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    LOCKHEED MARTIN CORPORATION 2008 ANNUAL REPORT


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    2008 FINANCIAL HIGHLIGHTS(a) (In millions, except per share data) 2008 2007 2006 Net sales $42,731 $41,862 $39,620 Operating profit from business segments 4,970 4,691 4,031 Consolidated operating profit 5,131 4,527 3,770 Net earnings 3,217 3,033 2,529 Earnings per diluted share 7.86 7.10 5.80 Average diluted common shares outstanding 409.4 427.1 436.4 Net cash provided by operating activities $ 4,421 $ 4,241 $ 3,783 Cash dividends per common share 1.83 1.47 1.25 Cash, cash equivalents and short-term investments 2,229 2,981 2,293 Total assets 33,439 28,926 28,231 Total debt 3,805 4,407 4,439 Stockholders’ equity 2,865 9,805 6,884 Common shares outstanding at year-end 393 409 421 Debt-to-total-capital ratio 57% 31% 39% Return on invested capital(b) 21.7% 21.4% 19.2% NOTES: (a) For additional information, including a discussion of matters affecting the comparability of the information presented above, refer to Selected Financial Data, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and the Notes to Consolidated Financial Statements in our 2008 Form 10-K included in this Annual Report. (b) For additional information concerning return on invested capital, including its definition and use, see Note (h) to Selected Financial Data in our 2008 Form 10-K included in this Annual Report.


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    DEAR FELLOW SHAREHOLDERS Operationally and financially, Lockheed Martin is stronger than ever. Our consistent performance on the overwhelming majority of programs, and the company’s ability to win new business across the board, has sustained the momentum and financial strength built through years of adhering to a strategy of disciplined growth. A focus on cash, operational excellence, and strategically placed acquisitions has served us well through the current economic downturn. (Photograph – From left to right: Ralph D. Heath, Executive Vice President, Aeronautics; Joanne M. Maguire, Executive Vice President, Space Systems; Robert J. Stevens, Chairman, President and Chief Executive Officer; Bruce L. Tanner, Executive Vice President and Chief Financial Officer; Linda R. Gooden, Executive Vice President, Information Systems & Global Services; Christopher E. Kubasik, Executive Vice President, Electronic Systems.) LOCKHEED MARTIN CORPORATION 1 2008 ANNUAL REPORT


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    Financial Strength In early 2009, we established Lockheed Martin Australia after acquiring in 2008 the Overall, 2008 was an excellent year for remainder of the defense and intelligence Lockheed Martin as sales reached a record business of RLM Systems Pty, Ltd. With $42.7 billion, and we grew our earnings Lockheed Martin Australia we deepen per share for the seventh consecutive year our commitment to the Australian defense at a double-digit rate, from $7.10 in 2007 and government customer. It also reflects to $7.86 in 2008. The fourth quarter of Lockheed Martin’s strategy to grow its the year represented the 24th consecutive international business, and continue to quarter of positive cash from operations. forge mutually beneficial partnerships We repurchased $2.9 billion of stock, with government and industry worldwide. reduced more than $600 million in long- Today, we have partnerships, joint term debt, and paid dividends totaling ventures, and other business in more than $737 million during 2008. It was the sixth 75 countries. year in a row that we have increased our dividend payment in excess of ten percent. Lockheed Martin: A National Asset Our strong cash position has allowed us With a new presidential administration to seek targeted acquisitions that add value and a new Congress, we recognize the to the portfolio and are consistent with potential for budgetary pressure that could our core and closely adjacent businesses. impact defense spending and procurement One such acquisition in 2008 was Eagle priorities. In the approved fiscal year Group International LLC, which provides 2009 budget, we do see continued logistics, information technology, growth in key areas that are important training, and healthcare services to the to Lockheed Martin’s global security Department of Defense. The acquisition business. Acquisitions and the successful of Eagle Group extends our logistics and pursuit of new business opportunities have business process outsourcing capabilities, established and enhanced our position fortifies our relationships with several key in logistics, sustainment, and advanced U.S. Army customers, and enhances our warfare capabilities. Lockheed Martin support for military force recapitalization is positioned to succeed as a result of and modernization. strategic initiatives that have expanded our product and service offerings to the In 2008, we completed the acquisition U.S. government and allied nations. of Aculight Corporation which provides laser-based solutions for national defense Lockheed Martin remains firmly and aerospace customers. The company committed to providing our customers has expertise in countermeasures, laser with the effective solutions they require radar, high power directed energy, and to address their most significant and medical products. complex challenges. As a company of LOCKHEED MARTIN CORPORATION 2 2008 ANNUAL REPORT


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    146,000 dedicated and supremely talented In October, Lockheed Martin established individuals, we work to strengthen the its Center for Cyber Security Innovation national defense; safeguard the homeland; (CCSI), which will deliver our cyber and provide critical systems and services security solutions across the company for the civilian agencies of the federal to benefit our customers long-term. government. Lockheed Martin’s cyber security experts apply real-time protection for customer As a company entrusted with these networks across a diverse set of defense, missions, Lockheed Martin is more than a intelligence, and civilian agencies. leading systems integrator and aerospace company – it is a national asset. We view Missile defense remains an important Lockheed Martin as a critical resource, not priority for the United States and its only because of this enterprise’s service to allies. In February, our Aegis ballistic the national security of the United States missile defense system destroyed an and its allies, but also in the contributions errant satellite, preventing an uncontrolled this company makes to the economy in and unpredictable re-entry into Earth’s terms of jobs and job creation. atmosphere. Remaining competitive and able to shape On the surface of Mars, the Lockheed the game in a changing industry requires Martin-built Phoenix Lander has that our management team encourages broadened our understanding of this innovation at every level. Lockheed mysterious planet. We continue to Martin’s entrepreneurial edge has been a partner with NASA, at the forefront of key differentiator in this industry. In 2008, interplanetary science, as the designer and our Advanced Development Programs, the builder of the next space vehicle that will famed Skunk Works, was recognized for its investigate current and past climate change 65 years of service in peacetime and in war on Mars. with the National Medal of Technology and Innovation presented by the president Our F-35 Lightning II combat aircraft of the United States. continued to meet important milestones in 2008, and we are confident our first production deliveries to the U.S. Air Force Global Security At The Leading Edge will be achieved in 2010. Among the Lockheed Martin’s technology edge is the achievements of the F-35 last year were result of our efforts to conduct research successful aerial re-fueling trials, the first in areas that can bring new products and flight of the short-takeoff/vertical landing advancements to the market. Some of the (STOVL) variant, and the first supersonic breathtaking achievements we saw in 2008 flight. The Norwegian and Dutch are ensuring Lockheed Martin can and will ministries of defense also selected the F-35 build for future growth. as their next-generation fighter aircraft. LOCKHEED MARTIN CORPORATION 3 2008 ANNUAL REPORT


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    In 2008, we delivered the first Littoral Lockheed Martin won the Airborne and Combat Ship, the U.S. Navy’s USS Maritime /Fixed Stations Joint Tactical Freedom (LCS-1). Built by a Lockheed Radio System (AMF JTRS) contract Martin-led team, the Littoral Combat to provide tactical communications Ship is designed to protect coastal waters. and networking to the U.S. Air Force, Agile, fast and networked to provide a Army, and Navy. full picture of the battlespace, the Littoral Combat Ship is equipped for such missions The F-22 Raptor surpassed the as mine warfare, anti-submarine warfare, 50,000-flight-hour milestone; and the and surface warfare. The unique design Department of Defense recognized the of this innovative vessel will provide F-22 team with two major awards for unprecedented capabilities to the U.S. Navy. Performance Based Logistics in 2008. Other operational highlights include the We were awarded a 10-year contract following contract awards and milestone by the FBI to develop and maintain the achievements: Next Generation Identification System – a state-of-the-art biometrics for state, We were selected by the U.S. Army local, and federal law enforcement. and U.S. Marine Corps as one of three companies to continue development of The U.S. Air Force selected a Lockheed the Joint Light Tactical Vehicle – the Martin-led team to build the advanced follow-on to the Humvee. Global Positioning System, known as GPS III. Lockheed Martin was Canada’s choice to modernize 12 Halifax class frigates and NASA selected Lockheed Martin to provide long-term fleet logistics support. build the next-generation Geostationary Operational Environmental Satellite Lockheed Martin won the contract to R-Series, known as GOES-R, to provide manage the 2011 Census for England, accurate real-time weather forecasting Wales, and Northern Ireland by and early warning to the public and providing secure and accurate data private sectors. capture and processing support services. Our Trident II D5 fleet ballistic We were awarded the Facilities missile conducted its 125th successful Development and Operations Contract consecutive launch, a record unmatched by NASA at the Johnson Space Center, by any other large ballistic missile or supporting training, flight planning, space launch vehicle. and operations for human space flight programs. LOCKHEED MARTIN CORPORATION 4 2008 ANNUAL REPORT


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    A Culture of Responsibility an overall sense of corporate social responsibility. To that end, we have set These accomplishments reflect our goals to reduce the adverse effects on the progress in creating an environment that environment due to our operations. Our breaks down the barriers that inhibit target by 2012 is to reduce by 25 percent teamwork, enabling us to offer the most Lockheed Martin’s carbon footprint, effective solutions for our customers. waste to landfill, and water usage. Our conservation efforts were recognized by We are creating a corporate culture that puts Corporate Responsibility Officer magazine, a premium on talent development. Hiring which ranked Lockheed Martin as among and retaining highly-skilled employees is the “100 Best Corporate Citizens’’ for 2008. critical to our ability to compete in the years ahead. In February 2009, we opened our Lockheed Martin’s success as the world’s new Center for Leadership Excellence on leading global security company has been the campus of our Bethesda headquarters. built around an uncompromising adherence This state-of-the-art conference and to innovation, financial discipline, talent training facility will provide our employees development, and a clear understanding opportunities for professional advancement, of what our customers need to accomplish as well as a venue for meeting with our their goals. Our management team looks customers and shareholders. forward to another year of serving the national interest and the cause of freedom, The men and women of Lockheed Martin progress, and security worldwide. We are tireless in their dedication to excellence approach this mission in 2009, as we on the job and in their communities. In always have, with steadfast commitment 2008, the people of Lockheed Martin and a broad vision. volunteered more than 1.2 million hours to important causes such as bike-a-thons for medical research, help for the homeless, and USO stuffing parties that provide care February 26, 2009 packages to our troops overseas. We salute the employees of Lockheed Martin who are deployed in the defense of freedom; their sacrifice ensures that the light of liberty will not be dimmed. We foster a culture that puts the proper Robert J. Stevens focus on ethical business conduct on Chairman, President and the part of every employee, as well as Chief Executive Officer LOCKHEED MARTIN CORPORATION 5 2008 ANNUAL REPORT


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    CORPORATE DIRECTORY (As of February 26, 2009) BOARD OF DIRECTORS E. C. “Pete” Aldridge Jr. Gwendolyn S. King James M. Schneider Former Under Secretary President Chairman of Defense Podium Prose Horizon Bank, SSB (A Washington, D.C.-based Nolan D. Archibald Speaker’s Bureau) Anne Stevens Chairman, President and Chairman, President and Chief Executive Officer James M. Loy Chief Executive Officer The Black & Decker Senior Counselor Carpenter Technology Corporation The Cohen Group Corporation David B. Burritt Douglas H. McCorkindale Robert J. Stevens Vice President and Retired Chairman Chairman, President and Chief Financial Officer Gannett Co., Inc. Chief Executive Officer Caterpillar Inc. Lockheed Martin Corporation Joseph W. Ralston James O. Ellis Jr. Vice Chairman James R. Ukropina President and The Cohen Group Chief Executive Officer Chief Executive Officer Directions, LLC Institute of Nuclear Power Frank Savage (A Management and Operations Chief Executive Officer Consulting Firm) Savage Holdings LLC EXECUTIVE OFFICERS James B. Comey Christopher E. Kubasik Martin T. Stanislav Senior Vice President and Executive Vice President Vice President and Controller General Counsel Electronic Systems Linda R. Gooden Robert J. Stevens Executive Vice President Joanne M. Maguire Chairman, President and Information Systems & Executive Vice President Chief Executive Officer Global Services Space Systems Ralph D. Heath Bruce L. Tanner Executive Vice President John C. McCarthy Executive Vice President and Aeronautics Vice President and Treasurer Chief Financial Officer LOCKHEED MARTIN CORPORATION 6 2008 ANNUAL REPORT


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    United States SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2008 Commission file number 1-11437 LOCKHEED MARTIN CORPORATION (Exact name of registrant as specified in its charter) Maryland 52-1893632 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 6801 Rockledge Drive, Bethesda, Maryland 20817-1877 (301/897-6000) (Address and telephone number of principal executive offices) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of each exchange on which registered Common Stock, $1 par value New York Stock Exchange, Inc. Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes È No ‘ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ‘ No È Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes È No ‘ Indicate by check mark if the disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. È Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act (check one). Large accelerated filer È Accelerated filer ‘ Non-accelerated filer ‘ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12-b2 of the Exchange Act). Yes ‘ No È State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second quarter. Approximately $39.2 billion as of June 27, 2008. Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date. Common Stock, $1 par value, 395,271,609 shares outstanding as of January 31, 2009. DOCUMENTS INCORPORATED BY REFERENCE Portions of Lockheed Martin Corporation’s 2009 Definitive Proxy Statement are incorporated by reference in Part III of this Form 10-K.


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    LOCKHEED MARTIN CORPORATION FORM 10-K For the Fiscal Year Ended December 31, 2008 CONTENTS Part I Page Item 1 Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Item 1A Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Item 1B Unresolved Staff Comments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 Item 2 Properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Item 3 Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Item 4 Submission of Matters to a Vote of Security Holders . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Item 4(a) Executive Officers of the Registrant . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Part II Item 5 Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28 Item 6 Selected Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31 Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations . . . . . . . . . . 33 Financial Section Roadmap . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 Industry Considerations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 Critical Accounting Policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 Results of Operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 Discussion of Business Segments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45 Liquidity and Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51 Capital Structure and Resources . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53 Contractual Commitments and Off-Balance Sheet Arrangements . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Acquisition and Divestiture Activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 Quantitative and Qualitative Disclosure of Market Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58 Recent Accounting Pronouncements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 Item 7A Quantitative and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 Item 8 Financial Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60 Management’s Report on the Financial Statements and Internal Control Over Financial Reporting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60 Report of Ernst & Young LLP, Independent Registered Public Accounting Firm, Regarding Internal Control Over Financial Reporting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Report of Ernst & Young LLP, Independent Registered Public Accounting Firm, on the Audited Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62 Consolidated Statement of Earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63 Consolidated Balance Sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 64 Consolidated Statement of Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65 Consolidated Statement of Stockholders’ Equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66 Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 1. Significant Accounting Policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 2. Earnings Per Share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72 3. Other Income (Expense), Net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 4. Information on Business Segments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 2


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    LOCKHEED MARTIN CORPORATION FORM 10-K For the Fiscal Year Ended December 31, 2008 CONTENTS (continued) Part II (continued) Page 5. Receivables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 77 6. Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78 7. Property, Plant and Equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78 8. Income Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78 9. Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 10. Postretirement Benefit Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 82 11. Stockholders’ Equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 87 12. Stock-Based Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 88 13. Legal Proceedings, Commitments and Contingencies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 90 14. Acquisitions and Divestitures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 92 15. Fair Value Measurements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94 16. Leases . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95 17. Summary of Quarterly Information (Unaudited) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96 Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure . . . . . . . . . . 96 Item 9A Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96 Item 9B Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96 Part III Item 10 Directors, Executive Officers and Corporate Governance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 97 Item 11 Executive Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 97 Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 97 Item 13 Certain Relationships and Related Transactions, and Director Independence . . . . . . . . . . . . . . . . . . . . . . 97 Item 14 Principal Accountant Fees and Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 97 Part IV Item 15 Exhibits and Financial Statement Schedules . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 98 Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101 Exhibits 3


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    PART I ITEM 1. BUSINESS General Lockheed Martin Corporation is a global security company that is principally engaged in the research, design, development, manufacture, integration, and sustainment of advanced technology systems and products. We also provide a broad range of management, engineering, technical, scientific, logistic and information services. We serve both domestic and international customers with products and services that have defense, civil and commercial applications, with our principal customers being agencies of the U.S. Government. We were formed in 1995 by combining the businesses of Lockheed Corporation and Martin Marietta Corporation. We are a Maryland corporation. In 2008, 84% of our net sales were made to the U.S. Government, either as a prime contractor or as a subcontractor. Each of our business segments is heavily dependent on sales to the U.S. Government. Our U.S. Government sales were made to both Department of Defense (DoD) and non-DoD agencies. Sales to foreign governments (including foreign military sales funded, in whole or in part, by the U.S. Government) amounted to 13% of net sales in 2008, while 3% of our net sales were made to commercial and other customers. Our principal executive offices are located at 6801 Rockledge Drive, Bethesda, Maryland 20817-1877. Our telephone number is (301) 897-6000. Our website home page on the Internet is www.lockheedmartin.com. We make our website content available for information purposes only. It should not be relied upon for investment purposes, nor is it incorporated by reference into this Form 10-K. Throughout this Form 10-K, we incorporate by reference information from parts of other documents filed with the Securities and Exchange Commission (SEC). The SEC allows us to disclose important information by referring to it in this manner, and you should review that information. We make our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and proxy statement for our annual shareholders’ meeting, as well as any amendments to those reports, available free of charge through our website as soon as reasonably practical after we electronically file that material with, or furnish it to, the SEC. You can learn more about us by reviewing our SEC filings. Our SEC filings can be accessed through the investor relations page of our website, www.lockheedmartin.com/investor. The SEC also maintains a website at www.sec.gov that contains reports, proxy statements and other information regarding SEC registrants, including Lockheed Martin. Business Segments We operate in four principal business segments: Electronic Systems, Information Systems & Global Services (IS&GS), Aeronautics and Space Systems. For more information concerning our segment presentation, including comparative segment sales, operating profits and related financial information for 2008, 2007 and 2006, see Note 4 - Information on Business Segments beginning on page 73 of this Form 10-K. Electronic Systems Our Electronic Systems segment manages complex programs and designs, develops, and integrates hardware and software solutions to ensure the mission readiness of armed forces and government agencies worldwide. Global security solutions include advanced sensors, decision systems, and weapons for air-, land-, and sea-based platforms. We integrate land vehicles, ships, and fixed- and rotary-wing aircraft. Major lines of business include air and missile defense; tactical missiles; weapon fire control systems; surface ship and submarine combat systems; anti-submarine and undersea warfare systems; land, sea-based, and airborne radars; surveillance and reconnaissance systems; simulation and training systems; and integrated logistics and sustainment services. We also manage and operate the Sandia National Laboratories for the U.S. Department of Energy and are part of the consortium that manages the United Kingdom’s Atomic Weapons Establishment. 4


