CACI International Inc (CACI) Earnings Call Transcript & Summary

All right. Our next presentation is CACI. We the CFO, Tom Mutryn. Tom, thanks so much for joining us. I think we have to manually unmute here.

Sorry, Gavin. Okay. Yes. Well, a pleasure to be here, and thank you, everyone who's listening both live and to recording.

Well, I think most people are probably familiar with you guys, but if you don't mind, just giving a quick overview of who CACI is and what you do. That would be great.

Yes. Well, thank you. In CACI, we've been in business for 60 years and we provide a variety of e-services, primarily to the U.S. federal government. We provide support for customers' enterprise solutions. There's certain aspects that every government agency needs to be a government agency, IT systems, help desk in a variety of enterprise IT. And then we also provide services to important missions. What does that particular agency task to do. And by doing that, we will provide expertise, which is individuals who have a high degree of expertise to help the government customer with a particular problem set, and we provide technology which is a combination of either software or hardware-based technology to support those customers. So the key focus here is our IT modernization and national security in CACI.

Great. Maybe starting high level with the budget. You have a framework of expertise and technology revenue, so you're going to bucket or break down your categories. And you guys have forecasted addressable market compound annual growth rate of 1% for expertise and 3% for technology. With the new administration, some changes in priorities, some the same. How does that shake out? And how does that kind of growth rate look like relative to those end markets that you think about?

Yes. We're still in the process of digesting what the government FY '22 budget looks like. We had then be skeleton, a high-level framework but not the details. And then beyond that, there's less clarity as to what the specific budget will look like. That being said, there are certain areas of the budget where -- which are enduring. And we have some capabilities in those areas. The President and the administration spoke about the need of the United States to maintain its superiority in terms of fighting for information and embracing technology to guard against both near-peer or non-state actors and a variety service offerings fits squarely into those particular immuno areas, electronic warfare, the electromagnetic spec drug, ISR and the like. So we feel good that those are kind of enteral areas. And similar for IT modernization, where there is ways for the government to continue to drive efficiencies by doing things smarter, kind of more effectively. So the top line budget may fluctuate over time, a percent here, a percent there. But the underlying growth in areas where we're more involved with should remain relatively healthy. We are currently forecasting our addressable market in our coming fiscal year to grow approximately 2%.

Got it. Over the longer term, obviously, right now, it doesn't seem like there's too much concern for deficits in D.C. But I mean, over the longer term, are you concerned about deficits impact on spending? Or is it kind of more what you mentioned that the categories that require more investment in national security concerns, sort of things, IT security, that those can grow no matter the total budget environment.

Well, certainly, an increasing budget is helpful with rising time. It does have a tendency to lift all those stuff. That being said, last time there was some significant reductions in budgets, kind of during the sequestration in drawdown efforts. We were a materially different company. We had a lot of new presence in Southwest Asia. Some of that was providing cash through our product to the U.S. government. And when it came time to have a much squeeze -- because we were impacted. Some of the programs were expertise programs where, let's say, 50 people were providing support for a particular program, while we need to reduce spending levels, let's cut it back to 40 or 45 team of people and death by a thousand cuts, and we were vulnerable to those psychologic pressures. Today, we transformed our portfolio to have some longer-term solution technology-based businesses kind of more enduring and less susceptible to those kind of margin pressures. So when they come, and it's safer to assume that at some point in time, there will be some pressures, we feel that we're materially more resilient than we had been in the past.

For now, is your base case assumption that the defense budget will continue to grow under the Biden administration?

Certainly, I mean, we expect it to grow approximately 2% in FY '22 -- revenue in fiscal year '22. Beyond that, we haven't seen any clear indication. One would hope that it would keep pace with inflation. And the DoD budgets are a large -- quite a large portion of the military personnel, medical salaries, increases for the personnel of the military kind of large platforms, which are quite expensive and then a whole host of other activities, which we're a part of. And those other activities, I believe, should be growing going forward simply because the threat environment, the resiliency of our communication infrastructure, our assets, space-based assets, platforms are all critical in our adversaries -- potential adversaries are not standing still and developing. You've got aggressively good technologies in those threat factors.

