Good day and thank you for standing by. Welcome to the Kratos Defense & Security Solutions First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Marie Mendoza, Senior Vice President and General Counsel.

Thank you. Good afternoon, everyone. And thank you for joining us for the Kratos Defense & Security Solutions first quarter 2023 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 turn the call over to Eric DeMarco.

Thank you, Marie. Kratos completed Q1 on track for 2023 as a transition year to expected sustained future year-over-year organic growth, increasing profit margins, and cash flow, as our company realizes the benefits of the investments we have made and we transitioned from development to production and delivery in certain areas. Kratos is also on track for increased margins in cash flow in Q3 and Q4 of this year, as our revenue mix continues transitioning from older firm fixed price contracts where we were enabled to pass on significant inflation and increased costs to newer more recent contract award related revenues, where we negotiated higher rates and costs with our customers as included in our Q1 and last 12 month 1.1 to 1 book-to-bill ratio. And though the supply chain still has challenges we have begun to see some stabilization and reduction in lead times and pricing, which is also providing confidence in our future forecast. Highlights since our last report to you include: the 2024 DoD budget request was released along importantly with the Future Years Defense Program or FYDP, also referred to as the five-year Defense spend plan both of which include new or increased funding and growth, including in the space and satellite, hypersonic, missile system in defense, strategic deterrence, microwave electronics, and drone areas. In the drone area, the USAF has requested approximately $6 billion over the FYDP period reflecting an increased prioritization, with it being reported that the Air Force is looking to ultimately procure up to 2000 drone systems and the Secretary, Kendall commented that drones are uncrewed aircraft are now considered essential to the Air Force’s future. It was also reported that the Air Force stated that the expected drone cost would be a fraction of the cost of an F-35 or approximately $20 million per missionized system, and it was reported that an affordable mass concept is a key element behind the Air Force’s advanced drone initiative. We believe that Kratos’ tactical jet drones flying today are recognized as the most capable and affordable in their class with the key reason being that we leverage off of the same supply chain partners, vendors, and teammates, which support the production of approximately 150 made-in-America Kratos jet drone aircraft annually, which also reduces risk to our tactical drone customers. Kratos has disclosed that the price points for our tactical jet drone systems range from approximately $450,000 for Tactical Fire Jet Air Wolf to approximately $6.5 million for Valkyrie of low quantities. We also believe that Kratos Ghost Works is the recognized leader in the rapid development and delivery of low-cost tactical jet drones including Kratos’ Valkyrie, where Ghost Works went from a clean sheet of paper to successful first flight in 30 months and additional new systems that Kratos’ Ghost Works is currently working on. Accordingly, we believe that if a competitor elected to enter this class of affordable tactical jet drones, they are at least three to four years away from first flight and who knows what cost to the customer. Since our last report to you about the U.S. Navy and the Marine Corps has indicated their increased prioritization for high-performance jet drones including with the Navy reportedly stating that they envision up to 60% of the future Navy Air Wing being comprised of drones. So, it’s now clear that the Pentagon is planning a future that includes significant numbers of affordable high-performance jet aircraft or systems, and the funding is now being requested to achieve this vision as reflected in the 2024 budget request and the FYDP. Since our last report to you, Kratos has received additional tactical drone contract awards, including those related to Kratos’ Valkyrie, and we are in negotiations for additional contract awards, which we expect to receive in the coming months. Since our last report, it was reported that one mission the Marine Corps’ Valkyries are focusing on include electronic warfare effects in conjunction with the F-35 and strengthen the assault support platforms all under the penetrating, affordable, autonomous, collaborative killer program. Kratos has also recently received an additional USMC Valkyrie contract award related to sensor payloads, mission system and subsystem integration, and Kratos is also now under customer-funded contract related to the Valkyrie for the development and testing of autonomy and pilot vehicle interfaces, ground and flight operations, and additional Valkyrie test flight related events. Since our last report to you, Kratos has continued to have successful tactical drone flights as we evolve the system with our customers. Over the balance of this year, Kratos jet drones are scheduled to perform numerous under contract customer-funded flights. Kratos is the only company with affordable high-performance American-made jet drones flying today, and we are focused on continuing to increase and expand our first-to-market leadership position with our customers. While other companies and potential competitors are imagining things with PowerPoints renditions, models, and surrogates, Kratos is currently flying and has been flying for several years under U.S. Government funded contracts here in the United States. At the Oklahoma Burns Flat range facility, Kratos unmanned systems and our Ghost Works can fly our drones and exercise systems including new yet-to-be-disclosed systems that Kratos’ Ghost Works is focused on and that the competition and others know nothing about. For example, just this week Kratos had a very successful test event at the Burns Flat Test Range with the new system, which I am confident that neither our competition nor adversaries are aware of in any way. We are completing the first serial production run of 12 Block 1 Valkyries in Oklahoma City, and we have begun the second production run of 12 additional Block 2 Valkyries, and it now looks like at least half of the Block 2s will be Block 2Bs incorporating a new additional capability based on very recent specific customer input. Since our last report to you, Kratos’ Unmanned Systems was awarded a share of a $400 million ceiling IDIQ contract for research and development for the advanced aerospace systems technology research program. This contract has multiple awardees with the primary objective of the program to conduct research towards the development, demonstration, integration, and