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    In 2008, net sales of $11.6 billion at Electronic Systems represented 27% of our total net sales. Electronic Systems has three principal lines of business, and the percentage each contributed to its 2008 net sales is: Maritime Systems & Sensors 41% Missiles & Fire Control 21% 38% Platform, Training & Energy U.S. Government customers accounted for approximately 71% of the segment’s total net sales in 2008. Maritime Systems & Sensors Maritime Systems & Sensors (MS2) provides ship systems integration, including command, control, communications, computers, intelligence, surveillance, and reconnaissance (C4ISR) capability across shore-based command centers; surface- ship and submarine combat systems; sea-based missile defense systems; sensors; tactical avionics; port traffic-management systems; missile-launching systems; aerostat surveillance systems; utility-scale renewable energy generation; and supply- chain-management programs and systems. During 2008, MS2 achieved program milestones and new order bookings consistent with Electronic Systems’ growth strategy, which encompasses expanding core businesses; selling products developed for domestic customers internationally; pursuing adjacent market opportunities that leverage core engineering and program management skills; and engaging in investments, acquisitions, and joint ventures that strengthen capabilities and expand customer product offerings. The Aegis Weapon System, among MS2’s core programs, is a fleet defense system and a sea-based element of the U.S. missile defense system. It is a radar and missile launching system, integrated with its own command and control system, designed to defend against advanced air, surface and subsurface threats. The Aegis program encompasses activities in development, production, ship integration test, and lifetime support for ships of the U.S. Navy and international customers. We test and integrate weapon systems for the U.S. Navy’s Ticonderoga class cruiser and Arleigh Burke class destroyer, the Kongo class destroyer for Japan, the F100 and F105 class frigates for Spain, the Fridtjof Nansen class frigate for Norway, the King Sejong the Great class destroyer for Korea, and the Hobart class air warfare destroyer for Australia. Since program inception in 1978, MS2 has received contracts for 111 Aegis Weapons Systems, including 27 for the Ticonderoga class cruiser, 62 for the Arleigh Burke class destroyer, and 22 international systems. Our production workscope in 2008 included four international systems and three domestic systems. In 2008, an updated version of the Aegis Ballistic Missile Defense (BMD) baseline software was completed and certified for shipboard installation and deployment. There are 21 U.S. Navy ships planned with Aegis BMD System technology with long-range surveillance and tracking capability. Successful ballistic missile intercept tests conducted during 2008 included the unprecedented intercept and destruction of an errant U.S. satellite falling to earth by the Aegis BMD System on a U.S. Navy cruiser. In the international arena, the Government of Canada awarded us two long-term contracts for the Combat Systems Integration (CSI) design and build and the In-Service Support elements to modernize the Canadian Navy’s 12 Halifax class frigates. The CSI contract calls for upgrading the command and control systems, redesigning the operations room, and reconfiguring the ship mast to accommodate a new radar suite. The In-Service Support contract will provide long-term support of the combat systems for the frigates and Iroquois class destroyers. The U.S. Navy identified us as a sole source contractor for the proposed refurbishment and full-mission system upgrade of 12 maritime surveillance aircraft for the Taiwanese Navy under a foreign military sale (FMS) program. We are currently negotiating the terms of our contract with the U.S. Navy. Scheduled delivery of the upgraded aircraft is from June 2012 through February 2015. 5


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    As part of our adjacent market strategy, MS2 pursued and was awarded the Fleet Automotive Support Initiative-Global contract by the Defense Logistics Agency to provide parts support for all of the U.S. military’s land vehicles. The U.S. Navy accepted delivery of the Littoral Combat Ship Freedom (LCS-1) in September 2008 following successful completion of builder’s and acceptance trials, and commissioned the ship in Milwaukee, Wisconsin in November. The USS Freedom is the first in a new class of ships designed to provide the added flexibility of interchangeable modular mission packages and the ability to operate in coastal waters. Operational restrictions within the Great Lakes prevented the testing of the ship’s weapons systems which are scheduled to be demonstrated in follow-on acceptance trials on the open sea in Spring 2009. MS2 also completed two acquisitions during 2008. We acquired our former co-owner’s interest in RLM Holdings Pty Ltd, headquartered in Adelaide, Australia in August 2008. We now own 100% of that business. The company specializes in systems engineering, software development, system integration, testing, and support of large, complex, leading-edge systems. In September 2008, we completed our acquisition of Aculight Corporation, based in Bothell, Washington. Aculight is focused on providing laser-based solutions for national defense and aerospace customers. The company has expertise in countermeasures, laser radar, high-power directed energy and other applications. Missiles & Fire Control Missiles & Fire Control develops and produces land-based, air and theater missile-defense systems, tactical battlefield missiles, electro-optical systems, fire-control and sensor systems, and precision-guided weapons and munitions. We also provide sustainment and logistic services in support of fire control and tactical missile programs. The PAC-3 missile is an advanced defensive missile designed to intercept incoming airborne threats. During 2008, we delivered a total of 141 missiles, including the first FMS PAC-3 test missile and ground support equipment for Germany. A fourth quarter award was received for 172 missiles, which includes 108 U.S. missiles and 64 missiles for FMS customers. The Arrowhead fire control system provides modernized targeting and piloting capabilities for Apache helicopter crews to the U.S. Army and international customers, continuing our over 20-year legacy of providing pilot night-vision sensors and targeting capabilities for the Apache. More than 1,000 sensor systems have been delivered to the U.S. Army and foreign military customers since 1983. The Arrowhead kits will replace certain legacy hardware on the U.S. Army and other international customers’ Apache helicopters to provide a modernized sensor for safer flight in day, night and bad weather missions and improved weapons targeting capability. The initial Arrowhead production contract was awarded in 2003 and we delivered our 500th Arrowhead system in 2008. We received awards in 2008 for Arrowhead Lot 5 from the U.S. Army and for international production which authorized 110 additional Arrowhead kits through November 2010. The U.S. Army also awarded us a contract for modernization of the day sensor assembly and legacy obsolescence replacement. The Terminal High Altitude Area Defense (THAAD) system is a transportable defensive missile system designed to engage targets both inside and outside of the Earth’s atmosphere. The THAAD system is comprised of the THAAD fire control and communication units, missiles, radars, launchers, and ground support equipment. The development phase of the program continues, with two successful test flights conducted in 2008 and ten successful flights achieved overall. Initial production effort is underway, with system fielding planned for 2010. Among other 2008 accomplishments, in June we received the largest single award for Hellfire missiles in the program’s history. In September, we were one of three contractors selected for the technology demonstration phase of the Joint Air to Ground Missile program by the U.S. Army, and we delivered our 5,000th guided Multiple Launch Rocket System missile in 2008. Platform, Training & Energy Our Platform, Training & Energy (PT&E) business integrates mission-specific applications for fixed- and rotary-wing platforms, including: provides logistics and sustainment; develops and integrates postal automation and material handling systems; develops tactical wheeled vehicles; and provides simulation, training, and support services. We also manage Sandia National Laboratories for the U.S. Department of Energy. Sandia National Laboratories supports the stewardship of the U.S. nuclear weapons stockpile, developing sophisticated research and technology in the areas of engineering sciences, materials and processes, pulsed power, microelectronics and photonics, micro-robotics, and computational and information sciences. In the United Kingdom, we own one-third of a joint venture that manages that country’s Atomic Weapons Establishment program. 6


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    We lead an industry team to provide the new fleet of “Marine One” helicopters for the President of the United States. VH-71 is the Presidential Helicopter replacement program, and is planned to provide a command and control capability to enable the President to perform the full duties of the office while airborne. We are currently performing on Increment One, which includes test vehicles and pilot production aircraft. Flight tests continue on two test and one production aircraft at Naval Air Station Patuxent River, Maryland. Integration / second phase production work continues on two test and one production aircraft at our facility in Owego, New York. Work on Increment Two has remained stopped on all but a limited number of tasks at our customer’s request since December 21, 2007 as efforts with the U.S. Navy have been focused on identifying cost drivers, evaluating requirements, and analyzing funding profiles for the next phase of the program. As had been anticipated, the Secretary of the Navy notified Congress on January 28, 2009 that there is a Nunn-McCurdy breach, which occurs when projected program costs exceed certain defined thresholds. This notification initiates the process to achieve recertification for continuance of the VH-71 program. In June 2008, the U.S. Navy awarded us a contract for the development of the Automatic Radar Periscope Detection and Discrimination system for the MH-60R helicopter. The system is an upgrade to the multi-mode radar to automatically detect, track and discriminate submarine periscopes from other small radar contacts. In July, we delivered the 11th and final aircraft to the U.S. Navy’s first operational MH-60R helicopter maritime strike squadron, the HSM-71 Raptors, ensuring the squadron is ready for its deployment with an aircraft carrier strike group. Designed primarily for anti-submarine and anti- surface warfare, the MH-60R is planned to replace the Navy’s current fleet of SH-60B and SH-60F Seahawk helicopters. Among adjacent market initiatives, our tactical wheeled vehicle team was one of three chosen for the technology development phase of the Joint Light Tactical Vehicle (JLTV) program. The 27-month technology development contract will require us to supply multiple vehicle variants and assorted equipment that will undergo durability and performance testing by the U.S. Army and U.S. Marine Corps. The technology development phase is then planned to be followed by a development phase and, later, by a production contract. Internationally, our adaptive vehicle architecture was selected for consideration by the United Kingdom Ministry of Defence (MoD) for both the large and small variants required in its Operational Utility Vehicle System procurement. Among other accomplishments in 2008, we graduated the 100,000th student from our C-130 air crew training system for our U.S. Air Force customer. The contract was signed for the United Kingdom’s Military Flight Training System, where we, operating through a joint venture, have been given the responsibility to provide flight training for all MoD flight platforms over a 25 year program. Also in 2008, the U.S. Marine Corps ordered nine combat convoy simulators to provide realistic battlefield training to be delivered within 12 months. We also were awarded a follow on, sole-source contract by the MoD to provide asset visibility, through tracking and managing the assets in a single database, for over 80,000 vehicles. Competition Electronic Systems’ broad portfolio of products and services competes against the products and services of other large aerospace, defense and information technology companies, as well as numerous smaller competitors. We often form teams with other companies that are competitors in other areas to provide customers with the best mix of capabilities to address specific requirements. The principal factors of competition include technical and management capability, affordability, past performance and our ability to provide solutions to our customers’ requirements on a timely basis. Regarding international sales, the purchasing government’s relationship with the U.S. and its industrial cooperation programs are also important factors in determining the outcome of competitions. It is common for international customers to require contractors to comply with their industrial cooperation regulations, sometimes referred to as offset requirements. As a result, we have undertaken foreign offset agreements as part of securing some international business. For more information concerning offset agreements, see “Contractual Commitments and Off-Balance Sheet Arrangements” in Management’s Discussion and Analysis beginning on page 55 of this Form 10-K. Information Systems & Global Services Our IS&GS segment is engaged in providing federal services, Information Technology (IT) solutions and advanced technology expertise across a broad spectrum of applications and customers. IS&GS provides full life-cycle support and highly specialized talent in the areas of software and systems engineering, including capabilities in space, air and ground systems, and also provides logistics, mission operations support, peacekeeping and nation-building services for a wide variety of defense and civil government agencies in the U.S. and abroad. 7


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    In 2008, net sales of $11.6 billion at IS&GS represented 27% of our total net sales. IS&GS has three principal lines of business, and the percentage that each contributed to its 2008 net sales is: 45% Mission Solutions Information Systems 26% 29% Global Services In 2008, U.S. Government customers accounted for approximately 93% of the segment’s total net sales. Mission Solutions Mission Solutions provides intelligence, defense and civil agency customers with research, development, and engineering expertise to produce operational or business solutions. Mission Solutions provides systems that gather, process, assimilate, fuse and distribute data from ground, air, and space assets. We also provide complex systems integration to the DoD for real-time situational awareness. Key programs include: a classified customer portfolio; transformational communications systems (such as the Transformational Satellite Mission Operations Segment and the Warfighter Information Network-Tactical); mission and combat support solutions (such as the Global Command Support System and the Combatant Commanders Integrated Command & Control Systems); and mission critical civil agency programs (such as the U.S. Census, the En Route Automation Modernization for the Federal Aviation Administration (FAA), and the Transportation Worker Identification Credential program for the Transportation Security Administration). In 2008, the DOD awarded IS&GS a contract to support diverse warfighter communications needs through software programmable radio technology. We also were awarded a contract to provide the FBI with a multimodal biometric identification system. In April, the GeoScout program successfully completed the test readiness review for the advanced geospatial intelligence processing portion of that contract. In June, under our contract with the National Archives & Records Administration (NARA), the electronic records archives system achieved initial operating capability which creates a foundation for a permanent archival system to preserve, manage, and provide access to electronic records created by the Federal Government. Information Systems Information Systems provides functional expertise in business systems, IT infrastructure, and process outsourcing systems based on the use of commercial technology and solutions structured to deliver contractually specified levels of service. The contracts within this line of business are mostly task order vehicles (indefinite-delivery/indefinite-quantity (IDIQ) contracts) or Government Services Administration (GSA) schedules. Key programs include the FAA Automated Flight Service Station and the FBI’s Sentinel IT infrastructure program. In July 2008, the FBI deployed the second segment of its Sentinel program to support the case management application capabilities to be developed in upcoming segments. The FBI also authorized us to begin the third segment of the Sentinel program. In addition to these contract milestones, the DoD awarded IS&GS a modernization contract to provide operations and management, systems integration, applications and user support, and scientific and visualization support for DoD’s four largest high performance computing centers. The Defense Threat Reduction Agency also awarded IS&GS a contract to provide standard but flexible information technology architecture. Global Services In Global Services, we support mission services, global security and stability operations and provide facility services. In this arena, the key competencies are the people we provide to support the mission, and our agility in responding to dynamic staffing requirements. Significant programs include: mission planning and launch services for the Orion crew exploration vehicle, other National Aeronautics and Space Administration (NASA) programs, and military space efforts; in-transit visibility and other asset management and logistics programs; and infrastructure and operational support contracts. 8


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    Through our Pacific Architects and Engineers (PAE) subsidiary, Global Services provides management support infrastructure and staffing for overseas bases. This includes base camp construction, logistics, democratization services, and management of embassies, air terminals, base camps, and other facilities. These operations are increasingly global in nature as we are deployed with our customers and our services in support of their mission. Customers include the U.S. Department of State and international agencies such as the North Atlantic Treaty Organization (NATO) and the United Nations. Global Services also includes our wholly-owned subsidiary Savi Technology, which provides radio frequency identification solutions for both our government and commercial customers. In April 2008, IS&GS completed the acquisition of the Eagle Group International LLC, based in Atlanta, Georgia. This acquisition extends our logistics and business process services offerings with the U.S. Army and also provides us with military health system expertise. In June 2008, the DoD Defense Logistics Agency awarded us the Integrated Data Environment / Global Transformation Network Convergence contract to provide common integrated data services to enable development of applications for a cohesive solution for the management of supply chain, distribution and logistics information. In October 2008, NASA awarded us the facilities development and operations contract to provide support at the Johnson Space Center and other locations where astronaut and human spaceflight mission training is conducted. Competition The range of products and services at IS&GS results in competition with other large aerospace, defense and information technology companies, as well as with numerous smaller competitors. The principal factors of competition include technical and management capability, the ability to develop and implement complex, integrated system architectures, affordability and past performance. Program requirements frequently result in the formation of teams such that companies teamed on one program are competitors for another, especially in our Mission Systems line of business. On some outsourcing procurements, which are more prevalent in our Information Systems line of business, we may also compete with a government-led bidding entity. Aeronautics Aeronautics is engaged in the research, design, development, manufacture, integration, sustainment, support, and upgrade of advanced military aircraft, including combat and air mobility aircraft, unmanned air vehicles, and related technologies. Our customers include the military services and various government agencies of the United States and allied countries around the world. In 2008, net sales at Aeronautics of $11.5 billion represented 27% of our total net sales. Aeronautics has three principal lines of business, and the percentage that each contributed to its 2008 net sales is: 74% Combat Aircraft Air Mobility 13% 13% Advanced Research and Development and Other In 2008, U.S. Government customers accounted for approximately 81% of the segment’s net sales. Combat Aircraft Our Combat Aircraft business designs, develops, produces and provides systems support for fighter aircraft. Our major fighter aircraft programs include: • The F-35 Lightning II Joint Strike Fighter – stealth international multi-role coalition fighter; • The F-22 Raptor – air dominance and multi-mission stealth fighter; and • The F-16 Fighting Falcon – low-cost, combat-proven, international multi-role fighter. 9


