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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning and welcome to L3 Technologies’ and Harris Corporation’s conference call to discuss their merger of equals. Please note this event is being recorded.
I would like to turn the conference over to John Kim, Vice President of Investor Relations at L3. Go ahead, Mr. Kim.
Thank you and good morning. I'd like to welcome everyone to our joint Harris Corporation and L3 Technologies conference call to discuss the merger of equals. With me from Harris are Bill Brown, Chairman and CEO; Rahul Ghai, CFO; Anurag Maheshwari, Vice President of Investor Relations. And from L3 are Chris Kubasik, Chairman and CEO; Ralph D'Ambrosio, CFO. After their formal remarks, management will be available to take your questions.
Please note that during the call, management will make forward-looking statements and refer to non-GAAP financial measures. Please refer to the press release and presentation issued yesterday as well as each company’s SEC filings for a more detailed description of factors that may cause actual results to differ materially from those anticipated. Please also note that this call is being simultaneously broadcast over the Internet.
Now, I would like to turn the call over to Bill.
Well, thank you, John and good morning, everyone. It's an exciting day for Harris and L3 and we appreciate you joining us on this call in short notice. Yesterday afternoon, Harris and L3 announced an all-stock merger of equals to create a leading global defense technology company. This transformative combination will bring together complementary businesses with similar cultures and will increase our scale, broaden our technology base and expand our customer set in markets where we have decades of successful performance, generating significant value for our shareholders, customers and employees.
Starting with slide 3, this transaction represents the largest merger in the history of the defense industry and creates a top 10 global defense company with approximately 48,000 employees, including more than 22,000 engineers and with customers in more than 100 countries. The new company, L3 Harris Technologies, has a market cap of $34 billion and will have approximately $16 billion of revenue, $2.4 billion of EBIT and $1.9 billion of free cash flow in calendar year 2018.
Combining Harris and L3 will result in a leading portfolio of differentiated technologies, mission critical solutions and capabilities closely aligned with key customer priorities in support of the national defense strategy. The strong culture of innovation and a focus on operational excellence from [indiscernible] both organizations which gives us confidence that this merger will be successful in driving accelerated growth, margin expansion and robust free cash flow.
Turning to slide 4, under the terms of the agreement, which has been unanimously approved by both boards, Harris shareholders will own approximately 54% of the new company and L3 shareholders will own approximately 46%. L3 Harris Technologies will be headquartered in Melbourne, Florida and be led by a highly experienced and proven leadership team that reflects the combined strength and capabilities of both companies.
Upon closing, the board will consist of 12 directors, with equal representation from both Harris and L3. I will serve as Chairman of the Board and Chief Executive Officer and Chris will serve as Vice Chair and Chief Operating Officer for the first two years, following the close of the transaction. In the third year, I will transition to Executive Chairman, remaining focused on integration and other related activities and Chris will assume the CEO role. Additional senior leadership positions will be named at a later date, reflecting the best of the best from both companies.
The integration of the two companies is expected to generate approximately $500 million of annual pretax cost synergies in year three, approximately $300 million, net of cost savings returned to customers, increasing pro forma margins by 200 basis points. We expect robust free cash generation over the next three years and anticipate returning significant cash to shareholders through a dividend policy, consistent with current practices at both companies and share repurchases, including up to $2 billion within the first 12 months post-closing. This transaction is subject to customary regulatory and shareholder approval with an expected close by mid calendar year 2019. We anticipate financial reporting on a calendar year basis, starting January 1, 2020.
Now, turning to slide 5, this highly strategic combination creates a company with greater scale and a well balanced portfolio of complementary businesses that will strengthen our capabilities across multiple domains, air, maritime, land, space and cyber. Bringing together our two engineering and technology focused companies will accelerate our ability to innovate and create solutions that solve our customer's toughest, mission critical challenges in a cost competitive and affordable way.
Both L3 and Harris have demonstrated a common philosophy around operational excellence and margin expansion through the HBX and L365 programs, which will leverage the integrated two companies. And our broader scale combined with a broader mix of businesses will provide us with portfolio shaping optionality down the road. Finally, the financial aspects of this transaction are very compelling. It will be immediately accretive on a cash basis in year one and result in a combined business with a strong balance sheet and robust free cash flow that will be deployed through a disciplined, balanced and shareholder friendly capital allocation strategy.
