ManTech International Corp (MANT) 2012 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. And welcome to the ManTech second-quarter fiscal year 2012 earnings conference call.

At this time all participants are in a listen only mode. Later we will conduct a question and answer session and instructions will follow at that time. (Operator Instructions). As a reminder this conference call is being recorded.

I would now like to turn the conference over to your host, Stuart Davis, Executive Vice President for Strategy.

Thank you, Huey, and welcome everyone. On today's call we have George Pedersen, Chairman and CEO; and Kevin Phillips, Executive Vice President and CFO. Lou Addeo, President and COO of our Technical Services Group, will describe our $2.85 billion TACOM award. Terry Ryan, President and COO of our Emerging Markets Group, will provide an update on our health care IT initiative. Finally, Bill Varner, President and COO of our Mission, Cyber & Intelligence Solutions Group, will bring us up to speed on our cyber business. The whole team will be available for the Q&A session.

During this call we will make statements that do not address historical facts and thus are forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to factors that could cause actual results to differ materially from anticipated results. For a full discussion of these factors and other risks and uncertainties please refer to the section entitled, Risk Factors, in our latest Form 10-K and our other SEC filing.

We undertake no obligation to update any of the forward-looking statements made on this call.

Now I would like to turn the call over to George.

Good afternoon and thank you for participating in today's call. Yesterday's announcement that Senate Majority Leader Harry Reid and House Speaker John Boehner have reached a deal to keep government funded for six months should help resolve the budget uncertainty for ManTech and our industry.

The funding deal will keep the government spending at current levels through March 2013, meaning the base defense budget would remain at $518 billion. This deal also removes the threat of a government shutdown when the fiscal year ends September 30. Both Chambers of Congress will likely vote on and approve the resolution in September. This is extremely good news for ManTech.

During the second quarter we were awarded the largest contract in our history, a $2.85 billion Contractor Logistics Sustainment and Support Services for the U.S. Army, where we provide logistics sustainment and support for the MRAP Family of Vehicles.

Further procurement activity has increased in the last quarter, which indicates that our customers are planning to fund key programs. We have $6 billion in bids outstanding, and a total pipeline of $29 billion, and we anticipate there will be contractual actions in the range of $7 billion beginning in the third quarter, continuing through the end of the year.

Awards in July include DISA's Joint Interoperability Program and ground support for the Marine Corps Cougar vehicle fleet.

Compared to the last quarter revenues were down 6%. Earnings were down 3%, reflecting the delays in contract awards and tasking that the industry has experienced. We believe that there has been a certain amount of holding back on funding until the last-minute agreement by agencies. This will now change given the new appropriation funding agreement.

We believe that because of our focus on cyber security and other key sophisticated technology we will be -- we will benefit from increases in funding for some of the key national security programs where we have recently won significant new contracts and are experiencing good growth.

We also have another $3 billion in opportunities in cyber and health care that we expect to be adjudicated in the next 12 months. We continue to identify and attempt to acquire firms that will strengthen our position in cyber, health and other markets that will become a high priority. Because of our strong balance sheet we are capable of continuing to grow through acquisitions.

We think our position on the battlefield in Afghanistan has stabilized and will gradually decline; that the key systems that we support worldwide will be required regardless of the Afghanistan outcome. The systems currently in Afghanistan will be relocated to other countries and sites currently being evaluated.

We have seen basic changes in our customers' missions in the past, and we transitioned at that point in time to new and expanding marketplaces here and around the world. We believe we have the technology, strength, the cash flow and market position to continue to grow and adapt to change. Most important, we have the financial wherewithal in terms of our cash and a $500 million line of credit to adopt any new markets, and that is what we intend to evaluate and make the appropriate decision.

Now Kevin will provide details on our financial performance and outlook.

Thank you, George. Quarterly revenues of $639 million included growth in our cyber security and intelligence business and growth through our recent acquisitions in health care, cyber and intelligence IT. Despite the sequential drop in revenues, direct labor grew for the second straight quarter, driven in part by the ramp-ups in new programs such as FBI COMPS and AMBIANCE.

FBI COMPS ramped as expected and received additional ceiling beyond the original $70 million award. AMBIANCE is ramping up more slowly than expected, but our performance is excellent and the customer has funding and a long-term plan to use the contract to its full extent.

This growth was offset by industrywide decreases in wartime support and slowdowns in other customers, primarily an Army C4ISR as a result of budget uncertainty. This effect was felt most strongly in material and subcontractor flows on S3, which contributed $143 million in the quarter compared to $265 million in the quarter a year ago and $170 million last quarter.

There are a number of imminent opportunities on S3 that we are well-positioned for, and the Army ISR buying activity will increase given the early announcement for 2013 funding.

