Leidos Holdings Inc (LDOS) 2010 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the SAIC second quarter fiscal year 2010 earnings conference call.

I will be your coordinator for today.

At this time, all participants are in listen-only mode.

We will conduct a question-and-answer session toward the end of this conference.

(Operator Instructions).

I would now like to turn the presentation over to your host for today's call, Stuart Davis, Senior Vice President for Investor Relations.

Please proceed.

Thank you, Shamika, and welcome, everyone.

Here on today's call are Ken Dahlberg, our Chairman and CEO, and Mark Sopp, our CFO.

During the call we will make forward-looking statements to assist you in understanding the Company and our expectations about its future financial and operating performance.

These statements are subject to a number of risks and that could cause actual events to differ materially.

And I refer you to our SEC filings for a discussion of these risks.

In addition, the statements represent our views as of today.

We anticipate that subsequent events and developments will cause our views to change.

We may elect to update the forward-looking statements at some point in the future, but we specifically disclaim any obligation to do so.

With that, I will turn the call over to Ken.

Thanks, Stuart.

Good afternoon everyone.

As you can see from our press release for our second quarter, it marked another quarter of steady, solid execution that I firmly believe has become our Hallmark.

We are navigating well in a relatively tough environment, based on our good positioning and aggressive posture in the market.

Mark will provide color on the financial details in a few minutes, after I describe the market dynamics and our key business drivers.

We are reasonably optimistic about the prospects for passage of the Government FY 2010 budget with only minimal periods of a continuing resolution.

With other pressing topics such as the health care debate, there is a lot on the Congress's agenda when they return next week.

The appropriations process seems to be on track and the mark ups are generally consistent with the President's submission earlier this year.

Earlier this summer, Congress passed the FY 2009 supplemental.

Although the bill was somewhat delayed, which pushed back some awards, the funds are now flowing.

That supplement supports our critical work MRAP as well as intelligence, surveillance and reconnaissance.

Besides the overall level of spending, the two biggest potential market drivers are the evolving trends on organizational conflict of interest, or OCI, and Government insourcing.

On the OCI matters, the DOD should issue guidance in response to the Weapon Systems Acquisition Reforms Act shortly.

Some customer organizations, such as the National Reconnaissance Office, are moving out aggressively to define their own OCI guidelines.

We expect this will lead some companies who have significant businesses with these customers to divest work that creates conflicts with their strategic direction.

But most of our customers and competitors are taking a wait and see approach until the final DOD guidance is published.

So it is still too early to tell the ultimate impact of the OCI issue.

For the areas in doubt, we as a company are studying our businesses and preparing our approach.

Depending on how the guidance is written, there could be a substantial reshaping of the competitive landscape, as most large contractors have a mix of development and advisory work, with the intended firewalls and OCI mitigation plans.

In this case, we would expect to both acquire, and divest businesses and participate on both the development and advisory side depending on the customer.

The road ahead could be bumpy, but ultimately we expect clearer OCI language to be a net positive for our company, since we are platform independent services and solutions providers.

On the topic of insourcing, at the end of July, Office of Management and Budget Director Orszag directed agencies to cut their contract spending by some 7% over the next two years.

In a series of three memos, OMB directed agencies to accelerate insourcing of inherently governmental work to restore a proper balance between federal and contractor employees on government programs that rely heavily on contractors, and to share contractor performance reviews with other agencies.

Although the insourcing trend provides headwind to the entire contractor base, we believe there are some positives in the approach being articulated.

First, OMB is appropriately focused on the front end of the procurement process, second, OMB calls on agencies to cut spending on cost base contracts by 10% in 2010.

Transitioning cost reimbursement contracts to fixed price contracts, once the needs and costs become clearer should provide the right incentives for both government and contractors and could lead to better profitability if we can manage work efficiently.

And third, the insistence on agencies properly reporting and check contractors past performance should reward those who performed best.

Later this month OMB will issue further guideline that define what is inherently governmental work, when it is appropriate to outsource work, and when it is appropriate to use different types of contracts.

We see some evidence of insourcing pressures across our federal Government business base, but there are certainly no clear trends as yet, either by customers or type of work.

