KBR, Inc. (KBR) Q3 2020 Earnings Report, Transcript and Summary

Good day, and welcome to KBR Third Quarter 2020 Earnings Conference Call. This call is being recorded. As a reminder, your lines will be in a listen-only mode for the duration of the call. There will be a question-and-answer session immediately following prepared remarks. You will receive instructions at that time. For opening remarks and the introductions, I'd now like to turn the conference over to Alison Vasquez. Please go ahead.

Thank you. Good morning and thank you for attending KBR's third quarter 2020 earnings call. Joining us today are Stuart Bradie, President and Chief Executive Officer; and Mark Sopp, Executive Vice President and Chief Financial Officer. Stuart and Mark will provide highlights from the quarter, a market update and present our updated guidance. After these remarks, we will open the call for questions. Today's earnings presentation is available on the Investors section of our website at kbr.com. I would like to remind the audience that this discussion may include forward-looking statements reflecting KBR's views about future events and their potential impact on performance as outlined on slide 2. These matters involve risks and uncertainties that could impact operations and financial results and cause our actual results to differ significantly from our forward-looking statements. These risks are discussed in our most recent Form 10-K available on our website. I will now turn the call over to Stuart.

Thank you, Alison for another perfect lead-in. And thank you all for joining us this morning. I would like to start on slide 4. You have seen our sustainability platform before so nothing new here. This has now been rolled out globally under our expanded Zero Harm Courage to Care branding, and I'm very pleased to report that the take-up across the organization has been way above expectation huge enthusiasm. At KBR, we kick-off every meeting with a Zero Harm moment that focuses in on one of the 10 pillars. And this really allows our people right across the organization to promote and educate others on what they are particularly passionate about or what is directly relevant to them and their business today. So from an ESG perspective, this has really facilitated a cultural shift maturing KBR towards a far more aware responsible and sustainable company which takes us nicely on to slide 5, really covering mental health and fitness. I mean this is a really important topic today as I'm sure you're all aware, particularly with COVID-19 and the associated potential isolation, I guess the different pressures this creates for some perhaps working from home, with home schooling. People are experiencing some burn-out et cetera, which of course, can increase the general anxiety and of course stress levels. So at KBR we formed a global mental health and well-being task force. This is led by Jenni Myles, our Chief People Officer to ensure our people are supported in these uncertain times. As you can see our strategy focuses on creating a positive culture and equipping our people with the knowledge, and of course, the awareness and the resources to ensure that together, we're all focused on both mental and physical fitness. Personally, I really like thinking about mental fitness similar in a way we think about physical fitness. There are times when we all feel fitter and times when we all feel less fit. And I think this approach really destigmatizes mental health and that we're all on the curve and our objective is to improve mental fitness much like we typically want to improve our physical fitness. We're also looking at KBR because we have some really strong in-house capability. And a couple of weeks ago our people organized the global town hall with experts from our POTFF program to talk about the work they do to support mental health and fitness for the U.S. special forces. And they shared practical tips and advice, of course in ways each of us can also maintain a healthy balance. And it was really rewarding to see the level of engagement across the globe for our leading health and fitness experts to add value internally as well as the great work we do externally. On to slide 6. We're going to start with some third quarter key takeaways. KBR continues to prove resilient in these volatile and difficult times. Our strategy of moving upmarket into higher-end offerings is really paying off. The growth and momentum in our space, human health performance, technology, science and cyber, and high-end technical defense engineering businesses is clearly evident in the quarter. Which also aligns well of course with the introduction of Centauri to the KBR family and I'd like to formally welcome our new colleagues as we closed that deal on the 1st of October. Our people do an absolutely amazing job and they truly deliver operational and execution excellence. Their commitment to the wealth mission is unwavering. And from a numbers perspective this I think is reflected in the margins. And without exception this quarter all segments met or exceeded EBITDA margin targets a terrific result. Earnings and cash were once again strong. We have great momentum across the business and the robust book-to-bill, particularly in GS and TS will help ensure this momentum and our resilience continues. Our year-to-date performance combined with the closing of Centauri on the 1 of October allows us to raise EPS guidance. And once again, our teams across the world knocked out of the park on cash, so we'll also be increasing our cash flow guidance. More on this later from Mark. Coming out of the gate in Q4, post funding Centauri, our leverage is kind of at the bottom of our range. And thus our balance sheet strength combined with our attractive risk profile and a solid book of business of course gives us deployable optionality. Now on to slide 7. This is our strategic model. It's the same one, we presented at our Investor Day in May 2019. It seems a long, long time ago, now especially with all this happened this year. So we felt it might be useful just to refresh people's memories. In short, our people are at the center of all we do and who we are. The quality of talent and the culture of collaboration, team ethos and mission focus is very powerful and hugely uplifting. Our people do things that matter and they care. Our core business remains robust as you've seen and resilient and we have attractive long-term contracts and strong domain expertise in solid areas of the market that really help that this will ensure that this will continue. Our – growth factors on strategic themes remain intact. I think this is important our strategic discipline is essential in volatile times. When we presented the Centauri acquisition, the strategic fit and alignment to defense modernization and space superiority should have been clear. We continue to move upmarket, and our future focus on attractive and well-funded end markets. I will not read all the bullets, but the takeaway here is that our strategy remains valid and we are executing that strategy. As you can see from the wheel, the balance across our areas of focus is absolutely terrific, giving access to multiple funding streams and customers across the globe. And our customer base today is