Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview and Consolidated Results of Operations

For an overview of our business segments, including a discussion of our major products and services, refer to Item 1. Business on pages 3 through 9. The following discussion should be read in conjunction with our Consolidated Financial Statements and related Notes included in Item 8. Financial Statements and Supplementary Data. An analysis of our consolidated operating results is set forth below, and a more detailed analysis of our segments’ operating results is provided in the Segment Analysis section on pages 21 through 27.

At the beginning of 2018, we adopted Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASC 606) using the modified retrospective transition method applied to contracts that were not substantially complete at the end of 2017. We recorded a $90 million adjustment to increase retained earnings to reflect the cumulative impact of adopting this standard at the beginning of 2018, primarily related to certain long-term contracts our Bell segment has with the U.S. Government that converted to the cost-to-cost method for revenue recognition. Revenues in 2018 for our U.S. Government contracts are primarily recognized as costs are incurred, while revenues for 2017 were primarily recognized as units were delivered. The comparative information has not been restated and is reported under the accounting standards in effect for those periods. A reconciliation of the financial statement line items impacted for 2018 under ASC 606 to the prior accounting standards is provided in Note 12.

2018 Financial Highlights

· Segment profit increased by 8% to $1.3 billion.

· Generated $1.1 billion of net cash from operating activities of continuing operations for our manufacturing businesses.

· Completed the sale of the Tools and Test Equipment product line within our Industrial segment and received $0.8 billion in net cash proceeds.

· Returned $1.8 billion to our shareholders through share repurchases and dividend payments.

· Invested $643 million in research and development activities and $369 million in capital expenditures.

· Backlog increased 27% to $9.1 billion. Our backlog includes the award of our third multi-year V-22 contract at Bell for $2.4 billion and increased orders for our commercial aircraft at the Textron Aviation and Bell segments.

Revenues

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Revenues	$	13,972	$	14,198	$	13,788		(2)%		3%

Revenues decreased $226 million, 2%, in 2018, compared with 2017, largely driven by the disposition of the Tools and Test Equipment product line within the Industrial segment. The net revenue decrease included the following factors:

· Lower Textron Systems revenues of $376 million, primarily reflecting lower volume of $159 million in the Marine and Land Systems product line, along with a decrease due to the discontinuance of our sensor-fuzed weapon product in 2017.

· Lower Bell revenues of $137 million, primarily due to lower commercial revenues of $91 million, largely reflecting the mix of aircraft sold in the year, and lower military revenues of $46 million.

· Higher Textron Aviation revenues of $285 million, due to higher volume and mix of $185 million and favorable pricing of $100 million.

· Higher Industrial revenues of $5 million, primarily due to higher volume of $149 million, largely related to the Textron Specialized Vehicles product line, a favorable impact of $57 million from foreign exchange and the impact from the Arctic Cat acquisition of $49 million. These increases were largely offset by $246 million in lower revenues due to the disposition of the Tools and Test Equipment product line.

Revenues increased $410 million, 3%, in 2017, compared with 2016, largely driven by increases in the Industrial, Textron Systems and Bell segments, partially offset by lower revenues at the Textron Aviation segment. The net revenue increase included the following factors:

· Higher Industrial revenues of $492 million, primarily due to the impact from the acquisition of Arctic Cat.

· Higher Textron Systems revenues of $84 million, primarily due to higher volume of $176 million in the Marine and Land Systems product line, partially offset by lower volume in the other products lines.

· Higher Bell revenues of $78 million, primarily due to an increase in commercial revenues of $89 million, largely reflecting higher commercial aircraft deliveries.

· Lower Textron Aviation revenues of $235 million, primarily due to lower volume and mix of $307 million, largely the result of lower military and commercial turboprop volume.

Cost of Sales and Selling and Administrative Expense

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Cost of sales	$	11,594	$	11,827	$	11,337		(2)%		4%
Gross margin as a percentage of Manufacturing revenues		16.6%		16.3%		17.3%
Selling and administrative expense	$	1,275	$	1,334	$	1,317		(4)%		1%

In 2018, cost of sales decreased $233 million, 2%, compared with 2017, largely resulting from the disposition of the Tools and Test Equipment product line and lower net volume as described above. Selling and administrative expense decreased $59 million, 4%, in 2018, compared with 2017, primarily reflecting the impact from the disposition of the Tools and Test Equipment product line.

Cost of sales increased $490 million, 4%, and selling and administrative expense increased $17 million, 1%, in 2017, compared with 2016, primarily due to an increase from acquired businesses, largely Arctic Cat. Gross margin as a percentage of Manufacturing revenues decreased 100 basis points from 2016, primarily due to lower margins at the Textron Systems segment, largely reflecting an unfavorable impact from net program adjustments, and the Industrial segment, which included the impact from the Arctic Cat acquisition.

Interest Expense

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Interest expense	$	166	$	174	$	174		(5)%		—

Interest expense on the Consolidated Statements of Operations includes interest for both the Finance and Manufacturing borrowing groups with interest related to intercompany borrowings eliminated. Interest expense for the Finance segment is included within segment profit and includes intercompany interest. Consolidated interest expense decreased $8 million in 2018, compared with 2017, primarily due to lower average debt outstanding.

Gain on Business Disposition

On July 2, 2018, we completed the sale of the businesses that manufacture and sell the products in our Tools and Test Equipment product line within our Industrial segment. We received net cash proceeds of $807 million in connection with this disposition and recorded an after-tax gain of $419 million.

Special Charges

In the fourth quarter of 2018, we recorded $73 million in special charges in connection with a plan to restructure the Textron Specialized Vehicles businesses within our Industrial segment. These businesses have undergone significant changes since the acquisition of Arctic Cat as we have expanded the product portfolio and integrated manufacturing operations and retail distribution. In the third quarter of 2018, the operating results for these businesses were significantly below our expectations as dealer sell-through lagged despite the introduction of new products into our dealer network. Based on our review and assessment of the acquired dealer network and go-to-market strategy for the Textron Off Road and Arctic Cat brands in the fourth quarter of 2018, along with a review of the other businesses within the product line, we initiated a restructuring plan. This plan included product rationalization, closure of several factory-direct turf-care branch locations and a manufacturing facility and headcount reductions. Under this plan, we recorded asset impairment charges of $47 million, primarily intangible assets related to product rationalization, contract termination and other costs of $18 million and severance costs of $8 million. Headcount reductions totaled approximately 400 positions,

representing 10% of Textron Specialized Vehicles’ workforce. The actions taken under this plan were substantially completed at the end of 2018.

