 2017, including $29.8 million in capital expenditures. A summary of the Company's liabilities related to Phase I and II activity is shown below:
 
Severance
 
Retention
 
Total
 
(In millions)
December 31, 2016
$
6.8

 
$
2.1

 
$
8.9

Accrual
33.3

 
4.3

 
37.6

Payments
(2.0
)
 
(0.3
)
 
(2.3
)
September 30, 2017
$
38.1

 
$
6.1

 
$
44.2

The costs associated with Phase I and II will be a component of the Company’s U.S. government forward pricing rates, and therefore, will be recovered through the pricing of the Company’s products and services to the U.S. government. In addition to the employee-related Phase I and II obligations, the Company incurred non-cash accelerated depreciation expense of $3.5 million and $0.6 million in the first nine months of fiscal 2017 and 2016, respectively, associated with changes in the estimated useful lives of long-lived assets.
Note 11. Retirement Benefits
Pension Benefits
The Company's defined benefit pension plan future benefit accrual was discontinued in fiscal 2009. As of the last measurement date of December 31, 2016, the assets, projected benefit obligations, and unfunded pension obligation for the tax-qualified pension plans were approximately $925.1 million, $1,492.1 million, and $548.2 million, respectively.
The Company expects to make cash contributions of $75.8 million to its tax-qualified defined benefit pension plan in fiscal 2017 of which $34.0 million is expected to be recoverable from its U.S. government contracts in fiscal 2017 with the remaining $41.8 million expected to be recoverable from its U.S. government contracts in the future. The Company has funded $67.0 million to its tax-qualified defined benefit pension plan in the first nine months of fiscal 2017 and in the fourth quarter of fiscal 2017 expects to fund $8.8 million. The Company generally is able to recover cash contributions related to its tax-qualified defined benefit pension plan as allowable costs on U.S. government contracts, but there can be differences between when the Company contributes cash to its tax-qualified defined benefit pension plan under pension funding rules and recovers the costs under the U.S. government Cost Accounting Standards.
On October 17, 2017, the Company's tax-qualified defined benefit pension plan purchased non-participating annuity contracts in the amount of $34.7 million for approximately 2,800 participants which will reduce future service costs of the pension plan.
The funded status of the Company's tax-qualified pension plan may be adversely affected by the investment experience of the plan's assets, by any changes in U.S. law and by changes in the statutory interest rates used by tax-qualified pension plans in the U.S. to calculate funding requirements. Accordingly, if the performance of the plan's assets does not meet assumptions, if there are changes to the Internal Revenue Service regulations or other applicable law, or if other actuarial assumptions are modified, future contributions to the underfunded pension plans could be higher than the Company expects.
Medical and Life Insurance Benefits
The Company provides medical and life insurance benefits to certain eligible retired employees, with varied coverage by employee group. Generally, employees hired after January 1, 1997, are not eligible for retiree medical and life insurance benefits. The medical benefit plan provides for cost sharing between the Company and its retirees in the form of retiree contributions, deductibles, and coinsurance. Medical and life insurance benefit obligations are unfunded. Medical and life insurance benefit cash payments for eligible retired employees are recoverable from the Company’s U.S. government contracts.
Components of retirement benefit expense (benefit) are: 

23



 
Pension Benefits
 
Postretirement Medical and Life
Insurance Benefits
 
Three months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Service cost
$
3.7

 
$
3.6

 
$

 
$

Interest cost on benefit obligation
14.4

 
16.0

 
0.4

 
0.5

Assumed return on plan assets
(16.1
)
 
(17.5
)
 

 

Amortization of prior service credits

 

 

 
(0.3
)
Recognized net actuarial losses (gains)
17.0

 
15.9

 
(1.1
)
 
(0.9
)
Retirement benefit expense (benefit)
$
19.0

 
$
18.0

 
$
(0.7
)
 
$
(0.7
)

 
Pension Benefits
 
Postretirement Medical and Life
Insurance Benefits
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Service cost
$
11.2

 
$
10.5

 
$

 
$

Interest cost on benefit obligation
43.2

 
48.1

 
1.1

 
1.4

Assumed return on plan assets
(48.4
)
 
(52.6
)
 

 

Amortization of prior service credits
0.1

 
0.1

 
(0.1
)
 
(0.9
)
Recognized net actuarial losses (gains)
50.9

 
47.8

 
(3.1
)
 
(2.7
)
Retirement benefit expense (benefit)
$
57.0

 
$
53.9

 
$
(2.1
)
 
