Lockheed Martin 2005 Annual Report Download - page 26

   
Services฀ contracts฀ primarily฀ include฀ operations฀ and฀ mainte-
nance฀contracts,฀and฀outsourcing-type฀arrangements.฀Revenue฀
under฀such฀contracts฀is฀generally฀recognized฀on฀a฀straight-line฀
basis฀over฀the฀period฀of฀contract฀performance,฀unless฀evidence฀
suggests฀that฀the฀revenue฀is฀earned฀ or฀ the฀obligations฀are฀ful-
filled฀in฀a฀different฀pattern.฀Costs฀incurred฀under฀these฀services฀
contracts฀are฀expensed฀as฀incurred,฀except฀that฀initial฀“set-up”฀
costs฀are฀capitalized฀and฀recognized฀over฀the฀life฀of฀the฀agree-
ment.฀ Operating฀ profit฀ related฀ to฀ such฀ services฀ contracts฀ may฀
fluctuate฀ from฀ period฀ to฀ period,฀ particularly฀ in฀ the฀ earlier฀
phases฀of฀the฀contract.฀Incentives฀and฀award฀fees฀related฀to฀per-
formance฀on฀services฀contracts฀ are฀recognized฀when฀they฀are฀
fixed฀and฀determinable,฀generally฀at฀the฀date฀of฀award.฀
Other฀Contract฀Accounting฀Considerations
The฀majority฀of฀our฀sales฀are฀driven฀by฀pricing฀based฀on฀costs฀
incurred฀to฀ produce฀products฀ or฀perform฀ services฀ under฀con-
tracts฀with฀the฀U.S.฀Government.฀Cost-based฀pricing฀is฀deter-
mined฀under฀the฀Federal฀Acquisition฀Regulations฀(FAR).฀The฀
FAR฀ provides฀ guidance฀ on฀ the฀ types฀ of฀ costs฀ that฀ are฀ allow-
able฀in฀establishing฀ prices฀ for฀goods฀ and฀services฀under฀U.S.฀
Government฀contracts.฀For฀example,฀costs฀such฀as฀those฀related฀
to฀ charitable฀ contributions,฀ advertising,฀ interest฀ expense,฀ and฀
public฀relations฀are฀unallowable,฀and฀therefore฀not฀recoverable฀
through฀sales.฀In฀addition,฀we฀may฀enter฀into฀agreements฀with฀
the฀U.S.฀Government฀that฀address฀the฀subjects฀of฀allowability฀
and฀allocability฀of฀costs฀to฀contracts฀for฀specific฀matters.฀For฀
example,฀most฀of฀the฀amounts฀we฀spend฀for฀groundwater฀treat-
ment฀ and฀ soil฀ remediation฀ related฀ to฀ discontinued฀ operations฀
and฀ sites฀ operated฀ in฀ prior฀ years฀ are฀ allocated฀ to฀ our฀ current฀
operations฀ as฀ general฀ and฀ administrative฀ costs฀ under฀ agree-
ments฀reached฀with฀the฀U.S.฀Government.
We฀ closely฀ monitor฀ compliance฀ with฀ and฀ the฀ consistent฀
application฀ of฀ our฀ critical฀ accounting฀ policies฀ related฀ to฀ con-
tract฀accounting.฀Business฀segment฀personnel฀assess฀the฀status฀
of฀contracts฀through฀periodic฀contract฀status฀and฀performance฀
reviews.฀ Also,฀ regular฀ and฀ recurring฀ evaluations฀ of฀ contract฀
cost,฀scheduling฀and฀technical฀matters฀are฀performed฀by฀man-
agement฀ personnel฀ independent฀ from฀ the฀ business฀ segment฀
performing฀work฀under฀the฀contract.฀Costs฀incurred฀and฀allo-
cated฀to฀contracts฀with฀the฀U.S.฀Government฀are฀reviewed฀for฀
compliance฀ with฀ regulatory฀ standards฀ by฀ our฀ personnel,฀ and฀
are฀ subject฀ to฀ audit฀ by฀ the฀ Defense฀ Contract฀ Audit฀ Agency.฀
For฀other฀information฀on฀accounting฀policies฀we฀have฀in฀place฀
for฀ recognizing฀ sales฀ and฀ profits,฀ see฀ our฀ discussion฀ under฀
“Sales฀and฀earnings”฀in฀Note฀1฀to฀the฀financial฀statements.

