U.S. markets closed

Edited Transcript of FLIR earnings conference call or presentation 27-Feb-20 2:00pm GMT

Q4 2019 FLIR Systems Inc Earnings Call

WILSONVILLE Mar 26, 2020 (Thomson StreetEvents) -- Edited Transcript of FLIR Systems Inc earnings conference call or presentation Thursday, February 27, 2020 at 2:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Carol P. Lowe

FLIR Systems, Inc. - CFO & Executive VP

* James J. Cannon

FLIR Systems, Inc. - President, CEO & Director

================================================================================

Conference Call Participants

================================================================================

* Andrew Edouard Buscaglia

Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst

* James Andrew Ricchiuti

Needham & Company, LLC, Research Division - Senior Analyst

* Louie DiPalma

William Blair & Company L.L.C., Research Division - Analyst

* Michael Frank Ciarmoli

SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst

* Noah Poponak

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Peter J. Arment

Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst

* Peter John Skibitski

Alembic Global Advisors - Research Analyst

* Lasse Glassen

ADDO Investor Relations - MD

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Greetings, and welcome to the FLIR Systems Fourth Quarter and Full Year 2019 Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Lasse Glassen, Investor Relations. Thank you. You may begin.

--------------------------------------------------------------------------------

Lasse Glassen, ADDO Investor Relations - MD [2]

--------------------------------------------------------------------------------

Thank you. Good morning, everyone, and thank you for joining the call. Please note that our earnings press release and presentation slides referred to on this call are available in the Events and Presentations section of FLIR's Investor Relations website at www.flir.com/investor.

Before we begin, I'd like to remind you that statements made on this call, other than historical facts, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and are based on our current expectations. Words such as anticipates, expects, estimates, intends, believes and similar words and expressions are intended to identify forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations. Please refer to the earnings press release we issued earlier today as well as FLIR's SEC filings for description of factors that could cause actual results to differ materially from these statements. All information discussed on this call is as of today, and FLIR does not intend and undertakes no duty to update for future events or circumstances.

During the call, we will discuss GAAP and non-GAAP financial measures. A full reconciliation from GAAP to non-GAAP measures is available in this morning's earnings press release.

With that, it's now my pleasure to turn the call over to Jim Cannon, President and CEO of FLIR Systems. Jim?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Thank you, Lasse. Good morning, everyone, and thank you for joining FLIR's Fourth Quarter and Full Year 2019 Earnings Conference Call. Speaking with me on the call today is Carol Lowe, our Chief Financial Officer. Carol and I are also joined by Travis Merrill, President of our Commercial Business Unit; David Ray, President of our Government & Defense Business Unit; Frank Pennisi, President of our Industrial Business Unit; and Sonia Galindo, General Counsel.

FLIR finished 2019 with full year revenue of $1.9 billion and fourth quarter results that reflect the continuation of many of the trends we experienced in the third quarter. Our Government & Defense and Industrial Business Units delivered performances highlighted by fourth quarter revenue growth and expanding full year backlog. I also continue to be very pleased with our success in advancing our strategic priorities that will be key to achieving our long-term growth objectives. However, our Commercial Business Unit continued to face challenges that negatively impacted FLIR's consolidated organic revenue growth and profitability targets in the fourth quarter and for the full year in 2019.

As a result, I remain unsatisfied with our recent financial performance, notably, our organic top line growth. I'm especially disappointed that we did not achieve our revised full year guidance as a result of the headwinds we faced in our Commercial Business Unit, the lumpy nature of the revenue on certain near-term programs that are difficult to predict and unforeseen impairment charges on minority investments. We expect the financial and operational trends we experienced in 2019 to persist into the coming year, which is reflected in our 2020 outlook.

In fact, we view 2020 as a year of evolution in many respects. First, we've reached end-of-life on large multiyear programs that provided solid revenue contributions over the past several years. Second, the significant new franchise program wins we've recently announced are not expected to begin a meaningful ramp until 2021 and beyond. And third, we're continuing to make investments in R&D and compliance to successfully execute the recently awarded franchise programs and position FLIR for long-term profitable growth. Specifically, our 2020 R&D investments include at least $50 million to support the ramp of significant franchise programs with little or no corresponding revenue. To mitigate the impact of the challenges we will face during this transition, we've launched a company-wide initiative called Project Be Ready. Project Be Ready aims to reduce costs and simplify our product portfolio to better align our resources with higher growth opportunities. Much more on all of this in a moment.

While we're working with a sense of urgency to tackle these near-term headwinds, the future of FLIR has never been brighter, and we remain very confident in our long-term strategy. Today, our strategic priorities, outlined on Slide 3 of the presentation, are evolving to emphasize professional end market customers with a focus on leadership in sensor solutions, unmanned and autonomous solutions, airborne ISR and decision support.

In 2019, we made tangible progress toward advancing our strategy. Examples include leveraging our enhanced unmanned technology and solutions offering, made possible through our recent acquisitions, to extend a leading position in Group 1 unmanned systems. We also continue to develop our solutions, supporting numerous industrial opportunities as a technology supplier to aerospace and defense prime contractors as well as in advanced driver-assistance systems or ADAS. As evidence of our success, I will highlight a number of recent franchise program wins in each of these strategic areas of focus later in my remarks.

While it's critical that we continue to successfully execute our strategy, much work lies ahead. FLIR is clearly evolving into the company we aspire to be long term. I'm more confident than ever that we can achieve our stated objective of being a growth company with best-in-class margins.

With that, let's move to an overview of our 2019 financial performance. Carol will provide additional details on fourth quarter performance in her prepared remarks.

As noted on Slide 4, we finished 2019 with annual revenues of $1.9 billion, up 6.3% from a year ago. Organic top line growth was 1.1%. Total bookings were up 11%, while total company 12-month current backlog stood at $673 million, an increase of 12% compared to the balance at the end of 2018. In addition, total backlog increased 13% to $807 million over the same period. Adjusted gross margin of 51.7% held relatively steady year-over-year, while adjusted operating margin of 21.4% declined 130 basis points, primarily due to increased investments in research and development and ongoing export compliance expenses to position FLIR for long-term growth. Adjusted EPS grew to $2.23 per diluted share.

Please turn to Slide 5. I'd now like to switch gears and discuss our recent progress in executing our strategic priorities to fuel, feed and focus the business. This includes key fourth quarter awards that will fuel our business, new products and investments that will feed delivery of our strategic plan as well as more specifics on Project Be Ready, a key initiative to focus our business by optimizing both our long-term operational and financial performance.

