Kratos Defense and Security Solutions Inc (KTOS) 2011 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to your Kratos Defense & Security Solutions' fourth-quarter 2011 earnings conference call. At this time all participants will be in a listen-only mode. Later we will conduct a question and answer session which instructions will be given at that time. (Operator Instructions) As a reminder today's conference is being recorded. Now I would like to introduce your host for today, Laura Siegal, Vice President and Corporate Controller.

Good afternoon, everyone. And thank you for joining us for the Kratos Defense & 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 outlines the topics we plan to discuss today. If anyone has not yet seen a copy of this press release, it is available on the 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 are providing a simultaneous webcast of this call for the public. A replay of our discussion will be available on the Company's website later today.

During this call, we will discuss some factors and matters that are likely to influence our business going forward. Any matters discussed today that are not historical facts, particularly comments regarding our future plans, objectives and expected future performance, constitute forward-looking statements. 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 these suggested by our forward-looking statements. We encourage all of our listeners to review our SEC filings, including our most recent 10-Q and 10-K 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 7, 2012, 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 and 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. Certain of the information discussed, including adjusted EBITDA and the associated margin rates, adjusted EPS from continuing operations, excluding transaction expenses and amortization of purchased intangibles using a cash tax rate and using a statutory tax rate of 40%. Adjusted cash flow from operations, reflecting cash flow from operations, excluding transaction-related items and adjusted free cash flow reflecting cash flow from operations, excluding transaction-related items and less capital expenditures, are considered non-GAAP financial measures. Kratos believes this information is useful to investors because it provides a basis for measuring the Company's available capital resources. The actual and forecasted operating performance of the Company's business and the Company's cash flow, excluding extraordinary items and non-cash items that would normally be included in the most directly comparable measures, calculated and presented in accordance with Generally Accepted Accounting Principles.

The Company's management uses these non-GAAP financial measures along with the most directly comparable GAAP financial measures in evaluating the Company's actual and forecasted operating performance, capital resources and cash flow. Non-GAAP financial measures should not be considered in isolation from or as a substitute for financial information presented in compliance with GAAP, and non-GAAP financial measures as reported by the Company may not be comparable to similarly titled amounts reported by other companies. As appropriate, 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 and fiscal 2011. He will then turn the call over to Ms. Lund to discuss the specifics related to our financial results. Mr. DeMarco will then make some concluding remarks about the business and we will then open the call up to your questions. With that said, it is my pleasure to turn the call over to Mr. DeMarco.

Thank you, Laura. Good afternoon. Today we announced our fourth-quarter and full-year fiscal 2011 results with cash flow from operations exceeding our expectations for the fourth quarter, and exceeding our expectations for the second half of the year. Kratos generated an EBITDA margin rate for 2011 of 12.7%, achieving our previously stated targets on 2011 revenues of $723 million.

For the fourth quarter of '11, overall performance came in substantially in line with what we had expected with the exception of an anticipated $11 million, high margin product delivery that was delayed by an unexpected competitor protest, with this competitor protest just recently being denied. Very importantly, Kratos generated operating cash flow of over $27 million in the second half of 2011, which makes us very comfortable reiterating our 2012 guidance for cash flow of $50 million to $65 million with a current Kratos share count of approximately $32.4 million. Additionally, with the Federal 2012 DOD budget being approved in January, and a Q4 book-to-bill ratio of 1.2 times, we're now comfortable providing 2012 revenue guidance of $950 million to $1 billion with Q1 revenue approximating or being slightly above the fourth quarter we just reported, and a smooth, sequential quarterly ramp of 5% to 9% throughout the year, which is driven primarily by currently planned product shipments. Deanna will provide the details on our financial performance and guidance in her prepared remarks.

During 2011, Kratos continued the strategic refocusing of our business with the vast majority of what Kratos does today being in the areas of electronic warfare, electronic attack, satellite communications, unmanned aerial systems, C5ISR, missile systems and ballistic missile defense, cyber security, cyber warfare and information assurance, and Critical Infrastructure security, strategic asset security and public safety systems. We have transitioned the business whereby the majority of Kratos work today is the manufacture and production of specialized and proprietary products, equipment and software, and specialized system integration solutions, where, in most cases the work is sole-source or very limited competition in nature. Additionally, the majority of contracts that Kratos receives are single award in nature, not IDIQs, MACs, or GWACs, where these types of contracts typically have multiple winners of the vehicle; and then subsequently additional competitions are required to win individual task orders and actually perform the work. The fact that the majority of the contract awards that Kratos receives are single award is also directly related to Kratos' transition to being a specialty products and technology-based Company with a de-emphasis on services.

As to this de-emphasis on services. About three years ago we started to see additional market pressures in the generic or undifferentiated information technology, program management and other service areas, with insourcing of contractor positions by the government customer, an increased focus by the government on small business and other set-aside type awards. And most importantly, the government customer moving towards making procurement decisions based on lowest cost, technically-acceptable criteria, which is basically commoditizing many aspects of the services area. Furthermore, in order to reduce its costs paid to contractors in the services area, the government has moved more and more towards these multiple award-type MACs and IDIQs, with task orders being re-competed every one or two years in some cases, forcing contractors to bid more often and lower and lower in order to win work. Accordingly, over the past few years we have significantly de-emphasized our focus on these generic, non-differentiated services areas which today make up less than 10% of Kratos' business. And we have focused on the specialty and proprietary product and technology areas.

For Kratos' products and technology are designed in on established, deployed and in-production National Security platforms, where we have the socket. The barriers to entry are extremely high to any potential new competitors. The majority of the work we perform is single or sole source or very limited competition, and the majority of the procurements are made on a single-award basis. As you probably know, in the latter part of 2011, the Department of Defense undertook a fundamental review of its defense strategy and spending priorities similar to a QDR review, which Secretary Panetta formally announced the results of on January 26, 2012, along with the DOD's new strategic guidance profile and the just-released Defense Budget Priorities and Choices document. The new defense strategy, which will trim conventional forces, will also increase investment in certain select capabilities, including intelligence, surveillance and reconnaissance, electronic warfare, unmanned systems, space programs, cyber space capabilities and platforms, and platforms that can project US forces rapidly around the world. We believe that the repositioning of Kratos' business over the past three years has clearly positioned our Company to be successful as we move forward in the new defense strategy and budgetary environment.

Some of the major programs and initiatives at Kratos today include the EA-18G Growler, where Kratos is under contract and providing single source, a large number of electronic warfare and electronic attack-related electronics products and the FA-18, where Kratos is providing integrated microwave assemblies and other specialized electronics. An EAG-18 primary mission is the suppression of enemy air defenses where the aircraft counters enemy defenses using both reactive and pre-emptive jamming techniques. The Navy will receive 52 EAG-18s by 2013 and another 30 after that at a rate of approximately five per year. This does not include anticipated, additional international orders. Also it was just recently announced that the F-35 is being de-emphasized as an electronic attack aircraft and there will be a more intense focus on the EAG Growler for a new, fully-funded, airborne electronic attack platform. We believe that this is clearly good news for Kratos as we are well-positioned from a customer-related, technology and existing performance-related qualifications for this large, new, future opportunity. Both the EAG-18 and the FA-18 are currently in full rate production, with these platforms currently planned to be in service decades into the future.

