Leonardo DRS, Inc.

Ladies and gentlemen, good day and welcome to the Leonardo DRS fourth quarter and four-year 2025 earnings conference call. At this time, all participants are in a listen-only mode. Following the company's prepared remarks, there will be an opportunity to ask questions and instructions will be provided at that time. As a reminder, this event is being recorded. I would now like to turn the conference over to Steve Bathurst, Senior Vice President, Corporate Development and Investor Relations. Please go ahead.

Good morning and welcome, everyone. Thank you for joining today's quarterly earnings conference call. With me today are John Belluni, our president and CEO, and Mike DeFold, our CFO. They will discuss our strategy, operational highlights, financial results, and outlook. Today's call is being webcast on the investor relations section of the website, where you can also find the earnings release and supplemental presentations. Management may also make forward-looking statements during the call regarding future events, anticipated future trends, and the anticipated future performance of the company. We caution you that such statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Actual results may differ materially from those projected in the forward-looking statements due to a variety of factors. For a full discussion of these risk factors, please refer to our latest Form 10-K and our other SEC filings. We undertake no obligation other than as may be required by law to update any of the forward-looking statements made on this call. During this call, management will also discuss non-GAAP financial measures, which we believe provide useful information for investors. These non-GAAP measures should not be evaluated in isolation or as a substitute for GAAP performance measures. You can find a reconciliation of the non-GAAP measures discussed on this call in our earnings release. With that, I will turn the call over to John. John?

