CACI International Inc (CACI) 2009 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the CACI International fourth-quarter FY 2009 conference call. (Operator Instructions). A special reminder to our media guests who are listening in, please remember that during the question-and-answer portion of this call we are only taking questions from the analysts.

At this time I would like to turn the conference over to Dave Dragics, Senior Vice President of Investor Relations for CACI International.

Thanks, Michele, and good morning ladies and gentlemen. I am Dave Dragics, Senior Vice President of Investor Relations of CACI International. We are very pleased that you're able to participate with us today.

Now as is our practice on these calls, we are providing presentation slides. And during our presentation we will also make every effort to keep all of you on the same page as we are, so let's move to slide number two.

Before we begin our discussion this morning, I would like to make our customary but important statement regarding our written and oral disclosures and commentary. Now there will be statements in this call that do not address historical fact, and as such, constitute forward-looking statements under current law. These statements reflect our views as of today and are subject to important factors that could cause our actual results to differ materially from anticipated results. The factors that could cause our actual results to differ materially from those we anticipate are listed at the bottom of last evening's earnings release and are described in the Company's Securities and Exchange Commission filings.

Our Safe Harbor statement is included on this exhibit and should be incorporated as part of any transcript of this call. I would also like to point out that our presentation today will include discussion of non-GAAP financial measures. These non-GAAP measures should not be considered in isolation or as a substitute for performance measures prepared in accordance with GAAP.

Now let's go to the next slide please. And to open our discussion this morning here is Paul Cofoni, President and Chief Executive Officer of CACI International.

Thank you, Dave, and good morning ladies and gentlemen. I would like to personally welcome everyone to our call this morning. We appreciate your interest in our Company.

With me to discuss our results and answer your questions are Tom Mutryn, Chief Financial Officer; Bill Fairl, President of US Operations; and Randy Fuerst, Chief Operating Officer of US Operations. Greg Bradford, Chief Executive of CACI Ltd. UK, is unable to join us today.

Let's go to slide 4. I am extremely proud to report that CACI has completed our fiscal year 2009 with record results for both the fourth quarter and the full fiscal year. It takes an incredibly innovative and aggressive leadership team with a strong growth strategy to deliver results like these.

We have achieved our stated goals of double-digit earnings per share growth and mid to high single-digit organic growth for both the quarter and the full year, while continuing to generate outstanding operating and free cash flows.

In our fourth quarter we achieved an impressive 24.5% increase in earnings-per-share over the fourth quarter of fiscal 2008. That is the fifth quarter our of the last 16 which we have recorded double-digit EPS growth.

For the full fiscal year EPS increased 15.3% to $3.14, at the high end of the raised guidance we provided you in June. Our strong EPS performance reflects the value our clients place on our efforts to help them overcome their greatest challenges. I am also extremely pleased with our fourth-quarter organic growth of 10.5%, which exceeded our goal of mid to high single-digits. For the full-year organic growth was also very strong at 9.9%.

The improvement in our organic growth is a direct result of our positioning in the right markets and our superb performance in both winning business and delivering innovative solutions to our customers.

The momentum reflected in these exceptional results over the past several quarters gives us great confidence in our strategy and our outlook. We have thrived in a highly competitive federal contracting community for nearly 5 decades, and continue to set records for financial performance.

The day-to-day competition in the federal IT market drives innovation, productivity and quality. CACI brings that innovation and value to our clients' highly complex and evolving needs to help keep our nation safe.

Go to slide 5 please. Even with the many domestic issues facing our country, we cannot lose sight of ever-increasing threats to our national security. CACI remains ever vigilant in helping our clients counter these threats. What threats am I talking about? First, American war fighters continue to put it all on the line every day to sustain stability in Iraq and create stability in Afghanistan. The outcome is not certain and depends largely on America's will to prevail.

Second, both North Korea and Iran, countries with explicit belligerence to world opinion, and openly anti-American, are determined to develop nuclear weapons. Pakistan, which already has nuclear weapons, faces numerous threats to its stability.

Third, recent disruption of domestic jihadist cells remind us that terrorist groups worldwide, even on our own soil, remain determined to use violence to draw international attention to their purpose, which is ultimately to dominate and control world thought, ideas and resources.

Just one nuclear biological or chemical weapon in the hands of these determined, persistent and well-resourced fanatics could reset our society back to 9/11/2001, with all the attendant loss of life, disruption to our way of life, and economic impact.

National security remains at the top of the list of our nation's greatest challenges. Here at CACI we will continue to focus our resources to help our government clients preserve the freedom and liberty of American citizens. There is no margin for error in our national security posture.

Our leadership team understands these threats and our national priorities, and drives our strategy to support national security missions. And our dedicated workforce has the expertise and security clearances required to support these missions effectively with the greatest value to our clients.

Slide 6 please. Our fundamentals are extremely strong and our solutions are proven, innovative and distinctive. And we are aligned with government priorities and strategically positioned in the well-funded areas of defense, intelligence, homeland security, and IT modernization. We maintain strong and lasting customer relationships through exceptional service and value. And we continue to penetrate new markets and win new business.

Our industry awards in fiscal 2009 recognize our outstanding reputation and corporate culture. Fortune Magazine named CACI the most admired company in Virginia, and placed us among the top five most admired IT companies in the world. G.I. Jobs Magazine named us to the list of their top 50 military friendly employers. And CivilianJobs.com awarded us one of its 2009 awards for being among the most valuable employers for the military.

Looking ahead, our exceptional fourth-quarter and full-year results launch us at full speed into fiscal 2010 with confidence and enthusiasm as we anticipate another terrific year. We expect to see continued strong performance in our US operations. We lead in our current market and are positioning to meet new challenges in cyber security, smart power, IT modernization, healthcare and energy.