In short, we're excited about this transformational merger of equals and what it means for our combined business and our stakeholders. Chris and I have known each other for several years and have developed a great working relationship with strong personal rapport and mutual respect. I’ve enjoyed working closely with him and his excellent team throughout this process, some of whom I've known for several years and I'm confident that we can bring this company together as one.
And with that, let me turn it over to Chris.
Thank you, Bill. This is truly an exciting time and I believe this combination is a win-win for both of our companies. As Bill and I have worked closely together over the last few months, it’s become clear that this partnership brings together two leaders with a shared operating philosophy. There is a lot of hard work to do and I look forward to working closely with Bill to make this new company a success.
Let’s turn to slide 6. Last December, I shared with you L3’s vision of becoming a non-traditional sixth prime, non-traditional meaning we want to be more agile, innovative and affordable with greater speed to market and prime meaning expanding our sales directly to our end user customers, while providing better solutions for our industry partners. This merger establishes us as the sixth prime with a well balanced portfolio of enduring missions and programs, serving customers in every region of the world. The combined company will have more than 85% of its revenues derived from US and international government customers with the majority being defense related products and solutions. More than two thirds of the combined company’s revenue will be direct from our end user customers and over 70% of our programs will be firm fixed price contracts.
Slide 7 shows the strength and diversity of the combined portfolio across multiple domains. In air, both companies have strong avionics and electronic warfare capabilities for both legacy platforms, such as the F16 and the F18 as well as the next generation platforms, including the F35. L3 has prime contract positions and ISRs, including Rivet Joint, Compass Call and Guardrail as well as leading secured communication positions on many of the nation’s premier UAV platforms. In the maritime domain, the new company will have key technologies and sensors and propulsion and power systems on both surface and subsurface platforms. Together, with our UUV investments, we are well positioned to serve naval modernization programs.
On land, Harris’ leading global tactical communications franchise will be complemented by L3 franchise’s SATCOM, secured data links, cyber intelligence and optical communication. This will enable the combined company to develop more complex, multi domain communication solutions. In space and cyber, Harris has a long legacy in national level space system and has recently expanded into adjacent businesses, such as small satellites. L3 brings capabilities in optics, signal intelligence and data links that can be leveraged to provide more integrated capabilities in this increasingly contested domain.
Lastly, both companies have leading commercial aviation franchise. Harris, in air traffic management, where they are a leading supplier to the FAA’s next generation air traffic management system and L3, in airport security, pilot training and avionics. Driven by the growth of global passenger traffic and rising infrastructure needs, these businesses are well positioned to grow for many years to come. Both companies share our focus on technology and a commitment to innovation.
On slide 8, you can see that this transaction brings together two organizations’ engineering focused workforce and industry leading R&D, which will accelerate our ability to innovate, develop and more rapidly bring to market next generation technologies. L3 Harris Technologies will have over 22,000 engineers and cleared personnel. This workforce can be leveraged and solve our customers most complex, sensitive and mission critical needs, as we identify best practices across both organizations.
Our future investments and innovation will be focused in areas reporting key technology imperatives, including electronic warfare, unmanned systems, directed energy and protected communications.
On slide 9, we will see many avenues to drive additional growth. By leveraging our franchises and communication, ISR and space, we can extend our leadership positions and accelerate growth in to multi domain solutions, spectrum superiority and resilience based solution. With the scale and capabilities of the $16 billion company, we can invest more and deepen our customer relationships internationally where together, we do business in over 100 countries. Additionally, there are a number of pull through opportunities, including ISR and space, were we can leverage our prime platform to drive additional electronic warfare, avionics system and optic sensors.
Turning to slide 10, Harris and L3 both share a common operational philosophy to drive margin expansion. Harris’ Business Excellence Program initiated over five years ago is a robust and mature program that is deeply embedded within the organization. While L3’s corporate wide year old L365 has good early momentum. Our shared operational vision will help us reduce complexity, stay focused on continuous process improvement and ultimately strengthen program execution so that we can serve our customers more effectively, efficiently and reliably. We will take a best to breed approach by selecting the best systems and processes from both companies to implement throughout the enterprise.
