Booz Allen Hamilton Holding Corporation (BAH) Q4 2021 Earnings Report, Transcript and Summary

Good morning. Thank you for standing by, and welcome to Booz Allen Hamilton's earnings call covering fourth quarter and full year results for fiscal year 2021. [Operator Instructions] I'd now like to turn the call over to Mr. Rubun Dey.

Thank you. Good morning, and thank you for joining us for Booz Allen's fourth quarter and full fiscal year 2021 earnings announcement. We hope you've had an opportunity to read the press release that we issued earlier this morning. We have also provided presentation slides on our website and are now on Slide 2. I'm Rubun Dey, Head of Investor Relations. And with me to talk about our business and financial results are Horacio Rozanski, our President and Chief Executive Officer; and Lloyd Howell, Executive Vice President, Chief Financial Officer and Treasurer. As shown on the disclaimer on Slide 3, please keep in mind that some of the items we will discuss this morning will include statements that may be considered forward-looking and, therefore, are subject to known and unknown risks and uncertainties, which may cause our actual results in future periods to differ materially from forecasted results. Those risks and uncertainties include, among other things, general economic conditions, the availability of government funding for our company's services and other factors discussed in today's earnings release and set forth under the forward-looking statements disclaimer included in our fourth quarter fiscal year 2021 earnings release and in our SEC filings. We caution you not to place undue reliance on any forward-looking statements that we may make today, and remind you that we assume no obligation to update or revise the information discussed on this call. During today's call, we will also discuss some non-GAAP financial measures and other metrics, which we believe provide useful information for investors. We include an explanation of adjustments and other reconciliations of our non-GAAP measures to the most comparable GAAP measures in our fourth quarter fiscal year 2021 slides. It is now my pleasure to turn the call over to our CEO, Horacio Rozanski. We are now on Slide 5.

