Q2 2022 Kratos Defense and Security Solutions Inc Earnings Call
Good day and thank you for standing by. Welcome to the crictos defense and security solutions second quarter 2022 earnings conference callat. This time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session.
To ask a question during the session, you will need to press star 1- 1, that Star and the numbers 1- one on your telephone, and then you will hear an automated message advising you that your hands raised.
Please be advised that today's conference is being recorded.
And without further ADO, I'd like to turn the conference over to marie menanddoza, Vice President and general counsel. Please go ahead.
Thank you. Good afternoon everyone. Thank you for joining us for the Chris defense and security solutions second quarter 2022 conference call. With me today is Eric deammarco crearis, as President and Chief Executive Officer, and dianathe lund, creat us Executive Vice President and Chief Financial Officer.
Before we begin the substit of today's call.
I'd like everyone to please take note of a safe part harbor paragraph that is included at the end of today's press release.
This paragraph emphasizes the major uncertainties risks inherent in the forward-looking statements we will make this afternoon.
Please keep these uncertainties and risks in line as we discuss.
Strategic initiative, potential market opportunities, operational outlook and financial guidance during today's call.
Today's call will also include a discussion of non-GAAP financial measures, as that terms to finding regulation G.
non-GAAP financial measures should not be considered in isolation from or as a substitute for, financial information presented in compliantly GAAP.
Accordingly, at the end of today's press release, we have provided a reconciliation of these non-GAAP financial measures to the company's financial results, prepared on theaccordce with GAAP.
With that. I will now turn the call over to Eric tomarco.
Thank you, marie.
Good afternoon.
I believe today's report reflects the success of cratos's strategy.
Disrupt the national security market space with first to market affordable transformative technology products, systems and solutions.
Since our last report to you, we have received each of the three large new space and satellite program contract awards we mentioned on the Q1 call.
Including the blue halo space for scar program and intelsat's next-generation satellite network.
Each of which have now been disclosed by our customers.
We have also received the third contract award I mentioned.
Has not yet been publicly disclosed by the customer. Therefore, we are unable to provide any additional information at this time, but we have received all three.
The initial estimated total future potential value of these three new programs for kratos is several hundreds of millions of dollars over the respective program periods.
These new program awards that we have now received, which have a significant open-space software component.
Our key elements to kratos is expected fourth quarter ramp and EBITDA margin increase and also our future year expected financial organic growth rate. That I'll discuss later.
kratos's first to market open space platform is the only software defined satellite ground system today.
And this was key to kratosis- receiving each of these three new large program awards.
kratos is the clearer market leader in next-generation satellite ground systems, which has an extremely large and rapidly growing market area.
We believe that these recent program awards and our one point seven to one Q2 book-to-bbuild ratio and our space satellite and cyber business is representative of kratos's open space software and technology disruption potential. four kratos to the multibillion dollar total addressable satellite market space we are penetrating.
We are currently in pursuit of several additional new space and satellite program opportunities with our open space technology.
Certain of which we also hope to be successful on by the end of this year.
We expect kratos's space and satellite business, which has our company's largest, to be one of our fastest-growing and highest-margin businesses going forward.
As customer acceptance of our open-space software-based products increases.
We will continue to invest significant internally funded rnd into our open space software, product family and intellectual property in order to further kratos's position as the leader in what we see as a transformational, large and growing market opportunity for our company.
Since our last report to you, we have had several successful flights with multiple krato tactical drones, including valchery for the skyboard program, and a number of kratos valeries have now been delivered to and accepted by the customer.
We now expect to receive additional valcury-related contract awards in the second half of 22 including a valcury-related contract from a new service brand customer in Q4 and.
Which is a key element of our forecasted Q4 unmanned systems revenue and profit contribution increase.
What's our last report to you?
It has been reported that the air force will be retiring the entire global hawk fleet of drones in order to free up funding for more survivable platforms and systems in a high-end conflict.
On the global hawk retirement decision. The air force reportedly said that, in part, our ability to win future high end conflicts requires accelerating investment in connected survivable platforms by divesting legacy ISR assets that offer limited capabilities against peer-and near-peer threats.
It was also recently reported that the usaf is planning the reduction end retirement of the J Star fleet, as the aircraft is also not considered survivable in a high-end conflict.
Since our last report to you, the Deputy assistant Secretary of the air force for science, technology and engineering informed Congress that the skyboard Van guard program, which kratos, valery and Mao tactical jet drones have been publicly acknowledged to be part of, will now become a program of record by the end of 2023 and will transition to acquisition.
The valery was specifically designed to be survivable in a high-end fight with the balcurery- having flown with both the stellta F 22 and F 35 and the balcurery having a very attractive Signature characteristic of its own at a cost level that allows the valcurer two deep T to be deployed in affordable mass.
We believe that the world is now seen that quantities or mass does matter, with approximately 1000 drones of all types reportedly lost thus far in the Ukraine, including jet drones.
Emphasizing this belief that low cost and the delivery of affordable mass is now considered critical.
The U K recently canceled its loyal wing man drone program mosquito, reportedly due to high costs.
A flying system still many years away, and that the U K mod has now determined that cost effectiveness is achievable through smaller, less costly but still highly capable drones.
We continue cereal production of the initial 12 lot of alteries, certain of which, as I mentioned earlier, have now been delivered to and accepted by a customer.
Based on discussions with the potential new service branch customer, certain of the 12 alery still in produions mission, system configuration will be modified to meet a certain requirement.
Based on recent interactions with additional potential new customers. We believe the fact that kratos has active production lines for high-performance jet powerwe drones, including balery Mao, airwolf and others, all of which are flying today. These are not power points or simulated videos or concepts that reportedly, will be ready three 5, seven years from now at some unknown price.
Is a key differentiator for crratos.
kratos is ready now with active production lines and in-place supply chain, flying aircraft and known price points.
