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Edited Transcript of KTOS earnings conference call or presentation 5-Nov-19 10:00pm GMT

Q3 2019 Kratos Defense and Security Solutions Inc Earnings Call

SAN DIEGO Nov 9, 2019 (Thomson StreetEvents) -- Edited Transcript of Kratos Defense and Security Solutions Inc earnings conference call or presentation Tuesday, November 5, 2019 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Deanna Hom Lund

Kratos Defense & Security Solutions, Inc. - Executive VP & CFO

* Eric M. DeMarco

Kratos Defense & Security Solutions, Inc. - CEO, President & Director

* Marie C. Mendoza

Kratos Defense & Security Solutions, Inc. - VP, General Counsel & Secretary

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Conference Call Participants

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* Benjamin Efrem Arnstein

JP Morgan Chase & Co, Research Division - Analyst

* Joseph Anthony Gomes

NOBLE Capital Markets, Inc., Research Division - Senior Generalist Analyst

* Joshua Ward Sullivan

Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst

* Kenneth George Herbert

Canaccord Genuity Corp., Research Division - MD and Senior Aerospace & Defense Analyst

* Michael Frank Ciarmoli

SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst

* Michael Roy Crawford

B. Riley FBR, Inc., Research Division - Senior MD, Co-Head of The Discovery Group & Senior Analyst

* Noah Poponak

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Peter John Skibitski

Alembic Global Advisors - Research Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by. And welcome to the Kratos Defense & Security Solutions Third Quarter 2019 Earnings Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference over to your speaker today, Marie Mendoza, Senior VP, General Counsel. Thank you. Please go ahead, ma'am.

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Marie C. Mendoza, Kratos Defense & Security Solutions, Inc. - VP, General Counsel & Secretary [2]

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Thank you. Good afternoon, everyone. Thank you for joining us for the Kratos Defense & Security Solutions Third Quarter 2019 Conference Call. With me today is Eric DeMarco, Kratos' President and Chief Executive Officer; and Deanna Lund, Kratos' Executive Vice President and Chief Financial Officer.

Before we begin the substance of today's call, I'd like everyone to please take note of the safe harbor paragraph that is included at the end of today's press release. This paragraph emphasizes the major uncertainties and risks inherent in the forward-looking statements we will make this afternoon. Please keep these uncertainties and risks in mind as we discuss future strategic initiatives, potential market opportunities, operational outlook and financial guidance during today's call. Today's call will also include a discussion of non-GAAP financial measures as that term is defined in Regulation G. Non-GAAP financial measures should not be considered in isolation from, or as a substitute for financial information presented in compliance with GAAP. Accordingly, at the end of today's press release, we have provided a reconciliation of these non-GAAP financial measures to the company's financial results prepared in accordance with GAAP.

With that, I will now to turn the call over to Eric DeMarco.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [3]

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Thank you, Marie. As Kratos transitions, we're making significant investments and executing on development programs, and executing on new or increased production programs, this transition is reflected in our financial performance, including organic growth and an improved business mix, which is driving higher margins, profit and EBITDA rates. Representative third quarter financial highlights for Kratos include, our revenues increased 15.5% over the prior year. And importantly, our Unmanned Systems revenues organically increased 37% over Q3 of 2018.

Our operating income increased approximately 14% over the prior year, and our adjusted EBITDA increased 22% over last year. We generated $10.2 million of third quarter operating cash flow, which brought our 9 month operating cash flow generation to $30 million and our 9 month free cash flow generation to $12 million. The free cash flow generation is even after the substantial investments we are making in our new Oklahoma drone facility, and the build-out of a separate new secured drone facility. And at the end of Q3, Kratos' LTM adjusted EBITDA was $75 million. We believe that these financial results are representative of the long-term growth platform we're building, including as reflected by the third quarter trailing 12 months book-to-bill ratio of our Unmanned Systems division of 1.3 to 1.0, we are forecasting the strongest future growth for the company. Additionally, Kratos' on or positioned for a number of existing new and planned for programs of record, which are expected to see significant future funding and growth as reflected in the pending 2020 DoD budget, and in the 5 or fiscal year defense plan or the FYDP. We also believe that affordability of Kratos' offerings, which have been a key element of our success will be highly desired, irrespective of which political party is in office or controls the Congress.

In Q3, our industry leading target drone business, where we are sole or single source to the United States Army, Navy and Air Force generated particularly strong performance. And since our last report to you, we have received a number of contract awards, including international awards as global demand for threat representative target drones used to exercise radars and weapon systems continues to grow, and Kratos' target drone opportunity pipeline contains several large new opportunities. When you see the large prime contractors receive a missile, a radar, and a weapon systems program award, these systems, the related platforms and the operators need to be exercised and trained and Kratos' aerial, seaborne, and ground target drones are a key element in providing that operational readiness function. With the production programs we are currently executing on, the new contracts we expect to receive, and the expected increased operating tempo as the US military and our allies transition from fighting terrorists to addressing Russia and China. We expect our target drone business to continue its organic growth trajectory up to approximately $250 million in annual revenue over the next few years.

Since our last report to you, Kratos' Valkyrie successfully completed its third test flight with all test points being achieved. As reported, the aircraft did suffer some very minor damage on recovery as the air cushion, which is provided to Kratos by a certain vendor suffered an anomaly during parachute descent. The Valkyrie, like all of Kratos' high-performance jet UAVs with our target drone heritage is designed to be extremely rugged and quickly repaired and reused if damage is sustained and performing operational missions and as a result the Valkyrie is easily repairable. The system robustness that we have is representative of the extremely high quality of Kratos' engineering and our execution teams and of the jet drones we produce. Very, very importantly, based on the flights performed to date and the resulting data generated, no changes are needed to any of the Valkyrie's airborne control systems, which is impressive for any newly developed system, but especially sold for a high-performance jet UAS. We believe that our customer set is extremely pretty pleased with the XQ-58A system's performance to date and we do not expect any delays in future orders from our customers as a result of this air cushion anomaly, as this cushion is only utilized for test events and is not contemplated to be used operationally.

