CACI International Inc (CACI) Earnings Call Transcript & Summary

All right. Great. Thank you, everybody, for joining us for the CACI presentation at the UBS Industrials Conference. We have Jeff MacLauchlan, the CFO at CACI. Jeff, thanks so much for joining.

Thank you. My pleasure.

I guess maybe just to kick off, like new administration. There's been a lot of moving pieces. You guys seem to have or are navigating it pretty well. Anything to highlight as you've navigated these changes?

I think actually, there are a couple of observations that probably deserve a little bit of discussion. The first one is the -- some of the early disruption associated with DOGE in particular. But early adoption of some of the management techniques was disruptive, but ultimately, minimally so for us, disruptive across the industry, not particularly to us, which was good in the sense that it gave us an opportunity to highlight the differentiation and the portfolio evolution that we have been on for the last decade or so. And the repositioning of the portfolio very deliberately and thoughtfully and strategically really was highlighted by that, which I think is sort of a silver lining to the cloud. The second thing, and more recently, that has been encouraging and I think leaves us particularly well positioned is Secretary Hegseth's focus on new acquisition approach and principles and the idea of encouraging contractors to invest ahead of need to develop solutions commercially, to sell them commercially is, for those of you that have been following us for a little while, you will recognize was right down the middle of our fairway. And gave us a real opportunity to sort of find ourselves in exactly the spot that the government would like to be in going forward and like the industrial base to be in going forward. So I think we've really, really kind of found ourselves in a really nice spot.

Could we go further into acquisition reform. I mean Hegseth gave a big speech a couple of weeks ago. Is that actually moving quickly across the Department of War? How is that affecting services versus hardware like procurement?

Yes. I think it is. I think the long-term effect of it will take a little bit of time to play out. John attended that conference, our CEO, and I think he would tell you if he were here that among the CEOs that were in the room, there were a lot of long faces. He was too thumbs up, came back very excited about the message. And particularly about the distinction that often gets lost, which is that the Pentagon did not want to -- the Pentagon did not -- Secretary Hegseth did not say we're going to buy commercial like from commercial defense tech companies. He said, I want to buy commercially, said, I want contractors to invest ahead of need, to bring me demonstrated solutions for things that work. They may be not 100% solutions. They may be 85% solutions, but they're developed at risk and contractors pay for that and make that investment and then sell to us commercially, which again is exactly something that we do. I think in the longer term, just thinking about the industrial base, while I think this approach makes a lot of sense for our segments of the market, I'm not sure how it plays out for the large traditional primes. You're not necessarily going to build a nuclear missile submarine with the same sort of acquisition strategy that you buy counter drone systems. So I think it may lead over time to some segmentation of the market, and we may see different parts of the defense industrial base sort of behave and develop different ways and in different business models.

And you mentioned a moment right, the outcome-based solutions. I mean, John has been beating me over the head with that concept for the better part of the decade. Can you go through a couple or maybe one example there of how that's allowed you to win or positioning you in the new administration?

Yes, there are a number of them. I think BEAGLE is a particularly good case to use for this where we do some work for CBP where we maintain a set of apps that customs and border patrol agents have on their devices. And we -- the prior provider had a contract that worked in a traditional government IT services paradigm where you had a number of people with particular skills, the government largely managed and directed the work. We sort of turned that upside down in the recompete of that opportunity and convinced the DHS that it was probably more efficient and more effective for them to just tell us what they wanted. Tell us you want X number of apps, you want them updated y number of times over the course of the year. We'll price the updates of the apps, and we'll figure out how to manage the system. You don't need to manage it, we'll manage it. You pay for the updates when we have the updates. And it's been a spectacular success. The DHS is ecstatic with a greater number of updates and support they get, and it's been a good business arrangement for us. We're able to manage it -- better able to manage it this way than in a more traditional contract.

I guess while we're on BEAGLE and maybe DHS, higher level, there's a lot of reconciliation funding going to homeland security. Is that an opportunity for you? What's your potential there?