We believe that kratos is being ready now. Positioning and affordability, along with recent global geopolitical events demonstrating that the threat is real and that quantities do matter in a high-end, high-end conflict, will be a catalyst for us.
Additionally, over the past several weeks it has become clear, based on publicly available information and our meetings with customers, that runway independence is an absolute critical requirement for affordable reusable, disposable and attriatable drones.
Accordingly, our unmanned businesses resources will now primarily be focused on one way independent systems and area where kratos is already the clear industry leader, having built hundreds of jet-drone aircraft, all of which are one way independent.
Related to runway independence. kratos's ghost works is now almost complete, with what we believe is like new game-changing capability in this area, as specifically related to kratos's drones.
one way independent. We believe is also critical to the success of the air forces's agile, combat employment or ACE program in the Pacific.
As a result of these recent customer meetings, Communications events, et cetera.
We are now planning.
To increase cereal production or're in the planning process of the valery beyond the initial 12 lot currently in production.
Over the next 12 months and I currently believe- excuse me- that over the next few months and I currently believe that by the end of this year, we will be making the decision to begin the next Bal reproduction lot and its size, based on the increasing demand signals we are receiving from multiple sources.
As I have mentioned previously, a significant amount of kratos's tactical drone work and initives initiatives are now classified. cei are confidential and we cannot get ahead of our customers from a communication standpoint on certain programs, projects or initiatives we may be working on, including as related to valpery.
However kratos is the clear industry leader in low-cost, high-performance jet power drones and we remain highly confident in the future potential transformational success of kratos's tactical drone business for our company.
kato's target drone business, where kratos is also the clear industry leader once again- is also well positioned, including as a result of the Russian Ukraine war, Asia Pacific tensions and the related global recapitalization of strategic weapon systems. Which systems need to be exercised and tested against target drones?
We continue to expect to receive an approximate $1 million sole source target drone idiq contract in Q4 and we are in pursuit of several other new U's and international target drone opportunities.
kratos is the primary target drone provider to the United States air force, mayvbe and Army and U's allies want to exercise their respective weapon, radar and other systems against the same target drones that are used by the United States military, which are kratos drones.
krato's turbine technologies in our engine. Business is also performing well and since our last report to you, the Golden horort Vanguard program was reported by the Deputy assistant air force Secretary to also now beyond schedule to be a program of record in 2020. -three.
We believe that the Golden horard Vanguard program transitioning to a program of record is important to kratos from a tactical drone, tactical andempowered munition and a propulsion system standpoint.
Just last week, kratos turbine technologies are KT announced a $54 million sole source single award task order to develop a low-cost, limited life engine for aattriitable and expendable systems.
Also in KT. The new rollsroyce B 52 engine program we recently received is expected to begin ramping in Q3 of this year. As our several space propulsion system programs KT is currently executing on.
In our C fiisr business the gbsd or sentinel program with our outstanding prime partner north of grumman is also beginning to ramp up in Q3 with an expected increase in Q4 and.
We anticipate that gbd will also be a key future year organic growth driver for kratos.
Our C five ISR business is also pursuing an additional large potential- several hundred million dollar new program opportunity for kratos, where kratos has now received a development contract.
kratos's Rocket systems. Business growth opportunities are also robust, including in the ballistic missile defense and hydsonic areas, which is receiving significant funding increases in the 2023 request and the fiteup.
We continue to progress on kratos's zeus propulsion system with our strategic partner aerojet and our aony hypersonic vehicle system.
Including with our stakeholder customer partners, and we are now expecting to receive a new large contract related to these systems by the end of this year.
We believe that the extremely affordable krato, zeus and aonne' hydroonic system will be disruptive and transformative, providing significant capabilities to our customers at a low cost.
The sree transaction closed in Q2 of this year, which further positions kratos in the high priority and extremely well-funded hypersonics area.
Our microwave electronics business has virtually 100% of its Q3 and Q4 revenue forecast now in backlog and has a strong opportunity pipeline similar to virtually every other kratos business.
In our microwave business. We have now been informed by a customer- and we have executed a letter of intent with the customer- that we have been selected for a potential $25 million kratos value program related to a CFI ISR system.
We expect kratos's microwave business to be under formal contract on this new opportunity by the end of this year, which will further position kratos's microwave electronics business for sustained future organic growth and margin expansion.
In summary, kratos is positioned in well-funded, mission-critical priority national security areas of United States and our allies, and the demand for kratos' systems, our products and our solutions has never been stronger and it's increasing.
Virtually every kratos business unit continues to forecast organic growth for 2022 and a very challenging environment, which is representative of the kratos team's execution.
Assuming no future acquisitions we are currently forecasting a base case 2023 over 2022 year-over-year growth rate of approximately 10% and.
With the possibility for an even substantially greater growth above this 10% base case if certain opportunities in our tactical drone, space satellite and cyber businesses come through fruition ahead of our base case expectation.
The expected growth of course could move around a bit depending on the length of any future year, continuing resolution authorizations or government funding delays, but irrespective, kratos's future organic growth trajectory is expected to be very strong.
Operationally. Supply chain issues remain a significant challenge and we now expect them to continue into 2023 with specific representative kratdos issues, including the procurement of fpgaas, aluminum antennas and certain materials related to composites.
Inflation across every cost point, including as related to materials and wages, is also a challenge which has gotten worse since our last report to you and which is impacting our Q3 margins on existing firm fixed price contracts and on price options, as we cannot pass the increased costs onto our customers.
We expect our margins to increase in Q4 as certain new contracts we have recently received have contemplated inflation and increased cost in them and as the mix of our revenue improves, including in our space and satellite business with open space software, as we realize increased leverage also on our fixed cost bace and revenues increases.