Let me now turn it back to Bill to further discuss the integration.
So now turning to slide 11, we’ve been discussing this opportunity for a couple of months and have done substantial analysis, giving us confidence that the combination will generate approximately $500 million gross cost synergies in year three, which is about 1.8% of combined revenue. These savings are largely in line with what we achieved in a successful Exelis integration where we delivered savings that were not only higher, but earlier than initially planned. Roughly, half of the savings in this merger will come from reducing direct and indirect spend and rationalizing the facility footprint, with the other half equally split between eliminating duplicate corporate and segment cost and functional efficiencies, overhead cost reductions and shared services. We expect to invest approximately $450 million in cash over the next three years to achieve these synergies.
On slide 12, you can see that the combined company has attractive financials and a strong balance sheet and we're committed to maintaining an investment grade credit rating.
Slide 13 highlights our strong pro forma free cash flow profile. One particularly attractive aspect of this merger is the ability to accelerate cash generation. The combination of organic growth, cost synergies, working capital reduction and capital spending efficiencies will drive free cash flow to $3 billion by year 3.
Turning to slide 14, we believe this transaction benefits all stakeholders. We will be better positioned to serve our customers. We will improve affordability by leveraging our scale and becoming more efficient and our government customers will benefit from the return of about 200 million in synergy savings per year. Harris and L3 both recognize that how our employees are our most valuable assets and the merger will create greater growth opportunities for our employees as a part of a larger, more diversified, global defense company. Finally, both sets of shareholder will benefit from an immediately cash accretive transaction and be able to participate in the upside from the combination. Overall, this transformational merger combines two highly innovative companies that benefit our customers, our shareholders and our employees.
And with that, I would like to ask Maria to open the lines for questions.
[Operator Instructions] Our first question comes from the line of Seth Seifman of JP Morgan.
Thanks very much and good morning and congratulations. Just wanted to start asking a little bit about growth. On one of the slides, you talk about 0.5 billion of the incremental cash flow coming from organic growth and so if we think 20% tax rate and maybe 15% to 20% drop through that that looks like, if 2022 is the third full year, then maybe we’re talking about kind of mid-single digit top line, and I'm wondering if, is that the right way to think about it and, if so, given what we know the outlays are going to be growing based on budgets and the revenue synergies that you might hope to capture from the deal, is that maybe a little bit conservative at this point?
I think it's realistic based on what we see today, Seth. The organic growth profile of the combined company will not look different at the start from what we're doing individually and what we've guided to individually. Of course, as you pointed out, over time, we do expect revenue synergies to pop in, we don't see that in the next one or two years, but certainly over the three year period, would start to flow in, we’re not quantifying that today. But I think your math is broadly right.
When we sit there and look at $2 billion of free cash generation in calendar ’18 plus the after tax cost synergies and when you lay in organic growth plus opportunities on working capital performance, and any capital efficiencies, together, we’re over $400 million of capital spending, we expect to be able to trim that a little bit. Working capital is going to be an important lever. We're at 46 days, the combined company is around 74. Each day is worth about $35 million. So, we see – we both see opportunities to bring working capital performance better and we do think the $3 billion target three years out is achievable.
And then maybe Bill, just as a quick follow-up. I know, you have said in the past that you're more interested in doing [Technical Difficulty], I guess when you look at the challenges of what you and Chris are planning to do here versus what happened with Exelis, which was a smaller and maybe more integrated company at the time that you bought it, can you talk about some of the challenges here and how you're anticipating them?
Well, Seth, I mean, your point is right. It's a much bigger combination than us buying Exelis, but fortunately both Chris and I, staying on top of this, leading the company, sharing the responsibilities of what’s going to be an enormous -- enormous task over the next three years. Chris as Chief Operating Officer and President will keep an eye on the segments and making sure we execute against our customer priorities, keep growing the business in what is now a growing market and then together, will chair integration and make sure we capture the best of the best from both organizations. And any transaction of this size, both integrating the company will be a challenge, but also making sure that we keep our head down and all the teams keep their head down, executed against what our customers expect of us. So I think with Chris and I staying on top of the company, investors should be reassured that we know exactly what to do here.