Thanks, Steve, and thank you all for joining us today to discuss our fourth quarter and full year 2025 results. I want to begin by thanking Bill Lin for his leadership and commitment to DRS. Over the past 14 years as chairman and CEO, the company is stronger because of his impact. We're grateful for his contributions. I am honored to step into the role of chief executive officer. It could not be more excited to lead the next chapter for DRS. I joined the company nearly 40 years ago as a staff engineer. And over the course of my career, I've had the privilege of serving in operational leadership roles across each of our incredible businesses. That frontline perspective combined with my experience over the past decade as Chief Technology Officer and most recently Chief Operating Officer has given me a deep appreciation for our leading market positions, our balanced and diverse portfolio, truly differentiated technologies, and above all, our exceptionally talented people. As I look ahead, my priorities as CEO are clear. Build on our foundation of success. We have a remarkable business with distinctive differentiation that is well positioned for long-term growth. Accelerate our operating cadence. Our goal is to put innovation capabilities into the hands of our customers even faster without compromising the quality, reliability, and affordability that they expect. This is precisely what the Department of War is asking of industry. While we've already been operating at speed and investing in innovation for years, we are encouraged by this call to action and are accelerating even further. And three, continue to empower, invest in, and reward our people. There is no question that our talented employees are the bedrock of our success. My formula is straightforward. Maintain a sharp focus on meeting and exceeding customer needs, and that will propel growth for the years to come. Turning to the macro environment, the operating backdrop remains dynamic. Global threats persist, and the nature of warfare continues to evolve rapidly. Our customers require next-generation capabilities to maintain the decisive advantage over adversaries. They need them delivered at speed, at scale, and with uncompromising quality. Against that backdrop, our nation and our allies are investing in these capabilities as demonstrated by significant recent and projected increases in defense spending. We are encouraged by the enactment of the fiscal 26 defense appropriations, early signals for a fiscal 27, and supplemental funding, including in last summer's tax reconciliation package. In aggregate, these indicators support our confidence in sustained demand. A relentless customer focus, disciplined investment, and advanced capabilities and consistent execution has positioned us well for growth. The results of that strategy are demonstrated by the fourth consecutive year of a book-to-bill ratio of 1.2 or better. Equally important, customer demand is well balanced throughout our portfolio, validating the strength of our technology-led, platform-agnostic approach. That consistent customer demand combined with our strong financial position has enabled significant multi-year increases in both research and development and capital investment. Let me frame the magnitude of investment growth. In 2025, we increased the internal R&D investment by 40% and capital expenditures rose more than 60%. Our R&D investment is focused on expanding our footprint in high growth markets, including airborne, missiles, space, and unmanned markets, while continuing to build share in our core ground and naval domains. Additionally, the emphasis of our R&D initiatives is on advancing platform AI and enabling platform autonomy, stronger security and modularity, and extending our platform agnostic capabilities to new missions and platforms. With respect to CapEx, our 2025 investments were focused on progressing our new naval power facility in Charleston, South Carolina, along with targeted growth initiatives across the portfolio. In 2026, we expect CapEx to increase even further and trend toward approximately 5% of revenue. We are ramping operations in Charleston, as well as expanding production capacity and modernizing facilities to deliver enhanced capability across the business. Key areas seeing upsized investment include our tactical radars, air defense products, and advanced infrared sensing. Additionally, some of the increased CapEx supports dedicated germanium processing capacity with suppliers, an important part of ensuring stable supply going forward. In summary, we intend to maintain our approach of innovating, executing at speed, and investing ahead of demand to support customers and drive long-term growth. Let me briefly highlight our full year 2025 financial performance. We delivered another year of record bookings, and that was accompanied by robust organic revenue growth of 13%, marking back-to-back years of double-digit growth. Year-end backlog stood at $8.7 billion, providing clear visibility into 2026 growth. Full year adjusted EBITDA growth tracked closely with revenue. While margins were flat, performance was shaped by several factors. First, we intentionally increased our internal R&D investment substantially. Second, we managed supply chain complexity related to shortages in critical raw materials, most notably germanium. As we enter 2026, These constraints are contained with remediation measures firmly in place and being executed throughout this year with confidence. Through a combination of recycling initiatives, strategic allocations from customers, and securing more reliable North American and European sources, we have adequate coverage for our demand in the short, medium, and long term. We've also entered into firm long-term supply agreements. And as I noted earlier, co-investing to secure dedicated refining capacity. While price volatility may persist in the near term, we will reprice contracts renewals