Hiring, obtaining and retaining personnel, including those with security clearances, is also an operational challenge, and we are having to increase compensation to both retain and obtain qualified personnel, which is also adversely impacting our near-term profit margins.
Our forecasted execution plan and revenue growth includes the assumption that we will be able to increase our workforce to meet the production and delivery requirements of the contract awards that we're executing on and that are included in our backlog.
However irrespective of these challenges, we believe that kratos' strategy of providing affordable technology for national security is spoought on and that we have the right products at the right price at the right time to meet the? U's and its allies. National security priorities.
Our plan remains to focus internally on organic growth and our 10% 2023 over 2022 base case growth rate, and to successfully execute on our potentially transformational tactical drone, space and satellite opportunities.
The Anna.
Thank you, Eric. Good afternoon, as we have included a detailed summary of the second quarter financial performance and financial.
In the press release we published earlier today. I will focus on the highlights in my remarks.
todaykratos reported second quarter 22 revenues of 224.2 million above our estimated range of two zero five to two hundred and fifty.
Million driven primarily by growth in our space satellite and cyber intering technology business.
And doue in part to the contribution from the recently closed SR.
Acquisition, excluding the impact of the contribution from the CT, cosmic as and CR.
Excuse me, SRE acquisitions, which contributed 21.5 million.
And excluding the impact of the reduction in our training solutions. Business of eight.
six million revenues grew organically 3% as compared to the second.
quart of 21 Q2 twenty two revenues continued to be impacted by continued and increased COVID-19 related supply chain and other delays, including obtaining and retaining.
Qualified personnel, resulting in approximately 14.5 million in revenues being deferred into future periods.
With approximately two point nine million of associated operating income.
Including increasing.
ary cost.
Our Q2 twenty two consolidated operating loss with one point nine million.
Compared to operating income of three point three million in the second quarter.
Of 21 with Q2 twenty 2, including a litigation settlement.
In charge of five point five million.
Net loss was four point seven million for the second quarter of twenty two.
So and a gap loss of four cents per share compared to net income of one point one million in the second quarter.
21 and gap E pss of one sense per.
Included in second quarter. 22 net law is to $5.5 million litigation settlement charge discussed previously.
We generated adjusted EBITDA 17.7 million for the second.
quarder exceeding the higher end of our expected range of 11 million to fourteen.
Due primarily to a favorable mix in our space satellite and cyber and turbine technology.
These businesses. Our unmanned system segment reported revenues of 56.4 million in the second quarter of twenty two.
two compared to 60.3 million in the second quarter of twenty.
one K G's reported revenues of one 67.8 million in the second quarter of twenty two.
Compared to 144.8 million in the second quarter.
21 including contribution of 25.1 million.
The recently acquired cosmic as SR and ctt.
Acquisitions offset partially by the training solutions business of eight point.
Million which included the loss of an international training services.
Contract which contributed revenue of four point five million in the second quarter of twenty.
one Despite the continued unfavorable impact was.
From supply chain covidt and related delays and disruption.
Which impacted current quarter revenues unfavorably by apostimately thirteen point.
Million on a pro forma basis, excluding the impact of the training solutions business.
As KG's revenues grew organically 8% in the second.
Of 22- second quarter, 22 operating income and adjusted EBITDA for unmanned systems.
Included a heavier mix of more development-based revenues.
Which are typically lower in margin due to less leverage on fixed overhead manufacturing, SGNA and development infrastructure.
Our unmanned systems business experienced an increase of nine thousand in sga, primarily related to increased head.
And one point three million of R and D in the second quarter of 22, as compared to.
The second quarter of 21 kgs operating income and adjusted EBITDA included a more favorable revenue mix, including software and license based revenues.
Q2 22- cash flow from operations was a use of twenty-one point six.
Million with the use, including an increase of inreceivables, of approximately.
27.1 million.
Primarily related to future milestone and other contractual payments from customers.
And an increase in our inventory balances of approximately.
five thousand.
During the quarter, primarily in our immane system.
C FI SR satellite and microwave electronic business.
Is in anticipation of the ramps in production in the second half of the.
Year and in part to secure addicial safety stock and advanced buies in larger lot sizes.
To gain pricing benefits where possible.
And to mitigate the impact of supply chain disruption.
In addition, operating cash flow also includes continued planned investments in engineering costsin our Rocket system and turbine technologies businesses.
For new products and investments.
Including the design and development of an affordable hypersonic.
eranthese any complementary propulsion system.
For the first six months of 22, our operating cash flow uses included 15 million of increases in receivables and increases of 25.8 million in inventories across all of our product-based businesses, including unmanned systems, space and satellite, microwave products and c-five ISR.
In addition, we have made approximately five point six million investments in nonrecurring engineering.
For these new Rocket products during the first six months of twenty two.
Our contract mix for the quarter was 72% of revenues generated from fixed-price contracts, 23% from cost plus fixed fee contracts and 5% from time of material.
Contracts: revenues generated from contracts with the U's federal government during the quarter, where approximately 70%.
And including revenues generated from contracts with the D O D non D O D federal government agency.
And FMS contracts.
In Q2 of 22, we generated 12% of revenues from commercial customers.
And 18% from foreign customms.
Mercy. Now moving to financial guidance.
Our third quarter. 22 financial guidance we provided today includes our current forecasted business.
And are assumptions related to the expected continued impact of employee absenteism, challenges related to obtaining and retaining qualified personnel, supply chain disruptions, inflation and related expected cost and price.
And other COVID-19 related items that have are currently.
And expected to continue to impact the industry and creators.
Throughout the first half of the year, kratos experienced a significant increase in the intensity and effects of COVID-19 and the related impact to our employees absenteism consultants vendors suppliers customers, et cetera, which impact included loss of weeks of manufacturing and production functions that our unmaned.
Some C 5, SR and microwave products business.
We've assumed the peace COVID-19.