around 80% government and 20% commercial. The risk profile across our business is consistent and it really delivers more predictable earnings and of course excellent cash conversion as we have demonstrated. We are well positioned and continue to secure work in attractive end markets that support continued growth. So, let's now have a look at the market drivers and our key end markets. So on to slide 8. So we'll start off with space and mission solutions. The growth in this segment year-on-year has absolutely been terrific. We've seen attractive on-contract growth as existing programs performed well across both NASA and DoD. As you can see on the right, we continue to win contracts to perform high-end IT and data analytics solutions. Space and mission solutions is about $1 billion revenue business and thus having a backlog of $2.3 billion sets us up well for the next few years. From a market outlook perspective, much like we saw in the cyber domain, we continue to see greater collaboration across space. Our position within NASA and our presence via Centauri and military space and intelligence aligns well. Our human health and performance contracts for NASA and the special forces fits within this business, and this we believe is also a strategic growth factor for KBR going forward. On to slide 9, defense systems engineering. Again, double-digit growth year-on-year, a brilliant book-to-bill in the quarter, and all in really high-end technical areas. You can see on the right a few highlights, R&D on next-gen electronics, systems engineering for unmanned naval warfare, and R&D for missile systems. This is high-end work for emerging defense modernization needs. As we've explained before, this is a business that thrives on IDIQ contracts via customer intimacy. Lots of smaller scale, but limited competition pursuits and projects. Very few protests as a consequence, the annual revenue is again about $1 billion and the backlog of $2.1 billion again sets us up well going forward. From an outlook perspective, the near peer threats are not going away and are arguably increasing. We are lined up well opposite national security priorities and this is enhanced of course with the introduction of Centauri. To be clear, the numbers and the contract wins et cetera, on this slide are only for our existing defense system engineering business and do not yet reflect Centauri. On to slide 10, logistics. This I think is our least well understood business area within KBR. The investment community has a tendency to relate what we do here holistically to what KBR was doing back many years ago in the Iraq War days. The shape of this business is very, very different today. The focus is very much on recurring readiness and sustainment activities funded by O&M budgets. Through this, we have seen a major reduction of business mix funded by OCO. Our book-to-bill in the quarter of 1.4 was very, very pleasing and supports continued momentum in the readiness and sustainment areas. And our recent UAE BOSS win is not yet reflected in the backlog. You can see this on the right-hand side, modernizing and upgrading automated fuel handling systems, increasing the volume as we transition on to NORTHCOM, both of these are all about readiness training et cetera. The long-term contracts in Saudi, Europe and Djibouti are focused on smart digitally enabled sustaining activities. The outlook for KBR is far more predictable as we have transitioned to more O&M funding streams. The complexity has increased, which fits our capabilities with the changing supply chain environment and the demand for more efficiency and predictability via more digitalization. Troop levels have and could likely continue to reduce in the Middle East, which impacts of course our level of effort. But our proportional exposure to this has reduced significantly as highlighted earlier. Also the margins associated with this business are in line with our overall outlook and not at the low end as you may presume. The revenue of this business for KBR is just over $1 billion. And again the backlog and strong bookings sets us up very well for the future. On to slide 11. Our international GS business is a clear differentiator and is just under $1 billion in revenue. As you're aware, the business is underpinned by sizable very long-term, high-performing PFI contracts, which is reflected in the backlog. A very strong predictable and resilient business, which I think is particularly important as the U.K. manages through not only the challenges of COVID, but also Brexit. In Australia, defense spending has actually been increased in recent times as the Australian government look to advance economic recovery, while modernizing their defense forces. In Australia, our business is at the forefront of software development and implementation from mission planning, virtual and augmented reality, sustainment, systems engineering and naval training. As you can see, the growth year-on-year in Australia has been very impressive. And recent wins on the right set us up nicely as we move into next year. Now on to slide 12. With our announced exit from lump sum EPC including direct hire construction and our exit from low-margin commoditized services, we will concentrate today on the realigned technology solutions. As we stated previously, we forecast this business to be circa $1 billion in revenue in 2021, with an overall margin in the mid-teens and we reaffirm that again today. As you'll see in a moment when Mark takes over, the heritage IP technology area of this segment continues to deliver amazingly strong margins in the quarter and had a book-to-bill of 1.3. With this positive booking momentum, margin performance and a combined backlog of $1.9 billion, we feel increasingly positive about our strategic shift and realignment to more higher-end technology-enabled services. We're also well advanced in removing significant overhead costs. From a market perspective, the drive to lower emissions, product diversification, energy efficiency and more sustainable technologies and solutions is clear. The demand for our technologies across ammonia for food productions, olefins for non-single-use plastics and in refining for product diversification and more green solutions to meet tighter environmental standards continues. A strategic shift into IP-enabled maintenance is also gaining traction and we continue to see increasing activity across our advisory portfolio, particularly in energy transition. And we've highlighted some recent successes on the right to demonstrate this. On to slide 13. In summary, these market dynamics culminate in a very, very healthy pipeline for KBR, with significant pursuits distributed across our portfolio. As we've mentioned previously, 2020 and 2021 are low recompete years, enabling increased focus on winning new business and the team is absolutely laser-focused on this objective. We have almost $20 billion in pursuits that will be awarded over the next six to 12 months. And this is sort of three times annual revenue run rate, a very healthy metric indeed. And this excludes Centauri, which we'll add in the fourth quarter. So in short, it's all good. So, I will now hand over to Mark, who will walk you through the numbers in a little bit more detail. Mark?