Another major Kratos program is the Trident II D5 Fleet ballistic missile, the latest generation of the US Navy submarine launch fleet ballistic missile. The Trident II D5 is the only offensive strategic missile remaining active in the US arsenal. The Trident missile is currently scheduled to be in fleet through at least 2050, and Kratos is sole source on numerous specialized products that support the strategic platform. Similar to the EA-18 Growler, the Trident D5 program is one of the largest in our Company. Another major Kratos' business area is in satellite command and control and satellite interference detection and protection, including for the WGS, Milstar, AEHF, MoUS, Polar, Discus, Skynet, satellite communications systems, in addition to numerous classified satellite communications, space-based ISR and Comsat comm programs. We believe that the satellite communication will be a growth area for Kratos, with the US Air Force recently authorizing the development and launch of the eighth and ninth Wideband Global SATCOM Satellites.

A contract award just recently being made for the production of the third and fourth Global-positioning III satellites, the first of four planned, mobile-user objective satellites being launched, and five additional nations joining the WGS program, with these nations planning on acquiring the tenth WGS satellite. These are all Kratos-supported programs. Additionally, the Defense Information Service Agency, or DISA, is currently focused on satellite communications ground or terrestrial infrastructure, where DISA is adding AEHF up-link resources to networks, completing wave-form phase II, to improve wave-form efficiencies for UHF users, deploying and activating the joint IPM modem network and continuing the improvements in full motion video dissemination across satellite communication links. Satellite ground and terrestrial infrastructure is a Kratos strength area, as you know.

Also in the satellite communications area, a large part of Kratos' business is focused and currently under contract on space-based cyber threats, radio frequency signal interference and jamming countermeasures and attack. Most of this work is classified or confidential in nature, and there is a significant additional business development opportunity that we are already exploiting, with the combination of Kratos' proprietary, NeuralStar and Doppler View Cyber and Situational Awareness software products, and Integral Systems' proprietary software and products and their customer set. This opportunity includes situational awareness, space-based cyber threats and the jamming or interference between satellite communication links and unmanned aerial systems. Also related to the SATCOM market opportunity that we see, satellite consulting firm Euroconsult recently reported that over the next 10 years, 1,145 satellites will be launched, of which 70% are attributed to government demand. Today the Department of Defense reliance on commercial satellite communications is approximately 90%.

One of the key drivers of this demand is unmanned aerial systems and ISR requirements which are overwhelming the military and National Security agencies in data and are taking up huge amounts of bandwidth. For example, one Global Hawk needs 500 megabytes per second of bandwidth, which is approximately 500% of the total bandwidth of the entire US military during the 1991 Gulf War. As you know, Kratos provides products and solutions for over 85% of all US space missions, and as I just mentioned, we are looking for Kratos' satellite communications business to be a growth area driven in part by the increasing demand for and use of ISR and unmanned aerial systems and planned future satellite launches. The unmanned systems area is another area where we see great opportunity going forward for our Company. In 2005, only 5% of military aircraft were unmanned. Today the US military has approximately 7,500 drones while the number of manned aircraft is approximately 10,800.

By all accounts, the quantity, size, capabilities and related electronics, ISR, weapon systems and support equipment in the unmanned aerial systems area will continue to significantly increase and receive solid funding, including as noted in the DOD's new defense strategy. In the unmanned systems area, Kratos is currently under contract for avionics, electronics and flight control equipment as well as ground, station flight control equipment for certain UAV and UAS programs. Kratos is currently under contract for the manufacture and production for UAV, system command and control ground equipment, ground station equipment, vehicle protection equipment, electronics-related equipment and specialized unmanned system transport equipment. We are also under contract for the weaponization of certain unmanned systems and also for certain ISR-related activities, most all of which are either confidential or classified. Additionally, last year Kratos received a $126 million, five-year, single-award contract for performing certain weapons range operations, a good portion of which also relates to certain unmanned systems operations.

A particular area in the unmanned environment that Kratos is recently involved with has to do with unmanned combat aerial systems or UCASs. The vast majority of UAVs currently in the US arsenal are propeller-driven and have been designed to operate in completely uncontested airspace. A very important mission to be addressed is the ability for unmanned systems to operate effectively in fully contested airspace and anti-access and area denial environments. Most of what we are doing here is either classified or confidential in nature, however I wanted to briefly mention it to you as this is an area that Kratos is targeting for future meaningful opportunities. Finally, in the unmanned systems area, I am very pleased to announce that Kratos has just very recently received an extremely important and strategic unmanned systems program-related contract award that will be meaningful not only financially, but strategically to Kratos over this unmanned system program's lifecycle. At this time we do not have customer approval to put out a formal press release, but we do expect to receive approval to do so in the near future at which time we will be able to discuss what this could mean to our Company on this new and high-profile, state-of-the-art program.

Continuing on with important Kratos programs. The Littoral Combat Ship, where Kratos is under contract for the mission module elements for both the Freedom and Independence classes of ships under this program. There are currently 55 Littoral Combat Ships planned to be produced. 22 ships are currently on order, with three current mission module packages. Mine countermeasures, anti-submarine warfare, and surface warfare all being programs of record for the LCS. Each mission module set includes four to seven, specialty manufactured mission module products, which is what Kratos is under contract for. It is our understanding that the US Navy currently plans to acquire approximately 65 mission module sets for the three current, mission module packages I just mentioned.

Additionally, the Naval Sea Systems Command is currently developing a fourth LCS mission module package, which will focus on irregular warfare, and NAVSEA recently commented that program officials are currently developing a fifth LCS mission package for maritime security operations. Also, the Navy and Marine Corps see the LCS as a very versatile platform that could potentially host a range of additional mission packages that would further expand the ship's capabilities far beyond the modules currently planned. The Littoral Combat Ship was specifically noted in the previously-mentioned, Defense Budget Priorities and Choices document released in January of this year as a critical element of the military's rebalance toward Asia Pacific and Mid East Regions. We understand that the US Navy plans to forward deploy Littoral Combat Ships in Singapore and Bahrain and may station as many as 16 Littoral Combat Ships at Naval Base San Diego. Also, strategically and very importantly related to the LCS program is that the US Navy currently anticipates that the next generation of surface combatants is likely to follow the LCS's modular construction with the Navy relying on modularity and open architecture to deal with both reduced shipbuilding budgets and ever-evolving threats. We are hopeful that the LCS program will be another example where Kratos has the customer, the tooling, the technology, the qualification, and we have the socket, where Kratos would be the logical go-to provider for modular products for future service combatants and platforms.