Since our last report to you, we have received additional contracts and increased Valkyrie funding, we believe demonstrating increasing customer commitment and providing us confidence that we will receive future unit for production orders from multiple customers for the Valkyrie. The Air Force Association Conference was held during the third quarter, at which we had numerous potential new customers come by the Kratos booth to discuss the Valkyrie unmanned system concepts of operations, needs, requirements, timing of deployment, and what the customer community envisions for the XQ-58A. An additional highlight at the Air Force was at the AFA Conference, at the Air Force Research Laboratory booth was a replica XQ-58A, and then AFRL video showing the Valkyrie and the Skyborg programmed drone, with the AFRL also discussing the Valkyrie as a Vanguard program. As a result of customer feedback, we continue to receive and the contracts we have been and expect to receive, we are more confident than ever that if we continue to successfully execute, the Valkyrie will become a future program of record.

We believe that there is currently in excess of $100 million in the pending 2020 budget for the LCAAT and Valkyrie related programs, and we expect this to be increased or plussed up by an additional $50 million to $100 million once the 2020 DoD budget is approved. Based on this expected funding and the recent discussions with our customers, we expect the first substantial Valkyrie related order within approximately 90 days after the 2020 budget takes effect. On the Gremlins program, we have now delivered the Gremlins air vehicles to our prime partner Dynetics, and since our last report to you, the US Air Force has designated the Gremlin as the X-61A, which we believe is an important milestone for this current research agency program.

During the third quarter, as a result of the Ridgecrest earthquake in California, which impacted the China Lake range, the Gremlins demonstration flights were announced to be delayed and Dynetics, our prime partner is currently working to identify an alternative range site. As a result of this situation, at this time, we are currently planning for the Gremlins program to complete its demonstration series in the second half of next year. Based on recent discussions with Dynetics and directly with government representatives and the customer, we believe the customer interest in the Gremlins program similar to the Valkyrie has continued to increase due to the Gremlins system's capabilities, affordability and reusability. And we now have increased confidence that Gremlins will ultimately transfer to a service partner, and also become a formal future program of record. We expect to receive initial orders for the Gremlin UAS once the demonstration flights schedule are successfully completed. We have now received additional funding for Program F, and we are working towards the next series of demonstration flights to begin early next year.

We expect this phase of Program F demonstration flights to conclude around the middle of next year, and based on most recent customer input, we are confident that once the demonstration series are successfully complete, we will receive initial Program F system orders. Kratos' Spartan drone program remains funded and on track. However, due to this program's nature, I am unable to comment further at this time. Program Apollo has recently received an excess of $10 million in funding, with a significant future funding increase now expected. Program Thanatos has received an excess of $17 million in funding, also now with a significant future funding increase also expected.

As I have previously mentioned, we believe that Thanatos, if successful has the potential opportunity as large as we see for Kratos' Valkyrie. And since our last report to you, we have received approximately $9 million in funding on two new tactical drone-related program initiatives. On Kratos' Mako platform, I'm unable to discuss specifics at this time due to the restricted nature of the customer-funded program Mako is associated with. I think that you can see from this report, why we believe that customer acceptance and market demand for Kratos' affordable high-performance drone systems, and capabilities continues to increase and is gaining momentum. Kratos' initiative with AeroVironment is tracking for an early 2020 flight and payload demonstration, and we are currently identifying an appropriate range location for the exercise. All other Kratos' tactical drone programs and initiatives I previously mentioned to you remain on track. We believe that Kratos is the industry leader in our class of tactical drones and that Kratos has the only tactical drones in this class flying or in existence today, which include the Mako, the Valkyries and Gremlin. We believe this is extremely differentiating to our customers and competitively important to our objective of ultimately building a very large tactical drone business.

As we begin Q4, substantially all of Kratos' Unmanned Systems business forecasted revenue is currently in backlog, and we are forecasting strong 2020 over 2019 organic growth, and increased margins for this business. In the third quarter, Kratos' Satellite business, industry leader in ground command and control continued to make progress on addressing its changing market and its related business transformation and positioning, which I discussed in detail on the last call. Our Satellite business' new opportunity pipeline is robust, and we are actively pursuing multiple large new program opportunities, both DoD and commercial, and we have high future expectations for this business. Missile and hypersonic vehicle tracking satellite programs are providing a particularly large opportunity for Kratos' Satellite business. And a Kratos team was recently successfully selected for the space sensor program, providing what we believe to be a large future growth opportunity for our company.

We also believe that the new space development agency, which was recently established and its vision for hundreds of small satellites potentially hosting multiple payloads, operating in a mesh network also provide a new and very large opportunity for Kratos' Satellite C2 business. Kratos' Satellite business is where we routinely make the highest IR&D investments in the company, and we are looking for strong future performance and organic growth returns, including an expected business mix change, yielding somewhat lower revenues with higher margin rates, which I discussed on our last call with you.

Growth drivers for Kratos' satellite ground equipment business include new LEO, MEO and GEO systems and constellations, including the classified area and the continued growth and the high throughput in spot beam satellite systems. Representative programs of records we support include, AEHF, Schrievers, WGS and MEOS and we are currently positioning for very significant role on the next-generation OPIR or Overhead Persistent Infrared System, which if successful would be an additional significant future organic growth driver for Kratos.

