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ALLIANT TECHSYSTEMS INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[November 07, 2014]

ALLIANT TECHSYSTEMS INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS


(Edgar Glimpses Via Acquire Media NewsEdge) (Dollar amounts in thousands except share and per share data or unless otherwise indicated) Forward-Looking Information is Subject to Risk and Uncertainty Some of the statements made and information contained in this report, excluding historical information, are "forward-looking statements" as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements give ATK's current expectations or forecasts of future events. Words such as "may," "will," "expected," "intend," "estimate," "anticipate," "believe," "project," or "continue," and similar expressions are used to identify forward-looking statements. From time to time, ATK also may provide oral or written forward-looking statements in other materials released to the public.



Any or all forward-looking statements in this report and in any public statements ATK makes could be materially different. They can be affected by assumptions used or by known or unknown risks or uncertainties. Consequently, no forward-looking statements can be guaranteed. Actual results may vary materially. You are cautioned not to place undue reliance on any forward-looking statements. You should also understand that it is not possible to predict or identify all such factors and should not consider the following list to be a complete statement of all potential risks and uncertainties. Any change in the following factors may impact the achievement of results: • reductions or changes in NASA or U.S. Government military spending, timing of payments and budgetary policies, including impacts of sequestration under the Budget Control Act of 2011, and sourcing strategies, • intense competition for U.S. Government contracts and programs, • increases in costs, which ATK may not be able to react to due to the nature of its U.S. Government contracts, • changes in cost and revenue estimates and/or timing of programs, • the potential termination of U.S. Government contracts and the potential inability to recover termination costs, • other risks associated with U.S. Government contracts that might expose ATK to adverse consequences, • government laws and other rules and regulations applicable to ATK, including procurement and import-export control, • the novation of U.S. Government contracts, • intense competition in the commercial ammunition, firearms, and accessories markets, • reduction or change in demand and manufacturing costs for commercial ammunition, firearms or accessories, including the risk that placed orders exceed actual customer requirements, • changes in the regulation of the manufacture, sale and purchase of firearms and ammunition could adversely affect ATK, • the manufacture and sale of products that create exposure to potential product liability, warranty liability or personal injury claims and litigation, • risks associated with expansion into new and adjacent commercial markets, • results of acquisitions or other transactions, including the Company's ability to successfully integrate acquired businesses and realize anticipated synergies, cost savings and other benefits, and costs incurred for pursuits and proposed acquisitions that have not yet or may not close, including the announced spin-off of the Sporting Group and ATK's merger with Orbital Sciences Corporation, • greater risk associated with international business, including foreign currency exchange rates and fluctuations in those rates, • federal and state regulation of defense products, ammunition, and firearms, • costs of servicing ATK's debt, including cash requirements and interest rate fluctuations, • actual pension and other postretirement plan asset returns and assumptions regarding future returns, discount rates, service costs, mortality rates, and health care cost trend rates, 34-------------------------------------------------------------------------------- Table of Contents • security threats, including cybersecurity and other industrial and physical security threats, and other disruptions, • supply, availability, and costs of raw materials and components, including commodity price fluctuations, • new regulations related to conflict minerals, • performance of ATK's subcontractors, • development of key technologies and retention of a qualified workforce, • fires or explosions at any of ATK's facilities, • environmental laws that govern past practices and rules and regulations, noncompliance with which may expose ATK to adverse consequences, • impacts of financial market disruptions or volatility to ATK's customers and vendors, • unanticipated changes in the tax provision or exposure to additional tax liabilities, and • the costs and ultimate outcome of litigation matters and other legal proceedings.

This list of factors is not exhaustive, and new factors may emerge or changes to the foregoing factors may occur that would impact ATK's business. ATK undertakes no obligation to update any forward-looking statements. A more detailed description of risk factors can be found in Part 1, Item 1A, Risk Factors, of ATK's Annual Report on Form 10-K for the fiscal year ended March 31, 2014.


Additional information regarding these factors may be contained in ATK's subsequent filings with the Securities and Exchange Commission, including Forms 10-Q and 8-K. All such risk factors are difficult to predict, contain material uncertainties that may affect actual results, and may be beyond our control.

Executive Summary ATK is an aerospace, defense, and commercial products company and supplier of products to the U.S. Government, allied nations, and prime contractors. ATK is also a major supplier of ammunition, rifles and shotguns, and related accessories to commercial customers and law enforcement agencies. ATK is headquartered in Arlington, Virginia and has operating locations throughout the United States, Puerto Rico, and internationally.