transition of new aerospace vehicle technologies, designs, and integrated systems that will provide advanced capabilities to the Department of the Air Force. The advanced aerospace systems technology program contract award is yet another example of Kratos and our Ghost Works continuing to have success, competing for and winning certain of the most advanced capability opportunities for U.S. National Security. Based on information included in the 2024 DoD funding documents and the FYDP, statements made by the government customer representatives, additional information we have received, and the progress we continue to make, we remain confident in the future success of Kratos’ tactical drone business. Kratos’ target drone business is performing well, driven by producing and delivering what we consider to be the highest performance threat representative jet drone systems in the world with our primary customers including the United States Navy, Air Force, and the Army. The global recapitalization of strategic weapon systems and the requirement to test and train on these weapon systems is providing a strong macro-level catalyst for Kratos’ target drone business. Kratos’ space, satellite, and cyber business, our company’s largest, continues to receive new program awards, including with Kratos’ first-to-market virtualized and software-based OpenSpace family of satellite ground communication systems. I encourage you to review today’s release on recent milestones and progress Kratos’ satellite business and our OpenSpace product and system family has achieved, including as disclosed at the recent National Space Symposium. Since our last report to you, Kratos’ satellite business, as a key team member to our prime partner, was notified that the team has been successful on a large new multibillion-dollar Satellite Constellation Program, which includes Kratos’ OpenSpace, which program could ultimately be worth several hundred million dollars to Kratos. We believe that this is another representative example of Kratos’ disruptive technology-based, first-to-market strategy success and our leadership position with our OpenSpace system. The days of the ground satellite segment trailing space capabilities are ending, with a new wave of ground system advances, including Kratos’ OpenSpace that can support multi-orbit constellations and the specifications that both 5G and the new generation of high-bandwidth satellites require and also the interoperability needed for the new breed of flexible, low earth-orbit constellations to achieve scale and broad market growth. The ground system segment ecosystem, including electronically steerable antennas and modem companies to integrators and network providers, are all leaving legacy siloed standalone ground systems and transitioning to software-defined and based virtualized architectures, which is exactly where Kratos' first-to-market OpenSpace systems are positioned and why we are so excited about Kratos’ space and satellite business going forward. There are thousands of satellites planned to be placed into orbit into the future, and this is expected to be a key macro and industry catalyst for Kratos’ space and satellite business along with our OpenSpace software suite. In Kratos’ C5ISR business, the Sentinel program with Kratos’ key strategic partner, Northrop Grumman, is expected to be one of Kratos' largest, fastest-growing and most important programs for the foreseeable future. Additional well-funded priority programs in Kratos’ C5ISR business include SCAR with space control network, Patriot, HIMARS, FAD, IBCS, which has now received full-rate production, SHORAD, Enduring Shield, TITAN, certain other space and satellite programs, and counter UAS programs and systems, which are very relevant in what’s going on in the world today. Kratos’ turbine technology continued its outstanding performance in Q1 with KTT being one of Kratos’ fastest-growing and most profitable businesses with a multibillion-dollar B-52 Re-engine Program being one of our most important. Additional current growth areas for KTT include supersonic and hypersonic propulsion systems and space and launch-related propulsion systems. Also, the significant increased funding in the FY 2024 budget request and FYDP for drones and also missiles and powered munitions, we expect to be a macro industry growth opportunity and driver for KTT and our engine business. Kratos’ rocket systems business is also expecting future growth, including as related to our products, technologies, and systems for hypersonic, missile defense target, test, and evaluation systems. For example, our rocket system business customer-funded launch, manifest, and scheduled for the next 24 months is at its strongest in our history and is representative of Kratos’ trusted disruptive position as a go-to rapid critical launch and other related systems provider. Kratos is internally funded and soon to be first-to-market Zeus propulsion and Erinyes hypersonic systems remain on schedule, and we are far enough along now to disclose to you an additional Kratos vehicle, Dark Fury, now also scheduled for flight next year. Kratos’ microwave electronics business, which supports space, missile, missile defense, radar communication, and other systems, also started our 2023 well, continues to have record backlogs and is forecasting future growth and increasing margins. We believe our strategy of making internal investments in technologies, products, and systems to be first-to-market, with relevant offerings that address real needs and requirements now in today for our customers, is demonstrating success. As I said before, Kratos doesn’t sell renditions, pictures, or hoped for maybe someday products that who knows what cost like certain of our competitors with a demonstrated history of doing this and then failing in future execution. Kratos brings real products that actually work with actual costs and pricing to the customer and we believe this strategy is a winner. At Kratos affordability is a technology, and better at some later date if ever, is the enemy of good enough now. We believe that we are at the beginning of a sustained year-over-year upward revenue growth trajectory with increasing profit margins and operating cash flow. With a number of large new programs we have received and additional programs we expect to receive, our backlog is at near record opportunity pipeline at approximately $10 billion. We are focused internally on operations and execution, and accordingly, we do not anticipate making any acquisitions for the foreseeable future. Our ability to hire, obtain, and retain qualified engineering, technical, manufacturing, and other personnel remains absolutely key to Kratos achieving our objectives and future financial forecast, and we are laser-focused on this and successful execution. With that, I will turn it over to Deanna.