Let's turn to Slide 6, which outlines key recent awards. In the fourth quarter, our Government & Defense Business Unit was awarded a 5-year $109 million production contract by the U.S. Army to build upwards of 350 FLIR Kobra robots as part of the Army's Common Robotic System-Heavy or CRS-H program. The CRS-H program will give the Army a program of record to build and sustain a fleet of large unmanned ground vehicles for years to come. The CRS-H platform calls for a robot weighing up to 700 pounds that will be used to perform a range of missions such as disarming vehicle-borne improvised explosive devices, unexploded ordinates (sic) [ordnance] or related heavy-duty tasks. A variety of sensors and payloads can also be added to the UGV to support other missions. This award exemplifies why we acquired Endeavor Robotics early in 2019, to strengthen our position as a leader in unmanned systems, capture strategic franchise programs and deliver life-saving robotic technology to our war fighters in the field.

Momentum is building. Since the U.S. Army award, we've already received 2 follow-on awards for our Kobra robot totaling approximately $40 million. In addition, in January, along with our partners, Textron and Howe & Howe, we were awarded a 2-year contract to build 4 Ripsaw M5 vehicles for the Army's next-generation unmanned robotic combat vehicle or RCV program, which is highlighted on Slide 7.

RCV is a testament to how we're able to leverage our proven unmanned technologies and trusted relationships with important defense prime contractors. FLIR's contribution to this platform will include our world-class intelligent sensors and unmanned assets, including cameras delivering 360-degree situational awareness, surveillance gimbals, tethered drones and ground robots. This program exemplifies how FLIR's substantial technology portfolio, combined with contributions from Textron and Howe & Howe, will be a disruptor on the battlefield. As a result, we're very optimistic about our team's competitive position for this program, which is our largest ever program pursuit with production awards estimated to be in excess of $1 billion over the life of the program. This program is well aligned with our long-term strategic plan to position FLIR as a leading unmanned solutions provider for the DoD's modernization priorities, which include utilizing unmanned solutions to protect the war fighter. It also provides ample justification for the investments we made early in 2019 to acquire Aeryon and Endeavor that together helped create the foundation for our success on the Ripsaw M5.

As noted on Slide 8, our Industrial Business Unit continued to generate momentum with new franchise program wins on the heels of the IBU award we announced in the third quarter call to provide thermal course for Veoneer's level-4 autonomous vehicle production contract. During the fourth quarter, we signed a new agreement to provide thermal cameras to a leading robotaxi disruptor. These are just the latest opportunities in the rapidly developing ADAS market. These awards highlight the value of thermal sensing for self-driving applications, which we believe to be an essential component in the ADAS sensor suite, paving the way for future adoption by other automotive manufacturers. Furthermore, we expect ADAS-fueled technology, such as thermal-augmented autonomous emergency braking, to be integrated as a standard safety feature in the future. Key to our ADAS success is FLIR's more than 15 years of automotive experience and the fact that we can claim the only automotive-qualified thermal sensor that's been deployed on over 700,000 vehicles today.

During the fourth quarter, IBU also won 2 fire programs on 2 different continents, with awards in New South Wales, Australia and Chile. These awards, exceeding 1,000 units, provide multiyear placement of our premium NFPA-compliant K65 camera solution to professional firefighters. The contracts from these influential fire departments enabled FLIR to leverage these hail of awards as a means to focus on smaller regional fire departments in 2020 and beyond. While these are just the latest and key franchise programs that we have won, Slide 9 includes an overview of the opportunity that large multiyear franchise programs bring to FLIR. This view provides a look at some of the franchise programs that we have benefited from in prior years that are sunsetting. It also highlights the tremendous opportunities that lie ahead, color-coded by the FLIR's strategic priority under which the programs fall. The franchise programs we are pursuing, as displayed, total almost $9 billion of opportunity through 2023 and beyond. Importantly, a number of these programs have already been won and are reflected in our total backlog. While we acknowledge there is a significant amount of work ahead of us to win and execute, we're excited and optimistic about the opportunities.

Illustrating my earlier point, you can see that 2020 is a transition year that follows between program sunsets and significant ramps in 2021 and beyond. During 2020, we will rely heavily on nonprogrammatic orders across our business units, and we will also be investing heavily to deliver on these future wins. Since many of these investments will not directly translate into corresponding revenue until late 2021 and beyond, we will be focused on optimizing our resources and R&D investments in 2020. In the near term, we continue to release new products and feed the support of growth of our strategic priorities while simultaneously improving safety and efficiency for professionals. Recent product releases are outlined on Slide 10. I'm very pleased that the evolution of our strategic priorities has quickly resulted in tangible evidence of success, illustrated by new franchise awards and our ability to bring new technologies to market with innovative products. Equally important to our success will be positioning FLIR to deliver against the substantial wins we've already achieved and capitalize on the significant growth opportunities that lie ahead.

To ensure our readiness, during the fourth quarter we launched Project Be Ready, highlighted on Slide 11, that positions FLIR to compete, win, execute and deliver in 2021 and beyond. Project Be Ready, which utilizes many of the tools of The FLIR Method, outlined on Slide 12, aims to reduce the complexity of our business to help it scale over the longer term while eliminating cost in the near term. As a part of this plan, we are consolidating our business units and simplifying FLIR's product portfolio, better aligning our business with our 4 key strategic priorities.

In doing so, we have discontinued certain noncore consumer-centric product lines within our Outdoor and Tactical Systems or OTS business. This process is largely complete. Concurrently, we have entered into a formal process to evaluate divestiture of our Raymarine nonthermal maritime electronics business. Although not core to FLIR, we believe our Maritime business is best-in-class in its industry with compelling and innovative products that make it an extremely attractive asset. We have clear expectations relative to the valuation of these assets, and we can move quickly to complete a transaction with a prospective buyer if those expectations are met.

The remaining divisions within the Commercial Business Unit will be integrated into the Industrial Business Unit, which, along with our Government & Defense Business Unit, will be our only 2 business units, starting in the first quarter of 2020. This integration is outlined on Slide 13. We believe this effort will help reduce complexity in our business and eliminate unnecessary overhead, helping to improve our cost structure.

Before we turn to our business outlook and guidance for the year, I'd like to quickly comment on some of our longer-term financial targets, which we announced in May of 2018. These targets included 5% compounded annual organic revenue growth, 23% adjusted operating margins and 1/2 improvement in working capital turns each year through 2021. While this reflected our best and balanced projections at the time, several factors over the past 2 years have impacted our ability to achieve them. First, the acceleration of our operating strategy and the influx of recent franchise program wins that I noted earlier have resulted in an increase in near-term investments required to prepare for and execute these programs. And second, external macro factors significantly impacted certain end markets served by the Commercial Business Unit. Although we're addressing these with Project Be Ready, this was clearly a strong headwind to our business. We look forward to discussing these evolving dynamics in more detail at our next Investor Day, which we plan to host in the third quarter of 2020.

Turning to our outlook for 2020, the guidance that we are providing reflects our activities to consolidate and restructure the Commercial Business Unit including the discontinuation of certain products in our OTS business. However, contributions from the Maritime division are currently included in our full year projections. With that as a backdrop, for the full year 2020, we currently expect revenues of approximately $1.85 billion to $1.925 billion, adjusted operating margins in the range of 20% to 21% and full year adjusted earnings per diluted share in the range of $2.10 to $2.30.