We currently expect year-over-year 2020 over 2019 organic growth for our Satellite C2 business with increased margins. Kratos' microwave electronics business has been focused on achieving sole source designed and positions on a number of new platforms and systems and programs of record. Since our last report to you, the initial order timing on certain of these large new opportunities has become much clearer as certain of our prime system customers have now received their initial orders, and have indicated that the Kratos related orders are expected to be received soon. For example, Kratos' designed in on a certain airborne EW system, and our prime partner just last week received its initial order for the first 350 systems and we have been told that we will receive our 350 system order by Q1 of 2020. Kratos' content on this program is approximately $45,000 per system. And both we and our prime partner expect the total number of systems to ultimately be far greater than this initial 350. We are expecting an exceptionally strong Q4 2019 from our microwave business with a substantial portion of our microwave business' expected Q4 revenue currently in backlog.

For our microwave business, we are forecasting year-over-year organic growth for 2020 over 2019 with increased margins, with representative programs or platforms we support including Barak, Iron Dome, Arrow, F-15 and F-16. Kratos' Turbine Technologies finished the third quarter, performing on track and as we expected since our acquisition of Florida Turbine earlier this year. KTT's next-generation drone and tactical missile engine development programs, including in the hypersonic and classified areas also remain on track to our forecast. The tactical missile and drone market for the KTT class of engine is expected to expand and grow significantly over the next several years with the expected demand for these engines to be in the thousands, and we are positioning our company to participate in this very large market opportunity. For customer and competitive reasons, we will no longer be providing any specific details on these next-generation propulsion system programs or the platforms we are focused on and targeting.

Kratos' C5ISR Modular Systems division performed as expected in Q3, and our Q4 outlook is solid with substantially all of Q4's expected revenue currently in backlog. Since our last report to you, our C5ISR business has been successfully designed in on or we are positioning for designed in on positions on a number of new for Kratos large system programs of record. As a result, our C5ISR business is currently forecasting solid 2020 over 2019 organic revenue growth. Representative programs we support include Patriot, THAAD, SHORAD, CBRNEs and CPP. Kratos' Rocket Support business where we are a prime contractor and a prime systems integrator for hypersonic BMD target and other missions was recently awarded a prime sole source contract for up to 33 Kratos proprietary rights for Oriole rocket motors from a US government customer.

We had not previously mentioned this opportunity, which has a total potential value to Kratos of up to approximately $150 million, and which is expected to be a significant financial contributor to Kratos beginning next year. In our Rocket Support business, we have recently been informed when our team was unsuccessful on one of the new Kratos large ballistic missile defense target opportunities we had previously mentioned, which we were tracking and expecting an award in the second half of 2019. There is little impact to Kratos' 2019 from this opportunity loss, as it was heavily factored in our forecast. So it could have been a significant financial contributor to Kratos beginning in 2020 had we've been successful. We are currently in pursuit of a number of additional new hypersonic and BMD target opportunities in both the prime contractor and teaming role, certain of which may be awarded in the next few months.

The US National Security focus that increased funding on hypersonic systems and capabilities are providing Kratos significant opportunities due to our proprietary proven and affordable hypersonic launch systems, and we expect Kratos opportunity set to continue to expand in this area. We are currently forecasting year-over-year 2020 over 2019 organic revenue growth for our Rocket Support business. Kratos' Training Systems division is executing on a number of large programs, and this business continues to have one of the strongest opportunity and business development pipelines in the company, driven by operational readiness requirements in new and upgraded weapon systems. Since our last report to you, we have received some very exciting news as Kratos was selected as the prime winner by the US Army for a program to develop a Virtual Prototyping Holodeck to evaluate physical and psychological warfare under simulated real-world scenarios. This is a large prime contract win for Kratos' Training business, as this could be a very large future program and growth driver for our company.

As we mentioned in the last quarter's call, we were in a recompete on RS and FMS training services contract in Saudi Arabia, the company's largest at approximately $55 million in annual revenue in 2019, with our existing contractual period of performance running through the end of this year. We were recently informed that we were not successful in the recompete. However, as a result of certain information we learned in the post-award debrief, we protested the decision, and we have just received potentially very favorable news on the protest. As a result of the information, we have received, the situation is now pending and though fluid, we currently expect to continue executing on this program into at least the beginning of Q2 of next year as the matter is resolved.

For our fourth quarter and full year 2019 financial guidance, which we are reaffirming and that Deanna will cover, as I mentioned in my previous remarks, while we do need certain new bookings, we believe that we have our 2019 forecast substantially in backlog at this time, with final results depending on execution and business mix. Consistent with prior years' practice, we plan to provide our fiscal 2020 financial guidance with our full year fiscal 2019 financial report, which is currently planned for February of 20. We believe this schedule will provide us with increased visibility into both the timing and funding content of the final DoD budget, which is particularly important this year, with the current continuing resolution authorization underway, which typically prohibits new program starts and increased production on existing programs, both of which we believe are relevant to Kratos.

However, irrespective of short-term continuing resolutions and resultant DoD budget delays, we believe that Kratos' future long-term organic financial trajectory is up and to the right with increasing revenue, margins, profit and cash flow for the platform, programmatic, and opportunity reasons I have discussed today.

Deanna?

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Deanna Hom Lund, Kratos Defense & Security Solutions, Inc. - Executive VP & CFO [4]

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Thank you, Eric. Good afternoon. Kratos' third quarter 2019 revenues of $184.1 million were at the high end of our estimates of $175 million to $185 million, and our adjusted EBITDA of $20.4 million exceeded our estimates of $16 million to $18 million due to a favorable mix of revenues and execution primarily in our Space & Satellite Communications business.

Excluding the impact of the recently acquired FTT entity, which contributed $16.3 million in revenues, Kratos revenues grew organically 5.3% in the third quarter compared to the prior year. Kratos' adjusted EPS of $0.09 per share also exceeded our forecast of $0.05 to $0.07 per share for the quarter. In the third quarter, KGS generated revenues of $138.4 million, up 9.8% from $126.1 million for Q3 '18. Adjusted EBITDA of $15.5 million or 11.2% of revenues, up from $14.1 million in Q3 of '18, and operating income of $11.1 million, up slightly from $11 million in Q3 of '18.