Our UK operation continued to successfully offset the impact of the recession on its business and generated a net after-tax profit of over 6% for both the quarter and the year. We recently acquired two UK companies with combined revenue of approximately $25 million, small, but important additions. Both companies work exclusively in the public sector. One builds online systems for large central government departments. The other provides proprietary software to the National Health Service. Approximately half of our UK business is now in the public sector.

As a result of these acquisitions, plus the sales initiatives we implemented this past year, we anticipate significant growth from our UK operation in fiscal 2010.

Our aggressive leadership team is focused on expanding current capabilities and diversifying into new areas as an essential and achievable component of our strategic plan. We are expanding our business in the critical area of cyber security. We established a Cyber Solutions Division to integrate our diverse cyber capabilities, including cyber counterintelligence solutions that are in high demand.

We now support cyber-related programs for civilian, defense and intelligence customers. And as you know, we are participating with the US Naval Institute to host a series of symposia on countering asymmetric threat. And the next one will be on the cyber threat.

In the area of smart power we will increase our focus on integrated intelligence and security solutions, which is one of our functional core competencies. We have also just won a re-compete contract to continue supporting smart power initiatives in the Asia Pacific region.

We continue to see increased demand for solutions that meet the government's urgent and ongoing needs for IT modernization. Our services address a full spectrum of requirements in the financial, procurement, human resources and supply-chain domains. We maximize investments in existing systems, while leveraging the potential of new technologies, to provide high-value and cost-effective solutions.

CACI is also an industry leader in the defense healthcare logistics community, and we plan to increase our presence in this area. In the federal civilian arena we are positioning our extensive IT capabilities to support growing requirements for better healthcare information systems.

We see energy as a growth opportunity. Energy independence is a government priority that is closely tied to preserving national security. Our strategy here will include partnering with other firms, strategic hires and acquisitions.

Speaking of acquisitions, we expect our acquisition program to be an important part of our growth strategy. As you know, strategic consolidation is one of our core competencies, and as the capital markets begin to stabilize we believe there will be increasingly attractive valuations for companies that we can leverage to support diversification, as well as to enhance current client solutions.

Finally, we will strategically focus our new business pursuit in areas that enable us to flex our capabilities and go after additional, large-scale, complex problems that will drive earnings growth.

Now Tom will provide his financial overview, followed by Bill Fairl, who will provide more information on our operations.

Thank you, Paul, and good morning everyone. Please turn to slide number 8. We are delighted with our fourth-quarter and full-year results. Revenue grew year-over-year by 11.3% for the quarter and 12.8% for the full year, most of which was organic, easily surpassing our goal of mid-to high single-digit organic growth.

For the quarter our direct billable labor grew 6.2%, and our other direct costs were up 20%. For the full year direct labor grew by 12% and other direct costs increased even more by 17%.

Next slide, number 9. Operating income for the fourth quarter was up 13.4% year-over-year and was 13.1% higher for the fiscal year. The growth in our direct labor in ODC, our continued control in direct costs, a net gain associated with commercial legal matters of $1.5 million, and lower amortization expense all contributed to the solid operating income.

Net interest expense fell by 20%, as we realized the benefit of lower interest expense on our floating-rate debt.

Please turn to slide number 10. Our net income for the quarter increased 23% from the fourth quarter of last year, and 14.6% for the fiscal year. The effective tax rate was 38.8% for the quarter, lower than where it had been for the first nine months of the year, reflecting gains we realized in equity investments in our executive deferred compensation program.

Next slide please. Our cash position at the end of the quarter was $208 million, with full-year cash flow from operations at $151 million. We ended the year with industry-leading days sales outstanding at 59 days.

As you know, we recorded several large non-cash charges in our income statement, depreciation, amortization and stock compensation expense. As a result, we have begun including cash EPS, a non-GAAP measure, in our earnings release. For the full year cash earnings per share were $4.46, $1.32 greater than our GAAP earnings-per-share of $3.14.

Our balance sheet remains strong. Our quarter end net debt was at $429 million. Our net debt to trailing EBITDA leverage ratio was at a comfortable 1.9 times. And we have no near-term financial requirements.

In early July we prepaid $50 million of our Term B loan, which has a maturity date of May 2011. While the interest rate on this debt is low, our cash yield is even lower, so this prepayment reduces our net interest expense without materially impacting our financial flexibility.

Next slide, 12, please. We are reiterating our fiscal year '10 guidance ranges we provided on June 25. We expect revenues to be between $2.85 billion and $2.95 billion, and our earnings-per-share to be in a $3.20 and $3.40 range. This guidance includes the adoption of the new accounting standard for convertible debt, which we spoke about in our initial FY 10 guidance press release and conference call.

With that, let me turn the call over to Bill Fairl.

Thanks, Tom, and welcome to everyone on the call. Slide 13 please. This morning I will address highlights from operations during both our fourth-quarter as well as our full fiscal year '09. I will also provide a few comments on our fiscal year '10 focus points and outlook going forward.

Starting with funding, our contract funding orders, funded backlog and total backlog were all well above the fiscal year '08 levels. For the fourth quarter funding orders came in strong at $772 million. That is an increase of 21% over the fourth quarter of fiscal year '08. And that is particularly impressive considering the delayed fiscal year '09 supplemental.

Looking at the full-year, fiscal year '09 was our best year ever for contract funding orders, $3 billion. That is a 20% increase over fiscal year '08.

Turning now to contract awards, the news is just as good. We received more than $1.3 billion in awards during our fourth quarter, and we won all our major re-competes. For the full year our contract awards totaled $3.9 billion -- $3.9 billion -- that is an increase of more than $1 billion, or 37%, over our fiscal year '08 total.

