TEXTRON INC, 10-K filed on 2/23/2012
Annual Report
Document and Entity Information (USD $)
In Billions, except Share data, unless otherwise specified
12 Months Ended
Dec. 31, 2011
Feb. 11, 2012
Jul. 1, 2011
Document and Entity Information [Abstract]
 
 
 
Entity Registrant Name
TEXTRON INC 
 
 
Entity Central Index Key
0000217346 
 
 
Document Type
10-K 
 
 
Document Period End Date
Dec. 31, 2011 
 
 
Amendment Flag
false 
 
 
Document Fiscal Year Focus
2011 
 
 
Document Fiscal Period Focus
FY 
 
 
Current Fiscal Year End Date
--12-31 
 
 
Entity Well-known Seasoned Issuer
Yes 
 
 
Entity Voluntary Filers
No 
 
 
Entity Current Reporting Status
Yes 
 
 
Entity Filer Category
Large Accelerated Filer 
 
 
Entity Public Float
 
 
$ 6.6 
Entity Common Stock, Shares Outstanding
 
279,642,725 
 
Consolidated Statements of Operations (USD $)
In Millions, except Per Share data, unless otherwise specified
12 Months Ended
Dec. 31, 2011
Jan. 1, 2011
Jan. 2, 2010
Revenues
 
 
 
Manufacturing revenues
$ 11,172 
$ 10,307 
$ 10,139 
Finance revenues
103 
218 
361 
Total revenues
11,275 
10,525 
10,500 
Costs, expenses and other
 
 
 
Cost of sales
9,308 
8,605 
8,468 
Selling and administrative expense
1,183 
1,231 
1,338 
Interest expense
246 
270 
309 
Provision for losses on finance receivables
12 
143 
267 
Valuation allowance on transfer of Golf Mortgage portfolio to held for sale
186 
 
 
Special charges
 
190 
317 
Other losses (gains), net
 
(50)
Total costs, expenses and other
10,938 
10,439 
10,649 
Income (loss) from continuing operations before income taxes
337 
86 
(149)
Income tax expense (benefit)
95 
(6)
(76)
Income (loss) from continuing operations
242 
92 
(73)
Income (loss) from discontinued operations, net of income taxes
 
(6)
42 
Net income (loss)
$ 242 
$ 86 
$ (31)
Basic earnings per share
 
 
 
Continuing operations
$ 0.87 
$ 0.33 
$ (0.28)
Discontinued operations
 
$ (0.02)
$ 0.16 
Basic earnings per share
$ 0.87 
$ 0.31 
$ (0.12)
Diluted earnings per share
 
 
 
Continuing operations
$ 0.79 
$ 0.30 
$ (0.28)
Discontinued operations
 
$ (0.02)
$ 0.16 
Diluted earnings per share
$ 0.79 
$ 0.28 
$ (0.12)
Consolidated Balance Sheets (USD $)
In Millions, unless otherwise specified
Dec. 31, 2011
Jan. 1, 2011
Assets
 
 
Cash and equivalents
$ 885 
$ 931 
Inventories
2,402 
2,277 
Property, plant and equipment, net
2,005 
1,948 
Total assets
13,615 
15,282 
Liabilities
 
 
Accrued liabilities
1,952 
2,016 
Total liabilities
10,870 
12,310 
Shareholders' equity
 
 
Common stock (-279.1 million and 277.7 million shares issued, respectively, and 278.9 million and 275.7 million shares outstanding, respectively)
35 
35 
Capital surplus
1,081 
1,301 
Retained earnings
3,257 
3,037 
Accumulated other comprehensive loss
(1,625)
(1,316)
Total shareholders' equity including cost of treasury shares
2,748 
3,057 
Less cost of treasury shares
85 
Total shareholders' equity
2,745 
2,972 
Total liabilities and shareholders' equity
13,615 
15,282 
Manufacturing Group [Member]
 
 
Assets
 
 
Cash and equivalents
871 
898 
Accounts receivable, net
856 
892 
Inventories
2,402 
2,277 
Other current assets
1,134 
980 
Total current assets
5,263 
5,047 
Property, plant and equipment, net
1,996 
1,932 
Goodwill
1,635 
1,632 
Other assets
1,508 
1,722 
Total assets
10,402 
10,333 
Liabilities
 
 
Current portion of long-term debt
146 
19 
Accounts payable
833 
622 
Accrued liabilities
1,952 
2,016 
Total current liabilities
2,931 
2,657 
Other liabilities
2,826 
2,993 
Long-term debt
2,313 
2,283 
Debt
2,459 
2,302 
Total liabilities
8,070 
7,933 
Finance Group [Member]
 
 
Assets
 
 
Cash and equivalents
14 
33 
Finance receivables held for investment, net
2,321 
3,871 
Finance receivables held for sale
418 
413 
Other assets
460 
632 
Total assets
3,213 
4,949 
Liabilities
 
 
Other liabilities
333 
391 
Due to Manufacturing group
493 
326 
Debt
1,974 
3,660 
Total liabilities
$ 2,800 
$ 4,377 
Consolidated Balance Sheets (Parenthetical)
Dec. 31, 2011
Jan. 1, 2011
Consolidated Balance Sheets [Abstract]
 
 
Common Stock, issued
279,100,000 
277,700,000 
Common shares outstanding
278,873,000 
275,739,000 
Consolidated Statements of Shareholders' Equity (USD $)
In Millions, unless otherwise specified
Total
Preferred Stock [Member]
Common Stock [Member]
Capital Surplus [Member]
Retained Earnings [Member]
Treasury Stock [Member]
Accumulated Other Comprehensive Loss [Member]
Beginning Balance at Jan. 03, 2009
$ 2,366 
$ 2 
$ 32 
$ 1,229 
$ 3,025 
$ (500)
$ (1,422)
Net income/loss
(31)
 
 
 
(31)
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation adjustment
23 
 
 
 
 
 
23 
Deferred gains on hedge contracts
67 
 
 
 
 
 
67 
Pension adjustments
(25)
 
 
 
 
 
(25)
Reclassification adjustments
21 
 
 
 
 
 
21 
Pension curtailment
15 
 
 
 
 
 
15 
Total other comprehensive income (loss)
70 
 
 
 
 
 
 
Dividends declared ($0.08, $0.08 and $0.08 per share for 2009, 2010 and 2011, respectively)
(21)
 
 
 
(21)
 
 
Share-based compensation
30 
 
 
30 
 
 
 
Purchase of convertible note call options
(140)
 
 
(140)
 
 
 
Equity component of convertible debt issuance
134 
 
 
134 
 
 
 
Issuance of common stock and warrants
333 
 
330 
 
 
 
Issuance of common stock for employee stock plans
60 
 
 
(210)
 
270 
 
Redemption of preferred stock
(1)
(2)
 
 
 
 
Income tax impact of employee stock transactions
(5)
 
 
(5)
 
 
 
Ending Balance at Jan. 02, 2010
2,826 
35 
1,369 
2,973 
(230)
(1,321)
Net income/loss
86 
 
 
 
86 
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation adjustment
(2)
 
 
 
 
 
(2)
Deferred gains on hedge contracts
14 
 
 
 
 
 
14 
Pension adjustments
(112)
 
 
 
 
 
(112)
Recognition of currency translation loss (see Note 11)
74 
 
 
 
 
 
74 
Reclassification adjustments
31 
 
 
 
 
 
31 
Total other comprehensive income (loss)
91 
 
 
 
 
 
 
Dividends declared ($0.08, $0.08 and $0.08 per share for 2009, 2010 and 2011, respectively)
(22)
 
 
 
(22)
 
 
Share-based compensation
22 
 
 
22 
 
 
 
Exercise of stock options
 
 
 
 
 
Issuance of common stock for employee stock plans
51 
 
 
(94)
 
145 
 
Income tax impact of employee stock transactions
(3)
 
 
(3)
 
 
 
Ending Balance at Jan. 01, 2011
2,972 
35 
1,301 
3,037 
(85)
(1,316)
Net income/loss
242 
 
 
 
242 
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation adjustment
(3)
 
 
 
 
 
(3)
Deferred gains on hedge contracts
(5)
 
 
 
 
 
(5)
Pension adjustments
(350)
 
 
 
 
 
(350)
Reclassification adjustments
49 
 
 
 
 
 
49 
Total other comprehensive income (loss)
(67)
 
 
 
 
 
 
Dividends declared ($0.08, $0.08 and $0.08 per share for 2009, 2010 and 2011, respectively)
(22)
 
 
 
(22)
 
 
Purchases and conversions of convertible notes
(182)
 
 
(179)
 
(3)
 
Amendment of call option/warrant transactions and purchase of capped call
(30)
 
 
(30)
 
 
 
Share-based compensation
21 
 
 
21 
 
 
 
Issuance of common stock for employee stock plans
53 
 
 
(32)
 
85 
 
Ending Balance at Dec. 31, 2011
$ 2,745 
$ 0 
$ 35 
$ 1,081 
$ 3,257 
$ (3)
$ (1,625)
Consolidated Statements of Shareholders Equity (Parenthetical)
12 Months Ended
Dec. 31, 2011
Jan. 2, 2010
Jan. 3, 2009
Dividends declared per share $0.08, $0.08 and 0.08 in the year 2009, 2010 and 2011, respectively
$ 0.08 
$ 0.08 
$ 0.08 
Retained Earnings [Member]
 
 
 
Dividends declared per share $0.08, $0.08 and 0.08 in the year 2009, 2010 and 2011, respectively
$ 0.08 
$ 0.08 
$ 0.08 
Consolidated Statements of Cash Flows (USD $)
In Millions, unless otherwise specified
12 Months Ended
Dec. 31, 2011
Jan. 1, 2011
Jan. 2, 2010
Dec. 31, 2011
Manufacturing Group [Member]
Jan. 1, 2011
Manufacturing Group [Member]
Jan. 2, 2010
Manufacturing Group [Member]
Dec. 31, 2011
Finance Group [Member]
Jan. 1, 2011
Finance Group [Member]
Jan. 2, 2010
Finance Group [Member]
Cash flows from operating activities
 
 
 
 
 
 
 
 
 
Net income (loss)
$ 242 
$ 86 
$ (31)
$ 464 
$ 314 
$ 175 
$ (222)
$ (228)
$ (206)
Less: Income (loss) from discontinued operations
 
(6)
42 
 
(6)
42 
 
 
 
Income (loss) from continuing operations
242 
92 
(73)
464 
320 
133 
(222)
(228)
(206)
Adjustments to reconcile income from continuing operations to net cash provided by (used in) operating activities:
 
 
 
 
 
 
 
 
 
Dividends received from Finance group
179 
505 
349 
 
 
 
Capital contributions paid to Finance group
(182)
(383)
(270)
 
 
 
Non-cash items
 
 
 
 
 
 
 
 
 
Depreciation and amortization
403 
393 
409 
371 
362 
373 
32 
31 
36 
Provision for losses on finance receivables held for investment
12 
143 
267 
 
 
 
12 
143 
267 
Portfolio losses on finance receivables
102 
112 
162 
 
 
 
102 
112 
162 
Valuation allowance on finance receivables held for sale
202 
(15)
 
 
 
202 
(15)
Goodwill and other asset impairment charges
59 
19 
144 
57 
18 
144 
 
 
Deferred income taxes
81 
69 
(265)
197 
131 
(61)
(116)
(62)
(204)
Other, net
166 
109 
82 
166 
110 
112 
 
(1)
(30)
Changes in assets and liabilities
 
 
 
