Leidos Holdings Inc (LDOS) — Q4 2015 Earnings Call Transcript

Thank you, and good morning everyone. I would like to welcome you to our fourth quarter and full year fiscal '15 earnings conference call. Joining me today are Roger Krone, our Chairman and CEO; Mark Sopp, our Chief Financial Officer; and other members of the Leidos management team. Today, we will discuss our results for the quarter and the full year ending January 30, 2015. Roger Krone will lead off the call with comments on the market environment and our company's strategy. Mark will follow with a discussion of our financial performance for the fourth quarter and our expectations for the future. After these remarks from Roger and Mark, we'll open the call for your questions. During the call, we'll make forward-looking statements to assist you in understanding the company and our expectations about future financial and operating performance. These statements are subject to a number of risks that could cause actual events to differ materially, and I refer you to our SEC filings for a discussion of these risks. In addition, statements represent our views as of today; subsequent events and developments could cause our view to change. We may elect to update the forward-looking statements at some point in the future, but we specifically disclaim any obligation to do so. Furthermore, during this call we'll discuss GAAP and non-GAAP financial measures. A reconciliation between the two is included in the press release that we issued this morning and is also available in the supplemental information on our Investors Relations website. With that, I'll turn the call over to Roger Krone.

Thank you, Kelly, and thank you all for joining us this morning for our fourth quarter and fiscal year 2015 earnings conference call. I'm pleased to report that we delivered revenue, earnings, and cash flow at or above the high-end of our guided ranges for the fiscal year. We were also able to deliver another strong quarter of operating cash flow, resulting in nearly $400 million of cash being generated from continuing operations during the fiscal year. For the full fiscal year, we were able to improve non-GAAP diluted earnings per share from continuing operations on a year-on-year basis, despite revenue declines. The efforts of our employees, who are delivering results for our customers, enabled us to benefit from solid program execution and improved core operations in multiple business areas. At the same time, we have continued our commitment to optimizing our cost structure. Overall, as I look back upon fiscal 2015, I'm encouraged by the broader indications from our key markets, and in particular, by the fact that government budgets seem to be bottoming, the good progress we have made in our portfolio optimization efforts, and the fact that we've hired world-class talent at various levels in the company, and have already begun to see the positive impacts of their skills and leadership. With increasing uncertainties in the global threat situation, I am confident that Leidos' core capabilities position us very well to make a difference, help protect our nation, and help our customers succeed in their missions. Our strengths in C4ISR, cyber, data analytics, systems engineering, and agile software development are founded on decades of experience built with our National Security clients, yet are applicable to all the markets that we serve, including health and engineering. As to the fourth quarter, revenue of $1.2 billion came in roughly as expected, reflecting continued Overseas Contingency Operations revenue declines. Non-GAAP diluted earnings per share of $0.69 was driven by strong operational performance in both sectors, including growth in our federal health and engineering businesses, and tax benefits which we realized during the quarter. We generated solid cash flow from continuing operations during the quarter of $102 million, bringing our full year total to $396 million, or roughly double our non-GAAP income from continuing operations. This is one of the great features of our business model, but also reflects a lot of hard work done by one of our Lean Six Sigma teams this year. Our book-to-bill, particularly in the National Security Sector, although up from year-ago levels, was lower than we would like it to be. Beyond the gradual improvements we anticipate as our initiatives bear fruit, we do expect a material increase in our book-to-bill in the second quarter. I'm extremely proud of our recent successes in expanding our penetration into new markets. As we announced in February, we were selected as the preferred bidder by the United Kingdom Ministry of Defense on a comprehensive effort to transform their material storage and distribution network. The scope of this engagement encompasses information systems, business process optimization, streamlining, enhancing, and optimizing storage and distribution networks, and demand planning and forecasting. This requires that we leverage all of our key capabilities to be successful, and we are pleased that the customer has entrusted us to deliver this solution for them, as we have done in other engagements for the U.S. DoD and NATO. I am proud of our employees for making this happen, and especially proud that this was truly a collaborative team effort companywide. We are in the middle of contract negotiations with our customer on this, and expect that we will sign the final agreement in the coming weeks, at which point we can recognize this in our backlog and book-to-bill; so stay tuned. Beyond this, a few other notable wins in the quarter were $237 million of contracts awarded by the U.S. National Security and Intelligence clients for mission-critical services that help to counter global threats and strengthen national security; and a $77 million single-award fixed-price contract by NATO's communications and information agency to provide systems engineering and integration support for the Ballistic Missile Defense Program Office, and a win in our Health and Engineering Sector, notable as a great example of the success we have had in applying our core capabilities born in our National Security Sector, in this case cyber into the health market. Under this prime contract win awarded by Trinity Health for managed security services, Leidos will provide vulnerability scanning and continuous monitoring and management of critical assets within Trinity Health's infrastructure. This work combines the company's cybersecurity expertise and deep domain knowledge of healthcare IT to create a solution that mitigates the risk of potential and undetected security threats in a fully integrated healthcare system. Moving on to portfolio shaping; for those of you keeping track, our portfolio optimization efforts during the fiscal year resulted in the sale of our waste water business, our disaster recovery business, and most recently of CloudShield. We also entered into a definitive agreement for the sale of our Plainfield Renewable Energy facility, and we expect this transaction to close in the coming months. Mark will provide you with more details on this transaction in his remarks. Overall, these moves help us focus on our core competencies and on maximizing shareholder value. As we move into 2015, our top three priorities are people; we are committed to hiring the best talent to lead our businesses and drive business development. Innovation; our innovative technology and collaboration across the enterprise will continue to enable us to win new business. Cost; we will continue to streamline our organization and reduce our cost profile through the implementation of Lean Six Sigma and other tactics. We started the New Year with a healthy cash balance of $423 million, and the same priorities for cash deployments as we have articulated before. First, the top priority is maintaining our dividend. Beyond that, uses for cash are investing for future growth, managing our financial leverage in a manner consistent with being investment grade, and returning excess cash and value to our shareholders, all of which we discuss with our Board every quarter. I know the M&A activity in our space has heated up recently, and we have evaluated the major transactions that have occurred. None of these targets were a good fit for Leidos, but we will continue to evaluate a healthy deal pipeline going forward. Lastly, I'd like to take a moment to personally thank John Jumper for his service as Chairman of our Board of Directors and for his dedication to our company. John was immensely helpful during my transition into the CEO role and over the past few months. I know that he will continue to add value as a member of our Board. I see the consolidation of the roles of Chairman and CEO as a way to streamline our operations and also to provide us with some cost savings. I look forward to serving the company in this new capacity as we continue to lead the company towards greater success. And with that, let me hand the call over to Mark Sopp, Leidos' Chief Financial Officer, for more details on the quarter and our outlook.