Our largest win during Q4 was the re-compete of our ETOSS contract, which is now called Technical Engineering and Support Services, or TESS. This new, multiple award IDIQ contract has a ceiling value of $900 million, twice that of our ETOSS contract. We estimate that it will be worth approximately $500 million to CACI over the life of the contract.

Adding to our considerable business base in C4ISR, CACI won a $125 million S3 task order to provide the Army with software engineering support services for a variety of fields artillery and related systems, including command and control, target acquisition and fire control. Over the course of fiscal year '09 CACI won approximately $700 million in S3 task orders, and that is more than $2 billion in awards since we won S3 in March of 2006. S3 remains one of our most outstanding ongoing success stories.

Please turn to slide 14. Our intelligence business continued its rapid growth during the quarter, coming in 18.5% higher than in the fourth quarter of fiscal year '08. For the full fiscal year our intel work grew by 24%, and now represents 38% of our business. With the strength of our distinctive offerings and a market that continues to be well-funded, we believe intel will be a mainstay of our business for years to come.

As Paul mentioned, in addition to our market position in defense, intelligence, homeland security and IT modernization, we continued to look for growth opportunities in cyber, smart power, health and energy.

During our fourth-quarter Ann Will, a proven business development executive with over 25 years experience in our industry, much of it in the federal healthcare arena, has joined us to help grow our existing $100 million per year DoD and federal civilian health business. Ann will develop marketing strategies, engage in business development efforts, and drive to both short-term and long-term growth objectives.

In the case of the energy market we recently brought in [Larry Hare], a veteran of our industry with years of experience pursuing, winning and managing critical projects directly supporting the Department of Energy.

Fueled by our account management initiative, CACI's proposal activity continues at a brisk pace. At the end of fiscal '09 we had more than $3.5 billion in submitted proposals under evaluation, with more than 80% of those for new business. We expect most of these to be awarded by the end of the calendar year.

During the first half of fiscal year '10 we expect to submit over $5 billion in additional proposals, both new and re-compete. And around 15% of those planned proposals have cyber as their primary or secondary competency.

We have been, and will continue to be, aggressive and customer centric in winning our re-compete business. Defending our re-competes is always a top priority at CACI. Our fiscal year '09 win rate was the best full-year rate for any of our past five years.

I am also happy to report that our voluntary attrition rate continues to improve. Our rate for fiscal year '09 was the lowest it has been during the past five years.

Slide 15 please. Looking ahead, we believe our solid fiscal year '09 performance has laid the foundation for a strong fiscal year '10. As I mentioned during our June fiscal year '10 guidance call, every single key performance metrics trend for US operations is pointing solidly in the right direction. I am talking about our contract awards, our funding orders, our win rates for both new business and re-competes, our opportunity pipeline, our hiring and retention. You put all those together with our strength and presence in the high-priority government-funded areas of defense, intelligence, homeland security and IT modernization, our focus on the administration's priorities in cyber security and smart power, and our strategic investments in energy and health, and you can see why we are excited about what is shaping up to be just a terrific fiscal year '10 for us.

And Paul, that concludes my remarks.

Thanks, Bill. And thank you, Tom, for your comments. Let's turn now to slide 16. I am pleased with our fiscal '09 record performance. It marks an outstanding continuation of more than 47 years of CACI's successful partnership with the government, providing innovative and distinctive solutions for our clients' greatest challenges and real value for our nation's citizens. Looking ahead, as we have said, we are confident in our strategy and fully expect to meet our financial objectives for fiscal 2010 and beyond.

Why are we confident? Well, in fiscal 2009 we achieved our financial goals of double-digit earnings growth and mid- to high-digit organic growth. Second, entering fiscal 2010 and beyond, our US operations solidly position us to keep winning business in the well-funded, high-priority areas of defense, intelligence, homeland security and IT modernization.

Third, in our highly profitable UK operations we anticipate a year of banner growth at the top and bottom line. Fourth, our cash position is strong and our balance sheet is in fine shape, positioning us to take advantage of investment opportunities going forward.

We remain agile in meeting evolving client needs, and aligning our capabilities with priorities in cyber security, smart power, IT modernization, healthcare and energy. We are committed to high client satisfaction and winning new business on complex, large-scale contracts with high labor content. Finally, we remain active in pursuing strategic acquisitions that provide attractive valuations, are accretive and enhance our solution set.

Let me close by saying how proud I am of our CACI team. It is truly an honor to work alongside such an experienced and aggressive leadership group and our innovative and dedicated workforce. Our fundamentals are strong and we are firing on all cylinders, giving us great confidence in achieving our growth plan and delivering on our financial commitments and building shareholder value in fiscal '10 and beyond.

Thank you. With that, Michele, we can open up the lines for questions.

(Operator Instructions). Brian Gesuale, Raymond James.

Good job on the quarter. I wanted to dig in a little bit to orders here. You guys actually had a really strong start to the calendar year on orders, and it seems like things are just going to accelerate for you. Can you talk about maybe some specific contract vehicles that are maybe coming to life in terms of task orders? And maybe if you're seeing any specific customer sets that are particularly active within that mix?

It is Bill Fairl. I will take the opening shot at that one. Great question. You know, we get a lot of questions about S3 and is that driving our growth. S3 has been a great vehicle. You heard me talk about $2 billion in task order awards. But our organic growth this past year, most of it did not come from S3. It came from other vehicles, to get your point.

ITES-2S is turning out to be a real bestseller for us here. And we are seeing that being used by not just some of the traditional clients, but we are getting some intel work coming through that as well. And that work for the most part tends to be real high CACI labor content. And even some of our software products that we have get wrapped in with those services as well. So just really a terrific success story for us there.

And to your point, yes, all the indicators for us are just full speed ahead.

My one follow-up. Paul, maybe if you could talk a little bit about the visibility that you have this year in the guidance that you have put out vis-a-vis maybe the last couple of years. With all the awards and the bids that you have outstanding, and the 4% to 8% kind of revenue guidance, it sure seems like you have an awful lot of visibility, and maybe a lot more visibility into the upper end of that range.