We will continue to monitor this trend and expect that the September memo may provide some urgency.

To date, insourcing is relatively minor to our overall picture.

In fact, our involuntary attrition rate is a scant 9.3%.

We lost about 200 people to the Government, a few more than in the second quarter of last year, compared to 1700 new hires in the quarter.

Now let me move on to the business development.

Bookings in the second quarter were $2.3 billion for a book-to-bill ratio of 0.8, which is lower than our first quarter this year and second quarter last year.

We ended the quarter with $16.3 billion in total backlog and $5.6 billion in funded backlog.

Compared to the end of second quarter of fiscal year 2009, our total backlog actually increased 2%.

Our current book to bill ratio and backlog growth numbers reflect the impact of what I believe are three main factors.

The booking pause that is a normal part of the start of a new administration, a lengthening of the federal procurement decision cycle, due to all the added scrutiny on potential contractor conflicts of interest, and as importantly, more reviews to protect against protests, and finally, a reluctance among our commercial clients to commit to new design build contracts.

I think the most significant of these factors is award delays arising from the start of the new administration.

To date, the administration has filled less than half of the senior policy making jobs, requiring senate confirmation.

So many of these key posts remain vacant or are occupied by temporary stand-ins who often have limited power over the direction of pending procurement activities.

We do expect, though, that as the administration gets more of its key people in place, the current bookings clause will moderate, leading to an upturn in our bookings and backlog.

At the same time, the backlog of pending federal contract decisions is building.

And substantial federal moneys must either be spent or forfeited.

The obligation of the federal stimulus funds must also be accelerated very soon in order to achieve their intended purpose.

For all of these reasons, we believe our bookings and backlog will improve in Q3 and Q4 and expect to meet a book to build target of nominally 1.1 to 1.2 for the year.

We have reasons to be optimistic about Q3 and Q4.

We are achieving noteworthy win rates on both recompetes and new business.

And we have a mountain of submitted proposals awaiting decisions.

We have won all of our $50 million-plus recompete opportunities so far this year, and have achieved a stellar 96% total dollar win rate on all recompete business.

We've also earned about a 60% total dollar win rate in all new business we sought to capture.

As of early August, our submitted but undecided proposals for standard contract, and task order bookings totaled a whopping $8.5 billion, compared with $5.1 billion at the end of the first quarter.

By the way, this excludes bids outstanding on IDIQ contracts, where the trend is very similar.

We believe we should have some near-term bookings with the second extension of our Nasa UNITeS contracts and the communication engineering effort for the MRAP all terrain vehicles for state war.

We continue to see benefits from our One SAIC approach to winning larger opportunities.

We won six opportunities valued at more than $100 million each in the second quarter.

We now have a robust 166, $100-million plus opportunities in our pipeline compared to 137 a year ago.

Moreover, 70 of those 166 large opportunities have an expected award date within the next two quarters.

While Q3 is still young, we have already scored wins on five $100 million plus opportunities along with ten more wins valued at $50 million plus.

The stimulus package continues to present large opportunities for our company.

Despite getting off to a slow start, stimulus-related opportunities are finally beginning to move through the federal acquisition cycle.

We expect to win $100 million in stimulus awards by the end of this fiscal year with a potential for far more next year.

The key areas of opportunity for our company includes smart grid, energy efficiency, infrastructure, homeland security, health and environmental.

We are also expanding our opportunity pipeline in capture activities in several market areas that have especially promising growth potential.

You heard me talk about them before, energy, cyber and health.

We have established strategic campaigns around these areas and are investing heavily around them.

Combined, we have built an opportunity pipeline in this high growth markets that exceeds $11 billion.

Since our last call, the acquisition decision memorandum on Future Combat Systems came out.

And it was essentially in line with our views expressed on the last call.

But we took a hard look at FCS as part of our review of backlog, which drives our bookings.

Because we have conservatively hedged the forward outlook for some time now, the FCS backlog remain unchanged at about $1 billion.

Essentially, the portion of the lost main ground vehicle component that was not hedged, was offset by growth in the program that our customers already approved.

Again, we still believe that it is likely we will participate in at least the first spin outs of new capability packages to the brigade combat teams, which would be a future contract award for us.