$
(2.2
)
Note 12. Operating Segments and Related Disclosures
The Company’s operations are organized into two operating segments based on different products and customer bases: Aerospace and Defense, and Real Estate.
The Company evaluates its operating segments based on several factors, of which the primary financial measure is segment performance. Segment performance represents net sales less applicable costs, expenses and unusual items relating to the segment operations. Segment performance excludes corporate income and expenses, legacy income or expenses, unusual items not related to the segment operations, interest expense, interest income, and income taxes.
Customers that represented more than 10% of net sales for the periods presented were as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
Lockheed Martin Corporation
24
%
 
25
%
 
22
%
 
29
%
United Launch Alliance
22
%
 
24
%
 
22
%
 
21
%
NASA
19
%
 
14
%
 
19
%
 
14
%
Raytheon Company
15
%
 
22
%
 
15
%
 
19
%
The Company's sales to each of the major customers listed above involve several product lines and programs.
Sales to the U.S. government and its agencies, including sales to the Company’s significant customers discussed above, were as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
Percentage of net sales
94
%
 
92
%
 
93
%
 
91
%



24



Selected financial information for each operating segment is as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Net Sales:
 
 
 
 
 
 
 
Aerospace and Defense
$
482.5

 
$
462.2

 
$
1,344.2

 
$
1,224.3

Real Estate
1.6

 
1.6

 
4.8

 
4.8

Total Net Sales
$
484.1

 
$
463.8

 
$
1,349.0

 
$
1,229.1

Segment Performance:
 
 
 
 
 
 
 
Aerospace and Defense
$
53.5

 
$
46.4

 
$
151.6

 
$
122.3

Environmental remediation provision adjustments
(0.5
)
 
(16.4
)
 
(1.6
)
 
(16.8
)
Retirement benefits, net (1)
(6.4
)
 
(5.6
)
 
(14.4
)
 
(16.8
)
Unusual items
0.1

 
(0.2
)
 
2.0

 

Aerospace and Defense Total
46.7

 
24.2

 
137.6

 
88.7

Real Estate
0.5

 
0.8

 
2.1

 
2.5

Total Segment Performance
$
47.2

 
$
25.0

 
$
139.7

 
$
91.2

Reconciliation of segment performance to income (loss) before income taxes:
 
 
 
 
 
 
 
Segment performance
$
47.2

 
$
25.0

 
$
139.7

 
$
91.2

Interest expense
(7.7
)
 
(5.9
)
 
(22.9
)
 
(27.4
)
Interest income
1.0

 
0.1

 
2.3

 
0.4

Stock-based compensation expense
(11.0
)
 
(2.3
)
 
(21.2
)
 
(7.7
)
Corporate retirement benefits
(5.0
)
 
(4.8
)
 
(15.0
)
 
(14.2
)
Corporate and other expense, net
(5.9
)
 
(3.3
)
 
(17.9
)
 
(13.0
)
Unusual items

 
(34.1
)
 
(1.0
)
 
(34.5
)
Income (loss) before income taxes
$
18.6

 
$
(25.3
)
 
$
64.0

 
$
(5.2
)
_____
(1) Retirement benefits are net of cash funding to the Company's tax-qualified defined benefit pension plan which are recoverable costs under the Company's U.S. government contracts. The Company's recoverable tax-qualified pension costs in the third quarter and first nine months of fiscal 2017 totaled $6.9 million and $25.5 million, respectively. The Company's recoverable tax-qualified pension costs in the third quarter and first nine months of fiscal 2016 totaled $6.9 million and $20.7 million, respectively.
Note 13. Unusual Items
Total unusual items, comprised of a component of other expense, net and loss on debt in the unaudited condensed consolidated statements of operations, was as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
 
(In millions)
Unusual items
 
 
 
 
 
 
 
Legal related matters
$
(0.1
)
 
$
0.2

 
$
(2.0
)
 
$

Loss on debt

 
34.1

 

 
34.5

Acquisition costs

 

 
1.0

 

 
$
(0.1
)
 
$
34.3

 
$
(1.0
)
 
$
34.5

Fiscal 2017 activity:
The Company recorded $2.0 million of realized gains, net of interest associated with the failure to register with the SEC the issuance of certain of the Company’s common shares under the defined contribution 401(k) employee benefit plan (see Note 4(j)).
The Company recorded $1.0 million of costs related to the acquisition of Coleman (see Note 5).