Let's see. Is your question related to where we think we are going to end up in fiscal '10 in the range?

Just maybe how much more comfortable you are this year versus what you might have been in the past.

I haven't been comfortable in 35 years.

I know that. I hear you.

But we -- here is what we do. This is not like theater; you don't get to know the outcome. It is not preprogrammed. So every period of execution starts off with us setting a challenging, aggressive, but achievable goal. And then we build a frame around that -- guidance frame around that that is upper end, lower end equidistant from what we believe we can do. So that midpoint represents an aggressive, challenging, but achievable goal. And then we apply 110% of our hearts and minds through the period to exceed that goal. That is just what we do each and every time.

So every time you ask me that question the answer is going to be that we set it right in the middle, and we race like the dickens to get past that point. I think that is what you would want us to do.

Bill Loomis, Stifel Nicolaus.

Good quarter. Good morning. Looking at the direct labor of the growth of 6%, just looking through your -- the wins you have now that are ramping up and the pipeline of what is actually out there awaiting adjudication, how do you see that tracking? Do you see most of the growth in your fiscal '10 guidance coming from contracts that have a higher level of ODCs, like we saw in the fourth quarter, or do you see that direct labor picking up from the 6% pace in the fourth quarter? Thanks.

This is Bill Fairl. Again, I will start with this one. As we have said, our top priority here is to grow our net after-tax income and earnings per share. And that really is driven -- our ODCs are profitable, but we earn as much as 10 times as much on our direct labor-based revenue. So our whole plan, to get back to the point Paul was just making, is based upon a certain hiring plan to achieve certain net new hires, if you will, during the fiscal year. And that is really what we drive towards. That is where we have our visibility. We watch that every day, actually, kind of the net gain every single day on this. We've really got our finger on that pulse there.

We have pretty good visibility into that and how that is going. The area where we have less ability to predict is in this ODC area, and that is why you see some variation going on that. Having said that, we make great money, great returns on ODCs. So to wit, we grew our direct labor in fiscal year '09 by 12%. That really drove our earnings. Our ODCs grew by more than 17%. Another great thing. We made a little more money on that. But most of it was driven by the direct labor.

So to get your question, we are focused first and foremost, as Paul said, on growing our direct labor. That is going to enable us to make, and hopefully beat, our plan here, because we are as aggressive as hell around here. Excuse me.

Michael Lewis, BB&T Capital Markets.

Very nice quarter. Paul or Bill, I was wondering if we can step aside and look at the competitive environment real fast? Where is CACI seeing some of the most significant pricing pressures in the market right now? We know that pricing has become a major requirement, but where are you seeing the most activity with regard to pricing?

I think you're going to hear -- I am going to let Bill answer it -- but I think at the top we would say that there is always pricing pressure. And I don't think we are seeing anything unusual or abnormal now, any much different from what we have seen historically. But, Bill, did you want to --?

Yes, I think I see that the same way. As we say, we strike for a best value award situation all the time. And we really try to stay away from deals that are awarded on a basis of low price. That is just not consistent with staying in business for 47 years, as Paul mentioned.

So it is that best value kind of customer set that we are looking at. So really I really haven't seen any, at least in our space. We are in a little bit of a unique space here, but the space we are in, the intel, the national security, transformation of IT modernization, rather, we are not really seeing any increase in pricing pressures.

I will just point to, you know, we won our GENESIS re-compete back in Q1, I think that was. Just a tremendous win for us. And really that was not a pricing decision, that was based on the quality of our offerings. The fact there was -- to be honest you, we had only one other competitor on it, and I think that was an indication of how well-positioned we were on that. So short answer, we don't see any increase in pricing pressures.

The other point -- thank you, Bill, that was a great answer. The other point I would add is that -- or let's say emphasize, is that we continually move to try to add higher value and to bring -- working on problems that are more complex, that are at the heart of our clients' mission. And by associating ourselves with helping our clients solve their most critical problems, their mission related, we think we bring greater value. And it takes us away from price type competitions, although we have our share, but we really are moving more and more to a higher value, up the value chain. And that is part of our growth strategy.

Okay, that's helpful. If I could just have one follow-up here? Bill, you had discussed the cyber contribution of the bids awaiting submission. It looks like around $750 million. Specifically where are you seeing the tasks? And what contracts are you seeing a lot of your cyber operations moving -- or cyber opportunities moving through? Can you give us a little more detail there?

Well, for competitive reasons I don't want to get into specific pursuits we have here, because I am talking about our pipeline, if you will. But I will tell you that it is pretty much across-the-board, both DOD and civilian side, and then the intel, which spans both of that.

The Navy. The Navy has got a real -- a couple of real nice bids that we are looking at out there. And in fact, we are well along on those. But you've got the Army, the intel agencies, and even on the civilian side as well.

Randy, do you want to add any color to that? You have been looking at this topic.

Yes, you and I have had a chance to talk about that a little bit. I mean quite frankly we see robustness across the entire pipeline. As you're well aware, there is a targeted budget of around $12 billion in the IT community over the next five years. And we see formation of requirements starting to emerge across those agencies that we serve.

I would just add to those comments that the Department of Homeland Security represents some very large-scale opportunities for us that are in the intermediate term right now, that are both -- have the characteristic of being high-value, large-scale, complex systems integration work, which will have high labor content. Those are -- those bids are in, or one of them is a large bid that is in already.

Ed Caso, Wells Fargo Securities.

I was curious about -- we're getting a mixed message from your peers and people we talk to in the industry on whether the pace of award announcements is slowing down or being more normal. Do you see a September 30 rush for the supplemental for the -- the war supplemental for all the year-end stuff, or are issues around protests and inadequate procurement offices getting in the way of that? What is your sense over the next six months of the pace of procurement activity?