 
 
 
 
 
 
Accounts receivable, net
36 
(1)
17 
36 
(1)
17 
 
 
 
Inventories
(127)
(10)
803 
(132)
(11)
810 
 
 
 
Other assets
(413)
36 
(250)
(419)
(255)
10 
32 
(5)
Accounts payable
211 
54 
(535)
211 
54 
(535)
 
 
 
Accrued and other liabilities
(90)
(455)
78 
(135)
(384)
(85)
45 
(71)
166 
Captive finance receivables, net
236 
424 
177 
   
   
   
   
   
   
Other operating activities, net
(52)
 
31 
(52)
 
 
 
25 
Net cash provided by (used in) operating activities of continuing operations
1,068 
993 
1,032 
761 
730 
738 
65 
(35)
196 
Net cash used in operating activities of discontinued operations
(5)
(9)
(17)
(5)
(9)
(17)
 
 
 
Net cash provided by (used in) operating activities
1,063 
984 
1,015 
756 
721 
721 
65 
(35)
196 
Cash flows from investing activities
 
 
 
 
 
 
 
 
 
Finance receivables originated or purchased
(187)
(450)
(3,005)
 
 
 
(471)
(866)
(3,659)
Finance receivables repaid
824 
1,635 
4,011 
 
 
 
1,289 
2,348 
4,804 
Proceeds on receivables sales
421 
528 
594 
 
 
 
476 
655 
644 
Capital expenditures
(423)
(270)
(238)
(423)
(270)
(238)
 
 
 
Proceeds from collection on notes receivable from a prior disposition
58 
 
 
58 
 
 
 
 
 
Net cash used in acquisitions
(14)
(57)
 
(14)
(57)
 
 
 
 
Proceeds from sale of repossessed assets and properties
109 
129 
236 
 
 
 
109 
129 
236 
Retained interests
 
 
117 
 
 
 
 
 
117 
Other investing activities, net
55 
34 
13 
(44)
(26)
(50)
50 
39 
11 
Net cash provided by (used in) investing activities of continuing operations
843 
1,549 
1,728 
(423)
(353)
(288)
1,453 
2,305 
2,153 
Net cash provided by investing activities of discontinued operations
 
 
211 
 
 
211 
 
 
 
Net cash provided by (used in) investing activities
843 
1,549 
1,939 
(423)
(353)
(77)
1,453 
2,305 
2,153 
Cash flows from financing activities
 
 
 
 
 
 
 
 
 
Proceeds from long-term lines of credit
 
 
2,970 
 
 
1,230 
 
 
1,740 
Payments on long-term lines of credit
(1,440)
(1,467)
(63)
 
(1,167)
(63)
(1,440)
(300)
 
Net proceeds from issuance of long-term debt
926 
231 
918 
496 
 
595 
430 
231 
323 
Principal payments on long-term and nonrecourse debt
(785)
(2,241)
(4,163)
(29)
(130)
(392)
(756)
(2,111)
(3,771)
Intergroup financing
(175)
98 
(280)
167 
(111)
280 
Proceeds from issuance of convertible notes, net of fees paid
 
 
582 
 
 
582 
 
 
 
Purchase of convertible notes
(580)
 
 
(580)
 
 
 
 
 
Amendment of call option/warrant transactions and purchase of capped call
(30)
 
 
(30)
 
 
 
 
 
Purchase of convertible note call options
 
 
(140)
 
 
(140)
 
 
 
Proceeds from issuance of common stock and warrants
 
 
333 
 
 
333 
 
 
 
Decrease in short-term debt
 
 
(1,637)
 
 
(869)
 
 
(768)
Payment on borrowings against officers' life insurance policies
 
 
(412)
 
 
(412)
 
 
 
Capital contributions paid to Finance group under Support Agreement
 
 
 
182 
383 
270 
Capital contributions paid to Cessna Export Finance Corp
 
 
 
60 
30 
40 
Dividends paid
(22)
(22)
(21)
(22)
(22)
(21)
(179)
(505)
(349)
Other financing activities
(20)
 
(20)
 
 
 
 
Net cash provided by (used in) financing activities
(1,951)
(3,493)
(1,633)
(360)
(1,215)
563 
(1,536)
(2,383)
(2,235)
Effect of exchange rate changes on cash and equivalents
(1)
(1)
24 
 
(3)
10 
(1)
14 
Net increase (decrease) in cash and equivalents
(46)
(961)
1,345 
(27)
(850)
1,217 
(19)
(111)
128 
Cash and equivalents at beginning of year
931 
1,892 
547 
898 
1,748 
531 
33 
144 
16 
Cash and equivalents at end of year
$ 885 
$ 931 
$ 1,892 
$ 871 
$ 898 
$ 1,748 
$ 14 
$ 33 
$ 144 
Summary of Significant Accounting Policies
Summary of Significant Accounting Policies

Note 1. Summary of Significant Accounting Policies

Principles of Consolidation and Financial Statement Presentation

Our Consolidated Financial Statements include the accounts of Textron Inc. and its majority-owned subsidiaries. Our financings are conducted through two separate borrowing groups. The Manufacturing group consists of Textron Inc. consolidated with its majority-owned subsidiaries that operate in the Cessna, Bell, Textron Systems and Industrial segments. The Finance group, which also is the Finance segment, consists of Textron Financial Corporation (TFC), its consolidated subsidiaries and three other finance subsidiaries owned by Textron Inc. We designed this framework to enhance our borrowing power by separating the Finance group. Our Manufacturing group operations include the development, production and delivery of tangible goods and services, while our Finance group provides financial services. Due to the fundamental differences between each borrowing group’s activities, investors, rating agencies and analysts use different measures to evaluate each group’s performance. To support those evaluations, we present balance sheet and cash flow information for each borrowing group within the Consolidated Financial Statements.

Our Finance group provides captive financing for retail purchases and leases for new and used aircraft and equipment manufactured by our Manufacturing group. In the Consolidated Statements of Cash Flows, cash received from customers or from the sale of receivables is reflected as operating activities when received from third parties. However, in the cash flow information provided for the separate borrowing groups, cash flows related to captive financing activities are reflected based on the operations of each group. For example, when product is sold by our Manufacturing group to a customer and is financed by the Finance group, the origination of the finance receivable is recorded within investing activities as a cash outflow in the Finance group’s statement of cash flows. Meanwhile, in the Manufacturing group’s statement of cash flows, the cash received from the Finance group on the customer’s behalf is recorded within operating cash flows as a cash inflow. Although cash is transferred between the two borrowing groups, there is no cash transaction reported in the consolidated cash flows at the time of the original financing. These captive financing activities, along with all significant intercompany transactions, are reclassified or eliminated in consolidation.

Collaborative Arrangements

Our Bell segment has a strategic alliance agreement with The Boeing Company (Boeing) to provide engineering, development and test services related to the V-22 aircraft, as well as to produce the V-22 aircraft, under a number of separate contracts with the U.S. Government (V-22 Contracts). The alliance created by this agreement is not a legal entity and has no employees, no assets and no true operations. This agreement creates contractual rights and does not represent an entity in which we have an equity interest. We account for this alliance as a collaborative arrangement with Bell and Boeing reporting costs incurred and revenues generated from transactions with the U.S. Government in each company’s respective income statement. Neither Bell nor Boeing is considered to be the principal participant for the transactions recorded under this agreement. Profits on cost-plus contracts are allocated between Bell and Boeing on a 50%-50% basis. Negotiated profits on fixed-price contracts are also allocated 50%-50%; however, Bell and Boeing are each responsible for their own cost overruns and are entitled to retain any cost underruns. Based on the contractual arrangement established under the alliance, Bell accounts for its rights and obligations under the specific requirements of the V-22 Contracts allocated to Bell under the work breakdown structure. We account for all of our rights and obligations, including warranty, product and any contingent liabilities, under the specific requirements of the V-22 Contracts allocated to us under the agreement. Revenues and cost of sales reflect our performance under the V-22 Contracts with revenues recognized using the units-of-delivery method. We include all assets used in performance of the V-22 Contracts that we own, including inventory and unpaid receivables and all liabilities arising from our obligations under the V-22 Contracts in our Consolidated Balance Sheets.

Use of Estimates

We prepare our financial statements in conformity with generally accepted accounting principles, which require us to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates. Our estimates and assumptions are reviewed periodically, and the effects of changes, if any, are reflected in the Consolidated Statements of Operations in the period that they are determined.

During 2011 and 2010, we changed our estimates of revenues and costs on certain long-term contracts that are accounted for under the percentage-of-completion method of accounting, primarily in our Bell V-22 and H-1 programs. The changes in estimates increased income from continuing operations before income taxes in 2011 and 2010 by $54 million and $78 million, respectively, ($34 million and $49 million after tax, or $0.11 and $0.16 per diluted share, respectively). These changes were primarily related to favorable cost and operational performance. For 2011 and 2010, the gross favorable program profit adjustments totaled $83 million and $98 million, respectively. For 2011 and 2010, the gross unfavorable program profit adjustments totaled $29 million and $20 million, respectively.

 

Cash and Equivalents

Cash and equivalents consist of cash and short-term, highly liquid investments with original maturities of three months or less.

Revenue Recognition

We generally recognize revenue for the sale of products, which are not under long-term contracts, upon delivery. For commercial aircraft, delivery is upon completion of manufacturing, customer acceptance, and the transfer of the risk and rewards of ownership. Taxes collected from customers and remitted to government authorities are recorded on a net basis.

When a sale arrangement involves multiple deliverables, such as sales of products that include customization and other services, we evaluate the arrangement to determine whether there are separate items that are required to be delivered under the arrangement that qualify as separate units of accounting. These arrangements typically involve the customization services we offer to customers who purchase Bell helicopters, and the services generally are provided within the first six months after the customer accepts the aircraft and assumes risk of loss. We consider the aircraft and the customization services to be separate units of accounting and allocate contract price between the two on a relative selling price basis using the best evidence of selling price for each of the arrangement deliverables, typically by reference to the price charged when the same or similar items are sold separately by us, taking into consideration any performance, cancellation, termination or refund-type provisions. We recognize revenue when the recognition criteria for each unit of accounting are met.

Long-Term Contracts — Revenues under long-term contracts are accounted for under the percentage-of-completion method of accounting. Under this method, we estimate profit as the difference between the total estimated revenues and cost of a contract. We then recognize that estimated profit over the contract term based on either the units-of-delivery method or the cost-to-cost method (which typically is used for development effort as costs are incurred), as appropriate under the circumstances. Revenues under fixed-price contracts generally are recorded using the units-of-delivery method. Revenues under cost-reimbursement contracts are recorded using the cost-to-cost method.

Long-term contract profits are based on estimates of total contract cost and revenues utilizing current contract specifications, expected engineering requirements, the achievement of contract milestones and product deliveries. Certain contracts are awarded with fixed-price incentive fees that also are considered when estimating revenues and profit rates. Contract costs typically are incurred over a period of several years, and the estimation of these costs requires substantial judgment. Our cost estimation process is based on the professional knowledge and experience of engineers and program managers along with finance professionals. We update our projections of costs at least semiannually or when circumstances significantly change. When adjustments are required, any changes from prior estimates are recognized using the cumulative catch-up method with the impact of the change from inception-to-date recorded in the current period. Anticipated losses on contracts are recognized in full in the period in which the losses become probable and estimable.

