The Carlyle Group Inc. (CG) Q3 2019 Earnings Report, Transcript and Summary

Ladies and gentlemen, good afternoon, and welcome to the ManTech Third Quarter Fiscal Year 2019 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Stephen Vather, Vice President, Corporate Development and Investor Relations.

Welcome, everyone. Thanks for participating in ManTech’s third quarter call. On today’s call, we have Kevin Phillips, President and CEO; Judy Bjornaas, Executive Vice President and CFO; as well as Matt Tait and Rick Wagner, our two Group Presidents. During this call, we will make statements that do not address historical facts, and thus are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to factors that could cause actual results to differ materially from the anticipated results. For a full discussion of these factors and other risks and uncertainties, please refer to the section entitled Risk Factors in our latest Form 10-K and our other SEC filings. We undertake no obligation to update any of the forward-looking statements made on this call. With that, let me hand the call over to Kevin.

Good afternoon, everyone. I’m excited to share with you that ManTech delivered another exceptional quarter. Our financial results exhibited accelerating organic revenue and direct labor growth as well as improved profitability and robust cash flow. In Q3, we also maintained our business development momentum through a series of new contract awards as well as retention of recompetes. These results continue to demonstrate ManTech’s differentiated market position driven by our dedicated and talented employees. Let me briefly provide an update on the current budget environment. We are operating under a continuing resolution through November 21 with the potential of a CR to extend as Congress negotiates the finer details of agency-level appropriation. Despite operating under a CR, the enacted two-year budget deal for FY 2020 and 2021 provides our customers with visibility on their priorities and is allowing them to focus solely on their mission. ManTech remains well aligned with customer spending priorities, particularly in cyber, IT and systems modernization, analytics and security and mission operations support. Our strategic alignment coupled with our differentiated and highly sought-after innovative solutions drove $1.3 billion in contract awards in the quarter, which represents a book-to-bill of 2.2 times. Contract awards drove total backlog to increase 14% year-over-year to a record $9.5 billion and funded backlog grew 17% to $1.5 billion. Matt and Rick will provide additional details on the contract awards later in the call. Here are a few quick highlights on our bookings. First, approximately 70% of the awards in the quarter represent new work for ManTech. Second, 80% of the awards were for mission in enterprise IT, security and mission operation support and cyber. And finally, nearly half of the awards came from the defense customers. All that said, we are honored to continue working at the heart of our customer’s core missions as we have for over 50 years. Our customers are continuing their efforts towards procuring with speed and for innovation. Within our industry, the need for talent remains our key constraint. Our $20 billion-plus opportunity pipeline demonstrates both ManTech’s strong industry position and a healthy market. I’m pleased to see our proposals outstanding figure grow to $5 billion even after robust contract awards quarter. As we anticipated, proposal submissions in Q3 accelerated from the first half of the year. We remain on track to have a similar proposal submission volume as we did last year. In the quarter, we executed on our stated plan to invest in growth markets through strategic acquisitions. We acquired H2M Group, a leading provider of geospatial and inventory intelligence analysis services to NGA. There is and will continue to be a strong need for data assurance, analytics and automation to support intelligence analyst within the national security community. I’m pleased with the addition and look forward to the team developing new solutions to address the challenges by analysts across the community. Before I turn the call over to Judy, I want to touch on an important issue for our customers in ManTech. Security is integral to the work we do as a company and is a key operational element for our customers. Over the last year, our customers have developed new policies on managing cyber and supply chain risks and are beginning their rollout of these initiatives across the government and the industrial base. We are committed to being a trusted partner for our customers and a partner to those who are looking to bring the best talent and technology to bear for U.S. national interests. Now Judy will discuss the details and specifics of our financial performance and outlook. Judy?