Terrific and thank you, Stuart. I'll pick it up on slide 15, which lays out our key financial performance metrics for the quarter. So overall, as Stuart summarized, the business is tracking on or ahead of plan on each of these key metrics. Our people, our strategy and our balanced portfolio of businesses have collectively shown resiliency and predictability in the current environment, enabling scale in the business, healthy profitability, strong cash flow and continued bookings which support growth targets going forward. Revenues have grown remarkably well in our higher-end solutions and services in our Government business that Stuart just summarized. And this is offset by some reduction in contingency support, driven by changes in military OPTEMPO in select areas. This shifting mix to more upmarket work is good for our business, as these areas are more consistently prioritized and funded and hence less volatile. On exiting commoditized energy, we are seeing measured reductions in revenues as expected primarily from the derisking changes we made in our Energy business earlier this year. This is also good for our business as we shift to a greater mix of higher-margin technology-led solutions. As you see profitability is consistent year-over-year at 9% with annualized EBITDA running at about $500 million. This scale of profit in low-risk well-demonstrated business areas certainly boded well in our recent credit offering and credit upgrades. Incidentally this 9% is consistent with the 2021 outlook, we recently gave with the Centauri acquisition announcement back in August. Adjusted earnings per share was $0.44 for Q3 and where most non-operating items were pretty much consistent with expectations. Cash flow was really good again in Q3 at $90 million and representing continued strong income to cash flow conversion. Adjusted year-to-date op cash flow is circa $270 million, which now exceeds the total result we had last year and is the basis for the bump up in guidance that I'll cover here in a moment. I'll add all segments are contributing nicely to strong cash flow processes, and of course the results you see. We complemented all of this with good bookings across the business both in quantum and in quality for the quarter with a book-to-bill exceeding 1.0 rounding out nice balance across project execution, profits, cash flow and winning new business for the future. On to slide 16 for segment results. Government was up slightly over last year, as Stuart said with double-digit growth in both space and defense systems engineering with the offset again being the contingency component of logistics. The main driver for the contingency logistics offset has been lower levels of troops in the Middle East and delay in transition to our role in Afghanistan under LOGCAP V due primarily to the COVID situation. However, the northern command component of the LOGCAP V win is ramping up nicely. Furthermore, most of our work in NORTHCOM is funded out of the O&M accounts of the DoD just like Stuart indicated earlier and this is important as these activities are part of the baseline defense budget and thus more stable and predictable. Moving over to technology. Tech had a great quarter of new bookings and deliveries, with a high concentration of license mix in recent wins. This led to significantly better margins this quarter in contrast to a higher mix of proprietary equipment sales in Q3 of last year. That drove higher volume, but lower margins last year as you might recall. Energy is transitioning and performing as planned. We are gaining traction with our advisory tech-led industrial solutions and high-end professional services offerings here and are posting nice margins here as well. At the same time, we are ramping down the commoditized activities and overhead costs in accordance with the decisions we made earlier this year. These elements working together delivered modest profitability in Q3 as we have managed through this transition and in accordance with how we've guided. As Stuart mentioned, our outlook for new tech solutions in 2021 is roughly $1 billion in revenue with mid-teen EBITDA margins. You can see the progress we have been making toward this goal right here on this chart. Here you can see the combined EBITDA of TS and ES this quarter was $37 million, that's just about $150 million on an annualized basis and right in line with the 2021 implied profit outlook. This reflects the attractive profit production in our heritage tech solutions business, the profitable synergistic elements of the ES business that we are transitioning over to TS, and the significant overhead cost reductions we have been making. That wraps up my comments on a good stable quarter plus the progress we have made in reimagining tech solutions, and we'll move on now to slide 17. Here are just a few points on the Centauri transaction. Just reiterating Stuart's earlier comments, we are super excited about the strategic and cultural fit we are seeing with this business. The integration efforts are already revealing remarkable areas where our combined capabilities can generate value for our customers KBR, and of course also our shareholders. The acquisition catapults KBR to a leadership position serving the military and intelligence communities with leading space and other higher technology sticky offerings that directly enables some of the higher-priority national security programs today. These same areas are highly synergistic with our leadership position at NASA and its connections with the commercial space community, particularly as all of these areas together form vital components of the integrated U.S. Space Force strategy going forward. We closed the transaction on October 1, the first day of course of Q4 and completed the associated financing transactions with excellent terms and rates. One of the financing elements of the bond offering closed in late September and did cause a bump up in our reported cash and debt balances at the end of Q3. That will of course all true up with the full transaction effects in Q4 that you'll see in a couple of months. As we will have one full quarter of 2020 with Centauri, we are bumping up our EPS and cash flow guidance to reflect its inclusion together with the incremental financing costs going forward. I'll hit more of that in a moment. Consistent with past practice, we are excluding from adjusted EPS guidance the onetime deal costs and the ultimate non-cash amortization expense for purchased intangibles, which will be determined later this quarter. Now on to slide 18. Here I'll reiterate the overall capital structure for KBR today is excellent. And this enabled the Centauri acquisition at an opportune time and which also leaves us in a strong liquidity position after completing this deal. Post Centauri, our leverage is at the low side of our targeted net leverage ratio. This coupled with predictable and attractive future cash flows allows for ongoing capital deployments. Our priorities are unchanged with deploying excess capital in this regard. And finishing up on slide 19, we have performed at or above expectations in and through Q3 this year, particularly in operating cash flow. We now have Centauri for the fourth quarter, which is expected to be accretive to adjusted earnings and cash flow in line with what we announced back in August. We are raising adjusted EPS guidance to $1.60 to $1.80 and raising adjusted operating cash flow to $270 million to $290 million. That sums up the financial picture. Now back to Stuart to finish up his remarks.

