Kratos Defense and Security Solutions Inc (KTOS) 2009 Q4 法說會逐字稿

Good day, ladies and gentlemen and welcome to the Kratos Defense Security Solutions 2009 full-year and Q4 earnings call. All participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Ms. Laura Siegal, Vice President Corporate Controller.

Good afternoon, everyone. And thank you for joining us for the Kratos Defense and Security Solutions fourth quarter earnings conference call. With me today is Eric DeMarco, Kratos' President and Chief Executive Officer, and Deanna Lund, Kratos' Executive Vice President and Chief Financial officer.

Before we begin the substance of today's call, I'd like to make some brief introductory comments. Earlier this afternoon, we issued a press release which outlined the topics we planned to discuss today. If anyone has not yet seen a copy of the press release, it's available on Kratos corporate website at www.Kratosdefense.com. Additionally, I'd like to remind our listeners that this conference call is open to the media and we're providing a simultaneous webcast of this call for the public. A replay of our discussion will be available on the Company's web site later today.

During this call we will discuss factors that are likely to influence our business going forward. These forward-looking statements may include comments about our plans and expectations of future performance. These plans and expectations are subject to risks and uncertainties which could cause actual results to differ materially from those suggested by our forward-looking statements. We encourage all of our listeners to review our SEC filings, including our most recent 10Q and 10K, and any of our other SEC filings for a more complete description of these risks. A partial list of these important risk factors is included at the end of the press release we issued today. Our statements on this call are made as of March 10, 2010. And the Company undertakes no obligation to revise or update publicly any of the forward-looking statements contained herein. Whether as a result of new information, future events, changes in expectations or otherwise for any reason.

This conference call will include a discussion of non-GAAP financial measures, as that term is defined in regulation G. The most directly comparable GAAP financial measures and information reconciling these non-GAAP financial measures to the Company's financial results prepared in accordance with GAAP, are included in the earnings release, which is posted on the Company's website.

In today's call, Mr. DeMarco will discuss our financial and operational results for the fourth quarter of 2009. He will then turn the call back over to Ms. Lund to discuss the specifics related to our fourth quarter 2009 financial results. Eric will then make some concluding remarks about the business and we will then open the call to your questions.

With that said, it's my pleasure to turn the call over to Mr. DeMarco.

Thank you, Laura and good afternoon.

As Laura stated, I'll start with the financial summary of fourth quarter and 2009 results, recent events and then operations and programatics. Deanna will then be provide a complete financial detail of what we reported today, and I'll conclude with the 2010 outlook.

Today Kratos reported 2009 revenues of approximately $335 million, a 16.9% increase over 2008. Fourth quarter 2009 revenues also increased to $75.2 million. We were able to grow fourth quarter revenues year-over-year and report a solid quarter in spite of the continued delay of the large fully-funded weapons systems contract we have now received as reported today, and the continued delay in numerous other rewards we have been expecting. We have now begun to receive certain of these awards late in Q1, though some are still experiencing some delay. I will comment on the awards we have received thus far in Q1, a little later on in the remarks.

Fourth quarter 2009 EBITDA increased sequentially once again to 8% of revenues or $6 million, beating our expectations as a result of favorable program mix and continued reduction of low and no-cost non-value-added pass through work. Specifically related to this, Kratos Government Solutions segment EBITDA, where we perform our Department of Defense and national security work increased 8.7%. Kratos overall EBITDA margins as a percent of revenues also increased both sequentially and year-over-year for all four quarters of 2009. Kratos 2009 EBITDA margins increased 35% over 2008.

In 2009, Kratos generated $26.2 million of cash flow from operations, including a $3 million cash flow generation from [auction] in the fourth quarter. This reflects the quality of Kratos' earnings. The successful integration of the previously acquired businesses and solid management of Kratos' receivables and overall liquidity position. For the fourth quarter, we reported pro forma earnings per share of $0.05 from operations which excludes the impact of 700-K interest charge, for deferred financing costs related to our early pay down of debt.

We also announced today, the award which we just recently received, of a $48 million fully-funded foreign military sales contract to provide weapon systems support, solutions, and services for approximately 1,400 missile systems. This is in addition to the $78 million of total FMS tasking noted in our release today. This is the follow-on contract to an award where we previously delivered 800 similar systems to the same customer, which initial contract substantially concluded earlier last year. We expect to perform this work and deliver these systems over the next two to three years. For a number of reasons, this contract award is extremely important to Kratos. The contract substantiates Kratos unique technical expertise, our approaches and solution sets, in providing world-wide weapons systems solutions, and this is an area where we are currently tracking in our business development capture process, several additional sizeable opportunities. For example, there are numerous other friendly countries which deploy this specific weapon system and Kratos has unique past performance quals and expertise to address this market.

Weapons system sustainment and lifecycle extension is a critical focus area of Kratos, both domestically and through FMS. This is one of Kratos' largest and most important business areas. And this is an area we are looking for to be one of the key growth drivers of our business going forward. We also just announced that we completed the successful refinancing of our credit facilities. With the payment in full of all of the amounts due Silver Point, at par, with no prepayment or make hold penalties or payments, and which will immediately reduce Kratos borrowing rate on it's term loan by approximately 450 basis points annually going forward. With this successful refinancing, Silver Point is no longer part of Kratos' credit facilities and is no longer involved in our Company. We now have a bank lending team with Key Bank and Bank of America, which we believe are two business building and strategy execution partners. Deanna will discuss the specifics of the facility and the details of its significant favorable financial impact to our Company in her remarks.

