Telos Q1 2023 Earnings Call Transcript

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Provided by Quartr
May 10, 2023

There are 6 speakers on the call.

Operator

Good day and thank you for standing by. Welcome to the TELUS Corporation Q1 2023 Earnings Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer Advising your hand is raised. Please be advised that today's conference is being recorded.

Operator

I would now like to hand the conference over to your speaker today, Alison Field. Please go ahead.

Speaker 1

Good morning. Thank you for joining us to discuss TELUS Corporation's Q1 2023 Financial Results. With me today is John Wood, Chairman and CEO of Telos and Mark Benza, Executive Vice President and CFO of Telos. Let me quickly review the format of today's presentation. John will begin with brief remarks on our Q1 2023 results and TELUS' strategic priorities.

Speaker 1

Then Mark will cover the financials and guidance for Q2 and full year 2023 before turning it back to John to wrap up. Then we'll open the line for Q and A where Mark Griffin, Executive Vice President of Security Solutions will also join us. The earnings press release was issued earlier today and is posted on the TELUS Investor Relations website, where this call is being simultaneously webcast. Additionally, we have provided presentation slides on our Investor Relations website. Before we begin, we want to emphasize that some of our statements on this call are forward looking statements and are made under the Safe Harbor provisions of the federal securities laws.

Speaker 1

These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ for various reasons, including the factors described in today's earnings press release, in the comments made during this conference call and in our SEC filings. We do not undertake any duty to update any forward looking statements. In addition, during today's call, We will discuss non GAAP financial measures, which we believe are useful as supplemental and clarifying measures to help investors understand TELUS' financial performance. These non GAAP financial measures should be considered in addition to, and not as a substitute for or in isolation from GAAP results.

Speaker 1

You can find additional disclosures regarding these non GAAP measures, including reconciliations with comparable GAAP results in our earnings press release and on the Investor Relations portion of our website. Please also note that financial comparisons are year over year unless otherwise specified. The webcast replay of this call will be available for the next year on our company website under the Investor Relations link. With that, I'll turn the call over to John.

Speaker 2

Thank you, Allison, and good morning, everyone. Let's begin today on Slide 3. Mark Benza will discuss the details of our financial performance later on in the call, but overall we executed ahead of plan in the Q1. We delivered $35,200,000 of revenue and our gross margin expanded 66 basis points to 38.3%, both above the top end of our guidance range. Adjusted EBITDA was an $846,000 loss and was also above the top end of our guidance range.

Speaker 2

We experienced program specific year over year headwinds as expected and as communicated on our Q4 earnings call, partially offset by the significant cost actions we have taken since the beginning of the year. Now let's turn to Slide 4. As discussed on our last earnings call, the Board and I are fully aligned in our immediate priorities for the next several quarters, specifically rebuilding and growing our backlog and core revenue base through Starting with renewal rates, I'm pleased to report that we achieved 100% renewal rates on major customer contracts across the portfolio. We secure renewals on existing Exacta contracts with the U. S.

Speaker 2

Air Force, the Department of Homeland Security, the Department of State, the Department of the Interior, The Department of Energy, Defense Intelligence Agency, Amazon Web Services, Ernst and Young are a few among others that we also were awarded. The AMHS team also continued its outstanding customer service record with the achievement of several major contract renewals with government customers in the quarter. Turning to new business development, we continue to provide cyber, cloud and enterprise security solutions to the world's most security conscious organizations in both Government and Commercial End Markets. Over the next several quarters, we believe our most productive and direct path to rebuild and grow our backlog Core revenue base is through the end market we know best, which is the federal government. Numerous mission priority and well funded federal customers Trust and value of the solutions that TELUS brings to the fight.

Speaker 2

We believe our reputation and decades long track record in the federal market will be the foundation of our return to growth. Our newly centralized business development team is currently focusing their efforts on opportunities in this market segment. We have seen robust activity and opportunity within the government for services and technology improvements in cyber, cloud and network security. These customer requirements have been the basis for government requests for information, known as RFIs and requests for proposals, known as our RFPs, in recent months, which may ultimately lead to new contract awards over the next several quarters. Our business development pipeline has grown meaningfully in size and quality since the end of 2022.

Speaker 2

Based on the current volume of customers, RFIs and RFPs, we continue to expect new contract awards to be heavily weighted to the end of 2023 and into 2024. In the meantime, we've won new multiyear contracts with The National Geospatial Intelligence Agency for Exacta products and services and have grown our designated aviation channeling services business with the addition of new airport customers to our existing portfolio. And we continue to transform our newly consolidated business development team through new leadership, talent, operational rigor and strategies to drive enhanced focus that we believe will improve productivity over time. We have a strong belief in our business, our products, solutions and services that we provide. Our support of the country's national security and commitment to the mission remains steadfast.

Speaker 2

Those fundamentals have not and will not change. I'll now turn the call over to Mark Benza, We will discuss the Q1 2023 financial results and guidance for the Q2 and full year for 2023. Mark?