• Aerospace Group, which generated 26% of ATK's external sales in the six months ended September 28, 2014, develops and produces rocket motor systems for human and cargo launch vehicles, conventional and strategic missiles, and missile defense interceptors. They also produce small- and micro-satellites, satellite components, structures and subsystems, lightweight space deployables and solar arrays, and provide engineering and technical services. Additionally, the Aerospace Group operates in the military and commercial aircraft and launch structures markets. Other products include ordnance, such as decoy and illuminating flares.

• Defense Group, which generated 31% of ATK's external sales in the six months ended September 28, 2014, develops and produces military small-, medium-, and large-caliber ammunition, propulsion systems for tactical missiles and missile defense applications, strike weapons, precision munitions, gun systems, aircraft survivability systems, fuzes and warheads, energetic materials and special mission aircraft.

• Sporting Group, which generated 43% of ATK's external sales in the six months ended September 28, 2014, develops, produces, and provides commercial ammunition, accessories, rifles and shotguns for the hunting, shooting, law enforcement, outdoor and sporting markets.

Financial Highlights and Notable Events Certain notable events or activities affecting our fiscal 2015 financial results included the following: Financial highlights for the quarter ended September 28, 2014 • Quarterly sales of $1.3 billion.

• Diluted earnings per share of $2.97.

• Orders for the quarter ended September 28, 2014 of $0.9 billion compared to $1.5 billion in the quarter ended September 29, 2013.

35-------------------------------------------------------------------------------- Table of Contents • Total backlog of $7.0 billion at September 28, 2014 compared to $8.4 billion at September 29, 2013.

• Income before interest, income taxes, and noncontrolling interest as a percentage of sales was 12.6% and 13.0% for the quarters ended September 28, 2014 and September 29, 2013, respectively. The decrease was driven by the absence of $22 million of profit improvements as a contract neared completion and the transition to a new contract in Small Caliber Systems division in the prior year quarter.

• The increase in the current quarter's tax rate to 30.7% from 30.3% in the quarter ended September 29, 2013 is primarily due to a prior year revaluation of unrecognized tax benefits due to proposed Internal Revenue Service ("IRS") regulations and the true-up of prior-year taxes partially offset by the benefit from an initiative resulting in a tax basis adjustment, settlement of the examination by the IRS of the fiscal 2011 and 2012 tax returns and prior year period discrete revaluation of deferred tax assets caused by a change in state tax law.

• ATK completed the retirement of its 3.00% Convertible Notes, for which ATK paid a total of $354,367 in cash, including accrued interest.

• Under the terms of the Senior Credit Facility, ATK exercised an option to increase the Term A Loan by $150,000 (the "Accordion"). ATK used the proceeds of the Accordion to partially finance the tender offer of the 3.00% Convertible Notes, as discussed above, and to repay $50,000 of the outstanding Term B Loan.

Other notable events for fiscal 2015 • On October 28, 2014, ATK's Board of Directors declared a quarterly cash dividend of $0.32 per share, payable on December 11, 2014, to stockholders of record on November 19, 2014.

• On April 28, 2014, ATK entered into a Transaction Agreement to spin-off the Sporting Group business and merge the remaining Aerospace and Defense Group businesses with Orbital Sciences Corporation. This transaction is subject to stockholder approval prior to closing.

Outlook Transaction Agreement - On April 28, 2014, ATK entered into a Transaction Agreement (the "Transaction Agreement") with Vista SpinCo Inc., a Delaware corporation and a wholly owned subsidiary of ATK ("Sporting"), Vista Merger Sub Inc., a Delaware corporation and a wholly owned subsidiary of ATK, and Orbital Sciences Corporation, a Delaware corporation ("Orbital"), providing for the tax-free spin-off of the Sporting Group business to ATK stockholders (the "Distribution"), which will be immediately followed by the tax-free merger of Vista Merger Sub Inc. with and into Orbital (the "Merger" and together with the Distribution, the "Transaction"), with Orbital surviving the Merger as a wholly owned subsidiary of ATK. This transaction is subject to stockholder approval prior to closing.

An unfortunate failure occurred during Orbital Sciences Corporation's Antares launch on October 28, 2014. ATK is conducting a thorough evaluation of any potential implications resulting from this incident, including current operating plans, long-term strategies, and the proposed transaction to merge the company's Aerospace and Defense businesses with Orbital.

On April 28, 2014, ATK's Sporting Group, ATK and certain financial institutions executed a commitment letter pursuant to which the financial institutions have agreed to provide debt financing to Sporting in an aggregate principal amount of $750,000, comprised of a $350,000 senior secured term loan and a $400,000 senior secured revolving credit facility, in each case on the terms and conditions set forth therein. Sporting will use a portion of the proceeds of the debt financing to pay a cash dividend (the "Sporting Dividend") to ATK in an amount equal to the amount by which ATK's gross indebtedness for borrowed money as of the closing date exceeds $1,740,000, subject to certain adjustments. ATK expects to use the proceeds of the Sporting Dividend to repay a portion of ATK's debt including the 6.875% Senior Subordinated Notes due 2020.