Now transitioning from internal growth drivers to our acquisitions, I am pleased that we were able to close two deals since the last call, in areas we see as very attractive.

The larger deal, RW Beck Group, builds out our energy and homeland security offerings.

Its core business, which is a little over 100 million in annual revenues, serves utilities, government entities, financial institutions and other commercial customers in the energy water, waste water, and solid waste industries.

And brings us tremendous capabilities in energy grid technology, capital program management, and water and waste management.

RW Beck also contains an emergency management business that provide all hazards mitigation preparedness, recovery, and reconstruction services to state and local Government agencies nationwide.

Not only does this unit round out our Homeland Security offering, but it provides a new sales channel into the state and local customer arena.

This piece of business is highly variable, based on the level of disaster activity.

The second acquisition which was small, but well-known in the testing and certification market, which we think is critical to growing demand for Cybertools.

It is called Atlan, and Atlan provides federal information processing standard validations to accredit cryptographic software and hardware.

We think it is a key acquisition.

We also continue to dialogue with several candidate companies in order to leverage our strong balance sheet.

We see energy, health and cyber as fruitful areas and will entertain acquisitions and divestitures driven by OCI concerns that I talked about earlier.

Finally, shortly after the last call, the Department of Justice joined a [Keytan] lawsuit claiming that SAIC and a small subcontractor met with senior officials within the Government to thwart the competitive process, and direct work to our company.

Although some of the head lines reported a $3.2 billion figure, we booked about $115 million on this contract.

Also, there were no concerns raised about the quality of our work, and in fact we were awarded a follow on contract with a new government review board.

I encourage all to read the source materials.

When we first became aware of the concerns on the original contract, we did our internal due diligence and also had an outside legal review.

In addition, after the Department of Justice joined the lawsuit, we engaged an independent legal review by another law firm.

Based on what we know to date we continue to believe the Government's legal claims lack merit.

Unfortunately, it could be years before this matter is resolved.

Also as with any litigation matter, many factors including the results of pretrial discovery and pretrial motions can affect the ultimate outcome of this case.

Now these types of cases in their resolution are critically important to me and our company, because we are committed to maintaining the highest ethical standards which our reputation is built upon.

With that, I will turn it over to Mark for the financial details.

Mark?

Thanks, Ken.

Second quarter results were in line with our expectations, with balanced performance in revenue growth, strong operating margin improvement, and generation of cash flows.

As today's earnings release indicates, compared to the second quarter of last fiscal year, internal revenue growth totaled 7%, operating margins grew 60 basis points and operating cash flow increased about $120 million.

Now I will get into some color on those results.

Revenue growth was particularly strong in our defense logistics area and our traditional defense solutions area.

Our largest single contributor to growth was the continued ramp up of our POLCHEM logistics contract, which is now running at an annualized rate of around $150 million.

Revenues under our future combat systems, FCS contract, held stronger than expected, due to a delay in the partial termination associated with the manned ground vehicle efforts, and heavy material buys on continuing d parts of the program.

We saw continued strong internal growth in other systems engineering, integrations and IT programs in the defense community and benefited from the ramp up of the recent Cyber awards in the intelligence area, and the IT integration work we're doing for the US central command hub.

In addition, we are now seeing more growth in IT infrastructure work for the Department of Homeland Security, and more work in our military health technology services area.

Despite these growth areas, as expected, our aggregate internal growth rate came off the double-digit pace we have seen in more recent quarters.

There were three primary contributors to the slower growth pace.

First our MRAP communications integration contracts slowed in the second quarter, as deliveries under that program were completed.

We expect further erosion in growth for that operation, by new work on integrating electronic [skier] on the new MATVs, the all terrain MRAPs.

Second, we have seen a buildup in outstanding proposals as award decisions have pushed to the right, as Ken mentioned earlier.

This inhibiting growth on expected new starts.

This is particularly affecting our intelligence business area, where an unusually high number of awards have been delayed, some pushing to the right as many as 18 months.

Despite that condition, our proposal centers are extremely busy, our bid and proposal costs are substantially higher and our new business pipeline is healthy, all factors that should increase new work in future quarters as long as the government procurement decisions get back on track.

