# RTX Corp: Form 10-Q for the period ended Sep 30, 2016

- Company: [RTX Corp](/companies/rtx.md) (CIK 101829)
- Form: 10-Q
- Filed: 2016-10-27
- Accepted by EDGAR: Oct 27, 2016, 10:56 ET
- Period: 2016-09-30
- Accession: 0000101829-16-000091
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/101829/000010182916000091/a2016-09x3010xq.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/101829/000010182916000091/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2016-09-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2016-07-01 to 2016-09-30 | $14.35bn | us-gaap:SalesRevenueNet |
| Revenue | 9 months, 2016-01-01 to 2016-09-30 | $42.59bn | us-gaap:SalesRevenueNet |
| Cost of revenue | 3 months, 2016-07-01 to 2016-09-30 | $7.52bn | us-gaap:CostOfGoodsSold |
| Cost of revenue | 9 months, 2016-01-01 to 2016-09-30 | $22.54bn | us-gaap:CostOfGoodsSold |
| Research and development | 3 months, 2016-07-01 to 2016-09-30 | $582.0m | us-gaap:ResearchAndDevelopmentExpense |
| Research and development | 9 months, 2016-01-01 to 2016-09-30 | $1.71bn | us-gaap:ResearchAndDevelopmentExpense |
| Selling, general and administrative | 3 months, 2016-07-01 to 2016-09-30 | $1.39bn | us-gaap:SellingGeneralAndAdministrativeExpense |
| Selling, general and administrative | 9 months, 2016-01-01 to 2016-09-30 | $4.20bn | us-gaap:SellingGeneralAndAdministrativeExpense |
| Operating income | 3 months, 2016-07-01 to 2016-09-30 | $2.25bn | us-gaap:OperatingIncomeLoss |
| Operating income | 9 months, 2016-01-01 to 2016-09-30 | $6.53bn | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2016-07-01 to 2016-09-30 | $225.0m | us-gaap:InterestExpense |
| Interest expense | 9 months, 2016-01-01 to 2016-09-30 | $673.0m | us-gaap:InterestExpense |
| Income tax | 3 months, 2016-07-01 to 2016-09-30 | $492.0m | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 9 months, 2016-01-01 to 2016-09-30 | $1.55bn | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2016-07-01 to 2016-09-30 | $1.48bn | us-gaap:NetIncomeLoss |
| Net income | 9 months, 2016-01-01 to 2016-09-30 | $4.04bn | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2016-07-01 to 2016-09-30 | $1.78 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 9 months, 2016-01-01 to 2016-09-30 | $4.86 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2016-07-01 to 2016-09-30 | $1.80 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 9 months, 2016-01-01 to 2016-09-30 | $4.91 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2016-07-01 to 2016-09-30 | 831,200,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 9 months, 2016-01-01 to 2016-09-30 | 831,800,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 9 months, 2016-01-01 to 2016-09-30 | $4.54bn | us-gaap:NetCashProvidedByUsedInOperatingActivitiesContinuingOperations |
| Capital expenditure | 9 months, 2016-01-01 to 2016-09-30 | $1.04bn | us-gaap:PaymentsToAcquireProductiveAssets |
| Dividends paid | 9 months, 2016-01-01 to 2016-09-30 | $1.56bn | us-gaap:PaymentsOfDividendsCommonStock |
| Share repurchases | 9 months, 2016-01-01 to 2016-09-30 | $528.0m | us-gaap:PaymentsForRepurchaseOfCommonStock |
| Cash and equivalents | at 2016-09-30 | $7.11bn | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2016-09-30 | $28.55bn | us-gaap:AssetsCurrent |
| Total assets | at 2016-09-30 | $90.06bn | us-gaap:Assets |
| Current liabilities | at 2016-09-30 | $22.54bn | us-gaap:LiabilitiesCurrent |
| Total liabilities | at 2016-09-30 | $58.98bn | us-gaap:Liabilities |
| Short-term borrowings | at 2016-09-30 | $871.0m | us-gaap:ShortTermBorrowings |
| Shareholders' equity | at 2016-09-30 | $29.19bn | us-gaap:StockholdersEquity |
| Shares outstanding | at 2016-09-30 | 823,405,687 shares | dei:EntityCommonStockSharesOutstanding |

## Management's discussion and analysis

As filed, 70,191 characters.

### BUSINESS OVERVIEW

We are a global provider of high technology products and services to the building systems and aerospace industries. Our operations for the periods presented herein are classified into four principal business segments: Otis, UTC Climate, Controls & Security, Pratt & Whitney, and UTC Aerospace Systems. Otis and UTC Climate, Controls & Security are referred to as the "commercial businesses," while Pratt & Whitney, and UTC Aerospace Systems are referred to as the "aerospace businesses." On November 6, 2015, we completed the sale of Sikorsky to Lockheed Martin Corp. for approximately $9.1 billion in cash. The results of operations and the related cash flows of Sikorsky have been reclassified to Discontinued Operations in our Condensed Consolidated Statements of Operations and Cash Flows for all periods presented.

The current status of significant factors affecting our business environment in 2016 is discussed below. For additional discussion, refer to the "Business Overview" section in Management's Discussion and Analysis of Financial Condition and Results of Operations in our 2015 Annual Report, which is incorporated by reference in our 2015 Form 10-K.

### General

Our worldwide operations can be affected by industrial, economic and political factors on both a regional and global level. To limit the impact of any one industry, or the economy of any single country on our consolidated operating results, our strategy has been, and continues to be, the maintenance of a balanced and diversified portfolio of businesses. Our operations include original equipment manufacturing (OEM) and extensive related aftermarket parts and services in both our commercial and aerospace businesses. Our business mix also reflects the combination of shorter cycles at UTC Climate, Controls & Security and in our commercial aerospace aftermarket businesses, and longer cycles at Otis and in our aerospace OEM businesses. Our customers include companies in the private sector and governments, and our businesses reflect an extensive geographic diversification that has evolved with the continued globalization of world economies.

The global economy continues to expand in 2016 with world gross domestic product (GDP) growth projected to reach approximately 2.4% reflecting modest growth in the U.S. and Europe and a slowing but still growing economy in China. U.S. GDP growth is forecasted to be 1.4%, reflecting a mixed outlook with an improving housing market and growth in new jobs tempered by lower productivity and lower corporate profits. Although emerging markets have historically led global growth relative to advanced and developing countries, slowing growth rates in China and contraction in Russia and Brazil have tempered growth expectations for emerging markets in 2016 to approximately 3.9%.

In a referendum on June 23, 2016, voters in the United Kingdom (the U.K.) voted in favor of the U.K.'s exiting the European Union (the EU). Since the vote, the pound sterling has weakened significantly, but most financial markets have recovered to the levels prior to the vote. However, the manner in which the U.K. decides to exit the EU could have negative macroeconomic consequences. Our 2015 full year sales in the U.K. were approximately $2 billion and represented less than 4 percent of our overall sales, and we do not believe the U.K.'s withdrawal from the EU will significantly impact our businesses in the near term.

Our military businesses sales are affected by U.S. Department of Defense budget and spending levels. Total sales to the U.S. Government were $1.4 billion and $1.3 billion, or 10% of total UTC sales, in the quarters ended September 30, 2016 and 2015. The defense portion of our aerospace business is affected by changes in market demand and the global political environment. Our participation in long-term production and development programs for the U.S. Government has and is expected to contribute positively to our results in 2016.

### Discontinued Operations

On November 6, 2015, we completed the sale of Sikorsky to Lockheed Martin Corp. for approximately $9.1 billion in cash. As noted above, the results of operations and the related cash flows of Sikorsky have been reclassified to Discontinued Operations in our Condensed Consolidated Statements of Operations, Comprehensive Income and Cash Flows for all periods presented. Proceeds from the sale were used to fund $6.0 billion of share repurchases through accelerated share repurchase (ASR) agreements entered into on November 11, 2015. In connection with the sale of Sikorsky, we have made tax payments of approximately $2.5 billion in 2016. We expect remaining tax payments related to the sale of Sikorsky to be less than $100 million.

