Kratos Defense & Security Solutions, Inc.

Welcome to Kregto's Defense and Security Solutions second quarter 2024 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To participate, you will need to press star 1-1 on your telephone. You will then hear a message advising your hand is raised. To withdraw your question, simply press star 1-1 again. Please be advised that today's conference is being recorded. Now I will pass the call over to the Senior Vice President and General Counsel, Marie Mendoza.

Thank you. Good afternoon, everyone, and thank you for joining us for the Kratos Defense and Security Solutions Second Quarter 2024 Conference Call. With me today is Eric DeMarco, Kratos' President and Chief Executive Officer, and Deanna Lund, Kratos' Executive Vice President and Chief Financial Officer. Before we begin the substance of today's call, I'd like everyone to please take note of the Safe Harbor paragraph that is included at the end of today's press release. This paragraph emphasizes the major uncertainties and risks inherent in the forward-looking statements we will make this afternoon. Please keep these uncertainties and risks in mind as we discuss future strategic initiatives, potential market opportunities, operational outlook, financial guidance, and other forward-looking statements during today's call. Today's call will also include a discussion of non-GAAP financial measures as that term is defined in Regulation G. Non-GAAP financial measures should not be considered in isolation from or as a substitute for financial information presented in compliance with GAAP. Accordingly, at the end of today's press release, we have provided a reconciliation of these non-GAAP financial measures to the company's financial results prepared in accordance with GAAP. With that, I will now turn the call over to Eric DeMarco.

Thanks, Marie. The successful execution of Kratos' strategy and our position as a leading defense and technology hardware and software company is reflected in our Q2 and year to date financial results. Kratos' strategy of making internally funded investments in close collaboration with our partners and customers to rapidly develop engineer field and be first to market with relevant products, systems, and solutions is working for our customers, partners, shareholders, and all of our stakeholders. that Kratos affordability is a technology which is directly related to our strategy of investing our own money, enabling us to move fast, rapidly developing our products for low cost mass production in large quantities and for affordable mass. As we watch peer adversaries in both potential and active conflict, and at the same time see adverse DOD budget and program cost impacts, Kratos is focused on solving these challenges with systems that are truly realizable, near-term achievable, and affordable. At Kratos, we believe that better is the enemy of good enough, and that someday in the future, maybe having the perfect capability or solution that is studied and modeled and then studied again is too late, too expensive, and an abject failure. Recent examples of Kratos' successful strategy execution with relevant working systems include Kratos's Aeronis hypersonic glide vehicle from initial conception to first flight with the Missile Defense Agency and the Navy in approximately 30 months for an approximate $15 million total development cost. Kratos's Zeus family of solid rocket motors from conception to successful static fire in three years for an approximate $23 million investment and now positioned for the Mach TB program hypersonic Aranis missions, and several additional customers. Kratos' Valkyrie runway enabling trolley system, from conception to first flight in effectively 15 months for a few million dollar investment, with Kratos' Ghostworks achieving another important milestone in Valkyrie operational deployment flexibility, which we continue to rapidly mature and demonstrate. Each of these relevant Kratos funded and developed systems are expected to be important contributors to Kratos' business and our future financial growth and profit trajectory based on specific customer orders and feedback and are representative of the value Kratos generates for our stakeholders. In Q2, Kratos' engine and turbine business continued its revenue growth and profit expansion trajectory beating its forecast, including engines for drones, missiles, aircraft, space, hypersonic, supersonic, and other systems. Kratos is the clear industry leader and independent merchant supplier of engines, propulsion, and subsystems in our areas, and we expect continued future growth based on customer demand. We recently announced a Kratos small jet engine partnership with General Electric Aerospace, which is incredibly important to Kratos, with GEA bringing large-scale engine production experience, capital, intellectual property, customer relations, and more, and we are anticipating future production of thousands of low-cost engines in this class for drones and missiles. The GEA partnership is specifically with Kratos' turbine technology business for small turbofan jet engines. and is not related to Kratos' TDI small turbo jet business, which has separate locations, technology, IP, and target market opportunities. As part of Kratos' arrangement with GEA, where we will be sharing future engine production revenue and profit, Kratos, in coordination with GEA, will be making an investment and standing up a new low-cost small engine manufacturing facility as we begin preparation for expected future production. Separately, we are investing and expanding our TDI small turbojet engine production capacity and Kratos's overall hardware and manufacturing capability, including additional additive manufacturing, 3D printing, milling, machining, casting, and forging capabilities, which is part of Kratos's vertical integration initiative. We are establishing new engine production lines related to the many new drone, missile, and loitering munition programs that TDI has, including those that we are designed in on. We are either now in contract negotiations for, and we are hopeful to receive an initial 1,000-unit order with a potential 10,000-plus opportunity in the near future. Kratos Turbine Technologies, TDI and our engine and propulsion system business are currently expected to be some of our company's primary future growth contributors. Kratos' Israeli-based microwave electronics business also exceeded its Q2 forecast, including programs supporting multiple air defense systems, including Iron Dome, Iron Sting, Lightning, Arrow, Barak, and others. Kratos' microwave has also a record backlog and opportunity pipeline, and we are making the investments to increase our facilities, hardware, and manufacturing capacity in order to address existing and forecasted increased future demand, including a space-qualified capability, as a result of certain new satellite systems awards we've received and opportunities. Kratos has deep relationships with Israeli aerospace industries, Rafael and Elbit, and we expect our Israeli business to be one of Kratos' future year-over-year organic growth leaders as we support our important Israeli and international customers. Global air defense system-related demand, including missile, radar, counter unmanned aerial system, and space systems, also contributed to Kratos' C5ISR business exceeding its Q2 forecast, including Patriot, THAAD, SHORAD, indirect fire or IFPIC, IBCS, CUAS, DE, and HPM-related systems. Kratos' C5ISR program's backlog and opportunity pipeline is also at record levels, and C5ISR is expected to be an important future year organic growth contributor as we support our important partners, including Northrop, Lockheed, Raytheon, Dynetics, and others in their national security missions. Kratos' C5ISR backlog and opportunity pipeline is at a record level, and we are making the investments necessary to support our partners and customers, including expanding our C5ISR business's hardware and manufacturing capacity and also including our new Sentinel program facility. Kratos' training systems business is also growing. With increasing margins, as certain programs we have been awarded ramp up, and additional new program wins are expected. The global recapitalization of strategic weapons systems, in addition to the weapons system, requires training systems, with Kratos being an industry leader, with representative Kratos systems including M1 Abrams, Bradley, Blackhawk, and Air Force Global Strike Command systems. Kratos Training System Opportunity Pipeline is one of the strongest in our company as we head into the second half of 2024. Kratos' cybersecurity business, one of the company's most profitable, is also forecasting future growth, including as the DoD's Cyber Maturity Model Certification Program, or CMMC, initiative progresses, with Kratos having some of the industry's most important and critical cybersecurity-related relationships, relevant past performance qualifications and customers. As we have communicated previously, Kratos' space and satellite business, our company's largest, is being adversely impacted by the previous extended 2024 CRA, which delayed and pushed certain government programs or existing program funding to the right, including programs Kratos is or expects to be under contract on, And we are now also assessing the probable upcoming federal fiscal 2025 CRA, which is likely to begin October 1st. Additionally, our satellite business is also being impacted on the commercial side by the highly publicized technology and other issues being experienced by the manufacturers of software-defined satellites, which is delaying the award and or deployment of the related satellite system ground communication infrastructure, including Kratos's. However, we are now in source selection on several DOD, national security, and other program opportunities, certain of which we expect to receive either later this year or early next, which should put Kratos' satellite business back on a growth trajectory. With a large number of LEO, MEO, and GEO constellations and satellites planned for or expected to be launched, we remain confident in the future prospects for our satellite business including our first-to-market virtualized OpenSpace software platform, which is a clear competitive differentiator for our company. Increased demand for our target drone business continued in Q2, with bookings of nearly $130 million and a book-to-bill ratio of 1.5 to 1 for the quarter, and Kratos' unmanned systems bookings being $290 million for the past 12 months. Global weapon, Air defense system and training demand I referred to is contributing to the increased Kratos target drone demand, which is expected to continue both domestically and internationally as air defense systems, missiles, radars, ships, satellites, et cetera, need to be exercised against and warfighters trained against threat representative targets. Kratos' target drone business is expected to be an important future organic growth contributor for our company. On tactical drones, as has been increasingly reported over the past few weeks, including just yesterday, budgets are tight and are expected to get tighter. Affordability matters and is going to matter even more in the future. And we believe that potentially, maybe better someday, is the enemy of good enough and flying today and Kratos remains confident in our success. Apollo is now under contract, and Athena has been down selected and is expected to be under contract this quarter. Kratos Valkyrie is now in source selection on certain opportunities, so I am not able to make any specific program, opportunity, or customer-related comments on Valkyrie at this time. I can say that we have completed our planning for the next serial production run of Valkyries, including with our key suppliers, and we are ready to move forward once we have certain additional information on the potential opportunities, including the final version and capability mix of the aircraft. We are now planning the expansion of our Oklahoma drone manufacturing capacity, including a potential additional facility. with the expansion being for both tactical and target drones, including as certain of our drone systems are utilized for multiple applications or missions based on mission configuration of the system. With a successful Valkyrie flight from the Kratos Trolley launch system, Kratos' Ghostworks is now working on an additional Valkyrie launch capability variant, also in close coordination with the customer. The Valkyrie Trolley Launch System, funded by Kratos, but in close coordination with the customer community, establishes Kratos as the only high-performance jet drone system provider with rail-launched runway independence, traditional runway capability, and soon an additional launch capability. Kratos Ghostworks is also looking ahead at new and evolving weapon systems, their applicability to unmanned systems, including Valkyrie, the impact of artificial intelligence integration, and the potential game-changing impact of a system like this in a peer conflict. Kratos and S.H.I.E.L.D. continue to successfully execute the strategy, with S.H.I.E.L.D. AI routinely flying Kratos' high-performance jet drone systems, including an incredible mission in just the past few days. From my perspective, what S.H.I.E.L.D. is doing is potentially transformative and game-changing, with S.H.I.E.L.D. taking advantage of Kratos having the only high-performance jet drones that have performed hundreds of actual flight missions, with S.H.I.E.L.D.' 's artificial intelligence system flying and flying and learning and learning with the highest performance jet drones in the world, Kratos'. The Marine Corps Miramar Air Show is coming up this September here in San Diego. And in addition to an actual Valkyrie, an actual Airwolf, a Mako aircraft, et cetera, we intend on displaying several other high-performance Kratos jet drone aircraft at the show and also potentially a new Kratos system if we can. Defense budgets are increasing globally, including in the areas of air defense, missiles, radar, space, satellite, hypersonic engines, propulsion systems, C5ISR, microwave electronics, drones, cyber, and training systems, with Kratos being a hardware and software-rich technology company addressing each of these areas and many others. Years of underinvestment in the defense industrial base is and will need to be corrected, and Kratos is participating in this buildup and the recapitalization for the strategic weapons systems. We are making the investments and vertically integrating selectively where it matters to reduce supply chain risk and to also reduce cyber and physical related security risks as we need both surety and security with our supply chain. Producing hardware in large quantities for defense and national security applications that must reliably perform at an affordable cost is hard. and it's a key differentiator for Kratos to our partners and our customers. As you know, the 2024 budget continuing resolution went through March of this year, and another potential 2025 budget continuing resolution is expected to begin October 1st, just two months from now. Irrespective, we remain confident in our 2024 financial guidance, which we affirm today, and we also remain confident and our expected future year-over-year organic growth rate of 10% with the potential to exceed it. As we reported, Kratos' opportunity pipeline is a record $12 billion, and we are in pursuit of certain new large programs as a prime, including classified opportunities in our unmanned systems business and our space, cyber, and training businesses, which are requiring significant Kratos bid and proposal and related investments, including one opportunity, where Kratos' investment in the second half of 24 is expected to be approximately $2 million for this one opportunity. We have no significant acquisitions anticipated, only maybe potentially some very small tuck-ins. Operational challenges include the obtaining and retaining of qualified, experienced personnel, including those willing and able to obtain national security clearances and the related cost of these individuals. Ms. Deanna.