The MRAP and route clearance support contracts contributed $143 million in the quarter, which is virtually the same as last quarter and the second quarter of 2011. Our standard revenue breakout remains roughly constant compared to last quarter, 88% of our work came as the prime contractor. We greatly value the prime position we have worked to position ourselves and as a prime contractor over the last few years.

At the same time many of our customers are placing greater emphasis on small business goals. So we are joining more small business teams. We will prime when we can, but we are positioning so that we can participate as certain customers move more work to small businesses.

Also, 46% of revenue came from cost-plus contracts, 36% came from time and material contracts, and 18% from fixed-price contracts. The mix will continue to move towards cost-plus, although some of our customers are actively looking to implement fixed-price contracts. On net we expect T&M contracts to be less than 20% of our business exiting the year.

Operating profit was $44.9 million in the quarter. Operating margin of 7% was up 20 basis points from last quarter, as we had a better labor mix and some high award fee determinations as a result of excellent program performance.

These positive developments offset a $1.8 million marketing and development investment in HBGary, which funded increased efforts for our newest acquisition. We expected to incur the startup costs and we will trend towards profitability over the next several quarters. The nature of commercial product acquisition is that it takes time for bookings to translate into revenues. HBGary is well ahead of its bookings plan and we expect to generate strong, long-term returns.

Net income for the quarter was $24.7 million and diluted earnings per share for the quarter was $0.67. Earnings were affected by an effective tax rate that was more than 1 point higher than the second quarter of last year. This year we are receiving less benefit on certain tax credits than anticipated.

Now on to balance sheet and cash flow statement. Operating cash flow for the quarter was once again strong at $39 million, or 1.6 times net income. Days sales outstanding were 73 days, down 3 days from last quarter.

Capital expenditures were $2 million for the quarter, which puts us on track for our normal level of $10 million to $15 million for the year. During the quarter we built our cash and equivalents balance, pending at $125 million, even after paying $24 million for HBGary, $7.8 million in interest, and another $7.8 million in dividends.

As noted in today's press release, the Board has authorized the next quarterly dividend payment of $0.21 per share, which will be paid on September 21. We generated strong cash flows which allows us to simultaneously support organic growth, diversifying acquisitions, and our ongoing dividend program. In periods of uncertain funding we believe it is essential to maintain a strong balance sheet, and ManTech has one of the best in the industry.

Turning to business development. Bookings for the second quarter were $3.1 billion for a book-to-bill ratio of 4.8 times. The bookings' total includes the full amount of the $2.85 billion TACOM award, which we have been pursuing for almost two years now. Lou will provide a fuller account of the award and MRAP route clearance business later in the call.

Backlog at the end of the quarter stood at $4 billion and funded backlog was $1.4 billion. Because the TACOM award is currently under protest, we have included only the initial funding increment of $248 million in our backlog.

During the quarter we also received a prime position on the Chief Information Officer-Solutions and Partners, or CIOSP-3, contract from the National Institutes of Health, a $20 billion government-wide acquisition contract for GWAC. Because it is a multiple award contract it is not included in bookings or backlog. Terry will describe the importance of this award later in the call.

Although there is continued uncertainty around timing of awards, procurement activity remains heavy. With the $3 billion TACOM award now out of the pipeline, bids outstanding are at $6 billion, and we have replaced TACOM with a host of other opportunities to keep the total qualified pipeline steady at $29 billion. From that pipeline we have $7 billion of opportunities that we expect award dates in the second half of 2012.

On our 2012 outlook, we have been operating in a very different environment than we anticipated coming into the year. Funding uncertainty has caused our ISR customers to slow the use of their existing backlog or capacity. Some customers are renegotiating options years at lower funding. That said, we are seeing continued demand for our service, and our direct labor is not declining, in fact, it has increased in the last two quarters.

Given that backdrop, we now expect revenues to be about $2.7 billion. There is variability of about $100 million up or down from that based on ODC volume. We have received mixed inputs on the flow of year-end funds, which contributes to the variability. We expect a more aggressive ramp on AMBIANCE and strong awards in the second half of the year.

The Continuing Resolution announcement gives us some comfort around the guidance. At $2.7 billion on the top line we expect net income of $105 million and diluted earnings per share of $2.85, with operating margin for the year around 7%. There should be less variability on earnings and revenues given the level of ODCs and the major -- those being the major swing factor.

Now Lou will provide more detail on our recent TACOM win. Lou.

Thank you, Kevin. The MRAP CLSS award was a great win for the team, and we are proud to continue this mission-critical work. This win is a testament to the stellar performance in support of the program for seven years, and our people have been instrumental in protecting lives of the Nation's warfighters.