Seth, I’ll just chime in. The exciting part of this from my perspective and Bill and I have talked about it, is this merger really does create greater benefits and growth opportunities than either company could have done on their own and these are two strong companies, you saw the quarterly results, we’re both on an upswing and I think it's a unique and exciting time to put this merger together.
Our next question comes from the line of Carter Copeland of Melius Research.
Hey, good morning, gentlemen and congratulations. Two questions. One, just more of a clarification on the synergies. Are the synergy targets you outlined all exclusive of the cost reduction estimates and things you talked about on the L3 side? I guess, that question is for Ralph. And then for whoever who wants to answer it, just a question about how you envision the org structure, at least sort of philosophically, I mean the way these two companies are put together is a bit different. They're both, I guess, somewhat entrepreneurial and -- in their own ways, but in terms of number of segments and operating structure, they have a different look and feel and so I wondered if you might just share your vision about how you think about putting those two together.
Yeah, Carter. Thanks for the two questions. I'll take the first one. It’s an easy one and the answer is yes, relative to the synergy numbers that we’ve laid out here. So relative to how we’re going to organize, Bill and I’ve spent a lot of time talking about that. I'll turn it over to him to give you some of the initial thoughts.
So, we have six segments today between the two of us. Obviously, it'll be down to a smaller number than that, it will be maybe four, it could be three, it’s in that sort of range. Chris and I'll talk about that over the course of the next couple of months, as you realign the pieces and the businesses underneath that. But at a high level, the way I see what we have done, we've focused on operational excellence, process simplification, complexity reduction, all of the things and cash flow generation, all of the things that I think has improved our performance over time and this is what Chris has laid out over the last year as a strategy at L3.
So, frankly, we're both on the same page on how to run a business culturally, I think it runs deep in the organizations. We have to make sure we maintain that entrepreneurial spirit in driving growth, but at the same time, get the leverage of the broader enterprise that we happen to be running today. So we’ll announce that over the course of the next several months what the structure is going to be, as we talk through those dimensions. But just to be clear, your first comment -- first question on savings, we've been, I think, we’re very careful to exclude from the $500 million, any of the savings opportunities that L3 or Harris would have done individually.
Our next question comes from the line of Jon Raviv of Citi.
Question on the pro forma cash deployment. I think you mentioned that you might spend up to $2 billion of excess cash on purchases, but why would you not spend that? Is there room to add more? I think Bill you’ve also mentioned some portfolio shaping optionality down the road, something more perspective on -- or color on that would be much appreciated?
I think we're limited in only -- up to $2 billion to maintain a tax free nature of this merger and I think that's really what’s limiting that, Jon. So, we'll say more about that over time, but we can only do up to $2 billion. And you're right, there's going to be some optionality for portfolio shaping, we'll figure that out over the next -- over the next couple of years and decide when we do that, it will generate additional cash for deployment. But importantly, we're going to maintain a consistent dividend policy to what we both have experienced in the last several years, 30% to 35% of payout ratio, which I think is going to be attractive to investors, both from a dividend as well as the share buyback perspective.
And just to emphasize, for the first three years, the number two – the top two goals are number one to execute on our existing commitments and grow the business organically and then focus on the integration. So, the free cash flow will be spent, I think we have about $450 million of the cost to integrate this new entity. As Bill said, we’ll be shareholder friendly and obviously, we wouldn't expect a lot of acquisitions in those first couple of years, as we focus on the integration of the excess cash flow as we’ve discussed.
Our next question comes from the line of Sheila Kahyaoglu of Jefferies.
I guess Harris as the defense business, but the communications have meant that generate 30% operating margin. Are there opportunities with that commercial model to drive margin expansion across combined platforms? And if so, what domains do you think is the most applicable?
It’s a good question, Sheila. At this point, as we combine our companies, we’re going to see operating margin expansion, simply because, we were anticipating it and guiding investors to that operating margin growth over the next several years as well as L3 has been very clear about a margin expansion journey and when you combine the companies, we’ll see those opportunities plus the acceleration associated with the cost synergies. So another 180 to 200 basis points of margin expansion, coming from the after tax -- from the cost energies that aren't given back to our customers. So, we do see growth from that. The ability to transfer that commercial model, it gives the sort of lifeblood of what we do in the tactical radio business. Yeah. There’s an opportunity here. We'll explore that more over the coming months as Chris and I really talk through how we want to run the organization, but yeah, that could be an opportunity as well, Sheila.