Thank you, Eric. Good afternoon. As we have included a detailed summary of the second quarter financial performance, as well as the initial third quarter and affirmation of the full year 2024 financial guidance in the press release we published earlier today, I will focus on the highlights in my remarks today. Revenues for the second quarter were 300.1 million, exceeding our estimated range of 265 to 280 million, which includes higher than expected performance and delivery across most of our businesses, with notable strength in our unmanned systems, turbine technologies, microwave products, and C5ISR businesses. We made delivery on an international Middle Eastern drone program during the second quarter, which contributed revenues of 17.4 million, which was originally forecasted to be delivered in Q3. As we have discussed on previous calls, revenues under certain international contract awards, due to the contract terms and conditions, are recorded as delivered rather than over time on a percentage of completion basis. As a result, the delivery under a contract of size, such as a delivery this quarter, can skew the quarter of delivery over quarter sequential trends. Consolidated organic revenue growth was 16.7% for the second quarter, including the impact of the Sierra Technical Services, or STS, acquisition on a pro forma basis as if acquired at the beginning of 2023, driven primarily by organic growth in the unmanned systems business of 61.8%, as well as notable growth in the turbine technologies, microwave products, and C5ISR businesses in our KGS segment. Adjusted EBITDA for the second quarter of 2024 was 29.9 million, exceeding our estimated range of 20 to 23 million, reflecting the additional revenues as well as a more favorable mix of higher margin revenues with notable strength in unmanned systems, turbine technologies, microwave products, and our C5ISR businesses, as well as higher margin software and data-related content from our satellite business. Cash used in operating activities was 2.7 million, which includes the impact of working capital requirements related to increases in receivables related to the revenue growth, increases in prepaid assets resulting from advanced payments or deposits required by key suppliers, and the reduction of deferred revenue balances or prepaid customer deposits as work has been performed and delivered. We are seeing a trend in our supply chain where certain of our vendors are requiring prepayments or deposits to secure our position which is adversely impacting the timing of our working capital requirements to deliver our products and solutions. Free cash flow used from operations for the quarter was $15.4 million after funding of CapEx of $12.7 million. As we planned, we are continuing to make investments to expand and build out certain of our manufacturing and production facilities in our microwave products, rocket systems, and hypersonic businesses to meet existing and anticipated customer orders and requirements and investing in related new machinery, equipment, and systems. We are also continuing to manufacture the two production lots of Valkyries prior to contract award. Consolidated DSOs or day sales outstanding continue to improve from 107 days in the first quarter of 2024 to 103 days in the second quarter of 24. Contract mix for the second quarter was 70% fixed price, 24% cost plus contracts, and 6% time and material contracts. Revenues generated from contracts with the US federal government during the second quarter of 24 was approximately 65%, including revenues generated from contracts with the DoD, non-DoD federal government agencies, and FMS contracts. In the second quarter of 24, We generated 15% of revenues from commercial customers and 20% from foreign customers. An operational priority remains the hiring and retention of skilled technical labor across the company, with total Kratos headcount of 4,012 at the end of the second quarter as compared to 3,986 at the end of the first quarter. Now moving to financial guidance. The guidance we provided today includes our expectations and assumptions for our supply chain execution and for employee sourcing, hiring, retention, and the related costs. We have also taken into consideration in our affirmed fiscal 24 guidance a federal fiscal year 2025 continuing resolution authorization commencing on October 1st, 24, and under such expected CRA, no new program contract awards, no increases in existing production, contract funding, and no transition from program development to production. Our guidance also reflects the impact of certain performance and deliveries made in the second quarter of 24, certain of which had originally been estimated to be executed or delivered in the third quarter of 24, the most notable of which was the delivery of the international drone program in the second quarter, which has skewed the sequential quarter trend in our unmanned systems business. We are affirming our annual guidance with revenues for unmanned systems in the range of 265 to 275 million, up slightly from our previous range of 260 to 270 million with an organic growth rate of 22% to 27% over 23 on a performant basis with STS as if acquired at the beginning of 23. Our range for KGS business is 860 to 875 million, slightly down from our previous range of 865 to 880 million, which reflects increased weakness in our commercial satellite ground equipment business, resulting from the impact of the current industry technical challenges encountered in the manufactured software-defined satellites that have delayed satellite launches and have had a resulting delay in the deployment of our commercial satellite ground equipment, offset by increasing demand for air defense, and related systems in our microwave products, turbine technologies, and C5ISR businesses. Our reaffirmed EBITDA range of $102 to $107 million includes the expected mix, as well as additional $2 million in costs related to the large proposal in our space cyber and training business, which Eric referred to previously. Eric?

Thank you, Deanna. We'll pass it to the moderator now for questions.

Thank you. And as a reminder, if you do have a question, press star 1-1 and wait for your name to be announced. To remove yourself, just press star 1-1 again. One moment for our first question. And it comes from the line of Michael Charmoli with Truist Securities.

Hey, good evening, guys. Thanks for taking the question. Eric, it sounds like you're making a lot of progress on a lot of programs. I guess just on Valkyrie, you know, you mentioned that one close to source selection. You're moving forward with the second production lot. Can you just give us maybe some sensitivity? I don't know if to you or Deanna, if you do get those or if you do get a contract and you put some planes under contract, how that would impact the current guidance, maybe the cash flow and even the revenue impact?

Sure. So, Michael, so from a revenue perspective, when the contract is awarded, whatever the number of aircraft that the award is under contract for, those costs that are currently in our PP&E would be transferred to effectively inventory and unbilled receivables, and revenue would be recorded for those systems. So if it's, say, five aircraft, then five that are in whatever state of completion, those costs would be transferred, and then the revenue would be recorded accordingly for whatever percent complete they are at that time. From a receivable or a collection perspective, it will depend on the billing milestones that we are able to negotiate with the customer. So depending on if we can get a payment up front, we obviously always endeavor to do that, but it will depend on what we're able to negotiate.

Okay. And do you think that's a, is that a second half kind of development in signing or still hard to tell at this point?

It's possible second half. It's probable 25. Okay. That's where it sits right now, which is why we're just being cautious in our guidance. Got it.

And Eric, I think you guys have talked to different variants, different sizes. I know in the prepared remarks, you talked about the trolley system. Sounds like you've got landing gear in place for Valkyrie. you know, to kind of, you know, you've secured a vendor maybe there. Can you talk expectations about what maybe the customer's looking for? And, you know, it's kind of runway independence, no longer the desired, or do you just want to give the customer options?

It's the latter, Mike. We're definitely giving the different customers who have different priorities options and the path we've taken now with where we sit today with rail launched drones flying runway launched drones flying with the trolley as you indicated very soon we're going to have a valkyrie with its own internal gear which will also have internal weapons flying and then we have another one ghost works is working on coming also we will have the entire portfolio flying demonstrated for the various customer community. Okay.

Got it. Last one for me. The contract in place with GE Aerospace, I think that replaces a previous joint development, but this one includes kind of full-scale engine production. Have you spoke to or could you speak to the potential economics there? just maybe what that program could look like as it ramps, as it gets into full production? Do you have customers secured already?

I'll take the last part first. On the customers we have, we, us, and General Electric, we have multiple customers that have been working with us for the last several months. They are in the loop, and they are waiting for these engines. So that is why we, us and GE, we're very excited about this. Because with the technical capability and the cost points of these engines, which will be here very soon, we are going to be first. And every time I say we, it's us and them. We're going to be first to market with what we believe is a game-changing family of systems here. The economics are very fair. I can't... I can't discuss it yet because we're both still under an NDA. But we are, and I believe they are, extremely happy what the economic split is going to be on the engine production. And as you know at Kratos, it's better to have a big part of something than all of nothing. And we were confident that with GE, with potential customers, the big air framers, the big missile guys, this significantly increased or assured our probability of success. Got it.

Perfect. Thanks, guys. I'll get out of the way here.

Yep.

Thank you. Our next question is from Peter Arment with Baird.

Yeah, good afternoon, Eric, Indiana. Hey, Eric. Congratulations on the IRINES hypersonic test flight. Could you maybe talk about how you kind of see... future subsequent tests or flights and how that, you know, can play out as we get into maybe even 25 as it's turned into kind of a backlog growth story. And obviously you have another vehicle that is also part of that program.

Yep. Yep. So Aranis is a hypersonic ride vehicle and it's at least the current public version as a test bed. And hypersonic testing is something that that is in incredibly high demand in the United States. There are not enough test assets, and if you look at some of what the government agencies say, they would like to test fly every week or two. Well, we now have that vehicle. We've received additional orders since that flight. This will be one of our primary growth drivers. This is a new, obviously new for us, new for the industry. This will be one of our primary growth drivers beginning next year. I believe under the Mock TB program and under an additional program that we have. And then we're going to be talking hopefully maybe a little earlier than this time next year about a second hypersonic vehicle of ours that's going to fly that'll be an additional market for us. So this is a Very important for us. I'm really glad you asked the question.

So do you anticipate a ramp-up in test activity next year and have a similar revenue profile?

Absolutely. Absolutely.

Great. And then just on your engine businesses, obviously a lot of excitement around both of them, TDI and Florida Turbine. can you talk a little bit about how quickly you can scale up? Cause I know that the air force has kind of put out an RFI and an RFP on the, uh, ERAM, uh, extended range attack munition that's specifically for Ukraine. And it feels like that's right in the wheelhouse of, of TDI, but you know, you've talked about your other partner with Boeing and jointly developing systems there. You maybe talk about how quickly you can scale up some of these opportunities.