CLSS was a best value procurement, and the evaluation criteria in order of importance were -- transition risk, cost and past performance. This was an extraordinary competition. They were ultimately six bidding teams representing the entire market space, which tells us that our competitors believe, as we do, that this work will endure beyond our presence in Afghanistan.

One of the unsuccessful bidders has protested the government's award to ManTech. We expect that the protest will be resolved by the end of September. Until the protest is resolved we will continue to execute under the bridge contract. Once the contract is in place it becomes a go-to contract for MRAP and new clearance vehicle sustainment. This offers the potential to consolidate support from other contractors over the next two years, which will sustain or even expand our support above the current [$515] million annual run rate.

In fact, we are already seeing this play out. Last week we were awarded a $30 million contract to provide maintenance support for the Marine Corps Cougar variant, over the next two years. This is a first -- our first direct win with the Marine Corps for sustainment.

Terry.

Thanks, Lou. Good afternoon. Last quarter I mentioned Evolvent's billion-dollar win of the Air Force CATS IDIQ. We are now seeing a steady flow of task order requests on that program. The CATS contracting shop is highly efficient and they're making awards in as little as a week after submittal, so we foresee reasonable adjudication activity in the third quarter.

Since the call we added another important health care vehicle for our arsenal, the $20 billion CIOSP-3 contract with NIH. The contract has 10 task areas which cover a broad range of professional IT and support services, including health, health science, biomedical-related IT services to meet scientific, health, administrative, operational, managerial and information management requirements.

The contracts require health, biomedical, cyber and large-scale IT development and integration skills and experience, which fits well with the combined Evolvent and ManTech teams. ManTech can now take the strong health care IT capability that Evolvent built, serving mostly DoD health customers, to NIH and other federal health customers at Health and Human Services.

In addition, as the GWAC title suggests, this contract can be used to acquire IT solutions across the entire federal government. With GWACs like CIOSP and Alliant becoming more important, we have set up a GWAC center that will enable us to drive business through these vehicles from all organizations across the Company.

So we have been in the health care market for a little over two quarters. We remain excited by the potential. Over the next year we are expecting more than $1.1 billion in health care adjudications, and we look forward to layering in another acquisition to build a significant, high-growth, high-margin health care IT business for ManTech.

Bill.

Thank you, Terry. We have seen growth in our cyber business, although it is not immune to the current budget or political reality. As Kevin indicated, HBGary is ahead of plan, and we expect it will be a source of margin upside beginning in the fourth quarter. Over time we will augment the world-class cyber defense products of HBGary with enhancements supported by both corporate [IRAD] and additional acquisitions.

Our AMBIANCE customer has reiterated the commitment that this contract is the primary integration contract for all analytical modernization efforts, and we expect more work to flow to this contract. We are 100% staffed on AMBIANCE, and growing every week as the customer adds work.

Moreover, this contract is at the heart of some of the customer's most compelling technology imperatives, including cyber, cloud computing and data analytics. I am confident that we will reach the full ceiling on this contract.

In addition, we are seeing significant opportunities across our broader intelligence business, most obviously at our support of the FBI's Criminal Justice Information Services, where we are providing operations and maintenance support to one of the world's largest data centers. ManTech is sustaining systems that support millions of requests each day, including when police check the license plates of every car they pull over or look for a fingerprint match against the largest biometrics database in the world. ManTech also runs the FBI's Security Operations Center, making us one of the FBI's most important industry partners.

Back to you, George.

Thank you, Bill. We have tried to provide insight into the current marketplace and its impact on future revenues and earnings. We have a superb technical staff with the highest technical credentials and security clearances. We can serve our customers here and around the world, and we look forward to continuing to do so at increased levels.

Thank you. We are ready for additional questions.

(Operator Instructions). George Price, BB&T Capital Markets.

The first thing, I just wondered if maybe you could go into a little bit of detail on AMBIANCE ramping more slowly than expected. If the customer has funding, I guess, why has that contract ramped more slowly?

George, thank you. This is Bill. We believe it has ramped up just a little slowly than we anticipated just because of the difficulty of issuing all the task orders that the customer needs to issue. So they are coming to us one by one. As I mentioned, we are 100% staffed for all the work that we have under contract. And we're looking forward to even more growth on the program as we go through the rest of this year and the remaining four years on the program.

So, again, you don't see any -- I mean, do you think you're going to be at the run rate you anticipated exiting the year?

We should be very close. This is not unusual at all to see a little bit slower than anticipated activity on a contract of this size. It just takes a little bit of time to get everything in place and get everything going.

Okay. Second question, Kevin, you discussed in the release that you were addressing ManTech's indirect cost profile to match the scale. I was hoping maybe you could give a little bit more detail around that -- you know, actions, timing impact, that sort of thing?