25



Fiscal 2016 activity:
On July 18, 2016, the Company redeemed $460.0 million principal amount of its 7.125% Second-Priority Senior Secured Notes ("7 1/8% Notes"), representing all of the outstanding 7 1/8% Notes, at a redemption price equal to 105.344% of the principal amount, plus accrued and unpaid interest. The Company incurred a pre-tax charge of $34.1 million in the third quarter of fiscal 2016 associated with the extinguishment of the 7 1/8% Notes. The $34.1 million pre-tax charge was comprised of $24.6 million paid in excess of the par value and $9.5 million associated with the write-off of unamortized deferred financing costs. The Company funded the redemption in part through a $400.0 million drawdown from its Term Loan facility.
The Company retired $13.0 million principal amount of its delayed draw term loan resulting in a loss of $0.3 million.
The Company recorded a charge of $0.1 million associated with the amendment to the Senior Credit Facility.

26



Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Unless otherwise indicated or required by the context, as used in this Quarterly Report on Form 10-Q, the terms “the Company,” “we,” “our” and “us” refer to Aerojet Rocketdyne Holdings, Inc. and all of its subsidiaries that are consolidated in conformity with accounting principles generally accepted in the United States of America (“GAAP”).
The preparation of the consolidated financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates. In addition, since our operating cycle is primarily based on long-term contracts with various delivery schedules, our operating results for interim periods may not be indicative of the results of operations for a full year or future periods. This section contains a number of forward-looking statements, all of which are based on current expectations and are subject to risks and uncertainties including those described in this Quarterly Report under the heading “Forward-Looking Statements.” Actual results may differ materially. This section should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended December 31, 2016 and periodic reports subsequently filed with the Securities and Exchange Commission (“SEC”).
Overview
We are a manufacturer of aerospace and defense products and systems with a real estate segment. Our operations are organized into two segments:
Aerospace and Defense — includes the operations of our wholly-owned subsidiary Aerojet Rocketdyne, Inc. (“Aerojet Rocketdyne”), a leading technology-based designer, developer and manufacturer of aerospace and defense products and systems for the United States (“U.S.”) government, including the Department of Defense (“DoD”), the National Aeronautics and Space Administration (“NASA”), major aerospace and defense prime contractors as well as portions of the commercial sector.
Real Estate — includes the activities of our wholly-owned subsidiary Easton Development Company, LLC (“Easton”) related to the re-zoning, entitlement, sale, and leasing of our excess real estate assets. We currently are in the process of seeking zoning changes and other governmental approvals on our excess real estate assets to optimize their value.
A summary of the significant financial highlights for the third quarter of fiscal 2017 which management uses to evaluate our operating performance and financial condition is presented below. 
Net sales for the third quarter of fiscal 2017 totaled $484.1 million compared with $463.8 million for the third quarter of fiscal 2016.
Net income for the third quarter of fiscal 2017 was $12.6 million, or $0.17 diluted income per share, compared with a net loss of $(11.1) million, or $(0.17) loss per share, for the third quarter of fiscal 2016.
Adjusted EBITDAP (Non-GAAP measure*) for the third quarter of fiscal 2017 was $55.2 million compared with $40.6 million for the third quarter of fiscal 2016.
Segment performance before environmental remediation provision adjustments, retirement benefits, net, and unusual items (Non-GAAP measure*) was $54.0 million for the third quarter of fiscal 2017, compared with $47.2 million for the third quarter of fiscal 2016.
Cash used in operating activities in the third quarter of fiscal 2017 totaled $(11.8) million compared with $45.1 million of cash provided by operating activities in the third quarter of fiscal 2016.
Total funded backlog as of September 30, 2017 was $2.1 billion compared with $2.3 billion as of December 31, 2016.
_________
* We provide Non-GAAP measures as a supplement to financial results based on GAAP. A reconciliation of the Non-GAAP measures to the most directly comparable GAAP measures is presented later in the Management’s Discussion and Analysis under the heading “Operating Segment Information” and “Use of Non-GAAP Financial Measures.”
We are operating in an environment that is characterized by both increasing complexity in the global security environment and continuing worldwide economic pressures. A significant component of our strategy in this environment is to focus on delivering excellent performance to our customers, driving improvements and efficiencies across our operations, and creating value through the enhancement and expansion of our business.
We continuously evaluate a broad range of options that could be implemented to increase operational efficiency across all sites, and improve our overall market competitiveness.  Our decisions will be focused on moving us forward to solidify our leadership in the propulsion markets.
Some of the significant challenges we face are as follows: dependence upon U.S. government programs and contracts, future reductions or changes in U.S. government spending in our markets, implementation of the competitive improvement program (the "CIP"), environmental matters, capital structure, and our underfunded retirement benefit plans.