Yeah. Um, And in addition to ERAM, some of the other publicly available ones are MACE, ETV, Franklin, and CAMS. So those are all out there. There's a handful of other ones in addition to those, virtually all of which need propulsion systems in the family and the affordability class of TDI. And then, of course, there's Power JDAM. We have been working on our production facility and our manufacturing capability, so we will be able to do hundreds, if not a thousand or two a year. That's what we're getting ready for. And if you take a look at some of those programs I mentioned, the quantities are there. if we just get our fair share of those, which we believe we will, based on our communications with the customers, the air framers, and our designed-in positions on certain of these. So we've been getting ready for this, and those are the numbers that we're preparing to produce that annually.

Got it. Last one for me. Could you talk a little bit about your bid pipeline expanded by $1 billion this quarter, up to $12 billion? What was driving that?

Thanks. Peter, it's in our unmanned group, as well as our space and training group, and our defense rocket systems group. It's across those three businesses. So it's not one specific area. It's across three.

Thanks, Deanna. Thanks, guys.

Thank you.

Thank you.

Our next question is from the line of Sheila Kahiaoglu with Jefferies.

Thank you, guys, and great quarter. A few questions for you, Eric and Diana. Maybe if we could start on that last subject Peter was just talking about with Zeus and Aaronese. How could we think about that hypersonic activity pipeline of a billion dollars? How could we think about that progressing over the next five years? Would it be equally weighted, or how do we think about that opportunity of materializing?

If things come together the way we see them coming together, next year, in 25, it could be an incremental $50 to $100 million. Then in 26, it could be an incremental $100 to $150 million. And then it could be $150 to $200 million a year thereafter. Thank you, Eric. That's what the manifest looks like.

Thank you for that. What do you need to see in order for that to happen?

Budget's in place. No significant changes to the priorities of this customer set. And I'm saying this semi-facetiously, and global peace doesn't break out. So we're... Sheila, we're in a really good position because we're first to market with Zeus, Aaronese, and another system that's not public yet. We're in a great spot and these things are flying.

Yeah, no, that makes sense. And in unmanned, your profitability was really good year over year. Is that sort of the level we should expect going forward or was this one time?

It will depend on the mix and from a development perspective and the leverage off of the fixed infrastructure costs. Since we did have a sizable international drone delivery this quarter of 17.4 million, so that did drive some of that leverage off of the fixed infrastructure. But it will also depend on the mix of the programs on a quarterly basis.

Got it.

Thank you so much.

Thanks. Thank you.

Thank you. Our next question comes from the line of Mike Crawford with B Riley Securities.

Thank you. Just a couple of clarifications. First, when you're talking about readying for your next serial production spiral of Valkyrie, would that be the third such spiral? You're not talking about the second one. You already began, right? The third. Right. And then thank you. And then you talked about expanding Oklahoma for tactical and target drones, but isn't that also where you're standing up, uh, affordable engine production with GE aerospace?

Mike, I'm smiling because I, I, I saw that report, um, uh, that, that news article we, uh, So our drone manufacturing facilities are in Oklahoma City, and that's where the expansion for the tactical and the target drones will be, both in the existing facility and a brand-new facility we've already identified and we're moving out on. Outside of Tulsa, Oklahoma, is where our existing engine business is, and it is probable that that is where we will be standing up our – one of our low-cost turbofan with GEK. And the primary reason for that is because the workforce, we have a very experienced workforce with engines there already. We're networked. We've got the supply chains. It looks very promising that that's what we're going to do.

And would that workforce also include workers directly or indirectly supplied from GE Aerospace?

I can't get into that yet until the final definitive agreement is executed, and then we jointly will communicate that. I'm sorry.

Okay, that's fine. And then switching gears a little bit, could you maybe update us on the lay of the land and solid rocket motor propulsion, where you stand versus competitors, some of which seem to have claims perhaps above means?

Yeah, that's actually an excellent question. Rocket motors are hard. And solid rocket motors are extremely hard. And the lay of the land right now is there are two that are qualified in the United States, Aerojet and ATK, Northrop Orbital ATK and L3 Aerojet. All right. Neither one of them are really a merchant supplier because they're embedded in a prime. And as you've indicated, there are a number of guys out there. Some of them are like Ursa Major or Crossbow or Adronis, which is part of Andruil. There's a couple of other ones that are coming. They've said they're going to get into this. But, Mike, this is very hard. And unless the rules change, the qualification rules, it takes time. years to get qualified and it takes years to get qualified and designed in on a system flight testing etc and so and so the demand is definitely there there are there are some guys coming i will i will tell you that that because of the nature of our business and our customers you know being a merchant supplier of solid rocket motors in the united states is something we continue to look at very hard because we would be a true merchant supplier and we're experts in this area. And so that's something we're definitely looking at relative to our partnerships with the primes.

Okay, thank you. And then just one final one, because we haven't really talked about CCA on this call, but at some point we'll be moving from more of the exquisite to like around to something more equitable and I think another article I read was that Ghostbat now is not even being designed to carry weapons. So versus I think you have multiple platforms that have distributed that ability, right?

Correct. I saw that article that Boeing's Ghostbat does not have carry weapons capability, which caught my eye, of course. I know it caught industry's eye. Yeah, multiple of our aircraft carry of deployed weapons, including Valkyrie, of course. As I mentioned in the prepared remarks, we remain laser-focused on affordability, attritability, and hitting cost points so affordable mass can really be achieved with things that are flying today, not potentially seven years from now.

Okay. Thank you, Eric. Yep.

Thank you. Our next question comes from the line of Seth Siffman with JP Morgan.

Good afternoon. This is Rocco on for Seth.

Good afternoon.

Looking at the Q3 guide, even X the 17.4 million of international target drone deliveries, The guidance is for sales to decrease next quarter sequentially. What is driving that decline?

So the primary decline in that is in the commercial part of our satellite business. As I've mentioned, and it really hit the press in the last three or four weeks, the manufacturers of the software-defined payload satellites are having some incredible technical difficulties, and the satellites are not going up. So with the satellites, and as you know, Kratos' open space software-defined virtualized ground system was specifically designed in part to communicate with these software-designed satellites. I'm talking on the commercial side. As those satellites are not going up, the operators, and again, there was an incredible article on this just in the past few days that's out there that, of course, we've known. The operators are slowing down their supply chain, including the ground infrastructure. Guys like Kratos are going to communicate with them. So we're designed in, we've won the slots, but the operators are making the right business decision by not deploying until the satellites go up. And so we are being very cautious in our assumptions in the commercial side of our space business. It's being offset by the government side, which is doing great, and it's being offset by other businesses in KGS, which are growing 15%. But that's the primary reason we're going to be very cautious there until some of these commercial satellite issues get resolved.

Right, that makes sense. Then has the outlook for combat drones and creators' position in the market changed meaningfully over the last few months?

Has it changed meaningfully? I believe that we are in a better position. I believe we've been in a great position. I believe we're in a better position today. than we've ever been in. Let me tell you why. Jet drones are happening. They are happening. And when you look to the Pacific and the ranges that are going to be involved in survivability or lack of survivability, which will be quantities, Kratos' class of jet drones is the answer. There are more and more war games that are becoming public, reports that are coming out. The Mitchell Institute just put one out. There was an incredible report that just came out last night on this that quantities will do far better deterring and must be defeating China than exquisites or semi-exquisites. And we have been focusing on expendable and attributable drones, and that's our sweet spot. And they're low, low cost, and they're very lethal, and they're very survivable, and I think we're going to win.

Great. Thank you guys very much.

You got it.

Thank you. Our next question is from Ken Herbert with RBC Capital Markets.

Yeah. Hey, good afternoon, Eric and Deanna.

Hi, Ken. Hi, Ken.

Hey, I wanted to just follow up. Can you give any indication? I would assume it's factored in the CapEx guide, but the investment you're making specifically in the turbofan engine capacity as you look to scale that up?

Yeah, that's roughly about $10 million to $12 million for the year.

Okay, perfect. And you've obviously had a step up in CapEx this year to reflect some of the incremental investments and opportunity. Is it Can you comment on next year? Does CapEx, based on current plans, step up again next year? Is it contingent upon sort of contract wins? Or can we view this year as sort of the peak CapEx year?

It is contingent on contract wins. However, I believe there's, I would say, in the 70 to 80 million of the CapEx guide for the year, I would say 40 to 50 of that is what I would call investments that are, I don't like to use the word non-recurring, but that's probably the best word at this point. So what I see is our maintenance capex is closer to call it 35-ish million a year. But depending on contract awards and opportunities, there could be opportunities in 25 that we would make investments for.

Okay, that's very helpful, Deanna. Thanks. And just maybe, Eric, as I look at just such phenomenal growth internationally, I guess specifically in NATO countries, can you just level set us on what percentage of your sales are into maybe NATO countries or outside of the United States more broadly, and what kind of growth you're seeing in that this year and potentially in the next year?

Yeah, so our international revenues are about 20% for the quarter.

And the growth there in Israel and in systems that are going to NATO countries that we build, so these are air defense systems, radar systems, and counter UAS systems, it's very strong. So, Ken, for a data point, And I talked in detail about our space business. Putting our space business aside, KGS is growing 15% organically. A significant part of that is our C5ISR business where we work with Raytheon on Patriot. We work on FAD. We work on a number of counter UAS systems. We're working with Dynetic on indirect fires or enduring shield. all of these air defense systems. And in addition to that KGS part is where our Israeli business sits, where we are supporting Iron Dome, Arrow, Barak, Lightning, Iron Sting, virtually every missile and radar system. And so they are very, very strong. The backlog is very strong. And the order book potential for the next two years is not only strong, but it's increasing.

That's great. So I guess it'd be fair to say that the international piece of the portfolio probably sees much better growth than sort of the 10% you've talked about for the company over the next few years organically.

Yes, but.

Yes, but. Next year, with our partner Northrop, which is one of the best partners we have, Sentinel is going to start ramping for us in a big way, very significantly, tens and tens of millions incrementally, which of course is U.S.-based. And yeah, on the target drones, I was going to say target drones, but you're absolutely right on that. It's a mix of international And the other one, Ken, our hypersonic business, our rocket business, as I answered the earlier question, no later than the second half of next year, a significant step up is expected. Significant. I went through the numbers. And so 25, definitely 26, 27, that is going to be all U.S., and it's going to be significant. So my point is the mix may change, Because of these programs, we've won.

Great. Thanks, Eric. Very helpful. Thank you.

Thank you. Our next question is from the line of Josh Sullivan with the Benchmark Company.

Hey, good evening, Eric, Deanna. Good evening, Josh.

