Leidos Holdings, Inc.

Greetings and welcome to Leidos Q1 2019 earnings call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note this conference is being recorded. I will now turn the conference over to your host, Kelly Hernandez, Investor Relations. You may begin.

Thank you, Brock, and good morning, everyone. I'd like to welcome you to our first quarter 2019 earnings conference call. Joining me today are Roger Krohn, our chairman and CEO, Jim Reagan, our chief financial officer, and other members of the Leidos management team. Today we will discuss our results for the quarter ending March 29, 2019. Roger will lead off the call with notable highlights from the quarter. as well as comments on the market environment and our company strategy. Jim will follow with a discussion of our financial performance and our guidance expectations. After these remarks from Roger and Jim, we'll open the call for your questions. Today's discussion contains forward-looking statements based on the environment as we currently see, and as such, does include risks and uncertainties. Please refer to our press release for more information on the specific risk factors that could cause actual results to differ materially. Finally, during the call, we will discuss GAAP and non-GAAP financial measures. A reconciliation between the two is included in the press release that we issued this morning, and it's also available in the presentation slides. The press release and presentation, as well as a supplementary financial information file, are provided on the investor relations section of our website at ir.leidos.com. With that, I'll turn the call over to Roger Crone.

Thank you, Kelly, and thank you all for joining us this morning for our first quarter 2019 earnings conference call. Our results in the quarter show a strong start to the year. All of our businesses achieved growth. with a notable acceleration of growth in our defense solutions business. The revenue acceleration at margin levels above 10% reflect the continued careful management of our portfolio as we drive the organization to grow revenue and EBITDA. We again set new records in backlog as we continued our momentum in winning programs and driving bookings. Our focus on competitive differentiators has been the key to our success. By leveraging these differentiators and the scale of our organization, we have improved our win rates and conversion of our pipeline to revenue. This year, we are continuing to execute this strategy, positioning ourselves well to further our growth. We look forward to sharing more about this strategy with you in a couple of weeks at our investor day. We developed an exciting agenda for this event where we will provide you with more depth in our business, our competitive positioning, and our strategy. You'll also have a chance to hear from and interact with our management team and see demonstrations of several of our innovative technologies. Turning now to the quarter's results. Revenue growth continued to accelerate as we added talent to ramp up on our new programs. From a business development perspective, we had a very active quarter in both submits and awards. Despite the temporary government shutdown, we booked 3.3 billion of awards in the backlog, which drove a book to bill of 1.3 for the quarter. In addition, we were also awarded another approximately $1 billion in contract values during the quarter, which were subsequently protested and as such are not reflected in our bookings. We also won seats on several new IDIQ vehicles, which allow us an opportunity to further expand our market penetration and grow our revenues. During the quarter, we submitted a significant level of bids, including several multibillion-dollar programs. We exited the quarter with over $36 billion in submits awaiting decisions. When combined with our record backlog and strong win rates, the record level of submits outstanding gives us confidence in our ability to continue our growth momentum. Profitability through the quarter came in slightly better than expected. Our focus on program execution and the use of differentiation to drive margins, particularly for fixed price work, offset the impact of the high volume of early phase revenue from new program ramps. The strong revenue and profitability contributed to a better than seasonal level of cash from operations. This was augmented by cash generated through our balance sheet and portfolio optimization activities. We were very active in this area in the first quarter as we closed several transactions, including two real estate sales and the divestiture of our commercial cybersecurity business, which together drove $267 million in cash inflows and significantly increased our deployable cash balance. Our focus on generating cash from the business is matched with equal attention by our commitment to return capital to our shareholders in a thoughtful and balanced manner. Our capital deployment philosophy remains unchanged. Prioritizing investing for growth, both organically and through M&A, maintaining our regular quarterly dividend, and