Government Funding-ATK's defense and aerospace businesses are highly dependent on funding levels of the U.S. Department of Defense ("DoD") and NASA, while a relatively small portion of ATK's Sporting Group is derived from contracts with DoD and other federal agencies.

The government budget structure remains constrained by the 2011 Budget Control Act which initially reduced the DoD topline budget by approximately $490,000,000 over 10 years starting in fiscal year 2012. In January 2013, the American Taxpayer Relief Act of 2012 was enacted, triggering further defense budget cuts of approximately $50,000,000 per year (or sequestration) beginning in March 2013. The first round of sequestration was triggered in GFY13, reducing DoD accounts by 36-------------------------------------------------------------------------------- Table of Contents $37,000,000. The NASA budget was under similar sequestration pressure but had greater flexibility to manage the reductions across the portfolio and decided to preserve funding for key priorities such as the Space Launch System (SLS).

In GFY14, the Administration faced the potential for an additional year of sequestration and deeper cuts requiring an additional reduction of $20,000,000 from the defense topline budget. The Budget Control Act Amendment adopted in December 2013 provided some relief to the deeper cuts required under sequestration in GFY14 and GFY15. For defense spending, the agreement effectively holds flat the topline budget at $499,000,000 for both years, providing more than $30,000,000 in relief. For NASA, similar relief in non-defense discretionary spending meant a relatively flat budget of approximately $17,500,000 annually.

In addition to funding relief, the amendment and the resulting FY14 Omnibus Appropriations Act in January 2014 replaced the across-the-board cuts associated with sequester with more flexible specific reductions to individual accounts.

Overseas Contingency Operations funding was increased slightly, providing some additional relief to the defense budget.

The GFY15 budget submissions in February 2014 were in line with the amendment and programs were adjusted to fit the lower funding levels. The Administration also decreased the OCO funding request, but added a new category - Opportunity, Growth and Security - to its FY15 request. This request was intended to provide added funds for readiness and training and other unfunded requirements. In Congressional mark-ups of the Authorization and Appropriations bills, however, that additional category received little support.

Budget pressures, such as rising personnel costs despite significant force reductions in the Army and Marine Corps, continue to pressure modernization and research accounts. ATK planning is focused on execution and accounting for reduced demand in certain categories of products. Force reductions and a winding-down of overseas operations, coupled with reduced training cycles and fairly healthy inventory levels for many ammunition and missile items, have resulted in less demand in some categories of products. However, the heightened threat from new threats and actions taken to blunt the threat has resulted in calls to reverse the reductions in OCO funds, and may result in new demands for precision weapons, tank and medium caliber ammunition, non-standard ammunition and special mission aircraft. Some of the same categories are high on the list of ATK offerings to international customers.

With regard to GFY15, Congressional action to date is in line with expectations and ATK FY15 plans. ATK has engaged with relevant offices and committees to assess issues, monitor the authorization and appropriations processes, and reinforce messages on ATK priorities. Final decisions on the GFY15 annual appropriations may not occur until ATK's FY15 fourth quarter as the mid-term elections play out. The Continuing Resolution currently in place until December 12, 2014 may extend into the next calendar year; an FY15 Omnibus or a "minibus" focused on DoD and accompanied by a continuing resolution for remaining government agencies area also possible outcomes.

ATK's management believes that the key to ATK's continued success regardless of these outcomes is to focus on performance, innovation, and affordability. ATK is positioning itself where management believes there will be continued strong defense funding, even as pressures mount on procurement and research and development accounts. ATK will concentrate on developing systems that will extend the life and improve the capability of existing platforms. ATK anticipates budget pressures will increasingly drive the life extension of platforms such as ships, aircraft and main battle tanks. As importantly, ATK is actively engaged with the Administration and Congress on priorities in the GFY16 budget request that will be delivered in February 2015, as well as highlighting programs and issues as DoD begins work on the GFY17 program objective memorandum.

Finally, US Government contracts are also dependent on the continuing availability of Congressional appropriations. Congress usually appropriates funds for a given program on a fiscal year basis even though contract performance and obligation may take more than one year. As a result, at the outset of a major program, the contract is usually incrementally funded, and additional monies are committed to the contract by the procuring agency only as Congress makes appropriations for future fiscal years. In addition, most U.S.

Government contracts are subject to modification if funding is changed. Any failure by Congress to appropriate additional funds to any program in which ATK participates, or any contract modification as a result of funding changes, could materially delay or terminate a program. This could have a material adverse effect on ATK's operating results, financial condition, or cash flows.

