ManTech International Corp (MANT) 2014 Q2 法說會逐字稿

Good day ladies and gentlemen and welcome to the ManTech International Corporation second-quarter FY14 conference call.

(Operator Instructions)

As a reminder this call is being recorded. I would now like to introduce your host for today's conference, Stuart Davis, Executive Vice President for Strategy. Please go ahead sir.

Thank you Daniel. And welcome everyone. On today's call we have George Pedersen, Chairman and CEO; Kevin Phillips, Executive Vice President and CFO; and Dan Keefe and Bill Varner, our two Group Presidents. In addition, Lou Addeo, Executive Vice President for Corporate Development and Strategic Acquisitions, will join us 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 filings. We undertake no obligation to update any of the forward-looking statements made on this call.

Now I'd like to turn things over to George.

Good afternoon and thank you for participating in today's call. ManTech's second-quarter operating performance showed solid sequential growth. Our revenues, operating margin, operating income, and bookings were all improved compared to the first quarter of 2014.

We benefited from our strong positioning in cyber intelligence on an organic basis as well as from our recent acquisitions in healthcare and homeland security markets. Our support for the critical missions in Afghanistan is winding down, which creates a tough year-over-year comparisons, but we're more rapidly reaching a stable platform for growth going forward.

The market environment, though challenging, has stabilized compared to last year. Customers are executing on full-year 2014 appropriations. The Bipartisan Budget Act of 2013 established a top-line FY15 appropriations level, and especially as events in Ukraine, Iraq, and elsewhere demonstrate, the world is dangerous and unstable, defense and intelligence agencies will continue to get funded.

So far, award activity is lighter than anticipated but proposal activity remains very high. We are investing heavily in major capture activities and could dramatically grow the Company. We're also pursuing acquisition candidates to spread growth in key markets and technical areas.

During the quarter we completed the acquisition of 7Delta to expand our healthcare practice into the Department of Veteran Affairs. The country is committed to caring for our veterans, and VA will get significant new funding as you've heard about in recent news reports. ManTech and 7Delta are well-positioned to respond.

We're seriously looking at additional companies that will expand our presence in intelligence, cyber, and protected defense markets. Now Kevin will provide you the details on our financial performance and outlook. Kevin?

Thank you George. Overall second-quarter financial results were consistent with our expectations. Revenues for the second quarter were $463 million, compared to $605 million in the second quarter of last year, and up from $452 million in the prior quarter. Year-over-year revenue difference is mostly explained by the expected decline in the Afghanistan-related MRAP and S3 contracts.

Growth from last quarter primarily reflects the contribution for the 7Delta and ATG. MRAP family of vehicle support work contributed $40 million in the quarter, down $102 million year over year, and down $1 million from the prior quarter. S3 revenues were $99 million in the quarter, down $36 million year over year, and up $3 million from last quarter.

For the quarter the prime contractor and contract mix distributions were steady; 89% of revenues were as a prime, 70% were on cost-plus contracts, 10% on time and materials, and 19% on fixed-price contracts. The contract mix trends that were pressuring margins have now stabilized.

Operating income for the quarter was $24.1 million for an operating margin of 5.2%, which was an improvement of 80 basis points from the first quarter. As expected, we benefit as some of the factors affecting Q1 margins faded, and we had stronger fee performance across many of our programs.

We continue to invest in [VMP] and commercial initiatives. In addition, we have made investments in our IT infrastructure that will be completed soon and allow us to run more efficiently in the future.

Net income was $7.7 million, and diluted earnings per share were $0.21 for the last quarter. Our earnings reflect a one-time charge of $10 million to redeem $200 million in senior notes, of that charge approximately $7 million represents the cash outlay, and the remainder represents accelerated amortization for the expenses associated with the original issuance. Paying down the debt enables us to save $15 million in annual interest expense.

Now onto the balance sheet and cash flow statement. During the quarter we used $2 million net cash to fund operations in the quarter. But year to date, cash flow is exceptional at $60 million, or 3.5 times net income. Collections were stable as DSOs came in at 79 days, and we expect to end the year in the mid-70 range.

Our balance sheet at quarter end shows $31 million in cash and $55 million in debt, after paying of long-term debt and investing $80 million to purchase 7Delta. To provide more security for our balance sheet, we amended our credit line in June. We retained the major terms, including the $500 million limit, and the same table of interest rate, but the term of the line has been extended until June 2019. We have the financing we need in place for when we identify attractive acquisition candidates to strengthen our position in faster-growth markets.