And then Chris, maybe just one quick one for you, in terms of the 500 million of gross synergies, how much of that is L3 standalone or how do we think about that?
Yeah. I think the way to think about, as both Bill and I already had cost synergies built into our company’s individually cost savings. So, the 500 million is over and above that. As we go through it, a majority of this as Bill said is going to be based on supply chain and rationalizing the footprint. So in the months ahead, we're going to sit down and identify the specific targets. As of now, I would say it's probably pretty equally distributed between the two of us, but more to come in the months ahead.
Our next question comes from the line of Ron Epstein of Bank of America.
So, just a couple of questions for you. The genesis of this deal, I mean, can you just walk through a little bit, maybe who approached you, how it came about, that’s one question. Second question is, how do you expect your competitors to react to this? And then third, how much overlap is there? My sense is, it’s not a heck of a lot, but I just wanted to confirm that.
Turning to the last one, I think I'll confirm your third point, which is not a lot of overlap. We were very careful in how we did our review and when we talk about complementary portfolios, we really do mean that as complementary. There’s very little overlap between our two companies, as you see what we're laying out today.
On the first, look, Chris and I have known each other for several years and we have had an ongoing relationship. We know L3; L3 knows Harris. We play in the same spaces. While we’re not competing, but we play in the same spaces, a lot of [indiscernible]. He and I've been speaking about an opportunity to partner more together to capture more market opportunities since the beginning of the calendar year, that evolved into more of a conversation around, do we want to combine our companies to fully exploit the cost opportunities and growth opportunities ahead of us and it accelerated through the summer to at least where we happen to be today. So it really -- it developed over the last 8 to 10 months.
Do you want to say Chris on the –
Yeah. And just to add to that thought, I think Ron, most people have always believed for a long time that this combination made sense and Bill and I just worked hard to make it happen. So, I don't think the fact we're getting together should be a surprise, maybe the timing is, but we both pride ourselves on being rather agile and innovative and I think people will be impressed how quick we were able to pull this off and not have anything to leave. So, we’re quite proud of that.
Relative to our competitors, it’s a unique industry. We’d like to call ourselves competimates. Sometimes, we team and sometimes, we compete. As you would expect, Bill and I over the weekend reached out to customers and Congress and industry partners and everybody was appreciative of the heads up. We seem to be supportive. So, I think it's going to be an exciting transformational deal and don't expect any significant issues in making this a success.
Our next question comes from the line of Robert Stallard of Vertical Research.
Couple of quick ones from me. First, wanted to follow-up on Ron’s question really on the overlap and the customer reaction. There would appear to be some overlap maybe in areas like night vision. I was wondering, what the customer might have said about that? And then I'll follow up with my second one.
Look, it's too soon to say really. At the end of the day, even if there's an overlap in a small piece like that, it's a fraction of what we do together at $16 billion. So, it's premature to really talk about that. We do believe our businesses are complementary and will go through a normal regulatory process. As Chris has mentioned, our customers in the Pentagon have just heard about this potential transaction over the past weekend and will go through the normal process as they normally would do and evaluate and we’ll have conversations with them, but I don't expect any issue in consummating this transaction from any particular overlap.
Okay. And then a second question, perhaps more broad question. What really is -- makes you driven to do this. I mean, is there something out there that would have made your continued independent life more difficult than perhaps would be appreciated, was it just synergy, cost synergy, savings you can get that really drives this deal?
Well, let me start and then maybe Chris can jump in. There’s – look, he was very careful in saying that we were both performing exceptionally well and you can see that in both of our results in the latest quarter over the last year, we were on a great trajectory, we were executing well, the businesses are performing well. So, there's not a need, because one is not performing well to put our company together. We’re doing this because it creates more value for all stakeholders, including our shareholders, our customers, our employees. When I sit back and I look at the power that this enterprise will create, this combination creates domain [indiscernible].
You look at Harris’ expertise and communications in way forms with L3 and SATCOM and data links, way form capabilities, optical comms, the ISR platforms, there's really no other company that can match us in terms of the broad capabilities across ISR. Our positions in electronic warfare really makes the combined company a much stronger competitor in spectrum warfare, network battlefield. Chris, walk through our strengths across all the domains when it does strengthen [indiscernible], but importantly, this is the first time this company will be able to span across all domains together, which is very important and very unique.