The Bipartisan Budget Act of 2013, which was signed by President Obama on December 26, 2013, reduced the allowable compensation costs for employees of government contractors to $487 from previous level of $952. The limit will be adjusted annually to reflect the change in the Employment Cost Index for all workers as calculated by the Bureau of Labor Statistics. This Act limits the amount of compensation that ATK can propose and bill on contracts. The interim implementing rule was published in the Federal Register on June 24, 2014, and is effective for all contracts awarded after that date. This new limit will be phased in as old contracts that are subject to the old limit are completed and new contracts subject to the new limit are 37-------------------------------------------------------------------------------- Table of Contents received. Once fully phased in, ATK believes this Act will reduce the amount of cost ATK can bid and collect by approximately $9,000 per year.

Shooting Sports market - There has been a decline in the number of new long-gun registrations as evidenced by the The National Instant Criminal Background Check System, or NICS. This decline indicates there is decreased demand for long-guns and related accessory categories and may impact ATK's future revenue and goodwill impairment testing. Previous market declines have lasted 12-24 months, but it is difficult to predict the significance or length of the current market situation.

Critical Accounting Policies ATK's significant accounting policies are described in Note 1 to the consolidated financial statements included in ATK's Annual Report on Form 10-K for the year ended March 31, 2014 ("fiscal 2014"). The accounting policies used in preparing ATK's interim fiscal 2015 consolidated financial statements are the same as those described in ATK's Annual Report.

In preparing the consolidated financial statements, ATK follows accounting principles generally accepted in the United States. The preparation of these financial statements requires ATK to make estimates and judgments that affect the reported amounts of assets, liabilities, sales, expenses, and related disclosure of contingent assets and liabilities. ATK re-evaluates its estimates on an on-going basis. ATK's estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

ATK believes its critical accounting policies are those related to: • revenue recognition, • employee benefit plans, • income taxes, • acquisitions, and • goodwill.

More information on these policies can be found in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, of ATK's Annual Report on Form 10-K for the fiscal year ended March 31, 2014.

Results of Operations The following information should be read in conjunction with ATK's consolidated financial statements. The key performance indicators that ATK's management uses in managing the business are sales, income before interest and income taxes, and cash flows.

Group total Sales, Cost of sales, and Income before interest, income taxes, and noncontrolling interest include intergroup sales and profit. Corporate and Eliminations includes intergroup sales and profit eliminations and corporate expenses.

Acquisitions On November 1, 2013, ATK acquired Bushnell Group Holdings, Inc. Bushnell is a leading global designer, marketer and distributor of branded sports optics, outdoor accessories and performance eyewear. The purchase price was $985,000 in cash, subject to customary post-closing adjustments expected to be settled in fiscal 2014. ATK believes the acquisition will broaden our existing capabilities in the commercial shooting sports market and expand our portfolio of branded shooting sports products. In addition, this transaction will enable the Company to enter new sporting markets in golf and snow skiing. ATK will leverage Bushnell's strong sourcing, marketing, branding and distribution capabilities and capitalize on Bushnell's track record of successfully integrating acquisitions and delivering profitable growth. Bushnell employs approximately 1,100 employees and will be included in the Sporting Group. The purchase price allocation will be completed during the third quarter of fiscal 2015. A portion of the goodwill generated in this acquisition will be deductible for tax purposes.

ATK will use the acquisition method of accounting to account for this acquisition and, accordingly, the results of Bushnell will be included in ATK's consolidated financial statements at the date of acquisition. ATK has recorded sales of approximately $144,794 and $269,572 for the quarter and six months ended September 28, 2014, respectively and income before interest, income taxes, and noncontrolling interest of approximately $15,051 and $20,371 for the quarter and six months ended September 28, 2014 associated with the operations of this acquired business which reflects transition costs.

On June 21, 2013, ATK acquired Caliber Company, parent company of Savage Sports Corporation ("Savage"), a leading manufacturer of sporting long guns. Operating under the brand names of Savage Arms, Stevens and Savage Range Systems, the 38-------------------------------------------------------------------------------- Table of Contents company designs, manufactures and markets centerfire and rimfire rifles, shotguns and shooting range systems used for hunting as well as competitive and recreational target shooting. The purchase price was $315,000 net of cash acquired, and the settlement of purchase price adjustments. ATK believes the acquisition complements ATK's growing portfolio of leading consumer brands and has allowed the Company to build upon its offerings with Savage's prominent, respected brands known for accuracy, quality, innovation, value and craftsmanship. Savage's sales distribution channels, new product development, and sophistication in manufacturing will significantly increase ATK's presence with a highly relevant product offering to distributors, retailers and consumers. Savage employs approximately 600 employees and is included in ATK's Sporting Group. The purchase price allocation was completed during the first quarter of fiscal 2015. None of the goodwill generated in this acquisition will be deductible for tax purposes.