Finance Revenues — Finance revenues include interest on finance receivables, direct loan origination costs and fees received, and capital and leveraged lease earnings, as well as portfolio gains/losses. Portfolio gains/losses include gains/losses on the sale or early termination of finance assets and impairment charges related to repossessed assets and properties and operating assets received in satisfaction of troubled finance receivables. Revenues on direct loan origination costs and fees received are deferred and amortized to finance revenues over the contractual lives of the respective receivables and credit lines using the interest method. When receivables are sold or prepaid, unamortized amounts are recognized in finance revenues.

We recognize interest using the interest method, which provides a constant rate of return over the terms of the receivables. Accrual of interest income is suspended if credit quality indicators suggest full collection of principal and interest is doubtful. In addition, we automatically suspend the accrual of interest income for accounts that are contractually delinquent by more than three months unless collection is not doubtful. Cash payments on nonaccrual accounts, including finance charges, generally are applied to reduce the net investment balance. We resume the accrual of interest when the loan becomes contractually current through payment according to the original terms of the loan or, if a loan has been modified, following a period of performance under the terms of the modification, provided we conclude that collection of all principal and interest is no longer doubtful. Previously suspended interest income is recognized at that time.

Finance Receivables Held for Sale

Finance receivables are classified as held for sale based on the determination that we no longer intend to hold the receivables for the foreseeable future, until maturity or payoff, or we no longer have the ability to hold to maturity. Our decision to classify certain finance receivables as held for sale is based on a number of factors, including, but not limited to, contractual duration, type of collateral, credit strength of the borrowers, interest rates and perceived marketability of the receivables. On an ongoing basis,

these factors, combined with our overall liquidation strategy, determine which finance receivables we have the intent to hold for the foreseeable future and which finance receivables we will hold for sale. Our current strategy is based on an evaluation of both our performance and liquidity position and changes in external factors affecting the value and/or marketability of our finance receivables. A change in this strategy could result in a change in the classification of our finance receivables.

Finance receivables held for sale are carried at the lower of cost or fair value. At the time of transfer to the held for sale classification, we establish a valuation allowance for any shortfall between the carrying value and fair value. In addition, any allowance for loan losses previously allocated to these finance receivables is transferred to the valuation allowance account, which is netted with finance receivables held for sale on the balance sheet. This valuation allowance is adjusted quarterly. Fair value changes can occur based on market interest rates, market liquidity, and changes in the credit quality of the borrower and value of underlying loan collateral. If we determine that finance receivables classified as held for sale will not be sold and we have the intent and ability to hold the finance receivables for the foreseeable future, until maturity or payoff, the finance receivables are transferred to the held for investment classification at the lower of cost or fair value.

Finance Receivables Held for Investment and Allowance for Losses

Finance receivables are classified as held for investment when we have the intent and the ability to hold the receivable for the foreseeable future or until maturity or payoff. Finance receivables held for investment are generally recorded at the amount of outstanding principal less allowance for losses.

We maintain the allowance for losses on finance receivables held for investment at a level considered adequate to cover inherent losses in the portfolio based on management’s evaluation and analysis by product line. For larger balance accounts specifically identified as impaired, including large accounts in homogeneous portfolios, a reserve is established based on comparing the carrying value with either a) the expected future cash flows, discounted at the finance receivable’s effective interest rate; or b) the fair value of the underlying collateral, if the finance receivable is collateral dependent. The expected future cash flows consider collateral value; financial performance and liquidity of our borrower; existence and financial strength of guarantors; estimated recovery costs, including legal expenses; and costs associated with the repossession/foreclosure and eventual disposal of collateral. When there is a range of potential outcomes, we perform multiple discounted cash flow analyses and weight the outcomes based on management’s estimate of their relative likelihood of occurrence.

The evaluation of our portfolios is inherently subjective, as it requires estimates, including the amount and timing of future cash flows expected to be received on impaired finance receivables and the estimated fair value of the underlying collateral, which may differ from actual results. While our analysis is specific to each individual account, critical factors included in this analysis vary by product line and include the following:

 

   

Aviation—industry valuation guides, physical condition of the aircraft, payment history, and existence and financial strength of guarantors.

 

   

Golf Equipment—age and condition of the collateral.

 

   

Timeshare—historical performance of consumer notes receivable collateral, real estate valuations, operating expenses of the borrower, the impact of bankruptcy court rulings on the value of the collateral, legal and other professional expenses and borrower’s access to capital.

We also establish an allowance for losses by product line to cover probable but specifically unknown losses existing in the portfolio. For homogeneous portfolios, including Aviation and Golf Equipment, the allowance is established as a percentage of non-recourse finance receivables, which have not been identified as requiring specific reserves. The percentage is based on a combination of factors, including historical loss experience, current delinquency and default trends, collateral values and both general economic and specific industry trends. For non-homogeneous portfolios, such as Timeshare, the allowance is established as a percentage of watchlist balances, as defined on page 58, which represents a combination of assumed default likelihood and loss severity based on historical experience, industry trends and collateral values. In estimating our allowance for losses to cover accounts not specifically identified, critical factors vary by product line and include the following:

 

   

Aviation—the collateral value of the portfolio, historical default experience and delinquency trends.

 

   

Golf Equipment—historical loss experience and delinquency trends.

 

   

Timeshare—individual loan credit quality indicators such as borrowing base shortfalls for revolving notes receivable facilities, default rates of our notes receivable collateral, borrower’s access to capital, historical progression from watchlist to nonaccrual status and estimates of loss severity based on analysis of impaired loans in the product line.

Finance receivables held for investment are written down to the fair value (less estimated costs to sell) of the related collateral when the collateral is repossessed, and are charged off when the remaining balance is deemed to be uncollectable.

 

Inventories

Inventories are stated at the lower of cost or estimated net realizable value. We value our inventories generally using the first-in, first-out (FIFO) method or the last-in, first-out (LIFO) method for certain qualifying inventories where LIFO provides a better matching of costs and revenues. We determine costs for our commercial helicopters on an average cost basis by model considering the expended and estimated costs for the current production release. Inventoried costs related to long-term contracts are stated at actual production costs, including allocable operating overhead, advances to suppliers, and, in the case of contracts with the U.S. Government, allocable research and development and general and administrative expenses. Since our inventoried costs include amounts related to contracts with long production cycles, a portion of these costs is not expected to be realized within one year. Pursuant to contract provisions, agencies of the U.S. Government have title to, or security interest in, inventories related to such contracts as a result of advances, performance-based payments and progress payments. Such advances and payments are reflected as an offset against the related inventory balances. Customer deposits are recorded against inventory when the right of offset exists. All other customer deposits are recorded in accrued liabilities.

Property, Plant and Equipment

Property, plant and equipment are recorded at cost and are depreciated primarily using the straight-line method. We capitalize expenditures for improvements that increase asset values and extend useful lives.

Intangible and Other Long-Lived Assets

At acquisition, we estimate and record the fair value of purchased intangible assets primarily using a discounted cash flow analysis of anticipated cash flows reflecting incremental revenues and/or cost savings resulting from the acquired intangible asset using market participant assumptions. Amortization of intangible assets with finite lives is recognized over their estimated useful lives using a method of amortization that reflects the pattern in which the economic benefits of the intangible assets are consumed or otherwise realized. Approximately 36% of our gross intangible assets are amortized using the straight-line method, with the remaining assets, primarily customer agreements, amortized based on the cash flow streams used to value the asset.

Long-lived assets, including intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. If the carrying value of the asset held for use exceeds the sum of the undiscounted expected future cash flows, the carrying value of the asset generally is written down to fair value. Long-lived assets held for sale are stated at the lower of cost or fair value less cost to sell. Fair value is determined using pertinent market information, including estimated future discounted cash flows.

Goodwill

We evaluate the recoverability of goodwill annually in the fourth quarter or more frequently if events or changes in circumstances, such as declines in sales, earnings or cash flows, or material adverse changes in the business climate, indicate that the carrying value of a reporting unit might be impaired. The reporting unit represents the operating segment unless discrete financial information is prepared and reviewed by segment management for businesses one level below that operating segment, in which case such component is the reporting unit. In certain instances, we have aggregated components of an operating segment into a single reporting unit based on similar economic characteristics.

In September 2011, the Financial Accounting Standards Board issued guidance that permits companies to perform a qualitative assessment based on economic, industry and company-specific factors as the initial step in the annual goodwill impairment test for all or selected reporting units. Based on the results of the qualitative assessment, companies are only required to perform Step 1 of the annual impairment test for a reporting unit if the company concludes that it is more likely than not that the unit’s fair value is less than its carrying amount. As permitted, we adopted this guidance in the fourth quarter of 2011 to reduce the costs associated with determining each reporting unit’s fair value for the units where it is more likely than not that the fair value exceeds its carrying amount. For the reporting units for which we did not elect to perform a qualitative assessment, we calculated fair value of each reporting unit primarily using discounted cash flows that incorporate assumptions for the unit’s short- and long-term revenue growth rates, operating margins and discount rates, which represent our best estimates of current and forecasted market conditions, current cost structure, anticipated net cost reductions, and the implied rate of return that we believe a market participant would require for an investment in a company having similar risks and business characteristics to the reporting unit being assessed. Goodwill is considered to be potentially impaired when the carrying value of a reporting unit exceeds its estimated fair value.

Pension and Postretirement Benefit Obligations

We maintain various pension and postretirement plans for our employees globally. These plans include significant pension and postretirement benefit obligations, which are calculated based on actuarial valuations. Key assumptions used in determining these obligations and related expenses include expected long-term rates of return on plan assets, discount rates and healthcare cost projections. We evaluate and update these assumptions annually in consultation with third-party actuaries and investment advisors. We also make assumptions regarding employee demographic factors such as retirement patterns, mortality, turnover and rate of compensation increases. We recognize the overfunded or underfunded status of our pension and postretirement plans in the Consolidated Balance Sheets and recognize changes in the funded status of our defined benefit plans in comprehensive income in the year in which they occur. Actuarial gains and losses that are not immediately recognized as net periodic pension cost are recognized as a component of other comprehensive (loss) income (OCI) and are amortized into net periodic pension cost in future periods.

Derivative Financial Instruments

We are exposed to market risk primarily from changes in interest rates and currency exchange rates. We do not hold or issue derivative financial instruments for trading or speculative purposes. To manage the volatility relating to our exposures, we net these exposures on a consolidated basis to take advantage of natural offsets. For the residual portion, we enter into various derivative transactions pursuant to our policies in areas such as counterparty exposure and hedging practices. All derivative instruments are reported at fair value in the Consolidated Balance Sheets. Designation to support hedge accounting is performed on a specific exposure basis. For financial instruments qualifying as fair value hedges, we record changes in fair value in earnings, offset, in part or in whole, by corresponding changes in the fair value of the underlying exposures being hedged. For cash flow hedges, we record changes in the fair value of derivatives (to the extent they are effective as hedges) in OCI, net of deferred taxes. Changes in fair value of derivatives not qualifying as hedges are recorded in earnings.

Foreign currency denominated assets and liabilities are translated into U.S. dollars. Adjustments from currency rate changes are recorded in the cumulative translation adjustment account in shareholders’ equity until the related foreign entity is sold or substantially liquidated. We use foreign currency financing transactions to effectively hedge long-term investments in foreign operations with the same corresponding currency. Foreign currency gains and losses on the hedge of the long-term investments are recorded in the cumulative translation adjustment account with the offset recorded as an adjustment to debt.

Product Liabilities

We accrue for product liability claims and related defense costs when a loss is probable and reasonably estimable. Our estimates are generally based on the specifics of each claim or incident and our best estimate of the probable loss using historical experience and considering the insurance coverage and deductibles in effect at the date of the incident.