This is Bill Fairl. I will start and I think Paul will probably have some comments too. We are coming on the heels of just having landed $1.3 billion in contract awards in our fourth quarter and $3.9 billion for the whole year. So up to this point we haven't seen any slowdown at all. I gave you some numbers about what is in our pipeline. We've already got submitted $3.5 billion. We are going to submit more than $5 billion over the next six months. So in terms in pipeline bid opportunities, we are just not seeing it in our space. So I can't comment on others, but we are not seeing it in our space.

The funding, which I think is probably the other part of your question here, what we have seen in the past is that in our first quarter, the government's fourth quarter, as you get into the September timeframe, particularly when you have a delayed supplemental like we had this year, you really do see a lot of funding happens right up there at the end there.

We don't go home on September 30, because we want to be there to take those funding orders, which typically come in strong. So we will see when the smoke clears on the quarter, but if the past is prologue, we will see that same sort of behavior again.

I think that sums it up pretty nicely again. We have positioned the Company in the high priority areas of national security. And that is -- we don't see that in those high priority areas that there is a slowdown at all. We expect the flow to continue.

Part of the reason we are successful is our cash program (technical difficulty) is that these are so well-funded. And of course we can't predict the future, so I don't know what that holds. But nothing we see in the flow of things, or none of our leading indicators, which are things like funding -- the funding order flow and the open personnel requisition, which are at the same level as they have been for the last two years, none of those leading indicators point toward any slowdown for us.

My other question is on the QDR, which obviously it has started and they are leaking stuff out, including flat real budgets over the next five years. What is your intelligence saying as far as possible changes in priorities or direction or emphasis? And also how does the whole insourcing theme tie into that? Thank you.

First of all, we have zero insight into the quadrennial review here. We, like others, listen and wait patiently for whatever comes out of that. We know through statements that have been made by Secretary Gates and others that there is a reprioritization going on within the defense budget toward today's urgent needs and away from tomorrow's longer-term needs. So that has the greatest effect, of course, in some of the weapon platforms systems, etc., which we have all read about. And we don't expect that that will change. We think that will stay -- that theme seem will be consistent through the QDR, but we have no unique insight.

In terms of insourcing, it is out there. It is going on. We have experienced some insourcing of jobs, but it is on -- I would say it is on the fringe. It is on the margin. It is not material in terms of scale or -- and certainly it is not in areas that are in these high priority areas that we service. It is more in the staff augmentation areas and that sort of thing.

Now insourcing, I think there has been a lot of rhetoric about it, but I think it will have some small effect in the environment, but it will meter back and the pendulum will come back to center, because the value that we provide as contractors in the partnership with our government clients is extremely important to national security. So --.

Mark Jordan, Noble Financial.

I would like to go to -- talk a little bit about your cash flow outlook for fiscal '10. Could you say what your expectations for cash flow from ops, CapEx and free cash flow outlook?

So this is Tom Mutryn, Mark. Consistent with what we guided at the end of June, we are expecting our cash from operations to be in the $130 million range. Capital spending will be a bit higher than it has been in previous years, perhaps around $15 million plus. And so free cash flow would be the difference between those two numbers.

Finally, you did talk in the presentation about potentially reinvigorating your acquisition program a little bit more moving forward. Has there it been a change in terms of your view of concern over the maturity of your bank line in May of 2011, or are you still running the Company to be -- to have a modest net debt period at the maturity date?

What we have seen in the last six months is a noticeable improvement in the capital markets. And after a series of discussions with some of our lenders, we are confident that if we needed to go to the market to raise additional capital, we would have the ability to do it. Rates slightly higher than what they historically have been on a normative basis, but still kind of very doable.

That being said, we are concerned about uncertainty in the market going forward, and we are focused on being in the position to repay our Term B loan May 2011 without relying on external financing. That is the path we are currently going down. That path is subject to change as markets evolve, but this gives us the right amount of flexibility in still a precarious market.

As a result we are continuing to look for companies -- Paul articulated some of the areas which we are focused on, looking for some smaller opportunities with [star] distinction, provide some significant value to us, and our perception is that there is going to be opportunities which will be attractively priced -- you know, simple supply/demand, others less demand for some of those properties. And we will be in a position to act upon those as appropriate.

This is Paul. Let me go back also to your last question on cash. I wanted to add something to Tom's excellent answer, which is that our cash collection performance, which we think is industry-leading, is a consequence of really four things. I think they're important to understand.

First, we have no troubled programs. Our programs are in excellent condition in terms of value, delivery, schedule, quality and time. So we have no big leading programs or troubled programs, which is important to cash collection. Second, we have very strong relationships with our clients, which also leads to timely payment.

Third, we have a real engine and our back room for cash collection. These guys have got it refined to the point it is the best I have ever seen. The interconnect with the program management staff out in the field, that is just working so tightly that it is seamless.

Finally, it is a reflection of the strength of the funding. The funding is coming in nicely, which means there is very little work we have to do in advance of funding on a risk basis. We see all those meters or dials on our dashboard and those are all the source of the excellent cash flow and those are also indicators for the future.

Cai von Rumohr, Cowen and Company.

Yes, let me echo, great performance. To follow-up on Bill's question, your guidance assumes 4% to 8% revenue growth, so the midpoint is 6%. If we look the last six years your gross margin has been coming down, so if you hit the midpoint of your guidance should we assume that direct labored and ODCs grow at approximately the same rate, because you grew 6% in DL in fourth quarter? Or just in terms of your plan -- and I understand that if you get more ODC that is fine, it is money at the bottom line, maybe a slightly lower margin. But if you hit the midpoint of your plan would that imply 6% DL growth?