In 2017 and 2016, we recorded special charges of $90 million and $123 million, respectively, related to a plan that was initiated in 2016 to restructure and realign our businesses by implementing headcount reductions, facility consolidations and other actions in order to improve overall operating efficiency across Textron. The 2016 plan was completed in 2017. Special charges related to this plan included $97 million of severance costs, $84 million of asset impairments and $32 million in contract terminations and other costs. Of these amounts, $83 million was incurred at Textron Systems, $63 million at Textron Aviation, $38 million at Industrial, $28 million at Bell and $1 million at Corporate. The total headcount reduction under this plan was approximately 2,100 positions, representing 5% of our workforce.

In connection with the acquisition of Arctic Cat, we initiated a restructuring plan in the first quarter of 2017 and recorded restructuring charges of $28 million in 2017, which included $19 million of severance costs, largely related to change-of-control provisions, and $9 million of contract termination and other costs. In addition, we recorded $12 million of acquisition-related integration and transaction costs in 2017.

For 2017 and 2016, special charges recorded by segment and type of cost are as follows:

(In millions)		Severance Costs		Asset Impairments		Contract Terminations and Other		Acquisition Integration/ Transaction Costs		Total Special Charges
2017
Industrial	$	26	$	1	$	19	$	12	$	58
Textron Aviation		11		17		—		—		28
Bell		3		12		8		—		23
Textron Systems		6		16		(1)		—		21
	$	46	$	46	$	26	$	12	$	130
2016
Industrial	$	17	$	2	$	1	$	—	$	20
Textron Aviation		33		1		1		—		35
Bell		4		1		—		—		5
Textron Systems		15		34		13		—		62
Corporate		1		—		—		—		1
	$	70	$	38	$	15	$	—	$	123

Income Taxes

				2018		2017		2016
Effective tax rate				11.7%		59.8%		3.8%

In 2018, our effective tax rate was lower than the U.S. federal statutory tax rate of 21%, primarily due to the disposition of the Tools and Test equipment product line which resulted in a gain taxable primarily in non-U.S. jurisdictions that partially exempt such gains from tax. The effective tax rate for 2018 also reflects a $25 million benefit recognized upon the reassessment of our reserve for uncertain tax positions based on new information, including interactions with the tax authorities and recent audit settlements. In addition, we finalized the 2017 impacts of the Tax Cut and Jobs Act (the “Tax Act”) and recognized a $14 million benefit in the fourth quarter of 2018.

Our effective tax rate for 2017 was higher than the U.S. federal statutory tax rate of 35%, largely due to the impact from the Tax Act. In the fourth quarter of 2017, we recorded a provisional estimate of $266 million for one-time adjustments resulting from the Tax Act. Approximately $154 million of this provisional estimate represented a charge resulting from the remeasurement of our U.S. federal deferred tax assets and liabilities, and the remainder represented a provision for the transition tax on post-1986 earnings and profits previously deferred from U.S. income taxes.

In 2016, our effective tax rate was lower than the U.S. federal statutory tax rate of 35%, largely due to a settlement with the U.S. Internal Revenue Service Office of Appeals for our 1998 to 2008 tax years. This settlement resulted in a $206 million benefit recognized in continuing operations and a $113 million benefit in discontinued operations.

For a full reconciliation of our effective tax rate to the U.S. federal statutory tax rate, see Note 16.

Segment Analysis

We operate in, and report financial information for, the following five business segments: Textron Aviation, Bell, Textron Systems, Industrial and Finance. Segment profit is an important measure used for evaluating performance and for decision-making purposes. Segment profit for the manufacturing segments excludes interest expense, certain corporate expenses, gains/losses on major business dispositions and special charges. The measurement for the Finance segment includes interest income and expense along with intercompany interest income and expense. Operating expenses for the Manufacturing segments include cost of sales, selling and administrative expense and other non-service components of net periodic benefit cost/(credit), and exclude certain corporate expenses and special charges.

In our discussion of comparative results for the Manufacturing group, changes in revenues and segment profit typically are expressed for our commercial business in terms of volume, pricing, foreign exchange, acquisitions and dispositions, while changes in segment profit may be expressed in terms of mix, inflation and cost performance. Volume changes in revenues for our commercial business represent increases or decreases in the number of units delivered or services provided. Pricing represents changes in unit pricing. Foreign exchange is the change resulting from translating foreign-denominated amounts into U.S. dollars at exchange rates that are different from the prior period. Revenues generated by acquired businesses are reflected in Acquisitions for a twelve-month period, while reductions in revenues from the sale of businesses are reflected as Dispositions. For segment profit, mix represents a change due to the composition of products and/or services sold at different profit margins. Inflation represents higher material, wages, benefits, pension service cost or other costs. Performance reflects an increase or decrease in research and development, depreciation, selling and administrative costs, warranty, product liability, quality/scrap, labor efficiency, overhead, non-service pension cost/(credit), product line profitability, start-up, ramp up and cost-reduction initiatives or other manufacturing inputs.

Approximately 24% of our 2018 revenues were derived from contracts with the U.S. Government, including those under the U.S. Government-sponsored foreign military sales program. For our segments that contract with the U.S. Government, changes in revenue related to these contracts are expressed in terms of volume. Revenues in 2018 for our U.S. Government contracts are primarily recognized as costs are incurred, while revenues for 2017 and 2016 were primarily recognized as units were delivered. Changes in segment profit are typically expressed in terms of volume and performance; these include cumulative catch-up adjustments associated with a) revisions to the transaction price that may reflect contract modifications or changes in assumptions related to award fees and other variable consideration or b) changes in the total estimated costs at completion due to improved or deteriorated operating performance.