Thank you, Rubun, and good morning, everyone. Thanks for joining the call. Lloyd and I are proud to announce Booz Allen's results for fiscal year 2021 this morning, another stellar performance by the people of our firm. The past year was unlike any other in this company's 107-year history. That's simple fact. And all the complexity it sums up makes the results we are reporting this morning all the more impressive. But before diving into our latest results and our outlook for the current year, I want to highlight that the fiscal year-end on March 31 also marked the close of the 3-year period covered in our investment thesis. When we first shared our thesis in June of 2018, we committed to 50% growth in adjusted diluted earnings per share over 3 years. We said that growth would be driven by our unique position in the market and the combination of industry-leading organic revenue growth, adjusted EBITDA margin expansion and robust capital deployment. With our fiscal year 2021 results now final, Booz Allen has significantly exceeded our 3-year financial objectives. ADEPS nearly doubled over the period to $3.90 in fiscal year 2021. Average annual revenue growth was above the midpoint of the 6% to 9% range we originally provided. Adjusted EBITDA margin was above 10% in each of the 3 years. And we deployed $1.3 billion in capital, the majority of which was achieved through increased dividends and a robust share repurchase program. During the 3-year period, we navigated through significant budget uncertainty, including the longest government shutdown we've ever experienced, a turbulent presidential transition period and a once-in-a-century pandemic. And throughout, we continued to invest in our people, especially when we set aside $100 million in response to the pandemic to support our employees and help the most vulnerable in our communities. All the while, we also continued to invest in our key technologies and develop elements of our option value portfolio. So the story over the last 3 years is certainly about outstanding financial performance. But more importantly, as we look to the future, it is the basis for our optimistic outlook on the business. Over the last decade, we further differentiated Booz Allen's brand and market position to the point that today, federal and commercial clients rely on us for advanced technology solutions that deliver both speed and mission scale. And our unique combination of consulting expertise, mission knowledge, innovation and technology serves as a strategic accelerator for both our firm and our clients. I've said many times, Booz Allen learns and evolves continuously. Our next strategy and long-term financial outlook, which we plan to share with you in the fall, will build on Vision 2020's growth and transformation. We are very comfortable with our direction of travel as we anticipate the opportunities of the next decade. The most recent example of our confidence in our strategic direction is our agreement to acquire Liberty IT Solutions, LLC. As we discussed when we announced it on May 4, this acquisition is directly on strategy. Liberty is an exceptional company with highly skilled talent, trusted client relationships, closeness to mission, a solid growth trajectory and digital transformation capabilities that augment Booz Allen's extensive set of offerings. The transaction is expected to close in this quarter, subject to customary closing conditions. And we look forward to officially welcoming the Liberty team to the Booz Allen Family. Let's turn now to the fourth quarter and the full fiscal year financial results released this morning. Lloyd and I are proud of the team's performance in an unprecedented year. On all metrics, we have met or exceeded the updated guidance we provided at the end of January. For the full year, organic revenue growth was strong, albeit slower than recent years due to the pandemic and some delays in funding and awards after the election. We also delivered excellent bottom line results. Full year earnings, profit margins and cash flow are all ahead of expectations. And as the market began to stabilize post transition, our team did a great job in capturing opportunities, driving a record book-to-bill in the fourth quarter and year-end backlog of $24 billion. Underlying demand for our services and solutions remain robust, with our defense and civil businesses delivering excellent organic growth in fiscal year 2021, while intelligence and global commercial continue to reshape their portfolios. Lloyd will go into greater depth about market dynamics in a few minutes. Next, I am pleased to report that the Department of Justice has closed the criminal investigation that we first disclosed in June 2017. The civil DOJ and SEC investigations remain pending. And we continue to cooperate with the government to bring those matters to an appropriate resolution. Let's shift now to how we are thinking about the business in the year ahead. As we open fiscal year 2022, we are very focused on a set of near and midterm priorities. First and foremost, to fully benefit from our strong backlog and demand pipeline, we need to accelerate our recruiting efforts. Second, we must capitalize on the reshaped portfolios in intelligence and commercial to drive growth in both businesses. Third, we will carefully manage the transition to a post-COVID environment by investing in our people and the advanced capabilities we need for the future. Fourth, having launched our next-generation financial system on April 1, we are making strong progress, and we'll keep focused on a seamless implementation. And fifth, upon close of the Liberty acquisition, we will work closely together on a smooth and successful integration. As we look further out, we're also focused on positioning for growth beyond the current fiscal year. Our overriding goal is to accelerate into the next wave of changes in our market, from monetizing the option value portfolio; to investing in new areas like low-code, 5G, AI or quantum; to finalizing our strategic review. Booz Allen is committed to being a leader in ensuring our clients can scale new technologies into their missions faster than ever. Turning now specifically to our fiscal year 2022 outlook. Lloyd will walk you through the guidance in a few minutes, but I will note that the growth pattern will be different from recent years. This is due to a number of factors from productivity and PTO trends to the Liberty acquisition and the timing of headcount gains. We expect these factors together to produce a revenue profile with low single-digit growth in the first half, followed by a significant acceleration in the second half. We plan to the full year, and as our guidance indicates, we expect another year of significant revenue growth in FY '22. Continued excellence in operational performance is also expected to produce strong EBITDA growth, continued cash generation and strategic capital deployment. So to sum up, I am excited and optimistic about the coming year and beyond. Our clients have clear priorities and the ability to marshal resources towards them. We have an exceptional team, an exceptional team tested and successful through good times and challenging ones. Our balance sheet is strong. Our unwavering commitment to people over the past year has bolstered our already strong brand in the market for talent. And all of us are committed to and focused on serving clients with excellence and living our purpose and our values. So while we may still see some choppiness and we have work to do on hiring in the coming months, I have tremendous confidence in our team's ability to deliver growth in the near and the long term. And with that, I'll turn the call over to Lloyd for the full financial results and the outlook for fiscal year 2022.