on a rolling basis to reflect market conditions and incorporate contractual protections against future potential shocks. Third, as we close out the year, we have two unusual items with largely offsetting revenue and profit impacts. We entered into a 10-year, $100 million license agreement with a leading quantum technology company, enabling them to leverage certain laser intellectual property for quantum computing applications. This license agreement monetizes an exciting and attractive commercial opportunity, while allowing us to remain focused on capturing abundant growth in our core defense markets. We also executed a memorandum of understanding to jointly conclude legacy foreign ground surveillance program initiated more than a decade ago. Technology evolution and obsolescence issues caused the program to be no longer viable for either party. As a result, we recognize an unanticipated loss on the program. While disappointing, the circumstances surrounding this program were unusual and isolated within a portfolio. To be clear, don't see any other program with similar characteristics that would be expected to drive comparable impacts the conclusion of this legacy effort along with the ip license agreement clears the slate and allows us to focus on growth and execution across our core competencies finally despite materially higher CapEx investment, we delivered 19% growth and full year free cashflow in 2025, driven by higher profitability and improved working capital efficiency. On balance, 2025 was a strong year and we're focused on building on that momentum in 2026 and beyond. Turning to fourth quarter highlights. First, let me commend the team on a tremendous win in the space market. Space has been a multi-year growth initiative for DRS and I'm pleased that our persistence was validated with a landmark position on the SDA Tracking Layer Tranche 3 program. We're teamed with one of the prime awardees who will deliver a differentiated infrared sensing approach. This is an exciting opportunity, not only to showcase our innovation, but more importantly, to advance critical national defense capabilities against missile threats. Now that we've opened the door to this win, Our focus shifts to execution excellence to deliver on our commitments. Strong performance will position us for additional SDA opportunities and for other customers, including the potential to leverage our expertise in space-based sensing for the Golden Dome initiative. Also in space, we successfully demonstrated secure data transport using a next-generation crypto multi-channel software-defined radio. This innovative capability enables high-performance, secure satellite communications across multiple frequencies and networks simultaneously, and we look forward to delivering it to customers in the near term. In infrared sensing, we continue to grow in ground-based applications or seeing green shoots in adjacencies, particularly space and airborne, across both manned and unmanned platforms. Our high-performance cooled infrared sensors are being leveraged on advanced airborne platforms. Our uncool capabilities are being adopted on unmanned platforms as customers prioritize an assured electronic supply chain. Our advanced infrared gimbals are being used to designate and direct emissions to neutralize drone threats. We are engaged on multiple primes of several strategic missile programs, to provide next generation sensing capability and expand production capacity. We're also making capital investments to support this demand growth. We remain a market leader in counter UAS and are closely partnered with customers to field effective solutions. We're committed to a platform and effector agnostic approach, which is why we have demonstrated capabilities across multiple vehicle platforms, including the JLTV and unmanned ground vehicles. We're enhancing both kinetic and non-kinetic factors in our offerings, including cost-effective munitions and non-kinetic tools such as electronic warfare and direct energy. Turning to tactical radars, we continue to see immense global demand driven by an imperative to field counter UAS and air defense capabilities. Our radars are not only highly effective at tracking UAS threats, but also in supporting missile defense and active protection missions. We're also seeing increased demand and growing relevance in maritime-based counter-UAS applications alongside the continued momentum on ground-based platforms. More broadly, we're seeing increasing potential beyond tactical radars in the unmanned surface vessel market. Opportunities to pull through an integrated sensing and computing offering across leading platform providers are becoming a growth factor. While we're well positioned as the Navy crystallizes its USV strategy and begins deploying funding in this area. Staying with Naval, our Columbia-class program continues to execute exceptionally well. We're delivering on time and with quality, and our results reflect the financial benefits of that solid execution. As the Navy adjusts surface combat and modernization strategy, we remain engaged at the center of propulsion architecture discussions across platforms. Our electric power and propulsion solutions are modular and remain highly relevant to the power demands of next generation platforms. Finally, I want to congratulate Sally Wallace on her new role as Chief Operating Officer. Sally is a strong leader, a trusted partner, and a more than 20-year DRS veteran with deep understanding of customers and a strong track record of delivering mission-critical technology. We've made a few other changes to the team. As a result, we have an exceptional team, and many of those changes reflect expanded responsibilities for longstanding leaders who have delivered strong results. I'm confident each of them will be successful in expanding roles. Mike, over to you to walk through the details of our financial performance in the 2026 outlook.