Yes. It certainly is. I think $170-or-so billion of reconciliation money for DHS, much of that around, of course, the southern border. We expect there to be some amount of activity in there for us. There may be low tens of billions of dollars increase to our TAM over some period of time, 5 years or so. I think the other thing that is important there is that that's likely to lead into an important aspect of Golden Dome where securing the border, securing the Southern border will involve missile defense, but also sensing and characterization of threats and identification of defeat modes than of those threats.

I guess 2 parts then. Are you seeing reconciliation funding flow, whether on DHS? And then what are you seeing in terms of Golden Dome timeline?

So at this point, they're still in RFI, RFP stage. We have, particularly for Golden Dome, identified a series of capabilities in response to requests from the government related to certain capabilities we have related, obviously, to counter UAS but also to threat identification and characterization even in cases where the threat may be appropriately queued to some other missile defense system. But yes. And I think early next calendar year, we ought to start to see some of that activity actually turn to business.

And then in terms of government shutdown, obviously, I guess we have risk of another one in January, but has there been any disruption? Or is it kind of back to business as usual?

Minimal. I'm going to go back to the comments I made at the beginning of our remarks here that we found ourselves in an opportunity or found ourselves in a situation where we had really only minimal disruption. We talked in our first quarter earnings call about the fact that depending on the length of the shutdown, we saw the environment where we would have sort of single-digit millions revenue impact per week. That turned out to be about right. And we expected to recover most of that or all of that within the year and there may be a little bit of minimal disruption in the quarter. But again, not a meaningful number and very much in line with the single-digit millions per week that we talked about.

So if I go back to the '24 Investor Day, which feels like it was a lot longer ago.

It does. It feels like a lot longer ago.

I mean you're right on track for kind of that high single-digit growth rate despite a lot of moving pieces over the last year. Any puts and takes to consider whether ranging to the upside or downside risk?

Yes. I think I'm probably not going to get into commenting on specifically on what we might do to the guidance or the targets other than to say that we are ahead of where we had planned to be. I feel very -- I felt very comfortable that when we said it, I feel more so today. And I think we're on a really good track to sort of at least achieve. I would -- I do get this question occasionally, and I have to observe to people that the business is actually really running well and accelerating. I need to encourage people to resist the temptation to do the algebra that would let you derive a disappointing third year. So that's not the path we're on.

Headed off my next question. Perfect.

All right.

You did split out the intelligence business. So I was hoping maybe you could give us some of the growth drivers there and kind of what led you to break that out?

Yes. The reason for that is that as circumstances have evolved here over the last handful of quarters, we thought it was increasingly important to talk about the fact that we are a national security business. And our prior reporting -- our prior disclosures had defense and civil and then some -- and then another category. But the Civil was a large amount of intelligence. And as it became of increasing interest to investors and increasingly a part of our conversations that about 90% of our revenue is national security. Breaking out the civil intelligence agencies was a better way for us to talk about that and a better way for all of you who follow us to sort of monitor the growth in the intelligence part of the portfolio. And it was actually counterproductive to be mixing the intelligence part of the civil with what most of us think of as the classic civil agencies like education and energy and whatnot, where we actually have very, very minimal exposure. So it lets us talk about defense and intelligence in particular. And the civil now is largely just the Department of Homeland Security.

Which I think is a big factor in why your Civil business is maybe growing faster than the kind of the end market or a lot of peers. But can you maybe parse out the growth in guidance this year for defense, intel and civil?

No, we don't -- I mean, we're not -- we don't talk about them by the pieces. They're largely -- no. No, we don't talk about them by the pieces. But the defense and intelligence portion of the portfolio is growing nicely and it is the preponderance of the industry growth.

And then I know John doesn't like talking about product sales or revenue. How do we think about that, especially in the context of, as you were talking about before the new administration and looking for maybe 75% or 90% complete solution. Do you pivot more to more upfront IRAD?