Speaker 3

Thank you, John, and thank you everyone for joining us today. Let's turn to Slide 5. As John mentioned, we're off to a sound start to the year with revenues, gross margin and adjusted EBITDA all above the high end of our guidance range. Total revenues were $35,200,000 Revenues for our Security Solutions business declined 27 percent to $19,800,000 approximately the top end of our Q1 guidance range. Security Solutions contributed 56% of total company revenues, up slightly from 54% in the comparable period last year.

Speaker 3

The year over year revenue drivers for Security Solutions were consistent with our expectations as previously communicated on our Q4 earnings call. Gross in our information assurance business was offset by contraction in Secure Communications and TELUS ID as a result of a program loss in Secure Communications at the end of 2022 and lower revenues on 2 ongoing programs in TELUS ID. Combined, these 3 programs represented a $7,600,000 year over year headwind in the quarter. Turning to Secure Networks, revenues declined 34% to $15,400,000 exceeding the top end of our Q1 guidance range by $2,200,000 and representing the entirety of the guidance beat for the company overall. The $2,200,000 outperformance was primarily the result of better than expected supply chain performance late in the quarter that resulted in a pull forward of revenue from the Q2 to the Q1.

Speaker 3

Elsewhere in the Secure Networks portfolio, The year over year revenue headwinds were consistent with our expectations as previously communicated on our Q4 earnings call. Three large programs that primarily came to a successful completion in 2022 and lower revenues on an ongoing program drove a $10,600,000 headwind in the quarter. Turning to profitability, gross margin expanded 66 basis points to 38.3 percent due to margin expansion in Secure Networks and a slightly more favorable weighting of revenues to our higher margin Security Solutions business, partially offset by margin contraction in Security Solutions. Gross margin in both segments benefited from lower share based compensation and cost of sales year over year. Gross profit exceeded the high end of our guidance range by approximately $2,000,000 and gross margin The high end of our guidance range by approximately 380 basis points.

Speaker 3

Gross margin for our Security Solutions business contracted 395 basis points to 52% due to lower revenues on higher margin programs, partially offset by lower share based compensation and cost of sales, but exceeded the high end of our guidance range due to better than expected utilization of billable labor and lower than expected labor costs on fixed price programs. Gross margin for our Secure Networks business expanded 4 33 basis points to 21% Due to lower revenues on lower margin programs and lower share based compensation and cost of sales And also exceeded the high end of our guidance range due to a more favorable mix of labor and materials on select programs and overall excellent program management, including risk mitigation and expense management on fixed price contracts. Adjusted EBITDA, buffered by our expense management actions and ongoing restructuring initiatives, was a loss of $846,000 and exceeded the top end of our guidance range by approximately $3,700,000 due to the previously described $2,000,000 of higher gross profit as well as $1,700,000 of lower below the line expenses. Although the line expenses were lower due to ongoing expense management initiatives and higher capitalization of R and D expenditures. Adjusted EBITDA excludes the impact of 2 non recurring items, including a 1 point $4,000,000 non cash gain reflected in other income and associated with the wind down of a customer contract as well as a $1,200,000 charge associated with the implementation of our ongoing restructuring initiatives.

Speaker 3

The two adjustments approximately netted each other out in the quarter. Now let's turn to free cash flow and liquidity. Cash flow from operations was nearly breakeven in the quarter. Free cash flow was a $4,100,000 net outflow, down slightly from a $3,100,000 net outflow in the comparable period last year. We ended the quarter with over $112,000,000 of cash, no debt and an undrawn $30,000,000 Senior secured revolving credit facility with an additional $30,000,000 expansion feature.

Speaker 3

Our balance sheet is a competitive advantage and remains well positioned to support the company through a wide range of operating conditions and strategic opportunities. Now let's turn to Slide 6 to discuss our guidance for the Q2. For the Q2, We forecast sales in a range of $28,000,000 to $32,000,000 and an adjusted EBITDA loss of $6,000,000 to $8,000,000 The midpoint of guidance implies a $5,200,000 sequential decline in revenues, primarily due to the previously mentioned pull forward of Secure Networks revenue from the Q2 to the Q1. We forecast Security Solutions revenues to decline high 40% to mid 50% year over year and Secure Networks revenues to decline mid-thirty percent to low-forty percent year over year, both due to the same large program dynamics that will persist throughout the year. Gross margin is expected to contract by approximately 600 basis points to 9.50 basis points year over year, primarily due to revenue pressure on high margin programs in Security Solutions, as well as revenue recognition on a short term low margin program in Secure Networks, partially offset by lower share based compensation and cost of sales.

Speaker 3

Gross margin is also expected to be down sequentially Due to lower revenues on high margin programs in TELUS ID, a higher proportion of revenues coming from our lower margin Secure Networks business and revenue recognition on the previously mentioned short term low margin program in Secure Networks. Cash below the line expenses, which adjusts for capitalized software development costs, share based compensation, restructuring costs and D and A, are forecasted to be approximately $1,000,000 lower year over year, primarily due to lower labor costs. From a free cash flow perspective, we're expecting approximately $6,000,000 of discrete vendor payments in the 2nd quarter that we did not have in the Q1. So all else held equal, we expect free cash flow to be down sequentially in the second quarter, but in line with our original plan for the year. And lastly on Slide 7, we are reaffirming our full year guidance.