Turning to business development. Bookings for the second quarter were $424 million for a book-to-bill ratio of 0.9 times. This is the highest quarterly booking and book-to-bill ratio that we have achieved outside of the seasonally strong September quarter in two years. We are moving towards a book-to-bill ratio exceeding 1 times. This should put us on a growth path in 2015.

Much of the activity consists of shorter-duration awards, including contract extensions and quick-turn task orders, so that customers can maintain financial flexibility while dealing with heavy procurement activity. As is our practice, the second-quarter bookings do not include any contributions from new multiple-award IDIQs, which included the $8 million GSA OASIS contract, and a $3 million award from the Defense Technical Information Center.

We'd expected a bigger lift in bookings during the quarter, but we're seeing tremendous volume proposed that will result in awards this year or in early 2015. With $3 billion in proposals outstanding, and almost $2 billion of proposals in process at quarter end, customers are actively evaluating proposals and entering RFPs. So award activity should be very strong. I'm excited about the number of large proposals in our pipeline and our position in areas of importance to our customers.

Backlog at the end of the quarter stood at $3.8 billion, of which $1 billion was funded. At the end of the quarter we had a total qualified pipeline of $21 billion.

Now for the forward outlook. As a result of slower than expected workflows, we are revising our FY14 guidance. We expect to achieve revenues of $1.9 billion, net income of $48 million, and diluted earnings per share of $1.30. We will see further drop off in C4ISR MRAP work in the second half of the year, but expect to achieve $1.9 billion in revenue through a combination of contract awards and acquisitions.

Our focus is to position for growth in 2015. Revenues in the third quarter will be in line with this quarter prior to any year-end surge activity that may occur in select customers. Earnings per share will build from here without the $0.16 debt redemption charge, and with virtually no interest expense in the second half of the year.

Revised guidance anticipates a lower operating margin for the year as revenues are pushed out given award delays. We expect to maintain margins near our current levels of 5.2%, or nearing 6% when we exclude the investments for new markets and technologies we're making this year.

Operating cash flow will turn positive again and we will end the year with operating cash flows north of twice net income. This cash generation will further strengthen our balance sheet for additional acquisitions. Now Dan will speak to our DoD and federal civil business. Dan?

We welcome 7Delta to the mission solutions and services group, and I continue to be impressed with their leadership and strong credentials in the VA market space. We are approaching a heavy season of proposals on the T4 vehicle at VA. Some of our opportunities are larger than what 7Delta was able to pursue in the past given the combined ManTech and 7Delta qualifications. We expect this to continue and accelerate 7Delta's already strong growth trajectory.

As the VA improves its operations IT will be an important enabler. The addition of 7Delta and its presence at the VA rounds out ManTech's presence in the government healthcare IT market, with our two previous acquisitions supporting the Department of Defense Health Agency, and the Centers for Medicare and Medicaid services.

The second area of growth that MSS is focused on is the Department of Homeland Security. With our recent acquisition of ATG, we are now very well positioned to compete effectively with the key contract vehicles across the department. ATG not only improves our already strong position at Customs and Border Protection, but it provides us capabilities when we're supporting the US Coast Guard. In a dangerous and complex world, we appreciate the opportunity and look forward to being a strong partner to the department in the years ahead.

Finally, our Army and Marine Corps contract supporting the MRAP fleet around the world remain an important component of our business. The draw down in Afghanistan in 2014 is generally along the lines of what we projected in a dynamic environment tied to political decisions. The programs would generate about $130 million in 2014 and we will continue to work supporting US forces beyond 2014 in that theater of operation.

In addition, the large CLS MRAP contract extends through the end of 2017, and we see opportunity beyond Afghanistan supporting MRAP work for both the US military and CONUS, as well as other nations around the world through FMS support. Currently we have work in two countries supporting their MRAP fleet, with three other countries pending. Bill?

Thanks Dan. The key for the mission, cyber, and intelligence solutions group now is proposal adjudication. We have a number of takeaway opportunities that should be awarded in the third quarter. Many of them are in the $50 million to $100 million sweet spot for us and in areas where we have strong core capabilities and offerings.

Even more exciting are several truly game-changing opportunities. The entire Company is rallying to support these large opportunities and we're excited about the awards coming over the next several quarters. Winning even one of these could greatly raise the profile of not only MCIS, but the entire Company. For that matter, one of these opportunities would more than replace all of our current OCO revenue.

Over the last two years we have really solidified our ability to go after, win, and execute large procurements across the intelligence community. When we step up to a large pursuit, we're able to attract the leading firms in the space as teammates and present a compelling value proposition to our customers. We are experiencing the effect of award delays just like everyone else, but these programs will move forward and I expect that we will win more than our fair share of them. George?