Thanks, John. I appreciate the team's steadfast focus in delivering another year of solid financial results, particularly in light of several unique factors we faced in 2025. I'll walk through fourth quarter and full year 2025 results by key metric and then discuss our 2026 outlook. Overall, our full year 2025 results exceeded our expectations. We executed at the high end of or above the guidance range provided on our last call. These results were delivered amid a prolonged government shutdown for most of the fourth quarter. Revenue in the fourth quarter was $1.1 billion, up 8% year over year. Robust demand for tactical radars, electric power and propulsion, and advanced infrared sensing drove core growth. The quarter included a net benefit from the quantum laser IP license agreement, partially offset by the conclusion of the legacy foreign ground surveillance program John discussed. For simplicity, I will refer to the net effect of these items as the net non-routine impact. While the net impact is not significant at the consolidated level, it is more visible in the segment results for both the quarter and for the full year. Full year revenue was $3.6 billion, representing 13% organic growth for 2024. This marks back-to-back years of teens' revenue growth. Growth was broad-based across advanced sensing, network computing, force protection, and electric power and propulsion, and that was reflected in the segment trends. Our advanced sensing and computing segment delivered revenue growth 9% in Q4 and 11% for the full year. Our integrated mission system segment delivered year-over-year growth of 5% in Q4 and a healthy 15% for the full year on the back of robust performance in electric power and propulsion and counter UAS programs. Moving to adjusted EBITDA. Adjusted EBITDA was $158 million in the fourth quarter and $453 million for the full year, representing year-over-year growth of 7% and 13%, respectively. Margins were 14.9% in Q4 and 12.4% for the full year. Full year margin was flat as higher volume and improved profitability on the Columbia-class program were offset by higher R&D investment and less efficient program execution driven by material cost growth. Increased R&D created a 70 basis point year-over-year headwind to margin. At the segment level, ASC adjusted EBITDA and margin were bolstered by the laser license agreement in both Q4 and the full year. Excluding this item, ASC adjusted EBITDA and margin would have declined, primarily due to higher company-funded R&D and raw material cost headwinds primarily related to germanium. IMS adjusted EBITDA was negatively impacted by the legacy program conclusion in both Q4 and the full year. Excluding this item, IMS adjusted EBITDA and margin would have increased meaningfully, driven by operating leverage from growth and improved profitability on Columbia Class. Now to the bottom line metrics. Diluted EPS and adjusted diluted EPS increased 15% and 11% year-over-year in the fourth quarter, respectively. For the full year, diluted EPS and adjusted diluted EPS increased by 29% and 24%, respectively. In both periods, strong operating profitability, lower interest, and other expense, as well as a lower effective tax rate, supported EPS performance. Moving to free cash flow. Fourth quarter free cash flow generation was robust. and total $376 million, bringing our full-year free cash flow to $227 million. Our strong cash generation in 2025 leaves the balance sheet with net cash at year-end. Subsequent to year-end, we entered into a new $500 million revolving credit facility, providing lower interest costs and added borrowing flexibility. Turning to 2026 guidance, robust customer demand and bookings over the past few years provide visibility into continued growth. We are initiating a revenue range of $3.85 to $3.95 billion, implying a 6% to 8% organic growth. Our backlog provides a clear path to executing within this range. Key factors influencing revenue include the pace of material receipts, labor execution, and to a lesser extent, the timing of customer orders for book to bill revenue. For adjusted EBITDA, we expect $505 million to $525 million in 2026. The implied year-over-year margin improvement is 70 to 90 basis points, driven by improved profitability on Columbia class, favorable program mix, and operating leverage from growth. We plan to continue robust company-funded R&D investment at a comparable percentage of revenue to 2025, but we do not expect it to pressure margins to the same extent as last year. Amortization is expected to be flat in dollars, and depreciation should increase modestly given recent CapEx. Together, they should approximate 3% of revenue. For adjusted diluted EPS, we are initiating a range of $1.20 to $1.26 per share. Our guidance assumes an 18.5% tax rate and a fully diluted share count of $269 million. We also expect free cash flow conversion of 80% of adjusted net earnings. As John mentioned, we are increasing projected capex meaningfully in 2026 as we complete the Charleston facility and make additional investments across the business to enhance capacity and capability. As a result, we expect CapEx to be just under 5% of revenue. Improved working capital efficiency is expected to partially offset the higher CapEx. Finally, we expect Q1 revenue to range in the low 800s, with an adjusted EBITDA margin in the low 11% range. Revenue and adjusted EBITDA linearity is expected to be comparable to recent years. The second half of the year should contribute slightly more than half of revenue, and more than half of adjusted EBITDA. We anticipate a similar quarterly trend in our free cash flow with modest linearity improvements as we continue to drive working capital efficiencies. Let me turn the call back over to John for closing remarks.