27



Major Customers
The principal end user customers of our products and technology are primarily agencies of the U.S. government. Since a majority of our sales are, directly or indirectly, to the U.S. government, funding for the purchase of our products and services generally follows trends in U.S. aerospace and defense spending. However, individual U.S. government agencies, which include the military services, NASA, the Missile Defense Agency, and the prime contractors that serve these agencies, exercise independent purchasing power within “budget top-line” limits. Therefore, sales to the U.S. government are not regarded as sales to one customer, but rather each contracting agency is viewed as a separate customer.
Sales to the U.S. government and its agencies, including sales to our significant customers disclosed below, were as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
Percentage of net sales
94
%
 
92
%
 
93
%
 
91
%
The RS-25 program, which is comprised of several contracts and included in U.S. government sales, represented 16% and 13% of net sales for the third quarter of fiscal 2017 and 2016, respectively. In addition, the RS-25 program represented 16% and 12% of net sales for the first nine months of fiscal 2017 and 2016, respectively. The Terminal High Altitude Area Defense (“THAAD”) program, which is comprised of several contracts and included in U.S. government sales, was less than 10% of net sales for the third quarter and first nine months of fiscal 2017. The THAAD program represented 13% and 14% of net sales for the third quarter and first nine months of fiscal 2016, respectively. The Standard Missile program, which is comprised of several contracts and included in U.S. government sales, was less than 10% of net sales for the third quarter and first nine months of fiscal 2017. The Standard Missile program represented 12% and 10% of net sales for the third quarter and first nine months of fiscal 2016, respectively.
Customers that represented more than 10% of net sales for the periods presented were as follows:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
Lockheed Martin Corporation
24
%
 
25
%
 
22
%
 
29
%
United Launch Alliance
22
%
 
24
%
 
22
%
 
21
%
NASA
19
%
 
14
%
 
19
%
 
14
%
Raytheon Company
15
%
 
22
%
 
15
%
 
19
%
Our sales to each of the major customers listed above involve several product lines and programs.
Industry Update
Our primary aerospace and defense customers include the DoD and its agencies, NASA, and the prime contractors that supply products to these customers. We rely on U.S. government spending on aerospace and defense products and systems, and our backlog depends, in large part, on continued funding by the U.S. government for the programs in which we are involved. These funding levels are not generally correlated with any specific economic cycle, but rather follow the cycle of general public policy and political support for this type of funding. Moreover, although our contracts often contemplate that our services will be performed over a period of several years, the U.S. Congress must appropriate funds for a given program and the U.S. President must sign into law such appropriations legislation each government fiscal year (“GFY”) and may significantly increase, decrease or eliminate, funding for a program. A decrease in DoD and/or NASA expenditures, the elimination or curtailment of a material program in which we are or hope to be involved, or changes in payment patterns of our customers as a result of changes in U.S. government outlays, could have a material adverse effect on our operating results, financial condition, and/or cash flows.
Congress was not able to pass full year appropriations for either DoD or NASA prior to the start of GFY 2017 on October 1, 2016, necessitating a short-term Continuing Resolution (“CR”) into December 2016.  After the 2016 U.S. Presidential Election in November 2016, Congress passed another CR into mid-2017 to allow the new Administration an opportunity to shape federal spending.  On May 5, 2017, President Trump signed into law the Consolidated Appropriations Act of 2017, an omnibus appropriations bill for GFY 2017, including appropriations for DoD and NASA; however, the delayed completion of the GFY2017 spending bills resulted in a delay to the release of the President’s Budget Request for GFY2018.  With a truncated legislative cycle, Congress was unable to pass GFY 2018 bills before October 1, 2017, necessitating another CR through December 8, 2017. 
The Space Launch Systems ("SLS") appears to remain a top Congressional priority as the CR included a provision to allow NASA the funding flexibility for SLS and deep exploration to remain on track. The SLS program also has enjoyed wide,