Thank you, Eric. Good afternoon. As we included a detailed summary of the first quarter financial performance, as well as the second quarter and full year 2023 financial guidance in the press release we published earlier today, I will focus on the highlights of my remarks today. Revenues for the first quarter were $231.8 million, up from $196.2 million in the first quarter of 2022, reflecting an 18.1% increase. Excluding the impact of the SRE acquisition, which contributed $12 million in revenues in the first quarter of 2022, Kratos’ consolidated revenue grew organically 12%, including a 22.5% organic revenue growth rate in our space satellite and cyber business. Programmatic ramps in production have also resulted in organic revenue growth realized in our C5ISR, turbine technologies, and microwave products businesses. Included in cash flows from operating activities for the first quarter of 2023, are working capital requirements to support the revenue growth, as well as continued advanced purchases of inventory in an effort to mitigate supply chain disruptions and delays. Also included in our working capital usage are continued internal investments of approximately $4 million related to non-recurring engineering costs to complete new rocket systems and hypersonic and related products including for Kratos Zeus and Erinyes systems, and continued development of certain software products supporting our OpenSpace platform. Our contract mix for the first quarter was 71% from fixed-price contracts, 23% from cost-plus contracts, and 6% on time and material contracts. Revenues generated from contracts with the U.S. Federal Government during the quarter were approximately 69%, which includes revenues generated with the DoD, non-DoD Federal Government agencies, and FMS contracts. In the first quarter of 2023, we generated 11% of revenues from commercial customers and 20% from foreign customers. We continue to make progress in our hiring and retention of skilled technical labor, with a notable net increase in headcount of 19, plus an additional 17 clearing the pre-hire process since the end of 2022 in our C5ISR business, and a total increase in consolidated headcount of 58 from 36, 45 at year-end to 3703 at the end of the first quarter. Now moving on to financial guidance. Our second quarter and full year 2023 financial guidance we provided today includes our current forecasted business mix and our assumptions related to the expected continued impact of challenges related to obtaining and retaining qualified personnel, supply chain disruptions, inflation and related expected cost and price increases that are currently and expected to continue impacting both the industry and Kratos. Throughout 2022 and in the first quarter of 2023, Kratos has experienced a continued impact, although, at a more stabilized rate from supply chain disruptions including cost increases for materials, supplies, transportation, and utilities, and fulfillment delays causing increased costs and inefficiencies related to manufacturing, including in our indirect manufacturing rate. As our contract mix is predominantly from fixed price, we are required to absorb these additional costs until the period of performance is completed on existing backlog and new contracts are negotiated with current pricing. Accordingly, as we transition to new contracts over 2023, we expect margin rates to continue to be lower in the first half of the year as a period of performance on existing backlog is executed with an expectation of margin improvement in the second half of the year as a mix of the newer recently priced contracts is expected to increase. Our revenue guidance for the second quarter of 2023 reflects an approximate 3% to 7% increase over the second quarter of 2022. Based upon funding, production, delivery, and execution schedules, second half 2023 revenues are expected to ramp and be sequentially greater than the first half of 2023, with margins expected to expand in the second half of the year on increased revenue volume based on the expected mix of revenues, including new fixed-price contracts, which include more recent cost estimates. Estimated incremental ramps in production in the second half of 2023 are expected to be driven by a handful of key programs in our space, satellite and training, C5ISR, unmanned systems, and defense rocket businesses, many of which Eric highlighted previously. Operating cash flows are expected to be stronger in the second half of the year as well, driven by the expected expansion in margins and the expected conversion of inventory build from FY 2022 and for the first half of 2023 and based upon estimated milestone payment schedules.