Thanks, Mike. I'm incredibly proud of the team's relentless focus and their immense contributions in support of our critical national security priorities. The results we delivered in 2025 and over the past few years reflect the strength of our portfolio and the soundness of our strategy. DRS is an excellent position, but we're building on this strong foundation to drive another year of significant growth while also nurturing long-term opportunities that will define the next chapter of the business. We are investing, innovating, and executing at a time when our customers need these capabilities more than ever. As we look ahead, we remain focused on delivering these cutting-edge capabilities to customers with speed, quality, and scale, positioning us for continued growth. With that, we're ready to take your questions.

Thank you. Ladies and gentlemen, to ask the question, please press Start11 on your telephone, then wait for your name to be announced. To withdraw your question, please press Start11 again. Please stand by while we compile the Q&A roster. Our first question comes from the line of Robert Stollert with Vertical Research. Your line is open.

Thanks so much. Good morning.

Good morning.

John, maybe just to kick things off, you mentioned at the start of your comments the potential benefits from the reconciliation bill that was passed last year. We're starting to get some details on that. And I was wondering if you've seen anything there that suggests some upside for DRS.

Well, thanks, Rob. Yes, we are starting to see some of the money flowing now, and we believe that we have alignment in some of the priority areas where some incremental funding could flow. Again, it's early days, though. I think we haven't seen the money get all the way to our customers yet, but there is certainly some alignment with where we're investing and where that money is going.

Okay. And then as a follow-up, you highlighted that you've seen four years of at or above 1.2 times book to bill. I was wondering, does this suggest there's going to be a step up in your revenue growth in the years ahead? Or does this order intake just extend similar kind of growth further into the future?

Well, Rob, we're certainly optimistic on growth. But I want to acknowledge that we do have a diverse portfolio of We are, due to the fact that we're stepping up to a higher level in capabilities and solutions, we do have an elongated conversion cycle. It's certainly our goal to continue growing like we did in 2025, and we're optimistic. But you have to acknowledge those other elements.

That's great. Thanks, Rachel.

Thank you. Our next question comes from the line of Michael Charmoly with Truist. Your line is open.

Hey, morning, guys. Nice results. Thanks for taking the questions. Just to follow up on that last line on growth, I don't know, John or Mike, did you size the ground revenue program that's rolling off? Just trying to get a sense of, you know, you've got a big portfolio. Is anything specifically winding down or creating a headwind? I mean, it just seems like the funding environment, the budget environment is getting better. You know, I know you're lapping two years of low teens growth, but why should we think growth is really going to decelerate here?

Yeah, yeah, Michael, I'll take that. I think that ultimately, when you when you look at the portfolio as diverse as ours, it's always going to be elements that are growing at a different rate. So although we're aligned in a lot of the the swim lanes that I think are going to get good allocated funding in terms of shipbuilding, Our recent win in space, there are pockets, you know, mainly in the network computing area that are growing at a little lesser rate. And that's what we're, John was kind of commenting on there.

Okay. Okay. And then just one more on kind of cap structure, capital deployment. You know, you're probably going to end. the year here with a net cash position of in excess of 400 million you just mentioned the new 500 million revolver you know how should we think about you know putting that balance sheet to work and you know is that the most optimal structure right now well thanks uh mike yeah certainly our our top and uh priority has always been and will continue to be organic investments first and you're seeing us invest in capex you're seeing us invest in irad

We expect it to drive growth in the out years. But organic first and then inorganic. And we're going to be kind of picky about what we look at in the M&A space. But first organic, then inorganic.

Okay. Fair enough. Thanks, guys. I'll jump back in the queue.

Thank you. Our next question comes from the line of Seth Seifman with J.P. Morgan. Your line is open. Thank you.

Hey, thanks very much. Good morning and nice results. I wanted to start off asking about the profitability in IMS in the fourth quarter. If we add back the international program termination, it was a very healthy margin. Was there a catch-up on Columbia? What should we think about what the fourth quarter margin implies for going forward in IMS?

Yeah, thanks, Seth. Appreciate the question. We certainly saw a strong demand across the segment of IMS coming from our naval power business, both on Columbia but also on the surface ships. Also had an inflow of revenue on the counter UAS and efforts that we have there. So a lot of the margin was coming from the volume leverage that we saw. So we had a big growth in the quarter, which materialized at margin. As you're aware, we period expense GNA. We period expense the IRA. So that operating leverage falls to the bottom. So that was a big element of it. The performance at Columbia certainly continues to be a tailwind. Not a major catch-up, but certainly a tailwind for the quarter.

Okay, okay, excellent. And then maybe following up when we think about Charleston and the new capacity coming online there, it seems now that we might have some new ships a little bit faster than previously expected when you guys announced that in terms of a new frigate, and we'll see what happens, but maybe even a battleship. What are discussions like at this point about your ability to use that capacity on these new ship classes?