As far as the GE relationship, we hear a lot about tightness and forgings and other aspects of the aerospace supply chain. Do you see this as a hurdle for the GE partnership engines, or are your designs, just given their lower cost, able to circumvent some of these issues to get to some of these higher volumes?

Two things. Number one, our designs are definitely able to circumvent some of the issues. However, one of the key attributes And one of the key reasons, there were many, we did this with GE, is because they're the big dog. They're the preeminent. And they have priority. We call them kryptonite parts, with kryptonite vendors on very specialized subsystems and components for the engines via their supply chain and their relationships. That's an incredible value they're going to bring us. it not only brings surety to us, but it's bringing surety to the missile guys these engines are going to go in. That if we get a multi-hundred-a-year order, we're going to be able to source it and we're going to be able to build it. And with General Electric behind Kratos or in front of Kratos, wherever you want to look at it, that's what's closing the deal here.

Got it. And then just as far as that loitering munition market, given the increasing use in the battle space, You mentioned you were in contract negotiations, but what's your sense of how quickly this market ramps?

I think it's possible by the end of this year.

It's probable. It'll happen next year. We're going to begin to get the initial production orders on turbojets. So think 200 pounds of thrust and below. And It's probably going to start out at a few hundreds, and then it's going to ramp. Again, I went through some of the program names. If you take a look at what they're talking about, it's going to ramp for us to several hundreds and potentially a thousand or so a year over the next several years. And that just ties into the – I have a list here in front of me. Again, I went through some of them. The opportunities that are out there, most of which, if not all of which, we're either designed in on or we're working with because we have flying engines. And our cost points are very, very competitive.

Thanks for your time. Thank you.

Thank you. Our next question comes from the line of Joshua Sofel with Noble Capital Markets.

Hey, good afternoon, guys. I'm filling in for Joe.

Okay. So you guys basically answered pretty much all my questions, but you know, just kind of more for a couple of housekeeping ones. Um, you know, you guys talked a little bit about the Prometheus contract you guys were awarded, you know, is there kind of any progress on that contract? Is it still kind of expected to be contracted by the end of the year?

Yeah. Um, if, if I said that we had been awarded Prometheus, I misspoke and I apologize. I don't remember doing that, but if I did it, I apologize. So Prometheus is an opportunity that we are working on. We are getting there. We're in the red zone, football term, but it's not complete yet. So again, I apologize for that misunderstanding.

Okay, that's helpful. Thanks for clearing that up. And, you know, kind of a couple months ago, you know, Aaron Buss was talking about, you know, in the space satellites, re-evaluating space business, You know, is there any more impact to that reevaluation that it has on Kratos itself? You know, are satellites being pushed even more further to the right due to that?

And I want to make sure I understand your question. Are they being pushed to the right because of what?

The Airbus reevaluating its space business as a whole.

Ah, got it. I got it. Yeah. Yeah. Yeah, so what's going on with Airbus is definitely impacting the ecosystem and it's definitely impacting Kratos. And I feel bad for them and I really hope they get this stuff figured out. I am highly confident we have taken that into consideration in our financial forecast. And as Deanna and I tried to articulate today, we're very fortunate here at Kratos that we have six divisions and five and a half of them are ripping. And the half that is not is tied to commercial software-defined payload satellites right now, which we've taken into consideration. The management team over there in our satellite business, I've got to tell you, they have done an incredible job on the resource allocations to our national security programs, our defense programs, and some other things they're working on, like our global space demand awareness network. to hold court. I mean, reading other companies' space businesses and what's going on with them, which is tied directly to what your question is, our team is far outperforming them. And so we've taken it into consideration. As soon as these technical issues with some of these software-defined payload satellites get fixed and the operators can get them and they get launched, we're going to be in fantastic shape.

Okay, that's helpful. Yeah, thanks for the time, guys.

You got it.

Thank you.

Our next question comes from the line of Pete Skibinski with Alembic Global.

Hey, good afternoon, guys. We just wondered if you could quantify the size of the Apollo contract. You said it's on contract now, and then was wondering about timing, if there's the potential for a larger follow-on in the future.

Right. So it's think of a couple tens of millions right now, and that's over a couple of years. And if we're successful and we, us and this customer, there's absolutely the opportunity for a larger follow on here.

Okay. Okay. My only, thanks for that. The only other one, I think I know the answer to this, but, um, you know, if we do have potentially a change in administration next year and there's less financial support for the effort in Ukraine, I would just wonder, do you guys have any, you know, direct exposure there or maybe what you'd consider kind of, you know, near direct exposure?

So our primary exposure relative to what's going on in the Ukraine has to do with, you the NATO countries rearming. And I saw the other day that virtually all of them now are over the 2%, and they're increasing, with some of them at 4% and 5%, like Poland. My opinion is if the Ukrainian situation gets resolved, that that, in the NATO countries' minds, does not address the primary threat, which is Russia. And so... I don't believe it impacts us or our customers, our partners, on these air defense systems. The number of air defense systems, surface-to-air missile systems, counter-UAS systems that have been ordered and that are coming down the pipeline, these are just the ones that we're involved in. It's stunning to me. It's stunning. And so I don't think a resolution in the Ukraine impacts us because the primary threat or the inherent threat will still be there.

Okay. Appreciate it. Appreciate the color. Thanks, guys. Yep.

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

Hey, everyone. Thanks for taking my question.

Looking at the strong unmanned book to build for the quarter, I mean, with Apollo now under contract, How much, if at all, of this contribution for bookings was from tactical drones?

It was primarily all on the target drone side.

On a relative basis, it was small. That mix will probably change in either Q3 or Q4. But target drones are doing very well. We're probably going to be in a position relative to that to make an announcement of our largest target drone order ever in the next month or so. We just got it.

Gotcha. Gotcha. That's helpful. And then sticking on the unmanned side, I mean, looking at what you guys announced with the GEK engine, you know, you guys are saying that it's probably going to be in the thrust range of probably less than 3,000. According to the RFI that was released on CCA, they're aiming for something between 3 and 8. I know you guys said you could scale up, but kind of piggybacking off of Peter's question earlier, how easy is it to scale up?

I'm sorry on both of those. I can't comment. I just can't do it. And I'm not affirming what you saw. I just can't comment on it. I apologize.

No, no. No worries at all. No worries at all. And then my last one is pivoting away towards KGS. I know you noted hiring at the firm level, but how has that been looking and progressing More specifically on the KDT side, because I know that that was a special pressure point previously.

Yeah, that's a good question. It is very difficult. Turbo machinery engineers, propulsion engineers, as tied directly into the discussion we've been having here this afternoon, they are in incredible demand, and many of them don't exist anymore. They retired, and they're fishing. And this is very challenging, and it's very expensive to hire them and keep them, both in cash and equity at the executive level. So this is a challenge. It remains a challenge, and I believe it's going to continue to be a challenge for us and the industry.

Got it. Thank you both.

Thank you. And as a reminder, if you do have a question, simply press star one one to get in the queue and wait for your name to be announced. One moment for our next question in queue. And it comes from the line of Trevor Walsh with Citizens JMP.

Great. Hi, team. Thanks for taking my questions today.

Eric, maybe just to follow up, similar line of questioning for you based on the Ukraine question you got earlier, but maybe applying that to Israel. It sounds like the Israeli business was strong in the quarter. Not asking to necessarily predict what will happen there, but if things go more towards the kind of positive side around ceasing those tensions there, what prognosis do you have around just the you know, forward-looking part of that business, either particular to Israel or even similar systems being deployed in other countries, lessons learned around just, you know, making sure there's enough kind of munitions that are stored and kind of ready to go for if things kind of break out again, just kind of what's your outlook on that, just give it the, again, the more positive scenario of things easing.

Yep. So I'll give you my, this is my opinion. Eric's opinion. My opinion is that the quantity of munitions that have been expended has been incredible. Years worth of inventory. Years and years worth of inventory have been expended. And that must be replenished in order to maintain a consistent defense posture. So I don't see in the foreseeable future years any abatement in demand. If, as you're indicating, and that would be wonderful, if resolution would happen, peace broke out, the significant increases we're seeing month over month over month will probably flatten out, but that is at an exponentially higher ratio than it was before October of 23. So that's specific to there. Outside of there, internationally, the lessons learned, the lessons learned is that, look at the first potential strike that Iran tried to do on Israel. I mean, it came out that there were 300. It was actually over 500 munitions, missiles and drones, ballistic crews and drones were fired at Israel in that one barrage. In the Ukraine, over 10,000 drones on one side are being shot down at a month. The vast majority of those are not in our class. They're class one, two, or three, but a significant number of them are jets. The lesson learned from there is quantities have a quality all of their own. And those quantities can offset lack of defense budget of countries that can't afford exquisite systems. And so their exquisite systems will be thousands of something. And we're seeing that. We're seeing that in direct orders and we're seeing that in orders with our prime partners where we build major subsystems. So I, as I've said several times, this is likened to the Reagan buildup. This is 1981. We're in the second inning. And the difference is that there has been such a consolidation in the defense industry, there are just very few of us left that can do it. And as I said in my prepared remarks, building hardware for defense or national security applications is hard. Building it in mass production is even harder. And the experienced guys like Northrop and Lockheed and Raytheon and Boeing and Kratos, we know how to do it, and that stuff's got to work, which I believe is one of the reasons why in a shitty situation for the foreseeable future, our business is going to be very strong.

Got it. Really appreciate the caller. Deanna, maybe one quick follow-up for you. Services revenues looks like it stayed pretty flat quarter over quarter, but then margins had a nice little bump up about 200 basis points. Just wondering if there was anything in particular that drove the improvement there on the margin side. Thanks.

Nothing in particular. It was just what the mix was for that quarter that drove that margin expansion.

Got it. Okay. That's all from me. Appreciate it. Thanks.

Thank you.

Thank you. And our last question comes from the line of Pete Skibitsky with Alembic Global.

Yeah, guys, sorry to extend the call, but Eric, I just want to deconflict something you said a little while ago about a month from now, your largest target drone contract ever. Um, I don't know if we've talked about this before, but earlier in the year, I think you've Disca had an announcement about a potential target order from Korea for their ships. Um, it wasn't just BQM. It wasn't just BQM 177. It was also coyotes, but I don't know. It talked about like $170 million order. Are we talking about the same thing or is that different?

You know, Pete, that's a great question. You are on your game. It's a separate order and a separate customer, and it's a different platform.

Okay. I know Disca does things way in advance. Any timeframe on that particular opportunity?

I hope, you know, we won. We got it. Sole source. I'm hopeful that we will be able to announce it next 30, 60 days. I'm hopeful. But we've received it.

Okay. That's great. Congratulations. Thanks, guys. Okey-dokey. Thank you. Good question.

Thank you. And this concludes the Q&A session. I will turn the call back to Eric DeMarco for final remarks.

Great. Thank you all for joining us, and we'll chat with you at Q3.