Textron Aviation

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Revenues:
Aircraft	$	3,435	$	3,112	$	3,412		10%		(9)%
Aftermarket parts and services		1,536		1,574		1,509		(2)%		4%
Total revenues		4,971		4,686		4,921		6%		(5)%
Operating expenses		4,526		4,383		4,532		3%		(3)%
Segment profit		445		303		389		47%		(22)%
Profit margin		9.0%		6.5%		7.9%
Backlog	$	1,791	$	1,180	$	1,041		52%		13%

Textron Aviation Revenues and Operating Expenses

Factors contributing to the 2018 year-over-year revenue change are provided below:

(In millions)								2018 versus 2017
Volume and mix							$	185
Pricing								100
Total change							$	285

Textron Aviation’s revenues increased $285 million, 6%, in 2018, compared 2017, due to higher volume and mix of $185 million and favorable pricing of $100 million. We delivered 188 Citation jets and 186 commercial turboprops in 2018, compared with 180 Citation jets and 155 commercial turboprops in 2017.

Textron Aviation’s operating expenses increased $143 million, 3%, in 2018, compared with 2017, largely due to higher net volume as described above.

Factors contributing to the 2017 year-over-year revenue change are provided below:

(In millions)								2017 versus 2016
Volume and mix							$	(307)
Other								72
Total change							$	(235)

Textron Aviation’s revenues decreased $235 million, 5%, in 2017, compared with 2016, primarily due to lower volume and mix of $307 million, largely the result of lower military and commercial turboprop volume. We delivered 180 Citation jets, 155 commercial turboprops and 13 Beechcraft T-6 trainers in 2017, compared with 178 Citation jets, 190 commercial turboprops and 38 Beechcraft T-6 trainers in 2016.

Textron Aviation’s operating expenses decreased $149 million, 3%, in 2017, compared with 2016, largely due to lower net volume as described above.

Textron Aviation Segment Profit

Factors contributing to 2018 year-over-year segment profit change are provided below:

(In millions)								2018 versus 2017
Volume and mix							$	65
Pricing, net of inflation								57
Performance								20
Total change							$	142

Segment profit at Textron Aviation increased $142 million, 47%, in 2018, compared with 2017, primarily due to the impact from higher volume and mix of $65 million as described above and the favorable impact from pricing, net of inflation.

Factors contributing to 2017 year-over-year segment profit change are provided below:

(In millions)								2017 versus 2016
Volume and mix							$	(99)
Pricing, net of inflation								56
Performance and other								(43)
Total change							$	(86)

Segment profit at Textron Aviation decreased $86 million, 22%, in 2017, compared with 2016, primarily as a result of lower net volume and mix as described above. The favorable impact of $56 million from pricing, net of inflation, was largely offset by an unfavorable impact of $43 million from performance and other, largely reflecting higher research, development and engineering costs, which included costs related to the Scorpion program in 2017.

Textron Aviation Backlog

Backlog at Textron Aviation increased $611 million, 52%, in 2018 as a result of orders in excess of deliveries.

Bell

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Revenues:
Military aircraft and support programs	$	2,030	$	2,076	$	2,087		(2)%		(1)%
Commercial helicopters, parts and services		1,150		1,241		1,152		(7)%		8%
Total revenues		3,180		3,317		3,239		(4)%		2%
Operating expenses		2,755		2,902		2,853		(5)%		2%
Segment profit		425		415		386		2%		8%
Profit margin		13.4%		12.5%		11.9%
Backlog	$	5,837	$	4,598	$	5,360		27%		(14)%

Bell’s major U.S. Government programs at this time are the V-22 tiltrotor aircraft and the H-1 helicopter platforms, which are both in the production stage and represent a significant portion of Bell’s revenues from the U.S. Government.

Bell Revenues and Operating Expenses

Factors contributing to the 2018 year-over-year revenue change are provided below:

(In millions)								2018 versus 2017
Volume and mix							$	(155)
Other								18
Total change							$	(137)

Bell’s revenues decreased $137 million, 4%, in 2018, compared with 2017, primarily due to lower commercial revenues of $91 million, largely reflecting the mix of aircraft sold in the year, and lower military revenues of $46 million. We delivered 192 commercial helicopters in 2018, compared with 132 commercial helicopters in 2017.

Bell’s operating expenses decreased $147 million, 5%, in 2018, compared with 2017, primarily due to lower volume and mix as described above and improved performance on military programs described below.

Factors contributing to the 2017 year-over-year revenue change are provided below:

(In millions)								2017 versus 2016
Volume and mix							$	57
Other								21
Total change							$	78

Bell’s revenues increased $78 million, 2%, in 2017, compared with 2016, primarily due to an $89 million increase in commercial revenues, largely due to higher deliveries as Bell delivered 132 commercial aircraft in 2017, compared with 114 aircraft in 2016. Military deliveries were largely unchanged in 2017 compared with 2016, as we delivered 22 V-22 aircraft in both years and 38 H-1 aircraft in 2017, compared with 35 H-1 aircraft in 2016.

Bell’s operating expenses increased $49 million, 2%, in 2017, compared with 2016, primarily due to higher volume as described above.

Bell Segment Profit

Factors contributing to 2018 year-over-year segment profit change are provided below:

(In millions)								2018 versus 2017
Performance and other							$	60
Volume and mix								(50)
Total change							$	10

Bell’s segment profit increased $10 million, 2%, in 2018, compared with 2017, due to a favorable impact of $60 million from performance and other, partially offset by an unfavorable impact from volume and mix, largely due to the mix of commercial aircraft sold in the year. The impact from performance and other was largely the result of $77 million in improved performance on military

programs, which included an increase in favorable profit adjustments reflecting retirements of risk related to cost estimates and improved labor and overhead rates, partially offset by higher research and development costs.

Factors contributing to 2017 year-over-year segment profit change are provided below:

(In millions)								2017 versus 2016
Performance and other							$	66
Volume and mix								(37)
Total change							$	29

Bell’s segment profit increased $29 million, 8%, in 2017, compared with 2016, reflecting a favorable impact from performance and other of $66 million, largely the result of improved manufacturing performance and lower research and development costs, partially offset by an unfavorable impact from volume and mix of $37 million.