You mentioned you're doing planning for your next fiscal year for growth. Did you say you're assuming 2% end market growth rate?

Yes. The address underlying addressable market should be growing at approximately 2%, and that's a benchmark for our internal planning purposes and to share with investors.

And historically, I think you've targeted 100 to 300 basis points of outgrowth. Is that right?

Yes. So a few years ago, we were tried to quantify, or without try, we have quantified our expected outgrowth. Now we're being less [ priced ] grow faster than the addressable market, and ever-increasing markets. So we're not tagging specific percentages to those. Suffice to just say, if we want to grow on both addressable market, we would like it to be meaningful in that fractions of basis points.

Got it. So if I think about your guidance for growth this year, it's 5% organic at the midpoint and that's got, I think, something like 200-plus basis points of COVID headwind to it. Appreciate there's some uncertainty going into next year on how much of that reverses and is recaptured. I mean I know that's still an unknown. Can you grow faster than 5% next year as that reverses and had a tailwind given that backdrop? Can you outgrow 5% next year?

Yes. So I'm going to answer that question somewhat indirectly. Can we do that? The -- we'll be providing guidance for FY '22 in August. And I don't want to get too far ahead of ourselves and we're in the process of preparing our plans. At any year, there's a series of puts and takes. There's certain amount of our business, we just ended useful life and those programs, by definition, go from revenue to very little revenue. So we have a hole to fill. We have very strong kind of book-to-bill 1.5 trailing 12-month book to bill. So we have backlog, we have [ rewards ], and we have the ability to generate on-contract growth. There are some nice trends in the underlying market in technology and even in expertise. And so again, growing faster than the addressable market and ever-increasing margins. And we'll be more specific about that as we provide guidance in August.

Makes sense. And that guide also for this year implies a slowdown in organic in the fourth quarter. Is that just tough comp? Is that timing? Because previously, you guys have been saying you were expecting the second half to be faster than the first half.

Yes. It's largely due to greater-than-expected proven headwinds. When we guided initially, we did not have a lot of visibility with regards to COVID and we assumed that COVID impacts getting into the second half of this year would be certainly minimal. And as we got further and further into the time period, we realized that they were kind of real impacts to items that are worth putting out our ability to deploy mission expertise folks outside of the continental United States, significant travel restrictions imposed by the U.S. and other governments and that curtail a good portion of that work. The other item that we pointed out was delays in some task orders. We expect to get different pieces of work awarded and funded, which we would have been able to execute at this point in time. And there were a series of delays in that decision-making process, which the customers subscribed specifically to the COVID environment. Now in some of those instances, those tax orders came through in the month of kind of March and April. And we now have that work progressing on that particular work. So I wouldn't read too much into us quarters -- growth one quarter after another, and we guide to the full year and we're kind of generally being consistent throughout the FY '21.

Makes sense. And your backlog has grown significantly more than your revenue over the past few years. So what does that mean for visibility into future growth? Can you grow at a certain level based on work that you've already won?

Yes. Certainly, having a strong backlog, it's been very positive and productive. The point to note is that the composition of the backlog has also changed. The average duration of our awards have increased by 18-plus months. And so we're winning larger pieces of work, which often times definitely have a longer tenor to that. So translating backlog into current year's revenue is different today than it was several years ago when our programs were of a shorter duration. Having those longer-term programs is truly desirable, high visibility, a great book of business. We don't have to worry about recompeting those on a regular basis. Those recompetes are several years out, and so that provides us, again, a nice solid book of business with some longer-term visibility.

What is your average contract duration today?

I believe it's approximately -- looking to George around 4-ish, 4.5 years in terms of average contract ratio.

And your average recompete rate over the last few years has certainly declined every year. Makes sense. If I think about your submitted bids and your pipeline, the pipeline is down, not a lot, but it's a little bit below the multiyear average. And I think some of that has portended the success you've had in growing the backlog. What should we think that means, or the implications are for book-to-bill going forward? And can you -- if the book-to-bill is lower, can you still grow at a similar pace given that backlog dynamic you just talked about?