Thank you, Deanna. With that, we will turn it over to the moderator for any questions.

Thank you. Our first question comes from Michael Ciarmoli with Truist Securities. You may proceed.

Hey. Good evening, guys. Thanks for taking the questions. Eric or Deanna, just on the guidance, the significant increase in operating income, I think, raised the midpoint by 38%, there are some other moving parts in there. But, I mean, is that all tied to kind of what you just talked about repricing some of the contracts or I could notice there were some other changes with stock comp and the net of it is we still have the same EBITDA, but can you walk me through that?

Yes. Michael, it’s predominantly the estimated amortization, depreciation, and stock comp that when they first came in 2023. So those changes have been flowed through in our current guidance. So the EBITDA remains intact with where we were before, but so those non-cash items impact those three categories and therefore impact the operating income just the way it falls out through the income statement.

Okay. Okay. And then, Eric, obviously, a lot of commentary helpful there. What sort of, I mean, I guess, we have the Air Force making the ultimate decisions here with NGAD. It sounds like your customer activity is moving a bit faster than sort of the highest level and what Secretary Kendall is thinking. I mean what’s the ultimate goal of these customer flights? I mean, how do we think about programs of record that’s everything sort of roll up under NGAD or just how should we think about the landscape right now?

I think the way to consider the landscape is budgetary and future amount of budgets going forward and our services having to have aircraft to address multiple global threats that are either near-peer or already peer threats like Russia and China. And I believe the Pentagon has determined, as reflected by the 2024 budget request and more importantly the FYDP. As I tried to give some examples, the way to do this is with high-performance jet drones. And in addition to addressing the quantity issue, weapon systems that the adversaries have are increasing with Valkyrie, so the drone to keep our pilots, to value human life, some of our adversaries do not keep them out of harm’s way, et cetera. The way I think about it is and the way I personally think about it is, there is a macro shift happening to a brand new system. High-performance jet drones with augmented autonomy, or if you will, artificial intelligence that can carry weapons, that can do CAD, that can do DAD, some of them they can do EA, all types of missions. And I think the funding, the multiple billions in the FYDP period are representative of that. I think that’s the best way to think of it that this is finally happening, it’s happening in a big way and it’s happening across every service trench.