Chris?
Yeah. And as Bill and I have spent time together, I looked at it really from a leadership position and I think we’re complementary leaders. When I look at what Bill has done at Harris and the integration and the success they've had with Exelis, my experience with the defense industry and international, I think there's just perfect synergy between the two of us. But more importantly, I think it is really each company had a common culture, a drive for continuous improvement and he and I are perfectly aligned on how we want to operate this company, we were operating ours individually. So together, I think there's this great opportunity.
And as we sat down and thought about each stakeholder, the customers absolutely want rapid end to end solutions that are aligned with the national defense strategy. We've both done that individually. I think we can do more for our customers combined. I think the shareholders and the MOE, both sets of shareholders benefit. MOEs are aware first so to speak and I think we've done a great job on this together and benefit them and again the employees, especially in the technical engineering in the cleared world are going to have great opportunities for career development. So, it just made sense from every single angle we looked at and again I think complementary is the keyword from portfolio to leadership to culture and that’s why this will be successful.
Our next question comes from the line of David Strauss of Barclays.
Maybe as a follow-up on that question, any sort of -- you laid out the case on how the portfolios fit together, but any sort of quantification of the combined portfolio, how much is complementary versus percentage that's going to be a little bit tougher to fit together and then from a revenue synergy standpoint, Bill, I think you said not much in the first two years, but where do you see the biggest opportunity from a revenue synergy standpoint? Is it C4 or EW, kind of your thoughts there?
So, I think most of the portfolio across is very complementary. There's very little overlap. There are some pieces that L3 is in that’s sort of a little bit more distant. It’s in the pilot training, but there's a tie in to what we're doing in general aviation, commercial aviation and we’ll sort of look at how they fit together over time, but when I think about the revenue opportunities here, we're not prepared to quantify where they happen to be, and this is something that the teams will develop a perspective on over the coming months. Keep in mind, this has been held very closely.
Not a lot of folks in the segment are the people with the technical depth have been deeply involved, but as they started toward the last couple of weeks, there is going to be a lot of opportunities that we're seeing to get better content on platforms, leverage on our common technologies, broaden our base internationally, pull through components on to platforms that Chris is on. So, there's going to be a lot of opportunities that we're going to explore and ferret out over time.
When I look back at when we closed on Exelis, we were at the same place where we weren’t able to articulate a lot of deep revenue synergies, but when we think about what’s happened over time in terms of our position and things like electronic warfare, what we will do in the space domain, we’re able to do an avionics, a lot of opportunities came through additional investment, focus and bringing a lot of people that are really smart together to think about how we can create value and I'm sure that’s going to -- the same thing will happen here.
I would agree, David, when we look at this, I mean, the ISR, secured comms, electronic warfare, space kind of pop out as maybe the top four areas. We have some world class skills in aircraft integration and some experience that goes back decades that I think will be unique and enable to help the two companies realize some revenue synergies. We have flight test capabilities that Harris does not have. We have multispectral test facilities. Between the two of us, we have some unique labs that will allow us to do some testing and operational analysis. So, it's quite exciting and I agree with Bill, in the months and years ahead, we're going to be able to identify these revenue synergies and be able to take advantage of those.
Thanks. As a follow-up question, the 450 million cash spend that generate the saving -- synergy savings, cost synergy savings, can you talk about the timing of those? And then also throw out initial thoughts on levels of intangible amortization and what combination to do from a potential perspective?
Yeah. On the 450, I assume it’s going to be more front end loaded, probably 60% or so in the first year and it will tail off of that beyond there. In terms of the amortization, the intangible is just over 5 billion, I think, 5.4 billion, so maybe 550 in the first year and it will start to slide down a little bit over the first couple of years, but there's still a lot of work that has to be done to really quantify that, but that's our ingoing assumption at the moment.
With the cash cost and the roll down of the cash cost in the first couple of years, in terms of the $500 million in gross savings, we do see – it’s fairly level across the first couple of years. In the first year, we’ll see a lot of what you noticed in corporate and segment consolidation will be year one and the savings on indirect direct spend in facilities, facilities will take some time, but the indirect spend, which is probably an $80 million, $90 million range will happen mostly in the first year. So, we’ll also see some savings coming in the first year to offset some of the cash restructuring costs.