Additionally, next month we will be relocating our corporate headquarters to a more efficient and less costly facility which will reduce the cash Kratos pays for this lease on average, approximately $2 million per year for the next eight years from what we're previously paying today.

Also very importantly, as we begin 2010, during the fourth quarter, Kratos' public security and safety business returned to profitability after a very difficult 2009 due to the recession. With our performance bonding issues now substantially resolved as a result of our 2009 equity raise and refinancing, and with the improvements we're seeing in the PSS markets, we expect Kratos' public security business to be profitable throughout 2010 and to contribute to the overall growth characteristics of the Company. The return of our public security business to profitability is one reason why we're confident that Kratos' 2010 overall profitability will continue to improve and exceed 2009's.

In KGS during the fourth quarter, other Kratos Foreign Military Sales weapons systems support total task order funding increased to $76 million. Including new tasking for certain FMS weapons systems configuration and sustainment. Once again, the $76 million is separate from the $48 million fully-funded contract vehicle received today. As I mentioned before, Kratos has a strong bid and capture pipeline in the FMS weapons systems sustainment area. This is an area in which we're allocating additional resources for future growth. Another growth area for Kratos is related to Aegis Ballistic Missile Defense, which is a key element of this administration's national security policy as they announced last year. Directly related to Aegis Ballistic Missile Defense, in November Kratos had the successful launch of four of our Aegis readiness assessment vehicles, or ARAVs, in support of a joint United States and Japanese ballistic missile defense exercise. Also in the fourth quarter, Kratos had the successful launch of the new Kratos ARAV-C target rocket in support of certain other ballistic missile defense related exercises. A significant amount of this work here is classified.

We are performing a large amount of our Aegis related work under Kratos's $100 million theoretical studies and engineering research contract. Thus far in the first quarter of 2010, Kratos has been awarded a number of new task orders in the ARAV, Aegis, and ballistic missile defense areas. And we are hoping to be able to more formally announce these awards shortly.

During the fourth quarter, Kratos' information assurance, network management and cyber security products and solutions business continue to be one of our most profitable business areas. Specifically in Q4, Kratos's proprietary NeuralStar software product was chosen to manage and protect certain United States intelligence agency networks. This is the most profitable business area in Kratos today. And this is also an area where we expect both 2010 revenues and profits to increase above 2009.

Other fourth quarter highlights also related to Kratos' weapons systems sustainment, and system reset and preset business include, Kratos performed work at Fort Knox Kentucky, related to system verification work for manned portable common thermal night sight equipment. At Fort Riley, Kansas, we provided M3P 50-caliber machine gun maintainer training on the OH58D Kiowa Warrior helicopter and we provided fielding and gunnery support for the 6th Air Calvary Regiment. We conducted live fire range testing and cold chamber testing of the systems sustained management, maintenance operations, procedures and prototype center. We supported modification work of the dual mount Stinger, integrated electronic system in Taiwan and we completed the demilitarization process for certain chaparral surface-to-air missile system fire units, and several Hawk missile system units.

Highlights in the Kratos weapons range and targets business include, the successful flight of more than two dozen MQM 107 target flights in support of friendly government Hawk, Patriot and other system tests out of White Sands Missile Range. The successful flight of numerous aerial targets with BQM34s and BQM74s in support of both US and Canadian military customers, including flight operations from PMTC and China Lake. We also performed target flight operations related to the F22 and F16 air-to-air missile firings and certain other special projects.

And finally during the fourth quarter, related to our BMD and C5 ISR business, we continued work under our new $43 million US army, space and missile defense command, army forces strategic command contract for new and innovative ideas and solutions for space and missile defense technology. We expect work under this contract to increase throughout 2010, and in particular, in the second half of the year.

Deanna?

Thank you, Eric, good afternoon.

Today we reported quarterly revenues of $75.2 million. A $1.9 million, or a 2.6% increase from comparable revenues of $73.3 million in the fourth quarter of 2008 which reflects a full quarter of operating results for the DFI merger which occurred on December 24, 2008. The revenues generated by DFI of $15.3 million were offset by reduced revenues of approximately $1.1 million in our public safety business and in approximately $1.5 million in our non-government IT business which have both been negatively impacted by the current economic environment as well as the plan in anticipated reductions of small business and other set-aside contract work from previously acquired companies, past due work and the impact of the government's in-sourcing initiatives inner government solutions segment.

As expected, on a sequential business, fourth quarter revenues were down from $86.1 million to $75.2 million primarily due to the impact of the government's in-sourcing initiatives, planned and anticipated reductions of small business and other set-aside contract work, pass through work as well as the timing of increased shipments in the third quarter of our rocket support services business. The delay of the contract awards, until the first quarter that Eric mentioned also adversely impacted the fourth quarter revenues. On a year-over-year basis, our government solutions segment revenues increased $3 million or 4.6% from $64.7 million in the fourth quarter of 2008, to $67.7 million in the fourth quarter of 2009.

For fiscal 2009, our government solutions segment revenues increased $57.6 million, or 23.3% from $246.7 million in fiscal '08 to $304.3 million in fiscal '09. The revenues generated by DFI of $62.9 million were offset by reduced revenues of approximately $5.4 million in our non-government IT business as well as the planned reductions and lower margins, pass through work and subcontract work.