Okay. Last one, just kind of on that topic and I will jump back in the queue. I mean you threw out kind of the $20 million price point that Secretary Kendall mentioned a couple of weeks back. I mean, are you thinking about going at this market as a prime contractor or would you be better served being a sub to a larger entity in providing an airframe and letting someone else missionize it and take on all those associated risks?

All right. It may very well turn out to be both.

Okay.

And let me give you an example. So, for example, we are a prime with United States Marine Corps right now. We are a prime, right? We are a prime with another customer we haven’t talked about, we are prime. And if the best business answer for Kratos and all of our stakeholders is for us to partner with someone and not being the prime, but being a partner, we will absolutely consider doing that.

Okay. Got it. All right. I will jump back in the queue. Thanks, guys.

Okay. Thank you.

Thank you. Our next question comes from Mike Crawford with B. Riley Securities. You may proceed.

Thanks. It’s nice to see the uptick in bookings in unmanned systems that I believe is related not just to the Valkyrie you sold, but also targets, including a plus up for the Navy SSAT. Could you ready set what amount of revenue you expect to get from targets in coming years? And related to that would be the annual cadence of SSAT drones, which I think, if we go back like five years ago or so we thought it might be a little higher than it is now even with this most recent plus up?

Yeah. Mike, so it’s consistent with what we guided to when we provided 2023 initial guidance. So approximately flat full year consolidated unmanned systems with approximately $40 million to $45 million related to tactical drones, primarily Valkyrie related with the balance of that to target drones.

Right. And so beyond this year, just like in general where you see say targets going several years from now?

So over the next couple of years, as indicated by the book-to-bill ratio of 1.9 to 1, which was largely due to target drones, we anticipate growth in our target drone segment. This is primarily driven by developments in Europe and Ukraine, as well as additional countries joining NATO. There's a renewed interest in surface air weapon systems to counter drones, making our target drones relevant in addressing threats. We believe our target drone business will experience significant growth due to these global events. I will remain very cautious regarding the tactical side, as I have been for the past few quarters, and we will report developments as they occur, rather than based on projections or statements from others.

Thank you. Shifting topics a bit, regarding the $400 million IDIQ from the Air Force Research Laboratory that was awarded to General Atomics, Lockheed, Northrop, Aurora, and your company, do you anticipate that all of those funds will be utilized for that type of project, and do you have an estimate of what percentage you might secure?

I see this situation as very similar to the Skyborg program. When Skyborg was announced, there were over 15 awardees, but ultimately, only three were significant, and Kratos was one of them. I believe we are experiencing the same scenario here, as evidenced by our progress with the $400 million funding, and I am confident we will perform well, just as we did with Skyborg.

Okay. Thank you. And then one last one just switching to space. So of all of this revenue, how much would you characterize as the OpenSpace software revenue? And then kind of related to that, let’s just take the BlueHalo contract, where you are, I think, going to recognize $160 million of revenue over eight years, whether that’s something that’s more of a straight line or based on milestones or anything you can tell us regarding those points?

The second question relates to our programs, which typically follow a bell curve pattern. For example, over a span of seven or eight years, we see a gradual increase in the initial years, followed by a rapid ascent as we approach the peak of the bell curve. After the majority of systems are deployed, we shift into a maintenance phase and begin to see a decline. I expect this pattern with Sentinel, particularly with Northrop, where we anticipate a significant ramp in the next few years, which will serve as a major revenue driver for us. After this development phase, we will also notice a decline after a couple of years. It has been announced that the next phase of Sentinel, known as LRIP, is expected to be awarded in 2026, which will initiate another upward trend in our bell curve, similar to trends in our space business. We are successfully layering these bell curve trajectories, which makes us confident in our organic growth expectations over the coming years. Regarding your first question, I want to emphasize that we would not be securing these large contracts in the space sector without OpenSpace. We have transitioned from being a component provider to becoming either the system provider or a major subsystem provider. Alongside OpenSpace in software, we are still supplying some legacy hardware that our customers trust, especially in specialized situations, as well as antennas. The antenna business we acquired previously has been highly successful. As for margin increases, yes, we are beginning to see that now and expect it to grow throughout the year. With the increased software content and the licensing of OpenSpace as part of these contracts, we anticipate an improvement in margins as we secure more such agreements.