There were no acquisitions during fiscal 2015.

Sales No contract contributed more than 10% of total external sales during the six months ended September 28, 2014. The military small-caliber ammunition contract, which is reported within the Defense Group, contributed approximately 10% of total external sales during the six months ended September 29, 2013.

The following is a summary of each operating segment's sales: Quarter Ended Six Months Ended $ % $ % September 28, 2014 September 29, 2013 Change Change September 28, 2014 September 29, 2013 Change Change Aerospace Group $ 329,189 $ 319,403 $ 9,786 3.1 % $ 662,109 $ 626,590 $ 35,519 5.7 % Defense Group 487,734 471,900 15,834 3.4 % 929,885 946,716 (16,831 ) (1.8 )% Sporting Group 532,502 421,359 111,143 26.4 % 1,096,114 779,666 316,448 40.6 % Eliminations (76,176 ) (70,281 ) (5,895 ) 8.4 % (139,469 ) (131,850 ) (7,619 ) 5.8 % Total external sales $ 1,273,249 $ 1,142,381 $ 130,868 11.5 % $ 2,548,639 $ 2,221,122 $ 327,517 14.7 % The fluctuation in sales was driven by the program-related changes within the operating segments as described below.

Quarter: Aerospace Group. The increase in sales was primarily driven by a $21,620 increase in Aerospace Structures division due to increased production of commercial and military aircraft programs.

This increase was partially offset by a decrease of $7,400 in Space Components division due to lower production volumes and a decrease of $5,700 in Space System Operations division due to decrease in classified programs.

Defense Group. The increase in sales was primarily driven by: • a $14,200 increase in Missile Products division due to increased production volumes, and • a $13,400 increase in Small Caliber Systems division due to increased international sales partially offset by the absence of a change in profit expectations on a program, due to operation efficiencies gained as one contract neared completion and a new contract was initiated in the prior year.

This increase was partially offset by a decrease of $7,600 in Defense Electronics Systems division and a decrease of $6,400 in Armament Systems division due to decreased production levels.

Sporting Group. The increase in sales was primarily driven by a $144,800 increase due to the acquisition of Bushnell.

This increase was partially offset by decreased sales volume in firearms and legacy accessories (pre-Bushnell).

Corporate. The increase in intergroup eliminations is due to increased intergroup sales within the Defense Group.

Six Months: Aerospace Group. The increase in sales was primarily driven by a $46,300 increase in Aerospace Structures division due to increased production on commercial aircraft programs.

This increase was partially offset by a decrease of $21,500 in Space Components division due to lower production volumes.

39-------------------------------------------------------------------------------- Table of Contents Defense Group. The decrease in sales was primarily driven by: • a $17,900 decrease in Small Caliber Systems division due to reduced volume as programs neared completion and impacts from federal budget reductions and • a $9,300 decrease in Armament Systems division driven by completion of programs.

This decrease was partially offset by an increase of $12,600 in Missile Products division due to increased production volumes.

Sporting Group. The increase in sales was primarily driven by: • a $305,000 increase due to the acquisition of Bushnell and Savage, and • an increase in ammunition driven by increased volume, partially offset by a reduction in legacy accessories due to reduction in market demand.

Corporate. The increase in intergroup eliminations is due to increased intergroup sales within the Defense Group.

Cost of Sales The following is a summary of each operating segment's cost of sales: Quarter Ended Six Months Ended $ % $ % September 28, 2014 September 29, 2013 Change Change September 28, 2014 September 29, 2013 Change Change Aerospace Group $ 260,454 $ 251,352 $ 9,102 3.6 % $ 525,799 $ 492,279 $ 33,520 6.8 % Defense Group 394,935 373,512 21,423 5.7 % 751,572 744,075 7,497 1.0 % Sporting Group 395,958 317,892 78,066 24.6 % 811,683 592,321 219,362 37.0 % Corporate/Eliminations (78,174 ) (67,801 ) (10,373 ) 15.3 % (151,076 ) (116,990 ) (34,086 ) 29.1 % Total cost of sales $ 973,173 $ 874,955 $ 98,218 11.2 % $ 1,937,978 $ 1,711,685 $ 226,293 13.2 % The fluctuation in cost of sales was driven by the program-related changes within the operating segments as described below.

Quarter: Aerospace Group. The increase in cost of sales was primarily driven by an $25,601 increase in Aerospace Structures division due to increased production on commercial and military aircraft programs.