Thanks, Mark. Brilliant. I'll move on and I'll finish up on slide 20. Another strong quarter across all key metrics: earnings, cash, book-to-bill and margins. I think the year-on-year growth in high-end differentiated areas that sit opposite national security and defense priorities with strong bipartisan support is terrific and Centauri is clearly additive to this. We gave you color on the backlog and outlook across the different areas, right across our business that are extremely well balanced well positioned in attractive markets and have a book of business and a robust pipeline to set us up well going into next year and beyond. Post Centauri as Mark described our balance sheet is healthy and we have retained deployment optionality. When we announced the Centauri deal, we gave you a 2021 pro forma outlook. Over 80% of our customer base would be government and 20% commercial. At a group level, we'd be heading towards revenues of around $6 billion with group EBITDA margin circa 9%. And as Mark said earlier, this margin is in line with what we achieved this quarter. Centauri now is obviously closed. The new TS is well advanced with a clear line of sight to deliver as we have stated. And with our strong bookings momentum and continued strong operational and execution performance and although this is not formal guidance as this comes out obviously for 2021 next quarter, but from what we know and we can see today, the outlook we gave you with the Centauri acquisition holds. So thank you for listening, and I will now hand it back to the operator who will open the call up for questions. Thanks.

Thank you. [Operator Instructions] We will now take our first question from Jamie Cook from Credit Suisse. Your line is open. Please go ahead.

This pertains to the Government Solutions business understanding the backlog has been there and the market out growth that you guys have talked about on the slides have been appear robust over the longer term. But the organic growth of the Government Solutions business over the past couple of quarters on the top line has been a little lower than expectations, understanding some of the things that you pointed out in the slides, but do you view the organic growth trajectory of the Government Solutions business, I mean should we expect it to sort of accelerate from here, or how do we think about that over the next sort of 12 to 18 months? And then, the ability to harvest potential upside on margins? Thank you.

Thanks, Jamie. So I think that this is a real good news story. If you look at the actual mix of how the revenue has flowed through, as I told before the logistics business was -- I think has been a little bit misunderstood. I think it's exposure to OCO funding, which is more volatile has obviously played on people's minds. And as you've seen through time as we change the business mix at KBR, our exposure to OCO has changed significantly. So the organic growth coming through on our science and space business and our engineering -- our systems engineering business is fantastic. And you can see that in the numbers as we presented. And that mix and that growth in that area of business of course has really sort of I guess, offset any potential reduction that we've had with troop levels coming down in the Middle East. And at the same time, we've actually transitioned on to NORTHCOM, which is around operations and maintenance funding as Mark said. So again, far less volatile and far more predictable going forward. So this is quite a significant shift. We'll give a bit more color on the quantums around that shift into next quarter, but it's a really, really good news story. And I think the growth momentum we have in our high-end engineering and space and science businesses is evident and we expect that to continue. The pipeline would back that up. And then you have the introduction of Centauri coming in. And I think the ability to obviously drive synergy in the areas is -- I managed to get around the Centauri businesses as it closed in early October. And I'm super excited about the quality of individual and the programs that they're on. I think there's probably more synergy opportunity there that we -- than we really envisaged going into this deal. So I think all of that bears well for the future. Jamie, I think we'll be talking about overall growth going forward organic and acquisitive of course, but it's -- it all culminates in an overall growth partner that I think really supports the strategic shift upmarket. And I think you're seeing that coming through now in the numbers.

I guess, Stuart. And then one more question. Just on the Technology Energy Solutions business on a go-forward basis, I get a lot of questions from investors that think about this portfolio sort of in a traditional energy focus relative to maybe greener energy or energy transition. So can you talk about just how we should think about the key drivers of the Technology Solutions business and whether it can be sort of greener and more energy transition versus the traditional energy view of KBR historically? Thanks and I'll get back in queue.

Jamie, that's a terrific question and it gives me a great opportunity to say that, that's exactly how you should be thinking about KBR in this context. The tech business itself as I've laid out in the slides is driven by, in three major elements: one is food production around ammonia, which has got -- is all around a sustainable future for the planet and it's driven normally by people moving into middle class and GDP growth around food production. And that business has been terrific over many, many years and we're arguably the world leader in that space. And then secondly around olefins which is really plastics non-single-use plastics, but they're used in again buildings and cars and things like that. Again are more driven by people moving into middle class and GDP growth. So again the dynamics are not really driven at all by traditional oil and gas. And then the third one, which is all around green is really what we do in sustainable technology around refining and I've talked many times about the technologies in that area that we have developed, that we're market leaders in and certain -- and not in all of course but a number of our technology portfolios and we continue to see very strong demand. And at the same time, we've put a lot of effort into positioning our advisory business. And that's all around advising governments and companies about energy efficiency reduction in carbon and also energy transition and hydrogen being a key component where we do think the transportation medium for hydrogen going forward is likely to be ammonia. And we've just talked about our position there from a technology perspective. And once you store hydrogen, the world leaders in hydrogen storage happen to be NASA because of how they fuel their rockets. And of course we're heavily engaged in that side as well. So we've got a lot of critical components we can bring to bear looking at the way the world evolves as energy transition sort of gains momentum which is happening today. And then we talked a little bit more about -- today about our IP-led, our technology-led industrial maintenance business. And what that really means is that we have very proven digital solutions that we can actually remote monitor facilities from a central hub and we can actually advise customers on how to enhance production and throughput and reduce energy et cetera because of our knowledge of the IP. And we're seeing a lot of traction around those services. So everything that's happening in that -- in new TS is all connected to technology and future-facing I guess aspects of energy transition and climate change. So it's very much moved away from your traditional energy focus or how you would have historically thought about KBR and that's a key part of the message here.

Okay. Great. Thank you. I will let someone else ask question.

We will now take our next question from Tobey Sommer from Truist. Please go ahead.

