Telos Corporation

Good day, and thank you for standing by. Welcome to the Telos Corporation's second quarter 2026 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there'll be a question and answer session. To ask a question during the session, you'll need to press star 11 on your telephone. You will then hear an automated message advising that your hand is raised. If you would like to remove yourself from the queue, please press star 11 again. Please be advised that today's conference is being recorded. I would now like to turn the conference over to your speaker for today, Allison Phillipp, Director of Corporate Communications. Please go ahead.

Good morning. Thank you for joining us to discuss Pellos Corporation's second quarter 2026 financial results. With me today is John Wood, Chairman and CEO of Pellos, Mark Bendza, Executive Vice President and CFO of Pellos, and Mark Griffin, Executive Vice President of Security Solutions. Let me quickly review the format of today's presentation. Mark Bendza will begin with remarks on our second quarter results and full year outlook. We will then open the line for Q&A where John Wood and Mark Griffin will also join us. The second quarter financial results were issued earlier today and are posted on the Telos Investor Relations website where this call is being simultaneously webcast. Additionally, we have provided presentation slides on our investor relations website. Before we begin, we want to emphasize that some of our statements on this call, including all of those relating to 2026 company performance plans and operations are forward-looking statements and are made under the safe harbor provisions of the federal securities laws. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ for various reasons, including the factors described in today's financial results summary, in the comments made during this conference call, and in our SEC filings. We do not undertake any duty to update any forward-looking statement. In addition, during today's call, we will discuss non-GAAP financial measures, which we believe are useful as supplemental and clarifying measures to help investors understand TELUS's financial performance These non-GAAP financial measures should be considered in addition to and not as a substitute for or in isolation from GAAP results. You can find additional disclosures regarding these non-GAAP measures including reconciliations with comparable GAAP results in our second quarter results summary and on the investor relations portion of our website. Please also note that financial comparisons are year over year unless otherwise specified. The webcast replay of this call will be available on our company website under the investor relations link. With that, I'll turn the call over to Mark Bendza.

Thank you, Allison, and good morning, everyone. We're pleased to report another strong quarter, highlighted by results that exceeded the high end of our guidance range, strong cash flow generation, accelerated share repurchases, and a meaningful increase in our full year profitability outlook. These results reflect the strength of our business and our continued ability to solve complex mission critical challenges for our customers. Telos helps the world's most security conscious organizations solve those challenges by combining proven cybersecurity, digital identity, and Secure Networking Solutions, combined with deep mission expertise and a flexible approach to addressing unique customer requirements. Our solutions strengthen security, improve operational efficiency, accelerate compliance and help customers adapt to an evolving threat landscape. Let's turn to slide three. Total company revenue increased 33% year-over-year to $47.7 million, exceeding our guidance range of $44 million to $46 million, driven by stronger-than-forecasted performance in Telos ID. Gap gross margin was 35%, and cash gross margin was 40.6%, both above our expectations. reflecting disciplined execution across large programs in TELUS ID. As a reminder, given the diversity of our revenue streams, gross margins will fluctuate from quarter to quarter based on revenue mix. Adjusted operating expenses declined by more than $800,000 year over year, but were approximately $500,000 above guidance assumptions. primarily reflecting higher TSA PreCheck marketing activity and incentive compensation accruals. Adjusted EBITDA exceeded the high end of our guidance range, reaching $6.9 million compared to guidance of $5 million to $6 million. Adjusted EBITDA margin expanded to 14.4%, up significantly from 1.1% in the prior year period. Let's turn to slide four to discuss cash flow. Over the past few years, we have transformed Telos into an increasingly cash generative business. Strong revenue growth, lower operating expenses, and disciplined working capital management have significantly improved our free cash flow margins while reducing quarter-to-quarter cash flow volatility. Operating cash flow for the second quarter was $8.8 million, and free cash flow totaled $6.6 million, representing a 13.9% free cash flow margin. This marks our sixth consecutive quarter with a free cash flow margin above 12%. During the quarter, we deployed $4.7 million to repurchase more than 1 million shares at an average price of $4.50 per share. Let's turn to slide five to discuss our third quarter guidance. For the third quarter, we forecast revenue in a range of $49.2 million to $50.6 million, down slightly year-over-year due to unusually high non-recurring revenue associated with the startup of a new program in the comparable period last year. Excluding the year-over-year differential in non-recurring revenue, third quarter revenue guidance implies 6% growth at the midpoint. We expect cash gross margin to be approximately 37.5% to 38.5%, reflecting the anticipated effects of contingency reserves on fixed price contracts and normal fluctuations in revenue mix. Adjusted operating expenses are expected to be approximately $400,000 lower than the prior year. Adjusted EBITDA is expected to be between $6 million and $6.8 million, representing a margin of 12.2% to 13.4%. Let's turn to slide six to discuss our updated full year outlook. Based on our strong first half execution, we are raising our full year profitability outlook. We're increasing our adjusted EBITDA guidance to a range of $23.6 million to $28.6 million, up from our previous guidance of $20.6 million to $28 million. We're also raising our adjusted EBITDA margin outlook to 12.6% to 14.7% representing an improvement of approximately 70 to 160 basis points versus our prior forecast. In addition, we are raising our full year cash gross margin outlook to 39% to 40% up from our previous forecast of 38.2% to 39.5%, while lowering our adjusted operating expense forecast by approximately $1.7 million. Our full year revenue outlook is now $187 million to $195 million. Starting in the fourth quarter, we expect the resale of low margin third party software to begin phasing out. While this revenue stream contributes meaningful revenue, It carries only a single digit gross margin and is not consistent with the margin profile we're building across the company. As a result, our revenue outlook is approximately $2.5 million lower at the midpoint than our previous guidance. Beyond 2026, the full run rate impact will be approximately $33 million of revenue per year with only a modest impact on profit. because this revenue stream carries a single digit gross margin, eliminating it is expected to improve total company cash gross margin by over 600 basis points on a run rate basis, all else being equal. In addition, we expect to realize approximately 400 basis points of additional cash gross margin accretion in the second half of 2027 after we complete the expense recognition of certain prior period investments in our TSA PreCheck program. Accordingly, we expect a combination of these two items to improve our cash gross margins by approximately 10 percentage points during the second half of next year, all else being equal. Before I conclude, I'd like to spend a few minutes discussing growth and new business opportunities. On our last earnings call, we mentioned that we had submitted proposals representing nearly $500 million in total contract value and expected the government to make award decisions during the second half of 2026. We continue to expect award decisions in the second half of the year. Consistent with prior quarters, the timing of contract awards is determined by our government customers and may vary based on their priorities and procurement schedules. These opportunities span both our security solutions and secure network segments with a heavy concentration in security solutions. Beyond these submitted proposals, we continue to build a healthy pipeline while remaining disciplined in pursuing new opportunities that align with our strategic priorities. Let's turn to slide seven to wrap up. The second quarter reflects the continued execution of our strategy. We're delivering profitable growth, generating consistent free cash flow, and allocating capital in ways that we believe create long-term shareholder value. Looking ahead, we're encouraged by the opportunities in our pipeline as award decisions are made over the coming quarters. Overall, we're pleased with our first half performance, confident in our updated full year outlook, and remain focused on executing our strategy to drive profitable growth, generate steady cash flow, and create long-term value for our shareholders. With that, operator, please open the line for questions.