Sure. We have -- it is kind of three parts. We have worked to align the businesses -- I think we have talked about this in the first call -- with each of the organizations that both Lou, Bill and Terry run. And we also followed with that on reviewing in depth where different indirect functions should be housed and run so that we would have clear lines of authority for that.

And with that complete, we are now going through the process of reviewing what those indirect costs are, what actions we need to take to align it to the business base. And we're basically in the process of working through that over the next few weeks, so that as we execute 3, we think we will have taken a fair amount of the actions needed to realign our indirect structure towards the business base that we have.

And what -- can you talk at all about quantifying that, and maybe how we should think about seeing that impact the results in the second half from a timing perspective?

I wouldn't speak to specifics. I would say that G&A -- if you are talking about gross margin and G&A within the operating income of 7%, I think gross margins will be about 14.4% and G&A will be about 7.4% for the year. And as we head into 2013 we should expect that 7.4% to decline, but for this year those are good measures that you should use.

Okay, last question. I wanted to ask with regard to the comments on systems in Afghanistan being relocated to other sites. And, obviously, I am assuming that largely, maybe not exclusively, but largely it refers to MRAPs. And I guess based on what we have heard the consensus really is that MRAPs are not going to be brought back but will be demilitarized in theater. I am wondering what you think about that and how that would impact your outlook for the MRAP work?

This is Lou. So I believe that -- a couple of things. One, we don't really know when the full measure of that declining, if you will, support occurs. And there are a number of opportunities that are derivatives of the family of MRAPs and sustainment in general.

There are a number of contracts that will be sent out in the next year or two that -- for Army Prepositioned Stock. There are a number of contracts that currently exist right now. So absent the current mission, which we still believe is going to go on, there will be opportunities, and the Army is pretty well-prepared through the Army Materiel Command and Army Sustainment Command to decide what to do with not just MRAPs, but any of the equipment that leaves theater.

I guess the net, net of it is as we look at our business there is a detailed strategy that consist of current sustainment and maintenance. It talks about and it looks at repositioning of MRAPs and other equipment. It looks at larger contract vehicles that come out of TACOM and Army Sustainment Command. And they are fairly large and they are robust. So we expect to see those in the next few years.

Okay, great. Thanks for taking my questions.

Tobey Sommer, SunTrust.

I was wondering if you could talk about the process that you're undergoing to maybe look at some more commercial acquisitions, whether in cyber or kind of efforts to get more commercial customer or civil customer exposure, and what the puts and takes our on that specific strategy? Thank you.

This is Bill. Thanks very much for the question. And clearly we wouldn't disclose particular acquisition candidates we are looking at. But what I can tell you is that so far in the commercial cyber business HBGary has been a big success for us. Product sales are up nicely. We are actually seeing additional synergies that are caused by having the HBGary products closely associated with our ManTech Services business. So we are actively looking at other companies to round out our solution. We believe this is going to be a growing and increasingly successful story for us.

This is Terry on health care. We absolutely are looking at commercial activities. We see a lot of synergies going on right now in the commercial health care. With the federal health care, a lot of that is being driven by the new Health Care Reform Act. And so we certainly are looking at those areas, and both on the provider and the payer side. And so we can continue to look forward to pursuing those things and how they align with our government services business.

Thank you. From a -- just as a follow-up, from a strategic standpoint and thinking about valuations, are there any parameters that you're constraining yourself by, whether it is accretion versus dilution when looking at augmenting those elements of your portfolio?

It is Kevin. On the primarily services side, if you think of health care that may be a service component, we are looking to focus on an accretive acquisition, and on the cyber model, more solution-based.

As you can tell, our goal is for the first year to end up with accretive acquisitions, but make sure that the timing works with the team to have that 1 plus 1 equal 3 on the solutions, so that we can take our capability, their capability and go to market on a much more rapid scale.

So that is basically the goal is to have accretive acquisitions. I think, on the software side within cyber it is going to take a little over two, three quarters to do.

Okay, just two follow-ups and then I will get back in the queue. Kevin, when you mention accretion, at what level are you talking about accretive EBITDA, EPS, what have you?

And then secondly, and lastly I guess, is the tax situation uncertainty or -- and political uncertainty -- I guess you could pick your dimension of uncertainty -- decreasing or increasing the likelihood of being able to consummate deals in the back half of the year? Thanks.

We will be EPS accretive. And obviously, George has been in the business a long time, and we look very heavily at the overall investments itself on the EBITDA side. And from the tax position I don't see us changing a strategic direction and initiative around that uncertainty. It is the market itself and the long-term view around the market.

All right, I guess I was referring to whether the gap between buyers and sellers in terms of pricing expectations is narrowing or widening as a result of the uncertainty regarding taxes?

I would say that there are more deals that aren't getting done because of that, and there is a realization coming together around that that is likely to happen between now and the end of the year.

Thank you very much for all the color.