With that, I'll now turn the call over to Carol for additional details on the fourth quarter and full year financials. Carol?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [4]

--------------------------------------------------------------------------------

Thank you, Jim. Looking at Slide 14, you'll find a summary of our fourth quarter financial results. Please note, with the exception of revenue, all of these financials are on a non-GAAP basis. Reconciliation to GAAP data is included in the appendix.

We generated $489 million in revenue for the fourth quarter, resulting in a year-over-year growth rate of 9%. Organic revenue growth on a year-over-year basis declined by 1.5%. Revenue was negatively impacted by foreign currency exchange, which impacted growth by approximately $4 million or 1%. Adjusted gross profit increased 7% year-over-year to $250 million, primarily due to contributions from recent acquisitions and organic growth within the Industrial Business Unit. However, adjusted gross margin of 51% decreased 90 basis points compared to the prior year. Despite productivity gains, achieved through The FLIR Method across all business units, margin was impacted by weaker end markets in our Commercial Business Unit coupled with the ongoing ramp of recent acquisitions. As Jim mentioned, these acquisitions have been critical to strengthening our position in unmanned systems, and we are very pleased with their contribution to our program awards thus far.

Fourth quarter bookings increased 4% compared to the prior year, driven by significant franchise program wins in the Government & Defense and Industrial Business Units. Adjusted operating income declined 4% compared with the fourth quarter last year, and adjusted operating margin declined 283 basis points year-over-year. Compared to the prior year, adjusted operating margin was primarily impacted by higher R&D expenses to support future programs and ongoing export compliance matters. After adjusting for discrete items flowing through GAAP income tax expense, our adjusted effective tax rate for the fourth quarter was 19%, steady with the fourth quarter of 2018. At the bottom line, adjusted diluted EPS was $0.55 in the fourth quarter. We remain committed to better aligning our expense base with our revenue profile. We expect to reduce operating expenses in 2020 through ongoing execution of The FLIR Method and Project Be Ready, all of which is reflected in the guidance Jim mentioned earlier.

In terms of the consent agreement, we are currently approaching the second year of our 4-year time line. Under the terms of the agreement, we agreed to pay a $30 million penalty, half of which is suspended, provided we use those funds to improve our compliance. We have made solid progress on the implementation of a more robust compliance program, and we'll continue to incur related expenses as we fulfill our commitment. We have recently completed the first audit required by the consent agreement. As previously shared, the findings of this audit will help provide clarity on future remediation efforts and investments in compliance. We will provide updates on this matter while we work our way through the remaining term of the agreement.

For the full year ended December 31, 2019, cash provided by operations was $370 million, consistent with cash flow generated in 2018. As outlined on Slide 15, we used our cash flow from operations to fund our capital allocation priorities of investing in the growth of our business and returning value to our stockholders. For the full year 2019, we invested $602 million to complete 3 acquisitions and invested $45 million in capital expenditures. We continue to return capital to stockholders with the repurchase of $125 million worth of our common stock and the payment of $92 million in dividends. Our cash balance at December 31, 2019, was approximately $285 million.

Finally, FLIR's Board of Directors declared a quarterly cash dividend of $0.17 per share on FLIR common stock payable on March 20 to shareholders of record on March 6.

Turning to Slide 16, I will highlight the performance from each of our business units. Beginning with the Industrial Business Unit, fourth quarter revenue was $193 million, up 6% year-over-year, driven by strength in cooled cameras and components as well as machine vision, partially offset by declines in lower cost Test & Measurement equipment. We are very pleased to have achieved an 11% growth in operating income to $64 million on a 6% increase in net sales. This was driven by a combination of favorable product mix as well as higher revenue volume, sustained productivity gains resulting from The FLIR Method and solid management of operating expenses. As a result, operating margins grew 142 basis points year-over-year.

The Government & Defense Business Unit saw revenue growth of 23% year-over-year, which includes contribution from the unmanned acquisitions. As Jim detailed in his remarks, we have a significant pipeline of large program awards in the Government & Defense Business Unit which will be in development for the next several years. These programs take time to mature but are expected to be a significant source of growth in the future. Operating income for the Government & Defense Business Unit was down slightly year-over-year due to higher operating expenses from recent acquisitions and lower-margin product mix. In Q4, Government & Defense current backlog reached $435 million to end the quarter, an 11% increase over the fourth quarter of 2018. Government & Defense book-to-bill was 1.01 for the fourth quarter and 1.05 for the year.

Commercial Business Unit fourth quarter revenue was down 11% year-over-year. Revenues continued to be impacted by lower sales volume in the OTS business as well as a difficult year-over-year comparison in the Security business, which build a large onetime project in the fourth quarter of 2018. Partially offsetting this revenue decline was the strong performance of our ITS business, which experienced double-digit top line growth over last year for both the fourth quarter and the full year. Operating income and operating margin for the Commercial business decreased 19% and 156 basis points year-over-year, respectively.

In the appendix on Slides 20 and 21, you will find our GAAP to non-GAAP reconciliation. I will note that of the total $73 million in after-tax reconciling items for the fourth quarter, discrete tax items represent the largest portion, totaling $32 million. These include settlements with foreign taxing authorities, accrual of foreign withholding taxes and the tax effect of the exclusion of certain amortization and consent agreement spending. Restructuring expenses and asset impairment charges totaled $18 million. Amortization of acquired intangibles was $15 million, and compliance expenses related to the consent agreement were approximately $10 million for the fourth quarter.

As noted in our earnings press release issued this morning, beginning in fiscal 2020, we are simplifying our non-GAAP financial measures to enhance the comparability of our core operating performance on a period-to-period basis. Items excluded will consist of separation, transaction and integration costs; amortization of acquired intangibles; restructuring expenses and asset impairment charges; discrete legal and compliance matters; gains or losses on sale of businesses; and discrete tax items. Our financial outlook for 2020, which I will discuss in just a moment, reflects this change. For further details, please refer to Slide 22 in the appendix, which contains a reconciliation of GAAP to non-GAAP financial measures for the full years ended December 31, 2018 and December 31, 2019, based on this new presentation.

Before I hand the call back to Jim, I would like to briefly touch on our 2020 guidance and certain factors which may impact our assumptions. As Jim mentioned earlier, and noted on Slide 17, we expect full year revenue of approximately $1.85 billion to $1.925 billion. At the bottom line, we anticipate full year adjusted earnings per diluted share in the range of $2.10 to $2.30. We currently expect our full year effective income tax rate will be approximately 19%, in line with the full year 2019. It is important to note that Project Be Ready is expected to incur restructuring costs of $40 million to $55 million during 2020 and 2021 with most of the cost being cash cost, driven by headcount reductions, third-party expenses and facility consolidation.