Thanks, Kevin. The results in the quarter surpassed our expectations, and now we are pleased with the team’s continued diligence. Q3 revenue stood at $579 million, representing an accelerating year-over-year growth of 16%. Approximately two-thirds of the growth in the quarter was organic. Direct labor was the integral component of our top line growth. For the quarter, prime contracts represented 91% of our revenue, and contract mix was approximately 69% cost plus, 21% fixed price and 10% time and materials. Operating income for the quarter of $38.4 million grew 31% from the third quarter of 2018. Quarterly operating margin was 6.6%, a 70 basis point improvement year-over-year. Margins in the quarter were primarily driven by strong fixed-price contract performance, excellent award fees and efficient management of the business as well as some onetime items. That said, not all of these factors are expected to impact fourth quarter results in the same manner or degree. Net income was $27.9 million, and diluted earnings per share were $0.69 for the quarter, up 27% and 25% year-over-year, respectively. These increases were driven by our revenue growth and improved margins. Now looking to the balance sheet and cash flow statements, our balance sheet at quarter-end showed $33 million in cash and $25 million of debt. During the quarter, we generated an exceptional $110 million of cash from operations or 3.9 times net income. My thanks to the team and their dedicated efforts to drive DSO to a record 57 days in the quarter, which represents a 10-day improvement year-over-year. Lastly, the Board has authorized us to maintain our current quarterly dividend of $0.27 per share to be paid in December. Now looking to our revised 2019 outlook. Compared to our previously communicated guidance, we are narrowing the range on revenue, while raising and tightening the range for net income and diluted earnings per share. We expect revenue to range between $2.19 billion and $2.21 billion, which represents 12% or 13% total growth compared to 2018. The midpoint of our revenue guidance indicates an 8% organic growth rate year-over-year. We have excellent visibility for the balance of the year. The level of material procurements and ramp up on recent contract awards are the key drivers in the variability of our revenue guidance. While it is premature to offer specific guidance on 2020 top line, our recent contract awards puts us on a good path for sustained growth. Despite our strong performance in retaining recompetes and winning new business, we are being cautiously optimistic given the competitive nature of the market and increased level of recompetes compared to recent years and the potential extended duration of the CR. Now moving to margins. Our revised guidance and price and operating margin of 6.1% for 2019, a 30 basis point improvement year-over-year. Operating margins for the balance of the year reflect continued bid and proposal investments, increase program execution investments, particularly for new programs and an increase in seasonal trends. We are executing well ahead of plan and achieving this new guidance would accomplish not only our targeted 2019 margin improvement of 10 basis points, but also accelerates the delivery of our 2020 goals of 15 to 25 basis points. As a result, we expect 2020 targeted margin improvement to be more gradual given the constraints of our cost-plus contract mix. We will be providing more posts on 2020 guidance on our Q4 call. At the bottom line, we are narrowing and increasing our net income guidance range to be between $96.9 million and $97.7 million and diluted earnings per share of $2.41 to $2.43. Built into our guidance are full year effective tax rate of 25.8% and a fully diluted share count of 40.3 million shares. Now to cash flow items. Our expectations for the capital expenditures and depreciation and amortization for 2019 remain unchanged at 3% and 2.5% of revenue, respectively. Based on the strong cash collection performance year-to-date, we are increasing our cash flow from operations estimate to be between 1.8 times and 2.1 times net income for the full year. Now Matt will speak to our Defense and Federal Civilian businesses.

Thanks, Judy. I am pleased to report MSS had an excellent quarter. We won a number of new contract awards across our diverse customer base. Within our defense business, we won three different five-year programs. First, a $322 million effort with the Marine Corps Intelligence Activity to provide mission IT, cyber operations and intelligence analysis support. Second, a $132 million effort with Army CECOM to provide software engineering and sustainment on the Army’s Distributed Common Ground System. And lastly, we retained a recompete totaling $82 million to provide the Naval Air Systems Command with research and development test and evaluation services to help modernize systems and sensors on UAS platforms. These contract awards demonstrate that ManTech is a trusted partner supporting the core missions of our customers. In the quarter, we also enjoyed success within our federal health business through several new contract awards. We won a five-year, $83 million effort to provide scientific technical services and data analytics in support of the Navy’s Bureau of Medicine and Surgery force health protection mission. Additionally, we secured a $59 million, full year effort to provide IT modernization, cyber and cloud migration services to the Defense Health Agency. These recent contract awards exemplify how ManTech’s differentiated capabilities in analytics, cyber and IT modernization are being leveraged across the entire federal market. Furthermore, the recent federal health awards underscore our commitment for the national security mission, which includes supporting the health and well-being of our active war fighters and veterans. Rick, over to you.