Brian Kinstlinger, Sidoti & Company.

I realize the new MRAP contract is now on cost-plus, but I am wondering if you can talk about pricing and volume on the new MRAP contract versus the bridge contract? So you are still under that -- will we see a drop when that new contract starts in both volume and price, is that what you're talking about?

Well, this -- [go ahead on].

On volume the answer is no. If anything on the services side the requirements have increased. The fee, post with the new one, will be slightly declined. We have other businesses that are ramping up on a holistic basis that we think will offset that within ManTech. I will let Lou answer any other questions.

I think you got it.

And so in addition, you're talking about the vehicles moving out of Afghanistan, have you already seen that happen or is that what you are expecting to happen down the road?

Well, we haven't seen it happen. In fact, there is no clear evidence of that happening right now. We are still sustaining the mission. In fact, we probably increased our direct labor a lot more than we had expected over the past two quarters. That has been offset by some ODC declines, so the labor is a good thing.

But we are tracking along with whatever the government suggests where the material will go. And as I said before, there are contract vehicles that support that, but there is work in theater and the mission continues.

Okay, now if I look at the second-quarter revenue numbers, I think on your last call you thought they would be a bounce back, and you mentioned some of the factors that caused the revenue shortfall.

I guess, how much is AMBIANCE, how much is ISR, how much was new contract awards you expected to be awarded? Maybe just break it down for us because it was a sizable miss, at least towards expectations, and so maybe you can help us understand.

The majority of the driver, I would say all of the drop, plus some of the upside is on the non-OCO or ISR activity where we have capacity on certain contracts and task quarters, now the government's buying habits have changed to where there is a delay or drop in some of that.

And, again, I think that they are hedging a little bit on the funding, but it is likely they will pick that up, because they still have the funding to obligate between now and the end of the year, but there is uncertainty around that.

AMBIANCE and other new contract award ramp-ups also contributed, of course, and then delays in awards. But the biggest single driver was the non-OCO ISR drop, which is material in ODCs.

Great. And then when I look at your revenue guidance it suggests $50 million more on average than second-quarter revenue. But bookings so far this year have been pretty minimal outside of recompetes. So maybe you can tell us what is behind the confidence in the improved revenue, instead it in spite of these bookings trends?

well, we have programs that we have already won that are to ramp up. We also have capacity on existing contracts where the procurement patterns have gone down, but they still have the funding that they have to spend.

And, again, what we are seeing are some customers looking to obligate funds -- it is spotty, but looking to obligate funds where they won't have to spend that money. And we think that that is going to support ManTech and others in our industry, frankly, in the second half of the year, because it is not to their advantage not to obligate funds that are 2012 funds.

Great. The last question I have. We have seen at least one of your competitors do a couple of accelerated share repurchases, and it has added a lot of shareholder value. Is that something that -- and I realize the dividend that you are paying. But is that something that the Board has thought about? Is it something they are serious about or is the balance sheet, which is pretty strong right now, mainly going to be used for acquisitions and dividends?

The Board does talk about all forms of capital deployment in the ordinary course, and we still come to the conclusion that the best use of cash to support organic growth is targeted strategic acquisitions that position is for long-term growth in the future and a limited but reasonable dividend program. So we think that the overall mix that we use for our cash is appropriate.

Great. Thanks so much.

Michael Lewis, Lazard Capital Markets.

Hey, Kevin, I was wondering if you could break down the EBIT contribution from S3 and Counter-Mine OCO work in the second quarter?

Counter-Mine work in the second quarter was -- is going to be in our Q somewhere around 6.8%, I believe. But the ISR work was actually a little bit -- not higher than the average, but higher than it was in prior quarters because of the ODC and material costs.

So the 7% overall is driven more from the drop in OCO -- non-OCO-related ODCs, which increased our margin, but the MRAP return to Q2 was consistent with Q1.

I am sorry. I thought you were looking for something else. Kevin, one more question for you. As we look at the acquisitions that you have in the mix right now, what did they contribute to revenue in the quarter?

And really just the qualitative questions have been all been asked, but I think it is a question that is on a lot of people's minds. I am wondering what would have precluded you from pre-releasing these results earlier, considering that we had -- we are seeing another guidance guide down? Thank you.

So for acquisitions in the quarter they contributed about $23 million out of the total. In terms of preannouncement there is a lot of volatility in the market and every time we work through guidance we provide a best estimate. And it would be more confusing in our opinion to go and provide more data during a time that there is a lot of uncertainty rather than less.

And given that a lot of this drop was material and ODC-related and not impacting the bottom line, we felt it appropriate to wait until the call and we had more visibility on what is happening within Congressional budgets and funding to provide you an outlook for the year.