Thanks, Horacio, and good morning, everyone. Let me start by echoing Horacio's comments on the closeout of our investment thesis. Last quarter marked the end of a 3-year period with ADEPS growth of 96%, an increase that was primarily driven by strong organic revenue growth and sustained margin expansion. This performance resulted from investments related to Vision 2020 and our early positioning in core areas of rising demand for our clients. Booz Allen has proven its ability to outperform competitors even in some of the toughest macro environments. Moving forward, we will keep a sharp focus on positioning Booz Allen for long-term success, building on the excellent performance of the last 3 years. As we look back over the past year, we are proud of the resilience and dedication shown by our people in close collaboration with our clients. Their excellent work resulted in another strong year of operational and financial performance. As we begin fiscal year 2022 and anticipate moving toward a post-pandemic operating rhythm, we expect some choppiness, but we have clear operational focus areas. Our confidence in our continued success is grounded in our record of consistent performance and the strong foundation we have built to deliver on near- and long-term objectives. Let's turn to our fiscal year 2021 results. Please turn to Slide 6. At the top line, revenue increased 5.3% for the full year to $7.9 billion. Revenue, excluding billable expenses, grew 7.1% to $5.5 billion. This organic top line growth largely reflects strong execution on sustained demand for our services, helped by higher-than-normal staff utilization in the first half of the year. As a reminder, in January, we adjusted our revenue guidance to a range of 4.8% to 6% due to 3 factors: first, programmatic shift in the presidential transition period; second, a snapback to more typical PTO usage; and third, lower expectations for billable expenses as a percentage of revenue, which landed in the low end of our 29% to 31% range. These factors played out in the fourth quarter as expected. Let me step through the market performance. Revenue growth for the full year was led by our defense and civil businesses, which grew 9% and 8%, respectively. In defense, growth slowed in the second half of the year due to the factors I noted earlier. However, underlying long-term demand for our services and solutions remain strong as evidenced by recent business wins and continued tactical sales execution. Growth in our civil business also slowed in the second half of the year. This was largely related to a pause on a large cyber program due to funding availability, which occurred in the third quarter and continued into the fourth quarter. Given the importance and criticality of this program for the client, we believe work will ramp up again in the coming quarters. Revenue from our intelligence business declined 3% for the full year. Our focused effort to reshape that portfolio continues, and we are pleased with the results so far. We expect to see our intelligence business return to growth in this fiscal year as we ramp up recent contract wins. Furthermore, the pandemic-related headwind we faced in fiscal year 2021 and inability to bill for fee will continue to abate as more and more of our employees return to work at client facilities. Lastly, revenue in global commercial, which accounted for approximately 3% of our total revenue in fiscal year 2021, declined 22% year-over-year. The drop was primarily driven by our decision to exit from parts of our Middle East business due to market dynamics and geopolitical trends and to focus strategically on our U.S.-based cyber business. Please turn to Slide 7. We are pleased with our excellent book-to-bill performance for the quarter and the full year. Book-to-bill of 1.38x was a fourth quarter record, resulting in a full year book-to-bill of 1.42x. Total backlog grew 16%, yielding our largest ever fiscal year-end backlog of $24 billion. Funded backlog grew 3% to $3.5 billion. Unfunded backlog grew 35% to $6.1 billion. And price options grew 13% to $14.4 billion. Throughout the year, the team did a great job sustaining our historical win rates for recompetes and new work even as we navigated the pandemic and a presidential transition period. As we've noted previously, we continue to augment our traditional foundation of diversified, smaller awards by pursuing larger and more complex bids that, by their very nature, cause quarter-to-quarter volatility in book-to-bill. Our record backlog speaks to ongoing robust demand for our services, the quality of our people and our closeness to clients' missions. Pivoting to headcount. As of March 31, we had 27,727 employees, up by 554 year-over-year or 2%. Excluding the impact of our contract divestiture in the third quarter, headcount would have been up 2.4%. As Horacio emphasized, we are focused on accelerating headcount growth to meet strong demand signals and execute our backlog. Moving to the bottom line. Adjusted EBITDA for fiscal year 2021 was $840 million, up 11.4% from the previous year. This increase was driven primarily by our top line growth, strong cost management and lower-than-expected billable expense mix in what was truly an anomalous year. As a result, our adjusted EBITDA margin for the full year was 10.7%. Full year net income, diluted EPS and ADEPS also grew significantly. Net income increased 26% year-over-year to $609 million. Adjusted net income was $542 million, up 21% from the previous year. Diluted earnings per share increased 28% to $4.37 from $3.41 the year prior. And adjusted diluted earnings per share increased 23% to $3.90 from $3.18 the year prior. These increases were primarily driven by strong operating performance, a lower effective tax rate and a lower share count in fiscal year 2021 due to our share repurchase program. Regarding our effective tax rate, during the fourth quarter, we recognized a tax benefit under the CARES Act that allowed tax loss carrybacks to prior tax years. As a result, we recognized approximately $77 million in remeasurement tax benefit this quarter, which we excluded from adjusted net income and adjusted diluted earnings per share. Turning to cash. We put a plan in place 3 years ago to improve cash generation. We are extremely proud of our team's performance this year, which we see as the culmination of this multiyear effort. We generated $719 million in operating cash during fiscal year 2021, representing 30% growth over the previous year. That put us above the top end of our forecasted range, and we ended the year with $991 million of cash on hand. Strong cash performance was largely driven by collections growth in excess of revenue growth. Higher cash taxes on the year were offset by relatively light disbursements