Our next question comes from the line of Cai von Rumohr of Cowen and Company.
Yeah. It’s Cai and Gautam. We have -- we're each going to ask a question on this. First, congratulations. Bill, I was wondering if you could talk about any possible dissynergies to consider. You mentioned very little market concentration. Could you maybe explore of that topic a little bit deeper, where there might be and if there are any other things that you're looking at that could be more challenging.
Look, I think in terms of dissynergies, I think there’s going to be very little Gautam to be honest with you. There's negligible overlap of the businesses. We don't really often compete head to head, going to the market and a combined $16 billion, it's very, very small. There's less than $100 million of sales between us. So, there's not a margin on margin or profit on profit loss. So, we don’t really see that as an issue either. There's going to be some puts and takes on benefits and costs of that nature, but I think that's already considered in the 0.5 billion in savings. So, I don't really see a lot of dissynergies in the transaction.
As a quick follow-up, Bill, you guys are the leaders in enhanced night vision goggles and you both are direct competitors. So what do you think is going to have to happen there and then while you don't have much overlap, are there any areas where your direct competitors say in data links or SATCOM?
Data links and SATCOM is a very competitive space and we both have some positions there, but they're not necessarily completely competitors, lot of it’s complementary. And on night vision, look, I think, we both play in that space. I think Chris’s business has a much more substantial position in night vision than we've had. We bought our business that came with Exelis, but again, I don't want to front run the process at the Pentagon and DoJ, FDC is going to run through in terms of assessing this. But again, we don't really see it as a significant concern in terms of the overall scope and magnitude of the combined business.
Our next question comes from the line of Robert Spingarn of Credit Suisse.
Bill, you just spoke a couple of questions ago about the, a little bit about the pacing of the 500 million in cost synergies, but I was hoping you could delve a little bit deeper there, sort of those opening synergies on the headquarters type work and so forth, how do we think about your one, two and three, leading up to that 500.
Yeah. Maybe, just a little bit more color. The piece at the corporate segment consolidation, that’s about 25%. That’s largely going to be front end loaded, because we have to move quickly on what we [Technical Difficulty] we're going to have to do something. That wasn’t our dog by the way.
That was just part of the team. They’re very enthusiastic.
And obviously, Chris and I have work together in the coming months, so that day one, we have an organizational model, with people in place, people that know what the jobs are, that we execute straightaway on day one. So, that piece of corporate and segment is going to be more front end loaded. Of supply chain and footprint rationalization, there are several pieces in that on the supply chain side, it’s direct as well indirect. I think the indirect part is going to happen relatively quickly, as we saw with Exelis. We’ve got beat on that, we know where it’s going to come from. That's probably in the $80 million to $90 million range. The direct side and subcontractor spend will take some time, because sometimes that’s requalifying suppliers.
There may be a piece of it that’s simply equalizing on a price, but generally it should take a little bit more time. The piece of that that's going to be facility rationalization will take time. That could be over the course of the three years. When I sit back and I look at, and this is all in the K, the combined company, we've got 28 million square feet of space, we’re at about 417 locations over $400 million of occupancy cost. With Exelis, we got about 15% out. This was approximately 10%, but again, it's going to take some time and investment and work to do to do it very, very well. So, broad numbers, you'll see something like $200 million in year one and the balance will happen in year two and year three.
So Rob, we're going to put together a joint integration team obviously as soon as allowed and Bill and I are going to co-chair that integration team and make sure we get the best of the best. I think, from a process, policy, system place, there is a lot to choose from and we’re quite excited about. We talk internally about moving to a shared service model, which Ralph and I were heading towards. Clearly, in that example, Harris already has such functions. So, that will save us the investment and time and just immediately laps on what they already have as an example. So, I think it's exciting and I think there's a lot of opportunities, the big number, but we're committed together.
Okay. And just a quick one on the regulatory side. Is there enough China exposure, perhaps at L3 on the aviation side I imagine to trigger the threshold for regulatory review there.
Yeah. As it looks right now, it doesn't appear that we’ll need to buy one in China. So we’ll work through this with the outside advisors, but the first pass would be no to that question.