And thank you all for participating in today's conference. You may now disconnect. Thank you. Thank you. Good day, everyone, and thank you for standing by. Welcome to CREGTO's Defense and Security Solutions second quarter 2024 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To participate, you will need to press star 1-1 on your telephone. You will then hear a message advising your hand is raised. To withdraw your question, simply press star 1-1 again. please be advised that today's conference is being recorded. Now I will pass the call over to the Senior Vice President and General Counsel, Marie Mendoza.

Thank you. Good afternoon, everyone, and thank you for joining us for the Kratos Defense and Security Solutions second quarter 2024 conference call. With me today is Eric DeMarco, Kratos' President and Chief Executive Officer, and Deanna Lund, Kratos' Executive Vice President and Chief Financial Officer. Before we begin the substance of today's call, I'd like everyone to please take note of the Safe Harbor paragraph that is included at the end of today's press release. This paragraph emphasizes the major uncertainties and risks inherent in the forward-looking statements we will make this afternoon. Please keep these uncertainties and risks in mind as we discuss future strategic initiatives, potential market opportunities, operational outlook, financial guidance, and other forward-looking statements during today's call. Today's call will also include a discussion of non-GAAP financial measures as that term is defined in Regulation G. Non-GAAP financial measures should not be considered in isolation from or as a substitute for financial information presented in compliance with GAAP. Accordingly, at the end of today's press release, we have provided a reconciliation of these non-GAAP financial measures to the company's financial results prepared in accordance with GAAP. With that, I will now turn the call over to Eric DeMarco.

Thanks, Marie. The successful execution of Kratos' strategy and our position as a leading defense and technology hardware and software company is reflected in our Q2 and year to date financial results. Kratos' strategy of making internally funded investments in close collaboration with our partners and customers to rapidly develop engineer field and be first to market with relevant products, systems, and solutions is working for our customers, partners, shareholders, and all of our stakeholders. that Kratos affordability is a technology which is directly related to our strategy of investing our own money, enabling us to move fast, rapidly developing our products for low cost mass production in large quantities and for affordable mass. As we watch peer adversaries in both potential and active conflict and at the same time see adverse DOD budget and program cost impacts, Kratos is focused on solving these challenges with systems that are truly realizable, near-term achievable, and affordable. At Kratos, we believe that better is the enemy of good enough, and that someday in the future, maybe having the perfect capability or solution that is studied and modeled and then studied again is too late, too expensive, and an abject failure. Recent examples of Kratos' successful strategy execution with relevant working systems include Kratos's Aeronis hypersonic glide vehicle from initial conception to first flight with the Missile Defense Agency and the Navy in approximately 30 months for an approximate $15 million total development cost. Kratos's Zeus family of solid rocket motors from conception to successful static fire in three years for an approximate $23 million investment and now positioned for the Mach TB program hypersonic Aranis missions, and several additional customers. Kratos' Valkyrie runway enabling trolley system, from conception to first flight in effectively 15 months for a few million dollar investment, with Kratos' Ghostworks achieving another important milestone in Valkyrie operational deployment flexibility, which we continue to rapidly mature and demonstrate. Each of these relevant Kratos funded and developed systems are expected to be important contributors to Kratos' business and our future financial growth and profit trajectory based on specific customer orders and feedback and are representative of the value Kratos generates for our stakeholders. In Q2, Kratos' engine and turbine business continued its revenue growth and profit expansion trajectory beating its forecast, including engines for drones, missiles, aircraft, space, hypersonic, supersonic, and other systems. Kratos is the clear industry leader and independent merchant supplier of engines, propulsion, and subsystems in our areas, and we expect continued future growth based on customer demand. We recently announced a Kratos small jet engine partnership with General Electric Aerospace, which is incredibly important to Kratos, with GEA bringing large-scale engine production experience, capital, intellectual property, customer relations, and more, and we are anticipating future production of thousands of low-cost engines in this class for drones and missiles. The GEA partnership is specifically with Kratos' turbine technology business for small turbofan jet engines. and is not related to Kratos' TDI small turbo jet business, which has separate locations, technology, IP, and target market opportunities. As part of Kratos' arrangement with GEA, where we will be sharing future engine production revenue and profit, Kratos, in coordination with GEA, will be making an investment and standing up a new low-cost small engine manufacturing facility as we begin preparation for expected future production. Separately, we are investing and expanding our TDI small turbojet engine production capacity and Kratos's overall hardware and manufacturing capability, including additional additive manufacturing, 3D printing, milling, machining, casting, and forging capabilities, which is part of Kratos's vertical integration initiative. We are establishing new engine production lines related to the many new drone, missile, and loitering munition programs that TDI has, including those that we are designed in on. We are either now in contract negotiations for, and we are hopeful to receive an initial 1,000-unit order with a potential 10,000-plus opportunity in the near future. Kratos Turbine Technologies, TDI and our engine and propulsion system business are currently expected to be some of our company's primary future growth contributors. Kratos' Israeli-based microwave electronics business also exceeded its Q2 forecast, including programs supporting multiple air defense systems, including Iron Dome, Iron Sting, Lightning, Arrow, Barak, and others. Kratos' microwave has also a record backlog and opportunity pipeline, and we are making the investments to increase our facilities, hardware, and manufacturing capacity in order to address existing and forecasted increased future demand, including a space-qualified capability, as a result of certain new satellite systems awards we've received and opportunities. Kratos has deep relationships with Israeli aerospace industries, Rafael and Elbit, and we expect our Israeli business to be one of Kratos' future year-over-year organic growth leaders as we support our important Israeli and international customers. Global air defense system-related demand, including missile, radar, counter unmanned aerial system, and space systems, also contributed to Kratos' C5ISR business exceeding its Q2 forecast, including Patriot, THAAD, SHORAD, indirect fire or IFPIC, IBCS, CUAS, DE, and HPM-related systems. Kratos' C5ISR program's backlog and opportunity pipeline is also at record levels, and C5ISR is expected to be an important future year organic growth contributor as we support our important partners, including Northrop, Lockheed, Raytheon, Dynetics, and others in their national security missions. Kratos' C5ISR backlog and opportunity pipeline is at a record level, and we are making the investments necessary to support our partners and customers, including expanding our C5ISR business's hardware and manufacturing capacity and also including our new Sentinel program facility. Kratos' training systems business is also growing. With increasing margins, as certain programs we have been awarded ramp up, and additional new program wins are expected. The global recapitalization of strategic weapons systems, in addition to the weapons system, requires training systems, with Kratos being an industry leader, with representative Kratos systems including M1 Abrams, Bradley, Blackhawk, and Air Force Global Strike Command systems. Kratos Training System Opportunity Pipeline is one of the strongest in our company as we head into the second half of 2024. Kratos' cybersecurity business, one of the company's most profitable, is also forecasting future growth, including as the DoD's Cyber Maturity Model Certification Program, or CMMC, initiative progresses, with Kratos having some of the industry's most important and critical cybersecurity-related relationships, relevant past performance qualifications and customers. As we have communicated previously, Kratos' space and satellite business, our company's largest, is being adversely impacted by the previous extended 2024 CRA, which delayed and pushed certain government programs or existing program funding to the right, including programs Kratos is or expects to be under contract on, And we are now also assessing the probable upcoming federal fiscal 2025 CRA, which is likely to begin October 1st. Additionally, our satellite business is also being impacted on the commercial side by the highly publicized technology and other issues being experienced by the manufacturers of software-defined satellites, which is delaying the award and or deployment of the related satellite system ground communication infrastructure, including Kratos's. However, we are now in source selection on several DOD, national security, and other program opportunities, certain of which we expect to receive either later this year or early next, which should put Kratos' satellite business back on a growth trajectory. With a large number of LEO, MEO, and GEO constellations and satellites planned for or expected to be launched, we remain confident in the future prospects for our satellite business including our first-to-market virtualized OpenSpace software platform, which is a clear competitive differentiator for our company. Increased demand for our target drone business continued in Q2, with bookings of nearly $130 million and a book-to-bill ratio of 1.5 to 1 for the quarter, and Kratos' unmanned systems bookings being $290 million for the past 12 months. Global Weapon, Air defense system and training demand I referred to is contributing to the increased Kratos target drone demand, which is expected to continue both domestically and internationally as air defense systems, missiles, radars, ships, satellites, et cetera, need to be exercised against and war fighters trained against threat representative targets. Kratos' target drone business is expected to be an important future organic growth contributor for our company. On tactical drones, as has been increasingly reported over the past few weeks, including just yesterday, budgets are tight and are expected to get tighter. Affordability matters and is going to matter even more in the future. And we believe that potentially, maybe better someday, is the enemy of good enough and flying today, and Kratos remains confident in our success. Apollo is now under contract, and Athena has been down selected and is expected to be under contract this quarter. Kratos Valkyrie is now in source selection on certain opportunities, so I am not able to make any specific program, opportunity, or customer-related comments on Valkyrie at this time. I can say that we have completed our planning for the next serial production run of Valkyries, including with our key suppliers, and we are ready to move forward once we have certain additional information on the potential opportunities, including the final version and capability mix of the aircraft. We are now planning the expansion of our Oklahoma drone manufacturing capacity, including a potential additional facility. with the expansion being for both tactical and target drones, including as certain of our drone systems are utilized for multiple applications or missions based on mission configuration of the system. With a successful Valkyrie flight from the Kratos Trolley launch system, Kratos' Ghostworks is now working on an additional Valkyrie launch capability variant, also in close coordination with the customer. The Valkyrie Trolley Launch System, funded by Kratos, but in close coordination with the customer community, establishes Kratos as the only high-performance jet drone system provider with rail-launched runway independence, traditional runway capability, and soon an additional launch capability. Kratos Ghostworks is also looking ahead at new and evolving weapon systems their applicability to unmanned systems, including Valkyrie, the impact of artificial intelligence integration, and the potential game-changing impact of a system like this in a peer conflict. Kratos and Shield continue to successfully execute the strategy, with Shield AI routinely flying Kratos' high-performance jet drone systems, including an incredible mission in just the past few days. From my perspective, what S.H.I.E.L.D. is doing is potentially transformative and game-changing, with S.H.I.E.L.D. taking advantage of Kratos having the only high-performance jet drones that have performed hundreds of actual flight missions, with S.H.I.E.L.D.' 's artificial intelligence system flying and flying and learning and learning with the highest performance jet drones in the world, Kratos'. The Marine Corps Miramar Air Show is coming up this September here in San Diego. And in addition to an actual Valkyrie, an actual Airwolf, a Mako aircraft, etc., we intend on displaying several other high-performance Kratos jet drone aircraft at the show and also potentially a new Kratos system if we can. Defense budgets are increasing globally, including in the areas of air defense, missiles, radar, space, satellite, hypersonic engines, propulsion systems, C5ISR, microwave electronics, drones, cyber, and training systems, with Kratos being a hardware and software-rich technology company addressing each of these areas and many others. Years of underinvestment in the defense industrial base is and will need to be corrected, and Kratos is participating in this buildup and the recapitalization for the strategic weapons systems. We are making the investments and vertically integrating selectively where it matters to reduce supply chain risk and to also reduce cyber and physical related security risks as we need both surety and security with our supply chain. Producing hardware in large quantities for defense and national security applications that must reliably perform at an affordable cost is hard. and it's a key differentiator for Kratos to our partners and our customers. As you know, the 2024 budget continuing resolution went through March of this year, and another potential 2025 budget continuing resolution is expected to begin October 1st, just two months from now. Irrespective, we remain confident in our 2024 financial guidance, which we affirm today, and we also remain confident and our expected future year-over-year organic growth rate of 10% with the potential to exceed it. As we reported, Kratos' opportunity pipeline is a record $12 billion, and we are in pursuit of certain new large programs as a prime, including classified opportunities in our unmanned systems business and our space, cyber, and training businesses, which are requiring significant Kratos bid and proposal and related investments including one opportunity, where Kratos' investment in the second half of 24 is expected to be approximately $2 million for this one opportunity. We have no significant acquisitions anticipated, only maybe potentially some very small tuck-ins. Operational challenges include the obtaining and retaining of qualified, experienced personnel, including those willing and able to obtain national security clearances and the related cost of these individuals. Ms. Deanna.