Thank you. If we get a federal spending decline following all the stimulus debt accumulation, which aspects of your Government business do you feel has the best prospects for continued growth? And which ones are you less confident about?

I mean I think Tobey, I think there's a lot of fact patterns there that, from an overall business perspective, you've got to remember, we're differentiated with our international government profile that actually is not impacted by what's happening in the U.S. today nor really is our tech business. And when you come back into what we're looking at across what we're doing for the DoD and NASA, I think really we've tried to demonstrate with the presentation today, we're very much lined up opposite national security priorities. Our people do things that matter. And we're very proud of that fact. We're very much at the operational end as well of a lot of what we do, and those assets are not going away supporting the International Space Station, it's not going away. So, I really think the one area that probably is -- so, I'm not really worried about the mainstay of the business, and I think we've got long-term contracts that underpin that performance. I think we are -- defense modernization, space superiority and growth in the intelligence community, is going to continue. Those near peer threats are not going away. The area that may change depending on a reduction in government spending may well be what happens in the Middle East and Afghanistan. And I think our long-term strategy of reducing our exposure to OCO funding. Again, I think it's paying off, because we've got a far more predictable outlook than we've had. And again, when we get to Q4 and looking at our guidance for next year, we'll give some color as to the quantums involved there. But, it is not -- it won't be material going forward in it. So that would be the area, but I think we've mitigated that risk significantly.

Just sort of a question about the medium-term growth algorithm for the company, could you comment on that over sort of a go-forward basis two or three years? And maybe do you plan to update that kind of in a more formal setting in an Investor Day at some point in 2021?

Yeah. I think we have to Tobey. I think it's -- I think the business has changed. Obviously with the introduction of Centauri, clearly, we'll see what happens next week. And obviously, we'll take that into consideration. And then, of course, we've really changed our focus around the technology portfolio as well. So, I think we do need to come back into, and talk more broadly about our growth targets over the longer-term at an Investor Day and we'll do that into 2021 for sure.

Okay. Thank you.

We will now take our next question from Steven Fisher from UBS. Please go ahead.

Thanks. Good morning and a nice quarter. So, the cash flow was stronger than expected. You raised your cash flow guidance. It sounds like for Centauri, I know Mark you reiterated your capital deployment priorities. But, maybe can you just give a little more color there? To what extent are there more acquisition opportunities that are swirling around that you're considering? And then, since you are at the lower end of your leverage range, how attractive is the buyback option at this point? And why not step up and do some more of that now with Centauri behind you?

Well, Steve thanks for the comments on the quarter. We appreciate that. And so first I'd say that the cash flow performance or overperformance is really attributable to KBR before Centauri. We're well ahead of last year already through Q3, and it really is a testament to the team in terms of the process improvements we've made. And a great teamwork, as you know, cash is a team sport and we're really pleased to see that. And so, Centauri will add the cash flows going forward, but we were pretty cautious in our Q4 outlook on the guidance, given you never know what's going to happen on the last day of the year number one. We also do have the deal costs coming through in the fourth quarter that will hit cash flow. And so that's the reason why we're cautious just for the fourth quarter alone. But the overall cash flow production of the business, both before and after Centauri is going to be really attractive. And as you stated, we're at the low end of our leverage target and that does enable capital deployment optionality going forward, on top of what we will produce in terms of attractive free cash flow. So, as we've consistently done, M&A has been an instrumental part of our transformation and the resiliency that you now see in the performance. And with that, we'll continue to evaluate what comes on the market and be agile relative to that, but we have very strict criteria. And if nothing meets that criteria, I think we've been pretty clear that buybacks are an attractive option when we are enabled or allowed to do so absent any restrictions. And I think this done that was one restriction for a while, and M&A was a restriction for a while. So some of that's lifted as well. So we have great opportunity to do both going forward, and we kind of like the idea of a balanced approach over the long-term in any event.

Okay. That's helpful. And as a follow-up. It was also helpful to see the separate slides for your Government Solutions segment. And what I'm taking away is that each of these segments is growing at double digits and you have the strong well over 1x book-to-bill with the exception of the LOGCAP work. And so I guess I'm kind of wondering should we be assuming that this business is overall growing at a double-digit rate ex-LOGCAP? And then just trying to figure out how much of a drag that LOGCAP business is and when you think that could neutralize?

We're really pleased with the growth we are seeing in the higher-end areas of our portfolio that Stuart mentioned and I mentioned as well earlier, so proud of our team in this regard. And we also did point out that there are two main parts of logistics. There's the more scientific part that more plays in the O&M space in the DoD and also with our allied customers in the U.K. and Australia. And then there's a contingency part which we have less control over and is more volatile. And so we've really pivoted a big chunk of the business in dependency away from that. And so I just have -- I think we have to be honest that the contingency part will ebb and flow with geopolitical issues and we'll be there to serve when asked. And that will go up that will go down as it has in the past and that will affect the top line results. So we're very focused on everything else that we do control and having an attractive pipeline and winning and executing that business really well as I think we've proven. And so we expect to see growth in the high-end areas that we do control. We'll provide quantum on that for 2021 at the appropriate time. But certainly past couple of quarters shows double digits is possible in these areas. And I think Centauri and the synergies that have come with that will only provide a further catalyst for really strong growth there. And we're just going to have to wait and see how the logistics piece and what the government wants to do will impact that. But we're very confident there'll be attractive profitability attractive cash flow and we'll deploy it smartly for all the reasons we've talked about.

