PAE Incorporated

Good morning, and thank you for participating in PAE's second quarter 2021 earnings announcement. We hope you've had an opportunity to read the press release we issued earlier this morning. We've also provided presentation slides on the investor relations section of our website. Joining me today to discuss our business and financial results is Charlie Pfeiffer, PAE's interim president and chief executive officer. Following our prepared remarks, we will close with a question and answer session. Management may make forward-looking statements during the call regarding future events, anticipated future trends, and the anticipated future performance of the company. We caution you that such statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Actual results may differ materially from those projected in the forward-looking statements due to a variety of factors. These factors are described in our SEC filings. Please refer to our earnings press release for PA's complete forward-looking statement disclosure. We do not undertake any obligation to update forward-looking statements. Management will also discuss non-GAAP financial measures during this call, and we remind you that these non-GAAP financial measures are not a substitute for their comparable GAAP measures. Reconciliations of these non-GAAP financial measures to the comparable GAAP measures are contained in the press release and investor presentation issued earlier today. And now I will turn the call over to Charlie Pifer.

Thank you all for joining us this morning for our second quarter earnings conference call. I'm pleased with our results for the second quarter. We generated significant margin expansion and saw a strong improvement in our net bookings. Positive momentum has continued in the first month of the third quarter, and I'm encouraged for the second half of the year. For today's call, I'll start with an overview of the key fundamentals of the business and the highlights of the second quarter. In addition, I'll address our perspectives on the macro trends in our industry and PAE's competitive positioning. Beginning with the second quarter results, we performed well, delivering 2% organic revenue growth and strong margin expansion compared to the first quarter of 2021. Revenue was slightly below our internal expectations due to timing on several IDIQ vehicles. However, these task orders have now been awarded. And we have line of sight to delivering the revenue growth in the second half of the year. We continue to plan to submit at least $10 billion in bids this year and more than $7 billion as new business. With regards to COVID-19, we've continued to see a measured return to normal operating levels. with increased staffing on our training and immigration-related programs, increases in travel, and fewer disruptions to logistics efforts. We are monitoring the impacts of the Delta variant, but to date we have not seen new disruptions to our business. Moving on to our more detailed financial results, the core business grew approximately 2% year over year, and the Centra and Metis business grew approximately 25% over last year. driven by several sizable contract wins by both companies in the second half of 2020. We were also pleased to see legacy NSS return to growth. We achieved 5% organic growth driven by on-contract growth on a variety of programs and COVID-19 recovery in our training and immigration-related business areas. Our GMS segment grew about 1% year-over-year driven primarily by new business wins. I'm really proud of our teams for driving such strong, adjusted EBITDA and margins this quarter. It's further validation of our ability to execute our margin expansion strategy. Our margins contracted about 40 basis points over last year. This was primarily driven by the acceleration of bid and proposals costs this year and the COVID-19 reduction of non-labor revenue in the prior year period. You'll note in our earnings relief that cash flow is negative for the quarter. This was a timing issue and is so isolated to a handful of programs. During the last three days of June, which falls in our fiscal third quarter, we collected approximately $31 million in receivables that were planned for our fiscal second quarter. As I discussed earlier, we experienced a solid improvement in award activity for the quarter, and we've seen continued progress to start the third quarter. As you will note in our earnings release, the awards we highlighted demonstrated our diverse portfolio across intelligent analytics, mission readiness, business solutions, test and training solutions, and infrastructure management. The second quarter awards also demonstrated our broad geographic reach, including several notable awards in the Asia Pacific region, which will continue to be a region that we emphasize strategically. Next, regarding the $1.3 billion CBP award, the Government Accountability Office denied our protest on June 8, and we subsequently filed a protest with the Court of Federal Claims. We believe a decision should be rendered by late third quarter. Now, I'll provide a summary of the bid pipeline at the end of the quarter. We had about $7.5 billion in awards under evaluation. of which about $4.9 billion is new business and approximately $2.6 billion are recompete awards. We also had an incremental $1.2 billion in the proposal writing process, almost all of which is new business. In addition, following the end of the second