Bell Backlog

Bell’s backlog increased $1.2 billion, 27%, in 2018. New contracts received in excess of revenues recognized totaled $2.0 billion, which primarily reflected an increase of $2.4 billion for Bell’s portion of a third multi-year V-22 contract for the production and delivery of 63 units along with related supplies and services through 2024. This was partially offset by a decrease of $760 million upon the adoption of ASC 606 at the beginning of 2018, largely resulting from the acceleration of revenues upon conversion to the cost-to-cost method of revenue recognition.

Bell’s backlog decreased $762 million, 14%, in 2017, primarily due to deliveries on the V-22 and H-1 programs in excess of orders.

Textron Systems

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Revenues	$	1,464	$	1,840	$	1,756		(20)%		5%
Operating expenses		1,308		1,701		1,570		(23)%		8%
Segment profit		156		139		186		12%		(25)%
Profit margin		10.7%		7.6%		10.6%
Backlog	$	1,469	$	1,406	$	1,841		4%		(24)%

Textron Systems Revenues and Operating Expenses

Factors contributing to the 2018 year-over-year revenue change are provided below:

(In millions)								2018 versus 2017
Volume							$	(380)
Other								4
Total change							$	(376)

Revenues at Textron Systems decreased $376 million, 20%, in 2018, compared with 2017, primarily due to lower volume of $159 million in the Marine and Land Systems product line reflecting lower Tactical Armoured Patrol Vehicle program (TAPV) deliveries, along with a decrease due to the discontinuance of our sensor-fuzed weapon product in 2017.

Textron Systems’ operating expenses decreased $393 million, 23%, in 2018, compared with 2017, primarily due to lower volume described above. The decrease in operating expenses in 2018 also included the impact from unfavorable net program adjustments recorded in 2017 described below.

Factors contributing to the 2017 year-over-year revenue change are provided below:

(In millions)								2017 versus 2016
Volume							$	67
Acquisitions								10
Other								7
Total change							$	84

Revenues at Textron Systems increased $84 million, 5%, in 2017, compared with 2016, primarily due to higher volume of $176 million in the Marine and Land Systems product line, partially offset by lower volume in the other product lines, largely due to the final deliveries of our discontinued sensor-fuzed weapon product in the first half of 2017.

Textron Systems’ operating expenses increased $131 million, 8%, in 2017, compared with 2016, primarily due to higher volume as described above and the unfavorable impact from net program adjustments described below.

Textron Systems Segment Profit

Factors contributing to 2018 year-over-year segment profit change are provided below:

(In millions)								2018 versus 2017
Performance and other							$	62
Volume and mix								(45)
Total change							$	17

Textron Systems’ segment profit increased $17 million, 12%, in 2018, compared with 2017, primarily due to favorable performance and other of $62 million, partially offset by lower volume described above. Performance and other improved largely due to unfavorable program adjustments recorded in 2017 as discussed below.

Factors contributing to 2017 year-over-year segment profit change are provided below:

(In millions)								2017 versus 2016
Performance							$	(28)
Volume and mix								(13)
Other								(6)
Total change							$	(47)

Textron Systems’ segment profit decreased $47 million, 25%, in 2017, compared with 2016, primarily due to unfavorable performance. Performance reflects an unfavorable impact from net program adjustments compared with 2016, largely due to $44 million of adjustments recorded in 2017 related to the TAPV program. In 2017, this program experienced inefficiencies resulting from various production issues during the ramp up and subsequent production.

Textron Systems Backlog

In 2017, backlog decreased $435 million, 24%, primarily due to deliveries in excess of orders in the Marine and Land Systems product line as TAPV deliveries neared completion, and final deliveries of our discontinued sensor-fuzed weapon product in 2017.

Industrial

							% Change
(Dollars in millions)		2018		2017		2016		2018		2017
Revenues:
Fuel Systems and Functional Components	$	2,352	$	2,330	$	2,273		1%		3%
Other Industrial		1,939		1,956		1,521		(1)%		29%
Total revenues		4,291		4,286		3,794		—		13%
Operating expenses		4,073		3,996		3,465		2%		15%
Segment profit		218		290		329		(25)%		(12)%
Profit margin		5.1%		6.8%		8.7%

Industrial Revenues and Operating Expenses

Factors contributing to the 2018 year-over-year revenue change are provided below:

(In millions)								2018 versus 2017
Disposition							$	(246)
Volume								149
Foreign exchange								57
Acquisition								49
Other								(4)
Total change							$	5

Industrial segment revenues increased $5 million, in 2018, compared with 2017. Higher volume of $149 million, largely related to the Textron Specialized Vehicles product line, a favorable impact of $57 million from foreign exchange, primarily related to the strengthening of the Euro against the U.S. dollar, and the impact of $49 million from the acquisition of Arctic Cat on March 6, 2017, were largely offset by $246 million in lower revenues due to the disposition of the Tools and Test Equipment product line.

Operating expenses for the Industrial segment increased $77 million, 2%, in 2018, compared with 2017, primarily due to higher volume described above, the impact from foreign exchange and additional operating expenses from the Arctic Cat acquisition. These increases were partially offset by lower operating expenses from the disposition of our Tools and Test Equipment product line.

Factors contributing to the 2017 year-over-year revenue change are provided below:

(In millions)								2017 versus 2016
Acquisitions							$	393
Volume								77
Foreign exchange								27
Other								(5)
Total change							$	492

Industrial segment revenues increased $492 million, 13%, in 2017, compared with 2016, primarily due to the impact from acquired businesses of $393 million, largely related to the acquisition of Arctic Cat as described below. Revenues were also impacted by higher volume of $77 million, primarily related to the Fuel Systems and Functional Components product line and a favorable impact of $27 million from foreign exchange, primarily related to the Euro.

On March 6, 2017, we acquired Arctic Cat, a manufacturer of all-terrain vehicles, side-by-sides and snowmobiles, in addition to related parts, garments and accessories. The operating results of Arctic Cat have been included in our financial results only for the period subsequent to the completion of the acquisition. See Note 2 for additional information regarding this acquisition.