This is Tom Mutryn again speaking. As we articulated in the past, we do a very detailed bottoms up planning process to come up with our fiscal year '10 plan. And as a result of that, I would agree with your assessment that the revenue growth in 2010 will come equally from ODCs and direct labor. That is -- in terms of bottom line kind of results in our planning process.

Then is S3 still growing as a percent of your revenues? Because it looks like it was comfortably over 15% of your awards, and I think, what was it, 13% of your sales? Is it still growing as a percent of your total revenues? And maybe update us on the upcoming re-compete, if you could.

It is Bill Fairl. Yes, it is growing for sure. And I want to maybe give you a little color here to help reconcile I remark I made earlier about most of our growth -- our organic growth is not coming from S3, so how do you reconcile those two things.

So the way you puzzle through that is that the S3 vehicle, we do have Companywide organic growth on it. But what you also have going on there is some vehicles -- either contract vehicles ended and that work moved over to S3. So all of that growth that you see on S3 isn't organic growth. A good chunk of it is, but not all of it is.

And then your other question was about the re-compete status. They are currently planning on -- and subject to change and additional deliberations -- but re-competing the S3 contract vehicle principally to address some small-business issues they have with getting additional small businesses on there. It would not affect our performance at all. And currently we would look for an award maybe this time next year, again subject to a lot of things.

Brian Kinstlinger, Sidoti & Company.

Thanks. I only had one question. It was -- if I take a look at the funding orders, since fiscal 2005 generally funding orders in June have been weaker than they have been in March. And the same can be said about revenue in the first quarter of your fiscal year compared to your fourth quarter of the previous year. And now this year funding orders increased sequentially. Is there anything we should be reading into the fact that funding orders actually increased sequentially as it relates to the first half of fiscal 2010?

It is Bill Fairl, I will take an initial shot at that one. I will go back to a point we have been making this morning here is, I think more than anything it is really an indication of the market space we are in here and how well-funded our customers are, and therefore how well-funded we are as a result.

We are winning business in the right areas, and the funding is there for us. It is an indication of that. Couple that with our aggressive management team that goes out and grabs these tasks that are in the right areas, and you've got yourself a real engineer there.

As far as our first quarter goes, I think I will stay with what I said before. What we have seen in the past, particularly in years when you have a later supplemental passage, is kind of real barnburner in funding in our first quarter, in the government's fourth quarter. Whether that happens again this year we will know in a month and a half or something. But we are planning to be very busy around here towards the end of September. Let me put it that way..

So just the funding orders though wouldn't suggest we will have as big of a seasonal drop, or is that dependent on how ODCs come in in the September quarter?

I am sorry. Would you repeat that question?

Yes. Typically you see revenues declining in September versus June. Has that been more so, and dependent on the ODCs that come in for the September quarter and not the funding orders you currently have or -- when might we see that?

So the variability of ODCs is of course one issue. But another issue that particularly comes into play during our first quarter is the fact that it is a high vacation utilization time. So you've got a little bit of variation in your direct labor base in our first quarter. That is a patent that we see virtually every year, and I would expect we would see that again this year.

Laura Lederman, William Blair.

Once again, nice quarter. Can you talk a little bit about other re-competes that are up for '10? And also acquisitions, it sounds like they would be small, none of the kind of transformative acquisitions you have talked about in the past. Is that correct? And also would it be software and products and services, the type of things you're looking for on the acquisition front? Thanks.

It is Bill Fairl. I will start on the re-compete one, and I think Paul will jump in on the acquisition part of your question there. You know, I don't want to get into a lot of detail on our specific re-competes coming up in fiscal year '10. What I will tell you is that it is about an average year for us. We took a look at this. In fiscal year '09, there we just passed, it was again an average year, but we had two really big ones that we had to go out and win. And that of course is our GENESIS contract and then the re-compete of our ETOSS contract, and we won both of them. And again, it was not a matter of pricing pressures, they were best value awards to us. That is based on terrific performance.

Looking into fiscal year '10, given as I said before the S3 award won't be made until this time next year, which is actually fiscal year '11, there really aren't any real whoppers in our business base that are scheduled for award for us in fiscal year '10. So in terms of revenue it is kind of an average mix, no big, big deals like GENESIS and ETOSS in fiscal year '09. More characterized by a larger number of relatively smaller re-competes, if you will. And Paul, I think the question (multiple speakers).

The second question -- Laura, good morning -- is related to our M&A program. We have stepped back a level on the M&A program due to the realities of the capital markets, and us taking a conservative position regarding the balance sheet in this volatile period we are in. We, of course, hope and are constantly monitoring the capital markets to see if they improve and stabilize at an improved level.

And in the meantime we have focused our M&A dollars on smaller, strategic capabilities. Companies that have small -- smaller, maybe modest revenue size, but have very important strategic capabilities. And they are in -- the ones we are currently evaluating are in the intelligence and security -- intersection of intelligence and security services, where we think there will continue to be very high demand. Cyber, of course, where we all understand that there is growing demand. And healthcare is another area, as well as energy.

So the characteristics are that they bring significant new capability, and that they have very nice margin and growth rate. So those are the ones that are in the -- let's say, in our pipeline -- M&A pipeline, they would look like that.

Jason Kupferberg, UBS.

I had a question on the fiscal '10 guidance. I know you're looking for revenue growth of 4% to 8%. And last quarter you guys were talking about 6% to 9%. There is no change obviously in the absolute numbers, so is this just maybe a little conservatism at the start of the fiscal year, or just a function of the upside in the fiscal fourth quarter of '09 dragging down the percentage growth in fiscal '10? How should we think about that?

We built our plan prior to the end of the fiscal '09 year, so of course, that plant was approved by the Board back in June, before we closed the fiscal year. And we did have a bit of a surge in our fourth quarter, so it makes the growth rate a little less, I think -- just slightly less than what it would have been otherwise if we hadn't had the surge. So it is sort of winner's curse here for having done so well in the fourth quarter.