Excluding the impact of the FTT acquisition, KGS revenues decreased 3.2% year-over-year or approximately $4 million, which resulted from the continued reduction in the company's legacy government services revenues, which declined $5.1 million in the third quarter as compared to the prior year. Operating income and adjusted EBITDA were impacted by a favorable mix of revenues, including higher-margin software revenues and leverage on fixed manufacturing overhead and administrative expenses. Revenues in our Unmanned Systems segment increased 37.2% from $33.3 million in the third quarter of 2018 to $45.7 million, and adjusted EBITDA increased 88.5% from $2.6 million to $4.9 million in the third quarter of 2019.

Our Q3 consolidated operating income was $11.5 million, up from the third quarter of 2018 operating income of $10.1 million. Our adjusted EBITDA for the third quarter is from consolidated continuing operations including net income attributable to noncontrolling interests, and excludes noncash stock-based compensation cost of $2.8 million, and foreign transaction losses of $800,000. On a GAAP basis, net income for the third quarter was $2.5 million, which includes a $100,000 of income attributable to noncontrolling interest and a tax provision of $2.8 million.

Moving on to the balance sheet and liquidity. Our cash balance was $181 million at September 29th. At quarter end, we had zero amounts outstanding on our bank line of credit and $5.7 million of letters of credit outstanding. Debt outstanding was $294.8 million at quarter end, and net debt was $113.8 million. Our LTM adjusted EBITDA was $75.1 million with a net leverage ratio of 1.5 to 1.

Cash flow generated from continuing operations for the third quarter was $10.2 million, less capital expenditures of $8.1 million or free cash flow from operations of $2.1 million. Our DSOs increased from 115 days to 120 days due to the contractual milestone payments on long-term delivery projects in our Training solutions and Unmanned Systems businesses. Our contract mix for the quarter was 83% generated from fixed-price contracts, 12% from cost plus contracts, and 5% from time immaterial contracts. Revenues generated from contracts with the U.S. Federal Government during the quarter were approximately 69%, including revenues generated from contracts with the DoD, non-DoD federal government agencies and FMS contracts, which were approximately 8%. We generated 10% from commercial customers and 21% from foreign customers. Our book-to-bill ratio for the quarter was 0.9 to 1, for the trailing 12 months was 1.0 to 1. Our bookings were $172.5 million for the quarter, with total backlog of $608.7 million.

Just as a reminder, we typically do not include IDIQ contract values in our bookings or backlog. For instance, we recently received a $35 million sole source IDIQ contract from the US Air Force for subscale aerial target spares in September, under which we included $1.7 million in our bookings and backlog as of September 29th, representing the amount that have been funded through that date.

Today, we are reaffirming our full year revenue guidance of $720 million to $740 million, adjusted EBITDA guidance of $71 million to $77 million, and free cash flow guidance of $10 million to $20 million, and the expected final cash receipt of the retained working capital of the company's divested PSS business of approximately $46 million. We expect capex to be at elevated levels for full year 2019, with continued expected significant outlays in Q4 as we make the necessary investments for manufacturing and test equipment for our new Oklahoma facility, and a new secured facility and capital aerial target drones for the company plans to manufacture in preparation of fulfilling expected customer requirements.

We expect our estimated cash taxes to be approximately $2.5 million to $3.5 million for FY '19 reflecting the impact of the over $300 million in net operating losses that we have. Eric?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [5]

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Thank you, Deanna. We will now turn it over to the moderator for any questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question is from Josh Sullivan from Seaport Global.

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Joshua Ward Sullivan, Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst [2]

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Just with regard to the Valkyrie program. Outside of the continuing resolution timing, what are the remaining steps for the program before a large order? How many more flight tests are required here?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [3]

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Josh, the first part, I couldn't hear you talking on the Valkyrie?

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Joshua Ward Sullivan, Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst [4]

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Yes, on the Valkyrie program. How many more flight tests are required before an order?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [5]

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So well, I don't know how many flight tests are required before an order. I believe we could receive an order before any more flight tests occur for example. So they're not, I do not see them is directly linked together.

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Joshua Ward Sullivan, Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst [6]

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Okay. Got it. And then just on the organic growth in the BMD segment in 2020 that you're referencing, does that assume any waiting on winning some of these hypersonic contracts you're going after or can you hit that independent of those wins?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [7]

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We -- the vast majority of it, majority of it, we believe we've got with that over 30 rocket motor order we just received. So the primary item that could impact that, Josh, would be timing on when we get a 2020 -- a 2020 budget.

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Joshua Ward Sullivan, Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst [8]

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And then just the $6 million to $8 million related to the company owned aerial target drones you are building, was that increased? And then given you're investing in the drones or the products, will you own the IP for whatever programs those are going after?

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Deanna Hom Lund, Kratos Defense & Security Solutions, Inc. - Executive VP & CFO [9]

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Yes, Josh that was increased by about $2 million and total CapEx has not increased. But the components within the CapEx for Unmanned shifted a little bit. And those are -- those are targets that we own, that we have the IP on.

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Joshua Ward Sullivan, Seaport Global Securities LLC, Research Division - Director & Senior Industrials Analyst [10]

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And then just on the competitive environment, outside of the Valkyrie, Thanatos, Spartan, Project F, are you seeing a competitive response or are you still the only bidder in some of these programs?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [11]

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No, there are -- there has definitely been a competitive response. Thanatos was competitive, Spartan was competitive, we're going after one right now that is competitive. So there is definitely competition in this area.

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Operator [12]

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Our next question is from Noah Poponak from Goldman Sachs.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [13]

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I'm not sure where you are, Eric, but good evening to you. Maybe a long day. So I wanted to ask about the margins, they're better margins in the quarter and you kind of opened up your prepared remarks. I'm talking about the shift in mix that's -- and it didn't sound specific to the quarter, it did sounded like you view it as an ongoing shift in mix improving the margins. And so on the one hand or early stages of new work can be lower margin.