On a year-over-year basis, revenues in our public safety business were down $1.1 million or 12.8% from $8.6 million in the fourth quarter of '08, to $7.5 million in the same period of 2009. As previously mentioned, the revenues were adversely impacted by project delays and suspensions caused by macro-economic conditions. On a sequential business, our fourth quarter product safety segment revenues increased $400,000 from $7.1 million to $7.5 million due to signs of improvement in the PSS market. For fiscal '09, our PSS revenues decreased $9.3 million, or 23.5% from $39.5 million in fiscal '08 to $30.2 million in fiscal '09 reflecting the impact of macro-economic conditions.

Gross margins increased slightly for the fourth quarter '09 to 22.6% from 22.2% in the fourth quarter of '08. SG&A as a percentage of revenues decreased from 16.6% or $12.2 million in the fourth quarter of '08 to $15.2 million or $11.4 million in 2009. The decrease in SG&A as a percentage of revenues reflects the impact of our continued cost reduction efforts as well as leverage on our revenues.

Our EBITDA for the fourth quarter of '09 was $6 million or 8%. Up sequentially from an EBITDA margin standpoint from $6.4 million or 7.4% in the third quarter of '09 and up year-over-year from EBITDA of $5.3 million or 7.2% in the fourth quarter of '08.

From an operating segment standpoint, our government solutions segment generated $4.2 million of operating income in the fourth quarter of '09, up $1.4 million compared to $2.4 million in the same quarter last year. Excluding the goodwill impairment charge in that period, while our public safety segment recorded an operating loss of $100K in the fourth quarter of '09, compared to an operating loss of $700K in the prior year, reflecting the impact of the cost reduction actions we've taken in '09 and the the corresponding improvement to operating margins in those businesses.

From an operational pro forma EBITDA metric, our government solutions segment generated $5.9 million of EBITDA in the fourth quarter or 8.7% of revenues and our PSS segment reported EBITDA of $100,000 returning to profitability for the first time in 2009. Our consolidated EBITDA for the fourth quarter was 8%, now in the range of our comparable peer group, as a result of our continued cost reduction efforts as well as the reduction of lower margin revenues and efforts to enhance our operating margins. For fiscal 2009, operational pro forma EBITDA for our government solutions segment was $25.3 million or 8.3% of revenues and our PSS segment recorded a negative EBITDA of $600,000 with a consolidated EBITDA of $24.7 million or 7.4% EBITDA margin.

Our net income for the fourth quarter was $400,000 which included an interest charge of $700K related to the write-off of deferred financing costs related to the debt pay down, as a result of our equity raise in the fourth quarter, with a net of tax impact of approximately $400,000. On a pro forma basis, EPS without this charge was approximately $0.05 per share.

Our tax provision was approximately $500,000 or approximately 50% during the fourth quarter. As we have discussed previously, although we currently pay minimal federal income taxes and cash due to utilization of our net operating losses or NOLs, our income tax expense includes certain state income tax expense for states which we cannot utilize these NOLs, as well as certain permanent items such as amortization of purchase intangibles and stock compensation expense though which we cannot deduct for tax purposes. What that means is that depending on which individual states our income is generated, and if those states are separate tax filing states where we cannot utilize our NOLs or we do not have NOLs in those separate states, we will have state tax expense for those certain states. Based on all the factors noted, we estimate that our tax provision rate for 2010 will be approximately 15% to 20%. The estimated cash taxes we pay, we expect to pay, should be primarily offset by the usage of our NOLs and be comprised primarily of statutory taxes and certain state taxes. Currently, the annual usage of our NOLs is unlimited. This is something we monitor on a quarterly business to determine if ownership changes as defined by the complex tax regulations under section 382 are triggered. If section ownership change is triggered, the annual use of NOLs could be limited if that were to occur. As we have said, we monitor this on a continual basis and will keep you posted if there are changes in the future.

Moving to the balance sheet and liquidity. Our cash balance was approximately $9.9 million at December 27, 2009, plus $400,000 in restricted cash. Our total cash on the balance sheet of $10.3 million. Our cash flow generated from operations was $3 million in the fourth quarter, and $26.2 million generated for fiscal 2009. As we announced last week, we successfully completed the refinance of our credit facility and have paid Silver Point the remaining outstanding term loan balance of approximately $25 million at par with no [May] co-payments pursuant to the settlement agreement we entered into in October. The refinancing includes a three-year $25 million revolving line of credit with initial rate of approximately 6.5%, compared to approximately 6.75% under the old facility. The refinancing also includes a three-year $35 million term loan with an initial rate of approximately 7.25%, compared to the previous rate of approximately 11.75%. All rates are subject to fluctuation in LIBOR.

As a result of the refinancing and as we've noted in the press release on the successful refinancing last week, the Company expects to record an approximately $2.2 million interest charge in the first quarter related to the write-off of previously deferred financing costs of the previous credit facility. Other key balance sheet and capital structure elements at December 27, 2009 are as follows. Accounts Receivable, primarily from the US government and other agencies was $78.6 million. Accounts Receivable, days sales outstanding, or DSOs were 95 days, down from 107 days at year-end 2008. The cash flow generated in fiscal 2009 of $26.2 million reflects our collection efforts to reduce our DSOs to a more normalized level in the mid-90-day range. As we expect our DSOs on a go-forward basis to be in this range, we do not expect the cash flow generated from the reduction of Accounts Receivable to be as significant as we have seen in this year to continue in the future.