Thank you Bill. In closing, second quarter showed positive momentum and we expect the second half of the year to generate awards that will position us for continued growth in 2015. With that, we're ready to take your questions.

(Operator Instructions)

Bill Loomis, Stifel

Hi, thank you, good afternoon. Just looking at your comments for that award, taking guidance down because the awards were less than what you thought. A 0.9 book to bill in the second quarter is a pretty good showing. What were you expecting in the second quarter to make the guidance?

Well Bill, it's Kevin. When you look at the timing of expected awards for the quarter the actual adjudications by the government were half of what was originally intended. And the majority of the new work that we expect, not all, but the majority of the new work was actually pushed. So that hasn't moved it too far to the right, but if the trend continues we are trying to just build in the expectation into Q3 and Q4, and maybe into Q1 2015 that there might be some delays in ramp-up.

Okay. So on the lowered revenue because it sounds like you have lower MRAP revenue because I remember from my notes from the last call, I think you were calling for about $150 million this year on MRAP and now you're saying $130 million, so that's tracking a little bit less.

And what about S3? Do you have similar figures about how much lower that might be tracking in the second half from what you thought?

So S3 we're still thinking in the $350 million to $360 million range, it depends in aggregate. And we'll see how that works because there's more variability these days in that ISR component of the business, but roughly that number which is I think $20 million less than last quarter.

Okay. And then my last question is can you talk last year or -- last quarter you talked about how those businesses might play out in 2015. I think it was $120 million for MRAP next year. What are you thinking about now for MRAP, and if you could on S3 also in 2015?

I'll speak and let Dan answer beyond that. We're going to be exiting this year MRAP at about $100 million run rate. On the S3 side, again it's much more variable, but that should be in the $300 million potentially run rate. With a lot of that being OCO reduction, but I'll let Dan speak to the specifics on those programs.

And as I alluded to, this contract, our MRAP contract has legs; about a little less than half our employees are actually outside of Afghanistan in Continental United States. And also as I mentioned working with other countries and foreign militaries to health. The really unknown is the political decisions that are made in Afghanistan at the end of this year. And that will really make it -- which makes it difficult right now to put a firm number on it.

Okay. Thank you.

Tobey Sommer, SunTrust

Hi this is Hayley in for Tobey. I have two quick questions for you guys. First, what are you seeing in terms of growth and margins in the cyber security space?

And then second, can you elaborate a little bit on the current trends you're noticing in the hiring environment, and maybe like talk a little bit about certain segments of the business that you're seeing a lack of talent? Or are there certain segments where there's plenty of supply?

I'll speak to the first and let Bill Varner speak to the supply. So what we're seeing is fairly stable expected returns bottom line in the cyber market within the federal government. There's potential upside based on the investments we're making in the commercial side, but that's kind of to be seen when there starts getting a top on some of the programs that we're tracking. Bill?

Tobey, this is Bill, regarding your question about the availability of the right kind of people, we see this business area go sort of in cycles. When the economy is really good then we find that we're competing with all of the commercial companies; when the economy decreases a little bit, we find that we're in more of a better position than the commercial companies are.

So it is always difficult to find the right kind of developers, the right kind of cyber developers. But we are finding that we have a lot of programs that a number of these people find very exciting. We're in very important government spaces, and people find that the excitement of the missions that we are supporting is really better than the opportunities that they find in some of the commercial spaces. So I hope that helps.

Great. Thank you very much.

Gautam Khanna, Cowen & Company

Yes, thanks. A couple questions.

First, if you could comment on the bookings in the quarter on kind of what you anticipate the margin embedded within it could be? Is it accretive to the current segment average? I'm just talking like-for-like. Obviously we know the counter mine mix skews things but are you seeing any sort of stabilization in pricing? And then I have a follow-up.

Yes, so we're seeing stabilization in the overall fees that we're getting from the business. There are some bids where there's scope, maybe reduced, which we're filtering into our expectations, so I see more of a requirements not a bottom line return on the requirements output.

Okay. Secondly, I think you mentioned the S3 exit rate will be tracking to $300 million next year. How much of that decline is recompete losses?

And could you comment also, we saw like GITM I think was recompeted. What is still in the base this year that may not be that you know of right now next year?

There's a heavy level of work going on that has new work i.e., takeaways that we're having, some other programs. And some other programs being split up with components going to other awardees that mixes out; we are going to see a decline in some of the work. I would say that it's more directed towards reduced scope on certain recompetes, with a mix of new work and a mix of some takeaways by other companies to get that exit number. So it's a mix.

