Earnings Call Transcript - BBAI Q2 2023

Norm Laudermilch, Chief Operating Officer

Good afternoon everyone and welcome to BigBear.ai's 2023 second quarter conference call. I'm joined by Mandy Long, our CEO; and Julie Peffer, our Chief Financial Officer. During the call today, we may make certain forward-looking statements. Listeners are cautioned not to put undue reliance on the forward-looking statements, and BigBear.ai's specifically disclaims any obligation to update the forward-looking statements that may be discussed during this call. Many factors could cause actual events to differ materially from the forward-looking statements made on the call. These statements are based on current expectations and assumptions, and as a result, are subject to risks and uncertainties. For more information about these risks and uncertainties, please refer to the forward-looking statements section of the earnings press release issued today and our SEC filings. We will also discuss some non-GAAP financial measures during the call today. These non-GAAP financial measures should not be considered a replacement for and should be read together with GAAP results. You can find the GAAP and non-GAAP reconciliations within our earnings release. Now, I'd like to turn the call over to Mandy.

Mandy Long, CEO

Thank you, Norm, and thank you all for joining today's call. I'm excited to spend time with you today as the momentum at BigBear.ai continues. We've driven change across our company and are increasingly poised to capture growth opportunities across the markets we service. We're delivering on our stated goals in this foundational year, improving operational rigor and building momentum in key sectors, and our culture of execution at BigBear.ai is unlocking significant opportunities to win. We've also refreshed our branding, supporting our reintroduction to the market and more closely aligning with the end markets we serve and the solutions we provide. A key win for us this quarter was being selected as the sole provider by the US Army to implement Phase 2 of the Army Test & Evaluation Command, integrated mission management system, and a single award contract worth over $7.7 million over seven months. BigBear.ai will provide a modern, no-code, low-code solution designed to replace the ATEX legacy system with a cloud-based, API-centric platform combining project and portfolio management, enterprise content management, workflow management, application integration, and business intelligence data analytics capabilities. The solution offers the US Army unique and democratized access to data, collaboration tools, and advanced analytics. What's important to recognize in this extension is that in moving from Phase 1 to Phase 2, the Army selected us as the sole provider after previously sharing this contract. This positions BigBear.ai well, as future work is awarded. As we continue to execute, we will see more of these types of contract progression. This award builds upon BigBear.ai's portfolio of work supporting US Army readiness, including its continued delivery of the Global Force Information Management, Objective Environment intelligent automation platform. In addition to AIMMS, we received a six-month extension from the US Army as the prime contractor for continuing work on the Global Force Information Management system in a six-month contract valued at just over $8.5 million. The extension builds on BigBear.ai's previous work in Phase 1 and Phase 2 and continues to show the strength of our relationship with the US Army. This is another example of how we are well-positioned to win future work. Under the terms of the single-source contract, BigBear.ai will serve as a prime contractor to build an enterprise-wide intelligent automation platform, providing the US Army with a holistic view of its global force structure. During the extension, the BigBear.ai team will be charged with migrating the prototype into the US Army's cARMY cloud, aligned with the US Army's Cloud Plan 2022. Our ProModel solution continues to enhance our clients' operational efficiency in a variety of use cases. Most recently, we won and expanded work with one of the largest shipbuilders in the world, where we are currently supporting US-based enable operations, displaying the global opportunity for leveraging our capabilities