repurchasing shares. During the quarter, we returned $200 million to shareholders through the execution of an accelerated share repurchase, which we announced in February. We also returned $54 million to shareholders through our regular quarterly dividend. From a macro perspective, we are encouraged by the initial proposed fiscal 2020 budgets. Both the OMB and Congress recognize the urgency with which our country needs to invest in new technologies and infrastructure that keep us safe and technologically superior to our adversaries. At this point, we're assuming we'll enter the government fiscal 2020 with a continuing resolution but it's too early to predict the level. We are hopeful for a possible bipartisan two-year budget deal as it appears Speaker Pelosi and Majority Leader McConnell are in early talks. That being said, we remain focused on what is in our control and on driving share gains in the areas that align with our customers' priorities. Finally, before I hand the call over to Jim, I'd like to mention a couple of recent awards that recognize our commitment to diversity and our dedication to maintaining a strong culture of ethics and integrity. First, the company was included in the 2019 Bloomberg Gender Equality Index, which distinguishes companies committed to transparency in gender reporting and advancing women's equality. We attained best in class rankings for several categories, highlighting just a few of the reasons Leidos is a great place to work. These categories include family care, healthcare, flexible work, career development, and our diversity and inclusion strategy. This recognition is a result of our unwavering commitment to gender equality at all levels of our company, and we will continue to nurture an atmosphere that applauds diverse cultures and perspectives, which leads to better business outcomes and employee retention. Second, during the quarter, Leidos was again recognized as one of the world's most ethical companies by the Ethisphere Institute. This designation recognizes companies that influence and drive positive change in the business community and societies worldwide. These values are embedded in our culture and reinforced by the actions of our employees every day. Along these lines, specifically during the quarter, we continued our sponsorship of the FIRST Robotics Program, our flagship STEM education program providing students in the communities in which we operate with real-world engineering experience. Our employees volunteered more than 7,000 hours sponsoring competitions and mentoring teams nationwide, 14 of which advanced to the world championships. Over the past decade, Leidos has donated nearly $3 million to STEM education programs, and our employees have logged thousands of volunteer hours on these important initiatives as we help foster America's next generation of technical professionals. My congratulations to our employees on their support and dedication to our communities. With that, I'll turn the call over to Jim Reagan, our Chief Financial Officer, for more details on our first quarter results. Thanks, Roger, and thanks to everyone for joining us on the call today. We're pleased with our strong start to the year and our growth momentum. I'll start by sharing some highlights from the quarter. First quarter revenues grew 5.5% over the prior year period, demonstrating the continued execution of our successful growth strategy and putting us solidly on track to deliver to our top-line growth targets for the year. Adjusted EBITDA margins of 10.1% were slightly better than our expectations. Strong program performance offset some of the impact we anticipated from the higher mix of early phase program revenues as we ramp up the new work from last year's awards. Non-GAAP diluted EPS in the quarter of $1.13 was up roughly 10% year over year, primarily reflecting a lower non-GAAP effective tax rate and a lower share count. Note that this excludes the gain on the sale of our commercial cyber business of $88 million. Operating cash flows were above seasonal levels, reflecting earlier-than-expected advanced payments on certain programs. Investing cash flows of $237 million reflect the proceeds from several transactions that closed in the quarter. The transaction proceeds include $171 million from the sale of our commercial cyber business and $96 million from the sale of three of our buildings in Gaithersburg and San Diego. These transactions further the monetization of our balance sheet, an ongoing initiative which we continue to execute to drive increased return on invested capital. Combined, these items, offset by our capital expenditures, and the execution of our ASR increased our cash and equivalence balance over $200 million sequentially to $536 million at the end of the quarter. We continue to thoughtfully deploy excess cash against our stated capital deployment policy. Over the past 12 months, we have returned more than $800 million to shareholders, a quarter of that through our regular dividends and three quarters through our share repurchases. And before I turn to our segment