28



bipartisan support in both chambers of Congress. We maintain a strong relationship with NASA and our propulsion systems have been powering NASA launch vehicles and spacecraft since the inception of the U.S. space program. Our booster, upper stage and Orion vehicle propulsion systems are currently baselined on the new SLS vehicle and both upper stage and booster engines are in development for future SLS variants. Due to the retirement of the space shuttle fleet, U.S. astronauts have been dependent on Russian Soyuz flights for access to and from the International Space Station ("ISS") for the better part of this decade. NASA has been working to re-establish U.S. manned space capability as soon as possible through development of a new “space taxi” to ferry astronauts and cargo to the ISS. In 2014, Boeing’s CST-100 Starliner capsule, powered by Aerojet Rocketdyne propulsion, was selected by NASA to transport astronauts to and from the ISS. As Boeing’s business partner, Aerojet Rocketdyne will be providing the propulsion system for this new capsule, thereby supplementing its work for NASA on the SLS designed for manned deep space exploration. In both instances, we have significant propulsion content and we look forward to supporting these generational programs for NASA.
The competitive dynamics of our multi-faceted marketplace vary by product line and customer as we experience many of the same influences felt by the broader aerospace and defense industry.  The large majority of products we manufacture are highly complex, technically sophisticated and extremely hazardous to build, demanding rigorous manufacturing procedures and highly specialized manufacturing equipment.  While historically these factors, coupled with the high cost to establish the infrastructure required to meet these needs, posed substantial barriers to entry, modern design tools and manufacturing techniques (e.g., additive manufacturing) available to new entrants with the ability to self-fund start-up as well as development costs has led to increased competition in space related markets. To date, the competition has been limited to a few participants who tend to be narrowly focused on products that are sub-elements of our overall product portfolio. For example, entrepreneurs such as SpaceX and Blue Origin, who have been or are in the process of developing liquid fuel propulsion capabilities are primarily focused on the development of space propulsion systems for heavy lift launch vehicles and are not pursuing or participating in the missile defense or tactical propulsion business segments that make up a substantial portion of our overall business. These new entrepreneurs have signaled their intent to compete primarily on price and are therefore bringing pressure to bear on existing cost paradigms and manufacturing methodologies.
Competitive Improvement Program
During fiscal 2015, we initiated the first phase ("Phase I") of the CIP comprised of activities and initiatives aimed at reducing costs in order for us to continue to compete successfully. Phase I is composed of three major components: (i) facilities optimization and footprint reduction; (ii) product affordability; and (iii) reduced administrative and overhead costs. On April 6, 2017, the Board of Directors approved the second phase (“Phase II”) of our previously announced CIP. Pursuant to Phase II, our plans are to expand CIP and further consolidate our Sacramento, California, and Gainesville, Virginia sites, while centralizing and expanding our existing presence in Huntsville, Alabama.
When fully implemented, we anticipate that the CIP will result in annual cost reductions as follows (in millions):
Annual cost reductions related to Phase I (expected during 2019)
$
145.0

Annual cost reductions related to Phase II (expected during 2021)    
85.0

Total annual cost reductions
$
230.0

We currently estimate that we will incur restructuring and related costs of the Phase I and II programs of approximately $235.1 million (including approximately $60.5 million of capital expenditures). We have incurred $71.6 million through September 30, 2017, including $29.8 million in capital expenditures.
Environmental Matters
Our current and former business operations are subject to, and affected by, federal, state, local, and foreign environmental laws and regulations relating to the discharge, treatment, storage, disposal, investigation, and remediation of certain materials, substances, and wastes. Our policy is to conduct our business with due regard for the preservation and protection of the environment. We continually assess compliance with these regulations and we believe our current operations are materially in compliance with all applicable environmental laws and regulations.
A summary of our recoverable amounts, environmental reserves, and estimated range of liability as of September 30, 2017 is presented below:

29



 
Recoverable
Amounts (1)
 
Environmental Reserves
 
Estimated Range
of Liability
 
(In millions)
Sacramento
$
153.1

 
$
202.3

 
$202.3 - $320.3
Baldwin Park Operable Unit
90.1

 
119.1

 
119.1 - 155.5
Other Aerojet Rocketdyne sites
8.4

 
8.4

 
8.4 - 14.3
Other sites
0.6

 
4.6

 
4.6 - 6.3
Total
$
252.2

 
$
334.4

 
$334.4 - $496.4
_____
(1)
Excludes the receivable from Northrop Grumman Corporation (“Northrop”) of $66.0 million as of September 30, 2017 related to environmental costs already paid (and therefore not reserved) by the Company in prior years and reimbursable under our agreement with Northrop.
Most of our environmental costs are incurred by our Aerospace and Defense segment, and certain of these future costs are allowable to be included in our contracts with the U.S. government. The cumulative expenditure limitation under our agreement with Northrop was reached in the second quarter of fiscal 2017. See Note 8(c) and (d) of the Notes to Unaudited Condensed Consolidated Financial Statements.
Capital Structure
We have a substantial amount of debt for which we are required to make interest and principal payments. Interest on long-term financing is not a recoverable cost under our U.S. government contracts. Debt outstanding is presented below:
 
September 30, 2017
 
December 31, 2016
 
(In millions)
Total debt
$
618.6