Yes. If I look at our pipeline, from our perspective, is a very robust pipeline. The pipeline is lumpy, there may be a couple, $500 million to $1 billion opportunities, which are in our pipeline or the next quarter, we bid on those or we decided not to bid on those for whatever reason. So there is some lumpiness to that particular pipeline. If I go back over the past several years, both the pipeline of bids to be submitted an the bids under adjudication have been strong and robust. But they are lumpy and they are sufficient, though, to enable us to feel positive about our future growth prospects. One of the goals is to be selective as well. We would like to bid on programs where we can differentiate ourselves, could force high technical solutions with high probabilities of win. I'd rather have a smaller pipeline of high probability grid programs in a very broad pipeline, with opportunities where we do not differentiate ourselves, and we do not have that high profitability with. So quality of pipeline is key.

Makes sense. And maybe if you could talk a little bit about the expertise versus the technology pipeline and the addressable market, where I think your mix is currently 50-50, which is more than the end market mix. So how much opportunity do you have to continue to grow technology faster and above market and expand your mix towards more technology?

Yes. I will start off by saying both expertise in technology are valuable, first -- in CACI, and if they generate in profit and cash flow net earnings per share. Oftentimes, our expertise informs our technology. We, as a company, are better because we're operating in all 4 quadrants, and they're all imported to us. That being said, our technology can be more differentiated by definition. When technology proposals come out, the decision criteria is a combination of past performance and technical excellence and management and price is a factor but not as heavily weighted versus expertise. And everything else being equal, a good number of technology bids are more appealing for those particular reasons. Looking at our pipeline, it's more heavily weighted towards technology and expertise. As a result of that, it's a fear to say that we would expect technology to grow disproportionately to expertise kind of going forward. This past year, we're at approximately 12%. That is technology persists, expertise being essentially flat. But again, point for, we would expect directionally similar trucks of trends.

How [indiscernible] roll does IP play in technology, if that's internally developed or under a funded contract, how transferable is that?

Yes. So we have -- some IP which is on copyrighted, patented technology for some of our products are centered around signals intelligence and kind of wireless solutions of [indiscernible] asset alike. And the important aspects of our business generating good relationships with the customers, allowing us to put together broader solutions with some key products in those. And so it's important for us to have some differentiations of the invested head of needs to develop technologies or intellectual property, which is valuable for customers. We also have some other intellectual property, which is not necessarily patentable, which does differentiate ourselves, capabilities embark upon, agile software development at scale, full motion video get analytics kind of multi-signal significant, big analytics, big data, and the like. In those are other parts of our portfolio, which position us well to execute in the business.

How much have you scaled up R&D over the last few years to support those investments in IP? And what does that look like in a slower budget growth environment? Do you need to spend less -- you mentioned spending less to win more on bid and proposal, but what does it look like from an R&D standpoint?

Yes. In the past 10 years, we've materially increased our R&D spending, starting with the acquisition of 63 kind of bid systems several years ago, our first serious foray into kind of mission technology, electronic warfare technologies. The acquisition of the LGS, the acquisition of [indiscernible], the acquisition of APG, you've created a critical mass, whereby we have the capabilities to invest the [ headed ] need with the right still sets in terms of data scientists and electrical engineers and expertise in kind of radio frequencies. And so we are continuing to make those investments to create different solutions. We will continue to make those traditions in investments. We have the financial strength tools for it and still generate ever-increasing margins. And we have a discipline in place to focus on those. We just announced the appointment of Glenn Kurowski as a Chief Technology Officer, a fellow who's been with the company for a number of years, has a drive understanding of the technology across CACI and one of his missions has been and continues to be to focus on of these technology investments to make sure that we're getting the bang through the buck associated with those. These are not kind of paperware or investments to sit on a shelf but to be put to use for specific customer applications. And this is another example we're having that commission expertise, people in the field embedded with government customers helping -- can help them for what those current needs are.