Okay, that is fair. One more question for you. You did break down non-OCO C4. What was the revenue that you pulled in versus your actual plan, so that we can kind of see that delta there?

What I would say is that the drop for the quarter, and again for the prior year, about half of that drop is related to non-OCO-related activities. And if you look at historic spending patterns in the funding available it should not have declined at that level.

So you can take a look at that and see that it is a fairly significant drop quarter-over-quarter, year-over-year that is largely impacting our topline growth in the quarter and the year.

Okay, thank you so much.

Glenn Fodor, Morgan Stanley.

George, the 2012 guidance continues to assume a healthy ramp sequentially in revenues over the next couple of quarters. So given your expectations for when dollars are unlocked by the government, should we expect to see that ramp evenly for the second half of the year or more weighted towards say the fourth quarter?

It is Kevin. It is going to be dependent on the timing of the obligations. It would start sometime, in our opinion, in September but push more into the fourth quarter. I think the government is moving actively to find locations to obligate and then they will start to spend.

For the moment, we are expecting that they are going to fund through a Continuing Resolution, which is a significant improvement over what we had been expecting up to this point in time. And if they do a normal CR they will spend at last -- in the next year at last year's level, and that again would be a positive thing for us.

And the announcements that have come out in the past 24 hours we see all of that in terms of the nature of the funding, the format, CR versus whatever -- it is all very positive.

Okay, thank you. And then just one question on sequestration. Understanding how difficult it is to predict this, I am just curious about how you're developing your long-term strategy for your Company, are there actions you can take now to better position yourselves to grow once any cuts do or do not take place?

In terms of sequestration we are looking at the entire defense budget, not just at sequestration which, as has happened in the past, led us to look at different marketplaces, and we are doing that. We're doing that in terms of health. We are looking at that in commercial cyber and a variety of other things. But if indeed that Congress goes forward with what is now being reported we see our defense and the overall budget markets being very positive for us.

All right, thank you very much. I really appreciate it.

Gautam Khanna, Cowen and Company.

I think, Kevin, you made a comment earlier about how it is to the advantage of the government customer to obligate their funds by September. I'm just wondering, given some of the descoping of work and the like you have seen, if you think it is actually possible just given perhaps the backlog of work that they could actually do so, and then we do get the flush, but if you are seeing any evidence through July that an acceleration is close at hand?

I will provide a comment, and let the others add in. We are seeing some customers who have basically been holding on funds working to find the right vehicle to place funds. So I do think that is a pattern. And if you look historically August/September have seen spikes in obligations as a norm anyway. I don't think that is going to change within the government.

So it is spotty, but we do see some customers with some funds that they are trying to flow. And we think capacity of some of their contracting officers, they just do it, and the existing capacity on some of our contracts is there to help put funding on it. You want to add anything?

This is Lou. I will just add that to that effort relative to S3 work is one example. Whether or not they are obligating or anticipating or will re-use there is $155 million's worth of S3 procurement submitted already, and close to $800 million in S3 proposals under way. So if the government makes decisions, and they are moving fairly quickly on implementation after they adjudicate, we could see things change.

One thing, again, I have to ask ahead of our sequestration. You obviously have invested an enormous amount of time over the past month or so learning all of the ins and outs of sequestration and the downside potential, which was enormous.

If indeed that does not happen, it takes the biggest uncertainty out of our planning strategy. And we obviously hope that the Congressional leaders have found a way around sequestration, so that the marketplace will return to a more steady-state situation as opposed to we may be out of business tomorrow.

Do you have a sense -- I think last quarter I may have asked it, but has there been any increase in sort of the lack of escalation being given on existing contracts? Any more widespread occurrences of this?

And I just wonder if we have actually reset so that even when things clear up and there is more certainty, good or bad, we just have kind of a new regime where you don't get the same kind of price escalation that we have had in prior years? Any evidence of that?

It is Kevin. We are seeing more negotiations occurring, but I would say that it is not always escalation, it is the total obligation. And in that case many of the customers recognize that they have to reduce expectations, and that may require people with less years experience versus the ones they have today, things like that.

So there's a lot of that discussion going on to say for the price that you feel that you have going into the next year, what is the mix of staffing that you really need to service?

Fair enough. Thank you.

Bill Loomis, Stifel Nicolas.

Kevin, what was -- you talked about several times growth in direct labor. How much of that was organic versus what the acquisitions brought? I know you didn't have a lot of acquired revenue, but obviously what you bought has good direct labor.

Yes, so quarter one to quarter two the majority of the acquisitions we had have been through that entire period, so the Q2 growth, HBGary is more of a development play, so it is not going to have a huge amount of DL, so most of that is going to be organic.

Okay. And Evolvent, I mean, that added -- when you talked about growth in direct labor were you talking sequentially or year-over-year?

Sequentially.