And supply chain-related impact to ourbus.
Including increased inflationary costs.
Which significantly impacted our first half 22 operations.
Will continue to impact the third quarter, with an estimated impact of approximately.
To 14 million in third quarter revenues and three to five million of our adjusted.
Da we are having some success with certain customers on building and cost and inflation escalators. On new band and new upcoming.
Priced options, and we expect to begin seeing certain benefit of these efforts in the fourth quarter.
Of this year however, since our contract mix is predominantly fixed price.
With certain of the contracts under longer period of performance terms. It will take some time to transition the contracts to those with increased price.
As a result of each of these pricing and inflation factors that we are contractually obligated to absorb.
And the continued delay of our ability to produce and deliver certain products.
With the most significant impact to our third quarter forecastwhich we had originally expected to significantly.
Improve we are adjusting our fiscal 22 adjusted EBITDA to 80 to 80- five million, with the most significant impact to the forecasted third quarter margins, with improvements expected in the fourth quarter based upon the projected ramp and new large programs.
Which includes more recent cause: leverage reallies on the SGNA and overhead infrastru.
And a more favorable revenue.
Including more software-based revenues.
Driven largely by the three new open-space programs that Eric mentioned earlier.
We are forecasting increased revenues in the third and fourth quarters of this year.
With the trajectory increasing in the fourthar.
We're also adjusting our revenue guidance up to 8, 90 to nine thirty.
Million to reflect the expected contribution from the SR acquisition.
Along with orcasasted organic growth driven by our bookings and backlog, offset partially by continued revenue delays caused by supply chain disruptions.
The growth excepted in the fourth quarter of 22 is largely driven by the forecasted execution and delivery schedules of five new programs.
Or of which have already been awarded the three satellite program awards gbsd and an expected balery award from a new customer.
In order to maintain our fiscal 22 estimated use from free cash flow estimate of 30 to four million, we have adjusted our FY 22 capital expenditure plan to mitigate, where possible, the additional uses of working capital that we have expended this year to bolster our inventory levels and advanced inventory purchases.
Eric excell. Thank you, Diana.
We'll turn it back over to the moderator for any questions.
Thank you. Yes, we now transition to our question-and-answer session as a reminder to all of our listeners. To ask a question, you'll need the press star, one-one that Star and the numbers 1- one under telephone and wait for your name to be announced.
Please stand by while we can file the QA roster.
Our first question comes from the line of Michael charmoli of Truest securities. Your line has now open, Michael.
Hey good evening guys thanks for taking the questions Eric just on the guidance I guess two questions. For the current year. You've got this bigger fourth quarter how are you contemplating or thinking about a continuing resolution and then even just in the pretty early to be talking about 23 given the range of unknowns and.
Supply chain. Are you thinking it takes some time for supply chain to normal out? And just, I guess you're calling a 10% of base case? But just just maybe more thoughts on why throwingwn out that number now, right on the first 1, Michael we.
Our fourth quarter is substantially all in 2022 or prior year money.
So we're okay. There's very little that's on the 23 in there. Very little okay.
Okay on the putting out a number relative to next year, as a danna kind of sort of went through. Big, big drivers we have.
Our sentinel, which is under contract, and we've got the work plan laid out through at least twenty-th.ree.
The big space awards that we've won.
Our target drone production schedules, primarily with the air force in the navy. They are pretty much laid down out for the next 18 months.
So where we believe we have pretty good visibility and we understand the pricing and cost elements in those and, as I would dwcertain of, those are new and so there have been inflationary factors built into them, So we feel we feel pretty comfortable.
The primary risk we have right now.
Is hiring the people operationally like that is absolutely the high, the primary risk.
It's not winning new business.
We're winning a lot of business and we're going to win a lot more in the next few months, but we know.
But hiring these people, particularly with security clearances, and not just engineers manufacturing people that have security, security clearances. On some of these programs weve won. That's where we've got to stay focused to achieve the top line.
Got it ok per thanks. I'll joum back in the kub ok.
Moderator okay yes, our next. Our next question comes from Mike Crawford, from B Riley's securities.
Go ahead Mike, your line is open.
Thank you'm Eric, with the skyboard looking near a lot. Become a program, a record in the next budget. What does that specifically mean for valchy and?
What the ansllor to that is: what about?
These other myriad platforms that you've been developing over the years ranging from sanaocsa on down thanks.
Right now Mike, the primary focus of the customer set.
Is on three platforms and I believe it's because they're mature and they've all been flying for a number of years. It's valery Mao and airwolf.
That is where we are having.
The most significant activity with customers and in particular the past couple of months. I believe, as I said in the prepared remarks, it's in part- maybe a big part- being driven by what's going on in the Russian Ukraine war.
I saw this just this morning the Russians alone now is lost over 800 drones and including lots and lots of jet drones and and as as our established it as the do D as I went through is retiring the global haw survivability reason retiring J stars you've seen the discussion around the reaper which is excellent. masymtric warfare as we just saw recently but survivability is is not so much my opinion is the customer focus on valchery right. Now Mayo and airwo is because they're flying they've proven. They've they've exercised things. They've deployed things and.
That's where the focus is now. That's where the money is.
Okay and of course those are, you know aattriitable, expable and disposedable the platform. So it's good you have the whole next there and I guess maybe airwolks being runway independent- is that what gives it a leg up oversay greummlins?
Yes and my opinion the air Wolf is much more survivable, even though it's expendable, than the remblins was designed to be.
The the, the the.
airwolf is. It's an incredible high performance aircraft. It has it has very interesting characteristics on it as far as identifying it's even there versus the gremlins was not designed for that mission.
And that's why I believe survivability- to get to the mission area to exercise its mission.
It has a leged up on the grms.
And then what about this downselect on the onboard fanction station or year demo gorgon?
Part B. ject.