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    F-35 The F-35 Lightning II is designed to be a superior, stealth multi-role aircraft offering profound improvements in lethality, survivability, affordability, and supportability over all existing international multi-role aircraft. The United States and its international partners (the United Kingdom, Italy, the Netherlands, Turkey, Canada, Australia, Denmark, and Norway) are working under a memorandum of understanding that provides a long-term business framework for partner aircraft production, sustainment, and future upgrades. Since 2001, Aeronautics has been designing, testing and building the F-35 family of aircraft and sustainment systems to meet the joint and coalition requirements of our customers. The F-35’s multiple-variant designs include: • The F-35A, a conventional takeoff and landing variant (CTOL); • The F-35B, a short takeoff and vertical landing variant (STOVL); and • The F-35C, a carrier-based variant (CV). The F-35 is planned to replace the F-16 and A-10 for the U.S. Air Force, the F/A-18A/C for the U.S. Navy, the AV-8B and F/A-18A/C/D for the U.S. Marine Corps, and the Harrier GR 7 and Sea Harrier STOVL attack aircraft for the United Kingdom Royal Air Force and Royal Navy. Calendar-year 2008 marked the seventh full year of performance on the F-35 development contract. Testing of airworthiness and systems evaluation using the first CTOL aircraft continued in 2008 with its first deployment to Edwards Air Force Base, California in October and its transition from subsonic to supersonic flight in November. The first STOVL aircraft achieved first flight and entered the flight test program in June 2008 and is planned to fly in the STOVL mode in 2009. The first flight of the CV aircraft also is planned to occur in 2009. Production continues on the remaining development contract flight test aircraft (all variants) and both CTOL and STOVL production aircraft in Low Rate Initial Production (LRIP) Lots 1 and 2. In late 2008, the U.S. Congress approved full funding for the third LRIP lot which will include seven CTOL, seven STOVL, and an expected three international test airplanes (for the United Kingdom and the Netherlands) for a total of 17 aircraft. Advanced procurement funding for the fourth LRIP production lot of 30 U.S. airplanes was also approved, including funding for the CV configuration. Given the size of the F-35 program, we anticipate that there will be a number of studies related to the program schedule and production quantities over time as part of the normal DoD, Congressional and international partners’ oversight and budgeting processes. F-22 In production since 1997, the F-22 Raptor has unmatched capabilities compared with any other fighter aircraft. The capabilities include enhanced maneuverability, stealth, supercruise speed (speed in excess of Mach 1.5 without afterburner) and advanced integrated avionics that enable pilots to attack critical air and surface targets to gain and maintain air superiority against air-to-air and ground-to-air threats. The program is in full-rate production. Through 2008, a total of 133 F-22s have been delivered to the U.S. Air Force, including 23 Raptors delivered during 2008. At December 31, 2008, there were 62 F-22s in backlog. In November 2008, we were awarded a Lot 10 advance procurement contract for four F-22 aircraft with an option for an additional 16 aircraft. In June 2008, we began delivering F-22s to the fourth operational unit, the 8th Fighter Squadron at Holloman Air Force Base (AFB), New Mexico, and to the U.S. Air Force Weapons School at Nellis AFB, Nevada. Also in 2008, the Raptor completed its deployment to the Royal International Air Tattoo and Farnborough Air shows, its first international air show deployments. The Raptor also participated in its second “Red Flag” exercise, a large-scale force-on-force exercise designed to prepare joint forces to respond to crises around the world, and again demonstrated unique air dominance capabilities essential to ensuring the success of U.S. and coalition forces for decades to come. In 2008, the F-22 surpassed more than 50,000 accumulated flight hours while establishing new standards for capability and maturity. Both the F-35 and F-22 are complementary 5TH Generation fighters, combining stealth, supersonic speed, high maneuverability, sensor fusion and other attributes to achieve a level of capability and survivability unmatched by earlier generation combat aircraft. This allows them to survive in high threat environments characterized by the proliferation of multiple-fired surface to air missiles and advanced air-to-air weapons. While both aircraft provide significant capability advances over the legacy 4TH Generation aircraft, each is designed for unique mission capabilities. The requirements for 10


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    additional F-22 aircraft are being discussed by the Administration, DoD, the U.S. Air Force, and Congress. The optimal numbers of F-22 and F-35 aircraft are dependent on the specific defense planning scenarios, as well as operational rotation requirements. F-16 The F-16 Fighting Falcon is a 4TH Generation fighter which, as a result of multiple upgrades, continues to play an important role in the defense of the U.S. and its allies. From the program’s inception in the mid-1970s through 2008, 4,417 F-16s have been delivered worldwide, representing 30 years of continuous production deliveries. In June 2008, an undefinitized contractual action was signed for the foreign military sales procurement of 24 new F-16 Block 50 aircraft to the Kingdom of Morocco, the 25TH country to purchase this aircraft. In 2008, a total of 28 F-16 aircraft were delivered worldwide. Backlog at year end was 103 F-16 aircraft, including the 24 aircraft for Morocco. Many technologically advanced multi-role capability improvements have been incorporated into new F-16 production aircraft as well as modification programs for in-service aircraft. Air-to-air and precision attack capabilities have been improved through the inclusion of new systems, sensors and weapons. Advanced electronic warfare systems have improved survivability. New fuel tank configurations have increased range and endurance. Modernized, upgraded engines have increased aircraft performance and improved supportability. Advanced communication links also have given the F-16 network-centric warfare capabilities. Other Combat Aircraft We also participate in joint production of the F-2 fighter aircraft for Japan, and are a co-developer of the Korean T-50 supersonic jet trainer aircraft. Air Mobility In Air Mobility, we design, develop, produce and provide full system support and sustainment of tactical and strategic airlift aircraft. Our major programs include production, support and sustainment of the C-130J Super Hercules, upgrade and support of the legacy C-130 Hercules worldwide fleet, support of the existing C-5A/B/C Galaxy fleet, and development, modification, installation and support of the emerging C-5M Super Galaxy fleet. C-130 The C-130J Super Hercules is an advanced technology, tactical transport. It is a multi-mission platform designed primarily to support the military mission of tactical combat transport. It also has been modified to support electronic warfare, weather reconnaissance and sea surveillance missions, and as an aerial tanker. In 2008, we delivered 12 C-130Js, including 11 aircraft to the U.S. Government and one to the Royal Norwegian Air Force. A total of 257 C-130Js have been ordered, with 86 remaining in backlog at the end of 2008. The aircraft in backlog is a record high for the C-130J program that will support a planned increase in the production rate beginning in 2009. Orders received in 2008 included 34 aircraft for the U.S. Government, six for India and four for Qatar. The Super Hercules is the latest variant produced on the longest continuously operating military aircraft assembly line in history. Including all models of the aircraft, we have delivered a total of 2,325 C-130s from the program’s inception in 1954 through 2008. In the U.S., the active-duty Air Force, Air Force Reserve Command and Air National Guard units fly C-130Js. The Marine Corps operates KC-130J tankers and the Coast Guard flies the HC-130J for maritime patrol and search and rescue. International C-130J operators include the United Kingdom Royal Air Force, Royal Australian Air Force, Italian Air Force, Royal Danish Air Force and Royal Norwegian Air Force. C-5 The C-5M Super Galaxy is the product of two major modification programs to the C-5 Galaxy strategic airlifter: the C-5 Avionics Modernization Program (AMP) and the C-5 Reliability Enhancement and Re-Engining Program (RERP). In the first quarter of 2008, the DoD approved the RERP modification of 47 C-5Bs and two C-5Cs. Together, the AMP (111 aircraft) and RERP (49 aircraft) modification programs are expected to significantly extend the life and improve the reliability of the C-5 fleet. A total of 111 C-5 aircraft are currently in the U.S. fleet, operated by active duty U.S. Air Force, Air National Guard, and Air Force Reserve Command units. 11


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    Advanced Research and Development and Other We are involved in advanced development programs incorporating innovative design and rapid prototype applications. Our Advanced Development Programs (ADP) organization, known as the Skunk Works, is focused on future systems including next generation capabilities for both long-range strike and air mobility. We continue to explore technology advancement and insertion in existing aircraft, such as the F-35, F-22, F-16 and C-130. We also are involved in numerous network enabled activities that allow separate systems to work together to increase effectiveness and continue to invest in new technologies to maintain and enhance competitiveness in military aircraft design and development. We have made unmanned air systems one focus of our ADP efforts, and are developing the operational concepts and enabling technologies to provide these assets to the DoD in a cost effective manner. In 2008, the Skunk Works was presented a 2007 National Medal of Technology and Innovation award by President George W. Bush for its inventiveness and contributions to the aerospace industry throughout its 65-year history. Global Sustainment The Global Sustainment enterprise objective is to ensure mission success throughout the life-cycle of Lockheed Martin aircraft. We provide a full range of logistics support, sustaining engineering, aviation upgrades, modifications, and maintenance, repair and overhaul (MRO) for all of our lines of aircraft, including the F-35, the F-22, the F-16, the C-130, the C-5, the P-3 Orion maritime patrol aircraft and the U-2 Dragon Lady high-altitude reconnaissance aircraft. As the original equipment manufacturer for numerous platforms, we are focused on expanding our global sustainment services, an increasingly important portion of the Aeronautics business. We have developed the Autonomic Logistics and Global Sustainment (ALGS) solution for the F-35 Lightning II focused on performance-based logistics, to provide an affordable total air system life-cycle sustainment solution for the aircraft’s multiple variants and worldwide customer base. Our support of the F-22 continues to receive accolades from our DoD customer, winning the Contractor-Military Collaboration of the Year award for F-22 Sustainment at the Defense Logistics 2008 Conference in December and the 2008 Performance-Based Logistics (PBL) System Level award from the Under Secretary of Defense for Acquisition, Technology and Logistics, at the Aerospace Industries Association Fall Product Support Conference in September. Under the Follow-on Agile Sustainment for the Raptor (FASTeR) program, the DoD approved a plan for Lockheed Martin to perform as the product support integrator under a sole source 10-year performance based sustainment acquisition. The contract was awarded in February 2008; the 2009 FASTeR contract option was exercised by the U.S. Air Force in December 2008. Under the Falcon 2020 program, we provide U.S. and international F-16 operators with avionics and structural upgrade kits to enable those customers to keep their fleets viable for the future. We also provide engineering services, technical publications, maintenance, supply chain support, and field support including support of military operations in Iraq and Afghanistan. In Air Mobility, we continue as a key member of the C-130 Hercules team, which includes Rolls Royce and Marshall Aerospace, and which was awarded the Hercules Integrated Operational Support (HIOS) contract for the long-term support of the United Kingdom’s fleet of C-130 aircraft. We continue our partnering agreement, signed in 2007, for the long-term support of Italy’s C-130J fleet. We also offer center wing box modifications and avionics upgrades to customers who fly legacy versions of the Hercules in addition to the support and partnerships provided to sustain our newest tactical aircraft. We are partnered with the Warner Robins Air Logistics Center in the sustainment of C-130J aircraft under a long term sustainment program which has received high marks for its success. Sustainment activities for the C-5 Galaxy include the AMP and RERP modernization efforts previously discussed. We have developed an aircraft service life extension program, including the production of new wings, for the existing fleet of P-3 aircraft, and are continuing work on the P-3 service life extension program for the Royal Norwegian Air Force which began in February 2007. In 2008, we received a contract from the U.S. Customs and Border Protection Agency to provide new wing kits for up to 14 aircraft and an award from the U.S. Navy to provide 13 sets of new production outer wings for its P-3 fleet. In November 2008, the Government of Canada awarded us the Aurora Service Life Extension Program contract for 10 CP-140 (P-3) life extension kits and installation support. The life extension kits are designed to add an estimated 20 to 25 additional years of service to this critical maritime patrol and reconnaissance resource. 12


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    The U-2 has been the backbone of our nation’s airborne intelligence collection operations for several decades, and continues to provide unmatched operational capabilities in support of Operation Enduring Freedom. As a result of the Reconnaissance Avionics Maintainability Program upgrade, which includes state of the art cockpit displays and controls along with other sensor modifications, the U-2 is expected to continue to provide leading-edge intelligence collection capabilities for years to come. Through our sustainment services organization at the Donaldson Center in Greenville, South Carolina, we offer “nose-to-tail” aircraft maintenance, modifications and state-of-the-art upgrades, field team support and a full range of depot services and support to myriad customers worldwide. In mid-2008, we established a global supply chain service capability in Johnstown, Pennsylvania, a one-stop supply chain services provider supporting U.S. military, international government, and commercial customers with operational field sites and a knowledgeable, experienced staff. Under our integrated prime vendor contract with the Defense Logistics Agency, we provide parts to the U.S. Air Force’s three Air Logistics Center depots. Our Kelly Aviation Center, L.P. joint venture with Rolls-Royce provides engine maintenance, repair and overhaul and new engine assembly and testing for military and commercial customers. Competition We are a major worldwide competitor in combat aircraft, air mobility and military aircraft research and development. Military aircraft are subject to a wide variety of U.S. Government controls (e.g., export restrictions, market access, technology transfer, industrial cooperation and contracting practices). Although a variety of criteria determines the results of different competitions, affordability is a major factor, as are past performance and customer confidence. Other critical factors are technical capabilities, release of technology, prior purchase experience, financing and total cost of ownership. In international sales, the purchasing government’s relationship with the U.S. and its industrial cooperation programs are also important factors in determining the outcome of a competition. It is common for international customers to require contractors to comply with their industrial cooperation regulations, sometimes referred to as offset requirements, and we have undertaken foreign offset agreements as part of securing some international business. For more information concerning offset agreements, see “Contractual Commitments and Off-Balance Sheet Arrangements” in Management’s Discussion and Analysis beginning on page 55 of this Form 10-K. We compete with both domestic and international companies. Some or all of these companies are competing, or preparing to compete, for unmanned military aircraft sales. Our military aircraft programs also face potential competition from the application of commercial-aircraft derivatives to missions that require large aircraft and from the proposed application of unmanned systems to traditionally manned missions. With respect to tactical fighters, the F-16 remains a formidable competitor, especially on the basis of affordability, and our continued ability to update its capabilities with changes in sensor and weapons systems. The U.S. Air Force is the only F-22 customer since international sales of the Raptor are presently prohibited by the U.S. Congress. The F-35 is a cornerstone of future global defense cooperation and is planned to replace several existing multi-role fighters for the U.S. and its allied partners. Due to the number of governments that have agreed to participate in the development phase of the program, we anticipate that significant international demand will develop for purchasing the F-35. Demand for air mobility aircraft is driven by the need to maintain or replace large numbers of aircraft for which maintenance costs have been increasing and by the high development costs for new replacement aircraft. Currently available new aircraft compete with proposed new aircraft designs and new derivatives of commercial aircraft, as well as with upgrades to customers’ existing platforms, to meet customer needs. Historically, the U.S. and other governments have sought to maintain and sustain their aircraft as an internal military capability, but this is changing. As a result, demand for outsourced sustainment and logistics has increased. We compete with non-original equipment manufacturing third-party service providers for elements of the sustainment portfolio business. Space Systems Space Systems is engaged in the design, research and development, engineering and production of satellites, strategic and defensive missile systems and space transportation systems. The Satellites product line includes both government and commercial satellites. Strategic & Defensive Missile Systems includes missile defense technologies and systems and fleet ballistic missiles. Space Transportation Systems includes the next generation human space flight system known as the Orion 13


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    crew exploration vehicle, as well as the Space Shuttle’s external tank and commercial launch services using the Atlas V launch vehicle. Through ownership interests in two joint ventures, Space Transportation Systems also includes Space Shuttle processing activities and expendable launch services for the U.S. Government. In 2008, net sales of $8 billion at Space Systems represented approximately 19% of our total net sales. Space Systems has three principal lines of business, and the percentage that each contributed to its 2008 net sales is: 63% Satellites 17% Strategic & Defensive Missile Systems 20% Space Transportation Systems In 2008, U.S. Government customers accounted for approximately 96% of the segment’s net sales. Satellites Our Satellites business designs, develops, manufactures, and integrates advanced technology satellite systems for government and commercial applications. We are responsible for various classified systems and services in support of vital national security systems. The Space-Based Infrared System (SBIRS) program is providing the nation with enhanced worldwide missile detection and tracking capabilities. The consolidated ground system, operational since 2001, processes data from the Defense Support Program satellites and manages the satellite constellation. The ground system also provides the foundation to evolve mission capabilities as SBIRS payloads and satellites are deployed. SBIRS is envisioned to operate with a total of four satellites in geo-synchronous orbit (GEO) and two sensors in highly-elliptical orbit (HEO) to increase mission capabilities for missile warning, missile defense, technical intelligence and battlespace characterization. Our current contract includes two GEO spacecraft and two HEO payloads, and the procurement of long lead material for the third geo-synchronous orbit spacecraft and third HEO payload. The two HEO payloads are on-orbit; one was declared operational in December 2008, and the second HEO is in initial on-orbit checkout and is scheduled to be declared operational in 2009. The Mobile User Objective System (MUOS) program is a next-generation narrowband tactical satellite communications system for the U.S. Navy that is envisioned to provide significantly improved and assured communications for the mobile warfighter. MUOS is planned to replace the current narrowband tactical satellite communications system known as the Ultra High Frequency Follow-On system. The MUOS satellites are designed to be compatible with the existing system and associated legacy terminals and provide increased military communications availability. The program calls for the delivery of a constellation of five satellites and consolidated ground support equipment. We are currently under contract to build three space vehicles, procure long lead material for the fourth space vehicle, and develop the ground segment equipment. The Advanced Extremely High Frequency (AEHF) system is the DoD’s next generation of highly secure communications satellites. The AEHF constellation is envisioned to include four networked satellites designed to provide improved secure data throughput capability and coverage flexibility to regional and global military operations and to be compatible with the Milstar I and II systems. The AEHF communication system includes the satellite constellation, mission control segment, and terminal development. We are under contract to build three space vehicles, procure long lead material for the fourth space vehicle, and develop the ground segment equipment. The Global Positioning System (GPS) is a space-based radio navigation and time distribution system. Its mission is to provide precise, continuous, and all-weather three-dimensional position, velocity, timing and information to properly equipped air-, land-, sea- and space-based users. We are the prime contractor for the GPS IIR program, which includes 20 satellites that will improve navigation accuracy and provide longer autonomous satellite operation than current global positioning satellites. We were awarded the GPS III program contract, which includes two satellites, simulators and the development of a capability insertion program for future satellites. The GPS III program is a development contract intended to deliver major improvements in accuracy, assured service delivery, integrity, and flexibility for military and civil users. 14