All right. Maybe transitioning that to margins. I mean you guys have tended 30 basis points of expansion a year target. Most of your peers talk about flat to slightly growing. Do you have traditional operating leverage? I mean, normally, government IT is inverse leverage, you grow faster and more new work, it's margin dilutive. You guys have actually been able to grow margins pretty quickly. What allows you to commit to the 10 to 30 bps target a year when most of your peers are saying flattish?

Yes. A few things in response to that question, Gavin. One is we made this statement that our technology business has higher market than our expertise business. which is not surprising since there's more differentiation in content and we can charge more for more technical and differentiated solutions in technology. So that mix, when we wrote technology disproportionate expertise, will be productive to markets. So that's kind of one of the key kind of ways to look at that. As we grow, we'll spread our indirect costs over a broader base that helps margin, and we continue to look for ways to drive cost efficiencies We stood up the shared service center in Oklahoma City approximately 3 years ago. That has proven to be extremely efficient way to conduct a good portion of our business, and so that has been helpful as well. So those are the few characteristics of kind of margins that I would want to take in a high level.

That makes sense. Does pace of growth influence level of margin expansion at all? Or the other factors are more important?

Yes. There are some programs which have a different cost in revenue cycle, whereby in the early stages of long-term fixed price programs, there may be some lower margins than -- those margins increase as those programs will mature to reach steady state. That is a relatively small portion of our portfolio. Most of our programs have awarded steady larger profile throughout its price cycle. So that is not a huge factor. It comes into play every so often, but kind of generally speaking, we have a fairly steady kind of ramp up. Now the revenue profile may be not linear, but the margin profile is steady.

Turning to free cash flow. Your guide for this year is strong growth year-over-year that's got some onetime tailwinds in it. Some of those reverse next year, but you also have the state tax headwind, a lot of moving pieces. Can you grow next year off of this year? Or is this a tough and not a good comparable starting point for cash flow growth?

Yes. So this year, we had a couple of kind of puts and takes. We had a deferral of payroll tax, which was a $40 million to $50 million tailwind for us. We had some additional tax payments. If I adjust for those 2, operating cash flow this year at approximately $625 million. We were benefited this year by a reduction in DSO. DSO from the beginning of the year to the end of the year, down approximately 4 days. A day of DSO is worth $15 million, so that generated $60 million of operating cash flow benefit. That all being said, $625 million is the take-off point, a combination of top line growth and continued focus on the working capital. Hopefully, we'll be able to even show improvements in cash flow, taking into account the fact that we need to repay some of that payroll tax deferrals come December.

Makes sense. And you mentioned DSO and, obviously that's fairly lumpy over time. But is there a level -- a specific level that you strive for or that you think you can kind of get down to on a consistent basis?

We've made significant progress in the past few years getting from the 60 to 65 days, [ ambient ] levels of [ bothers ] of quarters were slightly higher than that, down to each quarter this year between 53 and 57 days, we feel good about that [ ambient ] level. We will continue to try to kind of reduce that, but a lot of focus have paid off and it becomes an asymptotic of phenomenon where there may be some kind of large improvements, but most likely not wholesale improvement. So I would venture to guess that our DSO is industry weighted.

Makes sense. Got it. And then just on deployment of cash. You just announced an ASR. You guys haven't bought back stock in almost 10 years. But I think when you did buyback some years ago, it only lasted for a couple of quarters, maybe 4 or 5 quarters. I interpreted your remarks on the call to kind of mean you're tilting more towards doing more buybacks. Is that right? Or should we expect to see that on a more consistent basis? Or would that be more opportunistic ASRs?

Yes. On the call, we expressed a kind of flexible and opportunistic capital deployment strategy. And at any point in time, we're looking at several factors. The acquisition pipeline, the attractiveness of CACI equity, borrowing capacity, the interest rates and the like. In March, we found ourselves with low leverage less than 2x, attractively priced equity and it entered the $500 million ASR. That leverage is up to about 2.5x but still has left us with capacity anywhere between $1 billion and $2 billion to execute acquisitions and keep leverage at a reasonable level. So we are able to do A and B. If we find ourselves in a situation where we did an acquisition and we leverage 4 to 4.5x, it's unlikely we would do another share repurchase on the heels of that, and let's get to a lower level of leverage. But on a real-time basis, we'll continue to look at those factors and make kind of those decisions. So without committing to x percentage of our free cash flow for this bucket the capital allocation and 5% for that particular bucket, we do want to have that our flexibility and be opportunistic.