On the other hand, you guys have had heavy investments that I think come out fast volume growth, you can just have drop through and it seems like you have a much more substantial degree of automation involved in future work. So should we be thinking about these 3Q margins as a new baseline that you work off of to go higher from here? Or is a third quarter really benefiting a lot from mix?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [14]

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In our Satellite & Space business, which as you know is the biggest in the company, there is a transition moving more towards software-defined elements than hardware, which is driving increased margins. We believe that is going to continue into next year and into the future until it stabilizes. So our satellite business particularly in, where we're doing the space situational awareness, where we own and operate the global network and in the products that we're delivering, which are moving more towards software, margins are definitely increasing there, revenue is coming down somewhat as it moves to software.

On the drone side, as we transition from these development programs to low rate initial production to full-rate production, right now that which is occurring in the target drone side as Deanna mentioned, we are getting increased margins there as quantities go up in the production facilities. We're getting leverage on the fixed manufacturing costs. We expect that -- we expect that to continue more going forward as more units go through the factories and we get the leverage on them. So those are the 2 primary areas where margins are going up and they're kind of sorted for different reasons.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [15]

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Is there something offsetting those things?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [16]

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Let me think. Probably, depending on how the Training business recompete turns out and the structure of that contract going forward, that very likely could have reduced margins to it. And because of the situation we're in, which I said I'm -- we're in a good mood about how this appears to be trending right now because it's live. I don't want to get into too much but our Training business margins at least on that major program if it sustain could start coming down somewhat. On our Commercial Satellite business where we are, and this is where we build work stations, teleports which do command and control and they do signal monitoring. There is commercial pressure there. So those margins, we do not expect those to increase and depending on the nature of the business, we could see some compression there.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [17]

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So all in Eric, what's your level of confidence that you expand the margins in 2020 versus 2019?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [18]

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High.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [19]

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Okay. If I take the guidance for 2019, and if I go to the midpoint of the revenue in order to be at the midpoint of EBITDA, the margin in the fourth quarter would have to be down 200 basis points sequentially, and have to be the lowest margin of the year, which is usually not the case. Is that conservatism or is there something specific in the mix in the fourth quarter?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [20]

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We are trying to be cautious because of the CRA that currently goes through the third week of November, and very possibly could go through the end of the year, and what that potentially could do for example as you know typically in the third quarter and the fourth quarter because it's around that federal fiscal year. We -- and in particularly in the satellite business we get dropped ship orders of equipment and software sales; and some of those can be very high margin.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [21]

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So are those out of the guidance?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [22]

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We have been -- we are looking at them on a case-by-case basis and factoring not knowing what's going to happen after November 22nd or whatever that date is.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [23]

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I understand. Related to the CR, I believe you said you could see a Valkyrie order within 90 days post a final 2020 budget. So is it -- is it looking increasingly likely you'll have not insignificant Valkyrie revenues in 2020?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [24]

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Noah, say that last part again. I want to make sure I answer that…

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [25]

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Well, I guess prior to today, it felt like the time line on Valkyrie made 2021 and beyond revenues like very likely, and obviously that's what matters most, but just in thinking of the pieces for next year, I thought Valkyrie revenue contribution was more of a coin toss but it sounds like you're saying you would expect in order just a few months into next year, unless I heard that incorrectly.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [26]

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No, I am expecting a material, Valkyrie related order within 90 days after the 2020 budget becomes effective.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [27]

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Okay. And then just last item, and I'll go back in the queue. Did you quantify the training, the annual revenue contribution from the training program that had the recompete?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [28]

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Yes. And so what we have said on the last quarter's call when we talked about the recompete is that because of the restructuring that I mentioned a minute ago, it was looking to be something like $25 million or $30 million a year going forward. Okay. However, for this year in 2019 because of the OPTEMPO that has been going on and the structure of the contract, it is about $50 million. And so we were planning on it coming down because of the structure. So this year was $50 million-$55 million, next year was $25 million-$30 million because of the structure change.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [29]

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And then if I heard you correctly, because of the time line of protest, it sounds like you will at least have that extended into mid-2020 even if you ultimately don't keep it and then obviously if you keep it, you keep it, is that correct?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [30]

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Right. Yes, so what I, what I said was that right now based on, and again this is live. So I don't want to get add anybody, but based on most recent communications we are expecting to maintain it at least into the beginning of Q2.

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Operator [31]

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Our next question is from Seth Seifman from JPMorgan.

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Benjamin Efrem Arnstein, JP Morgan Chase & Co, Research Division - Analyst [32]

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This is actually Ben on for Seth. So I guess, I wanted to hone in on the organic sales in KGS for a bit. I mean you've given some encouraging commentary today about 2020. You've been talking about this business pretty positively in the last few quarters. But if we kind of dig into Q3, and strip out KTT, and you've been taking out the headwind from government services, the kind of the rest of this business was pretty flattish. So I guess how do we kind of square, square that up with kind of the go-forward outlook for this business?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [33]

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Right. So in our KGS business, let's take training for example. We work on very large programs like for example, we are in production right now on KC-46. We are in production on a number of Marine Corps Common Aircrew Trainers. These are tens of millions of dollar programs. We are in a massive program with the Navy. So when we win these programs, when we are awarded them, our book-to-bill in that quarter can be 3 or 4 to 1. But then, it runs out for 2 years or 3 years, if you see what I mean. And so there are a number of things that we're pursuing right now that if we're successful on there could be a significant blip upwards in our book-to-bill ratio that will carry that LTM forward at 1.2 or 1.3 to 1 for a while.