### Acquisition Activity

Our growth strategy contemplates acquisitions. Our operations and results can be affected by the rate and extent to which appropriate acquisition opportunities are available, acquired businesses are effectively integrated, and anticipated synergies or cost savings are achieved. During the nine months ended September 30, 2016, our investment in business acquisitions was

$537 million, including debt assumed of $2 million, which includes the acquisition of a majority interest in an Italian-based heating products and services company by UTC Climate, Controls & Security and a number of small acquisitions primarily in our commercial businesses. We expect cash investment in acquisitions to be approximately $1 billion in 2016. However, actual acquisition spending may vary depending upon the timing, availability and value of acquisition opportunities.

### Other

Government legislation, policies and regulations can have a negative impact on our worldwide operations. Government regulation of refrigerants and energy efficiency standards, elevator safety codes and fire protection regulations are important to our commercial businesses. Government and market-driven safety and performance regulations, restrictions on aircraft engine noise and emissions, and government procurement practices can impact our aerospace and defense businesses.

Global economic and political conditions, changes in raw material and commodity prices, interest rates, foreign currency exchange rates, energy costs, levels of end market demand in construction, levels of air travel, the financial condition of commercial airlines, and the impact from natural disasters and weather conditions create uncertainties that could impact our earnings outlook for the remainder of 2016. See Part I, Item 1A, "Risk Factors" in our 2015 Form 10-K for further discussion.

### CRITICAL ACCOUNTING ESTIMATES

Preparation of our financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, sales and expenses. We believe the most complex and sensitive judgments, because of their significance to the Consolidated Financial Statements, result primarily from the need to make estimates about the effects of matters that are inherently uncertain. Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 1 to the Consolidated Financial Statements in our 2015 Annual Report, incorporated by reference in our 2015 Form 10-K, describe the significant accounting estimates and policies used in preparation of the Consolidated Financial Statements. Actual results in these areas could differ from management's estimates. There have been no significant changes in our critical accounting estimates during the nine months ended September 30, 2016.

### RESULTS OF OPERATIONS

### Net Sales

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Net Sales | $14,354 | $13,788 | $42,585 | $41,798 |

The factors contributing to the total percentage change year-over-year in total net sales for the quarter and nine months ended September 30, 2016 are as follows:

|  | Quarter Ended September 30, 2016 | Nine Months Ended September 30, 2016 |
| --- | ---: | ---: |
| Organic change | 5% | 3% |
| Foreign currency translation | (1)% | (2)% |
| Acquisitions and divestitures, net | 1% | 1% |
| Other | (1)% | — |
| Total % Change | 4% | 2% |

During the quarter ended September 30, 2016, organic sales growth was driven by Pratt & Whitney (13%) and UTC Aerospace Systems (6%), while Otis and UTC Climate, Controls & Security sales were flat. The organic sales growth at Pratt & Whitney was primarily driven by higher total aftermarket and military OEM sales. The organic sales growth at UTC Aerospace Systems was primarily due to an increase in commercial OEM sales for both legacy and new programs, and commercial aftermarket sales volume. Higher service sales at Otis were offset by a decline in new equipment sales. Growth in UTC Climate, Controls & Security's residential heating, ventilation and air conditioning (HVAC) sales was offset by a decline in the transport refrigeration business.

During the nine months ended September 30, 2016, organic sales growth at Pratt & Whitney (8%), UTC Aerospace Systems (3%), and Otis (2%), was partially offset by a decline at UTC Climate, Controls & Security (1%). The organic sales growth at Pratt & Whitney primarily reflects higher commercial aftermarket sales. The organic sales growth at UTC Aerospace

Systems was primarily due to an increase in commercial OEM and aftermarket sales volume. The organic sales growth at Otis was primarily driven by higher service sales in the Americas and Asia and higher new equipment sales in North America partially offset by lower new equipment sales in China. The decline in sales at UTC Climate, Controls & Security was primarily driven by lower container volume in the refrigeration business.

### Cost of Products and Services Sold

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Cost of products sold | $7,522 | $7,114 | $22,542 | $21,952 |
| Percentage of product sales | 73.8% | 73.8% | 74.5% | 73.9% |
| Cost of services sold | $2,820 | $2,686 | $8,195 | $7,826 |
| Percentage of service sales | 67.8% | 64.8% | 66.4% | 64.8% |
| Total cost of products and services sold | $10,342 | $9,800 | $30,737 | $29,778 |

The factors contributing to the percentage change year-over-year for the quarter and nine months ended September 30, 2016 in total cost of products and services sold are as follows:

|  | Quarter Ended September 30, 2016 | Nine Months Ended September 30, 2016 |
| --- | ---: | ---: |
| Organic change | 6% | 4% |
| Foreign currency translation | — | (2)% |
| Acquisitions and divestitures, net | 1% | 1% |
| Other | (1)% | — |
| Total % Change | 6% | 3% |

The organic increase in total cost of products and services sold in the quarter and nine months ended September 30, 2016 was driven by the organic sales increase noted above, as well as unfavorable year-over-year contract performance and contract termination benefits and settlements at Pratt & Whitney, an increase in negative engine margin in 2016 relative to 2015 associated with OEM sales mix within Pratt & Whitney, partially offset by the impact of lower commodity costs at UTC Climate, Controls & Security. Foreign exchange fluctuations primarily at Otis and UTC Climate, Controls & Security were neutral for the quarter ended September 30, 2016 and provided a benefit through lower cost of sales of approximately 2% for the nine months ended September 30, 2016.

### Gross Margin

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Gross margin | $4,012 | $3,988 | $11,848 | $12,020 |
| Percentage of net sales | 28.0% | 28.9% | 27.8% | 28.8% |

The 90 basis point decline in gross margin as a percentage of sales for the quarter ended September 30, 2016 primarily reflects lower gross margin at Pratt & Whitney (80 basis points) driven by unfavorable year-over-year contract performance and contract termination benefits and settlements, and the unfavorable impact of customer contract negotiations.

The 100 basis point decrease in gross margin as a percentage of sales for nine months ended September 30, 2016 is primarily due to lower gross margin at Pratt & Whitney (80 basis points) driven by unfavorable year-over-year contract performance and contract termination benefits and settlements, an increase in negative engine margin, and the unfavorable impact of customer contract negotiations. Gross margin also decreased at UTC Aerospace Systems (20 basis points) driven by unfavorable commercial and military OEM mix. Lower gross margin at Otis resulting from unfavorable pricing, was offset by higher gross margin at UTC Climate, Controls & Security primarily driven by lower commodities cost.

### Research and Development

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Company-funded | $582 | $546 | $1,711 | $1,668 |
| Percentage of net sales | 4.1% | 4.0% | 4.0% | 4.0% |
| Customer-funded | $350 | $384 | $1,065 | $1,209 |
| Percentage of net sales | 2.4% | 2.8% | 2.5% | 2.9% |

Research and development spending is subject to the variable nature of program development schedules, and therefore, year-over-year fluctuations in spending levels are expected. The majority of the company-funded spending is incurred by the aerospace businesses. The year-over-year increase in company-funded research and development (7%) for the quarter ended September 30, 2016 is primarily driven by higher research and development spending at Pratt & Whitney (3%) as development programs progress towards certification, and higher spending at Otis (2%) and UTC Aerospace Systems (1%). Customer-funded research and development declined 9%, primarily at UTC Aerospace Systems (8%) due to lower spend related to several commercial aerospace programs.

The year-over-year increase in company-funded research and development (3%) for the nine months ended September 30, 2016 is primarily driven by higher research and development costs within Pratt & Whitney (3%) as development programs progress towards certification, and higher spending at Otis (2%). These increases were partially offset by lower spend within UTC Aerospace Systems related to several commercial aerospace programs (1%). Customer-funded research and development declined (12%) due primarily to lower spending on U.S. Government and commercial engine programs at Pratt & Whitney (6%), and lower spend within UTC Aerospace Systems related to several commercial aerospace programs (6%).

We expect company-funded research and development for the full year 2016 to be up slightly from 2015 levels.