related to operating in the COVID-19 environment. Capital expenditures for the year totaled $87 million, in line with our expectations as we continue to invest in infrastructure and technology to support virtual work. April was a key month for us as we went live with our new next-gen financial system. Our year-end reporting close went smoothly, and we have not encountered any material issues to date. As can be expected, we experienced a few minor issues, which were addressed promptly. We have already been reaping the benefits in the form of increased data access and improved productivity. We expect this to translate into cost savings over time, which will be reinvested to help drive future growth. I want to thank all of my colleagues who worked tirelessly to make this a seamless and successful transition. I will touch on this topic again in our outlook for fiscal year 2022. Please turn to Slide 8. In fiscal year 2021, we continued to execute on a prudent capital allocation strategy designed to deliver both near- and long-term shareholder value. We returned approximately $181 million to shareholders through quarterly dividends, which included a 19% year-over-year dividend increase in the fourth quarter. This was the eighth consecutive fiscal year of double-digit growth in our quarterly dividend. We also repurchased 4.1 million shares for $318 million during the fiscal year with 2.3 million shares repurchased for $185 million in the fourth quarter. In combination with our third quarter investment in Tracepoint, we deployed a total of $571 million in capital in fiscal year 2021. Going forward, our capital allocation priorities remain unchanged: reinvesting in our business; securing our quarterly dividend; strategic acquisitions; and share repurchases. Today, we are also announcing that our Board has approved a regular dividend of $0.37 per share payable on June 30 to stockholders of record on June 15. Dividends remain an important component of our strategy to create value for shareholders. Lastly, I want to briefly touch on our recently announced acquisition of Liberty IT Solutions. This transaction, upon close, will be our largest acquisition to date and will be immediately accretive to revenue growth, adjusted EBITDA margin and adjusted diluted earnings per share. For us, this transaction represents exactly what we look for in acquisitions: cultural, strategic and financial fit. As we look ahead, we are focused on 3 objectives: first, a smooth and successful integration; second, continued hiring to help scale up Liberty's recent wins; and third, maintaining excellence in contract delivery. As Horacio noted, we are excited about the acquisition and the long-term value it will create for our shareholders and the people of both Booz Allen and Liberty. We look forward to sharing updates in the months to come. Turning to guidance. Please move to Slide 9. Fiscal year 2021 was certainly a year of unprecedented challenges for our people and clients. This resulted in several puts and takes to our fiscal year 2021 financial results, which influence year-over-year comparisons as we move into fiscal year 2022. Most of these factors are temporary in nature. However, we expect them to constrain top line growth for the next couple of quarters before an acceleration into the back half of the fiscal year. Let me step through these factors. First, there is a natural ramp-up that needs to occur in both execution of work on recently won contracts and on recruiting and hiring. As Horacio noted, we are focused on both of those priorities. They take time to ramp up, which creates a momentum built towards the back half of the year. Second, we saw unusually high productivity in the first half of fiscal year 2021, driving up revenue growth then slowing growth in the second half as staff utilization and PTO trends normalize. This dynamic will create challenging comps in the first half of fiscal year 2022. Third, we expect PTO trends to have an ongoing impact for the next few months. Although we executed a successful onetime PTO buyback program in the fourth quarter, we know that many of our employees still have elevated balances due to the pandemic. With vaccinations increasing and some are on the way, we expect and have been encouraging our people to take well-deserved time off. Lastly, our implementation of the new financial system will result in minor timing differences in the costing of labor. We do not expect this dynamic to materially impact our full year results. However, we do forecast approximately 50 basis points of revenue growth headwinds in each of our second and third quarters, recovered through a roughly 100 basis point tailwind in the fourth quarter. Putting it all together, we expect organic top line growth in the low single-digit range in the first half of fiscal year 2022 with a significant ramp into the third and fourth quarters. From an EBITDA perspective, a return to more normal indirect spending patterns and billable expense mix post-pandemic will drive some volatility in our quarterly margin profile. Now let me take you through our fiscal year 2022 guidance. We expect total revenue to grow between 7% and 10%, which is inclusive of a partial year contribution from our announced Liberty acquisition, assuming a first quarter 2022 close. The variance between the top and bottom end of our revenue growth outlook will largely depend on the successful execution and timing of our hiring and onboarding. We expect adjusted EBITDA margin to remain in the mid-10% range. We expect adjusted diluted earnings per share to be between $4.10 and $4.30. This range reflects strong organic growth, incremental D&A expense related to our new financial system, a higher effective tax rate and $0.20 to $0.24 of anticipated accretion from our acquisition of Liberty IT. This guidance is based on 134 million to 137 million weighted average shares outstanding and a tax rate in the range of 22% to 24%. We expect operating cash flow to be between $800 million and $850 million, largely driven by our operational performance, lower cash tax payments and contributions from Liberty IT. And finally, we expect CapEx to be between $80 million and $100 million as we continue to invest in infrastructure and technology. In closing, we are extremely proud of our fiscal year 2021 performance. I want to thank our clients and the entire Booz Allen family for managing through a complex year. We have once again demonstrated our ability to effectively manage the business, invest in our people and deliver strong returns to our shareholders. We did all of this while weathering a tough macro environment, which gives us confidence in our strategy and positioning to succeed through any market condition. With that, Rubun, let's open the lines for questions.