We expect to reach an annual run rate cost savings of approximately $30 million to $45 million by the end of 2021, a significant portion of which will be reinvested in research and development and other priorities to enable and drive long-term growth. The savings expected are included in our 2020 guidance. Based on our current projections, including the timing of various program ramps in 2020, we expect both revenue and earnings to be back-end loaded. While we do not normally provide quarterly guidance. Our expectation for the first quarter is that we will generate total revenue in the range of $435 million to $455 million and adjusted diluted EPS in the range of $0.37 to $0.42.

As previously noted, our first quarter and full year guidance currently includes contributions from the Maritime division. I would also like to briefly comment on the COVID-19 virus or more commonly known as the coronavirus. We are continuing to monitor the situation including the impact to our supply chain. Currently, we do not expect a significant impact to our business from a long-term supply availability issue or lower customer demand stemming from any macroeconomic impact.

We are proud that FLIR thermal imaging cameras are one of the tools being used in Asia as the first step to help indicate higher-than-average skin surface temperatures, a key symptom of the coronavirus. It's important to note that while our thermal imaging cameras can detect an elevated body temperature, they cannot detect or diagnose an infection. We have sold cameras since the early 2000s for performing temperature screening relating to several widespread viruses such as SARS, avian bird flu and others, helping to play a role in saving the lives and livelihoods of people around the globe.

Thank you for your time and attention. I will now pass the call back to Jim for closing remarks.

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [5]

--------------------------------------------------------------------------------

Thank you, Carol. While we are disappointed with our performance in 2019, we're clearly making progress in becoming the growth company with best-in-class margins that we expect to be. Looking ahead to 2020, we face hurdles as we bridge the transition between sunsetting and new franchise programs in our forecast, along with the investments required to support the anticipated growth.

We're tackling these challenges head-on with Project Be Ready and have identified a path to achieve our financial and operational targets in the year. I'm confident in our strategy and proud of the tremendous team we've built and believe FLIR's future has never been brighter.

With that, I'd now like to open up the call for questions. Operator?

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question is coming from Peter Arment of Baird.

--------------------------------------------------------------------------------

Peter J. Arment, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [2]

--------------------------------------------------------------------------------

What commentary can you give us just regarding where you are in the Raymarine process?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Yes, we have formally entered into that process, and it regards the Raymarine-branded marine electronics business. So to be clear, FLIR-branded thermal maritime products will remain with FLIR now. We do have several prospective buyers, and we're in the midst of that process now. And as we mentioned, if we can get to our very clear-eyed valuation expectations, we're able to move very quickly with the transaction. But as in our prepared remarks, while it might not be core to FLIR going forward and where we're focused, it really is best-in-class with innovation that will disrupt that market like DockSense, for example, that we launched last year. So process, well underway right now.

--------------------------------------------------------------------------------

Peter J. Arment, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [4]

--------------------------------------------------------------------------------

Got it. And then -- that's helpful. And then just -- and thank you for all the color on the slides. Just the -- on the franchise slide, on 9, is there any way to kind of quantify what percentage of your revenues today are tied to franchise programs, I think, in aggregate?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [5]

--------------------------------------------------------------------------------

Yes, we wanted to show that slide because we think it's really important to demonstrate the transition that we're in the midst of. And if you note on there, the 2 programs that have been long-lasted programs for us, DR-SKO most recently are sunsetting. And when you look at the franchise wins that we have won, MITRE, SubT, many of the unmanned systems, SBS, they're in our backlog executing now. Of the 8, 10 of total backlog, all but about $130 million of that is current to ship in the next 12 months. As we look forward, though, CRS-H, the robotic combat vehicle, those awards are not yet in backlog. While they've been awarded, they've not been moved into bookings and such as we move into them. And then you see all the other future programs that we're competing on.

As we look at those through 2023, again, it's an atmosphere of north of $9 billion of opportunity, of which about 10% we have been awarded, either awarded but not yet booked or awarded and booked in the backlog. But this year, 2020 is going to be that year that we really prepare to go capture and then execute on some of these programs as we go forward, and not just DoD programs, we mentioned ADAS in the prepared remarks as well, and that's a really important addressable market for us going forward. As we mentioned in the third quarter, we did have a very important win with Veoneer as standard safety features with a major OEM this past quarter and the fourth quarter. We've seen a robotaxi company adopt thermal with FLIR as a standard sensor suite that they have, and the activity continues.

So a lot of effort underway to make sure that we continue to position ourselves to be that thermal provider of choice and are prepared with all of the right automotive hardening, safety testing, et cetera, that's got to be done to win these future model years. But as we've said on earlier calls, those, too, take time to mature, 18 to 36 months to be designed into, and then into production with future automotive models.

--------------------------------------------------------------------------------

Operator [6]

--------------------------------------------------------------------------------

Next question is coming from Michael Ciarmoli of SunTrust.

--------------------------------------------------------------------------------

Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [7]

--------------------------------------------------------------------------------

Maybe Jim or Carol. Jim, you kind of briefly mentioned maybe the kind of target model you had out there, and you kind of told us you're going to have an Investor Day, I guess, later this year. But what should we be thinking? Should we rely on any longer-term targets? I mean obviously, those are very stale. But I mean can you give us any color about how you're thinking about this business in light of Project Be Ready, cost takeout, reinvestment, new program ramps? I mean it seems like there's a lot of moving parts here, so maybe some help on how we should think about modeling this.

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [8]

--------------------------------------------------------------------------------

Yes, absolutely. There's certainly a lot of moving parts right now. If I go back to what we talked about in May of 2018, the 5% target, the 23% operating margin, again, at the time, that was an informed and balanced direction that we put forward. We were at the midst of delivering the EO/IR-FP program. DR-SKO was well underway, and there was still a fair amount of nonprogrammatic opportunities to capture out there that had some scale to them. And as we exited 2018, we remain committed to those targets through the first half of '19.

But as we began to win more and more of these awards, make the investments necessary to be able to prepare to execute to them that can deliver, again, continued, more stable and outsized growth in the future years, coupled with investments we need to make in compliance in the third quarter, that certainly came to a wall, in particular with the headwinds we saw in Commercial. So we find ourselves now with good [collateral] investments that we're making to execute on and win a significant opportunity ahead of us in terms of all of these programs and do what we need to be compliant. But we also found ourselves a bit out of position as we had added cost to the business that was tracking to that 5% CAGR when, indeed, we're not there in the near term with the Commercial headwinds.

So Project Be Ready in the near term is intended to correct that while at the same time protecting these longer-term strategic priorities. As we go into the upcoming Investor Day, we intend to provide as much fidelity as we can about the status of these various programs to the extent that we can specifically identify them. You'll note on that slide, a lot of them will just say Asian pursuit, European pursuit, et cetera. And that's not us trying to be coy, that we don't want to provide a super crisp amount of fidelity. But as we look at 2021 and beyond, these are needle-moving programs. RCV alone, again, could be north of $1 billion and could be a program that lasts for years and years. But with that comes uncertainty. So we've got a lot of homework to do between now and the third quarter when we have that Investor Day. I think you can expect us to give a lot more fidelity about the status of these programs, the total opportunity and how we're positioned. But there's tremendous, let's say, upside uncertainty around what these could be for us to look at static 3-year targets as we did in May of 2018.