### Selling, General and Administrative

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Selling, general and administrative expenses | $1,390 | $1,359 | $4,204 | $4,261 |
| Percentage of net sales | 9.7% | 9.9% | 9.9% | 10.2% |

Selling, general and administrative expenses increased 2% in the quarter ended September 30, 2016 due to higher expenses at Otis (2%) reflecting higher labor and information technology costs; and higher expenses related to recent acquisitions (2%), partially offset by lower pension costs.

Selling, general and administrative expenses declined 1% in the nine months ended September 30, 2016 due to lower pension costs (4%); partially offset by higher expenses at Otis (2%) reflecting higher labor and information technology costs; and higher expenses related to recent acquisitions (1%).

### Other Income, Net

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Other income, net | $211 | $219 | $600 | $808 |

Other income, net includes equity earnings in unconsolidated entities, royalty income, foreign exchange gains and losses, as well as other ongoing and nonrecurring items. The year-over-year decrease in other income, net (4%) in the quarter ended September 30, 2016 reflects the absence of prior year favorable transactional foreign exchange gains from mark to market adjustments and embedded foreign currency derivatives within certain elevator new equipment contracts (11%), partially offset by higher joint venture income (6%).

The year-over-year decrease in other income, net (26%) in the nine months ended September 30, 2016 reflects the absence of the prior year gains from the remeasurement to fair value of previously held equity interests in UTC Climate, Controls & Security joint venture investments (19%), and the absence of the favorable impact of a prior year contract termination at Pratt & Whitney (4%).

### Interest Expense, Net

*(Dollars in millions)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Interest expense | $252 | $223 | $741 | $707 |
| Interest income | (27) | (39) | (68) | (89) |
| Interest expense, net | $225 | $184 | $673 | $618 |
| Average interest expense rate | 4.0% | 4.0% | 4.1% | 4.1% |

The increase in interest expense during the quarter and nine months ended September 30, 2016 relative to the prior year is due to additional interest expense on non-U.S. long-term debt issued in February, 2016, partially offset by lower average outstanding U.S. long-term debt balances and related interest expense.

### Income Taxes

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Effective tax rate | 24.3% | 28.0% | 26.4% | 27.8% |

The decrease in the effective tax rate for the quarter and nine months ended September 30, 2016 primarily reflects the favorable non-cash impact related to the conclusion of a review by the Internal Revenue Service of Goodrich’s 2011-2012 tax years through the date of acquisition. Additionally, the lower forecasted effective tax rate for 2016 has also contributed to the decrease in effective tax rate in comparison to 2015.

The decrease in the effective tax rate for the nine months ended September 30, 2016 reflects the items noted above, as well as the absence of the amount recorded in 2015 related to the non-taxable gain recognized on the remeasurement to fair value of a previously held equity interest in a UTC Climate, Controls & Security joint venture.

We estimate our full year 2016 continuing operations annual effective income tax rate to be approximately 28%, excluding restructuring and non-operational nonrecurring items.

### Net Income from Continuing Operations Attributable to Common Shareowners

*(Dollars in millions, except per share amounts)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Net income from continuing operations attributable to common shareowners | $1,443 | $1,427 | $4,041 | $4,252 |
| Diluted earnings per share from continuing operations | $1.74 | $1.61 | $4.86 | $4.76 |

Net income from continuing operations attributable to common shareowners for the quarter ended September 30, 2016 includes restructuring charges, net of tax benefit, of $8 million as well as a net charge for significant non-operational and/or nonrecurring items, net of tax, of $11 million. The effect of restructuring charges and nonrecurring items on diluted earnings per share for the quarter ended September 30, 2016 was $0.02 per share while the effect of foreign currency translation and hedging generated a favorable impact of $0.02 per diluted share.

Net income from continuing operations attributable to common shareowners for the quarter ended September 30, 2015 includes restructuring charges, net of tax benefit, of $52 million. The effect of restructuring charges on diluted earnings per share for the quarter ended September 30, 2015 was $0.06 per share while the effect of foreign currency translation and hedging generated an unfavorable effect of $0.05 per diluted share.

Net income from continuing operations attributable to common shareowners for the nine months ended September 30, 2016 includes restructuring charges, net of tax benefit, of $128 million as well as a net charge for significant non-operational and/or nonrecurring items, net of tax, of $21 million. The effect of restructuring charges and nonrecurring items on diluted earnings per share for the nine months ended September 30, 2016 was $0.18 per share. The effect of foreign currency translation and hedging generated a favorable impact of $0.02 on earnings per diluted share.

Net income from continuing operations attributable to common shareowners for the nine months ended September 30, 2015 includes restructuring charges, net of tax benefit, of $140 million as well as a net benefit from significant non-operational and/or nonrecurring items, net of tax, of $127 million. The effect of restructuring charges on diluted earnings per share for the nine months ended September 30, 2015 was $0.15, which was partially offset by a net benefit from significant nonrecurring items of $0.14 per share. The impact of foreign currency translation and hedging generated an unfavorable effect of $0.18 per diluted share.

### Net Income from Discontinued Operations Attributable to Common Shareowners

*(Dollars in millions, except per share amounts)*

|  | Quarter Ended September 30, 2016 | 2015 | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Net income (loss) from discontinued operations attributable to common shareowners | $37 | $(65) | $1 | $78 |
| Diluted earnings (loss) per share from discontinued operations | $0.04 | $(0.07) | $— | $0.09 |

Net income from discontinued operations attributable to common shareowners for the quarter ended September 30, 2016 reflects approximately $40 million of income tax benefit, including the impacts related to filing Sikorsky's 2015 tax returns. Net income from discontinued operations attributable to common shareowners for the nine months ended September 30, 2016 reflects the final purchase price adjustment for the sale of Sikorsky, and the net effects of filing Sikorsky's 2015 tax returns. For the quarter and nine months ended September 30, 2015, net income from discontinued operations attributable to common shareowners primarily reflects income from Sikorsky's operations, a reduction to the gain on disposal and additional associated tax expense.

### Restructuring Costs

*(Dollars in millions)*

|  | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: |
| Restructuring costs included within continuing operations | $201 | $205 |
| Restructuring costs included within discontinued operations | — | 139 |
| Restructuring costs | $201 | $344 |

Restructuring actions are an essential component of our operating margin improvement efforts and relate to both existing operations and those recently acquired. Charges generally arise from severance related to workforce reductions, facility exit and lease termination costs associated with the consolidation of field and manufacturing operations and costs to exit legacy programs. We expect to incur restructuring costs within continuing operations in 2016 of approximately $350 million to $400 million, including trailing costs related to prior actions associated with our continuing cost reduction efforts and the integration of acquisitions. We continue to closely monitor the economic environment and may undertake further restructuring actions to keep our cost structure aligned with the demands of the prevailing market conditions.

**2016 Actions.** During the nine months ended September 30, 2016, we recorded net pre-tax restructuring charges of $143 million relating to ongoing cost reduction actions initiated in 2016. We are targeting to complete in 2016 and 2017 the majority of the remaining workforce and facility related cost reduction actions initiated in 2016. Approximately 80% of the total pre-tax charge will require cash payments, which we have funded and expect to continue to fund with cash generated from operations. During the nine months ended September 30, 2016, we had cash outflows of approximately $40 million related to the 2016 actions. We expect to incur additional restructuring charges of $99 million to complete these actions. We expect recurring pre-tax savings in continuing operations to increase over the two-year period subsequent to initiating the actions to approximately $100 million annually.

**2015 Actions.** During the nine months ended September 30, 2016 and 2015, we recorded net pre-tax restructuring charges of $44 million and $271 million, respectively, for actions initiated in 2015. During the quarter ended September 30, 2016, we had reversals of previously accrued restructuring reserves of approximately $32 million, the majority of which related to a Pratt & Whitney business that was sold in the third quarter of 2016 after originally being scheduled for closure. We are targeting to complete in 2016 the majority of the remaining workforce and facility related cost reduction actions initiated in 2015. Approximately 63% of the total pre-tax charge will require cash payments, which we have and expect to continue to fund with cash generated from operations. During the nine months ended September 30, 2016, we had cash outflows of approximately $146 million related to the 2015 actions. We expect to incur additional restructuring charges of $103 million to complete these actions. We expect recurring pre-tax savings in continuing operations to increase over the two-year period subsequent to initiating the actions to approximately $430 million annually, of which, approximately $224 million was realized during the nine months ended September 30, 2016.