So that's one, is the dynamic of that business, which is also the same in our C5ISR business. Very large programs, and I believe it looks like you're going to see that in Q4 in our C5ISR business relative to a very large platform that we're sole source on. So we're going to get it, and if we do get in Q4, you're going to see a significant upward tick because of the size of it, and it's going to be all funded and how far it goes into the future. And then while the satellite side and the space side that business, it's a mix of very large programs like I mentioned OPIR.

As you know, we have an integral part on CBERS, OPIR is kind of sort of a follow on to CBERS. I believe we're going to get a significant sole source position on OPIR, which if that happens, will be a significant uptick in bookings and backlog for that period. There is another part of the satellite business that we were just bantering with know about that is on the software side, that is more of a book and burn where we get them quarter-to-quarter. And so there is that mix going on. That's kind of how I reconcile what's going on in KGS.

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Benjamin Efrem Arnstein, JP Morgan Chase & Co, Research Division - Analyst [34]

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Okay. That's pretty helpful. And I guess on the continuing resolution, the risk is increasing that we see this extended not only to the end of the year, but possibly I mean we're hearing -- what about, what happens if it's a full year CR. I guess which of your business units and the growth outlooks there are most at risk if we see some CR that extends into 2020?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [35]

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So on -- so the good news is, on the base business, we're in a -- coming in, 2019 was a $720 billion defense budget. We're now in production on Navy SSAT, we're in production on AVSAT, we're in production on another one. So the good news is as we've achieved production on a lot of these of the base business, if there were an extended continuing resolution, it is very solid work in production. If the CRA gets extended for example, we cannot get to full-rate production on SSAT, we're going to be stuck in LRIP II then LRIP III, okay, for example.

There is a restricted program, I can't say a lot about. We are in LRIP on it, it is a very good program, very profitable. We can't get to full-rate production on that and that's that -- that program happens to be in our Unmanned Systems business. On the tactical drone side, we have the development funding from the '19 budget. Unless there is a re-programming, which only occurs from time to time, we cannot move into significant production in the tactical area without a 2020 budget.

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Benjamin Efrem Arnstein, JP Morgan Chase & Co, Research Division - Analyst [36]

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Okay. And then so the outlook for KGS you think is mostly unaffected by a long-term…

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [37]

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I want to be very clear. It's unaffected. It cannot see significant growth increases in ramps in production without the budget. It can hold court but as you know, there were no new production programs under a CR, and there are no increases to existing production programs under CR, unless there is a re-programming.

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Benjamin Efrem Arnstein, JP Morgan Chase & Co, Research Division - Analyst [38]

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Right. It makes sense. And just the last one, can you give us a percentage of the Unmanned sales this year that comes from tactical drones?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [39]

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I don't have that off the top of my head because we don't have production revenue in that area, right now it's substantial -- it's substantially all target aerial drones, target ground drones and target seaborne drones and the related command and control and avionics electronics. So I don't, sorry, I don't have that right here with me.

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Operator [40]

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Our next question is from Ken Herbert from Canaccord.

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Kenneth George Herbert, Canaccord Genuity Corp., Research Division - MD and Senior Aerospace & Defense Analyst [41]

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I wanted to first dig into Gremlins a little bit. I know we've been following and you've talked about the capacity issues around flight test ranges. Is it a similar dynamic with Gremlins that you could potentially do they get a follow on contract or incremental contracts without corresponding progress on the flight test side or is this program really dependent upon continued progress on the flight test and demonstration with the upcoming milestones, which means a contract, maybe the soonest is second half of '20 depending upon scheduled flight test program.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [42]

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Obviously, since we're not the prime Dynetics, as I don't ever want to get ahead of them, but from what we've seen with the Valkyrie and what we expect with the Valkyrie, I think it's absolutely possible that there could be drone orders before a phase or a series of demonstration programs is complete.

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Kenneth George Herbert, Canaccord Genuity Corp., Research Division - MD and Senior Aerospace & Defense Analyst [43]

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Okay. But it sounds like from your commentary that I mean CR issues aside, would you -- would you view that as a relatively low probability or something that maybe has a decent chance?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [44]

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I think to be -- I think to be safe and to be conservative, I would -- I would -- I would go with the assumption that once the demonstrations are successfully completed, then you move to unit orders. I think that would be the safe way to go.

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Kenneth George Herbert, Canaccord Genuity Corp., Research Division - MD and Senior Aerospace & Defense Analyst [45]

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Okay. And if I could Eric, just a bigger question, I mean obviously your customer on the Air Force side has talked a lot about -- about the Digital Twin or Digital Thread or Digital Manufacturing as you think about how they are really trying to drive accelerated development processes and testing of weapon systems. I know you own the IP on the Valkyrie and that's obviously attributable but to what extent did you sort of follow that design or incorporate that into design process and how much optionality or flexibility does that give you on that platform sort of moving forward you know with the risk of getting ahead of things, but it's pretty clear that programs like the Valkyrie will undergo fairly substantial refresh and upgrade cycles as the technology moves forward. And I'm just trying to get a sense as to your position on that considering the major focus of your customer.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [46]

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That's a great -- that's a great question. Let me -- let me give you the analogy of this, Ken. The F-15 has been flying since the '70s, and Boeing has now come out with an F-15EX. And if you look at the airframe, the airframe of that's 4 or 4.5 generation fighter is substantially almost exactly the same as it was in the '70s. Hold that thought relative to the Valkyrie. The Valkyrie is an incredible airframe.

For security reasons, I can't say a lot about it, but if you look at it, you know what I mean. It has been specifically designed to be modular with open architecture for payloads. So the reason the F-15 is still flying today is because of new electronic warfare systems, new ISR systems, new earth systems, okay, new weapon systems. The Valkyrie has been designed the exact same way with open architecture plug and play modularity. So for that type of a system, it is extremely flexible and we designed it specifically to address the thought you have right there.

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Operator [47]

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Our next question is from Mike Crawford from B. Riley FBR.