Operating expenses for the Industrial segment increased $531 million, 15%, in 2017, compared with 2016, primarily due to additional operating expenses from acquired businesses. The increase in operating expenses was also due to higher volume as described above.

Industrial Segment Profit

Factors contributing to 2018 year-over-year segment profit change are provided below:

(In millions)								2018 versus 2017
Disposition							$	(22)
Pricing and inflation								(21)
Performance and other								(16)
Volume and mix								(13)
Total change							$	(72)

Segment profit for the Industrial segment decreased $72 million, 25%, in 2018, compared with 2017, resulting from the impact of the disposition of our Tools and Test Equipment product line of $22 million, an unfavorable impact of pricing and inflation of $21 million and unfavorable performance and other of $16 million, which were both primarily related to the Textron Specialized Vehicles product line. The unfavorable volume and mix was primarily due to the mix of products sold in the year. Performance and other primarily included additional operating expenses in the first quarter of 2018 due to the timing of the Arctic Cat acquisition and the seasonality of the outdoor power sports business and unfavorable inventory adjustments in the Textron Specialized Vehicles product line, partially offset by a favorable impact of $17 million recognized in the fourth quarter of 2018 related to a patent infringement matter.

Factors contributing to 2017 year-over-year segment profit change are provided below:

(In millions)								2017 versus 2016
Pricing and inflation							$	(23)
Performance and other								(10)
Volume and mix								(6)
Total change							$	(39)

Industrial’s segment profit decreased $39 million, 12%, in 2017, compared with 2016, largely due to an unfavorable impact from pricing and inflation of $23 million, primarily in the Fuel Systems and Functional Components product line, and unfavorable performance and other of $10 million. Performance and other primarily included the operating results of Arctic Cat, partially offset by favorable performance in the Fuel Systems and Functional Components product line.

Finance

(In millions)				2018		2017		2016
Revenues			$	66	$	69	$	78
Segment profit				23		22		19

Finance segment revenues decreased $3 million and segment profit increased $1 million in 2018, compared with 2017. Finance segment revenues decreased $9 million, in 2017, compared with 2016, primarily attributable to lower average finance receivables, and segment profit increased $3 million in 2017, compared with 2016, primarily due to lower provision for loan losses, partially offset by lower average finance receivables. The following table reflects information about the Finance segment’s credit performance related to finance receivables.

(Dollars in millions)						December 29, 2018		December 30, 2017
Finance receivables					$	789	$	850
Nonaccrual finance receivables						40		61
Ratio of nonaccrual finance receivables to finance receivables						5.07%		7.18%
60+ days contractual delinquency					$	14	$	34
60+ days contractual delinquency as a percentage of finance receivables						1.77%		4.00%

Liquidity and Capital Resources

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

Key information that is utilized in assessing our liquidity is summarized below:

(Dollars in millions)						December 29, 2018		December 30, 2017
Manufacturing group
Cash and equivalents					$	987	$	1,079
Debt						3,066		3,088
Shareholders’ equity						5,192		5,647
Capital (debt plus shareholders’ equity)						8,258		8,735
Net debt (net of cash and equivalents) to capital						29%		26%
Debt to capital						37%		35%
Finance group
Cash and equivalents					$	120	$	183
Debt						718		824

We believe that our calculations of debt to capital and net debt to capital are useful measures as they provide a summary indication of the level of debt financing (i.e., leverage) that is in place to support our capital structure, as well as to provide an indication of the capacity to add further leverage. We believe that we will have sufficient cash to meet our future needs, based on our existing cash balances, the cash we expect to generate from our manufacturing operations and other available funding alternatives, as appropriate.

Textron has a senior unsecured revolving credit facility that expires in September 2021 for an aggregate principal amount of $1.0 billion, of which up to $100 million is available for the issuance of letters of credit. At December 29, 2018, there were no amounts borrowed against the facility and there were $10 million of letters of credit issued against it. We also maintain an effective shelf registration statement filed with the Securities and Exchange Commission that allows us to issue an unlimited amount of public debt and other securities.

Manufacturing Group Cash Flows

Cash flows from continuing operations for the Manufacturing group as presented in our Consolidated Statements of Cash Flows are summarized below:

(In millions)				2018		2017		2016
Operating activities			$	1,127	$	930	$	901
Investing activities				539		(728)		(534)
Financing activities				(1,738)		(266)		(146)

In 2018, cash flows provided by operating activities was $1,127 million, compared with $930 million in 2017, a 21% increase, primarily reflecting lower pension contributions of $306 million, higher earnings and a dividend of $50 million received from the Finance group in the first quarter of 2018, which were partially offset by a higher use of net working capital in 2018, largely reflecting a $145 million cash outflow from changes in net taxes paid/received.

Cash flows provided by operating activities was $930 million in 2017, compared with $901 million in 2016, a 3% increase, as improvements in working capital, were largely offset by higher pension contributions of $308 million and lower earnings. Significant factors contributing to the favorable change in working capital included an increase in cash flows of $769 million related to changes in inventory between the periods, principally in the Textron Aviation and Textron Systems segments, $333 million related to changes in customer deposits and $179 million from changes in net taxes paid/received, partially offset by changes in accounts payable and accounts receivable. The increase in cash flows from customer deposits between the periods is primarily related to lower performance-based payments received on certain military contracts in the Bell segment in 2016.

Net tax payments/(receipts) were $129 million, $(16) million and $163 million in 2018, 2017 and 2016, respectively. Pension contributions were $52 million, $358 million and $50 million in 2018, 2017 and 2016, respectively. In 2017, pension contributions included a $300 million discretionary contribution to fund a U.S. pension plan.

In 2018, investing cash flows included net cash proceeds of $807 million from the disposition of the Tools and Test Equipment product line and net proceeds from corporate-owned life insurance policies of $110 million, partially offset by capital expenditures of $369 million. In 2017, cash flows used by investing activities included capital expenditures of $423 million and a $316 million aggregate cash payment for the Arctic Cat acquisition. Investing cash flows for 2016 included capital expenditures of $446 million and cash used for acquisitions of $186 million, partially offset by net proceeds from corporate-owned life insurance policies of $87 million.