Thanks for the question. Look, I think that we're seeing that space evolve, right? And we've said in the last call, we talked about the need for future combatants have to fight from greater distances. They need more power to meet that distance need and more powerful radars, more powerful electronic warfare, direct energy, et cetera. And to do that, they're going to need electric propulsion system that allows them to move energy from one part of the ship to another and make use of all of the energy on the ship. What we're looking at going forward here is, and we're embedded in some of these discussions with the Navy, is about building a capability for modularity. So whether they build a battleship or a destroyer, a cruiser or a frigate, or even, frankly, a medium-sized USV, they should be using the same architecture, that electric architecture, propulsion architecture, that will allow for what I've been calling a common chassis, like you see in the automotive world where all the different size cars are built off the same kind of structure. And so if that's the case and we head down that path, regardless of what the Navy ends up building, we'll be able to utilize that capacity down in Charleston for different size components. We've been investing in different size motors, different size drives, different size components for those ships that would be applicable to any size ship, whether it's a battleship all the way down to a medium size USV. So that's where we're headed. That's where we think that the Navy is going to head down that path. And again, that capacity that we built out down at Charleston will be the enabler for that capability.

That's super helpful.

Thanks very much.

Our next question comes from the line of Austin Moeller with Canaccord. Your line is open.

Hi, John and Mike. Good morning. So just my first question here. Can you comment on the Tron Street Tracking Layer Infrared Payload Award, what the contract value might look like, and how this might grow as part of the Golden Dome now that over $13 billion was appropriated in the Space Force budget for 26?

Austin, thanks for the question. We're not going to comment on the size of the award due to the fact that that's competitive information. But we're really excited about this award. It's taken us some time, incredible amount of innovation to find a different way to do this mission. Now that we've won that award and we're squarely focused on executing the program and bringing that execution excellence to that team so that we can deliver on time. As we move forward to what other opportunities there might be in space, we look to help solve the bigger question of connecting potentially for Golden Dome, connecting the interceptor to the threat, which is one of the reasons why we want to put the software-defined radio with the software-defined crypto into space. That would allow us, and we put some compute up there as well, so it would allow us to now connect and decrypt the data, compute, and then re-encrypt the data so that we can send it down to the interceptor so that the decisions, the yes-no decision happens on the ground, but the connectivity happens up at the edge. in space. And so we're looking to solve the bigger problem that the Golden Dome has, which is time. The intercept time has to happen, we believe, up in space, that connectivity. Otherwise, you're not going to make the timeline. So what happens with the SDA tracking layer portfolio and how does it dovetail into Golden Dome is still a question mark. The preliminary architecture is still being discussed and not completely public, but we believe that all of the sensors that are up in space, all of the sensors on the ground to include over the horizon radar will be part of the solution for Golden Dome.

Okay. And based on the fiscal year 26, $27 billion shipbuilding budget and what you're hearing from the Navy, do you expect a higher mix of like small or medium USVs in the force structure? And would one design versus the other impact your ability to build an electric drive system or provide compute content or impact profitability on such a system?

It's a great question. I think you're going to see, and it's an opinion, you're going to see different ship classes being built. The battleship, whether they end up building a battleship or not, we'd love to see it, or it becomes a destroyer or a cruiser. But you're going to see a lot more as you kind of led here to smaller surface combatants, whether they're musvs or small usvs or medium or small usvs you're going to see a lot more quantity of those we've been investing in capabilities for those small and medium uh usvs by putting mission equipment packages on them putting them to see uh last year we we think there are missions out there for whether it's counter uas or isr or other missions uh for those small combatants as as far as the um the propulsion systems for those. Again, we've been investing in small, medium, large, and extra large different components. We have some of our propulsion components on some of the USVs that are being tested now. And of course, Columbia-sized motors would be applicable for some of the larger combatants. So we think we can address any number of different size ships, and we do expect that the Navy will buy a whole portfolio of different capabilities.

That's super interesting. Thanks for the caller.

Thank you. Ladies and gentlemen, as a reminder to ask a question, please first start 1-1 on your telephone. Please stand by for our next question. Our next question comes from the line of John Tan Wanting with CJS Securities. Your line is open.