Thank you, Eric. Good afternoon. As we have included a detailed summary of the second quarter financial performance, as well as the initial third quarter and affirmation of the full year 2024 financial guidance in the press release we published earlier today, I will focus on the highlights in my remarks today. Revenues for the second quarter were 300.1 million, exceeding our estimated range of 265 to 280 million, which includes higher than expected performance and delivery across most of our businesses, with notable strength in our unmanned systems, turbine technologies, microwave products, and C5ISR businesses. We made delivery on an international Middle Eastern drone program during the second quarter, which contributed revenues of 17.4 million, which was originally forecasted to be delivered in Q3. As we have discussed on previous calls, revenues under certain international contract awards due to the contract terms and conditions are recorded as delivered rather than over time on a percentage of completion basis. As a result, the delivery under a contract of size, such as a delivery this quarter, can skew the quarter of delivery over quarter sequential trends. Consolidated organic revenue growth was 16.7% for the second quarter, including the impact of the Sierra Technical Services, or STS, acquisition on a pro forma basis, as if acquired at the beginning of 2023, driven primarily by organic growth in the unmanned systems business of 61.8%, as well as notable growth in the turbine technologies, microwave products, and C5ISR businesses in our KGS segment. Adjusted EBITDA for the second quarter of 2024 was 29.9 million, exceeding our estimated range of 20 to 23 million, reflecting the additional revenues as well as a more favorable mix of higher margin revenues with notable strength in unmanned systems, turbine technologies, microwave products, and our C5ISR businesses, as well as higher margin software and data-related content from our satellite business. Cash used in operating activities was 2.7 million, which includes the impact of working capital requirements related to increases in receivables related to the revenue growth, increases in prepaid assets resulting from advanced payments or deposits required by key suppliers, and the reduction of deferred revenue balances or prepaid customer deposits as work has been performed and delivered. We are seeing a trend in our supply chain where certain of our vendors are requiring prepayments or deposits to secure our position which is adversely impacting the timing of our working capital requirements to deliver our products and solutions. Free cash flow used from operations for the quarter was $15.4 million after funding of CapEx of $12.7 million. As we planned, we are continuing to make investments to expand and build out certain of our manufacturing and production facilities in our microwave products, rocket systems, and hypersonic businesses to meet existing and anticipated customer orders and requirements and investing in related new machinery, equipment, and systems. We are also continuing to manufacture the two production lots of Valkyries prior to contract award. Consolidated DSOs or day sales outstanding continue to improve from 107 days in the first quarter of 2024 to 103 days in the second quarter of 24. Contract mix for the second quarter was 70% fixed price, 24% cost plus contracts, and 6% time and material contracts. Revenues generated from contracts with the US federal government during the second quarter of 24 was approximately 65%, including revenues generated from contracts with the DoD, non-DoD federal government agencies, and FMS contracts. In the second quarter of 24, We generated 15% of revenues from commercial customers and 20% from foreign customers. An operational priority remains the hiring and retention of skilled technical labor across the company, with total Kratos headcount of 4,012 at the end of the second quarter as compared to 3,986 at the end of the first quarter. Now moving to financial guidance. The guidance we provided today includes our expectations and assumptions for our supply chain execution and for employee sourcing, hiring, retention, and the related costs. We have also taken into consideration in our affirmed fiscal 24 guidance a federal fiscal year 2025 continuing resolution authorization commencing on October 1st, 24, and under such expected CRA, no new program contract awards, no increases in existing production, contract funding, and no transition from program development to production. Our guidance also reflects the impact of certain performance and deliveries made in the second quarter of 24, certain of which had originally been estimated to be executed or delivered in the third quarter of 24, the most notable of which was the delivery of the international drone program in the second quarter, which has skewed the sequential quarter trend in our unmanned systems business. We are affirming our annual guidance with revenues for unmanned systems in the range of 265 to 275 million, up slightly from our previous range of 260 to 270 million with an organic growth rate of 22% to 27% over 23 on a performant basis with STS as if acquired at the beginning of 23. Our range for KGS business is 860 to 875 million, slightly down from our previous range of 865 to 880 million, which reflects increased weakness in our commercial satellite ground equipment business, resulting from the impact of the current industry technical challenges encountered in the manufactured software-defined satellites that have delayed satellite launches and have had a resulting delay in the deployment of our commercial satellite ground equipment, offset by increasing demand for air defense, and related systems in our microwave products, turbine technologies, and C5ISR businesses. Our reaffirmed EBITDA range of $102 to $107 million includes the expected mix, as well as additional $2 million in costs related to the large proposal in our space cyber and training business, which Eric referred to previously. Eric?

Thank you, Deanna. We'll pass it to the moderator now for questions.

Thank you. And as a reminder, if you do have a question, press star 1-1 and wait for your name to be announced. To remove yourself, just press star 1-1 again. One moment for our first question. And it comes from the line of Michael Charmoli with Truist Securities.

Hey, good evening, guys. Thanks for taking the question. Eric, it sounds like you're making a lot of progress on a lot of programs. I guess just on Valkyrie, you know, you mentioned that one close to source selection. You're moving forward with the second production lot. Can you just give us maybe some sensitivity? I don't know if it's you or Deanna. If you do get those or if you do get a contract and you put some planes under contract, how that would impact the current guidance, maybe the cash flow and even the revenue impact?

Sure. So, Michael, so from a revenue perspective, when the contract is awarded, whatever the number of aircraft that the award is under contract for, those costs that are currently in our PP&E would be transferred to effectively inventory and unbilled receivables, and revenue would be recorded for those systems. So if it's, say, five aircraft and five that are in whatever state of completion, those costs would be transferred, and then the revenue would be recorded accordingly for whatever percent complete they are at that time. From a receivable or a collection perspective, it will depend on the billing milestones that we are able to negotiate with the customer. So depending on if we can get a payment up front, we obviously always endeavor to do that, but it will depend on what we're able to negotiate.

Okay. And do you think that's a, is that a second half kind of development in signing or still hard to tell at this point?

It's possible second half. It's probable 25. Okay. That's where it sits right now, which is why we're just being cautious in our guidance. Got it.

And Eric, I think you guys have talked to different variants, different sizes. I know in the prepared remarks, you talked about the trolley system. Sounds like you've got landing gear in place for Valkyrie. you know, to kind of, you know, you've secured a vendor maybe there. Can you talk expectations about what maybe the customer's looking for? And, you know, it's kind of runway independence, no longer the desired, or do you just want to give the customer options?

It's the latter, Mike. We're definitely giving the different customers who have different priorities options and the path we've taken now with where we sit today with rail launch drones flying runway launched drones flying with the trolley as you indicated very soon we're going to have a Valkyrie with its own internal gear which will also have internal weapons flying and then we have another one Ghostworks is working on coming also we will have the entire portfolio flying demonstrated for the various customer community. Okay.

Got it. Last one for me. The contract in place with GE Aerospace, I think that replaces a previous joint development, but this one includes kind of full-scale engine production. Have you spoke to or could you speak to the potential economics there? you know, just maybe what that program could look like as it ramps, as it gets into full production? Do you have customers secured already?

So on, I'll take the last part first. On the customers we have, we have multiple, we, us, and General Electric. We have multiple customers that have been working with us for the last several months. They are in the loop and they are waiting for these engines to So that is why we, us and GE, we're very excited about this. Because with the technical capability and the cost points of these engines, which will be here very soon, we are going to be first. And every time I say we, it's us and them. We're going to be first to market with what we believe is a game-changing family of systems here. The economics are very fair. I can't... I can't discuss it yet because we're both still under an NDA. But we are, and I believe they are, extremely happy what the economic split is going to be on the engine production. And as you know at Kratos, it's better to have a big part of something than all of nothing. And we were confident that with GE, with potential customers, the big air framers, the big missile guys, this significantly increased or assured our probability of success. Got it.

Perfect. Thanks, guys. I'll get out of the way here. Yep.

Thank you. Our next question is from Peter Arment with Baird.

Yeah, good afternoon, Eric, Indiana. Hey, Eric. Congratulations on the IRINES hypersonic test flight. Could you maybe talk about how you kind of see... future subsequent tests or flights and how that, you know, can play out as we get into maybe even 25 as it's turned into kind of a backlog growth story. And obviously you have another vehicle that is also part of that program.

Yep. Yep. So Aranis is a hypersonic glide vehicle and it's at least the current public version is a test bed. And hypersonic testing is something that that is in incredibly high demand in the United States. There are not enough test assets, and if you look at some of what the government agencies say, they would like to test fly every week or two. Well, we now have that vehicle. We've received additional orders since that flight. This will be one of our primary growth drivers. This is a new, obviously new for us, new for the industry. This will be one of our primary growth drivers beginning next year. I believe under the Mock TB program and under an additional program that we have. And then we're going to be talking hopefully maybe a little earlier than this time next year about a second hypersonic vehicle of ours that's going to fly. That'll be an additional market for us. So this is a Very important for us. I'm really glad you asked the question.

So do you anticipate a ramp-up in test activity next year and have a similar revenue profile?

Absolutely. Absolutely.

Great. And then just on your engine businesses, obviously a lot of excitement around both of them, TDI and Florida Turbine. Can you talk a little bit about how quickly you can scale up? Because I know that the Air Force has kind of put out an RFI and an RFP on the ERAM, Extended Range Attack Munition, that's specifically for Ukraine. And it feels like that's right in the wheelhouse of TDI. But, you know, you've talked about your other partner with Boeing and jointly developing systems there. Can you maybe talk about how quickly you can scale up some of these opportunities?