Yes So that's, we're in Phase 1, as is the other party, and the the down select or the move to Phase two is is scheduled for q4- I think it's October or in November - And so we're heads down and we we're focused on that as, as I did mention Mike, in the prepared remarks they might be.
The nearer term opportunity.
Four.
Meaningful revenue and profit margin increases for our company right now.
Is in val remakeico and airwolf.
And we've allved in patient. We've waited a long time, but we're doing everything we can.
To pull some of these in now that the geopolitical position has changed. That's where our focus is primarily.
Just the last question on unmaners. So, with the, the growth and the targets and then these opportunities, is your Oklahoma facility like highly unutilized now or that's one place you need to stop up, or exactly how you'you going to go about this operationally?
Yes So that is absolutely an area where we are staffing up and we are staffing up, we need to staff up. We're looking at executing the next option to expand the facility. Once again, we're going to probably make that decision by the end of this year, similar to we're going to make the decision- and don't think it's going to be any later than the end of this year, that we're going to begin the next lot- I'll call it lot number 2- of the valaries that all ties to together but- and that's what we're going to get- leverage on the margins going forward, of course, as we continue to fill up that facility and Mike, it's primarily valaries and air wols right now and one other program that we just haven't talked about.
Okay thanks and the final question swquestioning gears just reay in the open space. So.
There you you, you have the, the stockware virtual, you know, commercial platform, but there are others that have their own p- proprietary platforms that may be interoperable. Do you see those as alternatives for the customers you're going out after, or those just customers that are kind of ck, that you're locked out from maybe assisting?
youknowif you could see me I'm smiling because that's that's the exact dynamic were going after the. What you just mentioned is the legacy traditional model, that's vendor lock, that the operators like the? U's air force and intel sat- they CAn't stand it because they're vendor locked into dedicated ground equipment- for those satellites were open. Space is open in it's open architecture and it's software and the, as I think I talked about on the last call these new operators, these new constellations.
That have software defined satellites.
That are mega capable. This is greenfield for us and that is our primary target opportunity market. We are not looking to this place- anybody on an existing 20 -year constellation. We're going after the new stuff, and there's a lot of them: national security, wise and commercially.
Alright, Thank you.
yep.
Okay next up we have Ken Herbert from RBC Capital markets. Ken, your line is live.
Yeah good afternoon, Eric andindiana.
I can sw Co.
Y er.ic, I just wanted to first start off with the wins on the open space of three large programs and the contracts you called out.
What is that? Considering the size of the opportunity there? What can you quantify what you expect to be sort of? The revenue impact in the back half of this year is a ramp or, I guess, more importantly, maybe in 2023 in particular, and how do they factor into the expected double-digit growth next year?
Yes this is Jan, So obviously we're not giving any guidance on 23 at this point, but the ramp in the second half we would expect.
A portion of that in the third quarter and then more significantly up in the fourth quarter. And, it remembers, a lot of these are license-based, So it'll be a much more favorable mix from a margin perspective.
yesand, can your question kind of dovetail to MR chaamali's question on why we're, given some our initial thoughts on the growth rate between 2, 22 and 23, we've, with these contract wins, that those are bolted in.
They give us a pretty obviously they give us pret pretty good visibility into our space and satellite business- our company's, largest in 23- which is a layer of comfort of what we're looking at next year.
Okay okay no, that's helpful and I guess considering the risks around, not only this year but next year, when you look at hiring.
What what operationally Eric, what are you doing different, ly? Maybe now to try and accelerate that to the extent to which you can? I know you're in, obviously there are parts of the country, but But what levers do you have to pull besides just salary perhaps, as you look at addressing that issue, because it it's an issue obviously across the industry and so it seems to you cannot be competitive for talent right now. So how, how can you accelerate that or differentiate yourself there?
Yes and so it's different in certain of our different business areaas. So let me tell you what I mean. In our unmanned area, we're finding it much easier to bring people into because they like the work and it's exciting and and they get to work on a new airplane every couple of every three years. They're not slike stuck on the B two bomber for 30 years.
Okay So there is that group and we're having better success in that area. We're also having better success in the hypersonic area, because that's exciting, that that's exciting work's, it's interesting stouff- there aren't very many people doing it- et cetera. In our C five SR business that's different.
It's also having better success in the hypersonic area, because that's exciting, that that's exciting work. It's interesting stouff- there't very many people doing it, etc. In our C five's R business that's different. That is. That is very challenging where you have these very skilled machinists.
That work on all types of exotic and unique materials to build weapon systems's and platforms and their stos and platforms, and there's an incredible demand for that in the industry. Right now is the entire industry is is ramping up and doing the pivot away from the war on terrorists to protecting against the peer threats.
That's very difficult and that is money and it's trying to take people from other companies, if we can through relationships. We have referral programs that we're trying, that weve rolled out. We're doing that. We've got mentorship programs that we've rolled out and- and what's the name of theprogram with the colleges? we've- it's high school and colleges- intern internships where we're training internship programs. But that but can. That is a challenging area, very challenging.
I appreciate that and just maybe remind us what percent of your overall contract mix.
Revenue recognized on a percent complete basis, or maybe what could be the risk of acgrrental delays on those contracts based on your ability to get people in the door?
Yes I don't have the percent complete as far as what the total percentages, but our fixed price contracts are 72% and I would say a substantial majority of those are on cost over cost. Percent complete.
There is a portion that's on units delivered and that's primarily from from an international contract perspective. So I would say the vast majority of that- 72% in- is percent complete.
Perfect Al right. Thanks viianna, che thing.
Okay next up we have Josh Sullivan from the benchmark company. Josh, your light is live.
Good evening.
Sure just you know the lack of milk capacity for creratto's products and I think you mentioned carbon fiber and aluminum tennon issues as well. What's the visibility on these issues? Are lead times improving? They still going out at this point? And then, are you having any issues with smaller suppliers faced many financial viability issues?