Cash flows used in financing activities in 2018 primarily included $1.8 billion of cash paid to repurchase an aggregate of 29.1 million shares of our outstanding common stock under both a new 2018 share repurchase authorization as disclosed below and a prior 2017 authorization. In 2017 and 2016, financing cash flows included $582 million and $241 million of cash paid, respectively, to repurchase an aggregate of 11.9 million and 6.9 million shares, respectively, of our outstanding common stock under prior share repurchase authorizations. Total financing cash flows in 2017 and 2016 also included the repayment of outstanding debt of $704 million and $254 million, respectively, and proceeds from long-term debt of $992 million and $345 million, respectively.

On April 16, 2018, our Board of Directors authorized the repurchase of up to 40 million shares of our common stock. This repurchase plan was utilized in 2018 for repurchases funded, in part, by the net proceeds of $0.8 billion from the disposition of the Tools and Test product line. In addition, this plan allows us to opportunistically repurchase shares and to continue our practice of repurchasing shares to offset the impact of dilution from shares issued under compensation and benefit plans.

Dividend payments to shareholders totaled $20 million, $21 million and $22 million in 2018, 2017 and 2016, respectively. Dividends received from the Finance group, which totaled $50 million and $29 million in 2018 and 2016, respectively, are included within cash flows from operating activities for the Manufacturing group as they represent a return on investment.

Finance Group Cash Flows

The cash flows from continuing operations for the Finance group as presented in our Consolidated Statements of Cash Flows are summarized below:

(In millions)				2018		2017		2016
Operating activities			$	14	$	(24)	$	11
Investing activities				99		140		142
Financing activities				(176)		(94)		(51)

The Finance group’s cash flows from operating activities included net tax payments of $17 million, $48 million and $11 million in 2018, 2017 and 2016, respectively. Cash flows from investing activities primarily included collections on finance receivables totaling $226 million, $273 million and $292 million in 2018, 2017 and 2016, respectively, partially offset by finance receivable originations of $177 million, $174 million and $173 million, respectively.

Cash flows used in financing activities included payments on long-term and nonrecourse debt of $126 million, $137 million and $203 million in 2018, 2017 and 2016, respectively. In 2017 and 2016, cash flows from financing activities also included proceeds from long-term debt of $44 million and $180 million, respectively. In 2018 and 2016, dividend payments to the Manufacturing group totaled $50 million and $29 million, respectively.

Consolidated Cash Flows

The consolidated cash flows from continuing operations, after elimination of activity between the borrowing groups, are summarized below:

(In millions)				2018		2017		2016
Operating activities			$	1,109	$	963	$	927
Investing activities				620		(645)		(436)
Financing activities				(1,864)		(360)		(168)

In 2018, consolidated cash flows provided by operating activities was $1,109 million, compared with $963 million in 2017, a 15% increase, primarily reflecting lower pension contributions of $306 million and higher earnings, partially offset by a higher use of net working capital in 2018, reflecting a $114 million increase in net tax payments and $45 million in lower cash flows related to captive financing activities.

Consolidated cash flows provided by operating activities was $963 million in 2017, compared with $927 million in 2016, a 4% increase, as improvements in working capital, were largely offset by higher pension contributions of $308 million and lower earnings. Significant factors contributing to the favorable change in working capital included an increase in cash flows of $764 million related to changes in inventory between the periods, principally in the Textron Aviation and Textron Systems segments, $333 million related to changes in customer deposits and $142 million of lower net tax payments, partially offset by changes in accounts payable and accounts receivable. The increase in cash flows from customer deposits between the periods is primarily related to lower performance-based payments received on certain military contracts in the Bell segment in 2016.

Net tax payments were $146 million, $32 million and $174 million in 2018, 2017 and 2016, respectively. Pension contributions were $52 million, $358 million and $50 million in 2018, 2017 and 2016, respectively. In 2017, pension contributions included a $300 million discretionary contribution to fund a U.S. pension plan.

Investing cash flows in 2018 included net cash proceeds of $807 million from the disposition of the Tools and Test Equipment product line and net proceeds from corporate-owned life insurance policies of $110 million, partially offset by capital expenditures of $369 million. In 2017, cash flows used by investing activities included capital expenditures of $423 million and a $316 million aggregate cash payment for the Arctic Cat acquisition. Investing cash flows for 2016 included capital expenditures of $446 million and cash used for acquisitions of $186 million, partially offset by net proceeds from corporate-owned life insurance policies of $87 million.

In 2018, 2017 and 2016, cash used in financing activities included share repurchases of $1,783 million, $582 million and $241 million, respectively, and the repayment of outstanding debt of $131 million, $841 million and $457 million, respectively. Total financing cash flows in 2017 and 2016 also included proceeds from long-term debt of $1,036 million and $525 million, respectively.

Captive Financing and Other Intercompany Transactions

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

Reclassification adjustments included in the Consolidated Statements of Cash Flows are summarized below:

(In millions)				2018		2017		2016
Reclassification adjustments from investing activities:
Cash received from customers			$	199	$	241	$	248
Finance receivable originations for Manufacturing group inventory sales				(177)		(174)		(173)
Other				(4)		(10)		(31)
Total reclassification adjustments from investing activities				18		57		44
Reclassification adjustments from financing activities:
Dividends received by Manufacturing group from Finance group				(50)		—		(29)
Total reclassification adjustments to cash flow from operating activities			$	(32)	$	57	$	15

Under a Support Agreement between Textron and TFC, Textron is required to maintain a controlling interest in TFC. The agreement, as amended in December 2015, also requires Textron to ensure that TFC maintains fixed charge coverage of no less than 125% and consolidated shareholder’s equity of no less than $125 million. There were no cash contributions required to be paid to TFC in 2018, 2017 and 2016 to maintain compliance with the support agreement.