The LCS program is one example of a cornerstone of our strategy. Identify a platform or program that is deeply embedded in our country's National Security strategic doctrine, obtain the tooling, equipment, technology and customer relationships required to competitively bid for a very specialized area of that program, win the opportunity, get designed in, and as the program expands, participate in its growth. Kratos also has significant experience tooling equipment and IP in combat system modular design, including for command and control, fire control and specialized electronics systems. One of the key programs where Kratos obtained this experience is with the DDG 1000, where the second and third Zumwalt class destroyers are now under contract, and Kratos is manufacturing, very specialized, electronic module enclosures for each of the currently-planned three combatants.

The DDG 1000 is also currently a very important program for Kratos. Additional key programs where Kratos is exploiting these very unique and specialized manufacturing, past performance qualifications include Patriot, FAD, AEGIS, the electromagnetic rail gun, and a number of intelligence, surveillance and reconnaissance programs. Kratos is currently under contract for very specialized electronics products for the advanced, medium-range air-to-air missile, or AMRAAM. Importantly, the Air Force just recently canceled the next-generation missile and it has made the decision to continue to acquire the AMRAAM for the foreseeable future. This is a common thesis that we have continued to see, where military leaders are looking to keep existing systems and programs under production and in the field for as long as possible while still enhancing capability. This means a big emphasis on technology upgrades and technology insertion for established and deployed platforms. And we believe that companies like Kratos that once again are designed in to these existing systems and have the customer relationship and the socket will have the advantage.

Other important programs where Kratos is currently under contract for special electronics, products and work include the P8A Poseidon, AEGIS again, E2D Hawkeye, aerial targets, Sidewinder, standard missile, Chinook and TOW. On the P8A Poseidon, which provides maritime patrol, anti-submarine warfare, anti-surface warfare, and armed intelligence surveillance and reconnaissance capabilities, Kratos is sole source on certain specialized electronic-related products and equipment. The US Navy is preparing to take delivery of the first production version of this aircraft which is replacing the P3 Orion, with the Navy currently expecting to take delivery of 117 of these aircraft with an additional eight on order by the Indian Navy and current discussions with the Australian Navy for an additional order.

In Kratos' Critical Infrastructure and Security business, which now makes up approximately 15% to 20% of our Company, and which is primarily non-DOD funded or customer base, this business grew organically greater than 12% in 2011, and we are forecasting continued strong growth again in 2012. A combination of increasing threat profiles in this country, smart grid adoption, aging infrastructure, rising compliance and regulations and real threats against utilities, power companies, transportation systems and strategic assets are some of the factors that are driving this market for us. Additionally, Critical Infrastructure operators in the United States are prime targets and are under attack from a cyber standpoint. And we see a real opportunity for Kratos' Cyber business and our PSS business to jointly address the significant customer opportunity which is one of the primary reasons we have been building both of these businesses over the past few years. Directly related to this, there is a bill currently before Congress that would significantly increase the power of the Department of Homeland Security to monitor the cyber security practices of industries which are part of the United States' critical infrastructure. Needless to say, a key element of Kratos' strategy of jointly building and growing our Cyber Security business and our Critical Infrastructure Security and Public Safety business, it is our belief that mandated or regulated practices, policies and procedures will be forthcoming regarding the safeguarding of our country's critical infrastructure and strategic assets from cyber attack, and we are positioning Kratos to take advantage of this.

Directly related to this critical infrastructure cyber opportunity, Kratos currently has underway several cyber security and situational awareness-related pilot projects at certain of this nation's highest profile, strategic asset locations directly related to this issue I'm talking about. The business development and cross-selling opportunity between Kratos' Cyber Security business and Kratos' Public Safety and Security business is very real. It is happening and it is just one example of the numerous cross-division or cross-business unit, new business opportunities we have either under contract or that we are pursuing, some of which I've discussed today. I will now turn the call over to Deanna.

Thank you, Eric. Good afternoon. For the fourth quarter, Kratos' performance was very solid in what continued to be a very difficult, challenging and changing Department of Defense, National Security and overall federal government budgetary environment, which resulted in continued choppiness throughout the end of our fiscal year-end. The good news is that we now have the federal budget for 2012 so we have more clarity for fiscal 2012. We continue to make progress on our integration activities of Integral Systems which is progressing as scheduled. We anticipate that the planned integration activities should be complete by the end of the first quarter of 2012. As we reported last quarter, Kratos' profit margins in the third quarter were positively impacted by a very favorable contract and program mix, which we did not anticipate to occur in the fourth quarter. In addition, we were anticipating that our future profit margins would be impacted by increased ramp-up and select investments in internally-funded Research and Development efforts to expand certain of our product offerings.

We are pleased with our financial performance this quarter, especially in light of the continued challenging conditions of the federal operating budget and operating under the fiscal 2012 continuing resolution through the end of our fiscal year-end. These conditions included the delay of an anticipated fourth quarter, $11.5 million shipment of a high-margin, ground equipment enclosure delivery that was delayed due to an unexpected competitor protest, which has recently been denied, which we now expect to further delay the anticipated shipment until the second or third quarter as a result of the effective restart of the procurement process. In addition, anticipated shipments of certain weapon systems aggregating approximately $2 million were delayed until the first quarter of 2012. These two delays substantially accounted for the difference between our previous expectations of $230 million to $240 million in the fourth quarter revenues versus our reported revenues.

Today we reported fourth-quarter revenues of $218.2 million and adjusted EBITDA of $27 million or 12.4% of revenues, up from fourth-quarter 2010 revenues of $120.8 million and adjusted EBITDA of $12.9 million or 10.7% of revenues. The increase in fourth quarter '11 revenues reflects the aggregate contributions from the acquisitions made in 2011 of Herley Industries, Integral Systems and SecureInfo and the full-quarter impact of the Henry Brothers acquisition made in the fourth quarter of 2010, all which contributed a net aggregate increase of $122.2 million in revenue during the fourth quarter, which was offset by the impact of continuing government insourcing and the impact of increased weakness and/or competition in certain of our Legacy Services business and the impact of contractual delays previously mentioned. Our gross margins increased from 20.5% in the fourth quarter of 2010 to 27.1% in the fourth quarter of 2011, down sequentially from 28.5% in the third quarter of 2011, as expected, as the third quarter had a very favorable mix of revenues. Our mix of revenues for the fourth quarter is 54% products and 46% services, representing an increase in products as a percentage of revenues from the fourth quarter of 2010's mix of 39% products and 61% services.

From an operating segment standpoint, our Government Solutions segment generated $7 million of operating income in the fourth quarter of 2011, down slightly from $7.5 million compared to the same quarter last year, as a result of the increase in the amortization of purchased intangibles in 2011 of $10.2 million. On an adjusted EBITDA basis, the Government Solutions segment increased from $11.7 million in the fourth quarter of 2010, or 10.7% of revenues, to $23.1 million in the fourth quarter of '11, or 12.2% of revenues, representing a 150 basis point increase. Our Public Safety and Security segment generated $3.3 million of operating income in the fourth quarter of '11, up from $1 million in the same quarter last year. On an adjusted EBITDA basis, the Public Safety segment increased from $1.2 million in the fourth quarter of '10, or 10.1% of revenues, to $3.9 million in the fourth quarter of '11, or 13.6% of revenues, representing a 350 basis point increase.