Right. And on M&A, specifically. How robust is the pipeline right now? Obviously, it's disrupted somewhat by COVID, but are you seeing that pretty active and at reasonable multiples?

Yes. We're seeing a pretty active environment. There's a number of companies that are either in the market or are expected to be in the market. Some of those are portfolios of private equity companies, some are private sellers, some may be a divestiture from a larger company. So there are a number of opportunities, some relatively small, some bit-sized. So that's being positive. We look at acquisitions with the intent to fill the gaps of -- and some of the potential targets are ones that of our interest to us, and so we continue to look at those. In terms of valuations, companies which are growing at expected high rates, we've added attractive margins, are going to command higher multiples than ones that are apart. And the multiple is an outcome of the underlying characteristics of the cash flows of the business. And some of those high-growth companies that will command a higher multiple because they're worth it. So that in itself does not scare us away. We're a present-value decision-maker, kind of looking at the internal rates of return and the expected near characteristics and how it will fit into our strategy. So we'll make the appropriate decisions when we work at [ those types of risks ].

And you guys have been asked the size of M&A question a million different ways and a million times. But if I just think about your contract size, it's -- obviously, you've had a couple of recent big wins like TCS and BEAGLE. But you don't have some that are as large as peers I'm thinking GSM-O, NGEN, AMCOM. Why is that? And could M&A help you take on some of those much larger contracts?

Well, M&A could, but we'd have to buy a company that owns those contracts, so it would be a sizable company. So that is a possibility. When we look at our business development, we look at kind of winning awards that are going to be consistent with our goals of increasing revenue with driving higher margin. And we also are selective. Let's bid on things where we believe that we have good probabilities of win. There are some larger contracts out there of kind of multimillion dollars, who's have kind of margin characteristics, different than what we necessarily -- we just ascribe to. Some of them don't. We have a kind of more diverse portfolio which creates some kind of resiliency kind of risk mitigation, kind of no one single contract that would make or break the company. At full stock, we continue to look at a variety of opportunities from a business development perspective. And the size of a large contract field but without the [ secures ] a way. If it's consistent, and we think we have a shot at winning it, and it will be -- allow us to grow margins while expanding revenue.

Are there any big pursuits that you've publicly disclosed a bit on that we should keep an eye out for?

No, that's not. I'd say, in policy, we typically do not talk about specific pursuits for competitive reasons. So I'll leave it at that.

Makes sense. Gavin, just a few minutes left here, so I wanted to touch on unmanaged for a minute. It's a big area of investment. You had SkyTracker and a couple of other investments there. How big is Counter-UAS for you today? And how large is that potential opportunity?

I think we disclosed, it's in the hundreds of millions [indiscernible] to the size for us right now. We have some good technologies both from legacy Six3 Systems and truly developed capabilities. APG has new solutions, which add another layer of kind of resiliency to some of the solutions in terms of EO/IR devices. And the market should be growing quite nicely. Right now, the focus is in protection of kind of military basis, in government new facilities, old [ corner store ] inside the continental United States. We haven't gotten to the point where the covered drone control technology is kind of ubiquitous, protecting critical infrastructure of -- in other potential areas. But perhaps that will come. And if and when it does come, I think we'll be positioned to deploy some of our solutions.

Makes sense. Any categories of a potential infrastructure bill you're exposed to? You mentioned some infrastructure and if a potential exposure?

In terms of -- I know there's been some discussion about -- more than a little discussion about infrastructure spending. Some of it has to do with kind of resiliency of either kind of physical security, [indiscernible] security or electronic security cyber and the like. I know we have capabilities there. And I think those would be some of the more kind of relevant areas when we look at our infrastructure team.

Got it. Makes sense. Well, Tom, thank you very much. Appreciate you being with us today.

Gavin, thank you. I appreciate everyone's interest on the call. And we're always here to answer any questions again like George Price and myself.