Our next question comes from the line of Peter Arment of Baird.
Yeah. Just quickly, I guess, a follow-up on the regulatory comment, because you've answered a lot of questions here this morning. Just the normal process, Bill, you mentioned regarding the reviews, just maybe how you guys arrived in terms of the timeline or when do you expect, I guess, ultimately to see the final approvals. You said mid-2019, but just trying to pin it down a little further.
Yeah. It's hard to pin it down much further than that. It's going to take a few months to put together the S4, maybe six weeks, we have to do some reclass of financials. We have a shareholders’ meeting early next year with our expectation could be in the January February timeframe, again depending upon how quickly we can get the S4 out. And then, we’re going to get on right away with the outside attorneys and putting together paperwork to file if [rates are just] approved here in the U.S. and they'll go through their process.
I think given the magnitude of the transaction and the pieces that we have, I think we ought to anticipate a second request. Will it happen? I don't know. We did with Exelis, it was on a very, very narrow issue. It took some time for that to get resolved, but it was at the end of the day inconsequential, but I think just to be safe, we believe it'll be mid calendar 19. We don't expect it to go beyond that. There will be re-filings in the EU as well as Chris said nothing in China, depending on BREXIT, it could be UK. We have to work through all of these different filings over the coming months. But that's why we said it, expected closing period by mid calendar ‘19.
Our final question for today will come from the line of Noah Poponak of Goldman Sachs.
What year are you considering to be year three in the financials discussion?
We expect to close in the middle of ’19, so it will be three years after the middle of ’19. So, it will be around -- could be the end of the calendar ’21 or by the early part of 2022.
Okay. So we could be talking full year 2021?
Yes.
Okay. And what kind of profit margins for the combined entity are you contemplating in the combined 3 billion of free cash flow.
Right now, I think the combined margins are, between Harris, this is – combined margin is around 14ish percent. So I think it will go through about, add it up to a point, as we kind of mid teens15% to 16%.
Okay. Yeah. I mean, the genesis of that question. I guess, the combined being 14.5, the synergies alone, net synergies alone had a couple of hundred basis points. So, I guess, I’m sort of staring at the combined company margins and wondering how close you think you can get back to the, not back, but on a combined basis to what the legacy standalone Harris margin is, if you had the synergies on and then there is operating efficiency improvements as well?
Yeah. It’s going to take some time to get back up to like 19%, 19.5%, but it’s probably in the 16%, 16.5% range over the next couple of years.
Yeah. That’s all excluding intangibles obviously. So that’s the goal.
Okay. And then just, I guess just one more question related to that multi-year view is, I guess I was a little confused by the discussion of mid-single digit organic growth, maybe you can put a little more detail on that, just because both companies as standalones already have existing financial guidance for different versions of closer to upper single digit organic growth on a more than one-year basis. The bookings have been particularly strong for each company on a standalone basis and you're talking about revenue synergies on top of all that. Am I missing something and are you talking about a longer timeframe or what am I missing in not understanding mid-single digit organic revenue growth.
So we came off a very good quarter here recently and we’re both around 9% to 10% organic growth, which was quite strong. Harris has been guiding to mid to high single digits over the medium term and Chris can talk about where their guidance happened to be. So when we put the companies together, it will be in that range and then, yeah, you're right, there will be some revenue opportunities that would be incrementally higher than that, not something we're prepared to talk about today, know in terms of how much more incremental growth beyond the pro forma, but there's going to be some additional opportunities.
Yeah. And we’ve talked about 5% as kind of our target over the next few years. So, I think we're all kind of in the same range here. So, 20%, 21%, 22% is a ways off. We'll get working on this right away and we’ll keep you abreast as we get more into this, but as you can tell it, there’s pretty exciting opportunity. I think, there's a lot of upside on the revenues, the costs and the margins and that's what we’re committed to deliver on.
So, well, thank you very much everybody for joining us on such short notice. We're very excited about this transformational merger of equals. We are coming off of a very strong quarter, both L3 and Harris and now Chris and I are going to get back to work. So thank you very much for joining us on a Monday morning. Thank you, everybody.
Thank you.
Thank you. Ladies and gentlemen, this does conclude today's conference call. You may now disconnect.