This increase was partially offset by a decrease of $10,300 in Space System Operations division due to decrease in classified programs, and a decrease of $5,100 in Space Components division due to lower production volumes.

Defense Group. The increase in cost of sales was primarily driven by: • a $25,500 increase in Small Caliber Systems division due to increased international sales and • a $9,300 increase in Missile Products division due to increased production volumes.

This increase was partially offset by a decrease of $6,600 in Defense Electronics Systems division due to decreased production levels.

Sporting Group. The increase in cost of sales was primarily driven by a $102,900 increase due to the acquisition of Bushnell.

This increase was partially offset by decreased sales volume in firearms and legacy accessories.

Corporate. The increase in corporate cost of sales eliminations was driven by increased intercompany transaction eliminations, partially offset by lower pension expense.

Six Months: 40-------------------------------------------------------------------------------- Table of Contents Aerospace Group. The increase in cost of sales was primarily driven by a $58,900 increase in Aerospace Structures division due to increased production on commercial aircraft programs.

This increase was partially offset by a decrease of $15,500 in Space Components division due to lower production volumes.

Defense Group. The increase in cost of sales was primarily driven by: • a $19,300 increase in Small Caliber Systems division due to increased international sales and • a $5,300 increase in Missile Products division due to increased production volumes.

This increase was partially offset by a decrease of $7,100 in Armament Systems division and a decrease of $6,200 in Defense Electronics Systems division due to decreased production levels.

Sporting Group. The increase in cost of sales was primarily driven by: • a $218,200 increase due to the acquisition of Bushnell and Savage, and • increase in ammunition costs driven by increased volume, partially offset by a reduction in legacy accessories due to reduction in market demand.

Corporate. The increase in corporate cost of sales eliminations was driven by increased intercompany transaction eliminations, partially offset by lower pension expense.

Operating Expenses Quarter Ended Six Months Ended As a % As a % As a % As a % September 28, 2014 of Sales September 29, 2013 of Sales $ Change September 28, 2014 of Sales September 29, 2013 of Sales $ Change Research and development $ 10,016 0.8 % $ 11,801 1.0 % $ (1,785 ) $ 18,830 0.7 % $ 22,226 1.0 % $ (3,396 ) Selling 60,122 4.7 % 46,899 4.1 % 13,223 123,244 4.8 % 89,664 4.0 % 33,580 General and administrative 69,260 5.4 % 60,460 5.3 % 8,800 152,354 6.0 % 123,658 5.6 % 28,696 Total operating expense $ 139,398 10.9 % $ 119,160 10.4 % $ 20,238 $ 294,428 11.5 % $ 235,548 10.6 % $ 58,880 Quarter: Operating expenses increased by $20,238 from the prior-year period. Research and development costs decreased due to timing of expenditures in the Defense Group.

Selling expenses increased primarily due to increased commissions as a result of higher sales volume due to the Bushnell acquisition. General and administrative costs increased due to transaction costs related to the proposed Transaction and the addition of costs associated with Bushnell.

Six Months: Operating expenses increased by $58,880 from the prior-year period. Research and development costs decreased due to timing of expenditures in the Defense Group.

Selling expenses increased primarily due to increased commissions as result of increased sales in the Sporting Group and as a result of the acquisition of Bushnell and Savage. General and administrative costs increased due to transaction costs related to the proposed Transaction and the addition of costs associated with Bushnell and Savage.

41-------------------------------------------------------------------------------- Table of Contents Income before Interest, Income Taxes, and Noncontrolling Interest Quarter Ended Six Months Ended September 28, 2014 September 29, 2013 Change September 28, 2014 September 29, 2013 Change Aerospace Group $ 39,347 $ 40,570 $ (1,223 ) $ 77,725 $ 77,656 $ 69 Defense Group 50,342 55,071 (4,729 ) 95,486 117,159 (21,673 ) Sporting Group 74,459 57,823 16,636 153,422 101,939 51,483 Corporate/Eliminations (3,470 ) (5,198 ) 1,728 (10,400 ) (22,865 ) 12,465 Total $ 160,678 $ 148,266 $ 12,412 $ 316,233 $ 273,889 $ 42,344 The increase in income before interest, income taxes, and noncontrolling interest was due to increased sales. Significant changes within the operating segments are also described below.

Quarter: Aerospace Group. The decrease was primarily driven by the absence of improved profit expectations recorded in Aerospace Structures division in the prior-year period.

Defense Group. The decrease reflecting the absence of a change in profit expectations of $22 million on a program in Small Caliber Systems division, due to operation efficiencies gained as one contract neared completion and a new contract was initiated in the prior year partially offset by improved international contract mix across the Group.