Well, first of all, I have to address the products part of this. It's increasingly important. It's important, I think, to appreciate that in those cases where we do occasionally deliver an actual tangible thing, it's only as a mechanism or a vehicle for delivering software. So our thought process around that in terms of program management, in terms of investment is we're delivering software. So you'd like to buy an Uber app, in order to deliver you an Uber app, it turns out I have to put it on something so you can use it. But the actual article that I put it on is not -- isn't the point. It's the Uber app. So relative to investment, we're in an interesting situation in that much of that software and accordingly much of the evolution and development of the software has a fair amount of applicability broadly across the electromagnetic spectrum. So if you think about scraping RF energy out of the atmosphere, and characterizing it, identifying it and identifying defeat modes that you can use to counteract it, there's actually a fair amount of reuse whether you're using that in spectral system on the Navy surface ships, whether it's part of a TLS Manpack, whether it's part of a counter drone system, you're taking the ability to identify and characterize and then subsequently figure out what to do with it. But they're very similar so that the investment decision, to get back to your question, the investment decision gets a little simpler because nearly everything has applicability to more than one particular area of interest or product. So that's the reason that we don't talk about it as products because if we're investing in advancing that capability, it's not just for TLS or it's not just for counter UAS if that makes sense.

How does that improve long-term kind of competitive barriers?

Well, I think the most important thing to note about that is the amount of time we've been doing this. So the idea of collecting RF energy and then being able to manipulate it and use it for different things is not something that only we can do. But it is important to note that we're the only ones that are doing it, and we've been doing it for about 8 years, and it's taken us a long time to get to this point. So the barrier to change here is probably just the amount of time that it takes to do this.

And then we saw Merlin at AUSA. Can you talk about how that software overlays the hardware there based on what you just described?

Absolutely. It takes advantage of the same capability. We are building additional demo units for Merlin now investing our own capital, and we'll use those in a continued demonstration regimen that the government has outlined and we're ready to sell Merlins.

How do you think about your broader counter-UAS offering?

So counter UAS is really probably not as much about actual counter UAS capability as it is around the applications for it. So counter UAS for Golden Dome will look slightly different than it may look for engagements in the Baltics or Eastern Europe or in Israel or Gaza. But the same basic capability is there and tailored for specific circumstances and applications.

Is there more international opportunity there as well?

There is definitely developing international opportunity. We will not probably embark -- we do not expect to embark on an international infrastructure kind of delivery system. Much of our international activity will be satisfied through the U.S. government to foreign military sales. You've recently seen us sell some kit to Canada, which is ultimately going to end up in the Baltics. So we'll accomplish those through U.S. government sales and we're also accomplishing them through a growing network of VARs, value-added resellers, where we have local entities obviously vetted and qualified in all the right ways relative to export control and all the laws and regulations. But that lets us do 2 things. It lets us create footprint and capability that we can leverage without having to actually fund it and create it ourselves. And it also gives us the ability then to market in those areas with a local face. So for instance, you will know that much of what gets sold in the EU has to have significant EU content. So the fact that you can have an EU agent or value-added reseller lets you add that incremental content easily. So you can add logistics and training and all the things that go with a fielded system with a local phase.

You guys have a decent sized U.K. business. Can you remind me what work you do there?

Yes. It is an interesting business. It's evolved and grown over time. About half of it is for the U.K. defense establishment, and about half of it is purely commercial IT business, where they do work for local councils. They do work for the Home Secretary. We made an acquisition there last year that has some very interesting biometric capability for U.K. border control. It's an interesting little business.

Wrapping all this up to margins. The Investor Day, you guys showed a slide where you pretty significantly increased your IRAD spend, but you guys have continued to expand margins over that time frame. I mean how do you think about the return on investment of IRAD?

Yes. So IRAD is one form of investment. The returns are considered in the way you would expect related to prospects and demand signal and everything else. But I think to talk about IRAD, you really have to think about the way we operate the business, which is really driven by a focus on free cash flow. And so we're managing top line growth. We're managing investment to get that growth and the margin on that growth. And the third factor, of course, is operating margin. So any time we have the ability, for instance, to increase investment and maintain margin and accelerate growth in a way that generates more free cash flow dollars those are decisions we make. So it's really about the generation of free cash flow dollars.

Does acquisition reform change the shape of any of that margin profile, whether if you're investing upfront more? And does that mean you can earn more?

Yes. I think if anything, it's improved the prospects for it for the reasons that you identify. So the government stated intent to buy commercially solutions that we've developed and made available commercially gives us more margin opportunity, definitely.

And then as you think about the technology versus expertise split, technology is margin accretive. How much can that business mix up over time as a percentage of the total?