On the on the aluminum and castings.
It hasn't, as it has not improved at all.
Forest.
And you can imagine, both aerospace and defense, the demand that's going on there.
So that that is not good.
On the composite side and certain resins in that area, Josh.
It's become challenging, are reaching out not only to the supply base, to other companies that do composite trucks that we have great relationships with, and we're having some luck with some of those that have a significant amount of inventory available. We ve just hit hit it with somebody company you know very well last week where we got some.
So that's choppy T. I don't expect that one to get worse, but it's.
It's it's, it's choppy on Jo. What was the third part of the question?
Just I mean you have any issues with smaller suppliers facing any financing issues.
Knock on wood. We have not had any to date, but that is an area where our team routinely.
Is doing the due diligence and the checks.
The financial reviews of them routinely and the corporate team here. We go through that with the divisional teams monthly, So we're trying to stay on top of it. We have not run into any issues to date.
And then on the $5 million low cost jet engine development contract. What are some of the timeline issues? There are timeline and maybe milestones you're looking for.
Right So the town out. We've already received the initial funding of several millions of dollars, So we're off and running the. In my opinion, this effort here by the airpa is directly related to programs like oldenhoard and swarming munitions that need very small low, low life.
Which means low cost.
Turbo jet engines.
For missiles and powered munitions and and things like that. So we're off and running with that. I expect that to ramp up between now in the end of the year and then. That's going to be a significant contributor next year and I'm not going to be surprised Josh, if we don't see more of those coming our way. As a result, all of the new missille systems, weapon systems, powered munitions, drones that are on the drawing border, that are coming on, are coming online. Let me many me be specific on that and I'm just talking generally here. You've seen locky Martin. They've talked about speed racer. As you know, we're on that one they've rolled out justa couple weeks ago a whole new family of small aircraft that they're planning on ING out the next few years. They announced a couple weeks ago that is perfect ground for kratos, turvine technologies and our engine business, North grumman. You know they announced a couple wee go a month agothat they've got A. they've got there're working on a jet powered luing munition that can get there very quickly. That's another area that's right up the sweet spot of that contract and other efforts we have going. So I see a lot of inertia in this area. That ties the thesis. We've been talking about a whatk for a while and today quantities have a quality all their own at affordable mass, and that's where I think the the requirements are heading.
Thank you for goodbye.
That.
Oh.
K next up. We have got Austin moller from cantacoord genenuity. Austin, you are live.
Good afternoon Eric and indianna.
Good So my my first question here: you know it looks like the valery is, you know, in the process of ramping here right now. So I assume you guys must feel pretty good about this. You know you've got multiple service branches that are looking at or committing to purchase the aircraft now, and the closest competitors Boeing vast, is way behind in development, or all the valchy and general atomics of the scambit is even further behind them. And then the other proposed U CS that are sort of in development. A lot of them are flying wings, which is useless in air to air combat. So if we think about that next production law, can you sort of talk about directionally how many we should expect, quantity wise compared to the existing one?
Yes not yet but, but over the next several weeks and a couple of months. We have a number.
Of meetings.
Scheduled with these potential customers and certain existing customers.
To talk exactly about this Austin if things go as I currently see him.
I'm hopeful, but- and I put the timeline out there- by the end of the year, I'm hopeful, by the end of September , October .
We're going to have the data points and we're going to have received certain things.
That are going to give us the confidence to pull the trigger. Order the engines in the long leads.
And get going on the next lot, and to give you a data point on this Austin, to kind of frame it for you, and these are by memory So they may be off the aust very' close. On the engines, we get price breaks on watts.
And so like: if we order 6, we a price break. If we welve a price break, ifwe go to 18 24, we got an even bigger price bre break, which drives at lower. So it's gone to probably be somewhere- and don't use those numbers- that it's going to be partially driven by the price break we get on the engines, which also gives us a quicker slot to get them, and so those are the dynamics that we're thinking through with the customers and the prospective customers.
Okay that's helpful. And then, if we think about all the inflation that's going on, should we still expect the boundaries- and I know it's lock dependent, but do should we expect them sort of around a $5 million price point or closer to one million? I know it's still a step function below whatever the next competing drone is going to be priced at.
Yeah I'm I'm, I'm very I'm glad you ask that that question.
So as you know, the air force definition of attributable.
Is two million on down. That's a fully missionized aircraft.
The Marine corps. As you've probably seen, it has been talking a lot about attributables et cetera. There's their all inammissionized price point is substantially less than that. Okay I'm, I'm going to throw out ten million.
Fully missionized.
We are because of our target drone business and the quantities.
That we produce.
And as you know, our tactical drones. We use substantially the same composites Avionics, electronics like and FL, et cetera cetera, et cetera. We're still getting leverage there and a lot of that's made in America, So the price increases there haven't been terrible yet. We're seeing them but but they haven't been terrible yet, So I am very comfortable.
That we are going to be.
For the aircraft and the full mission systems and I CAn't get into much more than what I just said on that. We're going to be well within those price points and mission systems can be can be three point zero zero zero zero zero six trillion eight million.
So we are. We are beautifully positioned because of how low cost- I'll use the word the truck, our truck, our flying truck is and, as you alluded to and my opinion, any of the other players, even if they ever do get anything flying.
They CAn't practically get anywhere near us. On price, on cost, they CAn't do it. They're not designed to do it.
Okay that's very helpful. And then just one last, if I could. I think you mentioned in your remarks or earlier comment theary, but the air woolf has in a radar cross section that is considered to be interesting to the customer.
I said that they're hard to identify.
Is what I said.
That's the term ine use and and I'll stick with it- they. 're. They're hard to see, very reeuverable, very hard to hit.