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    We also continued to conduct risk reduction and system trade studies supporting the U.S. Air Force’s Transformational Satellite program. The program represents the next step toward transitioning the DoD wideband and protected communications satellite architecture into a single network comprised of multiple satellite, ground, and user segment components. The system is being designed to network mobile warfighters, sensors, weapons, and communications command and control nodes located on the ground, in the air, at sea, or in space. The U.S. Air Force is reassessing its requirements for the system and has recently delayed the planned award of the development contract. We produce exploration spacecraft such as the Mars Reconnaissance Orbiter and Mars Phoenix Lander, as well as earth- orbiting satellites and sensors for Earth observation and environmental monitoring. Our Satellite business also designs, builds, markets and operates turnkey commercial satellite systems for space-based telecommunications and other applications. In 2008, we delivered two commercial satellites and received two new commercial satellite contracts. Strategic & Defensive Missile Systems Our Strategic & Defensive Missile Systems business has been the sole supplier of strategic fleet ballistic missiles to the U.S. Navy since the program’s inception in 1955. The Trident II D5 is the latest generation of submarine launched ballistic missiles, following the highly successful Polaris, Poseidon C3, and Trident I C4 programs. The Trident II D5 began initial production in 1988 and has achieved a mission-success track record of 126 consecutive successful test launches. The Trident II D5 is the only intercontinental ballistic missile in production in the United States. We are integrally involved with several missile defense programs. Under the targets and countermeasures program, we manage missile defense targets hardware and software for the Missile Defense Agency (MDA), providing realistic test environments for the system being developed by the MDA to defend against all classes of ballistic missiles. We are the prime contractor for the MDA’s multiple kill vehicles (MKV) payload system. In the event of an enemy launch, a single interceptor equipped with the MKV payload system is designed to destroy the enemy lethal reentry vehicle along with any countermeasures deployed to confuse the missile defense system. We are part of the industry team that is developing the Airborne Laser to detect, track, and destroy hostile ballistic missiles in the vulnerable boost phase of flight. We provide the beam control fire control system, which is designed to accurately point and focus the high-energy laser beam. Space Transportation Systems Our Space Transportation Systems business provides human space flight systems. We lead an industry team supporting NASA in the design, test, build, integration, and operational capability of the Orion crew exploration vehicle. Orion is an advanced crew capsule design utilizing state-of-the-art technology, and is planned to succeed the Space Shuttle in transporting a new generation of human explorers to and from the International Space Station, the Moon and eventually Mars and beyond. We also manufacture the NASA Space Shuttle external tank. The tank is the only major non-reusable element of the Space Shuttle. One tank is used for each launch. Our existing contract for the external tanks will continue through the final Space Shuttle flight, currently scheduled for 2010. NASA has studies underway to determine the cost and feasibility of extending the program beyond 2010. Our Space Transportation Systems business also includes a 50% ownership interest in two joint ventures. United Space Alliance, LLC (USA) is responsible for the day-to-day operation and management of the Space Shuttle fleet for NASA. USA also performs the modification, testing and checkout operations required to prepare Space Shuttles for launch. United Launch Alliance, LLC (ULA) performs the engineering, production, test and launch operations associated with U.S. Government launches of the Atlas and Delta families of launch vehicles. We continue to market commercial Atlas launch services. Competition U.S. Government purchases of satellite systems, strategic missiles and space transportation systems are characterized by major competitions governed by DoD or NASA procurement regulations. While the evaluation criteria for selection vary from competition to competition, they are generally characterized by the customer’s best value determination, which includes several important elements, such as affordability, technical capability, schedule, and past performance. We compete worldwide for sales of satellites and commercial launch services against several competitors. Based on current projected DoD, NASA and other government spending profiles and budget priorities, we believe we are well-positioned to compete for government satellites, strategic and defensive missile systems, and space transportation 15


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    systems programs. Future competitions for government systems include initiatives for transformational communications, planetary exploration, and science. Patents We routinely apply for, and own a substantial number of U.S. and foreign patents related to the products and services our business segments provide. In addition to owning a large portfolio of intellectual property, we also license intellectual property to and from third parties. The U.S. Government has licenses in our patents that are developed in performance of government contracts, and it may use or authorize others to use the inventions covered by such patents for government purposes. Unpatented research, development, and engineering skills also make an important contribution to our business. While our intellectual property rights in the aggregate are important to the operation of our business segments, we do not believe that any existing patent, license, or other intellectual property right is of such importance that its loss or termination would have a material adverse effect on our business taken as a whole. Raw Materials and Seasonality Aspects of our business require relatively scarce raw materials. We have been successful in obtaining the raw materials and other supplies needed in our manufacturing processes. We seek to manage raw materials supply risk through long-term contracts and by maintaining a stock of key materials in inventory. Aluminum and titanium are important raw materials used in certain of our Aeronautics and Space Systems programs. Long-term agreements have helped enable a continued supply of aluminum and titanium. Carbon fiber is an important ingredient in the composite material that is used in our Aeronautics programs, such as the F-22 and F-35. Nicalon fiber also is a key material used on the F-22 aircraft. One type of carbon fiber and the nicalon fiber that we use are currently only available from single-source suppliers. Aluminum lithium, which we use to produce the Space Shuttle’s external tank and for F-16 structural components, also is currently only available from limited sources. We have been advised by some suppliers that pricing and the timing of availability of materials in some commodities markets can fluctuate widely. These fluctuations may negatively affect price and the availability of certain materials, including titanium. While we do not anticipate material problems regarding the supply of our raw materials and believe that we have taken appropriate measures to mitigate these variations, if key materials become unavailable or if pricing fluctuates widely in the future, it could result in delay of one or more of our programs, increased costs, or reduced award fees. No material portion of our business is considered to be seasonal. Various factors can affect the distribution of our sales between accounting periods, including the timing of government awards, the availability of government funding, product deliveries and customer acceptance. Government Contracts and Regulation Our businesses are heavily regulated in most of our fields of endeavor. We deal with numerous U.S. Government agencies and entities, including all of the branches of the U.S. military, NASA, the U.S. Postal Service, the Social Security Administration, and the Departments of Defense, Energy, Justice, Health and Human Services, Homeland Security, State and Transportation. Similar government authorities exist in other countries and regulate our international efforts. We must comply with and are affected by laws and regulations relating to the formation, administration and performance of U.S. Government and other contracts. These laws and regulations, among other things: • require certification and disclosure of all cost or pricing data in connection with certain contract negotiations; • impose specific and unique cost accounting practices that may differ from U.S. generally accepted accounting principles (GAAP) and therefore require reconciliation; • impose acquisition regulations that define allowable and unallowable costs and otherwise govern our right to reimbursement under certain cost-based U.S. Government contracts; and • restrict the use and dissemination of information classified for national security purposes and the export of certain products and technical data. Government contracts are conditioned upon the continuing availability of legislative appropriations. Long-term government contracts and related orders are subject to cancellation if appropriations for subsequent performance periods become unavailable. Congress usually appropriates funds on a fiscal-year basis even though contract performance may extend over many years. Consequently, at the outset of a program, the contract is usually partially funded, and Congress annually determines if additional funds are to be appropriated to the contract. 16


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    The U.S. Government, and other governments, may terminate any of our government contracts and, in general, subcontracts, at their convenience, as well as for default based on performance. A portion of our business is classified by the U.S. Government and cannot be specifically described. The operating results of these classified programs are included in our consolidated financial statements. The business risks associated with classified programs, as a general matter, do not differ materially from those of our other government programs. Backlog At December 31, 2008, our total negotiated backlog was $80.9 billion compared with $76.7 billion at the end of 2007. Of our total 2008 year-end backlog, approximately $47.2 billion, or 58%, is not expected to be filled within one year. These amounts include both funded backlog (unfilled firm orders for our products and services for which funding has been both authorized and appropriated by the customer – Congress, in the case of U.S. Government agencies) and unfunded backlog (firm orders for which funding has not been appropriated). We do not include unexercised options or potential indefinite-delivery/ indefinite-quantity (IDIQ) orders in our backlog. If any of our contracts were to be terminated by the U.S. Government, our backlog would be reduced by the expected value of the remaining terms of such contracts. Funded backlog was $51.1 billion at December 31, 2008. The backlog for each of our business segments is provided as part of Management’s Discussion and Analysis – “Discussion of Business Segments” beginning on page 45 of this Form 10-K. Research and Development We conduct research and development activities under customer-funded contracts and with our own independent research and development funds. Our independent research and development costs include basic research, applied research, development, systems, and other concept formulation studies, and bid and proposal efforts related to government products and services. These costs are generally allocated among all contracts and programs in progress under U.S. Government contractual arrangements. Corporation-sponsored product development costs not otherwise allocable are charged to expense when incurred. Under certain arrangements in which a customer shares in product development costs, our portion of the unreimbursed costs is generally expensed as incurred. Total independent research and development costs charged to costs of sales, including costs related to bid and proposal efforts, were $1.2 billion in 2008, $1.2 billion in 2007 and $1.1 billion in 2006. See “Research and development and similar costs” in Note 1 – Significant Accounting Policies on page 69 of this Form 10-K. Employees At December 31, 2008, we had approximately 146,000 employees, over 90% of whom were located in the U.S. We have a continuing need for numerous skilled and professional personnel to meet contract schedules and obtain new and ongoing orders for our products. The majority of our employees possess a security clearance. The demand for workers with security clearances who have specialized engineering, information technology and technical skills within the aerospace, defense, and information technology industries is likely to remain high for the foreseeable future, while growth of the pool of trained individuals with those skills has not matched demand. As a result, we are competing with other companies with similar needs in hiring skilled employees. Management considers employee relations to be good. Approximately 15% of our employees are covered by any one of approximately seventy separate collective bargaining agreements with various unions. A number of our existing collective bargaining agreements expire in any given year. Historically, we have been successful in renegotiating expiring agreements without any material disruption of operating activities. Forward-Looking Statements This Form 10-K contains statements which, to the extent they are not recitations of historical fact, constitute forward- looking statements within the meaning of federal securities law. The words believe, estimate, anticipate, project, intend, expect, plan, outlook, scheduled, forecast and similar expressions are intended to help identify forward-looking statements. Statements and assumptions with respect to future sales, income and cash flows, program performance, the outcome of litigation, environmental remediation cost estimates, and planned acquisitions or dispositions of assets are examples of forward-looking statements. Numerous factors, including potentially the risk factors described in the following section, could affect our forward-looking statements and actual performance. 17


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    ITEM 1A. RISK FACTORS An investment in our common stock or debt securities involves risks and uncertainties. While we attempt to identify, manage and mitigate risks to our business to the extent practical under the circumstances, some level of risk and uncertainty will always be present. You should consider the following factors carefully, in addition to the other information contained in this Form 10-K, before deciding to purchase our securities. Our existing U.S. Government contracts are subject to continued appropriations by Congress and may be terminated or delayed if future funding is not made available. Reduced funding for defense procurement and research and development programs could result in terminated or delayed contracts and adversely affect our ability to grow or maintain our sales and profitability. We rely heavily upon sales to the U.S. Government including both DoD and non-DoD agencies, obtaining 84% of our sales from U.S. Government customers in 2008. Future sales from orders placed under our existing U.S. Government contracts are conditioned upon the continuing availability of Congressional appropriations. Congress usually appropriates funds on a fiscal-year basis even though contract performance may extend over many years. We and other U.S. defense contractors have benefited from an upward trend in overall U.S. defense spending in the last few years. This trend continued with the former President’s budget request for fiscal year 2009, which reflected the continued commitment to modernize the Armed Forces and sustain current capabilities while prosecuting the war on terrorism. Future defense budgets and appropriations for our programs and contracts may be affected by possibly differing priorities of the new Administration, including budgeting constraints stemming from the economic recovery and stimulus plans. Although the ultimate size of future defense budgets remains uncertain, current indications are that overall defense spending will continue to increase over the next few years, albeit at lower rates of growth. However, DoD programs in which we participate, or in which we may seek to participate in the future, must compete with other programs for consideration during our nation’s budget formulation and appropriation processes, and may be impacted by the changes in general economic conditions. Budget decisions made in this environment may have long-term consequences for our size and structure and that of the defense industry. We believe that our programs are a high priority for national defense, but there remains the possibility that one or more of our programs will be reduced, extended, or terminated. Reductions in our existing programs, unless offset by other programs and opportunities, could adversely affect our ability to grow our sales and profitability. In this regard, we are pursuing a strategy in which we seek to expand and complement our existing products and services by moving into adjacent businesses in which we believe that our core competencies will enable us to successfully compete. We may seek to move into adjacent businesses through investments, acquisitions, joint ventures, or by developing our internal capabilities. If we are not successful in this effort, we may not be able to grow our sales and profitability at the rates we anticipate or may have deployed financial and management resources sub-optimally. We provide a wide range of defense, homeland security and information technology products and services to the U.S. Government. Although we believe that this diversity makes it less likely that cuts in any specific contract or program will have a long-term effect on us, termination of multiple or large programs or contracts could adversely affect our business and future financial performance. In addition, termination of large programs or multiple contracts at a particular business site could require us to evaluate the continued viability of operating that site. Changes in global security strategy and planning may affect future procurement priorities and existing programs. We cannot predict whether potential changes in security, defense, and intelligence priorities will afford new or additional opportunities for our businesses in terms of existing, follow-on or replacement programs, or whether we would have to close existing manufacturing facilities or incur expenses beyond those that would be reimbursed if one or more of our existing contracts were terminated for convenience due to lack of funding. See “Management’s Discussion and Analysis – Industry Considerations” beginning on page 34 of this report. We are continuing to invest in business opportunities where we can use our customer knowledge, technical strength and systems integration capabilities to win new business. Whether we are successful in continuing to grow sales and profits will depend, in large measure, on whether we are able to deliver the best value solutions for our customer. As a U.S. Government contractor, we are subject to a number of procurement rules and regulations. We must comply with and are affected by laws and regulations relating to the award, administration and performance of U.S. Government contracts. Government contract laws and regulations affect how we do business with our customers and, in 18


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    some instances, impose added costs on our business. A violation of specific laws and regulations could result in the imposition of fines and penalties, the termination of our contracts, or debarment from bidding on contracts. In some instances, these laws and regulations impose terms or rights that are more favorable to the government than those typically available to commercial parties in negotiated transactions. For example, the U.S. Government may terminate any of our government contracts and, in general, subcontracts, at its convenience, as well as for default based on performance. Upon termination for convenience of a fixed-price type contract, we normally are entitled to receive the purchase price for delivered items, reimbursement for allowable costs for work-in-process and an allowance for profit on the contract or adjustment for loss if completion of performance would have resulted in a loss. Upon termination for convenience of a cost reimbursement contract, we normally are entitled to reimbursement of allowable costs plus a portion of the fee. Such allowable costs would include our cost to terminate agreements with our suppliers and subcontractors. The amount of the fee recovered, if any, is related to the portion of the work accomplished prior to termination and is determined by negotiation. A termination arising out of our default could expose us to liability and have a material adverse effect on our ability to compete for future contracts and orders. In addition, on those contracts for which we are teamed with others and are not the prime contractor, the U.S. Government could terminate a prime contract under which we are a subcontractor, irrespective of the quality of our services as a subcontractor. In addition, our U.S. Government contracts typically span one or more base years and multiple option years. The U.S. Government generally has the right to not exercise option periods and may not exercise an option period if the agency is not satisfied with our performance on the contract. Our business could be adversely affected by a negative audit by the U.S. Government. U.S. Government agencies, including the Defense Contract Audit Agency and various agency Inspectors General, routinely audit and investigate government contractors. These agencies review a contractor’s performance under its contracts, cost structure and compliance with applicable laws, regulations, and standards. The U.S. Government also reviews the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s management, purchasing, property, estimating, compensation, accounting, and information systems. Any costs found to be misclassified may be subject to repayment. If an audit or investigation uncovers improper or illegal activities, we may be subject to civil or criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines, and suspension or prohibition from doing business with the U.S. Government. In addition, we could suffer serious reputational harm if allegations of impropriety were made against us. The nature of our business involves significant risks and uncertainties that may not be covered by indemnity or insurance. Elements of our business provide products and services where insurance or indemnification may not be available, including: • Designing, developing, integrating, producing, sustaining and supporting products using: • advanced and unproven technologies, • explosive or other inherently dangerous components, • systems such as spacecraft, satellites, intelligence systems and homeland security applications that operate in extreme, high demand or high risk conditions; • Designing, developing, integrating, producing, sustaining and supporting products to collect, archive, retrieve, fuse, distribute and analyze various types of information; • Deploying employees in countries with unstable or competing governments, in areas subject to peacekeeping or humanitarian missions, in areas of armed conflict, at military installations, or accompanying armed forces in the field; and • Training others to operate or repair advanced technology products or provide security or other homeland security- related services. Failure of these products and services could result in extensive loss of life or property damage. Sometimes these products and services are controversial and our role in providing them could subject us to criticism or harm our reputation. Certain products and services may raise questions with respect to issues of civil liberties, intellectual property, trespass, conversion and similar concepts. The legal obligations of those working with developing technologies and the resulting products and services may raise issues of first impression and the legal decisions that do deal with these questions may differ from jurisdiction to jurisdiction on a global basis. 19


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    Indemnification by the U.S. Government to cover potential claims or liabilities resulting from a failure of technologies developed and deployed may be available in some instances for our defense businesses, but may not be available for homeland security purposes. In addition, there are some instances where the U.S. Government could provide indemnification under applicable law, but elects not to do so. While we maintain insurance for some business risks, it is not possible to obtain coverage to protect against all operational risks and liabilities. We generally seek, and in certain cases have obtained, limitation of potential liabilities related to the sale and use of our homeland security products and services through qualification by the Department of Homeland Security under the SAFETY Act provisions of the Homeland Security Act of 2002. SAFETY Act qualification is less useful and may not be available to mitigate potential liability for products and services sold internationally. Where we are unable to secure indemnification or qualification under the SAFETY Act or choose not to do so, we may nevertheless elect to provide the product or service when we think the related risks are manageable or when emergency conditions relative to national security make qualification impracticable. Substantial claims resulting from an accident, failure of our product or service, other incident or liability arising from our products and services in excess of any indemnity and our insurance coverage (or for which indemnity or insurance is not available or was not obtained) could harm our financial condition, cash flows and operating results. Any accident, even if fully indemnified or insured, could negatively affect our reputation among our customers and the public, and make it more difficult for us to compete effectively. It also could affect the cost and availability of adequate insurance in the future. Our earnings and margins may vary based on the mix of our contracts and programs. Our backlog includes both cost reimbursable and fixed-price contracts. Cost reimbursable contracts generally have lower profit margins than fixed-price contracts. Production contracts mainly are fixed-price contracts, and developmental contracts generally are cost reimbursable contracts. Our earnings and margins may vary materially depending on the types of long-term government contracts undertaken, the nature of the products produced or services performed under those contracts, the costs incurred in performing the work, the achievement of other performance objectives, and the stage of performance at which the right to receive fees is finally determined (particularly under award and incentive fee contracts). Under fixed-price contracts, we receive a fixed price despite the actual costs we incur. We have to absorb any costs in excess of the fixed price. Under time and materials contracts, we are paid for labor at negotiated hourly billing rates and for certain expenses. Under cost reimbursable contracts, we are reimbursed for allowable costs and paid a fee, which may be fixed or performance based. However, if our costs exceed the contract target cost or are not allowable under the applicable regulations, we may not be able to obtain reimbursement for all costs and may have our fees reduced or eliminated. The failure to perform to customer expectations and contract requirements may result in reduced fees and affect our financial performance in that period. Under each type of contract, if we are unable to control costs, our operating results could be adversely affected. Cost overruns or the failure to perform on existing programs also may adversely affect our ability to keep existing programs and win future contract awards. If our subcontractors or suppliers fail to perform their contractual obligations, our prime contract performance and our ability to win future business could be harmed. Many of our contracts involve subcontracts with other companies upon which we rely to perform a portion of the services that we must provide to our customers. There is a risk that we may have disputes with our subcontractors, including disputes regarding the quality and timeliness of work performed by the subcontractor, the workshare provided to the subcontractor, customer concerns about the subcontract, our failure to extend existing task orders or issue new task orders under a subcontract, or our hiring of the personnel of a subcontractor or vice versa. In addition, our subcontractors may be affected by the current economic environment and constraints on available financing to meet their performance requirements or provide needed supplies on a timely basis. A failure by one or more of our subcontractors to satisfactorily provide on a timely basis the agreed-upon supplies or perform the agreed-upon services may affect our ability to perform our obligations as the prime contractor. Subcontractor performance deficiencies could result in a customer terminating our contract for default. A default termination could expose us to liability and affect our ability to compete for future contracts and orders. In addition, a delay in obtaining components and parts from our suppliers may affect our ability to meet our customers’ needs and may affect our profitability. We use estimates in accounting for many of our programs. Changes in our estimates may affect future financial results. Contract accounting requires judgment relative to assessing risks, estimating contract sales and costs, and making assumptions for schedule and technical issues. Due to the size and nature of many of our contracts, the estimation of total sales and cost at completion is complicated and subject to many variables. For example, assumptions have to be made 20