The improvements in both of our operating segments reflect the contributions from the acquired companies, the growth in the businesses, a favorable mix of revenues as well as the impact of certain cost-reduction actions we have taken. On a consolidated basis, our adjusted EBITDA for the fourth quarter of '11 was $27 million, or 12.4% of revenues, up year-over-year from adjusted EBITDA of $12.9 million or 10.7% of revenues in the fourth quarter of 2010. Our adjusted EBITDA excludes the impact of approximately $1.2 million of acquisition-related expenses, and stock compensation expense of $1 million. On a GAAP basis, net loss for the fourth quarter was $8.6 million, which included the $1.2 million of acquisition-related expenses, $13.5 million of expense related to amortization of intangible assets, as well as a $600,000 income tax provision provided against a pretax loss of $8.1 million. As we have stated on previous occasions, we believe that our cash income tax payment more closely represent the economics of our earnings rather than our GAAP income tax provisions, which may be subject to variations on a period-by-period basis. We continue to believe it is meaningful to provide the average, quarterly-estimated cash tax payments of approximately $700,000 for the fourth quarter.

We currently estimate our annual cash taxes for 2012 to be approximately $6 million to $7 million. This reflects our estimate of our ability to utilize our approximate $260 million of federal [and net] operating losses, which expire through 2030, to significantly offset and reduce our overall federal income tax payments. Our NOLs have increased to the approximately $260 million as a result of acquired NOLs from the Herley and Integral entities. As a reminder, we can currently utilize up to $28 million of federal NOLs per year for the next five years commencing with 2010, with a carryover into the next year if not utilized. And thereafter we can utilize up to $11 million per year of federal NOLs until all NOLs have been utilized through the expiration date. In addition, as we have stated before, we think it is important to note due to our acquisitive activity that purchase intangibles, which are part of the purchase price allocation of the acquisitions that we complete, are required to be amortized or expensed over the estimated useful lives of those intangible assets which would range from a 10-month to a 10-year period.

For instance, our GAAP fourth-quarter operating income includes an amortization charge for the purchase intangibles of $13.5 million, which is equivalent to approximately $0.40 per share as a majority of the purchase intangibles are not deductible for tax purposes. We expect the annual amortization charges for 2012 to be approximately $36 million. However, we expect that the amortization of approximately $11 million in the first quarter of 2012 will be greater than the subsequent quarters as certain of the amortizable lives are expected to roll off after the first quarter. On a pro forma basis, EPS from continuing operations, including amortization and merger expenses and utilizing an expected average quarterly cash pay income tax provision of approximately $700,000, was $0.17 per share for the quarter and $0.91 for the full year. On a full-year basis, revenues for 2011 were $723.1 million, up 77% from 2010 revenues of $408.5 million.

Revenues in our Government Network Solutions segment increased from $372.2 million in 2010 to $610.9 million in 2011, which includes revenues from the acquired companies of $309 million, which was offset by the expected completion in the first quarter of 2011, of the last of the previously-acquired, small business contracts which resulted in over $10 million decline year-over-year with the balance resulting from the impact of competitive pricing pressures in our Legacy IT services and other pure Services businesses, which Eric discussed earlier. Revenues in our Public Safety segment increased from $36.3 million in 2010 to $102.2 million in 2011, which includes a net increase in 2011 revenues from Henry Brothers of $75.4 million. On a full pro-forma basis, assuming Henry Brothers was acquired as of January 1, 2010, revenues grew organically $12.1 million, or 12% year-over-year, from $100.1 million to $112.2 million.

Adjusted EBITDA for the year was $91.8 million, or 12.7% of revenues, up from $39.7 million or 9.7% of revenues. We've been able to increase our adjusted EBITDA margins by leveraging off our fixed infrastructure cost by cost-reduction actions we have taken and cost synergies realized, and most importantly, due to a more favorable mix of revenues with an increase of products base revenues from 30% in 2010 to 51% in 2011. As Eric stated earlier, we have been executing on our strategic plan to de-emphasize the pure services focus to a more specialized and niche product offering which is typically less competitive in nature and typically experiences higher profit margins. As we entered into 2011, our goal was to achieve adjusted EBITDA margins of 12% to 13%, which we met.

Moving to the balance sheet and liquidity. Our cash balance was $69.8 million at December 25, plus $1.1 million in restricted cash. This cash balance does not reflect the payment of $20 million in January for the Critical Infrastructure business we acquired. For the second half of 2011, we generated $27.2 million in cash from operating activities, excluding the impact of acquisition-related items or adjusted cash flow from operations, which was above our expectation of $20 million to $25 million. We did utilize $17.5 million during the fourth quarter to fund the SecureInfo acquisition which has expanded our Cyber Security business and we utilized approximately $11 million to opportunistically buy back two million shares or approximately 6% of our outstanding shares at $5.45 per share.

Our DSOs for the fourth quarter are at 105 days which is above our target DSOs of approximately 90 days. As expected, our DSOs have been impacted by Integral's DSOs, which are higher than our typical DSOs, due in part to the mix of milestone-related payment billing terms and other related terms. We believe that as these milestone-related, contractual payment billing terms are met, we will be able to reduce the Integral DSOs over time in 2012. Similarly, we expect the receivables from the recently-acquired, Critical Infrastructure business, which total approximately $25 million, will also result in a temporary increase in our DSOs. But as we implement our rigorous billing processes and procedures, we expect to be able to reduce the overall DSOs and receivables of that business. In total we view these excess receivables as an opportunity to generate additional operating cash flows as we achieve the contractual billing milestones and we implement our rigorous billing processes and procedures. We currently have an on undrawn, revolving line of credit of $90 million with approximately $21 million of letters of credit outstanding. Our cash on hand today is approximately $50 million, bringing our total available liquidity today at approximately $120 million.

Debt under our outstanding notes at December 25 was $625 million, plus the issuance premium of $22.8 million. Total net debt, net of the $69.8 million, unrestricted cash at December 25 and the issuance premium of $22.8 million was $563 million. As a reminder, there are no real financial maintenance covenants under the senior notes. The financial covenant that comes into play is a fixed-charge ratio of 2.0 to 1, which needs to be calculated upon the incurrence of any new, additional indebtedness. The maintenance covenant under our credit facility is a 1.25 times, fixed-charge ratio which is computed on a quarterly basis.

Our contract mix for the fourth quarter was 77% of revenues generated from fixed price contracts, 14% from CPFF contracts, and 9% from time and materials contracts. Revenues generated from contracts with the federal government were approximately 76%, including revenues generated from contracts with the DOD of 68% and revenues generated from contracts with non-DOD federal government agencies of 8%. We also generated 6% of our revenues from state local governments, 8% from commercial customers and 10% from foreign customers. Backlog at quarter-end was $1.1 billion with $472 million funded.