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Michael Roy Crawford, B. Riley FBR, Inc., Research Division - Senior MD, Co-Head of The Discovery Group & Senior Analyst [48]

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Why build company owned target, I understand why you build company owned tactical drones like the Mako and the Valkyrie but unless it was hypersonic where you're trying to demonstrate something ahead of known requirement. I don't understand why you would build a company owned target?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [49]

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So we just completed in the last few weeks, a very large target operation for an international customer at an international range, very large multiple, multiple fire jet targets. The reason we got that job is because we had 10 or 15 fire jets company owned assets look at it as on the shelf, what that customer said is, we want to do it off in 90 days. There is no way we could build them in 90 days with the production plans we have and everything else going on.

We pulled the company-owned assets off the shelf, we put together a contract that was a lease where they are leasing them, so they're leasing the flight, they are leasing the representation, but in that agreement, when they shoot them down, they buy it and it's no longer company owned. So now the numbers I'm going to give you are an example because I can't get into the details. Let's say, we brought 20 of them down there, we owned all 20 of them. They are ours. If they didn't shoot any of them down, we get all 20 back, they are Kratos-owned. But if they shoot 10 of them down, they pay for that 10, we get the tender -- that survived back, those are still company owned and they go back into capital. It gives us the flexibility to react very quickly to customer demands, which gives us a competitive advantage.

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Michael Roy Crawford, B. Riley FBR, Inc., Research Division - Senior MD, Co-Head of The Discovery Group & Senior Analyst [50]

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Okay. Great. And just maybe if I could dig in a bit further on the margin front. If you look at some on specified future date where in unmanned systems you have target revenue approaching $250 million a year. And maybe tactical revenue nearly twice that much and running at a good full production rates at all your facilities. Do you have a sense of what the EBITDA margins might be in unmanned systems at that point in time and more of a steady state like point in time?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [51]

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Yes, 14% to 15%.

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Operator [52]

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Our next question is from Joe Gomes from NOBLE Capital.

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Joseph Anthony Gomes, NOBLE Capital Markets, Inc., Research Division - Senior Generalist Analyst [53]

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Last quarter, you talked about you placed the engine order and you talked a little bit today about the 90 days of the budget being adopted of getting orders. Are you still very comfortable with where you are in the engine orders, if you could give a little more color or detail there, I appreciate it.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [54]

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Absolutely. We absolutely are and Joe, very candidly about 3 weeks ago because of what's going on with the customer set. We had the discussions about actually ordering more engines because right now, it appears what the customer, and it's plural, customers. What they envision is they want to start receiving the drones in '21. And with a 12 month -- and with the 12-month lead time on the engine, the only way we could hit what they're communicating to us they would like is toward the ones we already ordered and potentially depending on how things were lining up. We may in fact order some more, which not only helps from a customer standpoint, but helps from a company standpoint because these engines are specific, and we'll just talk about the Valkyrie, because we're looking at this for different things.

For the Valkyrie, let's say we get this award and order by the end of March, and that would assume end of the year through the end of the year continuing resolution. Well we get that order, and there is significant progress has been done built, done building those engines. We believe these are going to qualify for a percent complete accounting instead of a unit delivery. We believe right now that's what it appears to be. So that could be beneficial for us in my example that we could start generating revenue in Q2, on the effort incurred to date on the engines plus any other effort we've been doing on the program.

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Joseph Anthony Gomes, NOBLE Capital Markets, Inc., Research Division - Senior Generalist Analyst [55]

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Okay. And if you could just provide a little more detail on the -- you talked about the legacy government services business that it was down in the quarter. I mean where do we stand on that business today, is it just going to be bled off or what do we see for that business?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [56]

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So that business right now is about $50 million to $55 million a year in revenue. And Joe, it's a terrible business. Everything is LPTA, low price technically acceptable. It's all the cost shoot-out, it's all commoditized, it's very difficult. I thank god, we are in a product and systems business. So we are still bidding, we're still trying to win, but we don't bid low. We're not going to bid low. And so it's probably going to continue to trail off.

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Operator [57]

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Our next question is from Michael Ciarmoli from SunTrust.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [58]

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How are you? Eric, just on the continuing resolution, can you talk about how it's -- it is already or it may impact order flow. Are you seeing anything on bookings and then as it relates to -- you sort of gave us I think a pretty good time line last quarter of Gremlins expecting the first half order, Thanatos, Spartan, Athena some of the revenues, they were supposed to get in 2020. I think OmegA first half award. Does any of that change or slide to the right a little bit under a continuing resolution?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [59]

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Yes. So we -- as I went through, we've received some. We've been fortunate enough to receive some, but you heard me mention like we expect significant future funding on Thanatos. We expect significant future funding on Spartan. Those are moving to the right. They're tied to the budget that's what it looks like to us. They are directly tied to that 2020 budget. And so yes, we've been fortunate, we've gotten some, but there is a handful or so that are just moving on us, they're sitting there. We've won them, they are ours, but it's just -- they are moving. So that tells me they're tied to the 2020 budget being approved.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [60]

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Okay. And then just back to the margins, I think kind of what Noah was sitting on, and Mike you mentioned 14% to 15% EBITDA margins. It sounded like with volume you can get better overhead absorption. But how should we think about I guess specifically maybe in Oklahoma, the production scheme there, you've been prototyping Valkyries, you've got to step up, you just talked about ordering engines as you kind of transition from prototyping to even lower rate production. I mean do we, is there a little bit of a hiccup there with natural learning curves as you sort of begin to industrialize that process away from just prototyping.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [61]

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Yes. So it's a good question. So in Oklahoma, right now, we are building production fire jets, and our plan over time is to transition a significant amount of, not all of the fire jet production to the MQM-178 out of Sacramento to Oklahoma. So the autoclave has arrived, it's up and running. We're going to start building Aerostructures there soon. And we need to do that because of our 177 production increases for the Navy and Sacramento, we cannot move that of qualifications, and we are seeing -- also seeing increases with the Air Force in the 167 and we have some other things going on at Sacramento that cannot be moved. So we're going to move the fire jets, we're building those in Oklahoma, right now, we're going to continue to move those.