Thanks, Lloyd. Operator, please open the lines.

[Operator Instructions] Our first question comes from Robert Spingarn with Credit Suisse.

Horacio, a question on a couple of areas of opportunity. The new administration has talked about raising the IRS budget pretty significantly. And that's a big customer for you, I think, a long-term customer. Could that present an opportunity for more work? And then I wanted to ask a similar question on cyber.

Rob, I think we are very excited about the opportunities we see in front of us across the board. On your specific question, we are definitely working with the IRS. They've been a client for 30, 40 years. And we do a lot of great work with them around their digital transformation, around fraud detection, around cyber and a number of other things. So we see upside there, for sure. But we really see upside across the entirety of the portfolio. On the demand side, you saw the book-to-bill numbers. They are stellar for the quarter and more importantly, the type of work that we're winning. If you look at our defense business, the digital transformation of the Department of Defense is accelerating. And I believe they view Booz Allen as a real partner in making that happen. In the intelligence community, we're doing some amazing work around cyber, around AI, around 5G in -- across the civil space, beyond the areas. We've talked about health. We've talked about Liberty. I'm very excited about what's going on and the possibilities for growth in the near and the medium term.

Okay. And then just a quick one for Lloyd. How should we think about wage inflation risk at this point? And if it happens on a multiyear fixed price contract, are you limited in how quickly you can pass that through?

We don't think so. Historically, let's say, past 5 years, certainly, as these higher solution, IT solution capabilities have been in demand, clients have been willing to accept higher compensated folks in the labor categories as well as with the escalations tied to that. So from a fixed price standpoint, we manage our contracts well. We have the right risk mitigation oversight in place and have not experienced any unfortunate results in executing those types of contracts.

Our next question comes from Seth Seifman with JPMorgan.

As a first question, I wonder if you could talk about the ramp-up in hiring that's coming in the first half. Should we think about that as being sort of commensurate with the kind of revenue growth that we're looking for? And then just the environment in terms of acquiring new talent in this kind of labor market that we're in now, whether things have become any tougher or easier.

Why don't I start and Lloyd might want to add as well. I'll take you back to last fall. And in the middle of the pandemic, we have a number of operating priorities, and we were operating at very high productivity levels. So while hiring is always a priority at Booz Allen, it probably wasn't top 3. We shifted that stance. It really -- in the mid-winter months, and we are now very focused on that. So I fully expect our hiring to ramp up strongly. And we'll get to the numbers we want to get to probably by the second half of the year. We -- there's some choppiness as we accelerate into it. But it's a question of timing, not a question of -- there's no structural issue. As I look further out into the fall and beyond, I've been talking to a lot of people and -- both in our industry and across industries about what they view of the market as post-pandemic. And I think everybody is thinking about how the labor market is going to change. But frankly, I think Booz Allen is somewhere out in front on those conversations. We have a very strong talent brand that was, if anything, burnished over the last year with everything that we did that we described in the prepared remarks to support our people, to have challenging conversations, to get us to the place where we are today. We're having really good discussions with some of our clients about the opportunity for more flexibility and to distribute our labor force differently in support of them, and there's more receptivity to those discussions than there was pre-pandemic. And we are imagining new ways of working that leverage our footprint differently that give people more flexibility that, I think, all of which is going to put us in an even better stead, not just for this year but beyond as we look to attract the right kind of talent to our firm.

The only point I would add is that ramping up our headcount is going to take some time. And it sort of speaks to Horacio's comment about choppiness. And we've built that into our guidance range. So if you look at the 4% to 7% organic portion of the 7% to 10%, where we will end up within that is really a timing of the headcount gain. But we're confident, our leaders are on it and we expect to do well.