Moving on to the guidance for 2012. Consistent with previous years, we provide annual guidance and not quarterly guidance due to the choppiness on a quarter-over-quarter basis, consistent with the heavy product mix business. We estimate fiscal 2012 revenues to be $950 million to $1 billion in revenues, and adjusted EBITDA of $120 million to $130 million. As discussed previously, we expect amortization expense to be approximately $36 million for 2012, with approximately $11 million in Q1 and a ramp-down from Q1 to future quarters due to the roll-off of amortizable lives. While we are not providing quarterly guidance, we do expect the revenues in the first quarter will be at or slightly above the level in the fourth quarter of 2011, with a ramp-up in each of the future quarters as shipments are expected.

Pro forma EPS for 2012, excluding amortization, acquisition expenses and using an expected cash pay, income tax provision of approximately $6 million to $7 million, are estimated at $0.95 to $1.25. Using a full statutory 40% tax rate, excluding amortization expense and acquisition expenses, we estimate pro forma EPS to be in the range of $0.68 to $0.88. In addition, we continue to expect to generate free cash flows, excluding acquisition-related items after interest payments and capital expenditures, of $50 million to $65 million a year. This is derived by the $120 million to $130 million of EBITDA, less annual cash interest payments of approximately $62.5 million, annual capital expenditures of $10 million to $14 million, and annual cash tax payments of $6 million to $7 million and a working capital source from the reduction of DSOs previously discussed of approximately $8 million to $13 million, which reflects an approximate reduction of four to six days. As a reminder, our semi-annual interest payments of approximately $31 million on the senior notes are paid in June and December. Therefore, we expect our free cash flow for the first quarters and third quarters to be the stronger, cash-generation quarters as the interest payments are paid in the second and fourth quarters of the year. With that I will turn the call back over to Eric for his final remarks.

Great, thank you, Deanna. To summarize what we've gone through today, as we begin 2012, Kratos is a growing, specialized products and technology-based, national security solutions provider. We are focused on the following national security areas, which make up the majority of our business; its unmanned systems, cyber security areas, C5ISR, electronic warfare, SATCOM, Mil-SATCOM, and critical infrastructure security. We believe that we have positioned the majority of the business in areas where we are either sole-source or single-source provider or where there is very limited competition and where there are extremely high barriers to entry to what we do. I want to reiterate that in 2012, we are forecasting to generate $50 million to $65 million in free cash flow from Ops, with a current share count of 32.4 million. And as we reported today, in the second half of '11, we generated approximately $27 million in operating cash flow before acquisition items, which means we are currently at the run rate to deliver the 2012 free cash flow objective.

I also want to reiterate the valuable asset that we have in the $260 million of NOLs. The vast majority of that came from the commercial businesses we divested years ago. This is going to result in dramatically reduced cash payments for taxes in the foreseeable future, and as Deanna said, these go through 2030. We have a $1.1 billion backlog. The bid proposal pipeline of $3.7 billion. We just came off a 1.2 to 1 book-to-bill ratio in the quarter, and we believe these factors are going to bring predictability and stability to the business model as we move forward into 2012. So with that, I'm going to turn it over to the moderator for questions.

(Operator Instructions) We will take our first question coming from Mark Jordan from Noble Financial. Please go ahead, sir.

Good afternoon, Eric and Deanna. A question, Eric, when we look at sort of organic growth rates, it is very difficult to get a handle on the Company because of all the acquisitions you've done. And as you make acquisitions, there's obviously some lines of businesses that are good and some that are bad; and you've done a lot of restructuring.

If you were to look at the business today at the fourth-quarter run rate, could you run through the various packages of business like the Critical Infrastructure Protection business, the electronic warfare attack, and say what kind of organic growth potential range do you think those businesses have over the next 12 to 24 months?

Sure. So in the Critical Infrastructure business as we talked about, it was north of 10% organically in 2011. As we sit here today, it should be in that ballpark going forward, so let's use round numbers, that's 15% to 20% of what we do. And electronic warfare, electronic attack and certain missile systems, which is somewhere around 20% of what we do, we are winning new work like P8. Older systems, like F-15 and F-16 are dropping off, so that part of the business is relatively flat. Okay. Another approximately 20% of the business is in the satellite communication area primarily related to terrestrial equipment and software. That's a growth opportunity area for us. We think that could probably grow 5% or so, and that's just a function of the number of unmanned systems that are planned. The satellite systems that are going up and some of the stuff I talked about, DISA and what they're looking to do going forward.

The pure cyber area, which is, I'm going to say, roughly 5% to 10% of the business, that's growing strongly. That's going to be somewhere around 5% to 10% pure cyber, and that will include some space-based, cyber stuff that we are doing. We have, as I mentioned, around 10% of the business is in that commoditizing services area. That's about somewhere around $90 million to $100 million now; that has been reducing significantly. I think a couple three or four years ago that was $200 million.

So that's going to continue to come down so that could be coming down 15% to 20%. We're not focusing on it. And the recompete pricing is very, very, very tight. Then in some of the other Legacy, weapons systems sustainment areas, that's flat to down a little bit. That's just a function of some of the budgeting reprogramming. So if you add all that up, we think organically, apple-to-apple, excluding the small business stuff that roles off, we can generate, current budget environment, 3% to 4% organic top line.

Okay. Thank you. Second, Deanna, you gave us some good details relative to the expected amortization charges in 2012. Do you have an aggregate number that we should expect for '13?

Yes, Mark, that should be approximately $20 million.

Okay. And finally, Eric, you haven't really talked about for military sales opportunity. Obviously you had a large win 18 months or so ago with Egypt. Is there any -- do you see opportunity there or do you feel that you're really focused more domestically moving forward?

We absolutely see opportunity there, primarily in FMS and tactical missile systems, like Hawk or Falcon or Chaparral. And additionally, relative to training systems, and this would be for the M1 Tank trainers where we have a significant business right now. As you know, these are typically large wins. I think the last one we won was $40 million or $50 million and the one before that was $30 million or $40 million. But they come a year or two apart. We are tracking a few of those, two or three right now that are real with the current timeline, either late calendar '12 or '13. But as you know, those cases move around.

Okay. Final question, you mentioned the $21 million on the letters of credit out under your bank line. I take it those are related to an [estimate's] performance bonds on the PSS business, and do you look at your line of credit specifically as more vehicle to support that business or do you look at it as something that you might be utilizing for acquisitions? And could you talk about your use of capital in '12?

Mark, you are correct. The $21 million of LCs, that's all predominately related to the PSS business as well as some of our foreign products businesses. So that's what those are used for. As far as from a capital structure standpoint, the use, we continue to expect to use the line of credit to be able to finance those letters of credits and performance bonds.

And to be opportunistic going forward. To be opportunistic. And as you know in the fourth quarter, 2 million shares came on the market that we could take out quickly, we struck. If opportunities like that, unique situations like that occur, we want to be able to strike.