Contract type mix was unchanged sequentially in the second quarter, but shifted more toward fixed price from the last year's second quarter, due to growth in our fixed price logistics business.

Labor mix came in at 57% of revenues, down from 61% in the year ago quarter.

This trend reflects strong subcontractor and materials activity under our fast growing logistics business, the materials on the FCS program, and the overall higher mix of larger systems integration contracts across the intelligence and defense communities.

Operating margins improved to 8%, up 60 basis points over last year's second quarter.

This is nice progression toward our full-year goal, particularly considering the heavier volume of higher margin security product shipment scheduled in the second half of the year.

Consistent with the last few quarters, we had excellent contract execution, with good fee performance and efficient absorption of SG&A costs, which ran at 5.8% of revenues.

That said, within the SG&A expense category, bid and proposal costs and internal resource and development costs together were up almost 20% year-over-year, reflecting an ongoing commitment to fueling long term growth.

Also contributing nicely to profitability improvement was our commercial business.

Where margins exceeded 10% on a leaner cost structure, and higher margin project IT revenues.

We also benefited from a reduction in litigation costs compared to last year, which contributed about 15 basis points of year-over-year margin improvement.

Interest income was negligible as we remain invested in Government insured securities or treasuries where yields are near zero.

The tax rate was consistent with the first quarter and just above 38%, favorable to last year's Q2 of 40%.

Last year's rate was higher than normal due to the nondeductibility of litigation costs experienced in the second quarter.

We bought back about 3 million shares of stock for roughly $50 million, bringing down Q2's average fully-diluted share count to 388 million shares.

Diluted earnings per share from continuing operations totaled $0.31, up a healthy 19% over the prior year.

Moving on to cash flows and liquidity, we had a strong quarter on billings and collections, yielding a days sales outstanding metric of 64 days.

Despite the strong DSO, we compared unfavorably to the year ago quarter's operating cash flows as we had an extra payroll cycle in year's Q2, the timing difference impacted about $150 million.

The reverse of this happened, you might recall, in the first quarter of this year.

Accordingly, on a year-to-date basis, the number of payroll periods is the same this year versus last year, but as you can see, the operating cash flows in this year's first half are more comparable but improved over last year's first half.

Ending cash totaled about $950 million, and our credit statistics continued to improve, we are continuing to delever the business.

The cash balances remain fairly static all year, reflecting solid free cash flow generation of about $250 million coupled with deployment of that cash toward share repurchases.

Before moving on to guidance, I want to call your attention to the enhanced disclosure we will be making in this quarter's Form 10-Q, regarding our government contract auditor, the defence contract audit agency.

We are seeing, as many other contractors are, more rigorous audits, and the standards to which we are held are more interpreted more strictly.

We are certainly dedicated to fully meeting all regulatory and compliance requirements, but investors should understand that our cost of compliance is increasing, and the risk of having adverse findings has increased.

On that note, I will quickly cover our outlook for rest of the fiscal year.

Year-to-date internal revenue growth, year-to-date is currently 9%.

Our submitted bids outstanding value has grown with delayed decisions, we hope that corrects and fuels second half new starts.

We also continue to ramp up in the second half on POLCHEM, the CentCom IT contract, and the larger Cyber contracts that we have won over the past counter.

Offsetting those growth drivers we should see the reduced scope of the FCS contract take effect in the second half.

Another challenge to the internal growth would be the recent acquisition of RW Beck Group, which we completed just at the start of our third quarter.

As Ken mentioned earlier, part of this business has quite variable revenues.

As excited as we are about the capabilities and prospects that the acquisition brings to us, we expect the Beck Group to have materially lower revenues in the last half of our fiscal year post acquisition compared to their same period the prior year.

This was due to a very busy hurricane season last year, which drove unusually high revenues in Beck's disaster recovery business.

We do not expect currently that to be repeated this year at least so far.

Since we include the revenues of acquired companies for prior year periods in our baseline to calculate internal growth, Beck's expected lower revenue this year will adversely impact this metric.