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    regarding the length of time to complete the contract because costs also include expected increases in wages and prices for materials. Similarly, assumptions have to be made regarding the future impacts of efficiency initiatives and cost reduction efforts. Incentives or penalties related to performance on contracts are considered in estimating sales and profit rates, and are recorded when there is sufficient information for us to assess anticipated performance. Estimates of award and incentive fees are also used in estimating sales and profit rates based on actual and anticipated awards. Because judgments and estimates are required, materially different amounts could be recorded if we used different assumptions or if the underlying circumstances were to change. Changes in underlying assumptions, circumstances or estimates may adversely affect future period financial performance. For additional information on accounting policies and internal controls we have in place for recognizing sales and profits, see our discussion under Management’s Discussion and Analysis – “Critical Accounting Policies – Contract Accounting / Revenue Recognition” beginning on page 38 and “Controls and Procedures” beginning on page 59, and “Sales and earnings” in Note 1 – Significant Accounting Policies on page 68 of this Form 10-K. New accounting standards could result in changes to our methods of quantifying and recording accounting transactions, and could affect our financial results and financial position. Changes to GAAP arise from new and revised standards, interpretations and other guidance issued by the Financial Accounting Standards Board, the SEC, and others. In addition, the U.S. Government may issue new or revised Cost Accounting Standards or Cost Principles. The effects of such changes may include prescribing an accounting method where none had been previously specified, prescribing a single acceptable method of accounting from among several acceptable methods that currently exist, or revoking the acceptability of a current method and replacing it with an entirely different method, among others. Changes may result in unanticipated effects on our results of operations or other financial measures. The level of returns on postretirement benefit plan assets, changes in interest rates and other factors could affect our earnings and cash flows in future periods. Our earnings may be positively or negatively impacted by the amount of expense we record for our employee benefit plans. This is particularly true with expense for our pension plans. GAAP requires that we calculate expense for the plans using actuarial valuations. These valuations are based on assumptions that we make relating to financial market and other economic conditions. Changes in key economic indicators can result in changes in the assumptions we use. The key year-end assumptions used to estimate pension expense for the following year are the discount rate, the expected long-term rate of return on plan assets, and the rate of increase in future compensation levels. In 2008, negative asset returns significantly and negatively affected our future benefit plan expense and requirements to fund the plans. Our benefit plan expense also may be affected by legislation and other government regulatory actions. For a discussion regarding how our financial statements may be affected by benefit plan accounting policies, see Management’s Discussion and Analysis – “Critical Accounting Policies – Postretirement Benefit Plans” beginning on page 39 and Note 10 – Postretirement Benefit Plans beginning on page 82 of this Form 10-K. International sales and suppliers may pose potentially greater risks. Our international business may pose greater risks than our domestic business due to the potential for greater volatility in foreign economic and political environments. In return, these greater risks are often accompanied by the potential to earn higher profits than from our domestic business. Our international business also is highly sensitive to changes in foreign national priorities and government budgets which may be further impacted by global economic conditions. Sales of military products are affected by defense budgets (both in the U.S. and abroad) and U.S. foreign policy. Sales of our products and services internationally are subject to U.S. and local government regulations and procurement policies and practices including regulations relating to import-export control. Violations of export control rules could result in suspension of our ability to export items from one or more business units or the entire corporation. Depending on the scope of the suspension, this could have a material effect on our ability to perform certain international contracts. There also are U.S. and international regulations relating to investments, exchange controls and repatriation of earnings, as well as currency, political and economic risks. We also frequently team with international subcontractors and suppliers, who are exposed to similar risks. In international sales, we face substantial competition from both domestic manufacturers and foreign manufacturers whose governments sometimes provide research and development assistance, marketing subsidies and other assistance for their products. 21


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    Some international customers require contractors to comply with industrial cooperation regulations and enter into industrial cooperation agreements, sometimes referred to as offset agreements. Offset agreements may require in-country purchases, manufacturing and financial support projects as a condition to obtaining orders or other arrangements. Offset agreements generally extend over several years and may provide for penalties in the event we fail to perform in accordance with offset requirements. See “Contractual Commitments and Off-Balance Sheet Arrangements” in Management’s Discussion and Analysis beginning on page 55 of this Form 10-K. If we fail to manage acquisitions, divestitures and other transactions successfully, our financial results, business and future prospects could be harmed. In pursuing our business strategy, we routinely conduct discussions, evaluate targets and enter into agreements regarding possible investments, acquisitions, joint ventures and divestitures. As part of our business strategy, we seek to identify acquisition opportunities that will expand or complement our existing products and services, or customer base, at attractive valuations. We often compete with others for the same opportunities. To be successful, we must conduct due diligence to identify valuation issues and potential loss contingencies, negotiate transaction terms, complete and close complex transactions and manage post-closing matters (e.g., integrate acquired companies and employees, realize anticipated operating synergies and improve margins) efficiently and effectively. Investment, acquisition, joint venture and divestiture transactions often require substantial management resources and have the potential to divert our attention from our existing business. If we are not successful in identifying and closing these transactions, we may not be able to maintain a competitive leadership position or may be required to expend additional resources to develop capabilities internally in certain segments. In evaluating transactions, we are required to make valuation assumptions and exercise judgment regarding business opportunities and potential liabilities. Our assumptions or judgment may prove to be inaccurate. Our due diligence reviews may not identify all of the material issues necessary to accurately estimate the cost and potential loss contingencies of a particular transaction, including potential exposure to regulatory sanctions resulting from the acquisition target’s previous activities. Future acquisitions, if funded by issuing stock or incurring indebtedness, could dilute returns to existing stockholders, or adversely affect our credit rating or future financial performance. We also may incur unanticipated costs or expenses, including post-closing asset impairment charges, expenses associated with eliminating duplicate facilities, litigation and other liabilities. We believe that we have established appropriate procedures and processes to mitigate many of these risks, but there is no assurance that our integration efforts and business acquisition strategy will be successful. Divestitures may result in continued financial involvement through guarantees or other financial arrangements for a period of time following the transaction. Nonperformance by divested businesses could affect our future financial results. Joint ventures operate under shared control with other parties. Under the equity method of accounting for nonconsolidated joint ventures, we recognize our share of the operating results of these ventures in our results of operations. Our operating results may be affected by the performance of businesses over which we do not exercise control. Business disruptions could seriously affect our future sales and financial condition or increase our costs and expenses. Our business may be impacted by disruptions including, but not limited to, threats to physical security, information technology attacks or failures, damaging weather or other acts of nature and pandemics or other public health crises. Such disruptions could affect our internal operations or services provided to customers, and could impact our sales, increase our expenses or adversely affect our reputation or our stock price. Unforeseen environmental costs could impact our future earnings. Our operations are subject to and affected by a variety of federal, state, local and foreign environmental protection laws and regulations. We are involved in environmental responses at some of our facilities and former facilities, and at third-party sites not owned by us where we have been designated a potentially responsible party by the Environmental Protection Agency (EPA) or by a state agency. In addition, we could be affected by future regulations imposed in response to concerns over climate change and other actions commonly referred to as “green initiatives.” We currently are developing a comprehensive program to reduce the effects of our operations on the environment. We manage various government-owned facilities on behalf of the government. At such facilities, environmental compliance and remediation costs historically have been the responsibility of the government, and we have relied (and continue to rely with respect to past practices) upon government funding to pay such costs. While the government remains responsible for capital and operating costs associated with environmental compliance, responsibility for fines and penalties associated with environmental noncompliance typically are borne by either the government or the contractor, depending on the contract and the relevant facts. 22


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    Most of the laws governing environmental matters include criminal provisions. If we were to be convicted of a violation of the Federal Clean Air Act or the Clean Water Act, the facility or facilities involved in the violation could be placed by the EPA on the “Excluded Parties List” maintained by the General Services Administration. The listing would continue until the EPA concluded that the cause of the violation had been cured. Listed facilities cannot be used in performing any U.S. Government contract while so listed by the EPA. We have incurred and will likely continue to incur liabilities under various federal and state statutes for the cleanup of pollutants previously released into the environment. The extent of our financial exposure cannot in all cases be reasonably estimated at this time. Among the variables management must assess in evaluating costs associated with these cases and remediation sites generally are the extent of the contamination, changing cost estimates, evolution of technologies used to remediate the site, and continually evolving governmental environmental standards and cost allowability issues. For information regarding these matters, including current estimates of the amounts that we believe are required for remediation or cleanup to the extent estimable, see “Critical Accounting Policies – Environmental Matters” in Management’s Discussion and Analysis of Financial Condition and Results of Operations beginning on page 42 and in Note 13 – Legal Proceedings, Commitments and Contingencies on page 90 of this Form 10-K. Unanticipated changes in our tax provisions or exposure to additional income tax liabilities could affect our profitability. Our business operates in many locations under government jurisdictions that impose income taxes. Changes in domestic or foreign income tax laws and regulations, or their interpretation, could result in higher or lower income tax rates assessed or changes in the taxability of certain revenues or the deductibility of certain expenses, thereby affecting our income tax expense and profitability. In addition, audits by income tax authorities could result in unanticipated increases in our income tax expense. We are involved in a number of legal proceedings. We cannot predict the outcome of litigation and other contingencies with certainty. Our business may be adversely affected by the outcome of legal proceedings and other contingencies (including environmental remediation costs) that cannot be predicted with certainty. As required by GAAP, we estimate material loss contingencies and establish reserves based on our assessment of contingencies where liability is deemed probable and reasonably estimable in light of the facts and circumstances known to us at a particular point in time. Subsequent developments in legal proceedings may affect our assessment and estimates of the loss contingency recorded as a liability or as a reserve against assets in our financial statements. For a description of our current legal proceedings, see Item 3 – Legal Proceedings beginning on page 25 and Note 13 – Legal Proceedings, Commitments and Contingencies beginning on page 90 of this Form 10-K. In order to be successful, we must attract and retain key employees. Our business has a continuing need to attract large numbers of skilled personnel, including personnel holding security clearances, to support the growth of the enterprise and to replace individuals who have terminated employment due to retirement or for other reasons. To the extent that the demand for qualified personnel exceeds supply, as has been the case in recent years, we could experience higher labor, recruiting or training costs in order to attract and retain such employees, or could experience difficulties in performing under our contracts if our needs for such employees were unmet. Historically, where employees are covered by collective bargaining agreements with various unions, we have been successful in negotiating renewals to expiring agreements without any material disruption of operating activities. This does not assure, however, that we will be successful in our efforts to negotiate renewals of our existing collective bargaining agreements when they expire. If we were unsuccessful in those efforts, there is the potential that we could incur unanticipated delays or expenses in the programs affected by any resulting work stoppages. Our forward-looking statements and projections may prove to be inaccurate. Our actual financial results likely will be different from those projected due to the inherent nature of projections and may be better or worse than projected. Given these uncertainties, you should not rely on forward-looking statements. The forward-looking statements contained in this Form 10-K speak only as of the date of this Form 10-K. We expressly disclaim a duty to provide updates to forward-looking statements after the date of this Form 10-K to reflect the occurrence of subsequent events, changed circumstances, changes in our expectations, or the estimates and assumptions associated with them. The forward-looking statements in this Form 10-K are intended to be subject to the safe harbor protection provided by the federal securities laws. 23


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    In addition, general economic conditions and trends, including interest rates, government budgets and inflation, can and do affect our businesses. For a discussion identifying additional risk factors and important factors that could cause actual results to vary materially from those anticipated in the forward-looking statements, see the preceding discussion of Government Contracts and Regulation beginning on page 16, Risk Factors beginning on page 18, Management’s Discussion and Analysis beginning on page 33, and Note 1 – Significant Accounting Policies beginning on page 67 of this Form 10-K. Other factors, in addition to those described, may affect our forward-looking statements or actual results. ITEM 1B. UNRESOLVED STAFF COMMENTS None. 24


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    ITEM 2. PROPERTIES At December 31, 2008, we operated in 584 locations (including offices, manufacturing plants, warehouses, service centers, laboratories and other facilities) throughout the United States and internationally. Of these, we owned 45 locations aggregating approximately 29 million square feet and leased space at 539 locations aggregating approximately 27 million square feet. We also manage or occupy various government-owned facilities. The U.S. Government also furnishes equipment that we use in some of our businesses. At December 31, 2008, our business segments occupied facilities at the following major locations that housed in excess of 500,000 square feet of floor space: • Electronic Systems—Camden, Arkansas; Orlando, Florida; Baltimore, Maryland; Eagan, Minnesota; Moorestown/Mt. Laurel, New Jersey; Albuquerque, New Mexico; Owego and Syracuse, New York; Akron, Ohio; Grand Prairie, Texas; and Manassas, Virginia. • Information Systems & Global Services—Goodyear, Arizona; San Jose and Sunnyvale, California; Colorado Springs and Denver, Colorado; Gaithersburg and Rockville, Maryland and other locations within the Washington, D.C. metropolitan area; Valley Forge, Pennsylvania; and Houston, Texas. • Aeronautics—Palmdale, California; Marietta, Georgia; Greenville, South Carolina; and Fort Worth and San Antonio, Texas. • Space Systems—Sunnyvale, California; Denver, Colorado; and New Orleans, Louisiana. • Corporate activities—Bethesda, Maryland. The following is a summary of our floor space by business segment at December 31, 2008: Government (Square feet in millions) Leased Owned Owned Total Electronic Systems 10.7 10.2 6.3 27.2 Information Systems & Global Services 9.6 2.8 — 12.4 Aeronautics 3.5 5.0 15.2 23.7 Space Systems 1.8 8.6 4.7 15.1 Corporate activities .9 2.8 — 3.7 Total 26.5 29.4 26.2 82.1 A portion of our activity is related to engineering and research and development, which is not susceptible to productive capacity analysis. In the area of manufacturing, most of the operations are of a job-order nature, rather than an assembly line process, and productive equipment has multiple uses for multiple products. Management believes that all of our major physical facilities are in good condition and are adequate for their intended use. ITEM 3. LEGAL PROCEEDINGS We are a party to or have property subject to litigation and other proceedings, including matters arising under provisions relating to the protection of the environment. In the opinion of management and in-house counsel, the probability is remote that the outcome of these matters will have a material adverse effect on the Corporation as a whole. The results of legal proceedings, however, cannot be predicted with certainty. These matters include the proceedings summarized in Note 13 – Legal Proceedings, Commitments and Contingencies beginning on page 90 of this Form 10-K. From time-to-time, agencies of the U.S. Government investigate whether our operations are being conducted in accordance with applicable regulatory requirements. U.S. Government investigations of us, whether relating to government contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon us, or could lead to suspension or debarment from future U.S. Government contracting. U.S. Government investigations often take years to complete and many result in no adverse action against us. We are subject to federal and state requirements for protection of the environment, including those for discharge of hazardous materials and remediation of contaminated sites. As a result, we are a party to or have our property subject to various lawsuits or proceedings involving environmental protection matters. Due in part to their complexity and pervasiveness, such requirements have resulted in us being involved with related legal proceedings, claims and remediation obligations. The extent of our financial exposure cannot in all cases be reasonably estimated at this time. For information regarding these matters, including current estimates of the amounts that we believe are required for remediation or clean-up 25


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    to the extent estimable, see “Critical Accounting Policies – Environmental Matters” in Management’s Discussion and Analysis of Financial Condition and Results of Operations beginning on page 42, and in Note 13 – Legal Proceedings, Commitments and Contingencies beginning on page 90 of this Form 10-K. Like many other industrial companies in recent years, we are a defendant in lawsuits alleging personal injury as a result of exposure to asbestos integrated into our premises and certain historical products. We have never mined or produced asbestos and no longer incorporate it in any currently manufactured products. We have been successful in having a substantial number of these claims dismissed without payment. The remaining resolved claims have settled for amounts that are not material individually or in the aggregate. A substantial majority of the asbestos-related claims have been covered by insurance or other forms of indemnity. Based on the information currently available, we do not believe that resolution of these asbestos-related matters will have a material adverse effect upon the Corporation. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders during the fourth quarter of 2008. ITEM 4(a). EXECUTIVE OFFICERS OF THE REGISTRANT Our executive officers are listed below, as well as information concerning their age at December 31, 2008, positions and offices held with the Corporation, and principal occupation and business experience over the past five years. There were no family relationships among any of our executive officers and directors. All officers serve at the pleasure of the Board of Directors. Robert J. Stevens (57), Chairman, President and Chief Executive Officer Mr. Stevens has served as Chairman of the Board since April 2005, Chief Executive Officer since August 2004 and President since October 2000. He previously served as Chief Operating Officer from October 2000 to August 2004. James B. Comey (48), Senior Vice President and General Counsel Mr. Comey has served as Senior Vice President and General Counsel since October 2005. He previously served as Deputy Attorney General of the United States from 2003 to 2005. Linda R. Gooden (55), Executive Vice President – Information Systems & Global Services Ms. Gooden has served as Executive Vice President – Information Systems & Global Services since January 2007. She previously served as Deputy Executive Vice President – Information & Technology Services from October 2006 to December 2006, and President, Lockheed Martin Information Technology from September 1997 to December 2006. Ralph D. Heath (60), Executive Vice President – Aeronautics Mr. Heath has served as Executive Vice President – Aeronautics since January 2005. He previously served as Executive Vice President and General Manager of the F-22 Program from November 2002 to December 2004. Christopher E. Kubasik (47), Executive Vice President – Electronic Systems Mr. Kubasik has served as Executive Vice President – Electronic Systems since September 2007. He previously served as Executive Vice President and Chief Financial Officer from August 2004 to August 2007, and Senior Vice President and Chief Financial Officer from February 2001 to August 2004. Joanne M. Maguire (54), Executive Vice President – Space Systems Ms. Maguire has served as Executive Vice President – Space Systems since July 2006. She previously served as Vice President and Deputy of Lockheed Martin Space Systems Company from July 2003 to June 2006. John C. McCarthy (61), Vice President and Treasurer Mr. McCarthy has served as Vice President and Treasurer since April 2006. He previously served as Vice President of Finance and Business Operations for Aeronautics from March 2000 through March 2006. 26