--------------------------------------------------------------------------------

Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [9]

--------------------------------------------------------------------------------

So then just even looking at '21 -- or '20, sorry, can you give us a little bit more granularity just given these results and the pressures? Can you decompose growth by segment and margins that we should be thinking about?

And I guess, also, if I look at that franchise program sheet, I see -- I only see 2 headwinds. You made some acquisitions that you would have thought would have offset that. It just seems like there's disproportionately more headwinds from just DR-SKO and ER (sic) [EO/IR].

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [10]

--------------------------------------------------------------------------------

Yes, and a couple of other dynamics. And yes, happy to provide more color. And we'll talk about segment. First, the Commercial Business Unit, as we've talked about, has faced and continues to face headwinds. That obviously has led to the decision of the potential divestiture, the discontinuation of OTS and the combination of CBU and IBU.

Inside the Industrial Business Unit, we've got a year-on-year comp with large aerospace and defense primes that we're winning future programs on, but their programs have a bit of a valley to get through in 2020. But we've got some upsides we see in instruments, for example, that's having some robust fourth quarter and first quarter performance.

And then you've also got some businesses in there like machine vision. The machine vision market, in general, has been down for the better part of 18 months. We're seeing a stabilization, potentially a return to growth but sort of a low-growth scenario.

So the arbitrage of that between Commercial in the Industrial Business Unit is there's some timing issues in OEM. That's the big needle mover. Others, again, remain in this sort of stabilization phase in terms of the impact to the overall company and ADAS not yet ramping. While we're winning awards, again, the awards come into future model years that will take another year or 2 to prime.

When we think about the Government & Defense business, one thing to note. In the past 3 years is DoD is focused on 6 very clear modernization priorities. They are indeed making those priorities. And at the same time, overseas contingencies are slowing down. So some of the areas where FLIR historically won business, OCO funding is tied to immediate overseas needs, or nonprogrammatic spending has really shifted into a very disciplined approach around modernization. And we have also shifted our effort to make sure we align with those requirements. But that leaves us in 2020 in some of our core Government & Defense businesses, ISR, airborne ISR in particular, to really have to look to more international opportunities or smaller nonprogrammatic opportunities.

Detection with DR-SKO coming off was a bedrock of that business and very profitable. So while small, it does have a leveraged effect. But the real star, if you will, inside the Government & Defense business, indeed the company on whole, is the growth that we're seeing in unmanned systems. And that's with our nano drones and Black Hornet. It's across the SkyRanger and Raider families of larger group one unmanned assets and a whole range of unmanned ground assets, the SubD pack bots or SubT operations, the MITRE program, CRS-H.

But as those grow, there's a mix that we've got to manage. All of those grow from small bases. And as we win awards, there are learning curves that we need to come up to get them to accretion, so you have that mix effect, but we are seeing that happen. For example, in our Black Hornet or legacy Prox acquisition, the learning curves have been progressing nicely. We see the same with the legacy Aeryon or SkyRaider and SkyRanger business. And now with Endeavor ground robots beginning to get in production for SubT and MITREs in a more scaled way, we expect to see that same arbitrage.

--------------------------------------------------------------------------------

Operator [11]

--------------------------------------------------------------------------------

Our next question is coming from Louie DiPalma of William Blair.

--------------------------------------------------------------------------------

Louie DiPalma, William Blair & Company L.L.C., Research Division - Analyst [12]

--------------------------------------------------------------------------------

I was wondering, are you able to share whether the divestiture of Raymarine would be accretive to earnings?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [13]

--------------------------------------------------------------------------------

So we're not going to break out any details about the Raymarine business at this time when we actually are able to complete the transaction, and we do have a meaningful number of buyers that are currently engaged in the process, then we'll break out that information.

--------------------------------------------------------------------------------

Louie DiPalma, William Blair & Company L.L.C., Research Division - Analyst [14]

--------------------------------------------------------------------------------

Okay. Sounds good. And is there any way to quantify the sales of coronavirus-related temperature detectors? And are you able to share what the ASPs are on any of these cameras that are popular?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [15]

--------------------------------------------------------------------------------

Yes, we don't want to get into the detail of specific ASPs or camera product lines. I will give some color though.

For years, going back to the SARS outbreak and others, FLIR technology has been incorporated into ports and borders and airports and other places to look for elevated body temperatures. The products that we provide really come from 2 parts of the company. The OEM business will provide and does provide infrared camera cores to other manufacturers of cameras that will produce products like this. But then, of course, in our instruments business, we have several ranges of cameras, whether they be fixed mount cameras, larger or smaller handheld cameras. So there's quite a range in what the price point could be. A larger fixed camera, more expensive than a smaller handheld product, if you will, so there is quite a range. We have seen a significant increase in those orders in the past month.

Right now, we're working really hard to ensure that we have the supply chain to meet all of that demand. We do have that outlook forecasted in the outlook that we've provided. So on the overall context of the entire company, that alone is not a large needle mover to move the overall trajectory of the company, but it's certainly contributing to instruments' strong sales.

We're also cautious when we look at the bookings that we're getting around it to be mindful about how much that really converts to revenue. In the past, we would get a tremendous amount of bookings. But as the concerns of the virus elapsed, those bookings would be canceled and not turn into revenue. So while we have, again, really strong strength in bookings and doing all we can to ship that product to help in any -- even in a small way to contain this serves our purpose to save lives and livelihood. But frankly, a lot of uncertainty. And right now, we're getting daily -- frankly, daily updates about the supply chain and the incoming demand.

--------------------------------------------------------------------------------

Louie DiPalma, William Blair & Company L.L.C., Research Division - Analyst [16]

--------------------------------------------------------------------------------

Sounds good. And one last one, Jim. For your contracts for unmanned ground vehicles, such as the $109 million for CRS heavy, does that amount include the different types of sensors that you may be able to add on to these vehicles? Or would the sensors be additive to the $109 million?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [17]

--------------------------------------------------------------------------------

They could potentially be additive. There's a base set of sensors that comes on the Kobra that's a part of the requirement for the program. But as we evolve new sensors or they want to accomplish additional missions with that product once it's in the field, there certainly could be. It's a very robust vehicle. Again, 700 pounds, well proven. We expect it to be in the inventory for a very long time. And as it's in the inventory, certainly, we're going to continue to innovate more sensor suites. Indeed, you'll see on the new product page, we introduced the new Fido explosive trace detector just this quarter that can be mounted onto an unmanned system or use handheld. Right now, hard to quantify what that opportunity could be. But when we look at things like CRS-H or the robotic combat vehicle, which is a much larger and more ambitious program, if you will, those base vehicles once introduced into the fleet will remain, and we expect and hope to have future sensor suite upgrades as they might last more than a decade, if you will.