Yeah. And in addition to ERAM, some of the other publicly available ones are MACE, ETV, Franklin, and CAMS. So those are all out there. There's a handful of other ones in addition to those, virtually all of which need propulsion systems in the family and the affordability class of TDI. And then, of course, there's power JDAM. We have been working on our production facility and our manufacturing capability, so we will be able to do hundreds, if not a thousand or two a year. That's what we're getting ready for. And if you take a look at some of those programs I mentioned, the quantities are there. if we just get our fair share of those, which we believe we will, based on our communications with the customers, the air framers, and our designed-in positions on certain of these. So we've been getting ready for this, and those are the numbers that we're preparing to produce that annually.

Got it. Last one for me. Could you talk a little bit about your bid pipeline expanded by $1 billion this quarter, up to $12 billion this What was driving that?

Thanks. Peter, it's in our unmanned group as well as our space and training group and our defense rocket systems group. It's across those three businesses. So it's not one specific area. It's across three.

Thanks, Deanna. Thanks, guys.

Thank you.

Thank you.

Our next question is from the line of Sheila Cahill with Jefferies.

Thank you, guys, and great quarter. A few questions for you, Eric and Diana. Maybe if we could start on that last subject. Peter was just talking about Zeus and Aaronese. How could we think about that hypersonic activity pipeline of a billion dollars? How could we think about that progressing over the next five years? Would it be equally weighted, or how do we think about that opportunity of materializing?

If things come together the way we see them coming together, next year, in 25, it could be an incremental $50 to $100 million. Then in 26, it could be an incremental $100 to $150 million. And then it could be $150 to $200 million a year thereafter. Thank you, Eric. That's what the manifest looks like.

Thank you for that. What do you need to see in order for that to happen?

Budget's in place. No significant changes to the priorities of this customer set. And I'm saying this semi-facetiously, and global peace doesn't break out. So we're... Sheila, we're in a really good position because we're first to market with Zeus, Aaronese, and another system that's not public yet. We're in a great spot and these things are flying.

Yeah, no, that makes sense. And in unmanned, your profitability was really good year over year. Is that sort of the level we should expect going forward or was this one time?

It will depend on the mix and from a development perspective and the leverage off of the fixed infrastructure costs. Since we did have a sizable international drone delivery this quarter of 17.4 million, so that did drive some of that leverage off of the fixed infrastructure. But it will also depend on the mix of the programs on a quarterly basis.

Got it. Thank you so much.

Thanks. Thank you.

Thank you. Our next question comes from the line of Mike Crawford with B Riley Securities.

Thank you. Just a couple of clarifications. First, when you're talking about readying for your next serial production spiral of Valkyrie, would that be the third such spiral? Or are you talking about the, you're not talking about the second one you already began, right?

The third.

Right. And then thank you. And then you talked about expanding Oklahoma for tactical and target drones, but isn't that also where you're standing up, uh, affordable engine production with GE aerospace?

Mike, I'm smiling because I, I, I saw that report, um, uh, that, that news article we, uh, So our drone manufacturing facilities are in Oklahoma City, and that's where the expansion for the tactical and the target drones will be, both in the existing facility and a brand-new facility we've already identified and we're moving out on. Outside of Tulsa, Oklahoma, is where our existing engine business is, and it is probable that that is where we will be standing up our – one of our low-cost turbofan with GEK. And the primary reason for that is because of the workforce. We have a very experienced workforce with engines there already. We're networked. We've got the supply chains. It looks very promising that that's what we're going to do.

And would that workforce also include workers directly or indirectly supplied from GE Aerospace?

I can't get into that yet until the final definitive agreement is executed, and then we jointly will communicate that. I'm sorry.

Okay, that's fine. And then switching gears a little bit, could you maybe update us on the lay of the land and solid rocket motor propulsion, where you stand versus competitors, some of which seem to have claims perhaps above means?

Yeah, that's actually an excellent question. Rocket motors are hard, and solid rocket motors are extremely hard. And the lay of the land right now is there are two that are qualified in the United States, Aerojet and ATK, North Rope Orbital ATK and L3 Aerojet. All right. Neither one of them are really a merchant supplier because they're embedded in a prime. And as you've indicated, there are a number of guys out there. Some of them are like Ursa Major or Crossbow or Adronis, which is part of Andral. There's a couple of other ones that are coming. They've said they're going to get into this. But, Mike, this is very hard. And unless the rules change, the qualification rules, it takes time. years to get qualified and it takes years to get qualified and designed in on a system flight testing etc and so and so the demand is definitely there there are there are some guys coming i will i will tell you that that because of the nature of our business and our customers you know being a merchant supplier of solid rocket motors in the united states is something we continue to look at very hard because we would be a true merchant supplier and we're experts in this area. And so that's something we're definitely looking at relative to our partnerships with the primes.

Okay, thank you. And then just one final one, because we haven't really talked about CCA on this call, but at some point we'll be moving from more of the exquisite to like around to something more equitable and I think another article I read was that Ghostbat now is not even being designed to carry weapons. So versus I think you have multiple platforms that have distributed that ability, right?

Correct. I saw that article that Boeing's Ghostbat does not have carry weapons capability, which caught my eye, of course. I know it caught industry's eye. um yeah multiple of our aircraft carry of deployed weapons and including valkyrie of course um and as i mentioned in the prepared remarks we are we all we remain laser focused on affordability attributability and uh and hitting cost points so affordable mass can really be achieved with things that are flying today not potentially seven years from now.

Okay. Thank you, Eric.

Yep.

Thank you. Our next question comes from the line of Seth Siffman with JP Morgan.

Good afternoon. This is Rocco on for Seth.

Good afternoon.

Looking at the Q3 guide, even X the 17.4 million of international target drone deliveries, The guidance is for sales to decrease next quarter sequentially. What is driving that decline?

So the primary decline in that is in the commercial part of our satellite business. As I've mentioned, and it really hit the press in the last three or four weeks, the manufacturers of the software-defined payload satellites are having some incredible technical difficulties, and the satellites are not going up. So with the satellites, and as you know, Kratos' open space software-defined virtualized ground system was specifically designed in part to communicate with these software-designed satellites. I'm talking on the commercial side. And as those satellites are not going up, the operators, and again, there was an incredible article on this just in the past few days that's out there that, of course, we've known. The operators are slowing down their supply chain, including the ground infrastructure. Guys like Kratos, they're going to communicate with them. So we're designed in, we've won the slots, but the operators are making the right business decision by not deploying until the satellites go up. And so we are being very cautious in our assumptions in the commercial side of our space business. It's being offset by the government side, which is doing great, and it's being offset by other businesses in KGS, which are growing 15%. But that's the primary reason we're going to be very cautious there until some of these commercial satellite issues get resolved.

Right, that makes sense. Then has the outlook for combat drones and creators' position in the market changed meaningfully over the last few months?

Has it changed meaningfully? I believe that we are in a better position. I believe we've been in a great position. I believe we're in a better position today. than we've ever been in. Let me tell you why. Jet drones are happening. They are happening. And when you look to the Pacific and the ranges that are going to be involved in survivability or lack of survivability, which will be quantities, Kratos' class of jet drones is the answer. There are more and more war games that are becoming public, reports that are coming out. The Mitchell Institute just put one out. There was an incredible report that just came out last night on this that quantities will do far better deterring and must be defeating China than exquisites or semi-exquisites. And we have been focusing on expendable and attributable drones, and that's our sweet spot. And they're low, low cost, and they're very lethal, and they're very survivable, and I think we're going to win.

Great. Thank you guys very much.

You got it.

Thank you. Our next question is from Ken Herbert with RBC Capital Markets.

Yeah, hey, good afternoon, Eric and Deanna.

Hi, Ken.

Hey, I wanted to just follow up. Can you give any indication, I would assume it's factored in the CapEx guide, the investment you're making specifically in the turbofan engine capacity as you look to scale that up?

Yeah, that's roughly about $10 to $12 million for the year.

Okay, perfect. And you've obviously had a step up in CapEx this year to reflect some of the incremental investments and opportunity. Is it Can you comment on next year? Does CapEx, based on current plans, step up again next year? Is it contingent upon sort of contract wins? Or can we view this year as sort of the peak CapEx year?

It is contingent on contract wins. However, I believe there's, I would say, in the 70 to 80 million of the CapEx guide for the year, I would say 40 to 50 of that is what I would call investments that are, I don't like to use the word non-recurring, but that's probably the best word at this point. So what I see is our maintenance capex is closer to call it 35-ish million a year. But depending on contract awards and opportunities, there could be opportunities in 25 that we would make investments for.

Okay, that's very helpful, Deanna. Thanks. And just maybe, Eric, as I look at just such phenomenal growth internationally, I guess specifically in NATO countries, can you just level set us on what percentage of your sales are into maybe NATO countries or outside of the United States more broadly, and what kind of growth you're seeing in that this year and potentially in the next year?

Yeah, so our international revenues are about 20% for the quarter.

And the growth there in Israel and in systems that are going to NATO countries that we build, so these are air defense systems, radar systems, and counter UAS systems, it's very strong. So, Ken, for a data point, And I talked in detail about our space business. Putting our space business aside, KGS is growing 15% organically. A significant part of that is our C5ISR business where we work with Raytheon on Patriot. We work on FAD. We work on a number of counter UAS systems. We're working with Dynetic on indirect fires or enduring shield. all of these air defense systems. And in addition to that KGS part is where our Israeli business sits, where we are supporting Iron Dome, Arrow, Barak, Lightning, Iron Sting, virtually every missile and radar system. And so they are very, very strong. The backlog is very strong. And the order book potential for the next two years is not only strong, but it's increasing.

That's great. So I guess it'd be fair to say that the international piece of the portfolio probably sees much better growth than sort of the 10% you've talked about for the company over the next few years organically.

Yes, but.

Yes, but. Next year, with our partner Northrop, which is one of the best partners we have, Sentinel is going to start ramping for us in a big way, very significantly, tens and tens of millions incrementally, which of course is U.S.-based. And yeah, on the target drones, I was going to say target drones, but you're absolutely right on that. It's a mix of international And the other one, Ken, our hypersonic business, our rocket business, as I answered the earlier question, no later than the second half of next year, a significant step up is expected. Significant. I went through the numbers. And so 25, definitely 26, 27, that is going to be all U.S., and it's going to be significant. So my point is the mix may change, because of these programs we've won.

Great. Thanks, Eric. Very helpful. Thank you.

Thank you. Our next question is from the line of Josh Sullivan with the Benchmark Company.

Hey, good evening, Eric, Deanna. Good evening, Josh.

As far as the GE relationship, we hear a lot about tightness and forgings and other aspects of the aerospace supply chain. Do you see this as a hurdle for the GE partnership engines, or are your designs, just given their lower cost, able to circumvent some of these issues to get to some of these higher volumes?