After taking into consideration all these factors, we believe a more normalized level of cash flow from operations for 2010 will be in the range of $15 million to $20 million after payments of interest expense and estimated statutory taxes that cannot be shielded by our NOLs. For 2010, we are currently forecasting a cash use in the first quarter due to collection cycles with forecasted cash generation for the balance of the year. Bank debt at 12/27/09 was approximately $54.4 million including $24.9 million on our senior term note, $19.7 million on our line of credit, and $9.8 million in subordinated term notes. Total net debt, net of $9.9 million unrestricted cash at 12/27/09 was $46.4 million. As of today, after reflecting the refinancing, our total bank debt is approximately $57.5 million with $35 million in term debt and $22.5 million on the revolver.

Moving on to backlog. Our total backlog at the end of the quarter was approximately $565 million including approximately $124 million in funded backlog. Our contract mix for the fourth quarter was 34.7% of revenues generated from fixed price contracts, 33.5% from CPFF contracts, and 31.8% from time and materials contracts. For our fourth quarter, government revenues approximately 61.2% are performed as a prime with the remaining 38.8%, performed as a team member or as a subcontractor.

Revenues generated from contracts with the federal government were approximately 85.6%, including revenues with the DOD of 79.9% and revenues with non-DOD federal government agencies of 5.7%. We also generated 2.7% of our revenues from state and local governments and 11.7% from commercial customers.

With that, I'll turn the call back over to Eric for his final remarks.

Thank you, Deanna.

So in summary we believe we had a solid 2009. We successfully achieved the majority of the objectives stated in our business plan at the beginning of the year. In '09 we successfully integrated the businesses we acquired in 2008. This is demonstrated by sequential profitability improvement throughout the year and significant cash flow generation and DSO reduction.

We won a number of new and significant contract vehicles including the ten-year multi-billion dollar multiple award Alliant vehicle under which we are now pursuing tasking. We also won in 2009, the previously unannounced by Kratos, ten year, multi-billion dollar multiple award STOC2, or Simulator and Trainer Omnibus Contract, from the US Army program executive office for simulation, training, and instrumentation. These are both new contract vehicles for Kratos, which we expect to generate revenue in 2010 and beyond. In 2009, we successfully executed a reverse stock split. As demonstrated by an approximate 90% increase in Kratos stock share price since the split, and Kratos has added a number of new or increased institutional shareholders since that time.

Looking ahead, and reviewing the approved 2010 DOD budget, Pentagon's 2011 budget request, and the recently released quadrennial defense review, we believe that Kratos is positioned in many of our Country's national security priority areas including ballistic missile defense and specifically Aegis and SAT, C5ISR, including unmanned systems, electro-optical infrared, and other exotic sensors and related systems. Sustainment and life cycle extension of existing, proven and fielded weapons systems, including weapons and target range operations and support, information technology, assurance and cyber security, and public safety security, including Homeland Security.

Our Company's backlog at year end is just under $600 million, our qualified bid pipeline is approximately $1.5 billion. And very importantly, we do not include any amount related to our numerous GWAC, GSA or similar type contract vehicles or opportunities in either of these amounts. We fully expect both Kratos's backlog and bid pipeline to increase between now and the end of 2010 and for Kratos to have a book-to-bill ratio greater than 1:1 in 2010. As we've discussed many times before, we're going to continue to reduce low or no fee related pass through revenues and focus on higher margin areas like Kratos' NeuralStar networking products, which has increased our profitable and our cash position.

Also, as I mentioned before, though, we, similar to our peers, were impacted in the second half and Q4 of '09 by government procurement issues and delays and expected contract awards, thus far in the first quarter, we've received a number of new awards including today's announcement and we expect to be more formally announcing the specifics of these other awards shortly. We expect these new contracts to begin ramping in a few weeks or in Q2 of this year. Accordingly we expect 2010 EBITDA to be in the range of approximately $27 million to $29 million or a 10% to 20% increase over '09 on revenues of $340 million to $350 million . Q1, 2010 revenues and EBITDA are expected to be in line or slightly above Q4's with both revenues and profitability expected to increase sequentially throughout the year as we begin to work on these new contract awards.

Also, due to Kratos' fiscal period timing, Kratos's Q1 has significantly less labor days than other fiscal quarters, and this is going to aid in our projected ramp up throughout the year. The implied organic revenue growth of our 2010 target is approximately 9% to 10% when considering the final rolloff of previously identified and discussed small business work and the lower margin work we performed in '09 that's not going to be continuing. And for 2010, we expect EBITDA operating income and earnings per share all to continue to increase above 2009 levels.

With that, we'll open it up for

Thank you. (Operator Instructions) Our first question comes from Mark Jordan of Noble Financial.

Good afternoon, Eric and Deanna. Like to talk just a little bit about interest expense. You ended the year at $10.4 million. With the refinancing, I guess, shouldn't you see that drop to about $1.7 million and about $4 million for the full year? Is that a reasonable ballpark to be in?

Mark, there's also going to be the deferred financing costs related to the new facility that will need to be amortized over the term of the facility.

Okay, and how much is, is that?

That is roughly $2 million. In total, to be amortized over a three-year period.

All right. Secondly, on the, the target missiles, the ARAV-C target rocket, is that evolving to be a standard rocket that will be used in all future tests? And what are you replacing with that? Can you give us a sense as to the average revenue per, per test that you realize when you provide a rocket?

Right, so, the answer to the first part of the question, Mark is, hopefully yes. It appears it is trending that the ARAVs, the Aegis Readiness Assessment Vehicle, the A, the B, and most recently the C, are turning out to be a standard for a significant number of BMD tests, Aegis tests and other types of tests. We really only have one competitor in this area. There's really only one. The, the value per test to us varies between the three types of rockets and support services that we do around them. They can be anywhere from %500,000 to $1 million, and it's possible, on some of the Cs later on it could be even higher than that per shot.