Environmental Liabilities and Asset Retirement Obligations

Liabilities for environmental matters are recorded on a site-by-site basis when it is probable that an obligation has been incurred and the cost can be reasonably estimated. We estimate our accrued environmental liabilities using currently available facts, existing technology, and presently enacted laws and regulations, all of which are subject to a number of factors and uncertainties. Our environmental liabilities are not discounted and do not take into consideration possible future insurance proceeds or significant amounts from claims against other third parties.

We have incurred asset retirement obligations primarily related to costs to remove and dispose of underground storage tanks and asbestos materials used in insulation, adhesive fillers and floor tiles. There is no legal requirement to remove these items, and there currently is no plan to remodel the related facilities or otherwise cause the impacted items to require disposal. Since these asset retirement obligations are not estimable, there is no related liability recorded in the Consolidated Balance Sheets.

Warranty and Product Maintenance Contracts

We provide limited warranty and product maintenance programs, including parts and labor, for certain products for periods ranging from one to five years. We estimate the costs that may be incurred under warranty programs and record a liability in the amount of such costs at the time product revenues are recognized. Factors that affect this liability include the number of products sold, historical and anticipated rates of warranty claims, and cost per claim. We assess the adequacy of our recorded warranty and product maintenance liabilities periodically and adjust the amounts as necessary. Additionally, we may establish warranty liabilities related to the issuance of aircraft service bulletins for aircraft no longer covered under the limited warranty programs.

Research and Development Costs

Our customer-funded research and development costs are charged directly to the related contracts, which primarily consist of U.S. Government contracts. In accordance with government regulations, we recover a portion of company-funded research and development costs through overhead rate charges on our U.S. Government contracts. Research and development costs that are not reimbursable under a contract with the U.S. Government or another customer are charged to expense as incurred. Company-funded research and development costs were $525 million, $403 million, and $401 million in 2011, 2010 and 2009, respectively, and are included in cost of sales.

 

Income Taxes

Deferred income tax balances reflect the effects of temporary differences between the financial reporting carrying amounts of assets and liabilities and their tax bases, as well as from net operating losses and tax credit carryforwards, and are stated at enacted tax rates in effect for the year taxes are expected to be paid or recovered. Deferred income tax assets represent amounts available to reduce income taxes payable on taxable income in future years. We evaluate the recoverability of these future tax deductions and credits by assessing the adequacy of future expected taxable income from all sources, including the future reversal of existing taxable temporary differences, taxable income in carryback years, available tax planning strategies and estimated future taxable income. We recognize net tax-related interest and penalties for continuing operations in income tax expense.

Discontinued Operations
Discontinued Operations

Note 2. Discontinued Operations

In pursuing our business strategies, we have periodically divested certain non-core businesses. For several previously-disposed businesses, we have retained certain assets and liabilities. All residual activity relating to our previously-disposed businesses that meet the appropriate criteria are included in discontinued operations.

In connection with the 2008 sale of the Fluid & Power business unit, we received a six-year note with a face value of $28 million and a five-year note with a face value of $30 million, which were both recorded in the Consolidated Balance Sheet net of a valuation allowance. In the fourth quarter of 2011, we received full payment of both of these notes plus interest, resulting in a gain of $52 million that was recorded in Other losses (gains), net.

On April 3, 2009, we sold HR Textron, an operating unit previously reported within the Textron Systems segment. In connection with this sale, we recorded an after-tax gain of $8 million and net cash proceeds of approximately $376 million in 2009.

Goodwill and Intangible Assets
Goodwill and Intangible Assets

Note 3. Goodwill and Intangible Assets

The changes in the carrying amount of goodwill by segment are as follows:

 

 

                                         
(In millions)   Cessna     Bell    

Textron

Systems

    Industrial     Total  

Balance at January 3, 2009

  $ 322     $ 30     $ 956     $ 390     $ 1,698  

Impairment

                      (80     (80

Foreign currency translation

                      2       2  

Other

                2             2  

Balance at January 2, 2010

    322       30       958       312       1,622  

Acquisitions

          1       16       5       22  

Foreign currency translation

                      (12     (12

Balance at January 1, 2011

    322       31       974       305       1,632  

Acquisitions

                      5       5  

Foreign currency translation

                      (2     (2

Balance at December 31, 2011

  $ 322     $ 31     $ 974     $ 308     $ 1,635  

In 2010, we acquired four companies in the Bell, Textron Systems and Industrial segments for aggregate cost of $57 million and recorded $22 million in goodwill and $14 million in intangible assets. In 2009, we recorded an $80 million impairment charge in the Industrial segment’s Golf & Turf Care reporting unit based on lower forecasted revenues and profits related to the effects of the economic recession.

Our intangible assets are summarized below:

 

 

                                                         
            December 31, 2011     January 1, 2011  
(Dollars in millions)   Weighted-
Average
Amortization
Period (in years)
    Gross
Carrying
Amount
    Accumulated
Amortization
    Net     Gross
Carrying
Amount
    Accumulated
Amortization
    Net  

Customer agreements and contractual relationships

    15     $ 367     $ (149   $     218     $ 412     $ (115   $     297  

Patents and technology

    10       95       (59     36       101       (53     48  

Trademarks

    18       36       (19     17       35       (16     19  

Other

    8       22       (16     6       22       (15     7  
            $ 520     $ (243   $ 277     $ 570     $ (199   $     371  

 

In the fourth quarter of 2011, we recorded a $41 million impairment charge to write down $37 million in customer agreements and contractual relationships and $4 million in patents and technology. See Note 9 for more information on this charge.

Amortization expense totaled $51 million, $52 million and $52 million in 2011, 2010 and 2009, respectively. Amortization expense is estimated to be approximately $39 million, $37 million, $35 million, $33 million and $28 million in 2012, 2013, 2014, 2015 and 2016, respectively.

Accounts Receivable and Finance Receivables
Accounts Receivable and Finance Receivables

Note 4. Accounts Receivable and Finance Receivables

Accounts Receivable

Accounts receivable is composed of the following:

 

             
(In millions)  

December 31,

2011

 

January 1,

2011

 

Commercial

  $          528   $ 496  

U.S. Government contracts

  346     416  
    874     912  

Allowance for doubtful accounts

  (18)     (20
    $          856   $ 892  

We have unbillable receivables on U.S. Government contracts that arise when the revenues we have appropriately recognized based on performance cannot be billed yet under terms of the contract. Unbillable receivables within accounts receivable totaled $192 million at December 31, 2011 and $195 million at January 1, 2011.

Finance Receivables

Finance receivables by product line, which includes both finance receivables held for investment and finance receivables held for sale, are presented in the following table by product line:

 

             
(In millions)   December 31,
2011
 

January 1,

2011

 

Aviation

  $        1,876   $ 2,120  

Golf Equipment

  69     212  

Golf Mortgage

  381     876  

Timeshare

  318     894  

Structured Capital

  208     317  

Other liquidating

  43     207  

Total finance receivables

  2,895     4,626  

Less: Allowance for losses

  156     342  

Less: Finance receivables held for sale

  418     413  

Total finance receivables held for investment, net

  $        2,321   $ 3,871  

Aviation primarily includes installment contracts and finance leases provided to purchasers of new and used Cessna aircraft and Bell helicopters and also includes installment contracts and finance leases secured by used aircraft produced by other manufacturers. These agreements typically have initial terms ranging from five to ten years and amortization terms ranging from eight to fifteen years. The average balance of installment contracts and finance leases in Aviation was $1 million at December 31, 2011. Installment contracts generally require the customer to pay a significant down payment, along with periodic scheduled principal payments that reduce the outstanding balance through the term of the loan. Finance leases with no significant residual value at the end of the contractual term are classified as installment contracts, as their legal and economic substance is more equivalent to a secured borrowing than a finance lease with a significant residual value. Golf Equipment primarily includes finance leases provided to purchasers of new E-Z-GO and Jacobsen golf and turf-care equipment.

Golf Mortgage primarily includes golf course mortgages and also includes mortgages secured by hotels and marinas. Mortgages in this product line are secured by real property and are generally limited to 75% or less of the property’s appraised market value at loan origination. These mortgages typically have initial terms ranging from five to ten years with amortization periods from 20 to 30 years. As of December 31, 2011, loans in Golf Mortgage have an average balance of $6 million and a weighted-average contractual maturity of three years. All loans in this portfolio have been classified as held for sale as of December 31, 2011.

 

Timeshare includes pools of timeshare interval resort notes receivable and revolving loans that are secured by pools of timeshare interval resort notes receivable. The timeshare interval notes receivable typically have terms of 10 to 20 years. Timeshare also includes construction/inventory mortgages secured by timeshare interval inventory, by real property and, in many instances, by the personal guarantee of the principals. Construction/inventory mortgages are typically cross-collateralized with revolving notes receivable loans to the same borrower; loans in this portfolio typically have initial revolving terms of one to three years and final maturity terms of an additional one to five years. Structured Capital primarily includes leveraged leases secured by the ownership of the leased equipment and real property.

Our finance receivables are diversified across geographic region, borrower industry and type of collateral. At December 31, 2011, 54% of our finance receivables were distributed throughout the U.S. compared with 67% at the end of 2010. Finance receivables held for investment are composed of the following types of financing vehicles:

 

             
(In millions)  

December 31,

2011

 

January 1,

2011

 

Installment contracts

  $        1,816   $ 2,130  

Revolving loans

  216     501  

Leveraged leases

  208     279  

Finance leases

  123     262  

Mortgage loans

  60     859  

Distribution finance receivables

  54     182  
    $        2,477   $ 4,213  

At December 31, 2011 and January 1, 2011, these finance receivables included approximately $559 million and $635 million, respectively, of receivables that have been legally sold to special purpose entities (SPE), which are consolidated subsidiaries of TFC. The assets of the SPEs are pledged as collateral for their debt, which is reflected as securitized on-balance sheet debt in Note 8. Third-party investors have no legal recourse to TFC beyond the credit enhancement provided by the assets of the SPEs.

We received total proceeds of $476 million and $655 million from the sale of finance receivables in 2011 and 2010, respectively, resulting in total gains of $4 million and $31 million, respectively.

Credit Quality Indicators and Nonaccrual Finance Receivables

We internally assess the quality of our finance receivables held for investment portfolio based on a number of key credit quality indicators and statistics such as delinquency, loan balance to estimated collateral value, the liquidity position of individual borrowers and guarantors and default rates of our notes receivable collateral in the Timeshare product line. For Golf Mortgage, we also utilized debt service coverage prior to the transfer discussed below. Because many of these indicators are difficult to apply across an entire class of receivables, we evaluate individual loans on a quarterly basis and classify these loans into three categories based on the key credit quality indicators for the individual loan. These three categories are performing, watchlist and nonaccrual.

We classify finance receivables held for investment as nonaccrual if credit quality indicators suggest full collection is doubtful. In addition, we automatically classify accounts as nonaccrual that are contractually delinquent by more than three months unless collection is not doubtful. Cash payments on nonaccrual accounts, including finance charges, generally are applied to reduce the net investment balance. We resume the accrual of interest when the loan becomes contractually current through payment according to the original terms of the loan or, if a loan has been modified, following a period of performance under the terms of the modification, provided we conclude that collection of all principal and interest is no longer doubtful. Previously suspended interest income is recognized at that time.