Okay. And then on MRAP are you still looking for like $550 million or so for the year. Has that changed at all?

It has not.

Okay. And then if we back out the MRAP contract and get about roughly $250 million of awards outside of that, how much of that was new versus re-compete?

About 70% was new or add-on work.

Okay. And then -- so just to follow on to somebody else's question, you have had $6 billion in awards outstanding now. We have got two months to go before the end of the fiscal year when a lot of the funds have to be obligated. Yet you have also seen -- talked about de-obligations or defunding, is that correct?

I am just trying to understand why when the customers are -- acquisitions, organizations are so stressed why they would take funding off a particular program when they have so much to obligate here apparently in the next eight weeks, because even (multiple speakers) go ahead?

To be clear, they haven't worked to de-obligate funds, they have not used the funds or capacity available.

Okay.

So that is more of a wait and see attitude, but they have the capacity to utilize it versus negotiating a reduction in the overall contract itself; they have not done that.

You're not seeing any descoping of existing work?

No.

And then -- so when do we have to see a pickup in awards, because it seems even more back-end loaded this year than we would normally have? And obviously if we look industrywide there has been a lot less obligations period, so a lot of things have to rush. What are the options do you think you could see -- just ceiling increases on existing programs, is that an option to obligate funds before the end of the quarter?

Yes.

Yes, Bill, this is Terry. Usually you will see the added ceiling, the six-month CR -- you know, given we have 88% of our contracts we are the prime, I think during the six-month CR we are potentially going to see more add-ons to existing contracts given the rules and regulations around the CR and new starts.

I do see the uptick though potentially in the fourth quarter, because a lot of what has happened over the last three quarters, it is more -- the delays are more involved around, I would call it acquisition reform churning. A lot of these acquisition offices are stressed out because of the guidance by Secretary Carter to go multiple award type of contract. It has really pushed these things off one or two, maybe in some cases three quarters. So there is a huge catch up.

If you listened to Secretary Carter's comments today on the Hill, he said business as usual, we are going to continue to acquire and secure the way that we always have. And we are expecting to see more procurements pull out in the fourth quarter because they don't want to leave unobligated funds out there at the end of the fiscal year.

Okay. And then just finally on pricing. You mentioned, and I have heard this from other companies as well, about customers pushing to stretch dollars so they are going to less experienced or changing labor categories and so forth. How prevailing is that? I know you had mentioned it, but how big an issue is this?

We have not seen it in a large swath of our business, but we are seeing it in more and more pockets is the best way to put it. So it is not across the entire spectrum of our business, but it is becoming more systemic for them to look at and use for negotiation.

And is that a valid answer? I mean, is that -- I know it is early on this trend but have you had specific programs where you have -- the customer has not been happy with the new lower rated labor that has come into the contract?

I think they have had to agree to negotiate towards that in order to meet their own objectives in terms of the contract negotiation. So we haven't seen them say they are dissatisfied with the results of the negotiations.

Okay. And then on M&A how big would you be willing to make on a commercial acquisition, whether health care or in cyber? How aggressive would you be?

It depends on the potential market for the technology in that area. And we look at organizations that have a relatively low amount of revenue, and some of these could be substantially above hundreds of millions of dollars with potential. We have looked at those in the past.

So we could see a several hundred million dollar commercial acquisition potentially; you wouldn't rule that out?

I would not rule that out. It depends upon the potential and the current status of that organization's product and also their contractual vehicles. We run all of these models the same way; it has got to be accretive.

Okay, thank you.

Tim Quillan, Stephens Inc.

On the Counter-Mine contract what is the current mix between DL and ODCs?

Well, it has been roughly 50% plus materials. Obviously, there is more mix going on towards labor, but it hasn't been so large to shift the overall mix. It is a matter of a few percentage points, not like 40% or anything.

Okay. So now that we are at a point, I guess, where we can see all of -- almost all of the revenue from the Counter-Mine contract in your 10-Qs and see what the margin is, so is that [6768], is that pretty much the same as it was a year ago?

No, a year ago it was running somewhere around [7778]. So it is down a percentage, because it already had part of the contract moving towards cost plus.

Okay. That is all I have. Thank you very much.

Robert Spingarn, Credit Suisse.

George, I wanted to ask you a question. You just touched on sequester and how impactful that could be. Based on last -- yesterday's news on this potential six-month CR, how do you think about sequester in that framework, since my understanding is it itself is not impacted by this? But somehow there has to be some relationship between the two events because they both would seem to govern, if nothing else, the first calendar quarter at the same times. How do you think about that?

Exactly right. There are two different actions. The main thing for us, from my point of view right now, is we got the Continuing Resolution to continue. There was some thought that nothing would be done on the CR or the appropriation bills until they resolved sequestration. I don't believe that is the approach today.