If hypothetically there was a major dislocation in the bond markets for a short period of time, that would provide an opportunity to de-fees certain of those bonds, we want to be in a position to do that, because that would be smart finance and extremely accretive. That's kind of our thinking. We want to make sure we have flexibility where we can turn on a dime very quickly to make the right decision for the stakeholders.

Thank you very much.

Thank you. Our next question is from Mike Crawford from B. Riley. Please go ahead, Mike.

Thank you. In your remarks you talked about this one, high margin, ground equipment enclosure that was expected, I think, to ship in Q4, but now not expected to ship until Q2 or Q3. So one, why would it be as six to nine month delay and two, maybe broader picture, what does that say about our procurement process where things that are needed are getting pushed back so far just based on a protest?

Yes, Mike, and so what is going on in the environment, most severely in the services area, but it is actually now, as you can see, going over into the products area, is as the pie has slowed growth or has stopped growing or is shrinking, we are seeing more and more protests across the industry.

This is one of the first protests I have seen in the products area as far as I can remember back. And it was a protest on a contract vehicle that a customer that had funding was going to use it to get to us for some very specific equipment in the fourth quarter, that we were going to turn very quickly.

As I mentioned in my remarks, it has just recently been denied. The protest was thrown out. The competitor lost. Now it needs to be re-procured. Well, that protest period took, what, 60, 90 days; and the customer's priorities -- I'm not going to speak for him -- but they have changed, et cetera. But that is going to be re-procured, as Deanna said, and it's looking like a Q2 or possibly Q3 event right now. We are sitting here in March, so we're almost out of Q1.

Okay, thanks. And then you did go through the business and these broader segments. I understand -- well, not segments, not the right word. But compartments. But there's some overlap between what you might call UAV or EWVA or C5ISR that includes combat systems. But without -- if you try to put everything in one bucket, is there a way you can do that that gets you up to 100% of that $950 million to $1 billing in revenues?

It is very hard now, Mike, because of the integration we are doing. The integration we are doing is not just from a back-office or a business development standpoint. It is also from a bid and proposal standpoint, and we are now, which is the way obviously when you make strategic acquisitions, one plus one is supposed to equal at least 2.5 or 3, and that is happening.

I will give you an example. We built some very sophisticated, portable, data center equipment that has hardened. That portable data center equipment has very significant security elements on it that another part of our business does. And it has cyber protection elements. So it is crossing over between command and control equipment, where our PSS business is putting on certain security elements, and the Cyber business is also going to be involved in a certain, potential software product. So it is blending.

So I was just giving big-picture answers to Mark to give him a feel that the majority of the business is solid. We have some areas that we believe are going to grow and continue to grow, like the Cyber area and the PSS area and the SATCOM area, and the Legacy Services area has been contracting; and we believe it will continue to contract.

Okay. Thank you. On the backlog and pipeline and recompetes, can you just comment a little bit further on what important recompetes might be coming down the pipeline in 2012? And also in terms of that qualified bids, what are some of the bigger ones you can comment on that you are looking to win?

Right. There's one, large, command and control contract that has to do with satellite ground equipment that is supposed to be up for recompete in 2012. I say it that way, supposed to be up for recompete, because what we have been seeing is because of the protest situation I was just talking about, that bridge contacts are being let, where a contract comes up after a five or a seven-year cycle; it is up for recompete; and you will get a one-year bridge contract; and you'll get another one-year, bridge contract; and you'll get another one-year bridge contract.

So we have one major recompete this year across the Company; and it has to do with command and control equipment for the terrestrial side of SATCOM. That RFP has not come out yet. It was expected to come out, and it has been delayed; and I truly don't know when it will come out or if it will even come out this year. I just don't know. That's tying into your comment on the procurement side. Mike, what was the other part of your question on the backlog?

You have this -- more in terms of the bid and proposal pipeline. That's something you already have, right? Is that what we are talking about on the terrestrial side or is that business that you don't have it?

That one I was talking about was the one recompete; it is business we have that were from other people -- (multiple speakers)

Right. The other half of the question is business that you don't have yet that you are bidding for. Anything major you can talk about there?

There are two that are on the Critical Infrastructure side that are pretty large, pretty large, that are going to be awarded this year. They are scheduled to be awarded this year. They would be single-award contracts. On the couple, we are one of very few bidders. These would be burned in less than 24 months; that's how fast they would be deployed. They are $100 million-plus each.

Okay. Thanks. Then final question relates to the guidance, Deanna, could you just go over it one more time? I thought you said at one point $700,000 of cash taxes paid per quarter, but then I also heard $6 million to $7 million of cash taxes for the year?

Yes, the $700,000 is related to the fourth quarter of 2011, but with a full year of all the acquired entities and just with the tax attributes that we have, we are looking for an estimate of $6 million to $7 million for next year for 2012 on a full-year basis.

Okay, thank you very much.

Sure.

Thank you, and we will take our next question from Yair Reiner from Oppenheimer. Please go ahead, sir.

Thank you. Just a quick follow-up on the last question. What is the anticipated share count for next year that you're basing your EPS target on?

At this point, Yair, we're at the $32.4 million, though we have not anticipated any significant change in that share count with the EPS guidance we've given.

Great. Then in terms of book-to-bill, it was quite strong in the quarter. Just wondering if you can point to any specific contracts that contributed to that nice number?

Yes, the biggest area was in the electronic warfare and the electronic attack area; and I spoke about that program in my prepared remarks. We also had some very significant wins for some unmanned, aerial system, ground control stations and ground control equipment. We had some very nice wins on the command and control side; and this is command and control equipment, command and control electronics equipment.

Our Critical Infrastructure Security business, the bookings there in the quarter were very strong; and I think as you've seen over the past couple of months, they've remained very, very strong. We were just informed today, today we were awarded a very large contract. Hopefully we will be able to put a release out in the next month or so if we can get customer approval, in that Critical Infrastructure area. And so, those are the areas where we've seen a lot of strength.

Then when I think about the guidance for next year and the year two major buckets, kind of the defense side and the Critical Infrastructure, should we think about the Critical Infrastructure being up kind of low double digits and then the Defense business being up marginally; is that the right way to think about it?

I would look at the Critical Infrastructure business to be in the 10% to 12% to 13% growth area. We just came off 11% or so, and the threat profile and the opportunities we see we think we can sustain that from an organic standpoint. And on the government side, we are going to have some areas where we are definitely going to grow. We're going to grow in the SATCOM area. We're going to go in the cyber area. We're going to grow in the UAV area, and we're going to have that area that's going to be down, which is the generic or undifferentiated services area. As I said, it is about $90 million now.

And the biggest remaining piece, I'm going to say it is going to be flattish, which could maybe mean down a little bit or up a little bit. And we're going to have a lot more clarity on that, as is everybody in the industry, once we have the '13 budget resolved, which may not be resolved until after the election or into calendar '13, and the question on sequestration, because there's just uncertainty with customers.

Great. And then my final question that has to do with specifically sequestration. To what extent can you plan or to what extent is the possibility of sequestration changing the way you operate or the way you go about performing due diligence on potential acquisitions? Thank you.