Sporting Group. The increase was primarily driven by the Bushnell acquisition and the absence of prior-period restructuring and facility rationalization costs, partially offset by lower organic sales due to lower sales volume in firearms and legacy accessories.

Corporate. The income before interest, income taxes, and noncontrolling interest primarily reflects expenses incurred for administrative functions that are performed centrally at the corporate headquarters, the difference between pension and postretirement benefit expense calculated under the Financial Accounting Standards ("FAS") and the expense calculated under U.S. Cost Accounting Standards ("CAS"), and the elimination of intercompany profits. The change from the prior year is driven by lower pension expenses, partially offset by transaction costs related to acquisitions and increased intercompany transaction eliminations.

Six Months: Aerospace Group. The income before interest, income taxes, and noncontrolling interest was flat over the prior year period due to increased sales as noted above offset by the absence of improved profit expectations recorded in Aerospace Structures division in the prior-year period.

Defense Group. The decrease reflects the absence of a change in profit expectations on a program in Small Caliber Systems division, due to operation efficiencies gained as one contract neared completion and a new contract was initiated in the prior year, partially offset by increased sales in Missile Products division and improved international contract mix.

Sporting Group. The increase primarily reflects Bushnell and Savage results, as well as the absence of restructuring and facility rationalization costs, and inventory step-up and transition costs associated with the Savage acquisition in the prior year.

Corporate. The income before interest, income taxes, and noncontrolling interest primarily reflects expenses incurred for administrative functions that are performed centrally at the corporate headquarters, the difference between pension and postretirement benefit expense calculated under FAS and the expense calculated under CAS, and the elimination of intercompany profits. The change from the prior year is driven by lower pension expenses, partially offset by transaction costs related to acquisitions and increased intercompany transaction eliminations.

The majority of ATK's sales are accounted for as long-term contracts, which are accounted for under the POC method. Accounting for contracts under the POC method requires judgment relative to assessing risks and estimating contract revenues and costs. Profits expected to be realized on contracts are based on management's estimates of total contract sales value and costs at completion.

Estimated amounts for contract changes, including scope and claims, are included in contract sales only when realization is estimated to be probable. Assumptions used for recording sales and earnings are adjusted in the period of change to reflect revisions in contract value and estimated costs. In the period in which it is determined that a loss will be incurred on a contract, the entire amount of the estimated gross margin loss is charged to cost of sales. Changes in estimates of contract sales, costs, or profits are recognized using the cumulative catch-up method of accounting. This method recognizes in 42-------------------------------------------------------------------------------- Table of Contents the current period the cumulative effect of the changes on current or prior periods. The effect of the changes on future periods of contract performance is recognized as if the revised estimate had been used since contract inception.

Changes in contract estimates occur for a variety of reasons including changes in contract scope, unforeseen changes in contract cost estimates, positive or negative, due to unanticipated cost growth or risks affecting contract costs and/or the resolution of contract risks at lower costs than anticipated, as well as changes in contract overhead costs over the performance period. Changes in estimates could have a material effect on the Company's consolidated financial position or annual results of operations. During the quarters ended September 28, 2014 and September 29, 2013, the Company recognized favorable operating income adjustments of $44,922 and $70,226, and unfavorable operating income adjustments of $20,516 and $24,933, respectively. The current quarter adjustments were primarily driven by higher profit expectations across all divisions. The prior year quarter adjustments were primarily driven by higher profit expectations of $21,816 in Small Caliber Systems division due to operational efficiencies, a successful in-sourcing initiative, and reduced operational risk as a contract nears completion, and improved profit expectations for programs in Aerospace Structures division. During the six months ended September 28, 2014 and September 29, 2013, the Company recognized favorable operating income adjustments of $84,834 and $114,846, and unfavorable operating income adjustments of $37,310 and $45,707, respectively. The current year six-month period adjustments were primarily driven by higher profit expectations in Space Systems Operations division. The prior year period adjustments were primarily driven by higher profit expectations of $32,900 in Small Caliber Systems division due to operational efficiencies, a successful in-sourcing initiative, and reduced operational risk as a contract nears completion, and for programs in Space Systems Operations and Aerospace Structures division.

Net Interest Expense Quarter: Net interest expense for the quarter ended September 28, 2014 was $23,340, an increase of $8,121 compared to $15,219 in the comparable quarter of fiscal 2014.

The increase was due to an increase in the average amount of debt outstanding partially offset by a a decrease in the weighted average interest rate.

Six Months: Net interest expense for the six months ended September 28, 2014 was $46,731, an increase of $17,690 compared to $29,041 in the comparable six-month period of fiscal 2014. The increase was due to an increase in the average amount of debt outstanding partially offset by a decrease in the weighted average interest rate.