in a complex manufacturing environment. We also won a contract with a large industrial automation company, where we are assisting in their existing flat products fabrication process to identify constraints and understand the best opportunities for eliminating or reducing them. In doing so, our models will allow key stakeholders to quantify the expected improvements and cost benefits of any considered process changes in advance of implementing those changes. We are winning and beating competitors, both large and small, as the world unlocks the power of discrete event simulation and digital trends. Now, I'm going to switch gears and talk about responsible and ethical AI. Earlier this year, we submitted comments to the National Telecommunications and Information Administration and Department of Commerce concerning accountability measures and policies for artificial intelligence systems. Specifically, we sought to provide a perspective on industry experiences related to complex technology regulations and recommendations based on that experience in response to the Biden administration's concerns around accountability measures and policies for artificial intelligence systems. The rapid acceleration of AI innovation and integration into everyday civil society underscores the importance of ongoing federal efforts to advance trustworthy AI application, research, and US leadership in the development and use of trustworthy AI in the public and private sectors. Furthermore, US leadership in emerging AI systems and applications supports a national security strategy that defends core democratic values and protects civil liberties and human rights. NTIA's focus on developing sound AI assurance and accountability frameworks and standards is a critical component for realizing the benefits of AI and mitigating risk while incentivizing organizations to invest in AI system governance and responsible AI products. We focus our thoughts on the scope of AI accountability mechanisms that should be broad enough to encompass certification, audits, and assessments, but also adaptable to evolving technologies and practices. It should involve collaboration between government, regulatory bodies, industry stakeholders, academia, and civil society to develop comprehensive frameworks that address the challenges and risks associated with AI design, development, and deployment. Additionally, mechanisms should consider international cooperation and harmonization to facilitate consistent standards and practices across borders while accommodating cultural, legal, and societal differences. AI accountability measures should cover a range of topics to ensure responsible and ethical AI practices. As NTIA continues its work on drafting and issuing a report on AI accountability policy development, BigBear.ai strongly encourages the development of policies and regulations that support and encourage responsible innovation. Put simply, we believe in the power that responsible technology can play in regulating technology, and believe that today, more than ever, it is not only possible but necessary for AI accountability to be successful. Lastly, I want to share our excitement on the announcement of our new Chief Technology and Strategy Officer, Ted Tanner. Mr. Tanner has more than 30 years of experience, most recently serving as CTO and Chief Architect at IBM Watson Health, now Merative. Ted also has held architect positions at both Apple and Microsoft and has co-founded several acquired startups, including most recently PokitDok, which was acquired by Change Health. He also created one of the first machine learning and natural language processing as a service companies on Amazon AWS called Belief Networks. His extensive experience will be instrumental in delivering technology-led solutions for leaders in government and defense, manufacturing and warehouse operations, and healthcare and life sciences. As I think about the team that we've assembled over the last year, we truly experienced the best of both worlds. We've elevated top talent that was already in place at BigBear.ai and added top talent from outside of the company. We are never done evolving, but I feel great about how we're positioned to lead in the AI industry with this team. With that, I will turn the call to Julie for a detailed review of our financials.