That's a good question. So obviously everything that we are doing in the Public Safety and the Critical Infrastructure business, it's a diversification plan, which as I've said that business is now nearing 20% of the Company. And it is not touched at all by sequestration. So that's a very important data point.

I talked about what's going on on the Cyber side related to that. So this wouldn't be DOD-related Cyber. This would be commercial, infrastructure-related Cyber; and so we are doing the best we can to build up that part of the business. By definition, the way we have put the strategy for this Company together, we are not on to some of the very high profile programs where they could possibly get the money.

Now I know sequestration would call for a pro rata cut across everything. I just personally can't see that happening where you're going to have half of a ship built or half of a tank built. But we are not on things like F35. We're not on the Virginia class submarine. We're not on ground combat vehicle or expeditionary fighting vehicle or where those huge dollars are.

So I think sometimes it is better to be lucky than good. The way we've positioned ourselves is, we are not on any of these large, new programs in any material way. So in my opinion, if sequestration were to happen, which I don't believe it will, but if it were to happen, I just don't think we will take a proportionate hit of another 5% to 8% annual defense cut as some other people might.

Thank you.

Thank you. We will take our next question from Michael Ciarmoli from KeyBanc Capital. Please go ahead.

Good afternoon, guys. Thanks for taking my questions. Maybe just a couple of housekeeping items on the 2012 outlook. Can you sort of give us, Deanna, maybe a revenue breakdown that you are looking for between the product or target between product and services by the close of 2012?

I would say, Michael, I don't have it cut that way, but just off the top of my head I would say it would not be too far from where we were for the fourth quarter, so we were at 54% and 36%. Sorry, 56% and 44%. So I don't see it being radically different from the mix that we just closed on for the fourth quarter.

And Michael, on that, remember of that 44% services, somewhere around 50% of it or just under 50% of it is Critical Infrastructure Security.

Right.

I just want to make sure I break that piece out because that services piece is not your traditional government contracting services. Then on that, part of the -- let's just, for this discussion, cut in half and say it's 44%. 22% is Critical Infrastructure Security. Of that other 22%, a good number of that, like probably 50% of that number, is services related to satellite command and control monitoring, and the Cyber work we're doing and the information assurance work we are doing.

Got you. Okay, that's helpful. And just looking at segment operating margins. Obviously there's some pressure in the quarter on the government side, but you seem to be running in that upper 6% range. The past two quarters, the Public Safety running at about 11.5%. Are those sort of levels sustainable throughout 2012? It sounds like you've got the visibility and confidence where you could even get some leverage where you might see some upside to those numbers; is that fair?

It is fair and the majority of our Cyber business right now is based around product delivery. These are situational awareness products that are embedded in networks that give a real, live picture of what's going on and certain things that are happening. In the third quarter we had a very strong mix relative to product deliveries, including in that area.

The pipeline in that area is as good as it's ever been for this Company. It is really, really good right now relative to these cyber products. But as you know, it is a product; it can deliver a 50% margin, because it is software. And obviously it has the maintenance stream, and so that can leave some choppiness. So in the first quarter, we could have two or three deliveries for a few million dollars; and it can make things look really, really strong; and then Q2, we don't. And then in Q3 -- you understand what I'm saying?

Sure.

So it moves around a little bit.

Big picture, you talked about the bidding proposal pipeline being $3.7 billion. Relative to a lot of other defense contractors, even ones that are situated in, sort of, the C4ISR world, you seem to have much better relative visibility. The continuing resolution, even though contracts haven't really been flowing yet, where are you getting this visibility, this confidence even on a quarterly basis to kind of see these revenues ramping, without any disruptions from future protests or cuts or what might happen down the road in 4Q here with the presidential election and other possible continuing resolution? What is giving Kratos this confidence and this sort of performance versus some of the other players out there?

First of all, I want to talk about, I want to address, what you said on protest. We can't foresee what is going to be protested or what's not going to be protested. We can't foresee that. So we make assessments of what we think could possibly be protested based on the competitive profile and what's not. As we talked about in the fourth quarter, one came out of the blue. I still can't believe it. But it happened. So protests can happen. They can happen more and more and that's just a judgment call that we need to make.

We enter a quarter with a significant amount of that revenue in backlog. It is deliverable. It is product that's under contract, it is going to be delivered, it is going to be produced and delivered, et cetera. We take a look at the bid pipeline and we make decisions on, okay, if we were to win, how quickly can it be turned over? As Deanna said and I've been trying to allude to, more and more of the business, the vast majority of the business, now is product based and product deliverables. And we can schedule those out.

So I'm not sure that we have better visibility than other people in this space. But we take a look at the waterfall. The backlog of the bid and proposal pipeline blends into that waterfall. We put judgment on it, and then we put out what we think we're going to do.

How much of the funded backlog is shippable in '12? Or what percent?

It is probably about 80%.

Yes, I was going to say a lot. A lot of it is. Because it is product based.

Then just the last one here and I will get out of the way. And a lot of things have changed since you put this out, so I won't really hold you to it, but back in June of last year you put out a pro forma with Kratos and Integral Systems for year-end 2012 of $141 million to $145 million in EBITDA and sort of net leverage of 3.4 times.

Yes.

It looks like the EBITDA has obviously come down given the guidance. Is that a function of the Integral side of the house coming down? Or was it Kratos coming down? Or maybe, what were the drivers? And again, I know the defense demand backdrop has changed a lot since then so it could be a lot just market conditions. And if you could just answer or talk to, do you have a net leverage target by the end of 2012?

Right. At our last conference call for Q3, we addressed that EBITDA thing in very explicit detail, where after we closed on Integral Systems, we sat down with Integral Systems and Herley; and we took a look at their product offerings; and we took a look at where the market was moving for the command and control equipment, for the electronic warfare equipment and for the SATCOM equipment. And we said on that call that we were going to make in 2012 a significant IR&D investment.

And accordingly we were going to take down our EBITDA for 2012 from what we had thought before and the EBITDA margin rate. So that is a primary item that's addressing the $140 million down to mid-$120 million to $130 million. It is a conscious decision we've made and we talked about some of the programs. And I could go through those in detail with you off-line of what we're looking at and where we are going. A good amount of it has to do with space-based, cyber-related products. It has to do with -- I'm not talking about the program here, but I'm talking about the concept, the next-generation jammer, and AMDR.

Perfect. Do you have a leverage target for the end of the year?

We just look at it mathematically, that if we have the hand of cards that we have, and if we have net debt at the end of '11 of around $550 million, which is what we said, and if we can generate -- let's pick the midpoint. Let's say $55 million in cash, so let's say we drive that $550 million down to something like $490 million, $495 million, after free cash flow generation.

In the high $300 millions.

Yes, so high $300 millions.

Okay. That works. Perfect. Thanks, guys.

Thank you. Our next question is coming from Jonathan Richton, Imperial Capital. Please go ahead.

Good afternoon, Eric and Deanna. Speaking of the R&D, did you guys give what you expect to spend R&D in 2012?