Okay. And the, the missile that you, or the system that you're replacing, what was the cost on that? Is there significant delta here? Or is this a performance issue?

Yes, so that is the key driver here. The, for example, the cost to the government, including our cost and the cost that they need to put into, say an ARAV-C shot, it costs them $4 million to $5 million for that shot, the government's cost. All of their resources and our resources. The system that we're competing against is $35 million to $40 million.

Wow, okay.

That's our angle.

Okay, you talk in there that you are now able to address some, I believe it was four military sales that you -- that are larger contracts you're previously not able to go after. Is it fair to say that the initial one that you announced today was the first of the new class of larger wins? And what is it that has been achieved at Kratos in the last year that allows you to, to expand your addressable market?

Right, and so the answer is yes, this, the award we announced today is, is one of the, the larger ones for us and our pipeline, bid pipeline in the FMS area includes now a number of additional significant, at least for us, significant multi-tens of millions of dollar contracts. A couple of which, a couple of other ones of which are next 12 months, it's possible they could be awarded. And what's allowed us to penetrate this market is when we put together our strategy, we specifically targeted weapon systems support and weapons systems sustainment. And we knew we did not want to focus on what we'll call the bleeding edge systems, systems that the OEMs are popping out right now. We wanted to focus on what we term the legacy systems, or the systems in the install base that are out there and supporting and maintaining them. And so when we made some of our key acquisitions and '06 and in '08, we, we picked up some significant past performance qualifications and capabilities people that have both on the military side, the government side, and the commercial side that have the experience on these systems firsthand, which is enabling us, when to submit very, very competitive proposals.

Okay, one last question and I'll get back in the queue. The $48 million contract you said is two years to three years, how does that ramp, in the current year?

Right, so we just, we just got it at the end of the first quarter. So it's going to start wrapping up in Q2 and Q3 and then it will sustain over the delivery period which is a couple years. And then the two to three is because once it's delivered, then there's support related to it for the tail end of the contract.

Okay. So that's a meaningful piece of your second half ramp?

Absolutely, unequivocally,absolutely, this bolts us in pretty good.

Okay, I'll get back in the queue, thanks.

Mark, this is Deanna, one clarifying point on interest expense, what is also included in our interest expense, we have currently some interest swaps that are outstanding. I think we have them for one additional year, and that's since LIBOR's been so low in the recent past, that's been running about $300,000 of additional interest expense per quarter.

Okay, thank you.

Okay, thanks.

Thank you.

Our next question comes from Mike Crawford of B. Riley.

Thanks, Eric and congratulations on the new debt facility. It's, I think it's a big landmark moment for the Company.

Thank, thank you very much.

So, your net debt is at about two times EBITDA now. It looks like it's coming down to one times, at the end of, 2010, which is quite low for a defense company. In the past, you and companies you've been involved with have been requizitive, more recently you've talked about blocking and tackling and just letting the cash accumulate. Is your thinking, changing there? Do you feel more comfortable looking at some targeted opportunities now?

That's a very, a very good question, Mike. We, we have absolutely been focused on the blocking and tackling as you just alluded to. And getting everything integrated. Getting the DSOs down and getting the business development organization in place. We're not done yet. We have a couple key resources left that we're hoping to get in in the first half of this year but then it'll be set. But we, we are, as, as most, if not all companies in our space, we are now, we've turned back up the focus on looking at potential targets that would add either new customers, new contract vehicles or new capabilities along the lines of our stated business plan. And what we are, we're looking at some. Nothing is imminent, but we are, we're looking at some right now.

Okay. Thanks. You also mentioned some long-awaited contracts, finally freeing up, one of them not being (inaudible) to so that continues to be delayed, although I guess part of it has been released now. Can you talk about some specific opportunities you're targeting?

I, I will. I don't want to. I don't want to jinx anything, but there -- one of course if NetSense which continues to be delayed. The other one is Midas. The missile defense agency engineering support services contract vehicle. And that, that is a god-willing if we were to win, it would be -- that could be a catalyst for us.

And further out, I think you were targeting some additional range work?

Yes, yes, we are tracking, targeting two range opportunities that are, are, would be new for us. One is very large, multiple, $10 million dollars per year and the other one -- that large to us, of course -- and the another one is fairly large which would be $15 million to $20 million per year to us. Both of which we, are in our capture process and we are tracking and you never know what's going to happen, but we feel in the range, operations and services area, we have, our qualifications are at least equal to anybody's out there.

And when might those [RFEs] potentially be released?

Second half.

Okay. Is there -- margin ticked up in Q4, was that pretty much due to NeuralStar or were there other factors?

No, it was due -- NeuralStar , we did not have interestingly enough, Mike, and that's -- we, our NeuralStar , we actually were slightly below where we expected to be in Q4 and we still have that margin rate. We have really focused on, as we stated early last year, at eliminating, consciously eliminating, contract vehicle pass through work where it doesn't impact the customer relationship. You know, where we would make zero or one or two points M&S and that would be it,and then the receivables would be tied up, we made the conscious decision, as we integrated -- you know we bought those four companies -- we've been integrating them. Concurrent with that we've made the conscious decision to streamline the business, so we've -- when we get into 2010 we're, we're -- you know I'm not going to say we'd be 100%, but we will be 90% lean and mean with the hand of cards we've got, we've got the vehicles we want, we've got the work we want and that's what, that's what we've done, it did, it all came together for us in Q4 from a profit

Okay, thanks, just a couple more quick clarifications if you don't mind. Just, Deanna on the tax rate, you're saying the GAAP tax provision and the income statement, you're expecting 15% to 20%, but you think your cash taxes paid will be what? I mean, I've had about 5% I'm using for pro forma tax estimate.