Two things. Number one, our designs are definitely able to circumvent some of the issues. However, one of the key attributes And one of the key reasons, there were many, we did this with GE, is because they're the big dog. They're the preeminent. And they have priority. We call them kryptonite parts, with kryptonite vendors on very specialized subsystems and components for the engines via their supply chain and their relationships. That's an incredible value they're going to bring us. it not only brings surety to us, but it's bringing surety to the missile guys these engines are going to go in. That if we get a multi-hundred-a-year order, we're going to be able to source it and we're going to be able to build it. And with General Electric behind Kratos or in front of Kratos, wherever you want to look at it, that's what's closing the deal here.

Got it. And then just as far as that loitering munition market, given the increasing use in the battle space, You mentioned you were in contract negotiations, but what's your sense of how quickly this market ramps?

I think it's possible by the end of this year.

It's probable. It'll happen next year. We're going to begin to get the initial production orders on turbojets. So think 200 pounds of thrust and below. And It's probably going to start out at a few hundreds, and then it's going to ramp. Again, I went through some of the program names. If you take a look at what they're talking about, it's going to ramp for us to several hundreds and potentially a thousand or so a year over the next several years. And that just ties into the – I have a list here in front of me. Again, I went through some of them. The opportunities that are out there, most of which, if not all of which, we're either designed in on or we're working with because we have flying engines. And our cost points are very, very competitive.

Thanks for your time.

Thank you. Thank you. Our next question comes from the line of Joshua Sofel with Noble Capital Markets.

Hey, good afternoon, guys. I'm filling in for Joe.

Okay. So you guys basically answered pretty much all my questions, but you know, just kind of more for a couple of housekeeping ones. Um, you know, you guys talked a little bit about the Prometheus contract you guys were awarded, you know, is there kind of any progress on that contract? Is it still kind of expected to be contracted by the end of the year?

Yeah. Um, if, if I said that we had been awarded Prometheus, I misspoke and I apologize. I don't remember doing that, but if I did it, I apologize. So Prometheus is an opportunity that we are working on, okay? We are getting there. We're in the red zone, football term, but it's not complete yet. So again, I apologize for that misunderstanding.

Okay, that's helpful. Thanks for clearing that up. Okay. And, you know, kind of a couple months ago, you know, Aaron Bush was talking about, you know, in the space satellites, re-evaluating space business, You know, is there any more impact to that reevaluation that it has on Kratos itself? You know, are satellites being pushed even more further to the right due to that?

And I want to make sure I understand your question. Are they being pushed to the right because of what?

The Airbus reevaluating its space business as a whole.

Ah, got it. I got it. Yeah. Yeah. Yeah, so what's going on with Airbus is definitely impacting the ecosystem and it's definitely impacting Kratos. And I feel bad for them and I really hope they get this stuff figured out. I am highly confident we have taken that into consideration in our financial forecast. And as Deanna and I tried to articulate today, we're very fortunate here at Kratos that we have six divisions and five and a half of them are ripping. And the half that is not is tied to commercial software-defined payload satellites right now, which we've taken into consideration. The management team over there in our satellite business, I've got to tell you, they have done an incredible job on the resource allocations to our national security programs, our defense programs, and some other things they're working on, like our global space demand awareness network. to hold court. I mean, reading other companies' space businesses and what's going on with them, which is tied directly to what your question is, our team is far outperforming them. And so we've taken it into consideration. As soon as these technical issues with some of these software-defined payload satellites get fixed and the operators can get them and they get launched, we're going to be in fantastic shape.

Okay, that's helpful. Yeah, thanks for the time, guys.

You got it.

Thank you.

Our next question comes from the line of Pete Skibinski with Alembic Global.

Hey, good afternoon, guys. We just wondered if you could quantify the size of the Apollo contract. You said it's on contract now, and then was wondering about timing, if there's the potential for a larger follow-on in the future.

Right. So it's think of a couple tens of millions right now, and that's over a couple of years. And if we're successful and we, us and this customer, there's absolutely the opportunity for a larger follow on here.

Okay. Okay. My only, thanks for that. The only other one, I think I know the answer to this, but, um, You know, if we do have potentially a change in administration next year and and there's less financial support for the effort in Ukraine, I was just wondering, do you guys have any direct exposure there or maybe what you consider kind of, you know, near direct exposure?

So our our primary exposure relative to what's going on in the Ukraine. Has to do with. the NATO countries rearming. And I saw the other day that virtually all of them now are over the 2%, and they're increasing, with some of them at 4% and 5%, like Poland. My opinion is if the Ukrainian situation gets resolved, that that, in the NATO countries' minds, does not address the primary threat, which is Russia. And so... I don't believe it impacts us or our customers, our partners, on these air defense systems. The number of air defense systems, surface-to-air missile systems, counter-UAS systems that have been ordered and that are coming down the pipeline, these are just the ones that we're involved in. It's stunning to me. It's stunning. And so I don't think a resolution in the Ukraine impacts us because the primary threat or the inherent threat will still be there.

Okay. Appreciate it. Appreciate the color. Thanks, guys.

Yep.

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

Hey, everyone. Thanks for taking my question.

Looking at the strong unmanned book to build for the quarter, I mean, with Apollo now under contract, How much, if at all, of this contribution for bookings was from tactical drones?

It was primarily all on the target drone side.

On a relative basis, it was small. That mix will probably change in either Q3 or Q4. But target drones are doing very well. We're probably going to be in a position relative to that to make an announcement of our largest target drone order ever in the next month or so. We just got it.

Gotcha. Gotcha. That's helpful. And then sticking on the unmanned side, I mean, looking at what you guys announced with the GEK engine, you know, you guys are saying that it's probably going to be in the thrust range of probably less than 3,000. According to the RFI that was released on CCA, they're aiming for something between 3 and 8. I know you guys said you could scale up, but kind of piggybacking off of Peter's question earlier, how easy is it to scale up?

I'm sorry on both of those. I can't comment. I just can't do it. And I'm not affirming what you saw. I just can't comment on it. I apologize.

No, no. No worries at all. No worries at all. And then my last one is pivoting away towards KGS. I know you noted hiring at the firm level, but how has that been looking and progressing More specifically on the KDT side, because I know that that was a special pressure point previously.

Yeah, that's a good question. It is very difficult. Turbo machinery engineers, propulsion engineers, as tied directly into the discussion we've been having here this afternoon, they are in incredible demand, and many of them don't exist anymore. They retired, and they're fishing. And this is very challenging, and it's very expensive to hire them and keep them, both in cash and equity at the executive level. So this is a challenge. It remains a challenge, and I believe it's going to continue to be a challenge for us and the industry.

Got it. Thank you both.

Thank you. And as a reminder, if you do have a question, simply press star one one to get in the queue and wait for your name to be announced. One moment for our next question in queue. And it comes from the line of Trevor Walsh with Citizens JMP.

Great. Hi, team. Thanks for taking my questions today.

Eric, maybe just to follow up, similar line of questioning for you based on the Ukraine question you got earlier, but maybe applying that to Israel. It sounds like the Israeli business was strong in the quarter. Not asking to necessarily predict what will happen there, but if things go more towards the kind of positive side around ceasing those tensions there, what prognosis do you have around just the you know, forward looking part of that, that business, either particular to Israel or even similar systems being deployed in other countries, um, lessons learned around just, you know, making sure there's enough, um, kind of, um, Munitions that are stored and kind of ready for ready to go for if, if things kind of break out again, just kind of what's your, your outlook on that? Just give it up the, again, the more positive scenario of things. Yep.

So I'll give you my, this is my opinion. Eric's opinion. My opinion is that the quantity of munitions that have been expended has been incredible. Years worth of inventory. Years and years worth of inventory have been expended. And that must be replenished in order to maintain a consistent defense posture. So I don't see in the foreseeable future years any abatement in demand. If, as you're indicating, and that would be wonderful, if resolution would happen, peace broke out, the significant increases we're seeing month over month over month will probably flatten out, but that is at an exponentially higher ratio than it was before October of 23. So that's specific to there. Outside of there, internationally, the lessons learned, the lessons learned is that, look at the first potential strike that Iran tried to do on Israel. I mean, it came out that there were 300. It was actually over 500 munitions, missiles and drones, ballistic crews and drones were fired at Israel in that one barrage. In the Ukraine, over 10,000 drones on one side are being shot down at a month. The vast majority of those are not in our class. They're class one, two, or three, but a significant number of them are jets. The lesson learned from there is quantities have a quality all of their own. And those quantities can offset lack of defense budget of countries that can't afford exquisite systems. And so their exquisite systems will be thousands of something. And we're seeing that. We're seeing that in direct orders and we're seeing that in orders with our prime partners where we build major subsystems. So I, as I've said several times, this is likened to the Reagan buildup. This is 1981. We're in the second inning. And the difference is that there has been such a consolidation in the defense industry, there are just very few of us left that can do it. And as I said in my prepared remarks, building hardware for defense or national security applications is hard. Building it in mass production is even harder. And the experienced guys like Northrop and Lockheed and Raytheon and Boeing and Kratos, we know how to do it, and that stuff's got to work, which I believe is one of the reasons why in a shitty situation for the foreseeable future, our business is going to be very strong.

Got it. Really appreciate the caller. Deanna, maybe one quick follow-up for you. Services revenues looks like it stayed pretty flat quarter over quarter, but then margins had a nice little bump up about 200 basis points. Just wondering if there was anything in particular that drove the improvement there on the margin side. Thanks.

Nothing in particular. It was just what the mix was for that quarter that drove that margin expansion.

Got it. Okay. That's all from me. Appreciate it. Thanks.

Thank you.

Thank you. And our last question comes from the line of Pete Skibitsky with Alembic Global.

Yeah, guys, sorry to extend the call, but Eric, I just want to deconflict something you said a little while ago about a month from now, your largest target drone contract ever. I don't know if we've talked about this before, but earlier in the year, I think Disca had an announcement about a potential target order from Korea for their ships. It wasn't just BQM-177s. It was also Coyotes, but it talked about like a $170 million order. Are we talking about the same thing, or is that different?

You know, Pete, that's a great question. You are on your game. It's a separate order and a separate customer, and it's a different platform.

Okay. I know Disca does things way in advance. Any timeframe on that particular opportunity?

I hope, you know, we won. We got it. Sole source. I'm hopeful that we will be able to announce it next 30, 60 days. I'm hopeful. But we've received it.

Okay. That's great. Congratulations. Thanks, guys. Okey-dokey. Thank you. Good question.

Thank you. And this concludes the Q&A session. I will turn the call back to Eric DeMarco for final remarks.

Great. Thank you all for joining us, and we'll chat with you at Q3.

And thank you all for participating in today's conference. You may now disconnect.