Accounts are classified as watchlist when credit quality indicators have deteriorated as compared with typical underwriting criteria, and we believe collection of full principal and interest is probable but not certain. All other finance receivables held for investment that do not meet the watchlist or nonaccrual categories are classified as performing.

 

A summary of finance receivables held for investment categorized based on the credit quality indicators discussed above is as follows:

 

 

                                                                 
     December 31, 2011     January 1, 2011  
(In millions)   Performing     Watchlist     Nonaccrual     Total     Performing     Watchlist     Nonaccrual     Total  

Aviation

  $ 1,537     $ 214     $ 125     $     1,876     $ 1,713     $ 238     $ 169     $     2,120  

Golf Equipment

    21       37       11       69       138       51       23       212  

Timeshare

    89       25       167       281       222       77       382       681  

Structured Capital

    203       5             208       290       27             317  

Golf Mortgage

                            163       303       219       685  

Other liquidating

    25             18       43       130       11       57       198  

Total

  $ 1,875     $ 281     $ 321     $     2,477     $ 2,656     $ 707     $ 850     $     4,213  

% of Total

    75.7     11.3     13.0             63.0     16.8     20.2        

Nonaccrual finance receivables decreased $529 million in 2011, primarily due to the transfer of the remaining Golf Mortgage portfolio to the held for sale classification and a $215 million reduction in Timeshare, largely due to the resolution of several significant accounts and cash collections on several other accounts. These factors were also the primary reason for the improvement in contractual delinquencies reported below.

We measure delinquency based on the contractual payment terms of our loans and leases. In determining the delinquency aging category of an account, any/all principal and interest received is applied to the most past-due principal and/or interest amounts due. If a significant portion of the contractually due payment is delinquent, the entire finance receivable balance is reported in accordance with the most past-due delinquency aging category.

Finance receivables held for investment by delinquency aging category is summarized in the table below:

 

 

                                                                                 
     December 31, 2011     January 1, 2011  
(In millions)  

Less Than

31 Days

Past Due

   

31-60
Days

Past Due

   

61-90
Days

Past Due

   

Over

90 Days

Past Due

    Total    

Less Than

31 Days

Past Due

   

31-60
Days

Past Due

   

61-90
Days

Past Due

   

Over

90 Days

Past Due

    Total  

Aviation

  $ 1,705     $ 66     $ 37     $ 68     $ 1,876     $ 1,964     $ 67     $ 41     $ 48     $     2,120  

Golf Equipment

    53       3       6       7       69       171       13       9       19       212  

Timeshare

    238       3             40       281       533       14       6       128       681  

Structured Capital

    208                         208       317                         317  

Golf Mortgage

                                  543       12       7       123       685  

Other liquidating

    35                   8       43       166       2       1       29       198  

Total

  $ 2,239     $ 72     $ 43     $ 123     $ 2,477     $ 3,694     $ 108     $ 64     $ 347     $     4,213  

We had no recorded investment in accrual status loans that were greater than 90 days past due in 2011 or in 2010. For the year ended December 31, 2011 and January 1, 2011, 60+ days contractual delinquency as a percentage of finance receivables held for investment was 6.70% and 9.77%, respectively.

Impaired Loans

We evaluate individual finance receivables held for investment in non-homogeneous portfolios and larger accounts in homogeneous loan portfolios for impairment on a quarterly basis. Finance receivables classified as held for sale are reflected at the lower of cost or fair value and are excluded from these evaluations. A finance receivable is considered impaired when it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement based on our review of the credit quality indicators discussed above. Impaired finance receivables include both nonaccrual accounts and accounts for which full collection of principal and interest remains probable, but the account’s original terms have been, or are expected to be, significantly modified. If the modification specifies an interest rate equal to or greater than a market rate for a finance receivable with comparable risk, the account is not considered impaired in years subsequent to the modification. There was no significant interest income recognized on impaired loans in either 2011 or 2010.

 

A summary of impaired finance receivables, excluding leveraged leases, at year end and the average recorded investment for the year is provided below:

 

 

                                                 
    Recorded Investment                    
(In millions)  

Impaired

Loans with

No Related

Allowance for

Credit Losses

   

Impaired

Loans with

Related

Allowance for

Credit Losses

   

Total

Impaired

Loans

    Unpaid
Principal
Balance
   

Allowance

For Losses On

Impaired Loans

   

Average

Recorded

Investment

 
December 31, 2011                                          

Aviation

  $ 47     $ 92     $ 139     $ 142     $ 39     $ 146  

Timeshare

    170       57       227       288       38       315  

Golf Mortgage

                                  232  

Other liquidating

    3       12       15       59       9       30  

Total

  $ 220     $ 161     $ 381     $ 489     $ 86     $ 723  

January 1, 2011

                                               

Aviation

  $ 17     $ 147     $ 164     $ 165     $ 45     $ 201  

Golf Equipment

          4       4       5       2       6  

Timeshare

    69       355       424       459       102       426  

Golf Mortgage

    138       175       313       324       39       300  

Other liquidating

    30       16       46       104       3       79  

Total

  $ 254     $ 697     $ 951     $ 1,057     $ 191     $ 1,012  

Loan Modifications

Troubled debt restructurings occur when we have either modified the contract terms of finance receivables held for investment for borrowers experiencing financial difficulties or accepted a transfer of assets in full or partial satisfaction of the loan balance. Modifications often arise in Golf Mortgage and Timeshare as a result of the lack of financing available to borrowers in these industries. Golf Mortgage loans are typically structured with amortization periods between 20 and 30 years and contractual maturities of between 5 and 10 years, resulting in a significant balloon payment. We modify a significant portion of these loans at, or near the maturity date as a result of this structure. The types of modifications we typically make include extensions of the original maturity date of the contract, extensions of revolving borrowing periods, delays in the timing of required principal payments, deferrals of interest payments, advances to protect the value of our collateral and principal reductions contingent on full repayment prior to the maturity date. Finance receivables held for investment that were modified during 2011 and are categorized as troubled debt restructurings, excluding related allowances for loan losses, are summarized below:

 

 

                                 
          Recorded Investment  
(Dollars in millions)   Number of
Customers
    Pre-Modification     Post-
Modification
    At Dec. 31,
2011
 

Golf Mortgage

    23     $ 203     $ 191     $  

Timeshare

    10       239       199       138  

At December 31, 2011, the recorded investment balance for Golf Mortgage reflects the transfer of finance receivables from held for investment to the held for sale classification. The modifications included above resulted in a reduction in provision for losses of $36 million due to the reversal of allowance for losses related to one significant Timeshare account, partially offset by net portfolio losses of $15 million.

Modified finance receivables are classified as impaired loans and are evaluated on an individual basis to determine whether reserves are required. Our reserve evaluation includes an estimate of the likelihood that the borrower will be able to perform under the contractual terms of the modification. Subsequent payment defaults or delinquency trends of finance receivables modified as troubled debt restructurings are also factored into the evaluation of impaired loans for reserving purposes as a default decreases the likelihood that the borrower will be able to perform under the terms of future modifications. In 2011, we had three customer defaults in Timeshare for finance receivables that had been modified as troubled debt restructurings within the previous twelve months; the recorded investment for these customers totaled $113 million, excluding related allowances for doubtful accounts, at the end of 2011.

 

We may foreclose, repossess or receive collateral when a customer no longer has the ability to make payment. These transfers of assets in full or partial satisfaction of the loan balance are also considered troubled debt restructurings if the fair value of the assets transferred is less than our recorded investment. Similar to the troubled debt restructurings described above, these loans typically have been classified as impaired loans prior to the asset transfer; therefore, reserves have already been established related to the loan. As a result, for 2011, charge-offs of $73 million upon the transfer of such assets were largely offset by previously established reserves.

Troubled debt restructurings resulting in transfers of assets in satisfaction of the loan balance that occurred in 2011 are as follows:

 

 

                         
(Dollars in millions)   Number
of Customers
   

Pre-

Modification
Recorded
Investment

    Post-
Modification
Asset Balance
 

Aviation

    27     $ 53     $ 32  

Golf Mortgage

    5       59       39  

Timeshare

    2       96       60  

Allowance for Losses

A rollforward of the allowance for losses on finance receivables held for investment is provided below:

 

 

                                                 
(In millions)   Aviation     Golf
Equipment
   

Golf

Mortgage

    Timeshare     Other
Liquidating
    Total  

Balance at January 2, 2010

  $ 114     $ 9     $ 65     $ 79     $ 74     $ 341  

Provision for losses

    37       14       66       38       (12     143  

Net charge-offs

    (44     (7     (52     (7     (28     (138

Transfers

                      (4           (4

Balance at January 1, 2011

    107       16       79       106       34       342  

Provision for losses

    18       (3     25       (26     (2     12  

Net charge-offs

    (30     (4     (24     (40     (4     (102

Transfers

          (3     (80           (13     (96

Balance at December 31, 2011

  $ 95     $ 6     $     $ 40     $ 15     $ 156  

A summary of the allowance for losses on finance receivables that are evaluated on an individual and on a collective basis is provided below. The finance receivables reported in this table specifically exclude $208 million and $279 million of leveraged leases at December 31, 2011 and January 1, 2011, respectively, in accordance with authoritative accounting standards.

 

 

                                                                                 
     December 31, 2011     January 1, 2011  
    Finance Receivables Evaluated     Allowance
Based on
Individual
Evaluation
    Allowance
Based on
Collective
Evaluation
    Finance Receivables Evaluated     Allowance
Based on
Individual
Evaluation
    Allowance
Based on
Collective
Evaluation
 
(In millions)   Individually     Collectively     Total         Individually     Collectively     Total      

Aviation

  $ 139     $ 1,737     $ 1,876     $ 39     $ 56     $ 164     $ 1,956     $ 2,120     $ 45     $ 62  

Golf Equipment

    2       67       69       1       5       4       208       212       2       14  

Timeshare

    227       54       281       38       2       424       257       681       102       4  

Golf Mortgage

                                  313       372       685       39       40  

Other liquidating

    15       28       43       9       6       41       195       236       3       31  

Total

  $ 383     $ 1,886     $ 2,269     $ 87     $ 69     $ 946     $ 2,988     $ 3,934     $ 191     $ 151  

Captive and Other Intercompany Financing

Our Finance group provides financing for retail purchases and leases for new and used aircraft and equipment manufactured by our Manufacturing group. The captive finance receivables for these inventory sales that are included in the Finance group’s balance sheets are summarized below:

 

 

             
(In millions)  

December 31,

2011

 

January 1,

2011

 

Installment contracts

  $        1,488   $ 1,652  

Finance leases

  121     220  

Distribution finance receivables

  8     18  

Total

  $        1,617   $ 1,890  

 

In 2011, 2010 and 2009, our Finance group paid our Manufacturing group $284 million, $416 million and $654 million, respectively, related to the sale of Textron-manufactured products to third parties that were financed by the Finance group. Our Cessna and Industrial segments also received proceeds in those years of $2 million, $10 million and $13 million, respectively, from the sale of equipment from their manufacturing operations to our Finance group for use under operating lease agreements. Operating agreements specify that our Finance group has recourse to our Manufacturing group for certain uncollected amounts related to these transactions. At December 31, 2011 and January 1, 2011, the amounts guaranteed by the Manufacturing group totaled $88 million and $69 million, respectively. Our Manufacturing group has established reserves for losses on its balance sheet within accrued and other liabilities for the receivables it guarantees.