Contractual Obligations

Manufacturing Group

The following table summarizes the known contractual obligations, as defined by reporting regulations, of our Manufacturing group as of December 29, 2018:

			Payments Due by Period
(In millions)		Total		Year 1		Years 2-3		Years 4-5		More Than 5 Years
Debt	$	3,082	$	258	$	1,059	$	14	$	1,751
Purchase obligations not reflected in balance sheet		2,571		2,032		509		28		2
Interest on borrowings		643		136		205		135		167
Pension benefits for unfunded plans		369		27		50		46		246
Postretirement benefits other than pensions		250		28		49		41		132
Other long-term liabilities		345		76		103		54		112
Operating leases		301		64		77		45		115
Total Manufacturing group	$	7,561	$	2,621	$	2,052	$	363	$	2,525

Pension and Postretirement Benefits

We maintain defined benefit pension plans and postretirement benefit plans other than pensions as described in Note 14. Included in the above table are discounted estimated benefit payments we expect to make related to unfunded pension and other postretirement benefit plans. Actual benefit payments are dependent on a number of factors, including mortality assumptions, expected retirement age, rate of compensation increases and medical trend rates, which are subject to change in future years. Our policy for funding pension plans is to make contributions annually, consistent with applicable laws and regulations; however, future contributions to our pension plans are not included in the above table. In 2019, we expect to make approximately $25 million of contributions to our funded pension plans and the Retirement Account Plan. Based on our current assumptions, which may change with changes in market conditions, our current contribution for each of the years from 2020 through 2023 are estimated to be approximately $50 million under the plan provisions in place at this time.

Other Long-Term Liabilities

Other long-term liabilities consist of undiscounted amounts in the Consolidated Balance Sheets that primarily include obligations under deferred compensation arrangements and estimated environmental remediation costs. Payments under deferred compensation arrangements have been estimated based on management’s assumptions of expected retirement age, mortality, stock price and rates of return on participant deferrals. The timing of cash flows associated with environmental remediation costs is largely based on historical experience. Certain other long-term liabilities, such as deferred taxes, unrecognized tax benefits and product liability, warranty and litigation reserves, have been excluded from the table due to the uncertainty of the timing of payments combined with the absence of historical trends to be used as a predictor for such payments.

Purchase Obligations

Purchase obligations include undiscounted amounts committed under legally enforceable contracts or purchase orders for goods and services with defined terms as to price, quantity and delivery dates. Approximately 37% of the purchase obligations we disclose represent purchase orders issued for goods and services to be delivered under firm contracts with the U.S. Government for which we have full recourse under customary contract termination clauses.

Finance Group

The following table summarizes the known contractual obligations, as defined by reporting regulations, of our Finance group as of December 29, 2018:

			Payments Due by Period
(In millions)		Total		Year 1		Years 2-3		Years 4-5		More Than 5 Years
Term debt	$	419	$	167	$	190	$	37	$	25
Subordinated debt		299		—		—		—		299
Interest on borrowings		216		25		37		30		124
Total Finance group	$	934	$	192	$	227	$	67	$	448

Critical Accounting Estimates

To prepare our Consolidated Financial Statements to be in conformity with generally accepted accounting principles, we must make complex and subjective judgments in the selection and application of accounting policies. The accounting policies that we believe are most critical to the portrayal of our financial condition and results of operations are listed below. We believe these policies require our most difficult, subjective and complex judgments in estimating the effect of inherent uncertainties. This section should be read in conjunction with Note 1, which includes other significant accounting policies.

Revenue Recognition

A substantial portion of our revenues is related to long-term contracts with the U.S. Government, including those under U.S. Government-sponsored foreign military sales program, for the design, development, manufacture or modification of aerospace and defense products as well as related services. At the beginning of 2018, we adopted Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (ASC 606) and its related amendments using the modified retrospective transition method, which permitted comparative information to not be restated This standard primarily impacted our contracts with the U.S. Government as we were required to convert certain contracts from the units-of-delivery method to the cost-to-cost method for revenue recognition. Under ASC 606, while the timing of revenue recognition has changed for many of these contracts and the number of units of accounting, known as performance obligations, have been reduced from the prior standards, the process for establishing and reviewing our revenue and cost estimates is consistent with the prior periods.

With the adoption of ASC 606 in 2018, due to the continuous transfer of control to the U.S. Government, we recognize revenue over the time that we perform under the contract. Selecting the method to measure progress towards completion requires judgment and is based on the nature of the products or service to be provided. We generally use the cost-to-cost method to measure progress for our contracts because it best depicts the transfer of control to the customer that occurs as we incur costs on our contracts. Under this measure, the extent of progress towards completion is measured based on the ratio of costs incurred to date to the estimated costs at completion of the performance obligation, and revenue is recorded proportionally as costs are incurred.

Prior to the ASC 606 adoption, we accounted for our long-term contracts under the percentage of completion method of accounting. Under this method, we estimated profit as the difference between total estimated revenues and cost of a contract. We then recognized that estimated profit over the contract term based on either the units-of-delivery method or the cost-to-cost method (which typically was used for development effort as costs were incurred), as appropriate under the circumstances. Revenues under fixed price contracts generally were recorded using the units-of-delivery method, while revenues under cost-reimbursement contracts were recorded using the cost-to-cost method.

Approximately 80% of our 2018 revenues with the U.S. Government were under fixed-price and fixed-price incentive contracts. To the extent our actual costs vary from the estimates upon which the price was negotiated, we will generate more or less profit and could potentially incur a loss.

The transaction price for our contracts represents our best estimate of the consideration we expect to receive and includes assumptions regarding variable consideration as applicable. Certain of our long-term contracts contain incentive fees or other provisions that can either increase or decrease the transaction price. These variable amounts generally are awarded upon achievement of certain performance metrics, program milestones or cost targets and can be based upon customer discretion. We include estimated amounts in the transaction price to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved. Our estimates of variable consideration and determination of whether to include estimated amounts in the transaction price are based largely on an assessment of our anticipated performance, historical performance and all other information that is reasonably available to us.

Due to the number of years it may take to complete many of our contracts and the scope and nature of the work required to be performed on those contracts, the estimation of total transaction price and costs at completion is complicated and subject to many variables and, accordingly, is subject to change. In estimating total costs at completion, we are required to make numerous assumptions related to the complexity of design and related development work to be performed; engineering requirements; product performance; subcontractor performance; availability and cost of materials; labor productivity, availability and cost; overhead and capital costs; manufacturing efficiencies; the length of time to complete the contract (to estimate increases in wages and prices for materials); and costs of satisfying offset obligations, among other variables. Our cost estimation process is based on the professional knowledge and experience of engineers and program managers along with finance professionals. We review and update our cost projections quarterly or more frequently when circumstances significantly change. When estimates of total costs to be incurred on a contract exceed estimates of total sales to be earned, a provision for the entire loss on the contract is recorded in the period in which the loss is determined.