Thanks, Matt. I’m pleased to report that MCIS had a solid quarter as well. Strong demand across our intelligence community customers continue to result in sole source expansions for ManTech’s security and mission operation support and cyber solutions. In the quarter, we maintained our recompetes retention figure through another win on a key cyber program with an intelligence community customer. Not included in our bookings, but certainly worth noting, we won a position on a $950 million multi-award IDIQ on the Secretary of the Air Force Concepts, Development and Management Analytical and Technical Services contract. On this contract, we will provide services and solutions in the areas of mission IT, advanced analytics as well as applied and emerging technologies to help solve complex national security challenges. Earlier, Kevin mentioned our recent acquisition of the H2M Group. I am pleased to welcome nearly 200 highly skilled employees who joined the ManTech family in August. The integration is complete, and we are leveraging our combined customer relationships and capabilities, to bring new solutions to the intelligence analytics market. Moving to talent and program execution. Recruiting and retaining highly skilled talent remains a core focus for us across the company. This focus goes hand-in-hand with providing our customers with the very best for ManTech and ramping our recent awards quickly to deliver our innovative solutions. I am particularly focused on accelerating the growth of our cyber talent base to meet consistent customer demand for our capabilities in this arena. Our key efforts in expanding cyber talent is centered on training existing employees as well as building the next generation of cyber warriors to a rigorous internship program. I am pleased to report that our differentiated work in supporting national security and our reputation for investing in employees training and development has proven successful in attracting new talents for the company. In summary, ManTech’s competitive market position is a clear result of prioritizing customers and their critical mission, delivering innovative and a reliable solution and investing in the development of our employees. We look forward to continue to execute some of our growth-focused strategy. And with that we are ready to take your questions.

Thank you. [Operator Instructions] Our first question comes from Gautam Khanna from Cowen and Company. Your line is open.

Yes. Thanks, guys.

Hey.

Hi. Judy, I was wondering if you could quantify the one, the net one-timers that were favorable in the quarter, just so we don’t overestimate as we move forward.

Yes, I think, some of its onetime items and more of its just the timing of regular items like the award fee, the award fee threw up some EAC adjustments. So I would say probably less than a half of the profit fee in the quarter is from onetime items and the rest of it’s just normal items that all happened to collide in the same quarter.

Okay, that’s helpful. And then what are your assumptions for H2M in terms of revenue contribution this year in the revised guidance?

Very little. They’re not a big impact or swing in the 2019 performance.

Okay. Have you given any metrics on the annual revenue run rate of the acquisition?

Yes.

Okay. In terms of the $5 billion of outstanding bids, could you characterize sort of what the adjudication pipeline looks like with respect to Q4 and maybe Q1? Are we expecting a light Q4 as seasonally the case? Any color there would be helpful.

Yes. Gautam, as I think I mentioned, we have a strong amount of proposals submitted this year and it’s a little bit back ended in the second half of the year. So proposal volume for this quarter as well as Q4 sending it to the federal government is really heavy. The timeline of when they and how they adjudicate that between Q4 and Q1 is hard for us to predict, but they’re all going to be pushing between Q4 and Q1. So I would suggest that it’s –it might be not going to thrive in the major impact in terms of growth outlook in 2020 based on the fact that that much volume is happening between Q3 and Q4.

Okay. And last one for me, you mentioned the recompetes pickup a bit next year. What is sort of the percentage of sales that are up for rebid? And if you could call out any kind of lumpier ones, significant ones that may carry more binary risk due to their concentration? Thanks.

So there’s no major recompetes. And I think we’ve said in the past that looks to be 20% to 25% of our work up for recompete, I think that’s moderating some as we’re starting to see even some continued extensions. But we’ll have a better view on the true 2020 impact when we give guidance in February.

Thank you very much guys.

Thank you.

Thank you.

Thank you. Our next question comes from Edward Caso of Wells Fargo. Your line is open.

Hi, this is Justin Donati on for Ed Caso. Kind of piggybacking on that, can you talk about your large deal pipeline on the new work side? Any large contracts submitted that could be announced here in the near-term?

It’s Kevin, again. Look, the flow for puzzles, small and large is heavy. And we are able to compete for larger bids more consistently now and we’re very excited about that. So in the routine course we do have large ones we’re going after and we’ll see how successful we are in the timeline, again against adjudications. But the $5 billion of proposals outstanding reflects a strong set of opportunities to include some of the larger ones that are out there. So I can’t give you timing, but I would say it’s a good healthy mix of scale within our pipeline as well as our submit.

Appreciate that. And then in your comments you mentioned that, the set up is looking pretty strong into next year. But given the really strong growth here in 2019, is there any risk of pulling forward some revenue?

Not sure what you mean by that.

Just some programs that started earlier, anything like that?