In 2009, Textron Inc. agreed to lend TFC funds to pay down maturing debt. The interest rate on this borrowing was 5% at December 31, 2011 and 7% at January 1, 2011. As of December 31, 2011 and January 1, 2011, the outstanding balance due to Textron Inc. for these borrowings was $490 million and $315 million, respectively. These amounts are included in other current assets for the Manufacturing group and other liabilities for the Finance group in the Consolidated Balance Sheets.

Finance Receivables Held for Sale

At the end of 2011 and 2010, approximately $418 million and $413 million of finance receivables were classified as held for sale. At December 31, 2011, finance receivables held for sale primarily include the entire Golf Mortgage portfolio and a portion of the Timeshare portfolio. On a periodic basis, we evaluate our liquidation strategy for the non-captive finance portfolios as we continue to execute our exit plan. In connection with this evaluation, we also review our definition of the foreseeable future. Due to the relative stability of the golf market through the end of 2011, we believe that the foreseeable future now can be extended to a period of one to two years as opposed to the six- to nine-month period we previously used. Based on this change, in the fourth quarter of 2011, we determined that we no longer had the intent to hold the remaining Golf Mortgage portfolio for investment for the foreseeable future, and, accordingly, transferred $458 million of the remaining Golf Mortgage finance receivables, net of an $80 million allowance for loan losses, from the held for investment classification to the held for sale classification. These finance receivables were recorded at fair value at the time of the transfer, resulting in a $186 million charge recorded to Valuation allowance on transfer of Golf Mortgage portfolio to held for sale. Also, in 2011, we transferred a total of $125 million of Timeshare finance receivables to the held for sale classification, based on an agreement to sell a portion of the portfolio that was sold in the fourth quarter of 2011 and interest in other portions of the portfolio. In 2010, we transferred $219 million of Timeshare finance receivables to the held for sale classification as a result of an unanticipated inquiry we have received to purchase these finance receivables; we determined a sale of these finance receivables would be consistent with our goal to maximize the economic value of our portfolio and accelerate cash collections. We received proceeds of $383 million and $582 million in 2011 and 2010, respectively, from the sale of finance receivables held for sale and $10 million and $86 million, respectively, from collections.

Inventories
Inventories

Note 5. Inventories

Inventories are composed of the following:

 

 

             
(In millions)  

December 31,

2011

 

January 1,

2011

 

Finished goods

  $        1,012   $ 784  

Work in process

  2,202     2,125  

Raw materials and components

  399     506  
    3,613     3,415  

Progress/milestone payments

  (1,211)     (1,138
    $        2,402   $ 2,277  

Inventories valued by the LIFO method totaled $1.0 billion and $1.3 billion at the end of 2011 and 2010, respectively, and the carrying values of these inventories would have been approximately $422 million and $441 million, respectively, higher had our LIFO inventories been valued at current costs. Inventories related to long-term contracts, net of progress/milestone payments, were $414 million and $322 million at the end of 2011 and 2010, respectively.

 

Property, Plant and Equipment, Net
Property, Plant and Equipment, Net

Note 6. Property, Plant and Equipment, Net

Our Manufacturing group’s property, plant and equipment, net are composed of the following:

 

 

                     
(Dollars in millions)  

Useful Lives

(in years)

 

December 31,

2011

   

January 1,

2011

 

Land and buildings

  4 –40   $ 1,502     $ 1,453  

Machinery and equipment

  1 –15     3,591       3,348  
          5,093       4,801  

Accumulated depreciation and amortization

        (3,097     (2,869
        $ 1,996     $ 1,932  

Assets under capital leases totaled $251 million and $248 million and had accumulated amortization of $47 million and $40 million at the end of 2011 and 2010, respectively. The Manufacturing group’s depreciation expense, which includes amortization expense on capital leases, totaled $317 million, $308 million and $317 million in 2011, 2010 and 2009, respectively.

Accrued Liabilities
Accrued Liabilities

Note 7. Accrued Liabilities

The accrued liabilities of our Manufacturing group are summarized below:

 

 

             
(In millions)  

December 31,

2011

 

January 1,

2011

 

Customer deposits

  $           729   $ 715  

Salaries, wages and employer taxes

  282     275  

Current portion of warranty and product maintenance contracts

  198     242  

Deferred revenues

  169     161  

Retirement plans

  80     82  

Other

  494     541  

Total accrued liabilities

  $        1,952   $ 2,016  

Changes in our warranty and product maintenance contract liability are as follows:

 

 

                         
(In millions)   2011     2010     2009  

Accrual at beginning of year

  $ 242     $ 263     $ 278  

Provision

    223       189       174  

Settlements

    (223     (231     (217

Adjustments to prior accrual estimates*

    (18     21       28  

Accrual at end of year

  $ 224     $ 242     $ 263  

* Adjustments include changes to prior year estimates, new issues on prior year sales and currency translation adjustments.

 

Debt and Credit Facilities
Debt and Credit Facilities

Note 8. Debt and Credit Facilities

Our debt and credit facilities are summarized below:

 

 

                 
(In millions)  

December 31,

2011

   

January 1,

2011

 

Manufacturing group

               

Long-term senior debt:

               

Medium-term notes due 2011 (weighted-average rate of 9.83%)

  $     $ 13  

6.50% due 2012

    139       154  

3.875% due 2013

    308       315  

4.50% convertible senior notes due 2013

    195       504  

6.20% due 2015

    350       350  

4.625% due 2016

    250        

5.60% due 2017

    350       350  

7.25% due 2019

    250       250  

6.625% due 2020

    231       231  

5.95% due 2021

    250        

Other (weighted-average rate of 3.72% and 3.12%, respectively)

    136       135  
      2,459       2,302  

Less: Current portion of long-term debt

    (146     (19

Total long-term debt

    2,313       2,283  

Total Manufacturing group debt

  $ 2,459     $ 2,302  

Finance group

               

Medium-term fixed-rate and variable-rate notes*:

               

Due 2011 (weighted-average rate of 3.07%)

  $     $ 374  

Due 2012 (weighted-average rate of 4.43% and 4.43%, respectively)

    52       52  

Due 2013 (weighted-average rate of 4.50% and 4.46%, respectively)

    553       553  

Due 2014 (weighted-average rate of 5.07% and 5.07%, respectively)

    111       111  

Due 2015 (weighted-average rate of 2.50% and 3.59%, respectively)

    37       14  

Due 2016 (weighted-average rate of 1.94% and 4.59%, respectively

    43       10  

Due 2017 and thereafter (weighted-average rate of 2.86% and 3.31%, respectively)

    387       242  

Credit line borrowings due 2012 (weighted-average rate 0.91%)

          1,440  

Securitized debt (weighted-average rate of 2.08% and 2.01%, respectively)

    469       530  

6% Fixed-to-Floating Rate Junior Subordinated Notes

    300       300  

Fair value adjustments and unamortized discount

    22       34  

Total Finance group debt

  $ 1,974     $ 3,660  

* Variable-rate notes totaled approximately $100 million and $271 million at December 31, 2011 and January 1, 2011, respectively.

In 2011, Textron Inc. entered into a senior unsecured revolving credit facility that expires in March 2015 for an aggregate principal amount of $1.0 billion, up to $200 million of which is available for the issuance of letters of credit. At December 31, 2011, there were no amounts borrowed against the facility, and there were $38 million of letters of credits issued against it. In October 2011, the Finance group repaid the outstanding balance on its credit facility and elected to terminate the facility.

The following table shows required payments during the next five years on debt outstanding at December 31, 2011:

 

 

                                         
(In millions)   2012     2013     2014     2015     2016  

Manufacturing group

  $     146     $ 532     $ 6     $ 356     $     256  

Finance group

    196       693       232       169       105  
    $     342     $     1,225     $     238     $     525     $     361  

 

Convertible Senior Notes and Related Transactions

On May 5, 2009, we issued $600 million of convertible senior notes with a maturity date of May 1, 2013 and interest payable semiannually. The convertible notes are accounted for in accordance with generally accepted accounting principles, which require us to separately account for the liability (debt) and the equity (conversion option) components of the convertible notes in a manner that reflected our non-convertible debt borrowing rate at time of issuance. Accordingly, we recorded a debt discount and corresponding increase to additional paid-in capital of $134 million at the issuance date. We are amortizing the debt discount utilizing the effective interest method over the life of the notes, which increases the effective interest rate of the convertible notes from its coupon rate of 4.50% to 11.72%.

These notes are convertible at the holder’s option, under certain circumstances, into shares of our common stock at an initial conversion rate of 76.1905 shares of common stock per $1,000 principal amount of convertible notes, which is equivalent to an initial conversion price of approximately $13.125 per share. Upon conversion, we have the right to settle the conversion of each $1,000 principal amount of convertible notes with any of the three following alternatives: (1) cash, (2) shares of our common stock or (3) a combination of cash and shares of our common stock. These notes are convertible only under the following circumstances: (1) during any calendar quarter when the last reported sale price of our common stock for at least 20 trading days during the 30 consecutive trading days ending on the last trading day of the preceding calendar quarter is more than 130% of the applicable conversion price per share of common stock on the last trading day of such preceding calendar quarter, (2) during the five-business-day period after any 10 consecutive trading day measurement period in which the trading price per $1,000 principal amount of convertible notes for each day in the measurement period was less than 98% of the product of the last reported sale price of our common stock and the applicable conversion rate, (3) if specified distributions to holders of our common stock are made or specified corporate transactions occur or (4) at any time on or after February 19, 2013.

In September 2011, we announced a cash tender offer for any and all of the outstanding convertible notes. In accordance with the terms of the tender offer, for each $1,000 principal amount of the convertible notes tendered, we paid the holder $1,524 plus accrued and unpaid interest up to the October 13, 2011 settlement date. In the aggregate, the holders validly tendered $225 million principal amount, or 37.5%, of the convertible notes. Subsequent to the tender offer, we also purchased $151 million principal amount of the convertible notes in a small number of privately negotiated transactions and retired another $8 million related to a holder-initiated conversion in the fourth quarter of 2011. By the end of 2011, we had paid approximately $580 million in cash related to these transactions and had reduced the principal amount of the convertible notes by 64%. In accordance with the applicable authoritative accounting guidance, we determined the fair value of the liability component of the convertible notes purchased in the tender offer and subsequent transactions to be $398 million, with the balance of $182 million representing the equity component. The carrying value of these convertible notes, including unamortized issuance costs, was $343 million, which resulted in a pretax loss of $55 million that was recorded in Other losses (gains), net in the fourth quarter of 2011, along with a $182 million reduction to shareholders’ equity.

We incurred cash and non-cash interest expense of $58 million in 2011 and $60 million in 2010 for these notes. At the end of 2011 and 2010, the face value of the notes totaled $216 million and $600 million, respectively, and the unamortized discount totaled $21 million and $96 million, respectively.

Based on a December 31, 2011 stock price of $18.49, the “if converted value” exceeded the face amount of the notes by $88 million; however, after giving effect to the exercise of the call options and warrants described below, the incremental cash or share settlement in excess of the face amount would result in either a cash payment of $45 million, a 2.4 million net share issuance, or a combination of cash and stock, at our option. Our common stock price exceeded the conversion threshold price of $17.06 per share for at least 20 trading days during the 30 consecutive trading days ended December 31, 2011. Accordingly, the notes are convertible at the holder’s option through March 31, 2012. We may deliver cash, shares of common stock or a combination of cash and shares of common stock in satisfaction of our obligations upon conversion of the convertible notes. We intend to settle the face value of the convertible notes in cash. We have continued to classify these convertible notes as long term based on our intent and ability to maintain the debt outstanding for at least one year through the use of various funding sources available to us.