--------------------------------------------------------------------------------

Operator [18]

--------------------------------------------------------------------------------

Our next question is coming from Andrew Buscaglia of Berenberg.

--------------------------------------------------------------------------------

Andrew Edouard Buscaglia, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [19]

--------------------------------------------------------------------------------

Just want to be clear on your guidance for 2020. Just to be clear, your OTS discontinued operations are included in there?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [20]

--------------------------------------------------------------------------------

So Andrew, for OTS in 2019, we had -- there's approximately $27 million in revenues that related to OTS. Out of that, $17 million would not be expected to reoccur because of discontinuation of specific product lines.

--------------------------------------------------------------------------------

Andrew Edouard Buscaglia, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [21]

--------------------------------------------------------------------------------

Okay. Okay, that's helpful. Secondly, in defense, I was curious. So you guys had called out in the past soldier lethality and just border security spend, both were up quite substantially in the last budget proposal. Did any of that surprise you? Or is there anything new here that we can glean from the recent budget?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [22]

--------------------------------------------------------------------------------

Yes. Well, again, there's immense focus on the modernization effort. The Army alone has $34 billion focused on modernization and such, and we're pleased at how the budget really seeks to protect these modernization efforts. And it's interesting. Certainly, RCV is the largest program pursuit we've ever done, and it's also a really disrupting technology for the battlefield. It would change tactics and techniques of the war fighters. We introduced an unmanned system like that onto the battlefield.

But aside from the 6 main priorities that DoD is focused upon, what we're finding more and more is that there are unmanned components on many different programs as a part of the requirement. So while we're focused on these large specific programs that you'll see mentioned and we talked about, there are also just a whole host of other places where unmanned systems will be a component of another overall program. So right now, as we look at DoD budget and the efforts, not just within the budget, but within the forces to shift savings that they can create to modernization, we think it presents real opportunity for us.

And again, if we look at the condition we're in now, where some of the revenue can be very uncertain and lumpy, that's exactly why we're targeting these longer-term opportunities. But they take anywhere from 1 to 5 years to truly mature and to ramp into production. And right now, we're right at that kind of onward tipping point. We're winning this business. We have to protect investment to make sure that we can execute to it, but it's not yet ramping. And of course, as we go forward, there's always uncertainty. While we were awarded this first 4 vehicle prototype for RCV that we're really excited about, programs can start and stop with things that are completely out of our control.

But again, the total atmosphere as we displayed, I think it was Chart 9, is continuing to mount.

--------------------------------------------------------------------------------

Andrew Edouard Buscaglia, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [23]

--------------------------------------------------------------------------------

Yes. And did you -- I noticed you didn't give an organic growth number for the Government & Defense. Do you have that?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [24]

--------------------------------------------------------------------------------

Well, effectively, all of our growth this coming year will be organic. We're lapping the 2 acquisitions, Aeryon and Endeavor. In fact, now, I think it was February and March. We don't have it called out specifically here, but the bulk of the business in the year is going to be what we consider organic as we lap those. And we see the revenue really ramping as we go quarter-to-quarter through the year, as Carol mentioned, with more of it being back-end loaded.

--------------------------------------------------------------------------------

Andrew Edouard Buscaglia, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [25]

--------------------------------------------------------------------------------

And then sorry, what about in Q4, specifically?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [26]

--------------------------------------------------------------------------------

In the fourth -- in this past fourth quarter, yes, Government & Defense revenues organically were down 2% in the fourth quarter. But for a full year, up 5.5%. So again, on whole for the balance of the year. They had a strong year organically and then the overall growth we saw in Government & Defense, that gapped the organic course from the unmanned contributions.

--------------------------------------------------------------------------------

Operator [27]

--------------------------------------------------------------------------------

Our next question is coming from Noah Poponak from Goldman Sachs.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [28]

--------------------------------------------------------------------------------

Jim, when we're sitting here at this exact time next year, what's the chance that we're talking about 2021 also as a transition year versus talking about 2021 accelerating its growth rate and its margins back towards the 5% or greater that you had talked about previously? Because I get that there's programs rolling off, I get where the transitions are, I get you're appropriately investing in the business. But a lot of the things you're talking about like RCV, for example, are longer dated, don't really contribute a ton to 2021. The restructuring number you're talking about goes into 2021. So is this a transition year? Or are we entering transition years?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [29]

--------------------------------------------------------------------------------

That's a very good question. And certainly, 2020 is as we've described. As we go into 2021 and as we go into the second half, we do expect near-term opportunities that are nonprogrammatic as well as smaller programs, not maybe the larger needle movers like an RCV, but MITREs will continue to progress and ship. CRS-H, we hope to have in the calendar year extensions, further tranches of the Soldier Borne system, so that will build. And then just generally across the business, there's a lot of work being done to build backlog and more of the book-to-bill businesses like instruments and such. We are seeing some strengthening there in how they operate.

So when I think of '20 to '21, certainly, and I think Slide 9 shows that we're in this sort of valley, if you will. I do believe in 2021, we're going to be recovering. But when we state that we want to be a growth company with best-in-class margins, that really levers, to your point, in 2022 and beyond. But I do think at this point next year, we will be nose up on our trajectory in the near term being the coming year, and we will have much more fidelity about those program wins, additional program wins and timing when they will begin to convert and mature into revenue, if you will.

So when I think of 2021, I expect us to be moving northward, if you will. I don't see a 2-year trough per se. But you're absolutely right. Some of these larger programs take more than a year or even 2 to really get into the money.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [30]

--------------------------------------------------------------------------------

Got it. On the R&D, the additional R&D you're pointing out for 2020, I think you said $50 million. Is that a net number, i.e., R&D as a percentage of revenue next year is 13% or north of 13%? Or is there an offset?

And then presuming that's related to defense programs or a lot of it is, is there an OTA cost-sharing agreement there? Is any of that recoverable?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [31]

--------------------------------------------------------------------------------

So we do not intend -- or that $50 million is not additive to our current run rate of R&D. We've been really frustrated at the return on investment in our R&D. Historically, we've spent about 10% of our revenue on that number. We obviously, in the past couple of years, have not gotten the growth out of that, that we would like to have. So this year, we took a really different approach to R&D. These 4 strategic priorities that we mentioned, sensor leadership, unmanned, airborne ISR, decision support, tied, as you see them color-coded, to specific pursuits that we're going after, we've really began to take a much more aggressive view on how we prioritize R&D. So you'll see R&D on whole still hanging around that 10% of revenue number or maybe a little bit under, but we kind of ring-fenced about $50 million of that, that we know we're tied to executing these longer-term opportunities.