Okay. Excellent. Thank you very much.

Thank you, Mike.

Thank you. Our next question comes from Seth Seifman with JPMorgan. You may proceed.

Thanks very much. Good afternoon. I wanted to start off asking about unmanned and just thinking about the trajectory for the year. Obviously, there’s a lot of growth to come. We can see it in the backlog. But started off down in the first quarter. And just is it kind of a gradual walk higher through the year in unmanned or is it that before certain markets going, it’s going to take into the back half?

Yeah. Seth, it’s a gradual walk from Q1 to Q2 sequentially and then we will see a more notable increase into Q3 and Q4.

Okay.

And that’s based on execution and the programmatic involvement with the backlog that we have.

Sure. I have a similar question regarding cash flow. One significant item that caught my attention was the receivables from the quarter. I assume those will be collected throughout the year, but could you provide some insight into the cash trajectory?

Certainly. As I mentioned earlier, we anticipate lower cash flow generation in the first half, with an improvement expected in the second half. This is contingent on working capital funding and growth related to receivables. Given our 12% organic growth, this is being supported by the receivable line and, according to milestone and payment schedules, we expect to see some return in the second half, along with our ongoing inventory buildup across all business units.

Okay. Great. If I could just ask one last question qualitatively about the supply chain situation, it seems to be improving and perhaps becoming a bit more stable, but we're not quite there yet. What inning do you think we’re in, and where do you anticipate we will end the year regarding the various supply chain, inflationary, and labor challenges?

Overall, I think we are in the 6th or 7th inning.

Okay.

By the end of this year, I believe the situation will be resolved, provided we avoid significant disruptions and continue to fund the Treasury. My expectation is that we will reach a resolution. I see us currently in the 6th or 7th inning and anticipate that we will conclude this phase in the specialty metals sector by year-end. There has been clear stabilization and normalization in prices, particularly in composites and resins. However, certain areas of electronics and processing still face significant challenges. That said, we have reached a stable state, even if it remains difficult, which we can manage as it is consistent.

Okay. Excellent. That’s very helpful. Thank you.

Yeah.

Thank you. Our next question comes from Sheila Kahyaoglu with Jefferies. You may proceed.

Good afternoon. Hey, Eric. Deanna, how are you?

Hi, Sheila. Good.

Hi. I wanted to follow up on the question regarding the decline in KUS. What was the cause of that? Was it related to OBSS? Additionally, when considering the programmatic ramps in 2023 and 2024 in light of the funding profile, Eric, how do you see that developing?

So regarding the first part of your question, Sheila, there have been no announcements from any customer about the step down. However, as mentioned in last quarter's call, we are involved in a tactical drone program that we anticipate will receive additional funding for 2023. Unfortunately, the customer currently does not have that funding, which has prevented us from moving forward. Until we receive more information from the customer, I can't provide further details and I don't want to speculate.

Yes.

Okay. And with that Sheila, what was the second part of the question?

Just on like the 2023, 2024 ramp, what programs should we see kind of the biggest growth drivers and if you could update on the Skyborg program?

The biggest growth drivers are going to be GBSD Sentinel and in the target drone area, it's going to be SSAT. There is another program we have that is going into full-rate production now, but I cannot discuss it. In the space area, there's SCAR, the space control network program. We are also engaged with Intelsat on various projects. In our engine area at KTT, we're involved in propulsion systems, including supersonic engines, which are strong growth drivers along with the B-52 re-engine program. As we move into next year, these all relate to 2023. Additionally, I expect EPPIC, which focuses on ground equipment for Enduring Freedom, to be a significant growth driver, and we anticipate receiving LRIP on that later this year. Northrop Grumman has received full-rate production on IBCS, which is our program, and we expect it to be a major growth driver next year. The Mayhem hypersonic program is also projected to be a significant growth driver for Kratos next year, along with the Mark TB program that we have won. These are the main programs under contract that will contribute to substantial growth from 2024 compared to 2023.

Okay. Thank you very much.

Okay.

Thank you. Our next question comes from Ken Herbert with RBC. You may proceed.

Yes. Hey. Good afternoon, Eric and Deanna.