Call Option and Warrant Transactions

Concurrently with the pricing of the convertible notes in May 2009, we entered into transactions with two counterparties, including an underwriter and an affiliate of an underwriter of the convertible notes, pursuant to which we purchased from the counterparties call options to acquire our common stock and sold to the counterparties warrants to purchase our common stock. We entered into these transactions for the purposes of reducing the cash outflow and/or the potential dilutive effect to our shareholders upon the conversion of the convertible notes.

On October 25, 2011, we entered into separate agreements with each of the counterparties to the call option and warrant transactions to adjust the number of shares of common stock covered by these instruments to reflect the results of the tender offer. Accordingly, we reduced the number of common shares covered under the call options from 45.7 million shares to 28.6 million

shares. In addition, the warrants were amended to reduce the number of shares covered by the warrants to 28.0 million and to change the expiration dates specified in the original agreement to correspond with the final settlement period for the call options. Pursuant to these amendments, we received $135 million for the call option transaction and paid $133 million for the warrant transaction, and the net amount was recorded within shareholders’ equity. Subsequently, due to the additional repurchase of convertible notes, we entered into separate agreements with each of the counterparties to further reduce the number of shares of common stock covered by these instruments. Accordingly, we reduced the number of common shares covered under the call options from 28.6 million shares to 16.5 million shares and reduced the number of shares covered by the warrants from 28.0 million shares to 16.5 million shares. The net value of $20 million related to these amendments was used to increase our capped call position as discussed further below. In the aggregate, the reductions in the number of shares subject to the call options and warrants equated to the number of shares of common stock into which the $384 million principal amount of all the notes repurchased in the fourth quarter of 2011 would have been convertible.

At the end of 2011, the outstanding purchased call options give us the right to acquire from the counterparties 16.5 million shares of our common stock (the number of shares into which all of the remaining notes are convertible) at an exercise price of $13.125 per share (the same as the initial conversion price of the notes), subject to adjustments that mirror the terms of the convertible notes. The call options will terminate at the earlier of the maturity date of the related convertible notes or the last day on which any of the related notes remain outstanding. The warrants give the counterparties the right to acquire, subject to anti-dilution adjustments, an aggregate of 16.5 million shares of common stock at an exercise price of $15.75 per share. We may settle these transactions in cash, shares or a combination of cash and shares, at our option. When evaluated in aggregate, the call options and warrants have the effect of increasing the effective conversion price of the convertible notes from $13.125 to $15.75. Accordingly, we will not incur the cash outflow or the dilution that would be experienced due to the increase of the share price from $13.125 per share to $15.75 per share because we are entitled to receive from the counterparties the difference between our sale to the counterparties of 16.5 million shares at $15.75 per share and our purchase of shares from the counterparties at $13.125 per share.

Based on the structure of the call options and warrants, these contracts meet all of the applicable accounting criteria for equity classification under the applicable accounting standards and, as such, are classified in shareholders’ equity in the Consolidated Balance Sheet. In addition, since these contracts are classified in shareholders’ equity and indexed to our common stock, they are not accounted for as derivatives, and, accordingly, we do not recognize changes in their fair value.

Capped Call Transactions

On October 25, 2011, we entered into capped call transactions with the counterparties for a cost of $32 million, which covered 17.1 million shares of our common stock. We subsequently amended the capped call transactions to cover an additional 11.5 million shares of our common stock in lieu of $20 million we would have received from the counterparties related to the amendment of the option and warrant transactions discussed above. At December 31, 2011, the capped calls covered an aggregate of 28.6 million shares of our common stock (the number of shares into which all of the repurchased notes would have been convertible). We purchased the capped calls in order retain the potential value of the original call option and warrant transactions which we would otherwise have given up upon the downsizing of those instruments. The capped calls have a strike price of $13.125 per share and a cap price of $15.75 per share, which entitles us to receive at the May 2013 expiration date the per share value of our stock price in excess of $13.125 up to a maximum stock price of $15.75. If the market price of our common stock at the expiration date is less than $13.125, the capped call will expire with no value. The maximum value of the capped calls, in the event that our stock price is at least $15.75 at the expiration date, is approximately $75 million. We may elect for the settlement of the capped call transactions, if any, to be paid to us in shares of our common stock or cash or in a combination of cash and shares of common stock. Based on the structure of the capped call, the transactions meet all of the applicable accounting criteria for equity classification and will be classified within shareholders’ equity.

6% Fixed-to-Floating Rate Junior Subordinated Notes

The Finance group’s $300 million of 6% Fixed-to-Floating Rate Junior Subordinated Notes are unsecured and rank junior to all of its existing and future senior debt. The notes mature on February 15, 2067; however, we have the right to redeem the notes at par on or after February 15, 2017 and are obligated to redeem the notes beginning on February 15, 2042. The Finance group has agreed in a replacement capital covenant that it will not redeem the notes on or before February 15, 2047 unless it receives a capital contribution from the Manufacturing group and/or net proceeds from the sale of certain replacement capital securities at specified amounts. Interest on the notes is fixed at 6% until February 15, 2017 and floats at the three-month London Interbank Offered Rate + 1.735% thereafter.

Support Agreement

Under a Support Agreement, Textron Inc. is required to ensure that TFC maintains fixed charge coverage of no less than 125% and consolidated shareholder’s equity of no less than $200 million. In 2011, 2010 and 2009, cash payments of $182 million, $383 million and $270 million, respectively, were paid to TFC to maintain compliance with the fixed charge coverage ratio. In addition, we paid $240 million on January 17, 2012.

 

Derivative Instruments and Fair Value Measurements
Derivative Instruments and Fair Value Measurements

Note 9. Derivative Instruments and Fair Value Measurements

We measure fair value at the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We prioritize the assumptions that market participants would use in pricing the asset or liability into a three-tier fair value hierarchy. This fair value hierarchy gives the highest priority (Level 1) to quoted prices in active markets for identical assets or liabilities and the lowest priority (Level 3) to unobservable inputs in which little or no market data exist, requiring companies to develop their own assumptions. Observable inputs that do not meet the criteria of Level 1, and include quoted prices for similar assets or liabilities in active markets or quoted prices for identical assets and liabilities in markets that are not active are categorized as Level 2. Level 3 inputs are those that reflect our estimates about the assumptions market participants would use in pricing the asset or liability based on the best information available in the circumstances. Valuation techniques for assets and liabilities measured using Level 3 inputs may include methodologies such as the market approach, the income approach or the cost approach and may use unobservable inputs such as projections, estimates and management’s interpretation of current market data. These unobservable inputs are utilized only to the extent that observable inputs are not available or cost-effective to obtain.

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

The assets and liabilities that are recorded at fair value on a recurring basis consist primarily of our derivative financial instruments, which are categorized as Level 2 in the fair value hierarchy. The fair value amounts of these instruments that are designated as hedging instruments are provided below:

 

 

                         
                Asset (Liability)  
(In millions)   Borrowing Group   Balance Sheet Location       

December 31,

2011

 

January 1,

2011

 

Assets

                       

Interest rate exchange contracts*

  Finance   Other assets       $            22   $ 34  

Foreign currency exchange contracts

  Manufacturing   Other current assets       9     39  

Total

              $            31   $ 73  

Liabilities

                       

Interest rate exchange contracts*

  Finance   Other liabilities       $           (7)   $ (6

Foreign currency exchange contracts

  Manufacturing   Accrued liabilities       (5)     (2

Total

              $         (12)   $ (8

* Interest rate exchange contracts represent fair value hedges.

The Finance group’s interest rate exchange contracts are not exchange traded and are measured at fair value utilizing widely accepted, third-party developed valuation models. The actual terms of each individual contract are entered into a valuation model, along with interest rate and foreign exchange rate data, which is based on readily observable market data published by third-party leading financial news and data providers. Credit risk is factored into the fair value of these assets and liabilities based on the differential between both our credit default swap spread for liabilities and the counterparty’s credit default swap spread for assets as compared with a standard AA-rated counterparty; however, this had no significant impact on the valuation at December 31, 2011. At December 31, 2011 and January 1, 2011, we had interest rate exchange contracts with notional amounts upon which the contracts were based of $0.8 billion and $1.1 billion, respectively.

Foreign currency exchange contracts are measured at fair value using the market method valuation technique. The inputs to this technique utilize current foreign currency exchange forward market rates published by third-party leading financial news and data providers. These are observable data that represent the rates that the financial institution uses for contracts entered into at that date; however, they are not based on actual transactions so they are classified as Level 2. At December 31, 2011 and January 1, 2011, we had foreign currency exchange contracts with notional amounts upon which the contracts were based of $645 million and $635 million, respectively.

The Finance group also has investments in other marketable securities totaling $21 million and $51 million at December 31, 2011 and January 1, 2011, respectively, which are classified as available for sale. These investments are classified as Level 2 as the fair value for these notes was determined based on observable market inputs for similar securitization interests in markets that are relatively inactive compared with the market environment in which they were originally issued.

Fair Value Hedges

Our Finance group enters into interest rate exchange contracts to mitigate exposure to changes in the fair value of its fixed-rate receivables and debt due to fluctuations in interest rates. By using these contracts, we are able to convert our fixed-rate cash flows to floating-rate cash flows. The amount of ineffectiveness on our fair value hedges and the gain (loss) recorded in the Consolidated Statements of Operations were both insignificant in 2011 and 2010.

 

Cash Flow Hedges

We manufacture and sell our products in a number of countries throughout the world, and, therefore, we are exposed to movements in foreign currency exchange rates. The primary purpose of our foreign currency hedging activities is to manage the volatility associated with foreign currency purchases of materials, foreign currency sales of products, and other assets and liabilities in the normal course of business. We primarily utilize forward exchange contracts and purchased options with maturities of no more than three years that qualify as cash flow hedges and are intended to offset the effect of exchange rate fluctuations on forecasted sales, inventory purchases and overhead expenses. At December 31, 2011, we had a net deferred gain of $8 million in Accumulated other comprehensive loss related to these cash flow hedges. Net gains and losses recognized in earnings and Accumulated other comprehensive loss on these cash flow hedges, including gains and losses related to hedge ineffectiveness, were not material in 2011 and 2010. We do not expect the amount of gains and losses in Accumulated other comprehensive loss that will be reclassified to earnings in the next twelve months to be material.

We hedge our net investment position in major currencies and generate foreign currency interest payments that offset other transactional exposures in these currencies. To accomplish this, we borrow directly in foreign currency and designate a portion of foreign currency debt as a hedge of net investments. We also may utilize currency forwards as hedges of our related foreign net investments. We record changes in the fair value of these contracts in other comprehensive income to the extent they are effective as cash flow hedges. If a contract does not qualify for hedge accounting or is designated as a fair value hedge, changes in the fair value of the contract are recorded in earnings. Currency effects on the effective portion of these hedges, which are reflected in the foreign currency translation adjustment account within OCI, produced a $4 million after-tax gain in 2011, resulting in an accumulated net gain balance of $18 million at December 31, 2011. The ineffective portion of these hedges was insignificant.

Counterparty Credit Risk

Our exposure to loss from nonperformance by the counterparties to our derivative agreements at the end of 2011 is minimal. We do not anticipate nonperformance by counterparties in the periodic settlements of amounts due. We historically have minimized this potential for risk by entering into contracts exclusively with major, financially sound counterparties having no less than a long-term bond rating of A. The credit risk generally is limited to the amount by which the counterparties’ contractual obligations exceed our obligations to the counterparty. We continuously monitor our exposures to ensure that we limit our risks.