No. This is Kevin. There’s nothing that pulled forward early. Everything is about as we projected. When we actually entered the year, we’re on path for that. So nothing is moving more quickly than expected in our current awards ramp up or pipeline, frankly.

All right. Thank you.

Yes, thank you.

Thank you. [Operator Instructions] Our next question comes from Tobey Sommer of SunTrust. Your line is open.

Thanks. Kevin, you made some comments about the CR. I was curious, I think in your bids, do you have any significant bids that would represent new starts and potentially be impacted by a CR even if the cadence of awards and the activity of customers is sufficient to drive continued growth?

The CR itself, if we were to look at this year and our performance against frankly uncertainty going into this year, it’s been pretty strong. I bet the underlying FY 2020 and 2021 budget deal is important to note and how that CR process clear through will be important. But I do think that the majority of the work that we’re going after we’re bidding on will likely continue to be awarded. Of course, there are new starts, but nothing that I would suggest would impact significantly the long-term outlook of the company. And as you may recall, once these CRs are cleared through, they still have that annual obligation to clear through and they have to work that in year, so that may impact the timing of awards more than it does the likelihood of it occurring.

Thank you.

Yes. Can I ask another question?

Sure.

Sorry, wasn’t sure if I’d been moved on. Kevin, how would you describe the company’s positioning and business activity around cloud and kind of digital transformation of your customers?

Sure. So, we are a mission-focused company and we help our customers migrate to future platforms that help them with their critical aspects. We’re frankly excited that our customers are moving to environments and also that commercial companies are investing in at the right level security cloud environments that allow our customers to use multiple platforms. And cloud environments, it’s going to help a lot from a fee-based standpoint, from an AI standpoint. So we’re frankly excited. It’s a normal part of our customers’ migration. I’m going to let Matt and Rick provide any comment on that.

Yes. I’d say that as we, from a capabilities perspective, as we go into cyberspace, mission IT and analytics, how that plays into that adult part of where we’re heading as a company, so we liked the overall trends that we’re staying within the market in regards to your question.

I guess, I would add that that our expertise in fiber uniquely positions us to work very well in that area.

Is it – would you say if you were to kind of parse out the elements of contracts and so forth, is semantically, is cloud and digital transformation a meaningful part of the business now? And if not, do you expect it to be in some sort of medium-term?

We look at cyber enterprise IT, secured enterprise IT and mission IT. All of those currently have or will have some cloud migration and cloud support activity in it just based on national policy directives. So we do expect continued movement into that environment long-term.

If I could ask a modeling question, Judy, if about 8% of the annual guidance for revenue is organic, that would make about four points or so if my math is right, inorganic. What sort of carryover contribution from acquisitions should we be thinking about for 2020? You don’t need a dollar figure, but even some rough range would be helpful.

It’s very small because the KGS acquisition was completed right at the start of Q2. And then H2M as I said is not a meaningful contributor. In and of itself, obviously, we bought it for a reason and we expect to expand within that customer set. And on the vehicles we got with that, but it’s not a meaningful inorganic component from 2019 to 2020.

Thank you. Our next question comes from Brian Kinstlinger of Alliance Global Partners. Your line is open.

Hi, great. Thanks so much for taking my questions. You added more than $900 million in new awards during the quarter. I’m curious, if you expect the majority of these programs are going to ramp in the fourth quarter? Have they already began? Or will first half 2020 be the stronger ramp period for you guys?

I think it will be a mix. Most of them are starting off slowly. And so we’re working through that right now. Customers will – they probably won’t have a real good sense of it for – until probably when we do the next quarterly call.

Okay. Then you mentioned in 2019, you’re expecting that you’ll have submitted the same amount of proposals than in 2018, if I said that right. 2019 and 2018 will be similar. You made at least one sizable acquisition obviously, and you’re going about 8% organically. I’m curious in order to sustain growth, should we expect submissions are going to increase in 2020, and you’ll be making some significant investments there?

Our level of proposal pipeline is just healthy. It remains healthy, and the expected amount of business that we are going submit next year. It’s very dependent on the customers moving forward and executing on the timeline that they’ve stated or estimates or in and around that. So, broadly, we see a strong set of opportunities next year that we’re going to be competing on and we think that’ll help us situate ourselves for 2021 for continued growth. How much more sizable it is against this year or last year is very much dependent on the timeline, federal government actually executes for these RFP.

Great. I guess related to that last question I have, I’m curious the trends in win rates in new business opportunities have showed than recompete in 2019 versus 2018, 2017. I’m curious if there has been any material change as I’m trying to understand based on how much you’re proposing, how to think about both going forward.