However, now, to your point, there will definitely be a learning curve on the tactical drones just like there is on a target drone where -- just like there is on F-35 where the first one cost X, the second one cost Y, which is less than X, the third one cost Z, which is less than Y. As you learn as you build them and it comes down. So Mike -- Mr. Crawford's question was when your steady state that's normalized and that's how I took it. But when you are in initial production in LRIP you do not have the efficiencies that you will have when you're at full-rate production. So you will not have the margins.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [62]

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Got it. Last one for me, can we just get an update on the -- I think that last missile target contract, the teaser contract when you expect to hear something from that and maybe kind of order of magnitude, how that would impact revenues versus the current run rate of that program?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [63]

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Right. So. So right now that that solicitation, it looks like, it is due to come out either late this year, but I plan on Q1 because of what's going on in Washington. So the solution -- solicitation comes out in Q1 or so I would look for a Q3 or Q4 award. I think this is one of the things that are being pushed to the right. Order of magnitude, what we are looking at right now, this can change because we have not seen the solicitation yet, it is 25 to 50 a year.

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Operator [64]

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Our next question is from Pete Skibitski from Alembic Global.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [65]

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Just can you size maybe this Army holodeck program, it sounds like you're pretty, pretty high on that program?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [66]

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I'm very proud of the team, our training team knocked it out of the park on this one, extremely competitive bid but it was not low price technically acceptable, it was best valued and we won in my opinion, because of our technology. And it's the initial award is a multi-multi-million dollar award that we're working on. But the scope of this and what this touches, it's very, very significant. I can't say more than what we put out in our little brief press release to get ahead of the customer. But this is Kratos, this is leading-edge technology integrated together to bring a solution to the customer that is very high tech, but it's not bleeding edge. So there's not a ton of risk where it can be a win-win and we're looking for a multiyear growing program here.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [67]

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Okay. I appreciate. Just one more question and I'm not even sure if you're tracking this but this idea of having a system design agent for Skyborg seem to be kind of moving along. Do you think that impacts your role there on that program, and it sounds like kind of an ecosystem approach that the Air Force is kind of thinking about this. Could you -- are you tracking that and what your thoughts on that?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [68]

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Yes, we're tracking it very closely. We responded to the RFI, I believe the RFP will probably come out in Q1. I do not believe that that approach in any way adversely impacts Kratos. Skyborg is an AI program, it's an artificial intelligence program. We are providing the platform or the platforms and I want to say it that way because it could be platforms relative to the affordable tactical drone element of that AI program. So we are on it. We are tracking it, I am highly confident we will participate in this one way or another, when it comes to fruition and this structure that they have been talking about for the past month, it's very interesting I see what they are doing. But in no way is that adverse for our aspect of this.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [69]

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Okay. Are you saying that you could potentially, you look the prime on the SBA roll as well, so it would be additive to the current role…

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [70]

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You know I don't want to say that specifically to Skyborg, because I don't know yet however remember Gremlins, we primed it, and we partnered it, and in Phase I we won one of each.

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Operator [71]

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Our next question is from Noah Poponak from Goldman Sachs.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [72]

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Eric, could you just circle back and just give us a fresh update on the total BMD hypersonic target opportunity topic, because pretty recently, it was the 3 programs, you had won the first. North upon the second, the third was outstanding. But then a few weeks ago, you had the Oriole rocket motor award that seem to release to us, came on and then in your prepared remarks today you said, you are in pursuit of multiple BMD and hypersonic target ops some of which could be awarded in the next few months. So that seems new. Is it just rapidly evolving or what's the update?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [73]

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So prime system integrators that are winning hypersonic weapon programs. They need to test aspects of it, they need to test the front end, they need to test what I'll call telemetry, in the right place, at the right time, at the right speed of things, and as you know we have a proven system that has been doing that for a long time. The program is like high cost, and high fire and fast, and so we see the potential opportunity to support guys that have been winning system programs to help test, fill in to test their systems very rapidly, and very affordably, so they can hit their deployment deadlines.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [74]

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I am assuming those are considerably smaller than something like the third one you talked about priming and it being $1 billion program?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [75]

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Correct. Absolutely. Yes sir.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [76]

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Yes, but they could come at you pretty quickly?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [77]

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Yes sir.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [78]

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Okay. And then on Gremlins, what is the updated flight test time line?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [79]

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So I would, again, I'm not Dynetics of the prime, however Dynetics their program manager did an interview in the past 3 weeks that is public where they have indicated they have -- they have identified an additional range, a new one. They are working, I said plan on Q1. They are trying to get something done in Q4 this year. And so I am encouraged, I don't want to speak for them, I encourage you to take a look at that, their work in that.

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Noah Poponak, Goldman Sachs Group Inc., Research Division - Equity Analyst [80]

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So I think previously you guys had estimated test flight before the end of 2019. And then the final test like mid-2020, I understand earthquakes are out of everyone's control, but sounds like the initial has slipped as a result may be tucked into the end of 2019. The final mid-2020, is that still rough order of magnitude, what we should be thinking?

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [81]

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In the prepared remarks, Noah, I had said that right now I'm planning on the second half of '20 because of that anomaly and hopefully things will change then, it will be sort of over there.

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Operator [82]

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At this time, I'm showing no further questions. I would like to turn the call back over to Eric DeMarco for closing remarks.

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Eric M. DeMarco, Kratos Defense & Security Solutions, Inc. - CEO, President & Director [83]

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Thank you very much for joining us this afternoon, and we will all be circling up with you. And we report our fourth quarter in February. Thank you.

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Operator [84]

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