Yes. That's an interesting question. And we spent some amount of time thinking about this. The expertise business that we do at this point is a really carefully curated part of the portfolio. I mean the expertise business that we have is the expertise business that we've been very selective in choosing. And we do that for the thesis that many of you have heard us talk about over time, which is this whole idea of expertise in forming technology and the technology enabling the expertise. There probably is some point at which that thesis tips. I don't think I can see it at this point, but there probably is some point at which the connection between the 2 becomes less important. But for now, it's still an important part of the reason that we're successful growing the technology part of the business and the insight that those expertise franchises bring us is an important part of how we're prosecuting the technology side.

Is the technology margin also expanding? Or is it more of kind of the margin performance over the last few years a function of that mix improving?

It's expanding, and I'm hesitating because it's moderated by the investment, most obviously there. So if we were to manage the investment more closely at the expense of growth, it would contribute even more margin. But that is part of -- that is where the balancing act I was talking about a few minutes ago. That's sort of where the rubber meets the road, if you will. But certainly, the margin mix is accretive. We expect it to continue to be so and I think has more upside given the government's current acquisition intentions policy.

And the Investor Day target included increasing margins each year over the 3-year period?

We did -- yes, it did. It did premise increasing margins.

You mentioned your goal is cash flow growth. You guys do regular acquisitions. How does that play into that cash narrative and where are you focusing M&A?

So M&A is an interesting topic these days. DOGE was disruptive to this to a great extent. Valuations were very uncertain. Prospects were uncertain. Sellers and buyers had a hard time sort of thinking logical, convicted way about what things were worth. We're seeing that start to shake out some of the clarity around acquisition policy is helping this. And we see a couple of areas of interest, projects we're spending some time on. And I think over the next couple of quarters, I expect us to have some opportunities to talk about here.

What are the areas you're kind of focused on? Is it augmenting existing capabilities? Is it branching into additive?

It's largely focusing on existing gaps. I could imagine some very closely related adjacencies might be interesting to us as we think about different kind of sensors, for instance, in the context of something like Golden Dome, where we were focused on different sorts of intelligence collection and processing, particularly ones that would relate to our SIGINT capability that we have now.

You mentioned kind of distortion in valuations. Has that actually become more difficult now if you're looking for more software or tech-oriented businesses?

Interestingly, it's different a little bit, but -- but we see a little bit of multiple expansion and some valuation expansions, but also better prospects. So we're sort of net present value given our free cash flow focus. That won't surprise you. But we're sort of present value decision makers, and we are seeing some modest valuation increases, but also a fair number of opportunity increases. So that obviously, those things sort of go together.

One more for me and then I'll see if anybody in the room has any questions. Free cash conversion kind of what's the long-term target? This year has a few lumpy moving pieces, Section 174 or things like that. Can you bridge some like long-term cash conversion goals?

Yes. Our goal has been to get above greater than our 1x net income which we contemplated doing in our IR day targets in the third year. And I think we've got a reasonable probability of achieving that a little bit early. So getting back to converting our hard net income to cash flow. It's also important to note in those IR Day targets when we talked about generating $1.6 billion of free cash flow, there is no benefit to the deployment of that cash in our -- in the targets. So there's a tremendous -- we believe, tremendous bow wave we're creating in that we don't -- unlike some businesses, we don't make any assumptions about what the deployment of that cash is. So whether that's share repurchases, whether that's significant acquisitions, all those things are upside to the targets that we talked about.

Well, it seems like your M&A has been skewing higher margin, right? I mean Azure and Applied Insight, those are -- were meaningfully accretive, I believe.

Yes, very definitely. Which goes with the increased focus on technology and differentiation.

Makes sense. Any questions in the room? Quite group. Well, anything that we missed? Any closing remarks or things you wanted to highlight?

I would just probably close by talking about the fact that we're at a really exciting point here in our history where I think we have a great opportunity to take advantage of a decade-long sort of evolution of the portfolio and take advantage of some real opportunities, both in threat and evolving nature of threats and the government, the Pentagon's increasing receptivity to buying different ways. I think we've really put ourselves in a very interesting and exciting spot here for the next chapter as we figure out what that is.

Super. Thank you, Jeff.

Thank you.