And, as I said earlier, we set a very aggressive and challenging goal for our team. And then we applied 110% of our hearts and minds and run hard through the period to beat that goal. So there is no doubt we are aiming to beat that goal, but it is both a realistic, aggressive and achievable goal that we have set. So I would leave it at that.

Then on the book to bill, you guys have generally run in the 1.0 to 1.1 range on an annual basis over the last few years. Any reason to believe that fiscal '10 will be materially different in that regard?

This is Bill Fairl. You referring to funding orders?

Yes.

We build our plan around that sort of a model of over 1 in terms of funding orders to revenue. So I would be looking for that same sort of behavior again.

Joe Nadol, JPMorgan.

Actually it is Stephan for Joe today. Just a couple of quick questions. The first, I think for Tom, with regard to the margins it looks like maybe you're looking for something in the 6.8% range. And we have seen gross margins coming down consistently. I wonder if you could talk about where those might shake out and fiscal '10? And also talk about trend with regard to indirect costs and selling expenses.

Yes. So in terms of margins for fiscal '10, I believe we provided some guidance on our call in June, where we indicated margins would be around 6.5%, to 6.9% range. So relatively flat with fiscal year '09.

Implicit in that is another question that was raised today, the relative growth of direct labor and ODCs, and we indicated that we expect those two categories to grow approximately the same. So that would suggest that margin would be relatively flat on a year-over-year basis. So that is where we are in terms of margins.

In terms of indirect expense, we have been doing a very good job in the past many years of running a very lean, efficient organization. We continually look for opportunities to redo processes and drive additional efficiencies in the organization. But we don't see a lot of low hanging fruit trying to get rid of excess cost, because we simply do not have those excess costs. We are in fortunate position.

Our goal though is to ensure that our selling and indirect expense grows less than the rate of growth of our gross margin. So we continue to strive to be historically best. As we grow the top line and as we grow gross margin, we should be able to grow indirect expense less, which provide some -- our earnings pickup.

Hey, thanks very much. And then, Tom, also just to follow-up on the cash flow guidance, I know you had talked about day sales outstanding going back up into maybe the mid-60s, but it is another very solid performance this quarter. How would you handicap the chances of beating that cash flow guidance and continuing to have good performance on working capital?

We were really pleased with our performance at the end of June. And Paul articulated some of the -- the four reasons why they do so well in terms of DSO and cash flow.

There are pressures out there, and so we are sticking to our story here. We believe cash should be around $130 million from operations. But as we indicated, we are going to strive to exceed those particular numbers. And hopefully we will provide some upside to those particular numbers. But there are some forces at play, which regard you dealing with government collection agencies and TCAA audit-related issues which are impacting our industry.

Frank Atkins, SunTrust Robinson Humphrey.

In your prepared remarks you mentioned energy as a growth opportunity. Could you talk a little bit about where your exposure to energy stands currently, remind us, and then where you see those opportunities coming from?

Right now we have no business in energy. We have added a strategic hire, Dr. Larry Hare has joined us as of July 1. And Larry is busy at work as we speak, building with the -- in collaboration with the rest of our business development and line organization building a strategy for growing a practice in the energy field.

This is not in -- to be interpreted as the commercial portion of energy marketplace. But rather we see opportunities in the federal government area for assisting the federal government in the new programs that have been initiated, both through the stimulus and pending legislation related to energy that there will be a growth in market in the federal space for energy. And so we are -- we are starting from zero, and we are putting a business plan together. And we're going to try to stimulate something here and be able to build a practice in energy.

I would think you would see us in the high-end consulting and engineering services, providing support to the federal government as they try to implement the outcome that they are looking for, which is energy independence. We will play a part in our traditional competencies of information systems. I also think we will play a part in consulting management, consulting services, and in high-end engineering services. That is the focal point.

Great, that's helpful. Could you talk a little bit about any impact you have seen yet on the stimulus site -- has that affected anything? And then, finally, maybe just touch on the hiring environment or attrition rate.

I will start with the last part, I think, which was the hiring environment and the attrition rate. I mentioned during my remarks our attrition rate is actually -- it is the best it has been in the past five years. It is just -- it is great. I think we have been spending a lot of time around here focusing on that issue, on I management, training and communication with our employees. The idea of being, it takes quite a bit of time and effort to hire these folks. They're great people. We love them. Customers are happy. They love them. Let's hang onto them. So those efforts that we have been expanding and the investments we have made have really paid off, and it is a dramatic improvement in retention.

On the hiring front, I think I told you maybe about two years ago now, we just retooled our entire corporate recruiting team. And we put a new manager in there, and went out and got an A+ team. And, boy, the results -- the whole thing just took off after we did that.

So what I do is I establish a year -- or rather a weekly hiring goal at the beginning of the fiscal year, so that when I take the gross hires and I take out the voluntary and involuntary attrition, I get the net growth I need every week, which gives me the yearly number, which drives our earnings. Our team has been exceeding that. And as Tom mentioned in fiscal year '09 we had great labor growth and we are looking for strong results again in fiscal year '10, which will lead to the EPS growth. That is a primary driver of that. So that part of it, the hiring, retention is just terrific. I talked so long about that, there was a second part to that question.

What was the second -- what was actually the first part of your question? If you can repeat the first part of your question please. Maybe they are muted. He's off. Okay.

Would you like me to reopen his line, sir?

Please. Because I think --

Not a problem.

Yes, we lost the first part of the question and I want to make sure we get --

Yes, I want to get back to it.

Maybe we can cycle him back in and go to the next question.

His line is now open.

What was the first part of your question? I think we have lost track of it here.

Any impact of the stimulus you have seen yet?