Great. That's helpful. And then just a follow-up, Lloyd, with a quick numbers question. If I just look at what seems to be embedded in the P&L guidance, you take the EBITDA and you take out the interest expense and the taxes, it looks like maybe you convert about 70% to 75% of your EBITDA to operating cash flow. But it looks like you really convert more like 90%. Is the difference there just cash versus booked taxes? Or is there a significant working capital reduction that you're looking for? Or something else involving timing?

No, we don't see any differences from how we've operated the business in the past. It's really probably just a function of timing. But we expect strong conversion as we always have. And as you have seen historically, our cash generation has been really well.

Our next question comes from David Strauss with Barclays.

I guess just to put a finer point on the hiring question. What do you have embedded in the 4% to 7% organic revenue growth, Lloyd? What do you have embedded for headcount gains this year?

Yes. We -- every year, we go into it targeting mid-single digits. But as Horacio and I said last quarter, it's going to take some time to crank up to that point. So our commentary about first half buildup into sort of hitting our stride in the second half is reflective of this buildup. But we expect, as we go into every year, to improve on what we -- how we exited '21, and we're targeting mid-single digits.

Okay. And from an absolute EBITDA margin standpoint, it looks like ex Liberty, the guidance for this year embeds about 4% to 5% adjusted EBITDA growth. Do you still see this as a longer-term, mid- to high single-digit absolute EBITDA growth kind of company?

We do. We do. We've been consistently adding to our portfolio capabilities that are certainly in higher demand. Clients are rewarding us for that. And we see the profitability also improving, the execution of the work being stronger and stronger year-over-year. So we definitely see us remaining in that range going forward.

David, just to build or foot stomp what Lloyd is saying, we're guiding to a year of strong growth in FY '22 at the top line, and we are confident of our ability to continue to drive high margins and drive EBITDA dollar growth as a result.

Our next question comes from Cai von Rumohr with Cowen.

So could you give us some more details on Liberty? You're assuming $0.24 of accretion, but what are you assuming for the single point revenue number? When exactly do you expect to close it? What's the amortization? Give us some details on that, please?

Sure. Cai, as you may recall, we paid $725 million. The numbers I'm about to run through are assuming an all-cash financing. We expect to close in the first quarter of this fiscal year. We expect a partial year contribution of $300 million to $340 million annualized from Liberty. The adjusted EBITDA contribution will be somewhere between $46 million and $50 million. And the adjusted diluted EPS which you said is somewhere between $0.20 and $0.24.

Okay. So maybe turning to book-to-bill, you had a very strong book-to-bill in what traditionally is not such a hot quarter, almost 2x what you'd normally do. Could you give us some color on what the bookings outlook is like now that we're starting to fill some of the slots in the federal government? How does Q2 look? How does the June quarter and September quarter look? Normally, September is the peak, but give us some color there, if you could.

Cai, I'll start. It's Horacio. The -- as you know, we've been saying for quite a while that we're not demand constrained. And in fact, we see a very good market in front of us. Something shifted to the right from our third quarter of last year to our fourth quarter of last year, and we shared some of those views with all of you on the last earnings call. And I think the book-to-bill numbers that we're putting up are in part that dynamic and in part the fact that the team has really done a spectacular job at capturing competitive work right at the center of our strategy, the things we've all been wanting to do. That gives me optimism and confidence that we are on strategy and on trend to continue to capture opportunity as the Biden administration ramps up. The pipeline is strong. The types of work that we're going after is exciting. You might have seen the announcements on Rainmaker, for example, in the Army. I mean there's a lot of really good work that Booz Allen is bringing into our portfolio that positions us in the center of this digital transformation as a partner and a catalyst of all of our clients. So we see a lot of room to run and a lot of room to grow on the demand side.

Our next question comes from Greg Konrad with Jefferies.

Just to touch on commercial, I mean, I know it's relatively small, but you talked about kind of the shift away from the Middle East and focus on the U.S. But just in light of the Colonial Pipeline attack, what type of activity are you seeing in that business either from inquiries or just the overall pipeline?

We're excited about what we're seeing. Both in our own business and in this investment we've made in Tracepoint. We are seeing demand driven by an environment that is increasingly more challenging for our commercial clients. And they view Booz Allen as a serious player with unique capabilities to help them, especially against some of these more sophisticated types of attacks. So we're well positioned in our U.S. commercial business, centered on cybersecurity. As we said, we made some transitions out of some of our work in the Middle East. And we see growth in the year ahead.

And then just as a follow-up, just on guidance. I mean the billable expenses kind of returned to a normalized range. And should we think of those as kind of the same cadence as revenue where you kind of have a ramp in the second half?