And is it limited to the S3 program or have you suffered any other kind of meaningful recompete losses in the first half of this year?

I wouldn't say meaningful. I mean we've had some, but nothing that is of large-scale that would cause concern of how we're going to grow into next year.

And could you soft circle kind of the relative size of those in aggregate that you've lost on an annual sales rate?

Some of it is hard to say because the decline in the requirements; on an annualized run rate I would say it's between $30 million and $50 million.

And is that fairly typical if you were to compare that to the first six months of last year?

I would say that it is typical for the last few years, and actually potentially declining as we enter next year given all the other awards that we're going to get. I wouldn't say it's inconsistent.

Okay. Thanks a lot.

Edward Caso, Wells Fargo.

Hi good evening, it's Rick Eskelsen on for Ed. First, I want to circle back on the award activity.

Why do you think it was slower than you thought in Q2? And what still gives you -- leads you to think it's going to remain pretty positive here in the third quarter?

I'll answer the second question first. We believe that the government is moving fairly quickly on doing proposals, letting in awards for response which is why it's so busy. It's a very busy time, and the reason there are delays in awards is because frankly the government has to work on procurement obligations for government fiscal year money before they make the awards, and that's causing delays.

I believe that the government is moving fairly smartly, and once it has the ability to obligate now, but they have to get current-year funding done first and that's been their priority. If anybody wants to add to that? No, okay.

And the expectation in the first and second quarter on awards was because the stated timing of award against a high volume of proposals we've been submitting. And those were the items in part of the delay based on basically the overloaded acquisition workforce in the government.

Okay. So kind of a similar trend to what you've seen here for the last several years actually.

I would say in some cases in the last several years the government has been uncertain about making awards. I think now they are just at capacity. When you think what happened last year with sequestration at the end of 2013, it just built up a demand of activity, which they are playing catch up on.

Okay. And then you touched on this a little bit in the prepared remarks, but just wondering if you could talk about 7Delta in the VA, particularly given some of the recent headlines and what you're expecting there?

This is Dan. The fourth quarter is traditionally when the VA has it's largest amount of activity, many of its one-year contracts come back around. Certainly the VA is going to be well funded with everything that you're certainly tracking in the news, and that ties in well with our capability of combining our current work with 7Delta. And we have already seen some success.

And just to clarify, by Q4 you mean the government fiscal fourth quarter?

Yes. Thank you. The government Q4.

And the last one for me Kevin, a few guidance pieces, the tax rate and the share count, what are those numbers in the new guidance?

Tax rate for the full year is 38.9%, share count is 37,300.

Thank you very much.

Steven Cahall, RBC Capital Markets.

Thanks very much. First question is just a clarification on something I think I heard around some cyber bids that you have out there.

Is it correct that you said that there's a few of those out there and that any of them would replace the current revenue that's being obtained from OCO? And just a confirmation of that. And then related, is the margin on those bids accretive to the OCO revenue, equal, or dilutive?

Okay. This is Bill. I think the better way of expressing that would be that there is at least one of our cyber and IT bids out there that would be capable of replacing the OCO; if I said any of them would I did not intend to say that. But there's one particularly large one that would put us in a very nice position and it would certainly be higher-margin than the OCO work.

Okay. And then just related on the cyber I noticed in the cash flow statement continued spending in the capitalized software. Is it fair to assume that this is more for the commercialization, and should we expect that run rate to continue for the rest of the year and going forward?

So the capitalization of software is a mix but it is primarily for internal system completion that should decline next year in terms of this level. The amount that we're spending, whether it's expense wise or capitalized for research and development programs that we want to maintain the IP for, would be fairly consistent.

Okay. That's great. And then just a final one on M&A.

Can you just talk about the decision to retire the senior notes? And is it fair to conclude with the way the balance sheet looks now that you have a preference for bigger deals, because you de-levered so much can we read into this that that's to give you more scope for something bigger? Or are you looking at all sizes of the deals and there's no sort of preference for size at this point? Thank you.

I'll talk to that real quick, and hand it over on the size of scale. So it was just a fairly straightforward thing for us given the level of interest expense on the bond and the timing of the previous note call provision to clear that out. And also to renew our line of credit just so we're in a good position and strong to be able to react to the market as opportunities come up. Lou, do you want to speak to cyber?

Just briefly relative to size and scale, we look at many opportunities and it's not as if there's a huge influx of opportunities right now of scale. So we spend our time both on the outreach side and with banks coming in with books.