You know, in our space we haven't seen too much of that so far. Some of our areas we do some acquisition support, helping the government as they actually contract out for these new tests, particularly on the civilian side. We have seen a little uptick there. We have had some nice awards and been able to grow our staff in that area.

I think in the Department of Forestry?

Yes.

Department of Forestry, and the National Parks area, where they have received stimulus money from projects and they are in need of support on acquisition services, is where we have seen some. But it is not large. It is a very small amount.

Tim Quillin, Stephens Inc.

I just had a couple of quick modeling questions. Tom, you talked about lower intangibles in 4Q. What are your expectations for D&A embedded in your guidance in fiscal '10? And also what are your expectations for net interest expense? Thank you.

Our expectations for depreciation and amortization, the categories combined in fiscal '10 is about $45 million. And in terms of our net interest expense, we are expecting our net interest expense for the full year to be -- let me get the number here -- around $27 million, $28 million.

[Shadosi Anwar], Neuberger Berman.

I wanted to ask again on the point of outsourcing if you could help us understand, or quantify for us, on either a revenue, profit or headcount basis what proportion of what you do is potentially impacted, just given what we know now? And then I had a follow-up after that.

I think you said outsourcing -- you mentioned --?

Yes, outsourcing -- sorry, government insourcing, my mistake.

Government insourcing, okay. Government insourcing, of course, there is an initiative underway, and there is some effect we see, but it is sort of on the margin. It is onesies and twosies here and there. It is not aggregated in any one place. This, of course, relates to of course what the demand and supply curves look like. And we focus our business in the areas of high demand, and therefore there tends not to be as much of an insourcing impact in our business. And we haven't seen a material effect, but it is onesies and Tuesdays. Bill, did you have anything to add?

This is Bill Fairl. Our executive management team, and by that I mean Paul and myself and Randy, we get out and talk to our clients all the time as part of just keeping our customers happy. But since this came out, I know I have been asking them all every time I meet with them, every one of them, what about this insourcing thing? Because, you know, we are not seeing it, as Paul said. But Mr. or Ms. Customer, what do you think about this?

What I am hearing uniformly is that our customers are pretty much where they need to be in terms of this ratio that Secretary Gates has looked [for]. So they're not expecting any big impacts as a result of this.

As you may have noted, the Director of National Intelligence recently came out and said as well that he thinks their organization is about where it needs to be -- to be more a little here or there small sorts of surgical things as opposed to any big sort of initiative. So we are just not -- really not seeing it right now.

Great, thanks. So given that you're not seeing it, and given the forward-looking comments of your customers, would it be fair to say that your current guidance doesn't anticipate or doesn't incorporate any impact?

There is always some impact in there. It would be in our normal estimates of voluntary and involuntary attrition. So there is some expectation, but I think what we are trying to indicate here is it is probably in the very small single-digit type of number.

Anything that has been happening there is more than being offset by the growth strategy that we (multiple speakers).

Great, thank you very much.

And you that in the organic growth, where in the last quarter and for the year 9.9% for the year and 10% for the -- 10.5% in the quarter. So it is not that we are not seeing some insourcing, it is that we are more than offsetting it with our growth strategy.

Andrew Rittenberry, Jennison Associates.

Thanks for taking my question here. I just had a follow-up on the operating cash flow question. Could you just give us a few more of the building blocks. It just seems, even with the DSO commentary potentially going back to 60 days, that you could be -- it is easy to see how you could be higher than $130 million, given what you did last year, and given the fact that you are paying down debt so your interest expense should be less. Are there any other building blocks to think about in terms of cash taxes, etc., that we should think about in getting to that $130 million number?

I think, you know, one of the other building blocks you may want to think about is the change in our working capital. Very simplistically, kind of net income, add depreciation, non-cash stock compensation expense. In our case it will be non-cash interest expense associated with the convertible, and then changes in working capital. As companies grow they need more working capital. We are expecting a certain amount of growth, so we'll use some working capital as well. And then some impacts just from higher potentially DSO. So when you build all those together you get a range of those particular numbers.

But there is no cash tax change, etc., versus --?

No, there's not.

Recent posture. And the CapEx growth for 2010, that involves your combination of office space in Virginia, is that why the numbers are --?

Yes, this is Paul. As part of our cost talk, indirect cost reduction program, we launched an initiative several years ago to optimize our facility space. And we have found a beautiful location in Chantilly, where we are building a campus setting that will accommodate several thousand of our people. And there is some capital outfitting of those buildings that was required. The economic effect of all this will be to lower our expenses. And therefore we are excited about it, both from a standpoint of creating a wonderful productive work environment for our employees, lowering our cost of occupancy as an expense, but in the meantime we have had a bulge in capital to outfit that building.

(Operator Instructions). Stefan Mykytiuk, Pike Place Capital.

Very nice results. I just -- I wanted to beat the cash flow horse to death here. So just -- Tom, looking at the D&A -- of the $45 million of D&A, I think roughly $30 million of that is amortization of intangibles? Does that sound right?

Give me a second here. That is correct. Yes.

So $30 million is that. And then interest expense, the $27 million to $28 million, includes about $10 million of -- from the -- I don't remember -- this new convertible accounting?

Yes, that is correct.

All right. So not to try to confuse your non-GAAP disclosure, but on just a very simplistic basis, the $30 million plus the $10 million, we could add that back for cash earnings, and the other $15 million of D&A is roughly equal to your CapEx?

Yes. Yes, I think so.

At this point there are no further questions. I would like to turn the call back over to our speakers.

Okay, Michele, I want to thank you for your help today and we certainly appreciate it. And we would like to thank everyone on the call today for your questions and your strong interest in our Company. That is important to all of us here. And that concludes our conference call. Thank you all very much. Have a great day.

Thank you for your participation everyone.