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    Martin T. Stanislav (44), Vice President and Controller Mr. Stanislav has served as Vice President and Controller since March 2005. He previously served as Vice President and Controller for Aeronautics from June 2002 to March 2005. Bruce L. Tanner (49), Executive Vice President and Chief Financial Officer Mr. Tanner has served as Executive Vice President and Chief Financial Officer since September 2007. He previously served as Vice President of Finance and Business Operations for Aeronautics from April 2006 to August 2007, and Vice President of Finance and Business Operations for Electronic Systems from May 2002 to March 2006. 27


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    PART II ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES At January 31, 2009, we had 38,956 holders of record of our common stock, par value $1 per share. Our common stock is traded on the New York Stock Exchange, Inc. (NYSE) under the symbol LMT. Information concerning the stock prices as reported on the NYSE composite transaction tape and dividends paid during the past two years is as follows: Common Stock – Dividends Paid Per Share and Market Prices Dividends Paid Per Share Market Prices (High-Low) Quarter 2008 2007 2008 2007 First $0.42 $0.00 (a) $110.25 – $90.44 $103.50 – $91.08 Second 0.42 0.70(a) 110.60 – 98.44 100.10 – 93.06 Third 0.42 0.35 120.30 – 97.80 108.75 – 88.86 Fourth 0.57 0.42 115.01 – 67.38 113.74 – 103.33 Year $1.83 $1.47 $120.30 – $67.38 $113.74 – $88.86 (a) Dividends of $0.35 per share were declared during the first quarter of 2007 and paid in the second quarter. Stockholder Return Performance Graph The following graph compares the total return on a cumulative basis of $100 invested in Lockheed Martin common stock on December 31, 2003 to the Standard and Poor’s (S&P) Aerospace & Defense Index and the S&P 500 Index. 300 250 200 150 100 50 - 3 4 04 04 4 5 05 05 5 6 06 06 6 7 07 07 7 8 08 08 8 -0 -0 -0 -0 -0 -0 -0 -0 -0 -0 -0 n- p- n- p- n- p- n- p- n- p- ar ar ar ar ar ec ec ec ec ec ec Ju Se Ju Se Ju Se Ju Se Ju Se M M M M M D D D D D D LMT S&P 500 S&P Aero The S&P Aerospace & Defense Index comprises The Boeing Company, General Dynamics Corporation, Goodrich Corporation, Honeywell International, Inc., L3 Communications Holdings, Inc., Lockheed Martin Corporation, Northrop Grumman Corporation, Precision Castparts Corporation, Raytheon Company, Rockwell Collins, Inc. and United Technologies Corporation. The stockholder return performance indicated on the graph is not a guarantee of future performance. This graph is not deemed to be “filed” with the SEC or subject to the liabilities of Section 18 of the Securities Exchange Act of 1934, and should not be deemed to be incorporated by reference into any of our prior or subsequent filings under the Securities Act of 1933 or the Exchange Act. 28


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    Issuer Purchases of Equity Securities The following table provides information about our repurchases of common stock during the three-month period ended December 31, 2008. Total Number of Shares Maximum Number of Average Price Purchased as Part of Shares That May Yet Be Total Number of Paid Per Publicly Announced Purchased Under the Period Shares Purchased Share Program (a) Program (b) October 3,400,000 $93.09 3,400,000 36,981,584 November 3,230,000 80.19 3,230,000 33,751,584 December — — — 33,751,584 (a) We repurchased a total of 6,630,000 shares of our common stock during the quarter ended December 31, 2008 under a share repurchase program that we announced in October 2002. (b) Our Board of Directors has approved a share repurchase program for the repurchase of up to 158 million shares of our common stock from time-to-time, including 30 million shares authorized for repurchase by our Board of Directors in September 2008. Under the program, management has discretion to determine the number and price of the shares to be repurchased, and the timing of any repurchases, in compliance with applicable law and regulation. As of December 31, 2008, we had repurchased a total of 124.3 million shares under the program. Equity Compensation Plan Information The following table provides information about our equity compensation plans that authorize the issuance of shares of Lockheed Martin common stock to employees and directors. The information is provided as of December 31, 2008. Number of securities remaining Number of securities to available for future issuance be issued upon exercise Weighted average exercise under equity compensation plans of outstanding options, price of outstanding options, (excluding securities reflected in Plan category warrants, and rights warrants, and rights first column) Equity compensation plans approved by security holders (a) (b) (c) 22,014,447 $70.44 18,070,275 Equity compensation plans not approved by security holders (d) 1,785,750 — 3,214,250 Total (b) (c) (d) 23,800,197 $70.44 21,284,525 (a) As of December 31, 2008, there were 17,189,997 shares available for grant under the Lockheed Martin Corporation Amended and Restated 2003 Incentive Performance Award Plan (“IPA Plan”) as options, stock appreciation rights (“SARs”), Restricted Stock Awards (“RSAs”), or Restricted Stock Units (RSUs”); there are no restrictions on the number of the available shares that may be issued in respect of SARs or stock units. As currently in effect, no more than 28% of shares authorized under the IPA Plan (12,460,000 shares) may be issued as RSAs. As of December 31, 2008, 2,890,882 shares have been granted as restricted stock under the IPA Plan (25,000 as RSAs and 2,865,882 as RSUs). Of the 17,189,997 shares available for grant on December 31, 2008, 4,469,650 and 1,605,530 shares are issuable pursuant to grants on January 26, 2009, of options and RSUs, respectively. Amounts in the third column of the table also include 880,278 shares that may be issued under the Lockheed Martin Corporation 1999 Directors Equity Plan (“Directors Equity Plan”) prior to January 1, 2009, and 3,559 shares that may be issued under the Lockheed Martin Corporation Directors’ Deferred Stock Plan (“Directors’ Deferred Stock Plan”), a plan that was approved by the stockholders in 1995; effective May 1, 1999, no additional shares may be awarded under the Directors’ Deferred Stock Plan. Effective January 1, 2009, awards will no longer be made under the Directors’ Equity Plan but will be made under a new plan approved by stockholders at the 2008 Annual Meeting, at which time, the stockholders approved the issuance of up to 600,000 shares for the new Directors’ Plan. Stock units payable in cash only under the IPA Plan, predecessors to the IPA Plan or other plans sponsored by the Corporation are not included in the table. For RSAs, shares are issued at the date of grant but remain subject to forfeiture; for RSUs, shares are issued once the restricted period ends and the shares are no longer forfeitable. (b) At December 31, 2008, a total of 178,288 shares of Lockheed Martin common stock were issuable upon the exercise of the options assumed by the Corporation in connection with the COMSAT Corporation acquisition. The weighted average exercise price of those outstanding options was $23.46 per share. The amounts exclude 2,996 stock grants held in a trust pursuant to the Deferred Compensation Plan for Directors of Lockheed Corporation. No further grants may be made under the assumed plans. 29


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    (c) The maximum number of shares of stock that may be subject to stock options, SARs, restricted stock, and stock units granted or issued under the IPA Plan in any calendar year is 1.6% of the Corporation’s outstanding shares of stock on December 31 of the calendar year immediately preceding the date of grant of the award, calculated in a manner consistent with the method used for calculating outstanding shares for reporting in the Annual Report. (d) Employees may defer Management Incentive Compensation Plan (“MICP”) and Long-Term Incentive Performance (“LTIP”) amounts earned and payable to them to the Deferred Management Incentive Compensation Plan (“DMICP”). At the election of the employee, deferred amounts are credited as stock units at the closing price of our stock on the date the deferral is effective. Amounts equal to our dividend are credited as stock units at the time we pay a dividend. Following termination of employment, a number of shares of stock equal to the number of stock units credited to the employee’s DMICP account are distributed to the employee. There is no discount or value transfer on the stock distributed. As a result, the phantom stock units also were not considered in calculating the total weighted average exercise price in the table. 30


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    ITEM 6. SELECTED FINANCIAL DATA Consolidated Financial Data - Five Year Summary (In millions, except per share data and ratios) 2008 (a) 2007 (b) 2006 (c) 2005 (d) 2004 (e) OPERATING RESULTS Net Sales $42,731 $41,862 $39,620 $37,213 $ 35,526 Cost of Sales 38,082 37,628 36,186 34,676 33,558 4,649 4,234 3,434 2,537 1,968 Other Income (Expense), Net 482 293 336 316 171 Operating Profit 5,131 4,527 3,770 2,853 2,139 Interest Expense 341 352 361 370 425 Other Non-Operating Income (Expense), Net (88) 193 183 133 (50) Earnings Before Income Taxes 4,702 4,368 3,592 2,616 1,664 Income Tax Expense 1,485 1,335 1,063 791 398 Net Earnings $ 3,217 $ 3,033 $ 2,529 $ 1,825 $ 1,266 EARNINGS PER COMMON SHARE Basic $ 8.05 $ 7.29 $ 5.91 $ 4.15 $ 2.86 Diluted $ 7.86 $ 7.10 $ 5.80 $ 4.10 $ 2.83 CASH DIVIDENDS PER COMMON SHARE $ 1.83 $ 1.47 $ 1.25 $ 1.05 $ 0.91 CONDENSED BALANCE SHEET DATA Cash and Cash Equivalents $ 2,168 $ 2,648 $ 1,912 $ 2,244 $ 1,060 Short-Term Investments 61 333 381 429 396 Other Current Assets 8,454 7,959 7,871 7,856 7,497 Property, Plant and Equipment, Net 4,488 4,320 4,056 3,924 3,599 Goodwill 9,526 9,387 9,250 8,447 7,892 Purchased Intangibles, Net 355 463 605 560 672 Prepaid Pension Asset 122 313 235 1,360 1,030 Other Assets 8,265 3,503 3,921 2,924 3,408 $33,439 $28,926 $28,231 $27,744 $ 25,554 Current Maturities of Long-Term Debt $ 242 $ 104 $ 34 $ 202 $ 15 Other Current Liabilities (f) 10,300 9,933 9,661 9,340 8,621 Long-Term Debt, Net 3,563 4,303 4,405 4,784 5,104 Accrued Pension Liabilities 12,004 1,192 3,025 2,097 1,660 Other Postretirement Benefit Liabilities 1,386 928 1,496 1,277 1,236 Other Liabilities (f) 3,079 2,661 2,726 2,177 1,897 Stockholders’ Equity 2,865 9,805 6,884 7,867 7,021 Total $33,439 $28,926 $28,231 $27,744 $ 25,554 COMMON SHARES AT YEAR-END 393 409 421 432 438 CASH FLOW DATA Cash Provided by Operating Activities (g) $ 4,421 $ 4,238 $ 3,765 $ 3,204 $ 2,921 Cash Used for Investing Activities (907) (1,205) (1,655) (499) (708) Cash Used for Financing Activities (3,938) (2,300) (2,460) (1,511) (2,166) RETURN ON INVESTED CAPITAL (h) 21.7% 21.4% 19.2% 14.5% 10.8% NEGOTIATED BACKLOG $80,914 $76,660 $75,905 $74,825 $ 73,986 Notes to Five Year Summary (a) Includes the effects of items not considered in the assessment of the operating performance of our business segments (see the section, “Results of Operations – Unallocated Corporate Income (Expense), Net” in Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A)) which increased operating profit by $193 million, $126 million after tax ($0.31 per share). (b) Includes the effects of items not considered in the assessment of the operating performance of our business segments which increased operating profit by $71 million, $46 million after tax ($0.11 per share). Also includes a reduction in income tax expense of $59 million 31


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    ($0.14 per share) resulting from the closure of Internal Revenue Service examinations for the 2003 and 2004 tax years and claims we filed for additional extraterritorial income tax benefits for years prior to 2005. On a combined basis, these items increased net earnings by $105 million after tax ($0.25 per share). (c) Includes the effects of items not considered in the assessment of the operating performance of our business segments which increased operating profit by $230 million, $150 million after tax ($0.34 per share). Also includes a charge of $16 million, $11 million after tax ($0.03 per share), in other non-operating income (expense), net for a debt exchange, and a reduction in income tax expense of $62 million ($0.14 per share) resulting from a tax benefit related to claims we filed for additional extraterritorial income exclusion tax benefits. On a combined basis, these items increased net earnings by $201 million after tax ($0.45 per share). (d) Includes the effects of items not considered in the assessment of the operating performance of our business segments which, on a combined basis, increased operating profit by $173 million, $113 million after tax ($0.25 per share). (e) Includes the effects of items not considered in the assessment of the operating performance of our business segments which decreased operating profit by $61 million, $54 million after tax ($0.12 per share). Also includes a charge of $154 million, $100 million after tax ($0.22 per share), in other non-operating income (expense), net for the early repayment of debt, and a reduction in income tax expense resulting from the closure of an Internal Revenue Service examination of $144 million ($0.32 per share). On a combined basis, these items reduced net earnings by $10 million after tax ($0.02 per share). (f) In 2008, we reclassified certain amounts from other liabilities to other current liabilities. Prior year amounts have been reclassified to conform to the 2008 presentation. The amounts associated with the reclassification for the prior periods are as follows: $166 million in 2007; $142 million in 2006; $114 million in 2005; and $70 million in 2004. (g) In 2008, we reclassified the effect of exchange rate changes on cash held in foreign currencies on our Statement of Cash Flows from cash provided by operating activities to effect of exchange rate changes on cash and cash equivalents. Prior year amounts of cash provided by operating activities in the table above have been reclassified to conform to the 2008 presentation. The amounts associated with the effect of exchange rate changes on cash and cash equivalents for prior periods increased (decreased) cash provided by operating activities as follows: $(3) million in 2007; $(18) million in 2006; $10 million in 2005; and $(3) million in 2004. (h) We define return on invested capital (ROIC) as net earnings plus after-tax interest expense divided by average invested capital (stockholders’ equity plus total debt), after adjusting stockholders’ equity by adding back adjustments related to postretirement benefit plans. We believe that reporting ROIC provides investors with greater visibility into how effectively we use the capital invested in our operations. We use ROIC as one of the inputs in our evaluation of multi-year investment decisions and as a long-term performance measure, and also use it as a factor in evaluating management performance under certain of our incentive compensation plans. ROIC is not a measure of financial performance under generally accepted accounting principles, and may not be defined and calculated by other companies in the same manner. ROIC should not be considered in isolation or as an alternative to net earnings as an indicator of performance. We calculate ROIC as follows: (In millions) 2008 2007 2006 2005 2004 Net earnings $ 3,217 $ 3,033 $ 2,529 $ 1,825 $ 1,266 Interest expense (multiplied by 65%) 1 222 229 235 241 276 Return $ 3,439 $ 3,262 $ 2,764 $ 2,066 $ 1,542 Average debt 2, 5 $ 4,346 $ 4,416 $ 4,727 $ 5,077 $ 5,932 Average equity 3, 5 8,236 7,661 7,686 7,590 7,015 Average benefit plan adjustments 4, 5 3,256 3,171 2,006 1,545 1,296 Average invested capital $15,838 $15,248 $14,419 $14,212 $14,243 Return on invested capital 21.7% 21.4% 19.2% 14.5% 10.8% 1 Represents after-tax interest expense utilizing the federal statutory rate of 35%. 2 Debt consists of long-term debt, including current maturities of long-term debt, and short-term borrowings (if any). 3 Equity includes non-cash adjustments, primarily related to average benefit plan adjustments discussed in Note 4 below. 4 Average benefit plan adjustments reflect the cumulative value of entries identified in our Statement of Stockholders’ Equity under the captions “Postretirement benefit plans,” “Adjustment for adoption of FAS 158” and “Minimum pension liability.” The total of annual benefit plan adjustments to equity were: 2008 = $(7,253) million; 2007 = $1,706 million; 2006 = $(1,883) million; 2005 = $(105) million; and 2004 = $(285) million. As these entries are recorded in the fourth quarter, the value added back to our average equity in a given year is the cumulative impact of all prior year entries plus 20% of the current year entry value. The cumulative impact of benefit plan adjustments through December 31, 2003 was $(1,239) million. 5 Yearly averages are calculated using balances at the start of the year and at the end of each quarter. 32