That said, if we see an opportunity that has some size and scale, we'll definitely look at it. But for right now I'd say the volume, the inventory of deals is fairly light.

(Operator Instructions)

Brian Kinstlinger, Maxim Group

Great thanks. Kevin you mentioned in order to get to your revenue guidance it would take a combination of awards and acquisitions; did you mean acquisitions that have not yet been announced or were you suggesting 7Delta?

I was suggesting both. The timing of the award activity that we have for proposals outstanding and that ramp-up, any delays on that in terms of ramp-up once we get awarded those contracts organic. The growth of 7Delta, which is contributing to the growth but also other acquisitions as we look through them over the next few months or three months, they all contribute to us meeting or achieving that number exiting the year.

Got it. Thanks. Can you quantify the implied revenue guidance that's in your backlog versus maybe what needs to be awarded or acquired?

I don't have the information in front of me. So I'd have to get back to you on that.

Okay. And the large deals, which sounds like there are a bunch in the pipeline, are they generally takeaways from incumbents or new programs?

They're a mix. Mainly takeaways these days, but there are a couple of new programs that I would say are more consolidations of existing programs that are more consolidations of IT capabilities.

Two more of these, second-quarter awards, what percentage was expansion or new business of existing programs?

A lot of expansion on existing contracts with incremental additions in some of them within that, but largely extensions on current work. I would say less than 15% would be for new work. So the same thing.

And finally, a competitive question. I think I saw that the SSES is merging with S3, I'm wondering how you think that impacts ManTech and the other prime contractors of S3?

Are you talking about S3 merging with R2-3G and single larger CECOM contract? It actually puts us in a better position. We think we will compete well. We're not a holder on one of those so it will broaden our opportunity.

Great. Thanks very much.

Gautam Khanna, Cowen & Company

Hi guys. Could you update us on whether HBGary is in the black at this point, and if not what the losses are?

Sure. For this quarter it is not in the black it's loss was $1.3 million, which is improved from the last two quarters and is trending in the right direction.

Do you anticipate it will be breakeven at some quarter this year?

At this point we do not. We think it will be entering next year, moving towards breakeven.

Okay. Can you talk again quickly about the free cash flow in the quarter. It looks like salaries were up, was there anything bizarre about the timing in the quarter of number of paydays or something? What drove the -- you haven't had a negative cash quarter in a while.

We have -- every other quarter has an additional payroll. This is one that had an additional payroll so that is part of it. And also clearing through some prior payables for some of the large overseas work that had to be paid out.

Okay. And you're still targeting what exactly in terms of operating cash and free cash this year?

So we expect the end of the year in total to have about $125 million to $135 million in operating cash flow. And a consistent amount of CapEx to bring that down on a free cash flow basis.

Got it. And let's see one other thing, can you help us (inaudible) all of the Afghan exposure, I think there's S3, what percentage of S3 do you think is really more sensitive at this point? And are there other things beyond CLSS counter mine that we should keep in the back of our mind as items that might continue to roll?

So roughly, and it becomes a hard thing to split, but roughly a third of the overall S3 work is OCS specific. And that is in part what is declining exiting this year compared to the beginning of the year.

And then on CLSS MRAP work or just MRAP work, I tend to think that we have equal amount of upside than downside once we hit a certain point next year, because as Dan may have mentioned, over half of our employee base on that program exiting the year will be in the United States.

Okay. Can you remind me how much of the call it $100 million run rate at the end of this year on CLSS counter mine relates to labor as opposed to some of the pass-through product if you will?

It's a much higher component because the amount of material buys from the government its own is significantly down, not because they have less requirements given the reduced number of systems that have battle damage repair requirements.

So whereas back in the day it was two thirds ODC, one third labor, is it reversed? Is that a good rule of thumb?

DL should be in excess of a half, the question is how much above that. But yes, it will be closer to reversed.

Okay. Thanks a lot. I appreciate it.

Patrick McCarthy, FBR.

Good afternoon and thank you for taking my question. In the recent past you guys have given out a book to bill in cyber and intel business, and I didn't hear that; do you have that available?

No, we've stopped reporting that.

Do you have a sense as to how much of your funded backlog right now might be cyber intel related?

There's a significant amount of proposal activity that is intel and cyber related, and I would say that roughly half of our overall backlog is related to that business. And it is likely to be increasing.

Okay, great. Thanks.

Danielle, it appears that we have no further questions at this time. So I think we will go ahead and conclude the call.

As usual members of our senior team are available for follow-up questions. We thank you all for your participation on today's call and your interest in ManTech.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.