Speaker 3

With that, I'll pass it back to John, who will wrap up on Slide 8. John?

Speaker 2

Thanks, Mark. Let's move to Slide 8. In summary, we executed ahead of plan in the Q1 of 2023 with key financial metrics exceeding the high end of our guidance range. We delivered $35,200,000 of revenue and expanded gross margins by 66 basis points to 38.3%. We actively manage expenses to buffer adjusted EBITDA in the quarter.

Speaker 2

We maintain a highly liquid balance sheet with Our balance sheet is a competitive advantage and remains well positioned to support the company through a wide range of operating conditions and strategic opportunities. 2023 will be a transition year focused on rebuilding and growing our backlog and core revenue base through strong renewal rates on existing business and the cultivation of a centralized and more productive business development capability. And with that, we're happy to take questions.

Speaker 3

Operator, please open the line for Q and A. And we ask the call participants to please be mindful of others in the queue By asking only one question. Thank you.

Operator

All right. Thank you. Please standby while we compile the Q and A roster. And for your first question, it comes from the line of Zach Cummins from B. Riley.

Operator

Your line is open. Please ask your question.

Speaker 4

Good morning, Mark and John. Thanks for taking my questions and congrats on the solid Q1 results. And Mark, can you walk me through just kind of the puts and takes of your reaffirmed full year guidance, especially considering the upside that you had on the adjusted EBITDA line here in Q1?

Speaker 3

Yes, sure, Zach. So in terms of puts and takes between our last earnings call and this earnings call, I really wouldn't say there are any significant puts and takes. I think our outlook for the year, Puts and takes, I think our outlook for the year is pretty consistent with where we were in our last earnings call. Yes, Q1 came in above the high end of our guide. A lot of that was a pull forward from the Q2 to the 1st quarter, so on a first half basis, we're in a similar place to the implied first half on our original Full year guide?

Speaker 3

I'd say as we get to our 2nd quarter earnings call in August, we'll certainly be looking to I take a harder scrub at that second half based on a first half of actuals And we'll be looking to narrow the range at that point in time.

Speaker 4

Got it. Well, thanks for taking my questions.

Speaker 3

Thanks Zach.

Operator

All right. Thank you. And for our next question, it comes from the line of Brad Clark from BMO. Brad, your line is open. Please ask your question.

Speaker 5

Hi, thanks for taking my question. I wanted to dive in. I believe in the prepared remarks you mentioned some improvement And business development activity since the beginning of the year, we're just hoping you could perhaps provide some granularity. Where are you seeing Some improvement in business development opportunities as it relates to new business more so than renewals.

Speaker 3

Hey, this is John.

Speaker 2

Generally speaking, what we decided to do is to focus on our core And our core strength is the federal government. And there are just a bunch of opportunities for us that are Enabling us to see of the pipeline increasing relatively substantially. And so that's going to be our plan in the near term to round out our revenue to

Operator

Thank you. And for your next question, it comes from the line of Rudy Kessinger from D. A. Davidson. Rudy, your line is open.

Operator

Please ask your question.

Speaker 2

Great. Thanks for taking my question. Maybe try to get 2 into 1. I didn't hear a single word about TSA. Any And then secondly, when do you believe you can get this business back to free cash flow breakeven or positive?

Speaker 2

Hey, Rudy, John, I'm going to pass that question over

Speaker 3

to the first part of the question over to Mark Rippon.

Speaker 2

Hello, Rudy. Mark Rippon. Yes, we are still in soft launch phase with TSA. However, we fully expect bookings and revenue to begin in the second half of this year, so we're confident things are moving in the right direction With that?

Speaker 3

Yes. And then Rudy, on free cash flow, I would say The answer to your question is very much a function of how our business development efforts play out over the course of Late 2023, early 2024. If we see the productivity there that we're working towards? I'd say there's a good probability we can return The free cash flow positive sometime over the course of 2024, especially if a couple of key opportunities in the pipeline Work out in our favor.

Operator

All right. Thank you. So at this time, there are no further questions. I would like to turn the conference back to John Wood for closing remarks.

Speaker 2

Well, first of all, I want to thank our shareholders for your ongoing support. Our mission remains unchanged. TELUS empowers and protects the world's most security conscious organizations and that's going to continue to be our mission. We've got robust recession resistant end markets. We have well funded customers.

Speaker 2

We have a decade long track record of serving the world's most security conscious organizations and honestly TELUS has a strong foundation for the future. And finally, I'll just say that the Board and I are fully committed to taking the necessary actions to capture the opportunity in front of us and rebuild and grow our revenue base for the future. So thank you all very much for your participation today. Have a great day.

Operator

Right. Thank you. And this concludes today's conference call. Thank you for participating. You may now disconnect.

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Telos Q1 2023
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