Julie Peffer, Chief Financial Officer

Thank you, Mandy. This past quarter, we executed well in the face of market challenges, including headwinds from the bankruptcy of Virgin Orbit. Additionally, as we make progress on our transformation to a higher-margin technology-led solutions business, we are seeing our contract mix begin to shift and move away from programs like EPASS. EPASS represents a legacy program, where we operated as a subcontractor focused on resort staffing for the US Air Force. Despite these headwinds, we delivered on what we set out to achieve. This is a testament to the team we are building, the quality of our solutions, and our ability to execute and grow within our markets. If anything, the current geopolitical climate has highlighted the need for advanced technologies like artificial intelligence and our national security efforts, and we are seeing increased interest in our capabilities as a result. Now, let's turn to quarter results. Revenue for the quarter was $38.5 million, up 2% year-over-year compared to $37.6 million in the second quarter of 2022, and up 9% year-to-date. As always, I want to emphasize that our revenue can be lumpy and can fluctuate meaningfully depending on the quarter in which contracts are awarded, milestones achieved, or contracts completed. For Q2, year-over-year growth was driven by our US Army GFIM contract, partially offset by the termination of the Virgin Orbit contract and the completion of one phase of our EPASS contract. Total gross margin was 23% in the quarter, a 220 basis point decrease from 25% in Q2 2022, driven primarily by the loss in revenue and gross margin from Virgin Orbit after they declared bankruptcy in April. In terms of this contract, we initially anticipated that the company would be sold quickly, but this has not materialized. So, we are taking further action to write off most of what is remaining from the Q1 invoice this quarter, which is reflected in our SG&A expenses. Backlog was $206 million at the end of the second quarter, which is up 5% or approximately $9 million compared to the first quarter of 2023. This increase is largely driven by awards for the GFIM extension, AIMMS contract, and G3 Analytics. Now, turning to expenses. For Q2, operating expenses were approximately $19.2 million, which included R&D expenses of $2.2 million and SG&A expenses of $16.9 million. We want to highlight that SG&A is down $10 million or 37% versus last year when Q2 SG&A were $27 million. This significant reduction in SG&A was due to the effects of headcount reduction actions taken in the third quarter of 2022 and first quarter of 2023, to realign our operating structure in addition to rationalization of our third-party vendor expenses. On a year-over-year basis, total operating expenses were lower by 70% this year in Q2 or 35%, excluding the goodwill impairment expenses in Q2 2022. Our net loss was $16.9 million in the quarter, versus $56.8 million in Q2 2022. The current quarter includes a $3.1 million non-cash charge related to the fair value adjustments on warrants that were issued in 2023. Additionally, the company booked a bad debt reserve of $675,000 this quarter related to the unpaid receivables from Virgin Orbit. Excluding the second quarter 2022 non-cash goodwill impairment charge of $35.3 million, operating expenses have decreased approximately $10.5 million in Q2 of 2023 versus the comparable period. Similarly, our overall operating loss has improved by approximately 50% and $10 million even after the Q2 2022 goodwill impairment charge is excluded. Adjusted EBITDA was a loss of $3.2 million in Q2 2023 compared to the adjusted EBITDA loss of $7.7 million in the same period a year ago or a 58% year-over-year improvement. While we are pleased to report this level of improvement, we remain committed to driving improved operating efficiency in the second half of 2023 and beyond, with a focus on gross margin improvement, and continued rigor on operating expenses. Q2 adjusted EBITDA was impacted by the additional bad debt reserve and gross margin loss from Virgin Orbit, partially offset by improved performance on our GSM contract compared to last quarter. In review of the balance sheet, at the end of the second quarter, we had cash and cash equivalents of approximately $29.9 million. The increase was due to $22.8 million of net proceeds from the registered direct offering we completed in June. We are also expecting an additional $11 million of government receivables in the quarter, that will now come in Q3 due to the timing of payments. Most of these have already been received. As we stated last quarter, we continue to focus on lowering our cash burn in the second half of 2023 to get to positive operational cash flow, which excludes non-recurring and non-operational items such as interest payments, legal and transaction fees, and tax payments for stock vesting. Now, turning to our financial outlook. Today, we are reaffirming our guidance of expected 2023 revenue in the range of $155 million to $170 million. We continue to expect adjusted EBITDA to be single-digit negative adjusted EBITDA in millions for 2023. As Mandy previously stated, we are doing what we set out to accomplish in 2023, and our momentum continues to build. The anticipated GFIM extension, AIMMS awards, and continued partnership and expansion with L3Harris gives us increased confidence in our leadership position within AI. With a stronger balance sheet, better operational execution, the right partners, and a talented team in place, we continue to build, and we are looking forward to growth to come. And now I turn to Mandy for final remarks before we turn to Q&A.

Mandy Long, CEO

Thank you, Julie. We have already made a great deal of progress and I am extremely excited about what we're building and the path ahead. Operator, we are ready for questions. Thank you.

Vivek Palani, Analyst

Hi. I'm Vivek on for Mike Latimore of Northland Capital. I have a couple of questions with me. And the first one is, what is your headcount, and are you planning on adding more by the year end?

Julie Peffer, Chief Financial Officer

Hi there. Sorry, I missed your name. I missed the name, sorry about that. Vivek. I'm sorry, I missed the name. Sorry. Sure. Great. Thank you for the question. Our headcount, we don't actually release our headcount numbers. But I will say, and I mentioned on the call on my scripted remarks that we are ramping down from a specific contract and ramping up on others that is showing that our headcount is actually coming down right now because of some of those contracts that are heavily weighted toward labor. But that is not a number that we specifically release. We will be growing headcount specifically in some areas based on key investments that we're making. But we're not releasing the specific headcount numbers at this time.

Vivek Palani, Analyst

Okay. My next question is, are you expecting the large phase of GFIM to get awarded in the fourth quarter of this year?

Mandy Long, CEO

Hi, Vivek. This is Mandy. It's nice to talk with you again. To follow up on Julie's earlier comments regarding headcount, we have several open positions that we are hiring for, particularly related to the contracts we are currently executing and those expected to transition to GFIM. From an expectation standpoint, as we consider the extension, that is certainly our hope. As we continue to collaborate with the customer and assess timing, we will provide any updates if there are changes. But as of now, yes, that is our current expectation.