At the outset of each contract, we estimate an initial profit booking rate considering the risks surrounding our ability to achieve the technical requirements (e.g., a newly-developed product versus a mature product), schedule (e.g., the number and type of milestone events), and costs by contract requirements in the initial estimated costs at completion. Profit booking rates may increase during the performance of the contract if we successfully retire risks surrounding the technical, schedule, and cost aspects of the contract. Conversely, the profit booking rate may decrease if we are not successful in retiring the risks; and, as a result, our estimated costs at completion increase. All estimates are subject to change during the performance of the contract and, therefore, may affect the profit booking rate.

Increases or decreases in profit booking rates are recognized in the current period and reflect the inception-to-date effect of such changes. Changes in our profit booking rate due to changes in our estimate of the total expected costs, along with changes in the transaction price, are recognized on a cumulative catch-up method of accounting. This method recognizes the cumulative effect of changes on current and prior periods with the impact of the change from inception-to-date recorded in the current period. The impact of our gross cumulative catch-up adjustments on revenues and segment profit recognized in prior periods is presented below:

(In millions)				2018		2017		2016
Gross favorable			$	249	$	92	$	106
Gross unfavorable				(53)		(87)		(23)
Net adjustments			$	196	$	5	$	83

With the adoption of ASC 606 at the beginning of 2018, a significant portion of our contracts with the U.S. Government converted to the cost-to-cost method for revenue recognition from the units of delivery method. The cost-to-cost method generally results in larger cumulative catch-up adjustments since revenue is recognized earlier on these contracts requiring the estimation of costs over longer periods of time. Under the units of delivery method that we used for many of our contracts in 2017 and 2016, we had more time to develop and refine our estimates as we were not required to recognize revenue until our products were delivered much later in the contract term.

Due to the significance of judgment in the estimation process described above, it is likely that materially different revenues and/or cost of sales amounts could be recorded if we used different assumptions or if the underlying circumstances were to change. Our earnings could be reduced by a material amount resulting in a charge to earnings if (a) total estimated contract costs are significantly higher than expected due to changes in customer specifications prior to contract amendment, (b) total estimated contract costs are significantly higher than previously estimated due to cost overruns or inflation, (c) there is a change in engineering efforts required during the development stage of the contract or (d) we are unable to meet contract milestones.

Goodwill

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

We calculate the fair value of each reporting unit, primarily using discounted cash flows. These cash flows incorporate assumptions for short- and long-term revenue growth rates, operating margins and discount rates that represent our best estimates of current and forecasted market conditions, cost structure, anticipated net cost reductions, and the implied rate of return that we believe a market participant would require for an investment in a business having similar risks and business characteristics to the reporting unit being assessed. The revenue growth rates and operating margins used in our discounted cash flow analysis are based on our strategic plans and long-range planning forecasts. The long-term growth rate we use to determine the terminal value of the business is based on our assessment of its minimum expected terminal growth rate, as well as its past historical growth and broader economic considerations such as gross domestic product, inflation and the maturity of the markets we serve. We utilize a weighted-average cost of capital in our impairment analysis that makes assumptions about the capital structure that we believe a market participant would make and include a risk premium based on an assessment of risks related to the projected cash flows of each reporting unit. We believe this approach yields a discount rate that is consistent with an implied rate of return that an independent investor or market participant would require for an investment in a company having similar risks and business characteristics to the reporting unit being assessed.

If the reporting unit’s estimated fair value exceeds its carrying value, there is no impairment, and no further analysis is performed. Otherwise, an impairment loss is recognized in an amount equal to that excess carrying value over the estimated fair value amount. Based on our annual impairment review, the fair value of all of our reporting units exceeded their carrying values, and we do not believe that there is a reasonable possibility that any units might fail the initial step of the impairment test in the foreseeable future.

Retirement Benefits

We maintain various pension and postretirement plans for our employees globally. These plans include significant pension and postretirement benefit obligations, which are calculated based on actuarial valuations. Key assumptions used in determining these obligations and related expenses include expected long-term rates of return on plan assets, discount rates and healthcare cost projections. We also make assumptions regarding employee demographic factors such as retirement patterns, mortality, turnover and rate of compensation increases. We evaluate and update these assumptions annually.

To determine the weighted-average expected long-term rate of return on plan assets, we consider the current and expected asset allocation, as well as historical and expected returns on each plan asset class. A lower expected rate of return on plan assets will increase pension expense. For 2018, the assumed expected long-term rate of return on plan assets used in calculating pension expense was 7.58%, compared with 7.57% in 2017. For the last seven years, the assumed rate of return for our domestic plans, which represent approximately 93% of our total pension assets, was 7.75%. A 50 basis-point decrease in this long-term rate of return in 2018 would have increased pension cost for our domestic plans by approximately $33 million.

The discount rate enables us to state expected future benefit payments as a present value on the measurement date, reflecting the current rate at which the pension liabilities could be effectively settled. This rate should be in line with rates for high-quality fixed income investments available for the period to maturity of the pension benefits, which fluctuate as long-term interest rates change. A lower discount rate increases the present value of the benefit obligations and increases pension expense. In 2018, the weighted-average discount rate used in calculating pension expense was 3.67%, compared with 4.13% in 2017. For our domestic plans, the assumed discount rate was 3.75% in 2018, compared with 4.25% in 2017. A 50 basis-point decrease in this weighted-average discount rate in 2018 would have increased pension cost for our domestic plans by approximately $31 million.

The trend in healthcare costs is difficult to estimate and has an important effect on postretirement liabilities. The 2018 medical and prescription drug cost trend rates represent the weighted-average annual projected rate of increase in the per capita cost of covered benefits. In 2018, we assumed a trend rate of 7% for both medical and prescription drug cost and assumed this rate would gradually decline to 5% by 2024 and then remain at that level.