And sequestration, we hope for the benefit of everybody, never comes to pass. But what we are seeing is that the Continuing Resolution is the most thing -- the fact that they are in theory going to stabilize the marketplace from now hopefully all the way until next March at the current level. That would be a blessing for the defense and the industry.

Have you heard -- one of the constructs that I have heard is that sequester caps are annual, and therefore you could spend at the fiscal 2012 prescribed CR level through the end of March, but if sequester comes through, and I agree with you it would be as devastating, but if it is there then the effect would be back-end weighted. And do you think that fear could preclude some of the obligation of funds in the first two quarters of the fiscal year anyway? .

This is Terry. Not necessarily because under the rules of a CR really with what CDOs do is they don't go out and obligate quarter-over-quarter beyond about 5% to 8%. So if you're already looking at an 8% to 10% cut across programs, in fact, the CR is really starting to make that roll anyway. So we wouldn't see a huge rollback of the obligations out of the first quarter.

And, furthermore, the CR is the best of all solutions at this point in time in this environment, because it allows you to spend at the specified level. And they don't always have restrictions that it has to be spent on the precise casting that was there before. Terry, am I saying that right?

Because there is enormous flexibility, and it is the best-case solution for the government, for the defense and our industry.

Okay, thank you.

Brian Kinstlinger, Sidoti & Company.

Can I ask you one quick numbers question? I think you mentioned about $23 million from acquisitions, but maybe you can just reconcile that. I thought WINS and Evolvent are both sort of within the year you have acquired them. And I think WINS was close to $23 million or $20 million a quarter when you bought them. Maybe my numbers aren't accurate. Maybe just go through those numbers again, if you could, with the two acquisitions and how much revenue they added. And was there a major shift since you have acquired them in the demand there?

So I might be off. Evolvent is 7 and combined 26, my apologies. WINS is actually doing fairly well from a labor perspective. It has been running somewhere around $20 million a quarter. And it has been recently having a staff increase, but the ODC flows have been reduced a little bit.

So 26 was WINS and 7 was Evolvent, is that what you said?

26 total, 7 from Evolvent.

Oh, got you. All right, thank you.

George Price, BB&T Capital Markets.

I guess the first question just was around HBGary. You mentioned an investment -- apologies if I didn't get it all, but about $1.8 million investment in the marketing area there. And I thought that you ought to -- might have mentioned some profitability issue in HBGary around that. Could you just, Kevin, maybe review that for me? And then is something that is going to persist or just give us a little bit more color around that?

Yes, sure. So when we acquired these we have increased marketing and development efforts. And what I'm trying to say is we had a $1.8 million impact loss from buying it and investing in it this quarter, but they have already booked roughly twice as much as they normally book in a given quarter. And that revenue over those bookings generally takes a 12-month cycle until it gets fully realized.

So what is going to happen is next quarter and the following quarter we are going to be moving into a much higher profitability versus loss position as the revenue catches up to the bookings that are resulting from our development and marketing efforts.

All right. And then just kind of following on Brian's question there, you mentioned WINS and you mentioned Evolvent, what about HBGary?

HBGary was about $0.5 million in revenue this quarter.

Okay. And I guess last question I wanted to direct broadly, but particularly to George. George, given your obvious extensive contacts and experience, and there has been a lot of talk and discussion right now on the call about the CR for GFY13, and I just wanted to ask you, I guess, how much confidence do you really have that the CR is actually going to come about? It hasn't been voted on, and as I understand it, it hasn't even been written yet technically.

It seems that given the timing of all this that there remains a material possibility that Congress gets back after the recess and politics and inaction kind of simply resume. Anyway, I just wanted to get your thoughts on that. Thank you.

The original reports on those, that changed, which was dramatic, occurred -- appeared in this morning's Washington Post and The New York Times. And I have since confirmed that with selected Congressional leaders that that is a likely -- that there is a positive outcome in this whole thing. And I won't tell you whom I have talked to, but we have talked to -- we monitor it continuously, as you know.

And we believe at this point in time on a basis of that input that is actually going to happen the way they have laid it out. And the best thing of all is the question -- the big thing is the sequester thing goes away.

Okay. Thank you very much.

Tobey Sommer, SunTrust.

Just a quick numbers follow up. What would the organic rate of growth or decline have been in the quarter?

Organic -- the total decline for the quarter was 15; organic was 18 in Q2.

Perfect. Thank you very much.

(Operator Instructions).

Huey, it seems that is all the questions that we have today. So I would like to thank you for your help on the call. So that does conclude our call. As usual, members of our team are all available for follow-up questions. And thank you for your participation.

Ladies and gentlemen, this does conclude today's conference. Thank you for your participation. And have a wonderful day. You may now all disconnect.