Vivek Palani, Analyst

Thank you. The last question is where do we expect the gross margins to trend in the second half of the year?

Julie Peffer, Chief Financial Officer

Yes. Great question. Yes. We saw some headwinds in the first half of the year. I think I talked a little bit about these, but specifically, between some contracts that we're ramping down. And as you recall, we talked about Virgin Orbit coming off our books, and that obviously is creating some headwinds for us in Q2 specifically. But we actually see that we have some contracts that are ramping down that are lower margin and other contracts that we already are anticipating that are ramping up that are going to give us that better margin in the second half of the year. We're very confident that it's going to improve in the second half of the year. So, I can provide a little bit more detail maybe offline, but happy to give you a little bit more of that when we connect later.

Mandy Long, CEO

And Vivek, one comment that I'll make, we talked about it a little bit in our opening remarks regarding this particular quarter. But I think it's worth reinforcing that right now, we are in the midst of very deliberately looking for places where we can shift away from businesses that are part of our large portfolio that have margin ceilings towards those with a larger opportunity for margin expansion. And that's a lot of what I think Julie was really getting at as we look at how we think about how our backlog is changing, how we think about our mix from a contract basis is changing. We are seeing great indicators in terms of how we look at our mix, our fixed price mix going up quarter over quarter. And I think that those are indications when we look into the second half of the year that I think make us feel good.

Louie DiPalma, Analyst

Hi, Mandy and Julie. Good afternoon.

Julie Peffer, Chief Financial Officer

Hi, Louie.

Louie DiPalma, Analyst

Julie, are you able to quantify the impact of the portion of the EPASS subcontract ending? And are you able to estimate what is the underlying growth of the business excluding this EPASS headwind?

Julie Peffer, Chief Financial Officer

Yes, it's accurate to say that I can provide some insight about EPASS. EPASS is a legacy program where we served as a subcontractor. The ramp down process occurs in two phases. Last quarter, we were informed that EPASS would transition to a new prime contractor, which is the same entity we previously subcontracted with. This shift involves two parts: one phase will conclude at the end of Q1, and the other will wrap up within Q3. Therefore, it will gradually phase out over time. However, we are not disclosing specific details regarding its impact. This is why I mentioned that quarterly results can be inconsistent depending on the timing of contract transitions. You can observe this variability in our results, which we always take into account as part of our operations.

Louie DiPalma, Analyst

Great. Thanks, Julie. And Mandy and Julie, congrats on the GFIM six-month extension. Is BigBear expected to be awarded the production GFIM contract at the end of this year? And with the current annual run rate, roughly $17 million, should the production cash run rate roughly double that amount?

Mandy Long, CEO

So, I can take the...I'll take the first part of that. So, from a production award point, as we shared, it was part of the extension, right? We're the sole prime vendor included in that. I think it puts us in a great position, right, when we think about what we're doing to deliver value for the customer and so our chances as we look into the production award. But ultimately, obviously, as you know, Louie, the decision lies with the customer, but we will do our best to continue to deliver. And I think that's why we are into the Phase 2 extension.

Louie DiPalma, Analyst

Great. And Mandy, you also mentioned you received the sole-source AIMMS OTA, and that involved a no-code/low-code solution. Is there the potential that AIMMS AIM can be in the same total contract value size as GFIM? Or how would you like to estimate the size for investors on the call?

Mandy Long, CEO

I want to highlight that there is clearly a notable pattern emerging. As we reflect on our collaboration with GFIM and our ongoing efforts in AIMMS, it’s important to emphasize the strong partnership and successful track record we have in executing transformation projects related to core business systems within an intelligent automation platform. Regarding contract size, we anticipate that, as we transition from Phase 2 into production, the value of these contracts will increase significantly. While we do not have a precise figure at this moment, it is reasonable to expect a similar trend.

Louie DiPalma, Analyst

Great. And another question, with the equity offering, what is the new diluted share count that we should be using?