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    ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Financial Section Roadmap The financial section of our Form 10-K includes management’s discussion and analysis, our consolidated financial statements, the notes to those financial statements and a five year summary of financial information. We have prepared the following summary, or “roadmap,” to assist in your review of the financial section. It is designed to give you an overview of our Company and summarize some of the more important activities and events that occurred this year. Our Business Lockheed Martin is a global security company that principally is engaged in the research, design, development, manufacture, integration, and sustainment of advanced technology systems and products. We provide a broad range of management, engineering, technical, scientific, logistic, and information services. We serve both domestic and international customers with products and services that have defense, civil and commercial applications, with our principal customers being agencies of the U.S. Government. In 2008, 2007 and 2006, 84% of our net sales were made to the U.S. Government, either as a prime contractor or as a subcontractor. Our U.S. Government sales were made to both Department of Defense (DoD) and non-DoD agencies. Of the remaining 16% of net sales, approximately 13% related to sales to foreign government customers (including foreign military sales funded, in whole or in part, by the U.S. Government), with the remainder attributable to commercial and other customers. Our main areas of focus are in defense, space, intelligence, homeland security, and government information technology. We operate in four principal business segments: Electronic Systems, Information Systems & Global Services (IS&GS), Aeronautics, and Space Systems. As a lead systems integrator, our products and services range from electronics and information systems (including integrated net-centric solutions), to missiles, aircraft, and spacecraft. We organize our business segments based on the nature of the products and services offered. Financial Section Overview The financial section includes the following: Management’s discussion and analysis, or MD&A (pages 33 through 59) – provides our management’s view about industry trends, risks, uncertainties, accounting policies that we view as critical in light of our business, our results of operations (including discussion of the key performance drivers of each of our business segments), our financial position, cash flows, commitments and contingencies, important events, transactions that have occurred over the last three years, and forward-looking information, as appropriate. Reports related to the financial statements and internal control over financial reporting (pages 60 through 62) include the following: • A report from management indicating our responsibility for financial reporting, the financial statements, and the system of internal control over financial reporting, including an assessment of the effectiveness of those controls; • A report from Ernst & Young LLP, an independent registered public accounting firm, which includes their opinion on the effectiveness of our system of internal control over financial reporting; and • A report from Ernst & Young LLP which includes their opinion on the fair presentation of our financial statements based on their audits. Financial statements (pages 63 through 66) – include our Consolidated Statements of Earnings, Cash Flows and Stockholders’ Equity for each of the last three years, and our Consolidated Balance Sheet as of the end of the last two years. Our financial statements are prepared in accordance with U.S. generally accepted accounting principles (GAAP). Notes to the financial statements (pages 67 through 96) – provide insight into and are an integral part of our financial statements. The notes contain explanations of our significant accounting policies, details about certain of the captions on the financial statements, information about significant events or transactions that have occurred, discussions about legal proceedings, commitments and contingencies, and selected financial information relating to our business segments. The notes to the financial statements also are prepared in accordance with GAAP. 33


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    Highlights The financial section of our Form 10-K describes our ongoing operations, including discussions about particular lines of business or programs, our ability to finance our operating activities, trends and uncertainties in our industry, and how they might affect our future operations. We also discuss those items affecting our results that were not considered in senior management’s assessment of the operating performance of our business segments. We separately disclose these items to assist in your evaluation of our overall operating performance and financial condition of our consolidated company. We would like to draw your attention to the following items disclosed in this financial section and where you will find them: Topic Location(s) Critical accounting policies: Contract accounting/revenue recognition Page 38 and page 68 Postretirement benefit plans Page 39 and page 82 Environmental matters Page 42, page 68 and page 91 Goodwill Page 43 and page 68 Stock-based compensation Page 43, page 70 and page 88 Discussion of business segments Page 45 and page 73 Liquidity and cash flows Page 51 and page 65 Capital structure and resources Page 53, page 64, page 66 and page 87 Legal proceedings, commitments and contingencies Page 55 and page 90 Income taxes Page 70 and page 78 Industry Considerations U.S. Government Business Budget Priorities In these times of unprecedented economic uncertainty and market turmoil, developing and implementing spending, tax, and other initiatives to stimulate the faltering economy is at the forefront of the U.S. Government’s activities. We expect the new Obama Administration’s decisions regarding defense, homeland security, and other federal spending priorities, and the Congress’ reaction to the Administration’s proposals, to be balanced with the cost and impact of economic stimulus initiatives, particularly in the longer term. Spending priorities for fiscal year 2010 will be announced soon, with submission of a detailed President’s Budget Request for Fiscal Year 2010 and beyond expected by late April or early May of 2009. Although we believe some priorities will change, many of the investments and acquisitions we have made have been focused on aligning our businesses to address what we believe are the most enduring national imperatives and critical mission areas. But the possibility remains that one or more of our programs could be reduced, extended, or terminated as a result of the Administration’s assessment of priorities. Department of Defense Business The Department of Defense (DoD) has, for the past eight years, focused on sustainment of current military capabilities and modernization of our Armed Forces to deter and defeat current and future threats. The prior Administration primarily sought to fund the U.S. military missions in Iraq and Afghanistan and other unforeseeable contingency or peacekeeping operations through supplemental funding requests. This supplemental funding enabled the DoD to proceed with critical recapitalization and modernization programs in the “base” budget, rather than using base budget funds available for those programs to pay for the Iraq and Afghanistan missions and other unforeseen operations. While we expect to see continued support of such initiatives under the new Administration, other national priorities must also be addressed, most notably the current financial crisis. Initiatives to address economic stimulus will compete with other national priorities, such as defense and homeland security. In this period of transition, we expect the new Administration to look broadly across current programs and examine existing resources as part of its assessment of national priorities. Although the ultimate size of future defense budgets remains uncertain, current indications are that overall defense spending will continue to increase over the next few years, albeit at lower rates of growth. The DoD base budget for fiscal year 2009 provided mid-single-digit growth above prior year levels. Current estimates for the budget for fiscal year 2010 provide for growth of about 2% to 3% over 2009 levels. The Administration’s assessment likely will include focus on the level and composition of supplemental budget requests going forward. Although Congress has continued to express concern about the size of supplemental budget requests, funding for ongoing operations has not been significantly curtailed by Congress to date. We expect to see continuing pressure to reduce supplemental funding requests. 34


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    We believe our broad mix of programs and capabilities continues to position us favorably to support the current and future needs of the DoD. For example, the need for more affordable logistics and sustainment, expansive use of information technology and knowledge-based solutions, and vastly improved levels of network and cybersecurity, all appear to be national priorities. To meet these changing dynamics, we have been growing our portfolio of expertise, diversifying our business, and expanding systems integration skills into adjacent businesses and programs that include surface naval vessels, rotary wing aviation and land vehicles. We continue to produce the F-22 Raptor for the U.S. Air Force and will expand production of the C-130J Super Hercules tactical airlifter to meet U.S. Government and other demand. We also are preparing for increased production of the F-35 Lightning II Joint Strike Fighter for the U.S. Navy, Air Force, Marine Corps, and international partners. In the areas of space-based intelligence and information superiority, we have leadership positions on programs such as the Global Positioning Satellite program (GPS III), TSAT Mission Operations System (TMOS), Mobile User Objective System (MUOS), the Advanced Extremely High Frequency (AEHF) system, the Space-Based Infrared System-High (SBIRS-H), and classified programs. Our products are represented in almost every aspect of land, sea, air and space-based missile defense, including the Aegis Weapon System program, the Patriot Advanced Capability (PAC-3) missile program, the Terminal High Altitude Area Defense (THAAD) system, the Multiple Kill Vehicle (MKV) program, and the Medium Extended Air Defense System (MEADS). We continue to perform on contracts to develop and deliver essential munitions, missile, and other systems, such as Hellfire, Guided Multiple Launch Rocket Systems, and EQ-36 radar systems, to our warfighters. We are bringing our systems integration expertise, as well as our existing advanced technology products and services into adjacent military product lines, such as the Littoral Combat Ship, the VH-71 U.S. Presidential Helicopter, and the Joint Light Tactical Vehicle programs. We also have unmanned systems capabilities, including air, ground, and underwater systems. In the area of command, control, communications, computers, intelligence, surveillance, and reconnaissance (C4ISR) programs, our capabilities include the Air Operations Center Weapons System Integrator, the Airborne Maritime Fixed Joint Tactical Radio System, the Warfighter Information Network – Tactical, the Combatant Commanders Integrated Command and Control System, and the Global Communications Support System – Air Force. We are a significant presence in information technology support and modernization for the DoD. We see opportunities for expansion of our sustainment and logistical support activities to enhance the longevity and cost-effectiveness of the systems procured by our customers, and for improving global supply chain management. We also see opportunities to grow our business in providing global services and business process management for DoD needs. Despite the anticipated modest increase in the 2010 defense budget, we believe our revenue growth will exceed expected growth in the DoD budget. We expect strong expansion in our F-35 program as we begin low rate production activities and in sales of information technology solutions. We expect continued growth in our core and adjacent businesses for both domestic and international customers, as we broaden our portfolio and remain committed to excellence in execution. Our revenues have historically not been dependent on supplemental funding requests. Many of our programs require funding over several annual government budget cycles. There is always an inherent risk that these and other DoD programs could become potential targets for future reductions or elimination of funding to pay for other programs, either in the new Administration’s budget reviews or in the Congressional process of annual appropriations. Non-Department of Defense Business Our experience in the defense arena, together with our core information technology and services expertise, has enabled us to provide products and services to a number of government agencies, including the Departments of Homeland Security, Justice, Commerce, Health and Human Services, State, Transportation and Energy, the U.S. Postal Service, the Social Security Administration, the Federal Aviation Administration, the National Aeronautics and Space Administration (NASA), the Environmental Protection Agency (EPA), the National Archives, and the Library of Congress. We have continued to expand our capabilities in critical intelligence, knowledge management and e-Government solutions for our customers, including the Social Security Administration and the EPA, as well for the DoD. We also provide program management, business strategy and consulting, complex systems development and maintenance, complete life-cycle software support, information assurance and enterprise solutions. The expected growth in business process outsourcing has been enabled by rule changes for public/private competitions. In addition, recent trends continue to indicate an increase in demand by federal and civil government agencies for upgrading and investing in new information technology systems and solutions. As a result, we continue to focus our resources in support of infrastructure modernization that allows for interoperability and communication across agencies. 35


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    Our recent experiences with non-DoD agencies have reinforced our strategy of becoming the world’s premier global security company. We have seen the global security environment becoming much more complex and dynamic. The very definition of security has continued to change. Over and above traditional military preparedness, we have seen and been a part of further expansion into more effective counter-terrorism and intelligence capabilities, international cooperation activities requiring more interoperable systems, and humanitarian, peace-keeping, and operational stabilization initiatives. Consistent with our DoD business, more affordable logistics and sustainment, a more expansive use of information technology and knowledge-based solutions, and improved levels of network and cybersecurity, all appear to be priorities in our non-DoD business as well. Homeland security, critical infrastructure protection, and improved service levels for civil government agencies also appear to be high customer priorities. The continuing strong emphasis on homeland security may increase demand for our capabilities in areas such as air traffic management, ports, waterways and cargo security, biohazard detection systems for postal equipment, employee identification and credential verification systems, information systems security, and other global security systems solutions. In addition, we may see an increase in demand from the Department of State and the United Nations for mission services, global security and stability operations, and facility services. We have made disciplined acquisitions and investments to reinforce our presence and skills in the information sciences domain. We believe expanded access to continuous high quality situational awareness will remain essential in assuring clarity and reducing uncertainty in today’s environment. The very need for this increased situational awareness will drive the linkage of increasingly robust communication systems, advanced sensing devices and the computers that control them. This capability will enable the meaningful sharing of information and networks will continue to grow in power and importance to accommodate these new linkages. We also believe the criticality of network security will result in increased demand for cybersecurity, and encryption security solutions. We expect to be well-positioned to meet these growing needs. The prior Administration’s budget proposal for fiscal year 2009 sought to limit overall growth in the civil agency budgets to one percent per year or less. Similar to spending in the area of defense, civil programs will also have to compete with resource requirements for economic stimulus. Though we expect to see relatively small increases in total non-defense discretionary spending in the near term, we believe our key programs will continue to be supported in the budgets of the various agencies with which we do business. Similar to the risks inherent in our defense business, funding for our civil agency business is contingent on approval in annual appropriations for each of the agencies with which we have business. Major programs may be funded over several annual government budget cycles, with the risk of future reductions or elimination in the new Administration’s budget review or in the annual Congressional appropriations process. In the civil government business, some risks are unique to particular programs. For example, although indemnification by the U.S. Government to cover potential claims or liabilities resulting from a failure of technologies developed and deployed may be available in some instances for our defense businesses, U.S. Government indemnification may not be available for homeland security purposes. In addition, there are some instances where the U.S. Government could provide indemnification under applicable law, but elects not to do so. While we maintain insurance for some business risks, it is not possible to obtain coverage to protect against all operational risks and liabilities. We generally seek, and in most cases have obtained, limitation of such potential liabilities related to the sale and use of our homeland security products and services through qualification by the Department of Homeland Security under the SAFETY Act provisions of the Homeland Security Act of 2002. SAFETY Act qualification is not available to mitigate potential liability for international applications of our homeland security products and services. Where we are unable to secure indemnification or qualification under the SAFETY Act or choose not to do so, we may nevertheless elect to provide the product or service when we think the related risks are manageable or when emergency conditions relative to national security make qualification impractical. Other Business Considerations We are exposed to risks associated with U.S. Government contracting, including technological uncertainties, dependence on fewer manufacturing suppliers, and obsolescence, as well as Congressional appropriation and allotment of funds each year. Many of our programs involve the development and application of state-of-the-art technologies aimed at achieving challenging goals. As a result, setbacks, delays, cost growth and product failures can occur. In years in which an appropriations bill has not been signed into law before September 30 (the end of the U.S. Government’s fiscal year), Congress typically passes a continuing resolution that authorizes U.S. Government agencies to continue to operate, generally at the same funding levels from the prior year, but does not authorize new spending initiatives. 36


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    During periods covered by continuing resolutions (or until the regular appropriation bills are passed), we may experience delays in procurement of products and services due to lack of funding, and those delays may affect our revenue and profit during the period. As a government contractor, we are subject to U.S. Government oversight. The government may ask about and investigate our business practices and audit our compliance with applicable rules and regulations. Depending on the results of those audits and investigations, the government could make claims against us. Under government procurement regulations and practices, an indictment of a government contractor could result in that contractor being fined and suspended from being able to bid on, or be awarded, new government contracts for a period of time. A conviction could result in debarment for a specific period of time. Similar government oversight exists in most other countries where we conduct business. Although we cannot predict the outcome of these types of investigations and inquiries with certainty, based on current facts, we believe the probability is remote that any of the claims, audits or investigations pending against us will have a material adverse effect on our business or our results of operations, cash flows or financial position. We have entered into various joint ventures, teaming and other business arrangements to help support our portfolio of products and services in many of our lines of business, and their activities are closely aligned with our operations. For example, we have a 50% equity interest in United Launch Alliance, LLC (ULA), which provides the production, engineering, test and launch operations associated with U.S. Government launches on Atlas and Delta launch vehicles, and a 50% equity interest in United Space Alliance, LLC (USA), which provides ground processing and other operational services to the Space Shuttle program. In some cases, we form joint ventures with one or more other contractors for the purpose of pursuing a bid for a particular contract and, if successful, the joint venture serves as the prime contractor under that contract. In those instances, the work under contract is performed by subcontractors to the joint venture including, but not limited to, the joint venture investors. We generally limit our exposure under these arrangements to our investment in the venture, which is typically not material, and to the performance of our obligations under the subcontract. In some cases, we guarantee contractual performance by the venture, but are generally cross-indemnified by the other venture participants to the extent of their contractual performance obligations. We remain committed to growth in our sales to international customers. Those customers, similar to our U.S. Government customers, have been affected by the global economic crisis. We expect their decisions regarding defense and security spending will also compete with their own economic stimulus initiatives. We conduct business with foreign governments primarily through Electronic Systems and Aeronautics. Our international sales are composed of “foreign military sales” through the U.S. Government and direct commercial contracts. With regard to the Aegis Weapon System, our Electronic Systems segment performs activities in the development, production, ship integration and test, and lifetime support for ships of international customers (e.g., Japan, Spain, Korea, Norway, and Australia). This segment also was awarded two contracts by the Canadian Government for the upgrade and support of combat systems on Halifax class frigates and Iroquois class destroyers. Electronic Systems produces the PAC-3 missile, an advanced defensive missile designed to intercept incoming airborne threats, for international customers including Japan, Germany, the Netherlands and the United Arab Emirates (UAE). In Aeronautics, the U.S. Government and eight foreign government partners are working together on the design, testing, production and sustainment of the F-35 Lightning II. The F-16 Fighting Falcon has been selected by 25 countries, with 52 follow-on buys from 14 customers. We continue to expand the C-130J Super Hercules air mobility aircraft’s international footprint with customers in nine countries including recent orders from India and Qatar. In global sustainment, we are leveraging our value as the original equipment manufacturer (OEM) for our major platforms and have set up new production capabilities to provide service life extension, including new wings and support for Norway’s P-3 fleet and the recent awards from the U.S. and Canadian Governments to upgrade their P-3 aircraft. IS&GS, through its subsidiary Pacific Architects and Engineers (PAE), has increased our presence in certain less developed countries by providing base camp construction, logistics, democratization and management services, among others, generally through our contracts with such customers as the United Nations and the U.S. Department of State. In addition, IS&GS was awarded the contract to provide all data processing for the population census in England, Wales and Northern Ireland for the 2011 Census, including development of the related system. To the extent our contracts and business arrangements with international partners include operations in foreign countries, other risks are introduced into our business, including changing economic conditions, fluctuations in relative currency values, regulation by foreign countries and the potential for unanticipated cost increases resulting from the possible deterioration of political relations. The nature of our international business also makes us subject to the export control 37