That's what I'll use.
ok thanks for all the color. I appreciate it, okness.
ok next up is Noah popanoc from Goldman Sachs. Noah, your line is open.
Phone restaurant.
World I.
Eric, I guess you know. The key question is you: why is 2023 the year that will prove to have had the visibility, the accurate visibility, on growing double digits organically?
Relative to each to the past few years, wherei think the cameayment inside of the original guidance range. That was an official guidance during each of those years, but they were all describedone or two years in advance as step function years or game-changer years or double-digit organic revenue growth years.
How can we feel comfortable that this is different?
I'm glad- no, I'm glad you asked that, because I can clarify and add some meat to what I said.
Are our 10% base case growth that we're looking year-over-year 23 cent to twenty-two.
Does not include any significant.
Production of tactical drus.
I spent and so the clarify doesn't include it. And if things occur.
That's where I said we could substantially beat it.
But our base case does not include. Does not include it.
The base case. The base case is driven by our space business.
Target drones.
gbsd, which has come online with, which has come online now, and we got that Loy on that microwave program, that quar billion doll microwave proam. We're going to be under contract bythe end of the year and it includes that. Those are some of the big. Those are some of the biggies.
ok that's helpful.
Within the guidance, within the guidance for this year.
If I take the full year and then I take the third quarter top line.
It implies a sequential revenue growth rate for Q over three Q.
That's significantly higher than you had any time in the recent past.
Can you speak to what drives that?
Yes no is. This is Dana. So those five programs that we've highlighted through the three space satellite contracts, gbsd and the new customer that we're expecting to book on balery, those five contracts comprise, about it, over a $2 million.
Sequential revenue increase from Q3 to Q4. So that's the Lion's share of the growth that we're projecting for the fourth quarter over the third quarter.
ok.
What's helpful and Eric onbckery.
You know why is. Why is a new customer kind of seemingly sliding in front of?
Some of the older customers and you've highlighted in the past the budget dollars for the category of aircraft that have been.
And a few hundred million dollar R for a few years.
Where is that money was that not really ever just not ever obligated on to contract and.
So how I square that the the where those numbers were for a little while with their.
The lack of borders and the revenue that you've had on the burden.
I will tell you how- how I square it.
When the Secretary of the air for the newu Secretary of the air force came in, MR kendall.
On he announced it late last year.
That he was rolling out two new classified drone programs.
And the Secretary used the term that all of the drra other drone programs are virtually all of the other drone programs to date. Would we feeders?
Into these two new programs.
In my opinion.
A significant amount of the funding on the other programs were feeders into those two new programs.
I believe they supped the air out of the room I'm not saying that anyway negatively. But as we saw at farnborough three weeks ago.
The Secretary has now canceled one of those two new drone programs, which was the loyal wingman for the B 21 bomber.
And I'm paraphrasing now, saying that it would take too long, it would be too far out and they would be too expensive.
So that might change again. Now I don't know So a lot clearly though you're pointing out here B is a lot has happened, is happening in the last 6, eight months and really in the last four weeks.
What why I mean, if they, you know.
Given their commentary about the desire to have this product, your ability to have it ready to go.
Is it just just not needed imminently? So they'd rather figure out exactly what they want to buy before they start buying larger quantities.
So So my opinion, what that last part of your statement is, what has been going on for the last year or 2, that they truly wanted to assess and figure out exactly what they wanted, which it makes to Tal sense I totally get.
Things that have changed are they now know exactly what they want to paycast? I don't know. Just I will refer the group here to public.
Statements. I mean was that there was an incredible interview with a navy Admiral last week where he specifically talked about the balpery.
And what that is going to be used for.
Me he talked about it.
The four Star general of Pacific air force recently did an interview and he said the own paraphrasing: the only way we can deter China is that by out hundreds or thousands of low cost, affordable jet drones. This is just recently.
So I don't know what they've decided, but I know what their narrative is and I know what has been specifically going on with our company and we're doing everything we can to respond to them.
ok I appreciate all that thanks thanks, probably have Russians ok.
Okay next question comes from sheila kagguu, from Jeffrey's LC. sheila, your line is open.
Thanks so much. Good afternoon guys. I'm just no as line of questioning if we could think about it. Eric, you mentioned the customer potentially coming in in Q4. How do we think about the allchery options into 2022? Is it so contributing one million? Does it go to 115, 23? What are the range of options for balchery?
Yes So I'm going to be as I talked about in the last call, before that, I'm going to be very, very conservative. I'm going to assume we continue to execute on ourdtn and ssmt money and ssmt funds. I'm going to I' going assume that wecontinue to do demonstration flights of different capability, carrying different payloads and different mission packages, and I'm going going to assume that we continue to sell or lease a handful or two a year.
That's one scenario.
You know the upside scenario and in the data points that support this could happen on the cancellations of all these other programs. You, the mosquitoes been cancelled, and take a look at one of our, some of our competitors I've said recently. So the upside scenario is: what's what's? What's gone on in the Ukraine. I' talked about the losses of the drones. What we're seeing going on over in the Taiwan Strait as we speak, that that a decision is made to feel affordable, mass with the capability that we have today, that we know is flying And so we we next year of the year, after we get some significant production runs.
That's. That's how I see it, but I'm focused on the conservative one.
Okay that's something, and then on on your 10% baseline for next year potential.ly, you know what are the top three growth drivers of that? 1, I would guess, is G BSA. Maybe can you talk about what your top three are: the G G B's, G bsd- the continued ramp of the space programs.
And there are a couple three of them Yeah. There's three of those and.
Some of the production in our target dring business as well.
Okay as then. Last question for me: I think you mentioned supporting rollsroce and there be 52 reentioning of. What's your role on the contract and how do we think of perming of revenue there?
Ye.
I don't believe that they've worldsroy has.
Disclosed what we're doing.
But let me talk in general about what we do in that area.