Julie Peffer, Chief Financial Officer

Let me give you that; I've got that handy. Hold on just one second. Share count for the end of the quarter or for the average for the quarter? I can give you both. The ending share count is 155,453, and the average for the quarter is 145,469.

Louie DiPalma, Analyst

Great. And one final one, with SG&A continuing to be optimized, is there potential for further cuts into the second half of the year? Or are we currently at the optimal level?

Julie Peffer, Chief Financial Officer

Yes, go ahead, sorry Mandy.

Mandy Long, CEO

No problem, Julie. I would say that we are currently in a strong position and have a lot to be proud of regarding our progress over the past nine months. The improvements we are experiencing year-over-year are substantial. I am particularly proud that we have effectively controlled our operating expenses while continuing to grow, which reflects the strength of our exceptional team and our commitment to pursuing and expanding opportunities. Looking ahead for the rest of this year, I believe we are in a well-balanced position, but we will always seek opportunities for additional automation and optimization. I also believe there is always room for improvement.

Louie DiPalma, Analyst

Yes.

Julie Peffer, Chief Financial Officer

Yes. Let me add a little bit to remind everyone that we committed to delivering $20 million in annualized savings last year after implementing our reductions. If you compare our community members, we have achieved over $30 million in annualized savings against the Q2 baseline we set. We are very proud of the work we've done to realign our cost structure. Even with this improvement, we remain dedicated to enhancing our operating efficiency, which will take time. We will continue to maintain strict control over our operating expenses. I do not expect significant changes, but as Mandy mentioned, this will always be a focus for us, and we will continue to see the impact in our numbers.

Louie DiPalma, Analyst

Great. And one final one, there's obviously a lot of excitement associated with generative AI in the market for both federal, defense customers and commercial customers. Can you describe how this is impacting your pipeline of award opportunities as you have your own intellectual property here, and how is that translating? Thanks.

Mandy Long, CEO

Yes, I can address that. Generative AI represents one area of opportunity where we are noticing interest from our sales team. However, as we analyze our pipeline and diversify, it's clear that our focus is not solely on that. Our approach to utilizing advanced technologies involves a variety of tools. Ultimately, our priority in engaging with customers is to understand the problems they need to solve and the challenges they are encountering. We then select the appropriate technology that aligns with what is feasible and practical. It's remarkable that many capabilities that once resided only in labs have now become both possible and practical. Consequently, we are discovering an increasing number of opportunities to incorporate these into the solutions we provide to our customers.

Louie DiPalma, Analyst

Great. Yes, I was getting along the lines of how last quarter you discussed the expansion of your partnership with L3Harris for their unmanned surface vessel. You're integrating your software into their platform and how there's probably other opportunities for similar partnerships. There's a lot of excitement in the market. Thanks.

Mandy Long, CEO

Yes, I think that's all said. And I think you're right. I think there's this interesting intersection that we're seeing emerge between those who are building and have expertise in building and delivering these physical platforms and organizations like BigBear.ai where our superpower lies in software and underlying technology that when you put them together, it is absolutely a differentiator. And so some of the things I see as we look forward, I think we're going to have more opportunities for partnerships where two organizations can come together and say we've got some really complementary stuff and let's combine it and take that to market because it will ultimately benefit the customer.

Norm Laudermilch, Chief Operating Officer

At this time, there are no further questions. I'd like to turn the call back to management for any closing remarks.

Mandy Long, CEO

A huge thank you to everyone for joining and for the wonderful and thoughtful questions. As I shared earlier, I think we have, in the nine months that I've been in this role, really focused on being clear to the broad market around what it is that we're focused on, who we are, and what we're setting out to do. I think this quarter is another great example of what you can rely on from BigBear.ai and this leadership team associated with doing what we said. And as we look into the second half of this year, we continue to be excited. 2023 has been, from the beginning, right, since I stepped into the role, a foundational year for this organization. The world is changing around us every day as we go through the Fourth Industrial Revolution, and BigBear.ai has all of the parts to play a very significant role in moving that ball forward. We look forward to reconnecting with everyone next quarter. Thank you so much.

Norm Laudermilch, Chief Operating Officer

Thank you everyone for attending today's conference call. This does conclude today's call. You may disconnect. Have a wonderful rest of your day.