Most฀employees฀are฀covered฀by฀defined฀benefit฀pension฀plans฀
(pension฀plans),฀and฀we฀provide฀health฀care฀and฀life฀insurance฀
benefits฀to฀eligible฀retirees.฀Our฀earnings฀may฀be฀negatively฀or฀
positively฀ impacted฀ by฀ the฀ amount฀ of฀ expense฀ or฀ income฀ we฀
record฀for฀our฀employee฀benefit฀plans.฀This฀is฀particularly฀true฀
with฀expense฀or฀income฀for฀pension฀plans฀because฀those฀calcu-
lations฀ are฀ sensitive฀ to฀ changes฀ in฀ several฀ key฀ economic฀
assumptions฀ and฀ workforce฀ demographics.฀ Effective฀ January฀
1,฀ 2006,฀ new฀ non-union฀ represented฀ employees฀ that฀ we฀ hire฀
are฀not฀being฀covered฀by฀defined฀benefit฀pension฀plans,฀but฀are฀
eligible฀ to฀ participate฀ in฀ defined฀ contribution฀ plans.฀ We฀ cur-
rently฀plan฀to฀offer฀those฀employees฀the฀ability฀to฀participate฀in฀
our฀ retiree฀ medical฀ plans,฀ but฀ will฀ not฀ subsidize฀ the฀ cost฀ of฀
their฀participation฀effective฀January฀1,฀2006.
We฀ account฀ for฀ our฀ pension฀ plans฀ using฀ Statement฀ of฀
Financial฀ Accounting฀ Standards฀ (FAS)฀ 87,฀ Employers’฀
Accounting฀for฀Pensions.฀Those฀rules฀require฀that฀the฀amounts฀
we฀record,฀ including฀the฀ expense฀or฀income฀for฀the฀ plans,฀be฀
computed฀using฀actuarial฀valuations.฀These฀valuations฀include฀
many฀assumptions,฀including฀assumptions฀we฀make฀relating฀to฀
financial฀ market฀ and฀ other฀ economic฀ conditions.฀ Changes฀ in฀
key฀economic฀indicators฀can฀result฀in฀changes฀in฀the฀assump-
tions฀we฀use.฀The฀key฀year-end฀assumptions฀used฀to฀estimate฀
pension฀expense฀or฀income฀for฀the฀following฀calendar฀year฀are฀
the฀discount฀rate,฀the฀expected฀long-term฀rate฀of฀return฀on฀plan฀
assets฀and฀the฀rates฀of฀increase฀in฀future฀compensation฀levels.
We฀ use฀ judgment฀ in฀ reassessing฀ these฀ assumptions฀ each฀
year฀ because฀ we฀ have฀ to฀ consider฀ current฀ market฀ conditions฀
and,฀ in฀ the฀ case฀ of฀ the฀ expected฀ long-term฀ rate฀ of฀ return฀ on฀
plan฀assets,฀past฀investment฀experience,฀judgments฀about฀future฀
market฀trends,฀changes฀in฀interest฀rates฀and฀equity฀market฀per-
formance.฀We฀also฀have฀to฀consider฀factors฀like฀the฀timing฀and฀
amounts฀ of฀ expected฀ contributions฀ to฀ the฀ plans฀ and฀ benefit฀
payments฀to฀plan฀participants.
An฀ example฀ of฀ how฀ changes฀ in฀ these฀ assumptions฀ can฀
affect฀our฀financial฀statements฀occurred฀in฀2005.฀We฀reassess฀
our฀pension฀plan฀assumptions฀each฀year.฀Based฀on฀our฀review฀
of฀interest฀rates฀at฀the฀end฀of฀the฀year,฀we฀lowered฀our฀discount฀
rate฀assumption฀to฀5.625%฀at฀December฀31,฀2005,฀compared฀to฀
5.75%฀used฀at฀the฀end฀of฀2004.฀Before฀the฀end฀of฀2005,฀we฀also฀
performed฀a฀study฀of฀the฀rates฀of฀increase฀in฀future฀compensa-
tion฀levels.฀The฀results฀of฀that฀study฀indicated฀that฀it฀would฀be฀
appropriate฀to฀reduce฀that฀rate฀from฀5.50%฀to฀5.0%฀at฀the฀end฀
of฀2005.฀These฀changes,฀together฀with฀other฀factors฀such฀as฀the฀฀
Lockheed฀Martin฀Corporation
MANAGEMENT’S฀DISCUSSION฀AND฀ANALYSIS฀OF฀
FINANCIAL฀CONDITION฀AND฀RESULTS฀OF฀OPERATIONS
December฀31,฀2005