Hi, good morning. Thank you for taking my questions and congrats on a nice year. I was wondering if you could address the quantum laser license that you signed. Can you go into a little bit more detail what that technology allows the customer to do, number one? And number two, are there more opportunities beyond that as quantum laser you know, becomes the next tech over the horizon.

Yeah, John, let me take that. Thanks for the question. Depending on the architecture of the quantum computing structure, some of them utilize lasers to excite the ions. And in this particular case, that's exactly what they're doing. They're using the quantum cascade laser technology that we make for military use to excite the ions for quantum use. To the question about are there other applications like this, we certainly look for non-core areas of the market to license our technology. We're not in the commercial space. We focus our attention on the military defense space. And so when we see an application like this, And this is the second time we've seen it, and we'll look for others going forward. We like to license the technology out and allow the other companies to take advantage of the technology in the markets that we're not in. And so we'll continue to do that in the future. I can't say we have another one in the bag ready to go, but we'll continually look for them.

OK, great question about the CapEx. You mentioned that you're increasing for the year. What is the specific? What are the specific programs that the increase is tied to? Is it production of components? Is it other stuff that's going on?

Yeah, John, I'll take that one for you. So thanks for the question. From a CapEx perspective, as John alluded to earlier, organic investment is where we're focused. And right now, from a CapEx perspective, that's about capacity. So we spoke about the elements that we're doing down in South Carolina, but also throughout the whole naval portfolio. We're looking to expand capacity and make sure that we're contributing to the more efficient shipbuilding aspirations of the department. So there's an element of CapEx going there. I would also say from a counter UAS and maybe more finite, the tactical radars, the demand continues to be robust. I think we're continuing to see the performance of these radars And that's requiring us to also increase capacity for that output. So those are the two primary areas that we're seeing. But the other things we're trying to do is also continue to have demo assets ready to meet the need of this kind of speed to market. So we want to have mission equipment packages to go on USVs that are ready to go. That's also an element of the CapEx. But mainly capacity, but also some demo assets uh, demonstration and speed to market.

Let me just add a little bit more to that. Um, uh, in an, in another area in the missile area, um, where as you, as you look at, you come to realize that in the battle, uh, battlefields of the future, it's going to be dominated. They're going to be dominated by autonomous platforms and weapons, uh, like loaded munitions and, and such. And sensing is a key part of, of every one of those platforms. Um, and of course we make exquisite, um, you know, infrared sensors and radars and other sensors as well. The demand signal for those low cost, highly attributable platforms is there. So we're investing some in capacity to expand those capabilities. And on the missile front, you know, all the way from the very low end capabilities, all the way to the very high end capabilities, are things that we're investing in, including capacity for those capabilities.

Understood. Thank you. If I could sneak one more in there, how do we expect OpEx and R&D to grow, maybe as a percent of revenue this year, or do they stay roughly the same?

Certainly from an IRAD perspective, we expect to see that as a similar percentage of revenue. I think the margin impact that you saw as we ticked it up to that mid-3% of sales range was a one-time thing. I think we're going to be stabilized there. That will contribute to our ability to expand margins. And then from a CapEx perspective, I would say that we're looking to tick that up, and it'll be somewhere in the neighborhood of 5% of sales. Got it.

I think I said OpEx, not CapEx.

Oh, I'm sorry. Yeah, I would expect from an OpEx perspective that you see a little bit more moderate of an increase. I think in 2025, we had a big jump that we saw, and I would not expect that to continue at that pace. Great. Thank you.

Thank you. Our next question comes from the line of Andre Madrid with BTIG. Your line is open.

Hey, good morning, guys. Thanks for taking my question. Good morning.

You know, looking at your prior 2026 target, I know you guys had outlined 14% EBITDA margin. That's obviously not going to be the case with what's implied right now. But when do you think that that could feasibly be achieved down the road? And then I guess, too, as we just look at, you know, 2026 kind of being the endpoint of your targets from the last semester day, I mean, what insight can you just provide at large about how the remainder of the decade might look like?