We did not provide that on the call, but I can give you that number. It is roughly about $20 million for 2012.

Okay, and split evenly through the year would be the best way to do it? Or is there any quarter -- (multiple speakers)

Yes, that's probably about right, Jonathan.

Okay. Then speaking back to the point of using the cash opportunistically. What capacity do you have under your credit agreement to buy back bonds?

Under the credit agreement?

Yes. Is it open and there's no limitations?

The only limitation is that, after any buybacks that we have available liquidity of $25 million after the transaction.

Okay, there is no limit of like [carvel bucket] or anything. It's just as long as you have that liquidity or that cash you are good to go?

That's correct.

Following up to that, I know the question has been asked on the last call, when the bonds were trading around par, at what point are you looking for and you see the situation as really, really accretive, is it when the bonds go below par or is it when they come back off to where they were, that's when you will start thinking about it? Just because, they really haven't gone below that.

No, but in my compared remarks you heard what I said, Jonathan. I said, in case that there's a serious, temporary dislocation in the market, so something crazy happens in Europe or something crazy happens in the Mid East, and the bond, I think they are, like, at $108 or $109 or $110, right now.

Yes.

And they trade down significantly, probably well below par, that it may make all the sense in the world to try to buy some of them back.

What would be the plan for the cash in 2012? Continue to see if there's a [right] acquisition comes across or -- (multiple speakers)

The primary plan ties into what Michael just said. It's to net-down the debt and de-lever; that is the absolute primary plan. We are going to generate those free cash flow numbers, as Deanna said, and this is very, very important, we made some great transactions with that Critical Infrastructure business and the Integral Systems business with the amount of cash that is on their balance sheet in Receivables that is going to be collected on milestone schedules, tens of millions. And that's in unbills is going to be converted and going to be billed. It's going to flow into this Company.

So we are going to generate that cash this year. The primary plan is to net-down the debt. And we are going to continue to be opportunistic as far as acquisitions, which is one of the reasons why we took out those bonds. It is permanent capital. It's seven-year paper. It gives us the flexibility to be opportunistic and move quickly to, for example, what we've done in the past six months, we've built our Cyber business and we've built our Critical Infrastructure business. And as that bill is on the Senate floor right now, that is converging and we are positioned to take advantage of it.

Okay. Then lastly, I was wondering if you can maybe just give us some color on which area of the business you have the most concern for? Just if things slow down a little bit more than expected, where do you see the biggest impact happening?

I think it would continue to be in that traditional services IT program management area. That is an area that has been under siege for three years. It continues to be under siege. If you take a look at the 2012 budget, it is continuing to be under siege. And if you take a look at the 2013 request, it is all there, so that is the area, but we've identified it.

Thank God we identified this three years ago. It is not a significant part of our business right now. We have zero major recompetes in that area this year. None. They were all the last two years, which is great. So that's the area.

Okay, great, thank you very much.

Thank you. We will take our next question from Tyler Hojo from Sidoti & Company. Please go ahead.

Yes, hi, good evening. Just firstly, what is the amount of merger and acquisition expense that's included in the 2012 guidance?

There are no merger-related expenses that are included in the guidance.

In our guidance we have assumed zero acquisitions.

Okay. But the expenses associated with SecureInfo and, what was it, the Critical Infrastructure business that both had been announced in last couple of months?

Yes, so the SecureInfo merger-related expenses, those would've all been included in our fourth-quarter P&L, so there are going to be some merger-related expenses related to the Critical Infrastructure business that will be posted in the first quarter.

Okay. Got it. And just in regards to Herley and Integral Systems and it looks like you had about 1.5-month contribution from Secure. What did those add in the fourth quarter in terms of revenue?

That was that number that I provided of the $122.4 million, I believe. Those were all the acquisitions in 2011. And those that did not have a full quarter's impact for 2010, so that would've included a full quarter of Henry Brothers as well. So it would have included Herley, Integral, Henry Brothers, since we acquired them in mid December of 2010, and SecureInfo.

So it did include SecureInfo. Okay.

Yes, yes.

Great. And maybe if you could just talk about the two most recent acquisitions. What's baked in the 2012 guidance in terms of contribution from those?

Right, so as we'd talked about when we announced those acquisitions on the Critical Infrastructure business, I think we said we were looking for a contribution this year of somewhere around $35 million or $40 million.

Okay.

That's the one I think we paid $20 million for, not including the $25 million in Receivables they had.

Right, okay.

And on SecureInfo, I think it was around $19 million or $20 million, something like that.

All right. So nothing has changed since they've been announced. Okay. Great.

That's correct.

Just one more clarification. I'm a little bit confused. When you are talking about adjusted free cash flow. What are you adjusting for? What might be helpful, if you just provide kind of a GAAP cash flow from operations expectation for 2012?

Right, so what we mean by it is, it is excluding primarily the merger and acquisition costs, and so basically what it is -- (multiple speakers)

But those are at zero, right?

There's going to be some for IR for the first quarter.

IR closed in Q1.

For the Critical Infrastructure business, yes.

What is that expense that's being adjusted?

It is the merger-related expenses. So from a GAAP perspective, GAAP now requires you to expense merger-related expenses in operating cash flow.

So it's like bankers.

I understand that, but what I'm trying to figure out here is what is that expense?

How much, are you asking?

Yes. Sorry.

We thought you meant what type of cost they are. That should be no more than $1 million. It should be less than that.

Okay, it is really negligible.

Yes, but we think it is important to be able to point that out, that it does not include.

Okay, that's very helpful. And just one last one. I don't know if you provided this or not, but what is the funded backlog? I think you just provided the total backlog.

No, I provided funded; it is $473 million.

Okay. Thanks a lot.

Sure.

We will take our next question from Bhakti Pavani from CK Cooper & Company. Please go ahead.

Hi, Eric. Hi, Deanna. Actually, most of my questions have been asked, but just a single housekeeping question. I believe the CapEx for this year was $7.5 million?

Yes.

So what would be your expectations going forward in 2012?

Yes, in my prepared remarks I had given a range of $10 million to $14 million for FY '12.

Okay. I'm sorry I missed that.

No problem.

Okay, that's it. Thank you.

Thank you. I'm showing our final question from Josephine Millward from Benchmark. Please go ahead.

Hi, Eric; hi, Deanna. Sorry about earlier. Most of my questions have been answered, just a quick one. Did you give depreciation for fiscal-year '12?

I do not, but that's about $14 million for the year.

Okay. Also do you expect any small-business revenue to roll off in '12?

No. As I had said in my prepared remarks, Josephine, the last small-business roll-off that we were expecting was in first quarter of '11. So we do not expect to see that going forward.

Great, thank you so much.

Thank you.

I'm showing no further questions. I would like to turn the conference back to your host for any concluding remark.

Thank you very much for joining us this afternoon and this evening. We will be circling back up with you at the end of Q1. Thank you.

Ladies and gentlemen, this does conclude your conference. You may now disconnect and have a great day.