You're correct on the 10% to 15% from a GAAP perspective and we believe that the cash payments will be minimal. So the 5% range is probably in that category.

Okay, and then on the $2 million average lease savings over eight years, so your, your SG&A, is that going to start, you know, be at this level in Q1 and then step down?

There's not going to be as much of a P&L impact, Mike. Because, in the prior years, we had recorded a reserve for the access space, so that, that, that was already taken into consideration from a P&L perspective. It's really more of a cash savings going forward.

Okay.

And that will commence once we move out, which is going to be in April of this year.

Okay, great and then the, the final question, relates to the work such as stuff you had to pass up before because of performance bonding, so what kind of delta and that type of business do you think we can see going forward?

Yes, so as I said in my prepared remarks, Mike, the business has returned to profitability in Q4. The forecast is that it will remain profitable and it's going to grow in 2010. In addition to not just bonding capacity now freeing up, but that market and the market that we play in installing and integrating security systems, where we are teamed a lot with general contractors, like a general contractor that's doing something at a strategic asset location. That market with the economy has actually turned around a little bit. I'm not sure if it's related to stimulus funds or what, but our bid pipeline is much, much stronger today. We're looking for our public security business to grow in 2010, over 2009 and be profitable throughout the year.

Okay, thank you.

And Mike, just on the, further clarification on the cash payments of taxes, it, that's roughly about, we look at it more from a dollars perspective. Roughly $1 million to $2 million a year, that's based on AMT taxes that we pay, statutory taxes, so that's the way we look at it just from a pure dollars perspective, rather than a percentage.

Okay, thank you.

Okay, sure.

Our next question comes from Michael Kim of Imperial Capital.

Hi, Eric, hi Deanna.

Hi, Michael.

So, going back to the bid and proposal pipeline, can you talk about the opportunity for, to bid on more contracts or larger contracts as prime versus relative to where you were say a year ago and then expand on the magnitude of some of those opportunities?

Right, so we, as, as you roll back to just a year-ago, at 12/31/08 versus 12/31/09. At 12/31/08 we acquired DFI, Digital Fusion down in Huntsville. And with that point, right there with Digital Fusion, that finished a 12-month period from December of '07 when WFI, before we changed our name to Kratos, merged with Haverstick. There's two. And then we merged with SYS in June of '08, and then Digital Fusion in December of '08.

That 12-month period in December of '08, we brought together four companies that we had targeted, specifically areas the of work they were in with locations relative to BRAK which would significantly enhance our customer relationships, our contract vehicles and probably more importantly going forward, our qualifications, our quals in certain areas. And so, all of that was enhanced along with our scale, the number of employees we have, the number of employees with security clearances that we have, which was a year-ago. We've been working on putting together a more formal bid and proposal organization. But that did not preclude us from immediately, we concurrent with those acquisitions, we were looking at specific new contract opportunities, we wanted to bid at. And we said, okay, we've got 50% of the quals here, if we buy this company, we'll have 75%, we get these five team members then we'll have 100% and we can bid on it.

So we started bidding on a number of, a few in the first half of '09, a couple. Several more in the second half of '09. As you know, in this industry, the capture process can be two to three years. Once the RFP comes out, if you haven't been tracking it for two years, you're dead. Well, we're coming up now, we just passed the [year-up] point on a few of those. And so the two-year point is coming up in the second half of this year and there's a number of them in the first half of '11 that , when they're going to be awarded. And we, we believe we are very well-positioned to win a few of these, you know? We've got the qualifications, the resume, the resources and we do the work. And you know, as I mentioned a few of them are in the range area.

We've got a couple in the information, we call it information assurance, IT information assurance or cyber security area. $50 million to $100 million opportunities. And on the weapons systems it side, you know, $50 million to $100 million opportunities, weapon systems support and on the, the range side, range support, range

So if we were to look at, you know, over the course of the year, is it your sense then that in terms of mix that you'd be a prime contractor in maybe 2/3 or more than 70% for the year? Exiting the year versus where you are today?

I think we'll trend up a little bit this year. A little bit this year. I expect, I'm hopeful, that, that 15 months from now, by middle of '11, I think, I'm hopeful we'll see a step function.

Okay.

It'll be a step-function leap.

Okay and on the margin improvement then, how much of that would you expect to be driven more by mix, program mix versus say less past revenue or--

It's pretty, it's pretty equal in, in 2009. But for 2010, it's going to be, it's going to be primarily program mix. And what we've been targeting.

Okay.

So of 2010, we'll be far more mix then we, we're just about done on the, on the, the pass through stuff. I never want to say 100%, but we're close. It's going to be mix in 2010 and beyond.

It looks like then, you start lapping that, lapping that level from where you brought it down then by, i assume by the middle of the year.

Yes.

Okay. And going back to the, the contract you announced today, the $48 million FMS contract, if we were to look at you know, where you tailed off, at the early part of last year, and the ramp up in the second half of this year, would it be fair to say you know, that would be a fairly significant, if not the strongest growth driver for the second half revenue?