Yes. I mean it's hard to truly forecast billable expenses. But we do expect it to start to move more to the middle of our range, which has historically been 29% to 31%. So we certainly see the momentum picking up throughout the year and expect that when we get to the second half of the year, it will be maybe pre-pandemic, slightly less than pre-pandemic levels.

Our next question comes from Matt Akers of Wells Fargo.

I was wondering if there's a way to think about kind of like a normalized or maybe like a second half kind of exit margin rate for the business? Just trying to get a feel for, once we get through some of this noise in the first half and you have Liberty IT, kind of a way to think of the ongoing profitability of the business?

Yes. I mean we did our best to reflect that in the guidance of 10.5%. We think that captures sort of the annual kind of puts and takes that we'll see as things start to return to normal. So we haven't -- I'm not going to try to give you a quarter-by-quarter sort of exits, but the 10.5%, I think, really captures our strong margins, and we're really happy about that.

Got it. Okay. And then I guess just kind of a broader question on M&A. I mean it sounds like Liberty IT really kind of hit all the things you were looking for, but is, I guess, still a little bit kind of out of character to do a deal this size for Booz. So I guess does that imply anything in terms of what the future mix of capital deployment could be? Or is this really just kind of a one-off instance where it was just a great asset that really fit well?

I guess the way I would characterize our posture towards M&A is we've said over the last year, we increasingly view our balance sheet as a strategic asset. We have a lot of strength there. We have the ability to deploy capital against strong opportunities and we're not in a rush. We have an approach. We're disciplined. And I believe it's an approach that will actually create value for our shareholders in the near and the long term. And importantly, from a strategy standpoint, I talked about the acceleration of digital transformation. I view M&A, when done right, as a strategic accelerator for us. The ability to leapfrog some of our own development and scaling of some of our own capabilities to get them there a couple of years faster, Liberty is a good example of that. We have -- we're always in the market looking for things that will let us do that. And to the extent that we find them, to the extent that they make sense strategically, financially and culturally, we will do more.

Our next question comes from Gavin Parsons of Goldman Sachs.

Horacio, when I think about your revenue growth and unique capabilities, over the last few years, our peers have scaled up, refocused their R&D, they've acquired more unique technologies and so on and so forth. So from a qualitative standpoint, do you feel like you've been able to maintain your capability gap relative to peers? And then from a quantitative standpoint, do you think you can continue to outgrow revenue by a similar magnitude as you have in the past?

The short form of the answer, Gavin, is yes to both. So I can stop there. I can give you a little more. Honestly, I am very proud of what the team has done. And even during a pandemic year, we continue to invest. We're always out in front. It's an exciting time to be at Booz Allen. We're having discussions with clients unlike discussions we ever had before about not just some of these technologies, but how they really can transform mission. And we're doing this not just at the working level, but at the very senior level in these agencies. And because we're having these discussions, because we are confident that we understand what our clients need to do, we continue to invest in the next generation of technologies, not just the current generation. So while we're scaling cloud, we're working on low-code. While we're working on cyber, we're thinking about 5G and quantum and the impact on cyber. We're already, as you know, a leader on AI. And we continue to, if anything, extend that gap. So there's no birthright here. You have to show up every day and make it happen for your clients, for your people, on the contracts for our investors. And we're very focused on that. But I am very optimistic.

Yes. It was a very clear answer, but I definitely appreciate the detail. When I think about just the impact of COVID this year on revenue and margins, obviously, last year, you had the tailwind in the first half of the year, but then the billables headwind in the second half and maybe some margin puts and takes as well. Should we think of this year as still having a margin headwind from elevated medical or so expenses? And then is there -- what is the net revenue impact of COVID this year? Is it a tailwind or a headwind?

Yes. We haven't itemized it in terms of the dollar amount. But this is what I would offer to you. Certainly, in the first half of the year, we expect unallowables to remain low. We expect a return to average. CARES Act is sunsetting, so we expect to be able to invoice for fee going forward. So there will be, over the course of the year, this sort of shift from the midst of COVID to sort of pre-COVID dynamics. And then what I would say on the revenue side, I think you've heard it in Horacio's commentary, we're not demand constrained. I mean this is all about us bringing on the talent to convert the strong backlog performance and just solid client execution. So that's our top operational priority, and we'll work through the choppiness that we spoke about this morning, but we remain very optimistic.

Your next question comes from Tobey Sommer with Truist Securities.