Now we do have some CRAD funding. We've received several small CRAD awards, and we are seeking more. But if you look at the overall R&D spend we have, still the lion's share, I'd say, 90% plus of it is IRAD, not CRAD.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [32]

--------------------------------------------------------------------------------

Understood. And last one, Carol, where do you expect free cash flow to be in 2020?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [33]

--------------------------------------------------------------------------------

So before the restructuring, we would expect it to still largely be in line with the conversion rate that we've seen historically. But as I noted, a lot of the restructuring costs are going to be their cash costs, so that will impact the free cash flow that we'll have for the full year. So -- and a lot of the total range that we shared will incur the bulk of that in 2020, and we'll have a breakout in terms of the components of the restructuring costs in our 10-K that will be filed later today. So that'll provide a little bit more information on what makes up those costs.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [34]

--------------------------------------------------------------------------------

Before the restructuring, is free cash flow up or down year-over-year '20 versus '19?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [35]

--------------------------------------------------------------------------------

It's going to be comparable.

--------------------------------------------------------------------------------

Operator [36]

--------------------------------------------------------------------------------

Our next question is coming from Jim Ricchiuti of Needham & Co.

--------------------------------------------------------------------------------

James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst [37]

--------------------------------------------------------------------------------

Most of my questions were asked, but just a follow-up on that R&D question, that $50 million that you guys have called out. As it relates to some of the programs you're pursuing, was there R&D that you were spending in 2019 allocated to go after some of this business?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [38]

--------------------------------------------------------------------------------

Certainly, there was. And it's a hard thing to dice specifically because, for example, some of the sensors and such that provide 360 SA, that's been a part of our core R&D for many years to build to where we are now. But then there are also very specific things tied to sometimes a singular program that we wanted to go after that we had to develop. And if you look at things like ADAS, where we've had thermal cameras on vehicles for many, many years, doing things to get them to be a part of a standard safety feature per se required some very specific work.

I will say, though, when we look at our past model, where we would develop products that we would call commercially developed military-qualified products that would principally be purchased from these overseas contingencies or through immediate war needs and such, it left us a little bit out of position. Because as more of that spend has absolutely shifted to modernization efforts and such, you've got to really align with the requirements of those programs. So again, for the past year or so, we've been making that effort.

When we called out that $50 million, we wanted to give some fidelity of what we know is tied to specific programs that we have won, that we need to maintain if we're going to successfully execute on. But to your question, it's not a perfect thing that you can DAS per se as we work on these future technologies.

--------------------------------------------------------------------------------

James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst [39]

--------------------------------------------------------------------------------

But the vast majority of it, it sounds like is Government & Defense with a portion of it for the ADAS work that you're pursuing?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [40]

--------------------------------------------------------------------------------

I would say we still have a pretty balanced effort between Industrial and Government & Defense. Again, one of the largest things that we're going after in terms of a future TAM is ADAS on the Industrial side.

Also, while it goes back to an aerospace and defense customer, our OEM business and some of the innovations they're driving to make components that go into larger programs per se has also been a really large effort of ours, the Neutrino cooled core, for example, and some of those innovations that we brought to market.

And I'll add, too, if I go to the unmanned space. In the unmanned space, certainly, right now, it's principally concentrated on military and defense applications. But as we get scale with military and defense applications and are able to bring price points down, there are a million compelling use cases for first responders for industry, for utilities and such. So when you think about the unmanned R&D, for example, that will have an industrial impact as well.

So I'll point back to the 4 priorities, the sensor leadership, unmanned, airborne ISR, decision support. Of those 4, airborne ISR is the most defense-centric. Sensor leadership applies to everything we do, whether it be a handheld instrument, 360 SA, ADAS or weapon sights. And unmanned, while more of it is defense-centric now, over time, you'll see more and more industrial applications as the price points become more acceptable to those markets.

--------------------------------------------------------------------------------

James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst [41]

--------------------------------------------------------------------------------

Got it. And Carol, thank you for the guidance on Q1. Is there a way to think about that range? Is that -- at the low end of the range, does that reflect just more of the industrial macro concerns that we're seeing? Or is there some defense business that we need to think about that could or could not fall into the quarter?

--------------------------------------------------------------------------------

Carol P. Lowe, FLIR Systems, Inc. - CFO & Executive VP [42]

--------------------------------------------------------------------------------

So it's a combination of both. The risk we always have when it relates to the Government & Defense business is just the timing of licensing. And we do have a number of orders that are expected to ship international orders in March, and so that is dependent on that licensing, and then it becomes a timing thing.

But I mean we're comfortable with being able to deliver within that range, absent something happening from a large macroeconomic standpoint or unexpected challenges from licensing. We feel good about the range at this point.

--------------------------------------------------------------------------------

Operator [43]

--------------------------------------------------------------------------------

Our next question is coming from Pete Skibitski of Alembic Global.

--------------------------------------------------------------------------------

Peter John Skibitski, Alembic Global Advisors - Research Analyst [44]

--------------------------------------------------------------------------------

Jim, within government, can you talk to us about (inaudible) 2020 by geography, kind of U.S., Europe, maybe Middle East and Asia Pac, just if any of those regions have unusual headwinds? It sounds like maybe the U.S. does. I'd appreciate any color there.

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [45]

--------------------------------------------------------------------------------

Yes. And on the whole -- I didn't hear the first part of your question or related to the government.

--------------------------------------------------------------------------------

Peter John Skibitski, Alembic Global Advisors - Research Analyst [46]

--------------------------------------------------------------------------------

Yes, I was just wondering, government revenue in 2020 if you're seeing any particular headwinds by geography.

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [47]

--------------------------------------------------------------------------------

Right. Yes, I wouldn't say there's any one dramatic shift. If we look at our revenue by geography, it's not really shifted substantially. I will tell you, though, as I mentioned, U.S. DoD is very focused on modernization and program spend. And if you're not aligned with those requirements and going after those programs, while there are still other nonprogrammatic opportunities, they're not nearly of scale, if you will. If you reflect back in our past history, during the height of the worst spending and such, there would be tremendous amount of opportunity that would come through OCO funds or other things that, again, right now, the nature of that market has changed pretty substantially. And we've changed with it, right, to make sure we align with those requirements, align our R&D effort, et cetera.

Outside of the U.S., we still see strength in the Middle East certainly, and in Europe. Asia has not been a tremendously large market for us per se, but we'll have opportunistic things pop up here and there where we've had some success.

I will note, though, that I do think a lot of allied foreign militaries are watching the modernization effort with U.S. DoD very closely. And as programs are awarded, they're looking to have, let's say, benefit from the vetting of those programs to have interoperability, and it creates follow-on awards, for example, with some of our unmanned systems with other allied militaries. So we do see, in some of these new technologies, a lot of coalescence around awards as they happen.