For additional discussion of restructuring, see Note 8 to the Condensed Consolidated Financial Statements.

### Segment Review

Segments are generally based on the management structure of the businesses and the grouping of similar operating companies, where each management organization has general operating autonomy over diversified products and services. We have previously reported the results of Sikorsky within our Aerospace Businesses as a separate reporting segment, but have reclassified Sikorsky's results to discontinued operations for all periods presented, as noted in the "Discontinued Operations" section of our Business Overview in Management’s Discussion and Analysis of Financial Condition and Results of Operations. Adjustments to reconcile segment reporting to the consolidated results for the quarters and nine months ended September 30, 2016 and 2015 are included in "Eliminations and other" below, which also includes certain smaller subsidiaries. We attempt to quantify material cited factors within our discussion of the results of each segment whenever those factors are determinable. However, in some instances, the factors we cite within our segment discussion are based upon input measures or qualitative information that does not lend itself to quantification when discussed in the context of the financial results measured on an output basis and are not, therefore, quantified in the below discussions.

### Commercial Businesses

Our commercial businesses generally serve customers in the worldwide commercial and residential property industries, and UTC Climate, Controls & Security also serves customers in the commercial and transport refrigeration industries. Sales in the commercial businesses are influenced by a number of external factors, including fluctuations in residential and commercial construction activity, regulatory changes, interest rates, labor costs, foreign currency exchange rates, customer attrition, raw material and energy costs, credit markets and other global and political factors. UTC Climate, Controls & Security's financial performance can also be influenced by production and utilization of transport equipment, and, in the case of its residential business, weather conditions. To ensure adequate supply of products in the distribution channel, UTC Climate, Controls & Security customarily offers its customers incentives to purchase products. The principal incentive program provides reimbursements to distributors for offering promotional pricing on UTC Climate, Controls & Security products. We account for incentive payments made as a reduction to sales.

At constant currency and excluding the effect of acquisitions and divestitures, UTC Climate, Controls & Security equipment orders in the quarter ended September 30, 2016 were flat in comparison to the same period of the prior year as an increase in residential HVAC orders (11%) was offset by declines in the transport refrigeration (8%) and commercial HVAC (2%) businesses. Within the Otis segment, new equipment orders in the quarter increased 2% in comparison to the prior year as order growth in Europe and the Middle East (21%) and the Asia region excluding China (12%) were offset by order declines in China (10%) and the Americas (1%).

Summary performance for each of the commercial businesses for the quarters ended September 30, 2016 and 2015 was as follows:

*(Dollars in millions)*

|  | Otis 2016 | 2015 | Change | UTC Climate, Controls & Security 2016 | 2015 | Change |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Net Sales | $3,018 | $3,043 | (1)% | $4,415 | $4,279 | 3% |
| Cost of Sales | 2,025 | 2,047 | (1)% | 3,067 | 2,948 | 4% |
|  | 993 | 996 | — | 1,348 | 1,331 | 1% |
| Operating Expenses and Other | 409 | 354 | 16% | 547 | 560 | (2)% |
| Operating Profits | $584 | $642 | (9)% | $801 | $771 | 4% |

Operating Profit Margins 19.4 % 21.1 % 18.1 % 18.0 %

Summary performance for each of the commercial businesses for the nine months ended September 30, 2016 and 2015 was as follows:

*(Dollars in millions)*

|  | Otis 2016 | 2015 | Change | UTC Climate, Controls & Security 2016 | 2015 | Change |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Net Sales | $8,830 | $8,886 | (1)% | $12,602 | $12,585 | — |
| Cost of Sales | 5,972 | 5,978 | — | 8,708 | 8,719 | — |
|  | 2,858 | 2,908 | (2)% | 3,894 | 3,866 | 1% |
| Operating Expenses and Other | 1,227 | 1,112 | 10% | 1,615 | 1,543 | 5% |
| Operating Profits | $1,631 | $1,796 | (9)% | $2,279 | $2,323 | (2)% |

Operating Profit Margins 18.5 % 20.2 % 18.1 % 18.5 %

### Otis –

### Quarter Ended September 30, 2016 Compared with Quarter Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | — | (1)% | — | — | — |
| Cost of Sales | — | (1)% | — | — | — |
| Operating Profits | (11)% | (1)% | — | 1% | 2% |

Organic sales were flat for the quarter as higher service sales (1%), driven by growth in the Americas and Asia, were offset by a decline in new equipment sales (1%). The new equipment sales decline was driven by China (3%), partially offset by growth in North America (2%).

The operational profit decrease of 11% was driven by unfavorable price and mix (13%) primarily in China and Europe; the absence of prior year favorable transactional foreign exchange gains from mark to market adjustments and embedded foreign currency derivatives within certain new equipment contracts (4%); and higher research and development spending (2%). These decreases were partially offset by favorable productivity and commodity costs and profit contribution from higher service sales volume.

### Nine Months Ended September 30, 2016 Compared with Nine Months Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | 2% | (3)% | — | — | — |
| Cost of Sales | 3% | (3)% | — | — | — |
| Operating Profits | (7)% | (2)% | — | (1)% | 1% |

The organic sales increase of 2% primarily reflects higher service sales (1%), driven by growth in the Americas and Asia, and new equipment sales growth (1%). The growth in new equipment sales was driven by growth in North America (2%), partially offset by a decline in China (2%).

The operational profit decrease of 7% was driven by unfavorable price and mix (10%), primarily in China and Europe; the absence of prior year favorable transactional foreign exchange gains from mark to market adjustments and embedded foreign currency derivatives within certain new equipment contracts (2%); and higher research and development spending (1%); partially offset by higher volume (4%) and favorable productivity and commodity costs (combined 3%).

### UTC Climate, Controls & Security –

### Quarter Ended September 30, 2016 Compared with Quarter Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | — | (1)% | 4% | — | — |
| Cost of Sales | — | (1)% | 5% | — | — |
| Operating Profits | 5% | (1)% | — | — | — |

Organic sales were flat in the quarter as growth in North America residential HVAC (1%) was offset by a decline in the transport refrigeration business (1%) and a decline in commercial HVAC sales in the Middle East (1%).

The 5% operational profit increase was driven by net restructuring and productivity savings (combined 3%) and lower commodities cost net of pricing (combined 2%).

### Nine Months Ended September 30, 2016 Compared with Nine Months Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | (1)% | (1)% | 2% | — | — |
| Cost of Sales | (2)% | (1)% | 3% | — | — |
| Operating Profits | 7% | (3)% | — | — | (6)% |

Organic sales decreased by 1% primarily driven by a decline in the transport refrigeration business (1%) due to lower container volume.

The 7% operational profit increase was driven by lower commodities cost (5%), and productivity and restructuring savings (combined 4%), partly offset by the impact of lower sales volume and adverse sales mix (combined 3%). The 6% decrease in "Other" is driven by the absence of a prior year gain as a result of a fair value adjustment related to acquisitions of a controlling interest in joint venture investments (6%), and a gain on a property sale (1%). "Other" also includes current year gains related to the acquisition of a controlling interest in a joint venture investment in the Middle East and from the sale of an investment in Australia (combined 1%), which were offset by a prior year gain from an acquisition of a controlling interest in another joint venture investment.

### Aerospace Businesses

The aerospace businesses serve both commercial and government aerospace customers. Revenue passenger miles (RPMs), U.S. Government military and space spending, and the general economic health of airline carriers are all barometers for our aerospace businesses. Performance in the general aviation sector is closely tied to the overall health of the economy and is positively correlated to corporate profits.

We continue to see growth in a strong commercial airline industry which is benefiting from traffic growth and lower fuel costs. Airline traffic, as measured by RPMs, grew approximately 5% in the first eight months of 2016, while jet fuel costs have declined approximately 10% relative to prices one year ago.

Our commercial aftermarket businesses continue to evolve as an increasing proportion of our aerospace businesses' customers are covered under Fleet Management Programs (FMPs). FMPs are comprehensive long-term spare part and service agreements with our customers. We expect a continued shift to FMPs in lieu of transactional spare part sales as new engines enter our customers' fleets on FMPs and legacy fleets are retired. For the first nine months of 2016, as compared with 2015, commercial aerospace aftermarket sales increased 15% at Pratt & Whitney and 2% at UTC Aerospace Systems.