Income Tax Provision Quarter Ended Six Months Ended Effective Effective Effective Effective September 28, 2014 Rate September 29, 2013 Rate $ Change September 28, 2014 Rate September 29, 2013 Rate $ Change Income tax provision $ 42,148 30.7 % $ 40,376 30.3 % $ 1,772 $ 88,645 32.9 % $ 80,037 32.7 % $ 8,608 ATK's provision for income taxes includes U.S. federal, foreign, and state income taxes. Income tax provisions for interim periods are based on estimated effective annual income tax rates.

The IRS released final regulations relating to the capitalization of tangible personal property on September 13, 2013. ATK is currently analyzing the impact of these new regulations. We do not believe they will have a material impact on our financial statements.

Quarter: The income tax provisions for the quarters ended September 28, 2014 and September 29, 2013 represent effective tax rates of 30.7% and 30.3%, respectively. The increase in the rate from the prior year quarter is primarily due to a prior year revaluation of unrecognized tax benefits due to proposed IRS regulations and the true-up of prior-year taxes partially offset by the benefit from an initiative resulting in a tax basis adjustment, settlement of the examination by the IRS of the fiscal 2011 and 2012 tax returns and prior year period discrete revaluation of deferred tax assets caused by a change in state tax law.

Six Months: The income tax provisions for the six months ended September 28, 2014 and September 29, 2013 represent effective tax rates of 32.9% and 32.7%, respectively. The increase in the rate from the prior year period is primarily due to a prior year revaluation of unrecognized tax benefits due to proposed IRS regulations, true-up of prior-year taxes and the expiration of the research and development tax credit partially offset by the benefit from an initiative resulting in a tax basis adjustment, 43-------------------------------------------------------------------------------- Table of Contents settlement of the examination by the IRS of the fiscal 2011 and 2012 tax returns and prior year period discrete revaluation of deferred tax assets caused by a change in state tax law.

ATK or one of its subsidiaries files income tax returns in the U.S. federal, various U.S. state, and foreign jurisdictions. With few exceptions, ATK is no longer subject to U.S. federal, state and local, or foreign income tax examinations by tax authorities for years prior to 2008. The IRS has completed the audits of ATK for fiscal 2011 and 2012 during the quarter. We believe appropriate provisions for all outstanding issues have been made for all remaining open years in all jurisdictions.

Although the timing and outcome of audit settlements are uncertain, it is reasonably possible that a $1,702 reduction of the uncertain tax benefits will occur in the next 12 months. The settlement of these unrecognized tax benefits could result in earnings from $0 to $1,415.

Net Income Before Noncontrolling Interest Quarter: Net income before noncontrolling interest for the quarter ended September 28, 2014 was $95,190, an increase of $2,519 compared to $92,671 in the second quarter of fiscal 2014. This change was driven by a $32,650 increase in gross profit, partially offset by a $20,238 increase in operating expenses, an increase of $8,121 in net interest expense, and an increase of $1,772 in income taxes over the prior-year period.

Six Months: Net income before noncontrolling interest for the six months ended September 28, 2014 was $180,857, an increase of $16,046 compared to $164,811 in the comparable period of fiscal 2014. This increase was driven by a $101,224 increase in gross profit, partially offset by a $58,880 increase in operating expenses, a an increase of $17,690 in net interest expense, and an increase of $8,608 income taxes over the prior year.

Noncontrolling Interest The noncontrolling interest represents the noncontrolling owner's portion of the income of a joint venture in which ATK is the primary owner. This joint venture was acquired with Composite Optics, Inc. ("COI") and is consolidated into ATK's financial statements.

Liquidity and Capital Resources ATK manages its business to maximize operating cash flows as the primary source of liquidity. In addition to cash on hand and cash generated by operations, sources of liquidity include a committed credit facility, long-term borrowings, and access to the public debt and equity markets. ATK uses its cash to fund its investments in its existing core businesses and for debt repayment, cash dividends, share repurchases, and acquisition or other activities.

Cash Flow Summary Cash flows provided by operations was $24,515 for the first six months of fiscal 2015 compared to $42,553 for the first six months of fiscal 2014. Cash flows provided by operations included the impact of timing of receivable collections, and an increase in income taxes partially offset by by the collection of the pension segment close-out payment at the Radford Army Ammunition Plant. Capital expenditures in the first six months of fiscal 2015 were $59,699.

44-------------------------------------------------------------------------------- Table of Contents ATK's cash flows from operating, investing and financing activities, as reflected in the Condensed Consolidated Statement of Cash Flows for the six months ended September 28, 2014 and September 29, 2013 are summarized as follows:

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