--------------------------------------------------------------------------------

Peter John Skibitski, Alembic Global Advisors - Research Analyst [48]

--------------------------------------------------------------------------------

Okay. Great. And last question for me. On your win-with at the end of the year on the autonomous vehicle and then also the robo taxi win, I'm just trying to think about the slope of those programs kind of how far do you think they could be potentially looking into 2021, 2022. And then also, any progress lately on the AB [on the freight]?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [49]

--------------------------------------------------------------------------------

Yes. And again, a lot of effort on our side going into this. It's funny. If I back up a bit, 2 years ago, we were really trying to evangelize why thermal should be included an additional sensor. All of the different automotive designers' toolkits and such were focused on that. Now we're completely past that. As we talk to all the different demonstration test fleets and OEMs and such, the value of thermal, and not just for autonomous driving, but things like you mentioned, autonomous braking, are so important.

Now with regard to the robo taxi win, we think it's important because that's going to be continued growth that we see, and it's a standard feature. The Veoneer win that we pointed to as a standard safety feature as well as a milestone for us. And we think it opens the door by setting that precedent for a lot of future opportunity, if you will.

So the tough thing, though, is we win these awards now. To get specified in into production and then into those future model years, it's really a 3-year fuse. While there might be some near-term smaller opportunities on smaller fleets, it really takes that long as they plan ahead for future model years. But I think we're seeing just the beginnings of this open up. As these awards are happening and get proven, I think it's going to quickly accelerate years 3 and beyond.

--------------------------------------------------------------------------------

Operator [50]

--------------------------------------------------------------------------------

Our next question is coming from Michael Ciarmoli of SunTrust.

--------------------------------------------------------------------------------

Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [51]

--------------------------------------------------------------------------------

Jim or Carol, just so I'm clear. So to Noah's question, R&D, in terms of absolute dollars, they're going to be down, though, year-over-year in '20 versus '19?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [52]

--------------------------------------------------------------------------------

They will be slightly down, yes. And we had some very specific R&D effort underway that we were able to capture. But more importantly, as a part of Project Be Ready, we're really focusing our R&D spend more. And also, the collaboration, or I should say differently, the combination of IBU and CBU also focuses more of that R&D expense.

--------------------------------------------------------------------------------

Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [53]

--------------------------------------------------------------------------------

Got it. And then just -- I don't know if you guys would give this, but Aeryon and Endeavor, are they going to be profitable in 2020?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [54]

--------------------------------------------------------------------------------

Yes, absolutely. They are profitable businesses that are scaling. When we acquired them, as we grew the business, the way that we modeled their learning curves that they were coming up, if you will, they're kind of right on track with that. But it is dilutive to our overall business. So as they have that outsized growth, we have that effect on the overall company.

--------------------------------------------------------------------------------

Operator [55]

--------------------------------------------------------------------------------

Our next question is coming back -- or is coming from Noah Poponak of Goldman Sachs.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [56]

--------------------------------------------------------------------------------

Jim, if I just use the same exact organic revenue growth rates by segment in 2020 that you had in 2019, that would shake out a little bit above your revenue guidance for the total company. So which segment has a worse growth rate in 2020 versus 2019?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [57]

--------------------------------------------------------------------------------

Well, the 2 principal headwinds we've got, really, it's both businesses. It's the timing for our OEM business around major A&D primes and their programs. So while we have won a significant amount of business with them, the bulk of that business is 2021. So if we look at Industrial and OEM, there's a real whole significant hold the prior year that we've got to close up. So that's the dynamic there.

On the other side of the house, DR-SKO, again, $30 million-some-odd a year but very profitable for us on Government & Defense. And then ISR, the airborne ISR business had so much now to programs. The nonprogrammatic opportunities are much smaller, but it is our largest and arguably most profitable product line when it got full absorption. And it's got headwinds as we go through the year before we have some of these airframe upgrades happening, offset again by that lower mix but higher growing unmanned business.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [58]

--------------------------------------------------------------------------------

So is it something in the zone of legacy commercial down high single, legacy industrial close to flat and legacy Government & Defense up low single?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [59]

--------------------------------------------------------------------------------

Yes, generally, I think that's directionally accurate.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [60]

--------------------------------------------------------------------------------

And then where exactly is the margin compression coming from? If R&D isn't actually up and you'd be mixing up in terms of the segments of Commercials down again, what's driving the margins lower in 2020?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [61]

--------------------------------------------------------------------------------

Yes. There's a couple of dynamics. One, as I mentioned, more and more of the growth is coming from that unmanned business that's dilutive to the overall company. So on the gross margin line, we certainly have that dynamic. The highest growing part of our business has margins that are scaling as we expected. And as I mentioned, with OEM, which is also one of our most profitable parts of our business, it's got this timing gap to get over.

But if we look at OpEx, there's really 3 pieces. One, there's the necessary things we need to do to be compliant, and we're absolutely committed to those and going to do them. There's the investments that we need to make, not just in R&D, but around program management, contract management, the other things non-R&D to make sure we can execute on programs. But then frankly, we got -- we built a cost structure in the back half of the year that was being built to support a 5% growing company, and we weren't. So that's the cost that we've got to go now take out of the business through Project Be Ready executing those actions now. But it takes time to get that full annualized benefit to show up in the income statement.

--------------------------------------------------------------------------------

Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [62]

--------------------------------------------------------------------------------

When you had first -- when you had your first full quarter, the second quarter of 2019 of Aeryon and Endeavor and you -- the Government & Defense segment margin was 24 8, you stated that you saw that as the most diluted margin from the acquisitions. And then it was up over 20 sequentially, but then it's back down sequentially in the fourth quarter, somewhere in between second and third. So I mean which of those is kind of the right go-forward margin? Or can you just kind of help us think about the shape of that segment's margin going forward since you're layering in something much different than the legacy segment?

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [63]

--------------------------------------------------------------------------------

Yes, certainly, compared to our outlook then, DR-SKO without a real offset to replace, it's a driver. And then I mentioned the airborne ISR business, more and more of that on program, not off program. We've got work to do to make sure we win and secure those. So don't think we fully appreciate that dynamic.

Now the real test for us is how we scale and come up the learning curve for the unmanned business. It's our expectation that it contributes into kind of the line averages that we want to have. So to be candid right now, I don't know if I can paint a perfect picture of what that go-forward margin looks like. We certainly intend to at the upcoming Investor Day. And by then, we'll have 2, 2.5 quarters behind us, executing on these larger unmanned programs that we're driving after that.

--------------------------------------------------------------------------------

Operator [64]

--------------------------------------------------------------------------------

At this time, I'd like to turn the floor back over to Jim for closing comments.

--------------------------------------------------------------------------------

James J. Cannon, FLIR Systems, Inc. - President, CEO & Director [65]

--------------------------------------------------------------------------------

In closing, I'd like to thank all of you for joining the call today and for your interest in our company. As always, I would also like to thank all of the FLIR employees around the world for your hard work, passion and dedication to our mission. We look forward to updating you on our progress when we report our 2020 first quarter results in the spring. Thank you all, and have a great day.

--------------------------------------------------------------------------------

Operator [66]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for your participation. This concludes today's event. You may disconnect your lines, and have a wonderful day.