As we, as we see hit here today, absolutely. I say it that way because if we were to win one or two other things in Q2, that might change, but as we sit here today, yes.

Assuming you were to win something in Q2, you might conceivably be able to recognize some of that in the current fiscal year.

Q4, yes.

Okay, any significant recompetes on the horizon that we should probably think about or keep an eye on?

Yes, we've got a, we've got a few more significant recompetes this year. The most, the most important one for us, this year by far, is at Dolgren. And it's range ops and range support. And --

When is that coming?

We just, just submitted -- your question is very timely, my friend. We just submitted the proposal, so, I will, assuming things don't get delayed, it's had a couple of bridges, it keeps getting extended, but assuming none of that continues, next three or four months, we should know something. But. Mike as you know, things are just, everything's moving to the right. New bids are, when new opportunities move to the right, that means that bid has a bridge contract and it's getting extended.

Right, yes.

Yes, and the other, and the other one, the other, the other ones is,is at White Sands.

Okay, White Sands got it.

Yes. Those are the two that jump out in my brain.

Okay and then in terms of in-sourcing, do you have any better visibility on maybe significant for any you know, wholesale programs being in-sourced or the level of activity we should think about the rest of the year or is that still getting--

It's hard to say, as we talked about, I think in Q3, in our Q3 call, we, we took a 14-slot or 15-slot hit at one agency. When the, the customer said "here's your 30-day notice" they were going to be with us in 30 days or they're gone. We have not experienced anything at all like that since then. We don't see anything like that, but there are, there are ones and twosies happening. You know, we've been onesied and twosied a couple of times at the Pent-- we do a bunch of work at the Pentagon, as you know. We've been onesied and twosied there. We do some very interesting work down in Huntsville at NASA. We, we've been onesied and twosied down there.

Okay. So, not entire programs then. Just around the edges, it sounds like.

No, not entire programs. We're getting around the edges a little bit.

And you know, one of the topics that, sort of hit the radar screen, is certainly cyber and information insurance, can you talk a little about the opportunities there? And where you see Kratos position?

So this is an interesting area for us. As you know we only have two products or pieces of IP in our company. One of them is related to our ARAVs, our Aegis Readiness Assessment Vehicles, our big ballistic missile targets, and the other one has to do with network management and information assurance products to NeuralStar and DopplerView. And very candidly, these, these, I mean, they're involved with, with many of the intelligence agencies, these products which is a fantastic qual for us. We've got a bid out there right now, if we win, I hope we can announce it. It's extremely interesting. It would be another fantastic qual.

These products are a great entree for us, for, for numerous of our IT customers as far as this, this product, this network management and identification product sitting on their network and identifying aberrations and network performance including potential entities or things trying to break into it. It's, it's the highest margin business we have. We're looking for it to grow significantly from '09 to '10. And we're actually, we're very seriously looking at if things work out the way we hope in the second half of this year, significantly increasing the resources we're going to put toward it, which would be in our business plan. Because things worked out where we can really try to drive this thing in 2011. This is -- It's a big differentiator for us. It's our IP.

And just kind of going to the, maybe more broadly on the strategic outlook then, in the past, you guys have you know, certainly integrated some significant entities, Digital Fusion, SYS, et cetera, would that be an opportunity to build out your capabilities in cyber information assurance, then?

That is probably, as of today, that's our primary path on building out our information assurance and cyber practice. It's around these products and the services around them. Because once the products are in and licenses have been sold, then we manage, maintain and modify it.

Great, thank you very much.

Thank you, sir.

Our next comes from John Nelson of the state of Wisconsin.

Hi, I just wanted to congratulate you, Eric and Deanna and your team in building the Company. Doing a great job building the Company, and as a long time shareholder, I want to know, I want you and your employees to know that it's much appreciated. Their efforts.

John, thank you very much for coming on and mentioning that to the entire team. We really appreciate it. Thank you for being a shareholder with us.

You're welcome. First question is related to, and I think this is for the benefit of not only me, but a lot of your shareholders, is what do you think that the team group that you put together does better than you know, anybody else? Does better than your competitors? Where do you, what areas do you think you really shine at? And just a little bit of discussion on that would be helpful.

I think starting out, one of the areas where we really shine is on certain weapon systems. Say a dozen. We have a group of people that have worked on these systems both when they were with the military and with the original OEM. So they understand these systems as well, if not better than anyone. So when opportunities come up to reset this equipment, preset it to go into combat, reset it once it comes back, upgrade certain elements on it, test it out at a range, send our people out into the field and help train the war fighter on the system, in the field and the new upgrades, I think this is an area where we are if not the best, we are one of the best there is in the industry. I think that that's an area we just knock it out of the park.

Another area has to do with weapons range operations and services. We are a prime contractor at Dolgren, White Sands, at the Pacific Missile Range facility off of Hawaii at Barking Sands where all the, where all the Aegis tests occur, at certain classified ranges. We're a contractor at Point Mugu and working with all types of aerial targets, on sea targets, classified targets, putting mission packages in them, flying them for the customer, assessing weapons systems against them. It's an area where it's just hard for me to envision anyone having better quals than us. We may not be better, but I can't see anybody being better than us. We are just one of the best there is in that area.

Those are two areas where we're fantastic. And thirdly, in the electro-optical and infrared sensor area, and other types of exotic sensors, and these are sensors that go on unmanned systems. And these are all types of unmanned systems. And as you know, there's a significant amount of money scheduled to go into more unmanned systems in the future. And what do unmanned systems need to see things? They need all kinds of sensors in the designing, and testing, and designing into a weapon system, sensors and things of that nature. I think we're second to none. Our group of scientists and engineers down in Huntsville, they're just -- they're aces.