Yes. I mean to be honest Steve I'm feeling pretty good about the logistics business albeit with the cautious words in the Middle East. And the reason for that is that it's a fantastically good performing business. And I think we're as good as anyone at doing that complex logistics work. And I like the fact that it's moved almost a huge majority of it into the O&M budget cycle. And I think we shouldn't forget that the book-to-bill in the quarter was 1.4 for that business and none of that really is in the OCO exposure area and we haven't included what we've won with the UAE BOSS contract in really Turkey and Spain which is a long-term O&M funded contract as well. So I think once that comes through protests which should happen in Q4, I think we can have a good line of sight for growth in the logistics arena. So I'm feeling pretty good about that. And Mark is right there may be a downward pressure in the OCO piece. But you'll see when we get to Q4 that -- from a material perspective that, that for us has changed significantly in a balance over time. And I think the work we've won recently should underpin continued growth in that segment.

Very helpful, thanks.

Thank you.

We will now take our next question from Sean Eastman from KeyBanc Capital. Please go ahead.

Hi, thanks for taking my question. First one from me is, are you guys standing by the broad framework for 2021 combined with Centauri? I just wondered does the 90% to 110% conversion of income to free cash flow around that framework holds, or is there anything else we need to be thinking about into next year that may sort of change that algorithm?

No. I mean I think our focus on cash and the resulting output in the way that we've performed this year is clear Sean and certainly, I know Mark and the team and there is a team sport. We've got the culture right now and we've got the processes and systems right and I think Mark's all over it. And I don't see that changing at all going forward. I think we will be we've done an amazing cash conversion this year of course and having that -- those sorts of numbers hold forever is impossible. But coming into the above one is really where we're driving the business. And I think we're doing a terrific job demonstrating that. So I mean if that's how you model cash, I think you're probably appropriate in that fashion.

Correct. I'll just affirm that. There's nothing special that would change our view relative to the 90% to 110% for 2021 as we see it today. So all should be normal. It will probably be above that range this year as you can see, but we're very confident that the predictability will be there and be attractive not only operating cash flow, but the free cash flow which is really the important part. Its conversion is extremely strong relative to both op cash flow and net income. So we're really excited about the deployment optionality we get from that.

That's terrific. And going back to the new technology segment. Last quarter, you outlined a pretty ambitious kind of trajectory from mid-teens margin in 2021 up to high-teens in the coming years. I think you touched on, sort of the revenue driver angle. But I wanted to try and get some more color on that bridge from mid-to high teens. Just what's driving that? What we need to be tracking you guys against, as we follow this newly combined segment?

Yeah. I think Mark, did a very good job explaining that it's not a big ask or it's not insurmountable and it's highly credible to look at that the sort of returns of that business when you look at the combined returns I guess this quarter and annualize them. So hopefully that lines credibility to the numbers we gave. In terms of moving from next year's mid-teens and then moving that upwards over time I think there's two real levers there. I think you -- we're -- I think we can see growth in the base technology business which is a very high margin-driven business. We can see growth in the advisory business and in the IP maintenance business. And all of those come with very strong margin performance. And as those grow relative to the business then you'll see upward pressure in margins. The second piece is that KBR happens to be a 100-year company, which we're very proud of but with 100 years of company comes 100 years of complexity. And we're taking that complexity out over time, as we retire entities. And particularly now we've realigned that whole segment. We've got good sort of line of sight to entity reduction and reduction in audit fees and reduction in cost and efficiency but it does take time to do that. And that's why we're sort of saying 1% to 2% increase per year over time until we get up to the high teens low-20 type margin zip code. And I think it's -- I think there's two levers to pull there and I think both are highly credible.

Great. And very helpful response. Thanks guys.

Thanks, Sean.

We will now take our next question from Gautam Khanna from Cowen. Please go ahead.

Hi. This is Scott on for Gautam. Just two questions, first one in Centauri how much of the growth in 2021 is predicated on the direct energy solution? And do you have any orders for that solution already?

So good question and I'll reiterate what we said when we did the Centauri acquisition launch. So that is, the directed energy piece of so really lasers in layman's terms is very, very exciting because it has the opportunity to move into a program of record. And the Centauri business is really the lead integrator across both -- two OEMs who are duking it out to be the winner of that type of laser. But because things like programs of record take time to sort of come to fruition. And it's unclear exactly when that happens our forecast of growth excludes that. So it's all upside. And so really the base Centauri business that we presented is the core of what they do. We're very excited about their opportunity in directed energy. And in fact they've recently won more work in that arena, looking at a different capacity of laser, so again, really highlighting the key skills and unique capability in that arena. So we think that's an amazing upside opportunity and one that today is not reflected in the growth numbers that we presented last time around. So I hope that's clear.

Okay. No. That is clear. Thank you. Then, just a second question for me. And some people have talked about it but the Government Solutions you're expected to have double-digit growth in 2021. But do any of the recent win protests concern you at all about reaching that number?

No. I think obviously people are well aware of what happened with MOSSI. I mean I would say that we did everything right. The protest was upheld. And it's got to go back in for re-bid. This is the NASA project in Huntsville and Alabama, where we were announced the winner and -- through no fault of our own and we've had that confirmed that KBR did nothing wrong in that. So it's frustrating because when you do nothing wrong and it goes back into the melting part if you like that's a little bit frustrating. But not really no, I think that's a unique circumstance and we'll go after the -- obviously the bid when it is being accelerated through now. But no not really, in terms of protesting to be the norm rather than the exception and we try and factor in that when we're looking at our outlook and timings of actually ramping up work in things, because they often -- the big programs, don't kind of start on time because of it. I think one of the nice things, I talked about in my prepared remarks was our defense sort of engineering the systems engineering business that's driven by IDIQ [Technical Difficulty] allows you to use the IDIQ contract vehicles and the protest level within that business is very, very low. So that allows you to get on contract far quicker. So there's some good dynamic in that area opposite, I guess, the big programs, which tend to be protested. But no we understand that, and we take it into consideration. And the growth outlook of – that we gave for the overall company when we did the Centauri acquisition holds.