We record changes in contract estimates using the cumulative catch-up method in accordance with the Revenue Recognition Topic of the FASB ASC. Operating profit in the quarter and nine months ended September 30, 2016 included significant net unfavorable changes in aerospace contract estimates of $24 million and $20 million, respectively, primarily representing unfavorable contract adjustments recorded at Pratt & Whitney. Operating profit in the quarter and nine months ended September 30, 2016 also includes a charge provided for ongoing customer contract negotiations at Pratt & Whitney. The amount recorded may be subject to change as negotiations progress.

As previously disclosed, Pratt & Whitney's PurePower PW1500G engine models have been selected by Bombardier to power the new CSeries passenger aircraft, which entered into service on July 15, 2016. There have been multi-year delays in the development of the CSeries aircraft. Notwithstanding these delays, Bombardier reports that they have received over 300 orders for the aircraft, have certified the initial aircraft model and expect to close the certification process for all aircraft models in 2016. We have made various investments in support of the production and delivery of our PW1500G engines and systems for the CSeries program, which we currently expect to recover through future deliveries of PW1500G powered CSeries aircraft. We will continue to monitor the progress of the program and our ability to recover our investments.

Summary performance for each of the aerospace businesses for the quarters ended September 30, 2016 and 2015 was as follows:

*(Dollars in millions)*

|  | Pratt & Whitney 2016 | 2015 | Change | UTC Aerospace Systems 2016 | 2015 | Change |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Net Sales | $3,501 | $3,234 | 8% | $3,646 | $3,457 | 5% |
| Cost of Sales | 2,778 | 2,464 | 13% | 2,681 | 2,540 | 6% |
|  | 723 | 770 | (6)% | 965 | 917 | 5% |
| Operating Expenses & Other | 383 | 351 | 9% | 365 | 345 | 6% |
| Operating Profits | $340 | $419 | (19)% | $600 | $572 | 5% |

Operating Profit Margins 9.7 % 13.0 % 16.5 % 16.5 %

Summary performance for each of the aerospace businesses for the nine months ended September 30, 2016 and 2015 was as follows:

*(Dollars in millions)*

|  | Pratt & Whitney 2016 | 2015 | Change | UTC Aerospace Systems 2016 | 2015 | Change |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Net Sales | $10,902 | $10,243 | 6% | $10,867 | $10,637 | 2% |
| Cost of Sales | 8,668 | 7,873 | 10% | 7,976 | 7,739 | 3% |
|  | 2,234 | 2,370 | (6)% | 2,891 | 2,898 | — |
| Operating Expenses & Other | 1,098 | 1,045 | 5% | 1,171 | 1,177 | (1)% |
| Operating Profits | $1,136 | $1,325 | (14)% | $1,720 | $1,721 | — |

Operating Profit Margins 10.4 % 12.9 % 15.8 % 16.2 %

### Pratt & Whitney –

### Quarter Ended September 30, 2016 Compared with Quarter Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation\* | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | 13% | 1% | — | — | (6)% |
| Cost of Sales | 18% | — | — | (1)% | (4)% |
| Operating Profits | (17)% | 6% | — | 10% | (18)% |

The organic sales increase of 13% primarily reflects higher commercial aftermarket sales (5%), military engine sales (4%) and military aftermarket sales (3%). Included in the sales increase is the absence of prior year startup challenges related to the transition to a third-party material logistics center that delayed some large engine shipments during the third quarter of 2015. “Other” primarily reflects a sales reduction recorded in connection with provisions established for ongoing customer contract negotiations (6%).

Pratt & Whitney’s operating profit includes lower pension cost and restructuring savings across its businesses. The operational profit decrease (17%) was primarily due to unfavorable year-over-year contract performance, contract termination benefits and contract settlements (27%), lower commercial engines profit contribution driven by unfavorable engine mix (15%), higher research and development spending (5%) and the absence of prior year licensing arrangements (5%). These decreases were partially offset by profit contribution from strong commercial aftermarket volume (23%), higher military aftermarket volume (7%) and higher military engines volume partially offset by unfavorable mix (5%). “Other” primarily reflects a charge provided for ongoing customer contract negotiations (23%), partially offset by the benefit of licensing certain intellectual property rights during the quarter (5%).

### Nine Months Ended September 30, 2016 Compared with Nine Months Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation\* | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | 8% | — | — | — | (2)% |
| Cost of Sales | 12% | (1)% | — | — | (1)% |
| Operating Profits | (11)% | 4% | — | (1)% | (6)% |

\* *For Pratt & Whitney only, the transactional impact of foreign exchange hedging at Pratt & Whitney Canada has been netted against the translational foreign exchange impact for presentation purposes in the above tables. For all other segments, these foreign exchange transactional impacts are included within the organic/operational caption in their respective tables. Due to its potential significance to Pratt & Whitney's overall operating results, we believe it is useful to segregate the foreign exchange transactional impact in order to clearly identify the underlying financial performance.*

The organic sales increase of 8% primarily reflects higher commercial aftermarket sales (7%), military engine and aftermarket sales (2%), partially offset by unfavorable commercial engine sales mix (1%). Included in the sales increase is the absence of prior year startup challenges related to the transition to a third-party material logistics center that delayed some large engine shipments during the third quarter of 2015.

The operational profit decrease (11%) was primarily due to lower profit contribution from large commercial engines driven by unfavorable engine mix (14%), unfavorable year-over-year contract performance, contract termination benefits and contract settlements (13%), lower engine volume at Pratt Canada (9%), higher research and development spending (4%), and the absence of prior year licensing arrangements (2%). These decreases were partially offset by strong commercial aftermarket volume (26%), sales of legacy hardware (3%), and the profit contribution from higher military aftermarket sales (2%). “Other” primarily reflects a charge provided for ongoing customer contract negotiations (7%).

### UTC Aerospace Systems –

### Quarter Ended September 30, 2016 Compared with Quarter Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | 6% | (1)% | — | — | — |
| Cost of Sales | 6% | — | — | — | — |
| Operating Profits | (2)% | 2% | (1)% | 1% | 5% |

The organic sales growth of 6% primarily reflects an increase in commercial OEM sales for both legacy and new programs, and commercial aftermarket sales volume (combined, 9%), partially offset by lower military OEM and aftermarket sales volume (2%) and the absence of the favorable impact of a prior year contract termination (1%).

The operational profit decrease of 2% primarily reflects the absence of the favorable impact from a prior year contract termination benefit (7%), prior year sales to a third party aftermarket parts company (4%), and a prior year settlement (3%). The decrease also reflects lower military OEM and aftermarket profit contribution (3%), primarily driven by lower sales volume, and lower income from licensing agreements (3%). These declines were partially offset by higher commercial aerospace OEM and aftermarket profit contribution (13%), and lower pension costs (6%). The 5% increase in "Other" primarily reflects gains recognized on the sale of non-core assets.

### Nine Months Ended September 30, 2016 Compared with Nine Months Ended September 30, 2015

|  | Factors Contributing to Total % Change Organic / Operational | FX Translation | Acquisitions / Divestitures, net | Restructuring Costs | Other |
| --- | ---: | ---: | ---: | ---: | ---: |
| Net Sales | 3% | (1)% | — | — | — |
| Cost of Sales | 4% | (1)% | — | — | — |
| Operating Profits | (3)% | 1% | — | 2% | — |

39

The organic sales growth of 3% primarily reflects an increase in commercial OEM and aftermarket sales volume (5%), partially offset by lower military OEM and aftermarket sales volume (2%).

The operational profit decrease of 3% primarily reflects lower military profit contribution (5%) driven primarily by lower sales volume, and the absence of the favorable impact from prior year customer contract negotiations, dispute resolutions and other settlements (5%), a prior year contract termination benefit (2%), and prior year sales to a third party aftermarket parts company (1%). These declines were partially offset by lower pension costs (6%), higher net commercial OEM and aftermarket profit contribution (2%), and lower research and development costs (1%).