Specifically, we expect about $90 million less in revenue for the rest of the fiscal year compared to Beck's results over the same period last year.

While we expect our core internal revenue growth rate to be within our targeted 6 to 9% range for the back half of the year, the addition of Beck could adversely affect the enterprise internal growth rate by as much as 3 percentage points in the third quarter, and a projected 1 percentage point for our full fiscal year.

Importantly, the valuation and acquisition purchase price was based on the lower revenue level that this year's expectation is projected to be.

Combining all of those factors including the effect from the Beck acquisition, we are still comfortable with achieving our enterprise targeted internal growth goal of 6 to 9% this fiscal year.

Obviously, we're just making it more interesting this year.

Our operating margins are tracking to our plan as the drivers for higher profitability are occurring pretty much as expected.

Heavier security product shipments, especially in the fourth quarter, should sustain margins around 8% plus for the second half, yielding full year growth of 20 to 30 basis points over last year.

Our projected revenue growth, operating margin growth, a reduced diluted share count, and not a lot of volatility in the nonoperating and tax areas yields a growth and projected diluted EPS from continuing operations to be within our annual growth goal of 11% to 18% over last year.

We expect our two recent acquisitions to be EPS neutral.

Thus, at this point, all three of our guidance metrics, internal revenue growth, operating margin improvement, and earnings per share growth are on track to achieve our stated long-term goals this fiscal year.

Finally.

our operating cash flow model of taking the result of projected net income plus depreciation and amortization is also tracking well for this year.

Risk does increase this time of year reflecting the risk of timely passage of the appropriation bills for the new Government fiscal year starting October 1st.

As Ken mentioned, we think we are in pretty good shape in this regard.

We also maintained there's risk of billing and/or collection disruption from our more rigorous regulatory audits, but so far, we have managed well through that challenge.

In sum, our P&L outlook is consistent with what we set out to do this year, the balance sheet remains strong, our cash flows visible and we expect to continue to deploy cash on sensible acquisitions and stock repurchases as opportunities are created and/or presented.

With that, I will turn it back to Ken for concluding remarks.

Thanks, Mark.

Before turning to our questions, I just wanted to see how pleased I am we have found the leader to succeed me.

This will be my last call, and I look forward to transitioning to the Chairman role when CEO Walt Havenstein joins the team on September 21st.

I am sure you are all looking forward to meeting Walt.

His first exposure to the Street will be at our annual institutional investor conference set for the 13th and 14th of October, at our offices in McClean.

The feedback from past events has been universally positive and this event promises to be even better.

The conference will follow the same basic schedule as past years.

On Tuesday afternoon, we will have the technical demonstrations of some leading products and solutions fumed by dinner with the senior management team.

On Wednesday morning, we will have management presentations with a special focus on our capability positioning and strategy in the energy markets.

Now we all recognize a substantial time commitment on your parts, but the Tuesday session is especially rewarding.

The demo showcases our technical discriminators and most of our senior team will attend the dinner.

If you are at all interested in attending this year's conference, just give Stuart a call or send him an e-mail.

With that, Shamika, we are ready to take questions.

Thank you.

(Operator Instructions).

Your first question comes from the line of Bill Loomis of Stifel Nicolaus and Company.

Please proceed.

Thank you.

Good quarter.

I guess you are talking about future combat starting to decline in the second half.

Then you have the headwind with the RW Beck optics hurting organic growth by 3%.

You are keeping the metric in place, can you just quantify what kind of drop off in terms of revenue, what was that CS revenues in the quarter and how do you see that progressing over the next few quarters, it seems like it is a less hit than I would have thought or you are winning more business or ramping up more than I would have anticipated as well.

We like the latter.

Through is second quarter, our revenues were the $80 million range to give you a sense of that.

Thanks for the remarks on the quarter.

The SCS did hold much longer through the second quarter, revenues were in the $80 million range, to give you a sense of that.

We project once the full effect of the reduction in scope takes effect that we are on the pace of roughly $250 million per year, down from roughly 300 million per year today, and there's some variability quarter to quarter based on material but that's the rough order of magnitude and that's really consistent with what we said on our last call.

How complete are the negotiations with the Army, how confident are you in that $250 million number?