Good afternoon.

Good afternoon.

Hey. I wanted to ask Deanna maybe about the margin guidance, adjusted EBITDA. It looks like it steps down a little bit or flattish to down slightly in the second quarter, but then consistent with your comments, a nice step-up into the back half of the year. Is that all as a result of mix from better-priced contracts? And I guess my question is really, are there other levers you can maybe pull, and if any of these newer contracts or programs face any delays, does that put the full year margin and EBITDA outlook potentially at risk?

So it’s two things Ken. So it’s mix related to the fixed price contracts, the newer fixed price contracts coming online and then mix as far as the mix of what the end product of what we are delivering if it’s more software content or licensing that would then drive margins as well. So it’s two-fold with both those pieces.

Okay. Assuming the product mix remains the same, that could provide a positive boost even if there are some delays in ramping up certain fixed price contracts.

That’s correct. Yes.

Okay. And then as I think about the space business. I mean, you obviously called out nice growth, I think a little bit of growth than what we have heard from a number of the primes. How does that business in general move through the second quarter and into the back half of the year? And are you expecting to see similar growth through the rest of the year that you saw in the first quarter?

Yes. We are experiencing significantly increased margins, which relates to your question about the software contracts we have been awarded and are currently executing. These contracts are ramping up, and as we progress, the scheduled deliveries in the latter half of the year will involve license fees for software and software products. This will lead to increased margins embedded in those programs for us.

Perfect. I will stop there and pass it back. Thanks Eric. Thanks Deanna.

Thank you.

Thank you.

Thank you. Our next question comes from Pete Skibitski with Alembic Global. You may proceed.

Good afternoon, everyone. Eric, you spoke about Sheila regarding your growth programs for 2024. You mentioned Mayhem and Mark TB, and I wanted to ask you a few things. Please correct me if I'm mistaken, but I believe those are part of DRSS. Could you provide us with some clarity on how significant a revenue unit DRSS was last year and how it will look for 2024 and 2025 with the inclusion of Mayhem, Mark TB, and now Dark Fury?

Right. So last year in 2022, think of our rocket business at somewhere around $90 million in the ballpark. We were expecting that over the next couple of years to get to $150 million to $160 million.

It’s quite a ramp. Yeah. And the two you mentioned Mayhem and Mark TB are drivers predominantly?

They are not. There are two significant ones for next year. They are public, but I can’t talk about them. We are in some categories. It relates to what I've mentioned about our launch manifest. Our launch manifest this year and next year, which includes Kratos' rocket systems with multiple stages and various types of payloads for different missions, is remarkable. This is currently the primary growth driver for RSS. These are in the background, if you will. Additionally, there is the test-bed and mock test-bed program, as well as the Mayhem system program you referenced. Another way to view it is that we are involved in essentially every hypersonic program available, specifically regarding materials, coatings, fluid dynamics, and similar areas. If we are not part of every one, we are involved in most hypersonic programs out there.

This is kind of what Southern Research brought you along with some of your organic capabilities or ...

That’s right. That’s right. Southern Research is not a home run, it’s a grand slam home run. This is truly one plus one equals three.

Got it. And did I mention Dark Fury? Is that going to be another type of test launch vehicle for you to evaluate missile defense systems, or did I misunderstand?

No. It’s not that. It’s because of varieties, that’s all I can say.

Okay. Okay. Last one for me. You touched on it real early, but you should we worry about 2023 guidance in the context of the debt ceiling or a full year CR or do we worry more about 2024 with those types of events?

I haven’t experienced a government default, so if that were to happen along with the debt ceiling issue, I believe that would be problematic for this year. A continuing resolution depends on how things unfold, but if there were a three-month continuing resolution from October 1, 2023, to December 31, 2023, I don’t anticipate that it would significantly affect us in 2024.

Okay. Okay. Thank you. Appreciate it.

Okay.

Thank you. Our next question comes from Peter Arment with Baird. You may proceed.

Yeah. Thanks. Good afternoon, Eric and Deanna.

Hey, Peter.

Good afternoon.