And I'll just add you provided some high-level pipeline information but we have grown the GS pipeline this fiscal year quite a bit through all the categories. And we continue to have more than 100 opportunities that are greater than $100 million in the pipeline. And so the team has really done a good job, rotating through the opportunities and preserving a very good win rate, including re-competes, but also really focusing on the longer term there's a lot of nice growth catalysts there for the future of that. We'll look to for ongoing growth in this area.

We will now take our next question from Jerry Revich from Goldman Sachs. Please go ahead.

Hi, there. This is Ashok Sivamohan on for Jerry Revich. So embedded within strong Government Solutions margins this quarter was higher SG&A. Can you talk about how we should be thinking about the drivers of the increase and the run rate from here?

Yes, Mark here. The year-over-year looks a little odd. We actually had a reduction in G&A from sort of a rate adjustment in Q3 of last year. So there's a comparable disconnect there. But the current amount of I think $47 million is a little higher than norm from the last couple of quarters, and that will ebb and flow with bid and proposal costs, which is normal in this area. But we should be in the $40 million, $45 million sometimes a little above or a little below relative to that volatility. But it's really indicative of the opportunities that we are pursuing, right now, which are exciting. And that has produced a greater pipeline that was just mentioned a moment ago. So we believe that's where the investment.

That's helpful. And following up on the discussion on logistics, can you talk about what the revenue run rate would look like today, if you weren't delayed by COVID on the LOGCAP V implementation?

I mean, I don't think we've given specific detail on that in terms of – I mean, the only detail we could really give was the historical one and what has historically happened in Iraq – and that's quite substantially higher in the past than probably what it is today. So we haven't really given that guidance at all and we'll try and give a bit more color in Q4 around that. So yeah, I think you have to just hang on until then around that. Mark anything more you can give there a bit reticent to just give revenue numbers off the top of my head. It's not the right answer.

I don't want to be quantitative about that now, but I just will as we said earlier the Middle East is down from where it was last year due to OPTEMPO issues and the inability to get into Afghanistan under five, but great stability on the European Command front and growth on the Northern Command front. And that's a quality place to be so we're happy about that well positioned and the transition is going remarkably well also.

And I mean, rather than talk about specific programs, I'd sort of bring you up a level again is that one of the great attributes I think of the business we've built is the access to multiple funding streams in the I guess what I would say multiple – a multiple global client base. And you're going to have in a world that we're in today sort of ebbs and flows in the various, I guess, areas of business that we're in. I think the trick here is to make sure that overall the company is managing that and actually accessing the areas where the funding exists. And I think we're doing – our teams are doing an amazing job in that regard. And I think overall, again, looking at next year our outlook that we've given around that sort of is heading towards $6 billion with the 9% EBITDA group level margins and strong cash conversions is really where I take you back, because I do – I do think that really is strong, strong growth in – across all areas with strong margin performance at the top end of our business. So I do think it's – I would – I keep bringing you back to that because that really – that's where the shareholder value is created.

Thanks. I appreciate the discussion.

We will now take our next question from Michael Dudas from Vertical Research. Please go ahead.

Good morning, Stuart, Mark, Alison. Just one question. Can you maybe provide an update on Ichthys? And maybe refresh us on timing and your overall expectations going into 2021 and into 2022 about negotiations expectations where they stand now maybe versus where they would have been six months to a year ago?

Yeah. So Ichthys remains in the legal process, as it's been for some time. COVID will delay that legal process some cases more than others there's multiple cases. As you're aware, the more technical cases are less impacted than the ones that actually require face-to-face witnesses and things like that. So I think we will see them progressively resolved through the legal process over the course of the next couple of years as I think the core system is getting to go sort of working under a COVID environment themselves and doing more and more complex cases virtually rather than in person. So I think that is maturing. So I think Mike, the -- we think the CCPP, which is the power station piece that we're in dispute with effectively Jacobs GE and CIMIC on trying to recover our costs there is -- has been delayed probably six months or so. And we expected that to happen in February and that's now going to get pushed out to the August, September, October time frame again just because of COVID. There's nothing sinister there or anything. It's just COVID-driven. So any recoveries of monies there are likely going to flow into 2022. And we've got a number of ongoing cases opposite impacts and they will progressively happen over the next two -- well there'll be some that are happening later this year. And then some next year and then a couple of the year after as we progress. But in terms of timings of cash, I mean, I wouldn't think -- I mean there's an opportunity for some cash for sure in 2021. But thereafter, the bulk is coming in 2022 and 2023. In terms of negotiations, we're -- I mean we would always prefer to resolve this amicably, if we could get a reasonable opportunity to do so. And I'm sure, we'll be making efforts to do that next year. But again, it's so difficult to give you any detail on timing. It's just -- that's kind of why it's excluded from our adjusted EPS. And I think we'll give you updates as we hear things, but there's not really much news in that sense.

Understood, Stuart. Appreciate. Thank you.

Yeah. Thanks, Mike.

We will now take our next question from Brent Thielman from D.A. Davidson. Please go ahead.

Great. Thank you. Stuart, question on the Government business. It's tough to see it in the book-to-bill today. But just wondering if perhaps you're seeing more delays than usual in terms of government contracting bid packages moving forward, just as a result of COVID sort of upfront delays. Any unusual push in opportunities that you've got might transpire this quarter?