We certainly I think are confident about it for this year, and into next year.

The negotiations are just getting underway.

We did receive an acquisition decision memorandum and we are fully cooperating with Boeing and ourselves as we attempt to restructure the contract or create a new contract.

That's still in the TBD condition.

This assumes no role in the restructured manned ground vehicle?

The manned ground vehicle won't be a part of the restructured or new contract.

It will be a separate contract that the Army is working diligently on right now.

And do you plan to participate in that as well?

You broke up, Bill.

Do you plan to participate or bid on that, portions of that as well?

It is doubtful that we would participate in the manned ground vehicle effort.

Okay.

Thank you.

Good quarter.

Thank you.

Your next question comes from the line of Jason Kupferberg of UBS Securities, LLC.

Please proceed.

Thanks.

Good afternoon, guys.

Wanted to start with a question on the margins here.

I know you reiterating the 20-30 bps of year-over-year prompt, but half way through the year you are up I think about 50 basis points, that implies flattish year-over-year performance in the back half.

I know you have the VACA sales teed up to accelerate in the second half similarly as you did last year.

But are there other factors here that would leave margins flat year-over-year in the second half and flattish with where they were in the second quarter, especially since the product sales are picking up, or is there just a little bit of conservatism there given that we are going to a new fiscal year and some of those factors?

We are doing well in the first half of this year versus the first half of last year for all of the reasons we have articulated on both calls, the margins in the second half of the year are fairly consistent, year-over-year.

And there was similar effects of the improvement in margins in the second half versus the first half on the security products business.

We are expecting a tiny bit of dilution in margins from the acquisitions, that always happens with the purchased intangibles getting started.

We also expect heavier B&T in the second half of had this fiscal year compared to the second half last fiscal year.

This is Mark, as we have always said as we built our strong logistics business, as that revenue climbs, that is not as profitability as the products business.

So blended, we do believe we are on a 20 to 30 basis point improvement year-over-year.

Okay.

That's helpful.

And just to circle back, on a question regarding the lawsuit that Department of Justice jumps in on, as you guys highlighted, how should investors think about potential worst case scenarios here, understanding the legal situations are very hard to handicap and everyone always wants to get a sense of what the down side risk here is, understanding that from your perspective, it seems like the case seems to be without merit.

I think it is too early for us to make any kind of predictions as we progress, if we can garner more information we can provide more color on that.

But at this point, our independent reviews and internal due diligence believe the case has no merit but having said that.

the process has to unfold.

Last question, can you update us on the expected gross and net savings from project alignment and from the Deltek implementation in fiscal 2011.

Have either of these initiatives been disrupted by the COO departure you had back in June?

Jason, Mark here.

The projects continue on schedule as planned.

There is no disruption from the departure of the COO.

The aggregate off structure savings annualized for project alignment is $100 million.

We have been consistent with that and we think we are tracking with that.

And we actually think there's some upside to that.

But we are doing well on those initiatives.

I don't think we get the effect of that in fiscal 2011 but a good chunk of it and those activities will continue with the fiscal 2012 and I think by and large we will be done at some point in that year.

Okay.

Terrific.

And Ken best of luck.

Thanks.

Thank you.

Your next question comes from the line of Laura Lederman of William Blair and Company LLC.

Thank you for taking my questions and Ken, my congratulations on having done such a great job during your tenure at SAIC.

Anyway, moving on to questions, can you talk about how much of the business conceptually will be at risk from insourcing?

I am not quite sure how to view that and get my head around it from say a three year, five year perspective.

Can you also talk a little bit about the stimulus and what positive you are seeing there as well?

And final question, acquisition pricing, where is that trending versus let's say a year ago versus six months ago.

I would say to my earlier comments, we are getting our arms around my customer, what side of the business we want to be on and what we currently have, so it would be premature for us to talk about that until we see what the DOD interpretation of Reform Act.

But be advised we are being prepared and we will be ready to react once our client guidance comes out.

As I said, we could be an acquirer and/or a divester depending on what side of the business we want to be on, advisory or development.

Stimulus, we are now starting to see and have been bidding very actively mainly in the energy arena DOE and other agencies.