So generally, we’ve been very much focused on, and I think we’ve mentioned the last few years, creating capabilities, bringing in more strong technical talent to be able to answer innovation for the customer and provide solutions towards and using future technologies. And that has frankly, paid off, and we’ve seen increased overall win rates. So that just ups the game in the environment, and I can’t guarantee that, that win rate will sustain itself, but we think we’ve been doing fairly well and that the investments have paid off. So we’re fairly pleased with the outcome so far this year.

Great. Thank you.

You’re welcome

Our next question comes from Joe DeNardi of Stifel. Your line is open.

Hey, guys. Thanks, this is Jon on for Joe. Kevin, in your prepared remarks, you talked about the new cyber security effort that’s been initiated by the Pentagon. Can you kind of elaborate on that a little bit more? And is this an opportunity for ManTech?

Well, our industry needs to support the federal government’s activities to protect the supply chain and to make sure there are cyber security infrastructure, support protection of critical data and systems. Because we’re at end the day, an extension of the federal government on behalf of them on that responsibility. So at a minimum, we say it’s stable state for the future, if you want to do business for the government. And we’re a national security company, and we’ll be dedicated to do that. On long term, we’ll see what that does favorably for contract award. It’s very much dependent on how the federal government works to execute that. Right now, it is a governance-driven activity and we consider as something we have to meet in order do the types of work we want to do for the customers that matters most.

Thanks, Kind of pivoting over to the labor market. Can you kind of talk about the trends you’re seeing in the marketplace when it comes to recruitment and retention? And are you where you want to be in terms of being the destination for the technologists who can help you with the cyber and the enterprise IT? If not, how are you going to get there?

This is Rick. So obviously, the labor market is still extremely competitive for highly skilled and highly skilled people. We have put lot of investments into equipment engines, and it’s paying off. We’re having record recruiting this year. You can see it in our D&L, which is driving our revenue growth. We continue to improve our training programs. We’re growing people from within. I’m very pleased on that side, and we continue to work on our retention and improve those right as well. Very focused on this

Okay. Thanks, guys.

Even Judy can spell flat now. We’re in a good shape.

Our next question comes from Matt Sharpe of Morgan Stanley. Your line is open.

Good afternoon and thanks for taking my questions. I just wanted to talk a little bit about cash here specifically, the DSO dynamic at hand. When we look at the last several quarters, obviously, you guys have done a nice job of driving that down. I think this quarter, it was 55 and last is, call it, mid-60s. Traditionally, in the company, I think it’s been high 60s, even 70s. Is there any opportunity there to keep it at this sort of subdued levels and support cash flow? Or maybe you could just peel back the layers and just help us understand what dynamic has been driving it off late?

Yes. I think in general, we’ve been very focused on it. I think we’ve put some new processes in place with our finance team on that and the customers are getting invoices approved faster, getting things built faster, and then we – historically, we see kind of a push on the government side in Q3 to make payments before the end of the government fiscal year. So we definitely benefited from that this quarter, so I’m not counting on it, staying at this level. But it’s going to be a goal, but I think probably low to mid-60s we’ve been the last few quarters is probably our realistic long-term target right now.

Got it. And then maybe just one question on competition. Obviously, we’re a few years inherit to an up cycle, and the budget authority and analysts are starting to – at least the budget is already starting to flatten out here a bit. Has that dynamic started to change any of your sort of your competitive or your peers’ competitive dynamics, you’ve seen more aggressive environment at this point. It seems to me there has been a bit of an uptick in protest of late, not necessarily from you guys, but the industry as a whole. So I wanted to just get a sense of what you guys are seeing out there right now.

So I think – this is Matt. I think that from a protest perspective, we are seeing really the normal level of activity, that really just hasn’t changed in this environment. I think overall, from – when you talk about those budgets and other things, our strategy is focused in the areas where the government is putting their money and in growth areas. So we think that our strategy is well aligned to where the government is actually putting their dollars. And then – so we feel like we’re well positioned for the future as we look forward.

Got it. Thanks.

Thank you.

Valerie, it appears that we have no further questions at this time. As usual, members of our senior team will be available for any follow-up questions. Thank you all for your participation on today’s call and your interest in ManTech.

Ladies and gentlemen, this concludes today’s conference. Thank you for participating. Have a wonderful evening. You may now disconnect.