Yeah, so our intent is to provide multi-year targets probably in the first quarter of 2027, Andre, so we're not going to get out in front of that now, but I'll give you some directional points. The first is We think the business is structured to be in the mid-teens margins, right? So there's a continued path to grow the margins. I think our guide's showing that in the increase that we're expecting in 26, and I don't expect that to be any different as we look out into 27. So we should be able to get into the mid-teens comfortably there, and that's what I'd kind of give you that confidence there as we look out into the future. Gotcha, gotcha.

And then I guess as we look at, you know, book to bell, I mean, demand has just been so strong. I mean, we've looked at 16 consecutive quarters, either at or above one time. I mean, are you worried about this softening at any point? Or is there any particular area in which we might see a softening?

Well, Mike explained that we are looking at some of the areas that aren't going to grow as fast as other areas. But we focus all of our attention on the portfolio to see where we can invest to increase the speed of growth. And, you know, so I wouldn't point out any one particular area of the business that we say is the demand is going to fall off. I just think it's a matter of how fast they grow.

Got it. Got it. All right. I appreciate it. Thanks, John, Mike, and Steve. Thanks, Andre. Thanks.

Thank you. Our next question comes from the line of Ron Epstein with Bank of America. Your line is open.

Hey, good morning, guys. Hey, Ron. So you've covered a lot of ground already, but maybe one area where we really haven't talked much is what do you see for the company in terms of opportunities in Europe? European defense spending should grow up. go to, I don't know what, 850 billion by the end of the decade, maybe if everybody spends what they say they're going to do. That's a pretty big market. And then also, how has sort of the transatlantic tension impacted your business, be it that your primary shareholder is a European company?

Yeah, thanks, Rob. Let me take that. I think, first of all, you're right. There is certainly... The macro environment today, the U.S. is looking for speed. Europe is looking to be self-reliant. And there's urgency on both sides. And that's a conducive environment for partnership, frankly. You mentioned our parent. They're a key partner for us in driving that international growth capability. Given their footprint in Europe, And around the globe, we're looking to further leverage that position and accelerate and expand our growth, especially now that they have this AVECO defense and through their JV with Rymatol. Given the fact that they've got a strong portfolio, we're looking to utilize those technologies, capabilities in the U.S. And, of course, we'd have to Americanize the capability to apply to the U.S., And vice versa, right? Moving in the other direction, the self-reliance in Europe often starts with licensing technology from the U.S. We've got technology that we could do. So this is the right time for us to be having the discussion, and your question is timely, to be having a discussion about increased collaboration with Leonardo to address both the European markets and the urgency on the U.S. side.

Got it, got it, got it. And then maybe just a detail. Is the laser IP licensing a sign of just more expanded, I mean, I guess this is sort of what he asked, but more expanded work outside defense?

Yeah, look, I think that we want to stay focused. We want to stay focused on defense. We want to make sure that we play to our strengths and our capabilities Um, and, and so when we see a market like this, it's outside of our core capability and, and, uh, focus, we, we tend to want to get it licensed out. We want it, but we'll help. Um, but we want to get it out of our, uh, our, our portfolio and, and move it into a, uh, another domain. Um, this will keep us focused on the growth markets for defense, which is where we're, which is our strength.

Yeah. And Ron, I'll just add one thing here. He. The laser IP that we were talking about has a lot of utility in non-defense outlets. So we've looked at this in the past and have had some successes. We're going to continue to do so. But really where John's going is that utility of that IP just has broad-based applicability, and we're not going to be able to chase every one of those opportunities. So we're keeping focused on the defense space and get a look for these license opportunities as they emerge. Got it. All right. Thank you.

Thank you. Ladies and gentlemen, I'm showing no further questions in the queue. I would now like to turn the call back over to John for closing remarks.

Thank you. I want to thank everyone for joining today's call. We're proud of our strong, continued organic growth, our expanding presence in the space market, and our disciplined investment alignment with customer needs. We're excited about the opportunities ahead. Focus remains on driving profitable growth and delivering differentiated capabilities for our customers. If you have any further questions, Steve and the team will be available after today's call. We look forward to speaking to you again. Thanks again and have a great day.

Ladies and gentlemen, that concludes today's conference call. Thank you for your participation. You may now disconnect.