quarter, GMS was awarded approximately $402 million NASA recompete contract at Johnson Space Center in Houston, Texas. The Johnson Space Center award was subsequently protested by a competitor, and the protest is currently pending at the Government Accountability Office. Assuming PAE's award is upheld, we will take it into backlog at that point in time. Within GMS, and including both CBP and Johnson Space Center, we're awaiting approximately $5.3 billion in awards. More than $3 billion are new business awards, and about $2.2 billion are re-compete opportunities. At NSS, we're awaiting more than $2.2 billion in awards, of which $1.9 billion is new business and close to $0.4 billion are recompete awards. I'm pleased to report that during the second quarter, we were successful winning all our recompete task orders submitted under the Department of Justice MECA 5 Litigation Support Services Program, a great accomplishment by our team. As I mentioned earlier, we expect to bid at least 10 billion this year, with more than 7 billion being new business opportunities. We're forecasting GMS to bid about 55% and NSS to bid 45% of this total. I'll take a moment to step back and provide additional commentary about the general themes we are pursuing. Across PAE, we continue to benefit from our diversified set of customers, capabilities, and our global reach to address an attractive demand environment. From a customer perspective, our strategic focus areas are closely aligned with defense, intelligence, and federal civilian key priorities. Within the Department of State, we had several key wins with USAID, including infrastructure management in Bangladesh, and we were awarded a seat on the USAID Global Architect Engineering Services IDIQ. In terms of capability, we see continued prioritization from the administration in areas such as international development, foreign policy initiatives, immigration services, DOD readiness, and intelligence analytics. And geographically, we're well positioned given our presence on all seven continents, which is a unique competitive advantage. As we noted previously, we are particularly focused on the PACOM region, which we believe will be a region of intense focus for the foreseeable future. Our recent contract awards with the Defense Logistics Agency in Korea and for base operating support services at Marine Corps Air Station in Japan further solidify our strong, growing position in the PACOM region. We are also well positioned in terms of contract vehicles. We will continue to pursue attractive IDIQs to further enhance our portfolio. In addition, I believe we can execute our near-term financial objectives based on the IDIQs we have already won positions on over the past several years. This is a tremendous accomplishment by our business development teams, and we look forward to successful execution moving forward. Next, I'll spend a few minutes discussing Afghanistan and its impact on our business. As I discussed in our prior call, our revenue in Afghanistan is comprised of Department of State and Department of Defense programs. As we entered 2021, the Department of State exposure was roughly 4% of revenue and DOD was approximately 7% of revenue and driven primarily by the national maintenance strategy or NMS program, which provided vehicle maintenance and logistics support for Afghan forces. Based on the Biden administration's decision to withdraw both US troops and DOD contractors, our NMS program was effectively concluded at the end of June. with revenue ceasing in the third quarter. I'm extremely proud of the quick turn demobilization effort by the team. The demobilization process was very efficient and successful and demonstrates the leadership and professionalism of our team on the ground in Afghanistan. With regard to our ongoing State Department programs, we are seeing significant support from the U.S. government on keeping the U.S. Embassy in Kabul open. Our expectation is that the Department of State will explore a variety of scenarios to address security concerns, and our current understanding is that we will not see reductions to revenue or profitability. Mark will elaborate further in his remarks, but based on the financial results to date and our outlook for the remainder of the year, we are reiterating guidance despite the financial impact from concluding the NMS program in Afghanistan. With regard to the federal government budget discussions, we are currently monitoring the ongoing negotiations. Thus far, we're pleased with the direction of discussions are headed regarding the 2022 defense intelligence and federal civilian budgets. Even if we start government fiscal year 2022 under a continuing resolution, PAE and our industry have grown accustomed to operating in a CR environment, and we do not anticipate any changes to business operations. Lastly, before Mark addresses our financial results, I'll provide an update on the CEO recruitment search process. As we previously communicated, our expectation was that this process will take about four to six months, and we see no reason to revise this estimate. The search committee has interviewed numerous highly qualified candidates, and we believe we are on track to name the CEO within the estimated timeframe. In the meantime, we are continuing to execute against our strategic plan and building momentum for 2022. With that, I'll hand the call over to Mark for an overview of our second quarter 2021 financial results.