Energy efficiency types of contract.

We expect to get maybe roughly $100 million in awards by the end of the year, and I think the administration has got metrics on every agency as to how much stimulus money that they're responsible for, where is that in the pipeline, is it being more in RFPs, et cetera.

So we are just starting to sew a pent up amount of activity in that area.

That's why our expectations is next year we could have significantly more stimulus related awards.

Acquisition.

I think, you meant, Laura, by that, are people now becoming more realistic about what their businesses are worth, is that correct?

Yes.

It is spotty.

Certainly, we got a fair deal with Atlan and RW Beck.

We continue to pursue vigorously to leverage our balance sheet when we believe we have deals that are are strategic as well as are either neutral or positive as far as earnings per share.

The trend I think is getting better but it is a little early.

Once again, thank you much.

Thank you.

Your next question comes from the line of Joe Nadol of JPMorgan.

Please proceed.

Thanks.

Good afternoon, Ken my congrats as well as on your pending retirement as CEO.

First question is, just I want to flesh out in your director comments some of the delays that you spoke about.

The real reason you attribute it to was I guess slow nomination and confirmation for the major positions.

Is there any reason to believe that the outlook is going to change enough in the second half where you're going to see contracts come through or do you think other factors are going to help sort of clear the lodging here a little bit?

I think it is going to be a combination.

I think clearly the administration is doing their best, going through the vetting process.

It doesn't help when Congress is out but the activity should pick up again, and frankly, the health care debate is taking a more front and center Congress's time as regard to them confirming candidates.

But I think there will be some more momentum there because the administration does have to fill those vacant slots.

There could be some expiring moneys, so that I don't think there's any agency that doesn't want to commit to funds that if they don't would expire by the end of the fiscal year.

So in all categories, and we've begun seeing that early in Q3.

The logjam seems to be breaking and we are seeing more adjudication of these contracts.

Is it fair to say that the next couple of months, in other words, the remainder of the quarter is the make or break on the logjam breaking up in order to achieve your organic growth expectation, your long term organic growth expectations for next fiscal year?

I think it is very important.

So we will evaluate our success on that front, in our next conference call and it will be baked into into our forward view.

Clearly, we're at the end of the government fiscal year here, we are expecting decisions to be made in the third quarter.

We could handle it if it leaks into the fourth quarter as long as the new budgets are in place and recovered from there, and still have our targets attainable next fiscal year, but a lot will be decided in these next months, for sure.

Okay.

Remember we in the last two years, we have had book to bills in Q3 in the 1.5, 1.6 range and we would certainly expect that kind of behavior again.

As we were going to say seasonally, Q3 is one of the largest book-to-bill quarters.

Ken, on the OCI front, some of the rules are getting, new rules are getting interpreted, and some of the customers are starting to make put downs, the rules as to how they're interpreting the new law on conflicts of interest and there's rumblings of businesses at least one coming for sale, what are your thoughts on what kind of opportunities there might be as the landscape shifts here for FCIC?

As I said in my remarks, overall it is a positive for our company once it is sorted out because we are not a big iron provider, we're platform independent, but we do cover the gamut from ceded to solutions providers.

So depending on the customer, our strategy and the market size guidelines come back, that you have to be fish or fowl we need to decide what side of that fence we want to prosecute.

You have been waiting for the strategic acquisition opportunities for a few years and you have done a lot of smaller ones you haven't done the bigger one, do you think this might be the, the opportunity that they're, that the catalyst that finally drives the opportunity into your lap?

It could be one of them.

The other is they were just too expensive.

Right.

But if supply increases, presumably pricing would take a hit as well.

That's if you are normal.

Okay.

And then just a final numbers one, Mark, on you gave FCS numbers, I am wondering on MRAP, you mentioned you expected a pickup from MATV?

Just wondering if you could quantify what you did in the quarter on MRAP all-in, and then what you're looking at in the back half of the year.

What I said was that the MATV would prevent further erosion of the decrease we are seeing in our original MRAPs communications gear integration contract, and I think we've said in previous discussions that our peak revenue under the original program was in the order of $40 million, and going forward under just the MATV program, should we win that?