Not really, Brent. I think you've seen -- we had a strong book-to-bill in GS of 1.3. And I think -- which I think is testament to the fact that the workings of the DoD are well oiled and they're being driven through a COVID environment. And if I look outside, I think the -- particularly in Australia, they're actually going quicker, as they try to get people on contract. So -- and they're paying us ahead of time, which is also terrific as well. So not really, I'm not really seeing too much slowdown. And I guess the proof of the pudding is in the eating and the book-to-bill is the proof there and we -- posting numbers at 1.3 I think is terrific in the quarter. And if I look across this year, it's been -- I think unless I'm mistaken, it's 1.31 and 1.3. It's something like that over the last three quarters. So it's been a terrific run of book-to-bill for that Government business.

Okay. Great. Well and you touched on my second part in terms of Australia some of the components of the international piece of Government growing really rapidly. Stuart, I'd just love to get maybe your bigger picture view. I know it's not a smaller revenue base, but some of these non-U.S. markets, how you think that plays out over the next few years? And then I'd love to hear, I don't think we've talked about it before, but Centauri's capabilities to push into some of those overseas markets. If that's the case, is that sort of a year two, kind of a year three of ownership event? Just curious your thoughts there?

Yes. So no, we're very excited about the growth opportunities in international. And I think we've moved upmarket and broadened our offerings in mission IT and in training in recent times in Australia and it's really paying dividends as they look to sort of almost renew a lot of their existing capability and things like their whole naval fleet is being upgraded today. So we're heavily engaged in that as you can imagine. So I think the momentum there is going to continue. I think our market position is growing. And certainly, our -- the maturing of our business there is really helping with that as these bigger programs come to market. So I do think we're very well positioned to continue with growing in the international arena. So I wouldn't expect that to be any less exciting at all. But in terms of Centauri, I think I would bring it back up to -- and maybe answer your question, not just about Centauri, but the broader capability, we have recently put GS under a single leadership globally. And one of the main drivers to do that is obviously to drive I guess synergy across borders whether it be fall in military sales from the U.S. into allies or allies trying to get -- whether they're trying to get aligned with how programs are supported as they acquire things like the PATRIOT missile program and things like that. So I do think that there is a significant opportunity to broaden the offering that we're doing internationally by leveraging the capability that we have in the broader GS U.S. I think Centauri itself will be trickier because a lot of what they do is in the intelligence community and is highly classified. So I think that would be -- that's a harder ask. But I think in terms of the broader capability, we have in things like engineering and defense and obviously the stuff we're doing in human health performance and things like that. There is -- there are fantastic opportunities we think globally.

Great. Thank you.

Thanks.

We will now take our final question from Andrew Lee from Citi. Please go ahead.

Hey, thanks. This is Andy Lee on for Andy Kaplowitz. Just two questions. So one with the Centauri acquisition completed on October 1, could you give us some initial thoughts on what you're seeing with the business? And is there anything you want to highlight other than what was talked about on the August call?

I think, Andy, it's still quite new in that sense. As I said in my earlier, I did travel around and went to their three main offices centers in Chantilly and in Huntsville, Alabama and Dayton, Ohio. And I have to say, I was absolutely thrilled by the people and the quality of technical. And, I mean, they have world leaders in things that they do and they go to people. And I really do think there's fantastic opportunity within that business. So I was more excited after visiting and talking to more people face-to-face. I think it is all about the quality of the people within that business and they are absolutely outstanding. So we feel really good about what we've put into our numbers for next year. It's underpinned by a very high level of work in hand. And they've just won some more work recently in the laser-directed energy realm. So I do think it's -- we'll give more color as we get into that, but it's still a bit new, but yeah very upbeat, I would say.

Okay. Great. And then second question, can you talk a bit more about the ES legacy revenue cadence over the next few quarters? I think the current run rate still seems a bit high versus what we're expecting for 2021. So, just any color on that would be great.

Yeah. I mean, we're working down those what I would call high revenue, low margin or zero margin past due type projects and they will be effectively out of our portfolio as we move into next year. And that's why we'll realign to the sort of -- circa $1 billion type revenue business with margins in the mid-teens as we explained. And it looks the revenue looks a bit high today, but there's a lot of revenue coming through a very lower zero margin. I think what you have to look at is the combined margins of those two businesses at an EBITDA level. And it's not a big step to see how we would actually deliver something in that $150 million type annualized zip code next year. So I think that's probably the way to think about it, but we are working those off today. And driving cost out of the business as well to make sure that we move into next year with a very, very solid base cost and we've got $1.9 billion in backlog that backs up what we're going to do going into next year. So, again, almost a two times coverage on an annualized basis, so very, very strong position to be in. And it's not a volatile business, it's a very well thought through plan. And I think as we give more color around it hopefully The Street can understand this is not about volatility, it's actually about realignment, resetting your cost base as we made good progress in getting out of projects that don't make any money and we're well advanced in that as well. So, again, you'll see that revenue number come down and you'll see it align to the circa $1 billion number as we move into next year.

Okay. Great. Thanks.

Thank you. I will now hand the call back to Stuart Bradie for any additional or closing remarks

So, again, thank you very much. I think a terrific quarter. Very, very pleased with all the metrics as we've talked about, but thank you for taking the time. We're looking forward obviously to Centauri being part of the family and all the good that that brings the company, but let's not forget the base KBR business as it stands today is performing adorably and is proving highly resilient in these unprecedented times. So, thank you for taking the time for listening. And obviously, we'll be talking to some if not all later in the day and tomorrow and over the coming weeks. So, thank you very much.

Thank you. That will conclude today's conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.