### Eliminations and other –

*(Dollars in millions)*

|  | Net Sales Quarter Ended September 30, 2016 | 2015 | Operating Profits Quarter Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Eliminations and other | $(226) | $(225) | $18 | $(1) |
| General corporate expenses | — | — | (92) | (101) |

*(Dollars in millions)*

|  | Net Sales Nine Months Ended September 30, 2016 | 2015 | Operating Profits Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: | ---: | ---: |
| Eliminations and other | $(616) | $(553) | $47 | $65 |
| General corporate expenses | — | — | (280) | (331) |

Eliminations and other reflects the elimination of sales, other income and operating profit transacted between segments, as well as the operating results of certain smaller businesses. The year-over-year increase in the amount of sales eliminations for the nine months ended September 30, 2016, as compared with the same period of 2015, reflects an increase in the amount of inter-segment sales eliminations, principally between our aerospace businesses. The year-over-year decline in operating profit for the nine months ended September 30, 2016 as compared with the same period of 2015, reflects a decrease in royalty income. The year-over-year decline in general corporate expenses for the nine months ended September 30, 2016, as compared with the same period in 2015, primarily reflects lower expenses related to salaries, wages and employee benefits.

### LIQUIDITY AND FINANCIAL CONDITION

*(Dollars in millions)*

|  | September 30, 2016 | December 31, 2015 | September 30, 2015 |
| --- | ---: | ---: | ---: |
| Cash and cash equivalents | $7,107 | $7,075 | $5,477 |
| Total debt | 22,665 | 20,425 | 22,667 |
| Net debt (total debt less cash and cash equivalents) | 15,558 | 13,350 | 17,190 |
| Total equity | 30,764 | 28,844 | 32,051 |
| Total capitalization (debt plus equity) | 53,429 | 49,269 | 54,718 |
| Net capitalization (debt plus equity less cash and cash equivalents) | 46,322 | 42,194 | 49,241 |

|  |  |  |  |
| --- | ---: | ---: | ---: |
| Debt to total capitalization | 42% | 41% | 41% |
| Net debt to net capitalization | 34% | 32% | 35% |

We assess our liquidity in terms of our ability to generate cash to fund our operating, investing and financing activities. Our principal source of liquidity is operating cash flows of continuing operations, which, after netting out capital expenditures, we generally target to approximate net income from continuing operations attributable to common shareowners. For 2016, we expect this to approximate 90% to 100% of net income from continuing operations attributable to common shareowners. In addition to operating cash flows, other significant factors that affect our overall management of liquidity include: capital expenditures, customer financing requirements, investments in businesses, dividends, common stock repurchases, pension funding, access to the commercial paper markets, adequacy of available bank lines of credit, redemptions of debt, and the ability to attract long-term capital at satisfactory terms.

As part of our long-term strategy to de-risk our defined benefit pension plans, we entered into an agreement to purchase a group annuity contract to transfer approximately $775 million of our outstanding pension benefit obligations related to certain U.S. retirees or beneficiaries, which was finalized on October 12, 2016. We have also offered certain former U.S. employees or beneficiaries with a vested pension benefit an option to take a one-time lump sum distribution in lieu of future monthly pension payments, which is expected to reduce our pension benefit obligations by approximately $995 million by the end of 2016. These transactions are expected to reduce the assets of our defined benefit pension plans by approximately $1.5 billion. As a result of these transactions, we expect to recognize a one-time pre-tax pension settlement charge in the range of $400 million to $530 million in the fourth quarter of 2016. See Note 7 to the Condensed Consolidated Financial Statements for further discussion.

Our domestic pension funds experienced a positive return on assets of 9.57% during the first nine months of 2016. Approximately 88% of these domestic pension plans' funds are invested in readily-liquid investments, including equity, fixed income, asset-backed receivables and structured products. The balance of these domestic pension plans' funds (12%) is invested in less-liquid but market-valued investments, including real estate and private equity. Across our global pension plans, the impact of higher discount rates for pension obligations, a change in the manner of estimating discount rates for service cost and interest cost and the continued recognition of prior pension investment gains, partially offset by a reduction in the expected return on plan assets and 2015 actual returns on plan assets, will result in decreased pension expense in 2016 of approximately $500 million as compared to 2015, excluding the expected one-time pre-tax pension settlement charge discussed above. The $500 million decreased pension expense includes a $215 million decrease as a result of the change in approach to estimating the service and interest components of net periodic pension cost for our significant pension plans, as more fully discussed in Note 7.

Historically, our strong debt ratings and financial position have enabled us to issue long-term debt at favorable market rates. Our ability to obtain debt financing at comparable risk-based interest rates is partly a function of our existing debt-to-total-capitalization level as well as our credit standing. Our debt-to-total-capitalization increased to 42% at September 30, 2016, primarily reflecting additional borrowings in 2015 and 2016 to fund share repurchases. The average maturity of our long-term debt at September 30, 2016 is approximately eleven years. We use our commercial paper borrowings for general corporate purposes, including the funding of potential acquisitions, debt refinancing, and repurchases of our common stock. The need for commercial paper borrowings arises when the use of domestic cash for acquisitions, dividends, and share repurchases exceeds the sum of domestic cash generation and foreign cash repatriated to the U.S.

At September 30, 2016, we had revolving credit agreements with various banks permitting aggregate borrowings of up to $4.35 billion pursuant to a $2.20 billion revolving credit agreement and a $2.15 billion multicurrency revolving credit agreement, both of which expire in August 2021. As of September 30, 2016, there were no borrowings under these revolving credit agreements. The undrawn portions of these revolving credit agreements are also available to serve as backup facilities for the issuance of commercial paper. As of September 30, 2016, our maximum commercial paper borrowing limit was $4.35 billion.

On February 22, 2016, we issued €950 million aggregate principal amount of 1.125% notes due 2021, €500 million aggregate principal amount of 1.875% notes due 2026 and €750 million aggregate principal amount of floating rate notes due 2018. The net proceeds from these debt issuances were used for general corporate purposes.

On May 4, 2015, we completed the previously announced optional remarketing of the 1.550% junior subordinated notes, which were originally issued as part of our equity units on June 18, 2012. As a result of the remarketing, these notes were redesignated as our 1.778% junior subordinated notes due May 4, 2018. On August 3, 2015, we received approximately $1.1 billion from the proceeds of the remarketing, and issued approximately 11.3 million shares of Common Stock to settle the purchase obligation of the holders of the equity units under the purchase contract entered into at the time of the original issuance of the equity units.

On March 13, 2015, we entered into ASR agreements to repurchase an aggregate of $2.65 billion of our common stock, which was largely funded by our commercial paper borrowings. Under the terms of the ASR agreements, we made the aggregate payments and received an initial delivery of approximately 18.6 million shares of our common stock, representing approximately 85% of the shares expected to be repurchased. On July 31, 2015, the shares associated with the remaining portion of the aggregate purchase were settled upon final delivery to us of approximately 4.2 million additional shares of common stock.

On November 6, 2015, we completed the sale of Sikorsky to Lockheed Martin Corp. for approximately $9.1 billion in cash. In connection with the sale of Sikorsky, we have made tax payments of approximately $2.5 billion in 2016. We expect remaining tax payments related to the sale of Sikorsky to be less than $100 million.

On November 11, 2015, we entered into ASR agreements to repurchase an aggregate of $6 billion of our common stock utilizing the net after-tax proceeds from the sale of Sikorsky. The ASR agreements provide for the repurchase of our common stock based on the average of the daily volume-weighted average prices of our common stock during the term of such ASR agreements, less a discount and subject to adjustments pursuant to the terms and conditions of the ASR agreements. Under the terms of the ASR agreements, we made the aggregate payments and received an initial delivery of approximately 51.9 million shares of our common stock, representing approximately 85% of the shares expected to be repurchased. The shares associated with the remaining portion of the aggregate purchase price have been settled over six tranches. In January 2016, the shares associated with the remaining portion of the first tranche of the aggregate purchase were settled upon final delivery to us of approximately 2.1 million shares of common stock. In September 2016, the shares associated with the remaining portion of the remaining five tranches of the aggregate purchase were settled upon final delivery to us of approximately 8.0 million additional shares of common stock.