Can you help us reconcile the high priority that cyber holds for your customers with the contract you have that's kind of put on hold because of funding? Because it seems like in most circumstances, cyber might win out funding and something else may lose.

Tobey, I think this is -- there was an unexpected slowdown in funding towards the end of last year. And it's -- with the transition of administration, people still coming in, priorities being realigned, we believe, like you, that the direction of travel is towards fully funding those areas and prioritizing them. But it's a process. And it's a process that has its own timing, and we are very close to our clients on this. We're working with them every day. We want to make sure they get not just the amount, but the quality of the work that they need, and we will continue to do that.

Within the civil space, the President's budget request is pretty exciting. Where do you see the biggest opportunities for growth within your civil book? And is the company adequately sized? Or could we assume that in your answer, you would direct a disproportionate amount of your headcount growth in that direction?

I think we're always looking for opportunities to grow. And as you know, one of the things about our operating model that allows us to do that is the single P&L and the ability to shift resources. So we're making these decisions dynamically and almost daily. There's clearly opportunities in our health business and where health care access is a significant priority. We talked before about the IRS, about our entire citizen services portfolio is being transformed by digital technologies, and we're in the midst of that. Our work at DHS is -- has opportunity and upside, especially around cybersecurity. So I believe we're well positioned. And civil is obviously an area of interest and an area of strength for us. But I believe I could tell you a similar story about intelligence and about defense about our positioning for the coming months. We have work to do, we're on it and our teams are doing really well.

Our next question comes from Ron Epstein with Bank of America.

Defense and intel represents about 70% of the current revenues, correct? And that's down from almost 80% if you go back to kind of 2013, 2014 time frame. If we think about the...

You broke up at the beginning of the question, we're having a hard time hearing you. Do you mind starting from the top again? Sorry.

Yes. Sure. Is that better? Can you hear me better?

Yes.

Yes.

Sure. So defense and intel represents about 70% of the current revenues. And that's down from maybe 80% if you go back, say, 6, 7 years ago. What do you see that -- where do you see the split between defense versus civil 5 to 10 years from now, particularly in light of some of the M&A you've done already with Liberty and some of the emerging technologies?

We don't honestly think about the business that way. We are going -- we have a robust presence across the entirety of the federal government. We pick and choose and curate the agencies and the places that we serve, to the places where we believe what we do will add the most value to clients. And then we dynamically manage the business as the priorities emerge and change over time. So I don't know that I could tell you exactly where our business is going to be 5 or 10 years from now on a market breakdown. What I can tell you is that our ambition, our expectation is that as the digital transformation accelerates, Booz Allen will accelerate with it. We'll stay out in front and across all of the clients that are really in the thick of it, be it defense, intelligence and civil, Booz Allen will be a meaningful scale presence and an innovator.

And then maybe one follow on if I may. Can you discuss the competitive dynamics right now with the defense budget flattening, right? I mean it seems like the defense budget might not necessarily go down, but it seems like we're kind of maybe in an inflationary growth environment for a while.

Yes. No. I think you heard us say that, that was, in some ways, our anticipation for the next few years. And I think what we tried to do -- I know what we've tried to do is to really be positioned as a digital innovator, as a digital integrator around all of these technologies that are going to be in high demand. Even in any agency, a flattening budget doesn't mean that everything grows at the same rate. Some things are going to get prioritized and continue to grow. I think we're well positioned against those. Some areas are probably not going to grow as much or may even decline in order to fund the priorities. And I think our job is to, a, stay very close to our clients and understand that as quickly as they do. And I believe we're doing a good job of that. And b, to make sure that our operating model and the flexibility in our operating model gives us an edge as we migrate from place to place in order to capture the growth areas. And so that's why when you sort of sum it all up, our strong organic growth is always above market, and we have an expectation to continue to grow well above market on the back of all of those things.

Thank you. And that concludes our Q&A session. I would now like to turn the call back over to Horacio Rozanski for any further remarks.

Thank you. Thank you all for your questions this morning. I hope this discussion put FY '21 results in context and it added to your perspective about FY '22 and beyond. Before I close, I would like to acknowledge that May is Military Appreciation Month. And at Booz Allen, our partnership with our military clients is a source of deep pride and a big part of our purpose. So on behalf of the entire leadership team of our firm, I want to thank all who currently serve and all who have served in the armed forces, and that includes thousands of our colleagues. Your service and your sacrifice are deeply appreciated by all of us and by a grateful nation. And with that, have a great day, everyone.

Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.