It is on the order of 20 to 30 at its best, as far as we can tell now, so roughly a halving of the pace on an apples to apples basis, one program versus the other.

That's something you are still waiting on here.

We do not have official notification of any award on MATV at this time..

Having said that, this whole MRAP effort that's started with getting those protected vehicles into the hands of our soldiers has built a tremendous call for our company and platform integration, especially quick react capabilities.

So we are taking those kind of tenants and trying to find ways we can expand knowing the capabilities we built.

Okay.

Thank you, gentlemen.

Thanks.

(Operator Instructions).

Your next question comes from the line of Cai von Rumohr of Cowen & Company, LLC.

Please proceed.

Yes.

Thanks, so much.

And let me join the others, Ken and congratulations on a job extraordinarily well done.

Thanks.

Quick question on, maybe clarify I guess you talked about 6 to 9% organic growth.

That 's including acquisitions pro formaed from last year or excluding acquisitions?

Good question, Cai.

What I was trying to articulate is that we have 6 to 9% of our core business before the acquisitions in the second half, the new acquisitions in particular would dilute that by the numbers I shared.

But that all said, on a full year basis, we still expect to achieve our targeted 6 to 9% range all in.

Okay.

If you are 6 to 9% before the acquisitions, whether the acquisitions are up or down year-over-year, they're not in the prior year results, so what you are telling us is the reported revenue growth is likely to be better than 6 to 9% in the second half.

Is that correct?

I'm not sure I follow you.

What I would ask you to do is the last page in our release shows the calculation of internal growth, and when you see how we reflect newly made acquisitions into our base period, you will see the effect of how a decreasing revenue scenario would occur when you apply our company that came off of a hot year and expecting lower going forward how we would adversely affect our internal growth rate this year.

But I wanted to clarify the core business still is performing strongly in the second half.

That's 6 to 9 with some dilution from the acquisitions but still all in on pace for the year.

But the total revenue growth would be higher with the acquisition.

Of course.

Okay.

And then your tax rate was lower again in this quarter I think your guidance last time I remember was something like 38.8.

What do you expect the tax rate too be in for the year this year?

We expect it to be 38 flat to 38.5.

Okay.

And then taking your comments on direct labor, it looks like direct labor in the second quarter from the first, normally it is up.

Is that reflective of the delay in new starts?

Absolutely.

And are you seeing, I assume by what you are saying you are starting to see the pick up.

So what kind of a direct labor ratio should we expect in the second half?

We expect improvement but I don't want to quantify that number.

The materials and subs are more volatile over a shorter period of time.

We do expect to move up labor as the new wins come in, and as Ken said, we had a nice pace out of the gate here in the fourth quarter, which will drive labor growth forward.

Okay.

Terrific.

Thanks so much.

You're welcome.

Your next question comes from the line of Tim Quillin of Stephens Incorporated.

Please proceed.

Good afternoon, nice results.

I just have three maybe detailed questions but on the FCS contract I understand that you expect it to go from a quarterly basis from $80 million to let's say $62.5 million, how should we expect the timing of that quarterly progression, in other words, when would we see that quarterly drop-off.

We expect to see it during the course of the third and fourth quarter.

Throughout that period and getting to that,.

To a real run rate.

Some time in the fourth quarter.

You talked about the comparison, but what is the revenue contribution you expect from the Beck acquisition as well as Atlan?

Atlan is not significant but the Beck acquisition is on the order of $100 million annually.

On the lower base of hurricane activity which is implicit and this year's projection.

Fair enough.

And just lastly, and Mark, you may have mentioned this somewhere along the line, I think you mentioned the margins in commercial were about 10%, but what was the revenue level on the commercial business?

The one number, bear with me for a second.

You will see it tomorrow in the Q.

About $120 million.

Okay.

Thank you.

There are no further questions at this time.

I would like to turn the call back to management for closing remarks.

Thank you, as there are no questions I guess that will conclude the call.

If any of you have interest in attending conference, as Ken mentioned just give me a shout.

And with that again, I would like to thank you for your participation.

Thank you for your participation in today's conference.

This concludes the presentation.

You may now disconnect.

Good day.