results, I'd like to provide an update on our hiring, given its importance to meeting our growth objectives. Our progress on this front has been great thus far this year. Despite the tight labor market, we've hired over 2,000 new employees just in the first quarter, and we're on track to meet our headcount goals for the year. Our ability to ramp successfully on our new programs depends heavily on hiring the best available talent. we will continue to use our innovative programs to aggressively recruit top talent and maintain our growth momentum. Now for some highlights from our segment results. For the defense solutions segment, revenue growth accelerated significantly to 6.6% year-over-year growth compared to the prior quarter's level of 3.6% year-over-year growth. This strength reflects the continued expansion of our base business as we ramp up on our programs that we've won last year. Non-GAAP operating margins increased 80 basis points from the prior year period due to a lower level of net profit write-ups. We booked $1.2 billion of net awards in the defense solutions segment, resulting in a 1.0 book-to-bill for the quarter, or a 1.3x on a trailing 12-month basis. In our civil segment, first quarter revenues reflect a typical seasonal sequential decline compounded by the effects of the government shutdown and the sale of our commercial cyber business. These factors depress the otherwise strong year-over-year growth in the business as we continue to ramp up the new programs that we won last year. The higher mix of early phase program revenues combined with a lower level of net profit write-up drove the year-over-year decline in non-GAAP operating margins to 11% for the quarter. Civil generated $550 million in net bookings, resulting in a book-to-bill for the quarter of 0.7 or 0.9x on a trailing 12-month basis. While typically a light quarter for bookings for civil, this quarter did see some impact from the delayed bookings and award activity as a result of the government shutdown. Turning now to our health segment, revenues in the quarter grew significantly, up nearly 9% year over year, reflecting the ramp of deployment activity on the DIMSOM program and a higher level of on-contract growth in other areas of the business. Non-GAAP operating margins in our health business were 11.9% in the quarter. And despite a 60 basis point year-over-year decline, margins continue to be accretive to the overall company. The year-over-year decline primarily reflects the lower level of net profit write-ups as well as the return to a more normalized margin profile on certain programs, which we have discussed previously. Our health segments saw very strong bookings in the quarter, which drove a book-to-bill of 3.3x. Net bookings primarily reflect an increase to expected volume of services based on modifications received on existing programs. Overall, the growth achieved in all of our businesses furthers our confidence in our strategy and our ability to deliver to our guided targets. Now, before I discuss our forward outlook, I'd like to spend a moment discussing the impact of the new lease standard, ASC 842, to our financial statements. The primary impact of the new standard, which we adopted during the quarter, is that it requires the presentation of operating leases on the balance sheet. As such, beginning this quarter, you will find two new line items on our balance sheet, an operating lease right of use assets of $406 million and our long-term operating lease liabilities of $305 million. The short-term portion of operating lease liabilities is reflected within accounts payable and accrued liabilities. Additional details are provided in Note 4 of our 10Q. Importantly, the adoption of this standard has an immaterial impact on both the P&L and the statement of cash flows. With that, I'll move now on to our forward outlook. First, As a result of the $200 million accelerated share repurchase executed in the first quarter, we are increasing our non-GAAP EPS guidance range by 5 cents to a range of $4.30 to $4.65. Second, on the strength of our results so far in the year and reflecting our expectation of ongoing balance sheet monetization items, we are increasing our operating cash flow guidance by $100 million. to at or above $825 million for the full year. And finally, we are also updating our CapEx view for the year to reflect an incremental investment of approximately $40 million for program-related assets. We expect this investment will ultimately be fully recovered through margin accretive program revenues in 2020 and beyond. We have occasionally made such investments, and where it makes good financial sense, we will continue that practice. And as a result of the investment, we expect capex of approximately $175 million for the full year, inclusive of the real estate-related assets previously disclosed. The detail on this is again included in slide 10 of our earnings presentation. Guidance for revenue and adjusted EBITDA margins will remain unchanged. And with that, I'll turn the call back over to Brock so we can take some questions.