At September 30, 2016, approximately 89% of our cash was held by UTC's foreign subsidiaries, due to our extensive international operations. We manage our worldwide cash requirements by reviewing available funds among the many subsidiaries through which we conduct our business and the cost effectiveness with which those funds can be accessed. The repatriation of cash balances from certain of our subsidiaries could have adverse tax consequences or be subject to capital controls; however, those balances are generally available without legal restrictions to fund ordinary business operations. With few exceptions, U.S. income taxes have not been provided on undistributed earnings of international subsidiaries. Our intention is to reinvest these earnings permanently or to repatriate the earnings only when it is tax effective to do so.

We continue to be involved in litigation with the German Tax Office in the German Tax Court with respect to certain tax benefits that we have claimed related to a 1998 reorganization of the corporate structure of Otis operations in Germany. We made tax and interest payments of approximately $300 million during the nine months ended September 30, 2015, to avoid additional interest accruals while we continue to litigate this matter. We do not expect to make significant additional tax or interest payments pending final resolution of this matter. See Note 15 to the Condensed Consolidated Financial Statements for a further discussion of this German tax litigation.

On occasion, we are required to maintain cash deposits with certain banks with respect to contractual obligations related to acquisitions or divestitures or other legal obligations. As of September 30, 2016 and December 31, 2015, the amount of such restricted cash was approximately $26 million and $45 million, respectively.

We believe our future operating cash flows will be sufficient to meet our future operating cash needs. Further, our ability to obtain debt or equity financing, as well as the availability under committed credit lines, provides additional potential sources of liquidity should they be required or appropriate.

### Cash Flow - Operating Activities of Continuing Operations

*(Dollars in millions)*

|  | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: |
| Net cash flows provided by operating activities of continuing operations | $4,536 | $4,044 |

Cash generated from operating activities of continuing operations in the nine months ended September 30, 2016 was approximately $492 million higher than the same period in 2015. Cash outflows for working capital improved by approximately $935 million in the nine months ended September 30, 2016 over the prior year period, which was partially offset by lower net income (net of noncash charges) of approximately $333 million, and the first of four annual payments of CAD $327 million (approximately $237 million) under the previously disclosed 2015 agreement with federal and provincial Canadian government agencies.

In the nine months ended September 30, 2016, accounts receivable increased approximately $636 million, primarily in our aerospace businesses due to the growth in commercial aerospace OEM and aftermarket sales in the period. Factoring activity in the quarter ended September 30, 2016, excluding customer-funded factoring at Pratt & Whitney related to certain extensions of contractual payment terms, was approximately $375 million higher than the prior year. Increases in inventories were primarily in our aerospace businesses supporting an increase in customers' platform deliveries and related aftermarket demand, and were partially offset by increased accounts payable at these businesses and increased customer advances at Pratt & Whitney and Otis. Increases in accrued liabilities were driven primarily by higher accruals related to taxes and interest due to the timing of payments.

For the nine months ended September 30, 2015, cash outflows for working capital were primarily driven by increases in inventories and accounts receivable, as well as net liquidations of customer advances primarily in Pratt & Whitney's military programs, partially offset by increases in accounts payable. Inventories increased at Pratt & Whitney and UTC Aerospace Systems supporting an increase in customers' platform deliveries and related aftermarket demand, as well as due to Pratt & Whitney's transition to a new third-party material logistics center during the third quarter of 2015. Inventories increased at UTC Climate, Controls & Security, primarily in international HVAC and refrigeration markets, and at Otis supporting significant projects in Europe and Asia. Accounts receivable increased primarily in our commercial businesses, driven by the U.S. commercial and residential HVAC business at UTC Climate, Controls & Security and Otis new equipment sales, primarily in North America. Reductions in accrued liabilities primarily relate to liquidation of customer advances and deferred revenues, as well as payments of approximately $300 million related to tax and interest accruals on the German tax matter discussed further in Note 15 to the Condensed Consolidated Financial Statements.

The funded status of our defined benefit pension plans is dependent upon many factors, including returns on invested assets, the level of market interest rates and actuarial mortality assumptions. We can contribute cash or UTC shares to our plans at our discretion, subject to applicable regulations. Total cash contributions to our global defined benefit pension plans during the nine months ended September 30, 2016 and 2015 were $125 million and $93 million, respectively. Although our domestic pension plans are approximately 84% funded on a projected benefit obligation basis as of September 30, 2016, and we are not required to make additional contributions through the end of 2020, we may elect to make discretionary contributions in 2016. We expect to make total cash contributions of approximately $200 million to our global defined benefit pension plans in 2016. Contributions to our global defined benefit pension plans in 2016 are expected to meet or exceed the current funding requirements.

### Cash Flow - Investing Activities of Continuing Operations

*(Dollars in millions)*

|  | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: |
| Net cash flows used in investing activities of continuing operations | $(1,849) | $(1,416) |

Cash flows used in investing activities of continuing operations for the nine months ended September 30, 2016 and 2015 primarily reflect capital expenditures, cash investments in businesses, and payments related to our collaboration intangible assets and contractual rights to provide product on new aircraft platforms.

During the nine months ended September 30, 2016, our collaboration intangible assets increased by approximately $301 million, of which $261 million resulted from payments made under our 2012 agreement to acquire Rolls-Royce's collaboration interest in IAE. Capital expenditures for the nine months ended September 30, 2016 ($1,043 million) primarily relate to investments in new programs at Pratt & Whitney and UTC Aerospace Systems, as well as new facilities at Pratt & Whitney and UTC Climate, Controls & Security.

Cash investments in businesses in the nine months ended September 30, 2016 ($535 million) consisted of the acquisition of a majority interest in an Italian heating products and services company by UTC Climate, Controls & Security and a number of small acquisitions, primarily in our commercial businesses. We expect total cash investments for acquisitions in 2016 to be approximately $1 billion, including acquisitions completed during the nine months ended September 30, 2016. However, actual acquisition spending may vary depending upon the timing, availability and appropriate value of acquisition opportunities.

As discussed in Note 9 to the Condensed Consolidated Financial Statements, we enter into derivative instruments for risk management purposes only, including derivatives designated as hedging instruments under the Derivatives and Hedging Topic of the FASB ASC and those utilized as economic hedges. We operate internationally and, in the normal course of business, are exposed to fluctuations in interest rates, foreign exchange rates and commodity prices. These fluctuations can increase the costs of financing, investing and operating the business. We have used derivative instruments, including swaps, forward contracts and options to manage certain foreign currency, interest rate and commodity price exposures. During the nine months ended September 30, 2016 and 2015, we had net cash payments of approximately $29 million and net cash receipts of approximately $147 million, respectively, from the settlement of these derivative instruments.

Customer financing activities were a net use of cash of $74 million and $128 million for the nine months ended September 30, 2016 and 2015, respectively. While we expect that 2016 customer financing activity will be a net use of funds, actual funding is subject to usage under existing customer financing commitments during the remainder of the year. We may also arrange for third-party investors to assume a portion of our commitments. We had commercial aerospace financing and other contractual commitments of approximately $14.5 billion at September 30, 2016 related to commercial aircraft and certain contractual rights to provide product on new aircraft platforms, of which up to $0.4 billion may be required to be disbursed during the remainder of 2016. We had commercial aerospace financing and other contractual commitments of approximately $14.6 billion at December 31, 2015.

### Cash Flow - Financing Activities of Continuing Operations

*(Dollars in millions)*

|  | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: |
| Net cash flows used in financing activities of continuing operations | $(203) | $(1,861) |

43

The timing and levels of certain cash flow activities, such as acquisitions and repurchases of our stock, have resulted in the issuance of both long-term and short-term debt, including approximately $2.3 billion of net long-term debt issuances in the nine months ended September 30, 2016. Commercial paper borrowings and revolving credit facilities provide short-term liquidity to supplement operating cash flows and are used for general corporate purposes, including the funding of potential acquisitions and repurchases of our stock. We had approximately $780 million of outstanding commercial paper at September 30, 2016.