Hey, Eric, I have a capacity question. There were comments last month about tripling the workforce in Oklahoma City. Could you provide an update on the current capacity there? I know you mentioned some details about the tactical drones and the next block. How are you organizing the active production lines for both the target and tactical projects?

I appreciate your question, Peter. Regarding our staffing situation, I mentioned during last quarter's call that it was improving. I'm pleased to report it has significantly enhanced since then and continues to get better. We are seeing an increase in the number of qualified candidates in engineering, technical roles, and manufacturing, including those eligible for high-level security clearances. A significant factor in this improvement is the recent layoffs at a major competitor, which let go of several hundred employees, nearly a thousand. Additionally, one of our main competitors in the drone sector has also had large layoffs in the past two months. This presents us with a great opportunity, particularly for individuals considering relocating from California to Oklahoma. The overall situation has improved drastically for us over the last six months, including the past three months. Now, regarding Oklahoma, we are currently producing three systems, two of which I can discuss: Valkyrie and Tactical Fire Jet. Our facility was designed with a base structure and two adjacent facilities, each roughly 100,000 square feet, allowing us options for expansion as business grows. We have started to utilize these options and are moving into those spaces. The next step for us, which I haven't mentioned in the last call but discussed previously, involves acquiring an additional autoclave. If everything aligns as I expect, I will inform you later this year or early next year that we have placed the order, as acquiring the next autoclave typically takes around nine months.

That’s helpful. Thanks, Eric. Deanna, I have a quick question about the working capital, which is quite negative this quarter. I understand you mentioned it builds throughout the year. Could you provide some insights on how you forecast the working capital profile for the remainder of the year? Thanks.

Sure. I see that use of working capital continuing in the second quarter and then to start improving in the third quarter and improving significantly in the fourth quarter.

That’s helpful. Thanks so much.

Thank you.

Thank you. Our next question comes from Joe Gomes with Noble Capital. You may proceed.

Good afternoon and thanks for taking my questions.

Hey, Joe.

Hi.

Real quick and I apologize if I missed this, in the last quarter, Deanna, you talked about the continuing resolution that was from last year was going to negatively impact the first quarter. I am just wondering what was the size of that impact in the quarter?

Yeah. So that reflects what some of the awards were that were delayed. So that impacted what our revenue guidance was for the quarter. So I don’t have a specific value for what that impact was since we looked at that a while ago. But my recollection is correct, it was probably in the $15 million to $25 million range on the topline side.

Okay. Thank you for that. And Eric, obviously, a lot of the stuff we talked about today in the unmanned, the satellite, the space, obviously, those are going to be the big drivers here. But you do have some other commercial, pardon me, types of products as you had talked in the past about the self-driving trucks for the agricultural system and the truck mounted attenuators, we don’t hear a whole lot about them. I am just wondering, what’s the status of some of those programs?

Our unmanned ground vehicle business, both in military and commercial sectors, is gaining significant momentum. In fact, I plan to release a summary soon regarding OpenSpace and the developments from the Space Symposium. Within the next month, I will share details about our current operations across various states, including our ATMA trucks that are under contract. We are actively working in fields with sugar beets and other crops. As previously mentioned, we aim to address the shortage of truck drivers and reduce insurance costs by utilizing manned trucks that lead robotic Kratos trucks. These robots, loaded with produce, automatically transport goods to processing centers for distribution. Additionally, we are exploring opportunities in the minerals sector while remaining in a stealth mode. Revenue from this business is projected to reach several million dollars by the end of this year, with significant growth anticipated in 2023 and 2024 as we fulfill contracts we have secured. I appreciate you bringing this up, and I will provide an update in the next quarter. Thank you.

We look forward to it, Eric. Thank you and thanks again for taking the questions.

All right. Thanks, Joe.

Thank you. Our next question comes from Allan Page with Jefferies. You may proceed. If your line is on mute please unmute. And I am not showing any further questions at this time. I’d now like to turn the call back over to Eric DeMarco for any closing remarks.

Great. Thank you, sir. Thank you for joining us this afternoon, and we will be circling up with you at the end of the second quarter. Thank you.

Thank you. This concludes today’s conference call. Thank you for participating. You may now disconnect.