We are one of the industry leaders, if not the industry leader, in building the ground rigs.
Pro jet engines.
For test and evaluation purposes. All types testing, all types of evaluation.
That is one of our expertise areas. We are an expertise area in the exotic materials that are used.
In all types of instance.
That is a another.
Area where we are one of the industry leaders.
And so those would be the types of areas that accompany like a roles would come to us on.
And then on on the second part of your question. As you know, we just received that initial contract. It is growing.
It's expanding.
I CAn't get in into numbers, but it's a big program process. It pends. it'it's a big program and it's expected to begin ramping in Q4.
And then it will ramp in Q1, I think, and then it's going to flatten out a little bit because some of the big work we're doing, including materials, is Q4, Q1.
Great great. Thank you so much.
Y.
Okay next question comes from Peter armin, from beraird. Peter, your line is open.
Thanks so much. Good afternoan Eric Indiana.
But I can be her.
On the space business. The Anna mentioned a lot of it licensing, and so that's obviously less of the top line story, better on the margin. What do we think about is the margin opportunity when we're looking at space compared to what you report today?
Y.
So our. It will be different probably for government versus commercial.
Because there are certain limitations on the government side that there aren't on commercial.
But our mid and long-term view is mid-teens.
Profit margins for our space business, and the reason I'm saying that is because we've gone, if we're going, to a more of a software model.
So there's significant randd.
And continued development on next versions. I talked about that in my my prepared remarks.
In addition to that, let me just throw this piece in there. As you know, we we build, manufacture and deliver very sophisticated antennas.
Okay those antennas can have a lower margin than the software side.
And the antennnas business is very lumpy, depending on the stage of the ground deployment for the base station worthre hoping.
And so those can be mid-single digits.
Not even high single. It's missing's because it's a hardware type thing and it's really not all that uniqueand So one quarter in the space business could be very, very high, but another quarter could be lower because we delivered significant antennas in that one
So take up bloned midteens.
Okay that's helpful. And then, just regarding your space business, just what's your largest business? How long are you expect it to be your largest business de? Ultimately, what I'm asking is: when do you think on man can con a overtake ket?
In my, in my.
In my conservative.
View unman will will not overtake space.
For the next several years.
Because our space business.
Peter.
Its rippon.
And we may have the Tiger by the tail here.
We are first to market.
With the total software-based virtualized ground system.
Were're two or three years ahead of everybody else.
wethe first three big programs we went for. We won.
As I said in my remarks, we're lined up to win some more.
And I think we're going to, and I've gone through on previous calls on why this is such a big differentiator.
So in the base case the space business will continue to be the lead horse.
In the upside case.
The drone business in a couple, three years could pass it.
That's helplephone, just related to your drones. Just any updates on saninos? Just we don't hear as much about that recently solt. Maybe if you could just give a chok off there.
Yes So let me Peter, I have to answer it this one.
The.
Most if not all, of the previous drone programs have become feeder programs into other programs that are all classified.
ok I get it appreciated area Yeah.
Okay and next up is peak skabisky from olymbic global.
Pete, your line is open.
Hey good afternoon guys.
So guys, pretty solid revenue in the quarter. I want to make sure I understood P your comments about the reduction in the operating income guidance. Obviously you had the 5, five million charge in the quarter. Is the whole rest of the balance all due to infla, tion or were there any other negative AC adjustments at all that impacted that guidance?
All go to inflation.
I'm looking to primarily AC Q and primarily in Q3.
Because.
We're substantially firm fixed price contracts.
And we CAn't pass it on in the existing contracts of the existing price options.
So we just tried, we we hate it.
And in terms of the recovery or the recovering that inflation.
Through the contracts obviously have positive mix in the fourth quarter but is it reasonable reasonable to assume that first half of 23. You'd still be kind of in process of repricing. Your contracts are hopefully by the back. Half of 23 is when you kind of make up all the inflation that we're seeing this year yes.
Yes sir.
Okay it's, it's a process as the existing contracts or options.
Which are typically one or two years priced.
Transition often and the new negotiated ones or the new wins come in.
Right ok.
Okay and then on the charge, if five an affine on charge on the training program, does that impact, kind of the go-forward revenue from that customer where there I think it's something, maybe international targets and any color you can provide there?
yesso. We have not had any other work with that customer since.
Since the original contract of 2011, So it should not impact any future revenue stream.
Okay So you haven't generate revenue there for a while. On that one.
Could not correupct.
I say okay okay, ok. last one for me Eric, on open space I. I feel you're winning new contracts, but I feel like I've been hearing about development for a long time. So I just want to make sure I understood this is: is kind of the core development of open space completed, or is there? You know, do you kind of have to do some bespoke R and D every time you get a new customerers? That how it works. You have me kind I understand the business model there. Yeah So.
Think of it like an operating system.
Okay So So it's like on your Apple iPhone, the IOs system.
So the operating system for space ground infrastructure is substantially complete.
If's not complete for the existing customers.
R and D. now think over the apps on the operating system and so the apps in the space area. Think of like motos. They're all hardware right now.
All the different types of communication modems that are not just related to satellites, that are on drones or aircraft or ships.
We're turning them into software.
And you can just think about what: instead of having a rack of all types of different modems or communication systems on are dronone. Now you have just code.
ok.
So the randd is for the and my example here is for the app.
And think of it, on the operating system. Each customer is probably a little different.
So there is some randd on making this number up 10% or 15% to modify that operating system for that specific customer.
But it's substantially done, as you can see what the program wins.
Yes okay, that's really helpful. Thanks guys, yes.
Okay at this time. I'd like to turn it back to Eric de Marco for closing comments.
greatright. Thank you all for joining us this afternoon and truly for the interest and the questions we'll.
We'll circle up with you at the end of Q3.
okthank you for your participation in today's conference. This concludes the programand you made this tonect.
The.