At September 30, 2016, management had remaining authority to repurchase approximately $5.3 billion of our common stock under the October 14, 2015 share repurchase program. Under this program, shares may be purchased on the open market, in privately negotiated transactions, under accelerated share repurchase programs, and under plans complying with Rules 10b5-1 and 10b-18 under the Securities Exchange Act of 1934, as amended. We may also reacquire shares outside of the program from time to time in connection with the surrender of shares to cover taxes on vesting of restricted stock. Other than the transactions under the ASR agreements discussed above, we made cash payments of approximately $528 million to repurchase approximately 5.2 million shares of our common stock during the nine months ended September 30, 2016. We expect 2016 full year share repurchases to be approximately $2 billion to $3 billion, which we expect to largely fund through additional borrowings in the fourth quarter of 2016. During the nine months ended September 30, 2015, we repurchased approximately 14 million shares of our common stock for approximately $1.35 billion, in addition to the shares repurchased under the $2.65 billion ASR discussed above. Our share repurchase levels are influenced by various factors, including the level of other investing activities.

We paid dividends on common stock of $0.64 per share in the first quarter of 2016 and $0.66 per share in both the second and third quarters of 2016, totaling approximately $1,561 million in the aggregate for the nine months ended September 30, 2016. On October 12, 2016, the Board of Directors declared a dividend of $0.66 per share payable December 10, 2016 to shareowners of record at the close of business on November 18, 2016.

On April 29, 2016, we renewed our universal shelf registration statement filed with the SEC for an indeterminate amount of debt and equity securities for future issuance, subject to our internal limitations on the amount of debt to be issued under this shelf registration statement.

### Cash Flow - Discontinued Operations

*(Dollars in millions)*

|  | Nine Months Ended September 30, 2016 | 2015 |
| --- | ---: | ---: |
| Net cash flows used in discontinued operations | $(2,480) | $(366) |

Cash flows used in discontinued operations primarily represent cash flows related to Sikorsky. For the nine months ended September 30, 2016, cash flows used in operating activities of discontinued operations primarily reflect the payment of taxes associated with the net gain realized on the sale of Sikorsky to Lockheed Martin Corp. in November 2015.

For the nine months ended September 30, 2015, cash flows used in operating activities of discontinued operations resulted primarily from operating income of approximately $250 million, which was more than offset by investments in working capital and other net operating assets, primarily through reductions in accounts payable, customer advances and accrued liabilities, and partially offset by reductions in accounts receivable. Cash flows used in investing activities of discontinued operations were driven by capital expenditures of Sikorsky.

### Off-Balance Sheet Arrangements and Contractual Obligations

In our 2015 Annual Report, incorporated by reference in our 2015 Form 10-K, we disclosed our off-balance sheet arrangements and contractual obligations. As of September 30, 2016, there have been no material changes to these off-balance sheet arrangements and contractual obligations outside the ordinary course of business.

## Market risk

As filed, 285 characters.

There has been no significant change in our exposure to market risk during the nine months ended September 30, 2016. For discussion of our exposure to market risk, refer to Part II, Item 7A, "Quantitative and Qualitative Disclosures About Market Risk," contained in our 2015 Form 10-K.

## Controls and procedures

As filed, 7,536 characters.

As required by Rule 13a-15 under the Exchange Act, we carried out an evaluation under the supervision and with the participation of our management, including the Chairman, President and Chief Executive Officer (CEO), the Executive Vice President & Chief Financial Officer (CFO) and the Corporate Vice President, Controller (Controller), of the effectiveness of the design and operation of our disclosure controls and procedures as of September 30, 2016. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. Based upon our evaluation, our CEO, our CFO and our Controller have concluded that, as of September 30, 2016, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the applicable rules and forms, and that it is accumulated and communicated to our management, including our CEO, our CFO and our Controller, as appropriate, to allow timely decisions regarding required disclosure.

There has been no change in our internal control over financial reporting during the nine months ended September 30, 2016, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

### Cautionary Note Concerning Factors That May Affect Future Results

This Form 10-Q contains statements which, to the extent they are not statements of historical or present fact, constitute "forward-looking statements" under the securities laws. From time to time, oral or written forward-looking statements may also be included in other information released to the public. These forward-looking statements are intended to provide management’s current expectations or plans for our future operating and financial performance, based on assumptions currently believed to be valid. Forward-looking statements can be identified by the use of words such as "believe," "expect," "expectations," "plans," "strategy," "prospects," "estimate," "project," "target," "anticipate," "will," "should," "see," "guidance," "confident" and other words of similar meaning in connection with a discussion of future operating or financial performance. Forward-looking statements may include, among other things, statements relating to future sales, earnings, cash flow, results of operations, uses of cash, share repurchases and other measures of financial performance or potential future plans, strategies or transactions. All forward-looking statements involve risks, uncertainties and other factors that may cause actual results to differ materially from those expressed or implied in the forward-looking statements. For those statements, we claim the protection of the safe harbor for forward-looking statements contained in the U.S. Private Securities Litigation Reform Act of 1995. Such risks, uncertainties and other factors include, without limitation:

- the effect of economic conditions in the industries and markets in which we operate in the U.S. and globally and any changes therein, including financial market conditions, fluctuations in commodity prices, interest rates and foreign currency exchange rates, levels of end market demand in construction and in both the commercial and defense segments of the aerospace industry, levels of air travel, financial condition of commercial airlines, the impact of weather conditions and natural disasters and the financial condition of our customers and suppliers;
- challenges in the development, production, delivery, support, performance and realization of the anticipated benefits of advanced technologies and new products and services;
- future levels of indebtedness and capital spending and research and development spending;
- future availability of credit and factors that may affect such availability, including credit market conditions and our capital structure;
- delays and disruption in delivery of materials and services from suppliers;
- customer- and Company- directed cost reduction efforts and restructuring costs and savings and other consequences thereof;
- the scope, nature, impact or timing of acquisition and divestiture activity, including among other things integration of acquired businesses into our existing businesses and realization of synergies and opportunities for growth and innovation;
- new business opportunities;
- our ability to realize the intended benefits of organizational changes;
- the anticipated benefits of diversification and balance of operations across product lines, regions and industries;
- the timing and scope of future repurchases of our common stock, which may be suspended at any time due to market conditions and the level of other investing activities and uses of cash;
- the outcome of legal proceedings, investigations and other contingencies;
- pension plan assumptions and future contributions;
- the impact of the negotiation of collective bargaining agreements and labor disputes;
- the effect of changes in political conditions in the U.S. and other countries in which we operate, including but not limited to the effect of the U.K.'s pending withdrawal from the EU, on general market conditions and currency exchange rates in the near term and beyond; and
- the effect of changes in tax, environmental, regulatory (including among other things import/export) and other laws and regulations in the U.S. and other countries in which we operate.

In addition, this Form 10-Q includes important information as to risks, uncertainties and other factors that may cause actual results to differ materially from those expressed or implied in the forward-looking statements. See the "Notes to Consolidated Financial Statements" under the heading "Note 15: Contingent Liabilities," the section titled "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the headings "Business Overview," "Results of Operations," "Liquidity and Financial Condition," and "Critical Accounting Estimates," and the sections titled "Legal Proceedings" and "Risk Factors" in this Form 10-Q and in our 2015 Annual Report. Additional important information as to these factors is included in our 2015 Annual Report in the section titled "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the headings "Restructuring Costs," "Environmental Matters" and "Governmental Matters" and in our 2015 Form 10-K in the "Business" section under the headings "General," "Description of Business by Segment" and "Other Matters Relating to Our Business as a Whole." The forward-looking statements speak only as of the date of this report or, in the case of any document incorporated by reference, the date of that document. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by applicable law. Additional information as to factors that may cause actual results to differ materially from those expressed or implied in the forward-looking statements is disclosed from time to time in our other filings with the SEC.

## Risk factors

As filed, 143 characters.

There have been no material changes in the Company's risk factors from those disclosed in Part I, Item 1A, Risk Factors, in our 2015 Form 10-K.

Filed Oct 27, 2016.
Source: SEC EDGAR, the filing index for accession 0000101829-16-000091. Last ingested by Listed: Nov 3, 2026, 21:25 ET. No prices; not investment advice.