Very good, thanks.

You're welcome.

My second question is related to, is just to get your opinion in the business as what do you think the scope and future potential over the next decade is for the Aegis missile defense system?

I -- last September, the, the administration, current administration came out and they, they specifically said, they put out a paper and they said, we're going to cancel in Poland and Czech, the radar and ground-based mid-course defense. We're going to truncate at Greeley and at Mandinburgh to 30 active interceptors, 54 total. A bunch for test but 30 active ground-based mid-course defense interceptors. We're going to truncate those and we are going to focus on a more theater-based tactical ballistic missile defense profile, which is Aegis and to a lesser extent, FAD.

And we are -- sometimes it's better to be lucky than good. We are heavily involved in Aegis. We are involved in FAD. They're re-opening the DDG51 line. DDG51 is the primary destroyer that has Aegis, that is Aegis ballistic missile defense capable. And with our -- our prime contract vehicle at PMRF Barking Sands where these tests happen, the government is now talking about going to Aegis Assure.

And so, in addition to Aegis and standard missile threes being on the CGV and the [BG51], they're going to put these batteries on shore like a Patriot system. All of these are going to need testing. Both initial testing and off-tempo testing and as I said before, you know, we're one of only two real players that, that have qualified targets. Ours have a 100% test rate. I think we've shot 25 or 30 of them -- 100% test rate where these targets mimic threats and other things so the, the Aegis Warrior can practice against them. And I, it's just an area where there's a, that's where the military priority is, that's where the funding is going, it's where we're positioned and hopefully all the points come together and we just drill it. That's how we see it.

Thanks very much.

You're welcome.

Our final question comes from Mark Jordan of Noble Financial.

Hello, again. Eric, this first contract I believe, we initially hoped to see that, or you hoped to see it as early as the middle part of last year. We were speculating that it was administration change, that delayed it. Could you talk about what was the, the catalyst, for the benefit of hindsight, for the delay? And do you see the flow of potential, for military sales, business improving now that the administration's entering its second year?

Yes, so mark, in hindsight, in my opinion, absolutely the delay in this had to do with the administration change from Bush to Obama. And it's our understanding that virtually every, virtually every opportunity like this was pulled back and re-reviewed. And we believe that based on the process we had to go through. Which, which caused the delay and there's all types of details on how contracts were being broken up into different increments, smaller pieces, bigger pieces. We were touched with a little bit of that. We believe that was all driven by the administration change.

We are hopeful, and I believe that on the FMS side, that that pull back and everything now, because it's a year later, year and a half later, is done. And that is not going to be a reason for delay anymore. However, however -- and I'm sure you, you've heard this and seen this before with some of your other defense contractors, the, the procurement system is, is extremely bogged down right now. The government does not have enough procurement officers and procurement managers. And then when you put on top of it all the stimulus money that they're pumping out. All of that needs to be reviewed and procured, the system is bogged up right now. It is bogged up and things are moving to the right because of that.

In addition to that, what is going on with what contract appeals and protests. It's out of control, you know, eight, ten years ago, you rarely saw a protest. When someone won, the other guys said "okay, the gun won" and that was it. It's incredible now the number of protests. [MCIT] just put out a massive contract was involved in a protest. Protests are all over the place. That's moving everything to the right. Why is it moving to the right? Because the customers are double, triple, quadruple checking everything before they put out an RFP and they let a contract to try and protect themselves so when it is protested, they're okay in front of the GAO.

And so it's kind of gummed up right now, all over the place. As we mentioned, we're fortunate, we've started to see in the second part of Q1, some, some awards that we frankly hope to get at the end of Q3 and Q4. We're getting them now. So that's kind of how we, we see the landscape right now.

Do you have an, an estimate of depreciation and amortization and intangibles for 2010?

Yes, Mark the depreciation is roughly $1.5 million to $2 million, and goodwill -- or, intangible amortization is roughly $5 million. $5 million to $5.5 million.

Okay, and then Eric, your, your revenue guidance of $340 million to $350 million, did that basically assume contracts or business in hand and normal extensions of business, ongoing business but you know, another, incremental large say, for example, for military sales that might be received, could that be incremental to that range? Or do you have some of that billed in --

That would be incremental.

Okay.

That would be incremental then.

And then, just to review, you said the tax rate, the GAAP tax rate would be 15% to 20%.

That's correct, Mark.

And a final question relative to the foreign military sales, if you were to look at your competitive position, I would assume that your primary competitor would be the original equipment manufacturer of the missile system. Do you have a fundamentally different cost structure that you're able to present? Or are you letting it solely on, on the qualifications you have?

It's more of the latter. And some of the former. It's, it's the qualifications, Mark. The, without naming names, the OEMs now, what they want to do is sell new stuff. So they don't want second, third and fourth generation systems necessarily being upgraded and hanging around for a long time.

Yes.

And so we focus on that, primarily, and then in addition to that, you know, a $40 million , $50 million , $60 million, $70 million or $80 million opportunity may not be huge to a $40 billion company. But to us it's gargantuan. So we put the A-Team on it. And we put the A-Team on those.

Okay. Thank you.

I'm not showing any further questions at this time. Would you like to continue with any further remarks?

Thank you, very much, for joining us this afternoon. We will be circling back with you in a few months on the results of Q1. Thank you.

Thank you. Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect. Everyone have a great evening .