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    regulations of the U. S. Department of State and the Department of Commerce. If these regulations are violated, it could result in monetary penalties and denial of export privileges. We are currently unaware of any violations of export control regulations which are reasonably likely to have a material adverse effect on our business or our results of operations, cash flows or financial position. Critical Accounting Policies Contract Accounting / Revenue Recognition Approximately 80% of our net sales are derived from long-term contracts for design, development and production activities, which are accounted for under the provisions of American Institute of Certified Public Accountants’ Statement of Position (SOP) No. 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts. Our remaining net sales are derived from contracts to provide other services that are not associated with design, development or production activities. We account for those contracts in accordance with the Securities and Exchange Commission’s Staff Accounting Bulletin No. 104, Revenue Recognition. We consider the nature of these contracts and the types of products and services provided when we determine the proper accounting method for a particular contract. Accounting for Design, Development and Production Contracts Generally, we record long-term, fixed-price design, development and production contracts on a percentage of completion basis using units-of-delivery as the basis to measure progress toward completing the contract and recognizing sales. For example, we use this method of revenue recognition on our C-130J tactical transport aircraft program and Multiple Launch Rocket System program. For certain other long-term, fixed-price design, development and production contracts that, along with other factors, require us to deliver minimal quantities over a longer period of time or to perform a substantial level of development effort in comparison to the total value of the contract, sales are recorded when we achieve performance milestones or using the cost-to-cost method to measure progress toward completion. Under the cost-to-cost method of accounting, we recognize sales based on the ratio of costs incurred to our estimate of total costs at completion. As examples, we use this methodology for our F-22 Raptor program and the Aegis Weapon System program. In some instances, long-term production programs may require a significant level of development and/or a low rate of initial production units in their early phases, but will ultimately require delivery of increased quantities in later, full rate production stages. In those cases, the revenue recognition methodology may change from the cost-to-cost method to the units-of-delivery method as new contracts for different phases of a program are received after considering, among other factors, program and production stability. As we incur costs under cost-reimbursement-type contracts, we record sales and an estimated profit. Cost-reimbursement-type contracts include time and materials and other level-of-effort-type contracts. Examples of this type of revenue recognition include the F-35 Lightning II Joint Strike Fighter development and low-rate initial production contracts, and the THAAD missile defense program. Most of our long-term contracts are denominated in U.S. dollars, including contracts for sales of military products and services to foreign governments conducted through the U.S. Government (i.e., foreign military sales). As a general rule, we recognize sales and profits earlier in a production cycle when we use the cost-to-cost and milestone methods of percentage of completion accounting than when we use the units-of-delivery method. In addition, our profits and margins may vary materially depending on the types of long-term contracts undertaken, the costs incurred in their performance, the achievement of other performance objectives, and the stage of performance at which the right to receive fees, particularly under award and incentive fee contracts, is finally determined. Award fees and incentives related to performance on design, development and production contracts, which are generally awarded at the discretion of the customer, as well as penalties related to contract performance, are considered in estimating sales and profit rates. Estimates of award fees are based on actual awards and anticipated performance. Incentive provisions which increase or decrease earnings based solely on a single significant event are generally not recognized until the event occurs. Those incentives and penalties are recorded when there is sufficient information for us to assess anticipated performance. Accounting for design, development and production contracts requires judgment relative to assessing risks, estimating contract revenues and costs, and making assumptions for schedule and technical issues. Due to the scope and nature of the work required to be performed on many of our contracts, the estimation of total revenue and cost at completion is complicated and subject to many variables. Contract costs include material, labor and subcontracting costs, as well as an allocation of indirect costs. We have to make assumptions regarding labor productivity and availability, the complexity of the 38


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    work to be performed, the availability of materials, the length of time to complete the contract (to estimate increases in wages and prices for materials), performance by our subcontractors, and the availability and timing of funding from our customer, among other variables. For contract change orders, claims or similar items, we apply judgment in estimating the amounts and assessing the potential for realization. These amounts are only included in contract value when they can be reliably estimated and realization is considered probable. We have accounting policies in place to address these as well as other contractual and business arrangements to properly account for long-term contracts. Products and services provided under long-term design, development and production contracts represent approximately 80% of our net sales for 2008. Therefore, the amounts we record in our financial statements using contract accounting methods and cost accounting standards are material. Because of the significance of the judgments and estimation processes, it is likely that materially different amounts could be recorded if we used different assumptions or if our underlying circumstances were to change. For example, if underlying assumptions were to change such that our estimated profit rate at completion for all design, development and production contracts was higher or lower by one percentage point, our net earnings would increase or decrease by approximately $225 million. When adjustments in estimated contract revenues or estimated costs at completion are required, any changes from prior estimates are recognized by recording adjustments in the current period for the inception-to-date effect of the changes on current and prior periods. When estimates of total costs to be incurred on a contract exceed total estimates of revenue to be earned, a provision for the entire loss on the contract is recorded in the period the loss is determined. Accounting for Services Contracts Revenue under contracts for services other than those associated with design, development or production activities is generally recognized either as services are performed or when a contractually required event has occurred, depending on the contract. The majority of our services contracts are in our IS&GS segment, including the Automated Flight Service Station contract to provide a network of air traffic facilities and related services, and the U.S Army Corps of Engineers contract to provide information management and technology services. Services contracts primarily include operations and maintenance contracts and outsourcing-type arrangements. Revenue under such contracts is generally recognized on a straight-line basis over the period of contract performance, unless evidence suggests that the revenue is earned or the obligations are fulfilled in a different pattern. Costs incurred under these services contracts are expensed as incurred, except that initial “set-up” costs are capitalized and recognized ratably over the life of the agreement. Earnings related to such services contracts may fluctuate from period to period, particularly in the earlier phases of the contract. Award fees and incentives related to performance on services contracts are recognized when they are fixed and determinable, generally at the date the amount is communicated to us by the customer. Other Contract Accounting Considerations The majority of our sales are driven by pricing based on costs incurred to produce products or perform services under contracts with the U.S. Government. Cost-based pricing is determined under the Federal Acquisition Regulation (FAR). The FAR provides guidance on the types of costs that are allowable in establishing prices for goods and services under U.S. Government contracts. For example, costs such as those related to charitable contributions, interest expense, and certain advertising and certain public relations activities are unallowable, and therefore not recoverable through sales. In addition, we may enter into agreements with the U.S. Government that address the subjects of allowability and allocability of costs to contracts for specific matters. For example, most of the environmental costs we incur for groundwater treatment and soil remediation related to sites operated in prior years are allocated to our current operations as general and administrative costs under FAR provisions and supporting agreements reached with the U.S. Government. We closely monitor compliance with and the consistent application of our critical accounting policies related to contract accounting. Business segment personnel evaluate our contracts through periodic contract status and performance reviews. Also, regular and recurring evaluations of contract cost, scheduling and technical matters are performed by management personnel independent from the business segment performing work under the contract. Costs incurred and allocated to contracts are reviewed for compliance with U.S. Government regulations by our personnel, and are subject to audit by the Defense Contract Audit Agency. For other information on accounting policies we have in place for recognizing sales and profits, see our discussion under “Sales and earnings” in Note 1 to the financial statements. Postretirement Benefit Plans Most of our employees are covered by defined benefit pension plans, and we provide certain health care and life insurance benefits to eligible retirees (collectively, postretirement benefit plans – see Note 10). Our earnings may be negatively or positively impacted by the amount of expense or income we record for our postretirement benefit plans. This is 39


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    particularly true with expense or income for defined benefit pension plans and retiree medical and life insurance plans because those calculations are sensitive to changes in several key economic assumptions and workforce demographics. Non-union represented employees hired after January 1, 2006 do not participate in our qualified defined benefit pension plans, but are eligible to participate in our defined contribution plan and our other retirement savings plans. They also have the ability to participate in our retiree medical plans, but we do not subsidize the cost of their participation. We account for our defined benefit pension plans and retiree medical and life insurance plans using Statement of Financial Accounting Standards (FAS) 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87, 88, 106 and 132(R), FAS 87, Employers’ Accounting for Pensions, and FAS 106, Employers’ Accounting for Postretirement Benefits Other Than Pensions. FAS 158 requires us to recognize on a plan-by-plan basis the funded status of our postretirement benefit plans as either an asset or liability on our Balance Sheet, with a corresponding adjustment to accumulated other comprehensive income (loss), net of tax, in stockholders’ equity. The funded status is measured as the difference between the fair value of the plan’s assets and the benefit obligation of the plan. FAS 87 and FAS 106 require that the amounts we record, including the expense or income for the plans, be computed using actuarial valuations. These valuations include many assumptions, including assumptions we make regarding financial market and other economic conditions. Changes in key economic indicators can result in changes in the assumptions we use. The primary year-end assumptions used to estimate postretirement benefit plan expense or income for the following calendar year are the discount rate and the expected long-term rate of return on plan assets for all postretirement benefit plans; the rates of increase in future compensation levels for our defined benefit pension plans; and the health care cost trend rates for our retiree medical plans. The more subjective of these assumptions are the discount rate and the expected long-term rate of return on plan assets. We use judgment in reassessing these assumptions each year because we have to consider past and current market conditions, and make judgments about future market trends. We also have to consider factors like the timing and amounts of expected contributions to the plans and benefit payments to plan participants. The discount rate we select impacts both the calculation of the benefit obligation at the end of the year as well as the calculation of net postretirement benefit plan cost in the subsequent year. We evaluate several data points in order to arrive at an appropriate discount rate. These items include results from cash flow models, quoted rates from long-term bond indices, and changes in long-term bond rates over the past year. As part of our evaluation, we calculate the approximate average yields on securities that were selected to match our projected postretirement benefit plan cash flows. Our postretirement benefit plan cash flows are input into actuarial models that include data for corporate bonds rated AA or better. The available universe of bonds is adjusted to reflect call provisions, outstanding issue amount, and bonds that are considered “outliers” (i.e. bonds with yields too far above or below the mean of the available universe of bonds). As of December 31, 2008, three actuarial models calculated rates of 6.15%, 6.18%, and 6.72% for our qualified defined benefit pension plans. We also evaluated the annualized Merrill Lynch index for long-term AA corporate bonds (15+ years), which was 6.03% at the close of 2008. In general, these data points were 15 to 35 basis points lower than at December 31, 2007. The data we collect provides important inputs into our determination of an appropriate discount rate. After reviewing all of the above data, we determined that the most appropriate discount rate for Lockheed Martin as of December 31, 2008 would be between 6.00% and 6.375%. We selected 6.125% as the discount rate for calculating our benefit obligations at December 31, 2008, compared to 6.375% used at the end of 2007. The impact of the change in the discount rate, together with other factors such as the approximate (28)% actual return on plan assets resulting from downward market conditions in 2008, was a noncash, after-tax reduction to our stockholders’ equity at December 31, 2008 of approximately $7.25 billion. The negative return on plan assets accounted for over 90% of the decrease in stockholders’ equity. In addition, the negative return on plan assets in 2008 and the change in the discount rate will increase 2009 pension expense to approximately $1.04 billion, as compared to $462 million in 2008, with approximately 85% of the increase being driven by the negative return on plan assets. The discount rate assumption we select at the end of each year is based on our best estimates and judgment. A reasonably possible change of plus or minus 25 basis points in the 6.125% discount rate assumption at December 31, 2008, with all other assumptions held constant, would decrease or increase the amount of the qualified pension benefit obligation we recorded at the end of 2008 by approximately $900 million, resulting in an after-tax increase or decrease in stockholders’ equity at the end of the year of approximately $580 million. If the 6.125% discount rate at December 31, 2008 that was used to compute 2009 expense for our qualified defined benefit pension plans had been 25 basis points higher or lower, with all other assumptions held constant, the amount of expense projected for 2009 would be lower or higher by approximately $90 40


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    million. The results of these scenarios should not be extrapolated to assess other scenarios beyond the 25 basis points, because there is not a direct correlation between a change in the discount rate and the changes in stockholders’ equity and pension expense. The long-term rate of return assumption represents the expected average rate of earnings on the funds invested, or to be invested, to provide for the benefits included in the plan obligation. This assumption is based on several factors including historical market index returns, the anticipated long-term allocation of plan assets, the historical return data for the trust funds, plan expenses and the potential to outperform market index returns. The actual return in any specific year likely will differ from the assumption, but the average expected return over a long-term future horizon should be approximated by the assumption; therefore, changes in this assumption are less frequent than changes in the discount rate. Any variance in a given year should not, by itself, suggest that the assumption should be changed. Patterns of variances are reviewed over time and then combined with expectations for the future. At December 31, 2008, we concluded that 8.50% was a reasonable estimate for the expected long-term rate of return on plan assets assumption, consistent with the rate used at December 31, 2007. U.S. Government Cost Accounting Standards (CAS) are a major factor in determining our pension funding requirements and govern the extent to which our pension costs are allocable to and recoverable under contracts with the U.S. Government. Funded amounts are recovered over time through the pricing of our products and services on U.S. Government contracts, and therefore are recognized in our net sales. The total funding requirement for our qualified defined benefit pension plans under CAS was $590 million in 2008 which was recorded in our segments’ results of operations. For 2009, we expect our funding requirements under CAS to decrease slightly. Additional funding requirements computed under the Internal Revenue Code (IRC) rules, as well as discretionary payments, are considered to be prepayments under the CAS rules to the extent the amounts exceed CAS funding requirements. These amounts would be recorded on our Balance Sheet and recovered in future periods. In 2008, 2007 and 2006, we made discretionary prepayments of $109 million, $335 million and $594 million to the Master Retirement Trust (the Master Trust) related to our qualified defined benefit pension plans. Prepayments reduce the amount of future cash funding that will be required under the CAS and IRC rules. The prepayments in prior years were used to fund required contributions in 2008. Based on our known requirements as of December 31, 2008, we would not expect to make any further required cash contributions to the Master Trust related to our qualified defined benefit pension plans in 2009 due to prepayments made in prior years. Due to other events which may occur in 2009, such as pending negotiations for certain collective bargaining agreements, we may decide to make cash contributions in 2009 of as much as $50 million to $100 million based on the outcome of those events. In addition, we may review options for using available cash for further discretionary contributions. The Master Trust primarily supports our qualified defined benefit pension plans. Valuation of the assets in the Master Trust requires judgment relative to the determination of fair value as of December 31. While many of the asset values are based on quoted prices in active markets for identical assets (e.g., stock of actively traded public companies), the trustee for the Master Trust uses various pricing sources to determine fair values for other assets where their value may be based on quoted prices for similar instruments or quoted prices for identical or similar instruments in inactive markets; or amounts derived from valuation models where all significant inputs are based on active markets that can be observed (e.g., fixed income debt securities). For still other investments, values may be amounts derived from valuation models where one or more of the significant inputs into the model cannot be observed and which require the development of relevant assumptions (e.g., private equity funds and investments in real estate partnerships). The trustee uses brokers, pricing agents, and other pricing sources to assist in the determination of the value for many of the assets, and works closely with their providers to evaluate the accuracy and timeliness of the pricing data they receive. We review the trustee’s policies and procedures regarding pricing of investments, their selection of pricing sources, and the statements we receive from them, in our evaluation of the accuracy and reliability of the pricing data included in the statements. Given the current financial environment, we also assess the potential for adjustment to the fair value of certain investments where there is a lag in the availability of data to support the investment’s value (e.g., private equity funds and real estate partnerships). In those cases, we may solicit preliminary valuation updates at year-end from the funds and partnerships. We use that information, and corroborating data from public markets, to determine if any adjustments should be recorded in the fair values. At December 31, 2008, private equity funds and real estate partnerships represented approximately 10% of the total fair value of the Master Trust. In August 2006, the President signed into law legislation related to pension plan funding in response to the public’s concern over the adequacy of such funding. The law had the effect of accelerating the required amount of annual pension plan contributions under the IRC that most companies are required to pay, beginning in 2008. The legislation provides an exemption for us as well as other large U.S. defense contractors that delays the requirement to accelerate funding. The 41


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    legislation also requires the CAS Board to modify its pension accounting rules by 2010 to better align the recovery of pension contributions on U.S. Government contracts with the new accelerated funding requirements. The new funding requirements for large U.S. defense contractors will be delayed until the earlier of 2011 or the year in which the changes to the CAS rules are effective. Environmental Matters We are a party to various agreements, proceedings and potential proceedings for environmental cleanup issues, including matters at various sites where we have been designated a potentially responsible party (PRP) by the EPA or by a state agency. We account for environmental remediation liabilities in accordance with SOP 96-1, Environmental Remediation Liabilities. We enter into agreements (e.g., administrative orders, consent decrees) which document the extent and timing of our environmental remediation obligation. We are also involved in remediation activities at environmental sites where formal agreements exist, but do not quantify the extent and timing of our obligation. Environmental cleanup activities usually span many years, which makes estimating the costs more judgmental due to, for example, changing remediation technologies. To determine the costs related to cleanup sites, we have to assess the extent of contamination, the appropriate technology to be used to accomplish the remediation, and evolving regulatory environmental standards. We consider these factors in our estimates of the timing and amount of any future costs that may be required for remediation actions, which generally results in the calculation of a range of estimates for a particular environmental site. We record a liability for the amount within the range which we determine to be our best estimate of the cost of remediation or, in cases where no amount within the range is better than another, an amount at the low end of the range. Given the required level of judgment and estimation, it is likely that materially different amounts could be recorded if different assumptions were used or if circumstances were to change (e.g., a change in environmental standards or a change in our estimate of the extent of contamination). We perform quarterly reviews of environmental remediation sites and record liabilities and assets in the period it becomes probable that a liability has been incurred and the amounts can be reasonably estimated (see the discussion under “Environmental Matters” in Notes 1 and 13 to the financial statements). At the end of 2008, the total amount of liabilities recorded on our Balance Sheet for environmental matters was $809 million. We have recorded assets totaling $683 million at December 31, 2008 for the portion of environmental costs that are probable of future recovery in pricing of our products and services to agencies of the U.S. Government. The amount that is expected to be allocated to our commercial businesses or that is determined to be unallowable for pricing under U.S. Government contracts has been expensed through cost of sales. Under agreements reached with the U.S. Government, most of the amounts we spend for groundwater treatment and soil remediation are allocated to our operations as general and administrative costs. Under existing government regulations, these and other environmental expenditures relating to our U.S. Government business, after deducting any recoveries received from insurance or other PRPs, are allowable in establishing prices of our products and services. As a result, most of the expenditures we incur are included in our net sales and cost of sales according to U.S. Government agreement or regulation. As disclosed above, we may record changes in the amount of environmental remediation liabilities as a result of our quarterly reviews of the status of our environmental remediation sites, which would result in a change to the corresponding environmental asset and a charge to earnings. For example, if we were to determine that the liabilities should be increased by $100 million, the corresponding assets would be increased by approximately $85 million, with the remainder recorded as a charge to earnings. This allocation is determined annually, based upon our existing and projected business activities with the U.S. Government. We cannot reasonably determine the extent of our financial exposure at all environmental sites with which we are involved. There are a number of former operating facilities which we are monitoring or investigating for potential future remediation. In some cases, although a loss may be probable, it is not possible at this time to reasonably estimate the amount of any obligation for remediation activities because of uncertainties (e.g., assessing the extent of the contamination). During any particular quarter, such uncertainties may be resolved to allow us to estimate and recognize the initial liability to remediate a particular former operating site. The amount of the liability could be material. Upon recognition of the liability, a portion will be recognized as an asset with the remainder charged to operations. If we are ultimately found to have liability at those sites where we have been designated a PRP, we expect that the actual costs of remediation will be shared with other liable PRPs. Generally, PRPs that are ultimately determined to be responsible parties are strictly liable for site cleanup and usually agree among themselves to share, on an allocated basis, the costs and expenses for investigation and remediation of hazardous materials. Under existing environmental laws, responsible 42

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