Thanks, Charlie. Good morning, and thanks to everyone for joining us on the call. I'll provide an overview of our second quarter 2021 results, followed by a discussion of 2021 guidance. I'll start with key takeaways. As Charlie discussed, we delivered a solid quarter in which we generated strong adjusted EBITDA and margins and experienced a strong improvement in contract award activity. Revenue was slightly lower than our internal plan, but based on our bid submissions, we remain confident in our revenue guidance for the year. Operating cash flow was below our expectations due to timing considerations. As Charlie discussed, we collected $31 million of receivables that we had planned on collecting at the end of our fiscal second quarter ending June 27th that was collected over the last three days of June. Consequently, based on this activity and our anticipated results for the remainder of the year, we are reiterating our operating cash flow guidance for the full year. Moving to the detailed results, I'll start first with revenue. We delivered $747 million of second quarter revenue representing about 2 percent organic growth over the prior year quarter. The Centra and Metis acquisitions delivered approximately $93 million in revenue, which represented about 25 percent top-line growth over the prior year quarter. Legacy GMS and NSS grew about 1 percent and 5 percent, respectively, over the prior year. Revenue benefited from new business awards, increases in contract volume on existing programs, and higher non-labor revenue. Second quarter adjusted EBITDA margin was 7.1%, modestly higher than our internal plan. And the 40 basis point contraction in margins relative to last year was primarily due to an acceleration of bid and proposal costs in the quarter and the reduction of non-labor revenue in the prior year quarter. Second quarter adjusted net income grew to $21 million, an approximate 8% increase over the prior year. Cash used in operating activities was about $12 million for the quarter. As I discussed, this was driven by customer payment delays, which were collected the first three days of the fiscal third quarter. In addition, cash used in investing activities was approximately $14 million for the quarter, driven primarily by approximately $10 million in CapEx supporting a customer program. We'll recover these costs through customer charges over the life of the contract. Moving next to our segment results, GMS second quarter revenue grew 1 percent over the prior period due to new business wins, partially offset by reductions in revenue volume due to program timing. GMS second quarter adjusted operating income was about $35 million for the quarter at a margin of 6.8 percent. Margins declined relative to last year primarily due to higher SG&A expenses, including an increase in bid and proposal costs this quarter and the reduction of non-labor revenue in the prior year quarter. Turning to the NSS segment, we generated $236 million of revenue, of which about $93 million was attributable to the recent acquisitions. NSS delivered 5% organic revenue growth this quarter, driven by increased volume on our training and immigration programs due primarily to COVID-19 recovery. Moreover, the former headwinds caused by the prior year small business set-aside losses are no longer impacting quarter-over-quarter comparisons. NSS second quarter adjusted operating income improved to $19 million driven by the increase in revenue and program performance. NSS margins declined relative to the same period last year due to the timing of bid and proposal costs this year and net profit adjustments in the prior year quarter. Moving next to the integration efforts of Centra and Metis. The back office integration, including moving to a single instance of our cost point accounting system and our workday human resources system is on track to be completed during the third quarter. As a result, we are on track to meet or exceed the cost synergy estimates we've previously communicated. About $4 million in expected fiscal year 2021 cost savings and realizing $7 million in full run rate cost energy starting in fiscal year 2022. As we discussed last quarter, due to our successful integration efforts, it will not be feasible to separate out the results of Centra and METIS by the third quarter of this year. Thus, this will be the last quarter we separately identify Centra and METIS revenue contributions. Moving on to 2021 financial guidance. Based on our first half results and our outlook for the remainder of the year, we're reiterating the full year 2021 guidance we provided in March. Our financial guidance is as follows. We expect revenue in the range of 3.05 to 3.15 billion. We expect adjusted EBITDA in the range of 205 to 215 million, representing a 20 basis point improvement at the midpoint over 2020. and we expect at least $120 million in cash flow from operations. At the midpoint of revenue guidance, approximately 94 percent of our guidance is in backlog, approximately 5 percent is from new business awards, and about 1 percent is from re-compete contracts. For the remainder of the year, we continue to anticipate revenue and adjusted EBITDA to be moderately back-end weighted, driven by the expected timing of new business awards. The cash from operations guidance factors in the $31 million of accounts receivable collections that shifted into the third quarter, an assumed quarterly run rate of about $32 million of cash flow from operations performance, and lastly, takes into account the approximate $18 million CARES Act payroll tax deferral payment. Other key assumptions for our 2021 guidance are available in our earnings presentation on the investors section of our website. With that operator, let's open the call for questions.