Assets Recorded at Fair Value on a Nonrecurring Basis

The table below presents those assets that are measured at fair value on a nonrecurring basis that had fair value measurement adjustments during 2011 and 2010. These assets were measured using significant unobservable inputs (Level 3) and include the following:

 

 

                                 
    Balance at     Gain (Loss)  
(In millions)   December 31,
2011
    January 1,
2011
    2011     2010  

Finance group

                               

Impaired finance receivables

  $ 81     $ 504     $ (82   $ (148

Finance receivables held for sale

    418       413       (206     (22

Other assets

    128       149       (49     (47

Manufacturing group

                               

Intangible assets

    15             (41      

Impaired Finance Receivables — Impaired nonaccrual finance receivables are included in the table above since the measurement of required reserves on our impaired finance receivables is significantly dependent on the fair value of the underlying collateral. Fair values of collateral are determined based on the use of appraisals, industry pricing guides, input from market participants, our recent experience selling similar assets or internally developed discounted cash flow models. Fair value measurements recorded on impaired finance receivables resulted in charges to provision for loan losses and primarily were related to initial fair value adjustments.

Finance Receivables Held for Sale — Finance receivables held for sale are recorded at fair value on a nonrecurring basis during periods in which the fair value is lower than the cost value. As a result of our plan to exit the non-captive finance business certain finance receivables are classified as held for sale. At December 31, 2011, the finance receivables held for sale include the entire Golf Mortgage portfolio, the majority of which was transferred to the finance receivables held for sale classification in the fourth quarter of 2011, and a portion of the Timeshare portfolio. Due to the transfer, these finance receivables were recorded at fair value, resulting in a $186 million charge recorded to Valuation allowance on transfer of Golf Mortgage portfolio to held for sale.

 

There are no active, quoted market prices for our finance receivables. The estimate of fair value was determined based on the use of discounted cash flow models to estimate the exit price we expect to receive in the principal market for each type of loan in an orderly transaction, which includes both the sale of pools of similar assets and the sale of individual loans. The models we used incorporate estimates of the rate of return, financing cost, capital structure and/or discount rate expectations of current market participants combined with estimated loan cash flows based on credit losses, payment rates and credit line utilization rates. Where available, assumptions related to the expectations of current market participants are compared with observable market inputs, including bids from prospective purchasers of similar loans and certain bond market indices for loans perceived to be of similar credit quality. Although we utilize and prioritize these market observable inputs in our discounted cash flow models, these inputs are not typically derived from markets with directly comparable loan structures, industries and collateral types. Therefore, all valuations of finance receivables held for sale involve significant management judgment, which can result in differences between our fair value estimates and those of other market participants.

Other assets — Other assets include repossessed assets and properties, operating assets received in satisfaction of troubled finance receivables and other investments, which are accounted for under the equity method of accounting and have no active, quoted market prices. The fair value of these assets is determined based on the use of appraisals, industry pricing guides, input from market participants, our recent experience selling similar assets or internally developed discounted cash flow models. For our other investments, the discounted cash flow models incorporate assumptions specific to the nature of the investments’ business and underlying assets and include industry valuation benchmarks such as discount rates, capitalization rates and cash flow multiples.

Intangible assets — In the fourth quarter of 2011, we determined that we had an indicator of potential asset impairment in our Textron Systems segment. As Textron Systems sells many of its products to the U.S. Government, its business environment continues to be shaped by policy and budget decisions determined by the U.S. Government. Recent actions of the President and Congress indicate an ongoing emphasis on federal budget deficit reduction, and budget decisions by the President and Congress may considerably reduce discretionary spending, of which defense constitutes a significant share. Based on the continued deterioration of this environment, the results of our annual operating plan review, which included updated long-range forecast estimates, and the loss of certain contracts, we determined that an indicator of potential asset impairment existed in the fourth quarter, requiring us to perform impairment tests. Based on our analysis, we determined that certain intangible assets were impaired and recorded a $41 million pre-tax impairment charge to write down intangible assets primarily related to customer agreements and contractual relationships associated with AAI-Logistics & Technical Services and AAI-Test & Training businesses. We determined the fair value of these assets using discounted cash flows related to each asset group and a weighted-average cost of capital of approximately 10%. The impairment charge is recorded in cost of sales within segment profit.

Assets and Liabilities Not Recorded at Fair Value

The carrying value and estimated fair values of our financial instruments that are not reflected in the financial statements at fair value are as follows:

 

 

                                 
     December 31, 2011     January 1, 2011  
(In millions)   Carrying
Value
   

Estimated

Fair Value

    Carrying
Value
   

Estimated

Fair Value

 

Manufacturing group

                               

Long-term debt, excluding leases

  $     (2,328   $     (2,561   $     (2,172   $     (2,698

Finance group

                               

Finance receivables held for investment, excluding leases

    1,997       1,848       3,345       3,131  

Debt

    (1,974     (1,854     (3,660     (3,528

Fair value for the Manufacturing group debt is determined using market observable data for similar transactions. At December 31, 2011 and January 1, 2011, approximately 53% and 33%, respectively, of the fair value of term debt for the Finance group was determined based on observable market transactions. The remaining Finance group debt was determined based on discounted cash flow analyses using observable market inputs from debt with similar duration, subordination and credit default expectations. We utilize the same valuation methodologies to determine the fair value estimates for finance receivables held for investment as used for finance receivables held for sale.

 

Shareholders' Equity
Shareholder's Equity

Note 10. Shareholders’ Equity

Capital Stock

We have authorization for 15 million shares of preferred stock with a par value of $0.01 and 500 million shares of common stock with a par value of $0.125. Outstanding common stock activity for the three years ended December 31, 2011 is presented below:

 

 

                         
(In thousands)   2011     2010     2009  

Beginning balance

    275,739       272,272       242,041  

Exercise of stock options

    177       336       10  

Conversion of preferred stock to common stock

          31       556  

Issued to Textron Savings Plan

    2,686       2,682       5,460  

Common stock offering

                23,805  

Other issuances

    271       418       400  

Ending balance

    278,873       275,739       272,272  

Reserved Shares of Common Stock

At the end of 2011, common stock reserved for the conversion of convertible notes, the exercise of outstanding stock options and warrants, and the issuance of shares upon vesting of outstanding restricted stock units totaled 62 million shares. See the “Convertible Senior Notes and Related Transactions” section in Note 8 for information on our convertible debt.

Income per Common Share

We calculate basic and diluted earnings per share (EPS) based on net income, which approximates income available to common shareholders for each period. Basic EPS is calculated using the two-class method, which includes the weighted-average number of common shares outstanding during the period and restricted stock units to be paid in stock that are deemed participating securities as they provide nonforfeitable rights to dividends. Diluted EPS considers the dilutive effect of all potential future common stock, including stock options, restricted stock units and the shares that could be issued upon the conversion of our convertible notes, as discussed below, and upon the exercise of the related warrants. The convertible note call options purchased in connection with the issuance of the convertible notes are excluded from the calculation of diluted EPS as their impact is always anti-dilutive. Upon conversion of our convertible notes, as described in Note 8, the principal amount would be settled in cash, and the excess of the conversion value, as defined, over the principal amount may be settled in cash and/or shares of our common stock. Therefore, only the shares of our common stock potentially issuable with respect to the excess of the notes’ conversion value over the principal amount, if any, are considered as dilutive potential common shares for purposes of calculating diluted EPS.

The weighted-average shares outstanding for basic and diluted EPS are as follows:

 

 

                         
(In thousands)   2011     2010     2009  

Basic weighted-average shares outstanding

    277,684       274,452       262,923  

Dilutive effect of:

                       

Convertible notes and warrants

    28,869       27,450        

Stock options and restricted stock units

    702       653        

Diluted weighted-average shares outstanding

    307,255       302,555       262,923  

In 2011 and 2010, stock options to purchase 5 million and 7 million shares, respectively, of common stock outstanding are excluded from our calculation of diluted weighted-average shares outstanding as the exercise prices were greater than the average market price of our common stock for those periods. These securities could potentially dilute EPS in the future. In 2009, the potential dilutive effect of 8 million weighted-average shares of stock options, restricted stock units and the shares that could be issued upon the conversion of our convertible notes and upon the exercise of the related warrants was excluded from the computation of diluted weighted-average shares outstanding as the shares would have an anti-dilutive effect on the loss from continuing operations.

 

Other Comprehensive Income (Loss)

The before and after-tax components of other comprehensive income (loss) are presented below:

 

 

                         
(In millions)   Pre-Tax
Amount
   

Tax (Expense)

Benefit

   

After-Tax

Amount

 

 

 

2011

                       

 

 

Foreign currency translation adjustment

  $ (1   $ (2   $ (3

Deferred gains on hedge contracts

    (7     2       (5

Pension adjustments

    (527     177       (350

Other reclassification adjustments

    75       (26     49  

 

 
    $     (460   $ 151     $     (309

 

 

2010

                       

 

 

Foreign currency translation adjustment

  $ 44     $ (46   $ (2

Deferred gains on hedge contracts

    17       (3     14  

Pension adjustments

    (186     74       (112

Recognition of foreign currency translation loss (see Note 11)

    91       (17     74  

Other reclassification adjustments

    49       (18     31  

 

 
    $ 15     $ (10   $ 5  

 

 

2009

                       

 

 

Foreign currency translation adjustment

  $ 16     $ 7     $ 23  

Deferred gains on hedge contracts

    90       (23     67  

Pension adjustments

    6       (31     (25

Reclassification adjustments

    30       (9     21  

Pension curtailment

    25       (10     15  

 

 
    $ 167     $ (66   $ 101  

 

 

Components of Accumulated Other Comprehensive Loss

 

 

                 

 

 
(In millions)  

December 31,

2011

   

January 1,

2011

 

 

 

Foreign currency translation adjustment

  $ 79     $ 82  

Pension and postretirement benefit adjustments

    (1,711     (1,425

Deferred gains on hedge contracts

    7       27  

 

 

Accumulated other comprehensive loss

  $ (1,625   $     (1,316

 

 
Special Charges
Special charges

Note 11. Special Charges

There were no amounts recorded within special charges in 2011. In 2010 and 2009, special charges included restructuring charges related to a global restructuring program that totaled $99 million and $237 million, respectively. In the fourth quarter of 2008, we initiated a restructuring program to reduce overhead costs and improve productivity across the company and announced the exit of portions of our commercial finance business. This restructuring program primarily included corporate and segment direct and indirect workforce reductions and the closure and consolidation of certain operations. With the completion of this program at the end of 2010, we terminated approximately 12,100 positions worldwide representing approximately 28% of our global workforce since the inception of the program and exited 30 leased and owned facilities and plants at a total program cost of $400 million. We record restructuring costs in special charges as these costs are generally of a nonrecurring nature and are not included in segment profit, which is our measure used for evaluating performance and for decision-making purposes.

In the third quarter of 2010, we substantially liquidated the assets held by a Canadian entity within the Finance segment. Accordingly, we recorded a non-cash charge of $91 million ($74 million after-tax) within special charges to reclassify the entity’s cumulative currency translation adjustment amount within other comprehensive income to the Statement of Operations. The reclassification of this amount had no impact on shareholders’ equity.

 

In the fourth quarter of 2009, we recorded a goodwill impairment charge of $80 million in connection with our annual goodwill impairment test for the Golf and Turf Care reporting unit, which is part of our Industrial segment.

Special charges by segment for 2010 and 2009 are as follows:

 

 

                                                         
   
    Restructuring Program