Great. Thank you, Roger, and thanks to all of you for joining us on today's call. We had positive developments on many fronts in the fourth quarter as we continue to execute on our plan. This included some financial highlights that I'll hit in a moment, and also furthering our portfolio optimizations in the areas of real estate, as well as through the sale of CloudShield, and more recently, a definitive sales agreement entered into for Plainfield. Consolidated revenues were $1.2 billion for the fourth quarter, which represents a decline of 9% year-over-year in line with our expectations, the pace of which has moderated over the course of the year. Non-GAAP operating income in the fourth quarter of $79 million was better than expected, driven by core operations in both sectors, including growth in our federal health and engineering businesses. Our effective tax rate was below our normative rate, which reflects the positive impact of the R&D tax credit, which was enacted into legislation recently and retroactively applied for the full year. We also benefited from other tax planning initiatives during the quarter, which further reduced our tax rate and should benefit cash flows over the longer term. Non-GAAP diluted EPS from continuing operations was $0.69 per share as detailed on Slide 16 and 17 of the Investor Presentation on our website, and was better than expected, primarily driven by the stronger core operations I just mentioned and the lower tax rates. Our non-GAAP operating income and diluted earnings per share primarily exclude the impact of a $40 million impairment charge incurred in our Health and Engineering Sector, which I'll cover in a moment. Operating cash flow from continuing operations of $102 million was a highlight in the fourth quarter. This was driven by further reductions in working capital, particularly DSOs, which declined three days during the quarter down to 70 days. We also had an unexpected continuation of advanced payments on a couple of contracts, which we continue to believe will burn down in the coming quarters; more on this later. Overall for the year, cash flow from operations as Roger said was $396 million, which reflected a significant reduction in working capital and was a great achievement by our team. We exited the year with a healthy cash balance of $443 million. This is after spending $175 million on debt and buybacks during the year, including $73 million which we transacted during the fourth quarter. As for deployment of excess cash balances, paying our regular dividend remains our top priority. Beyond this, share repurchases, M&A, and financial leverage management are always options we review and prioritize with the Board each quarter. Shifting to our business development results, we had a light quarter on consolidated net bookings, which totaled $631 million in the fourth quarter for a book-to-bill ratio of 0.54. For the year, consolidated net bookings were $3.6 billion resulting in a book-to-bill ratio of 0.7. We ended the quarter with $7.8 billion in total backlog, which is down 16% year-over-year, and funded backlog of $2.7 billion, down 11% year-over-year. This funded backlog level still represents over six months of forward revenue coverage. I will point out these book-to-bill and backlog numbers do not include any impact from the U.K. LCST contract, on which we were selected as preferred bidder as announced in February. As we move forward in our discussions with the Ministry of Defense, we'll be able to better scope the impact of this to our financials. When that contract is signed, we do expect a meaningful increase in our book-to-bill and backlog metrics. The value of bids outstanding at the end of the fourth quarter increased slightly quarter-over-quarter to $16.4 billion. We expect this will decline significantly once the LCST contract is formally signed, and we can move that bid out of outstanding and into backlog. Turning now to select sector results for Q4; first, in our National Security Sector, revenues decreased year-over-year by $123 million or 13%. Roughly two-thirds of this decline was due to the continued reduction in U.S. overseas war-related or Overseas Contingency Operations funded business, otherwise known as OCO. The balance of the revenue decline was driven by overall reductions in Defense and U.S. Government spending. When adjusting for our OCO decline, our National Security Sector revenues contracted approximately 5% during the quarter, roughly at the same pace it had all year. We've come a long way in absorbing the OCO declines having had more than $1 billion in OCO exposure at its peak. It is important to note that the bulk of this decline is now in the rearview mirror at this point. For the year, we saw OCO revenues at roughly $400 million generally in line with our guided levels. On to profitability, operating margins in our National Security Sector decreased in Q4 to 7.2% from 8.8% in the prior year. The 7.2% margin reflects roughly 50 basis points of margin decline driven by real estate exit costs incurred in the quarter as we right-sized our facilities' infrastructure to lower forward costs. The balance in the decline was driven by a decrease in net favorable changes in contract estimates from the prior year. On to Health and Engineering, revenues for Q4 increased by $9 million or 3% year-over-year. After continued moderating revenue declines throughout the year, we are pleased to have seen growth this quarter. This revenue growth reflects increased sales in the Engineering and Federal Health businesses, where we are beginning to enjoy the ramp-up of some of our recent contract wins. Commercial Health contracted as expected, which partially offset this pick-up. GAAP operating margins for the Health and Engineering Sector were negative 4.7%, impacted significantly by Plainfield operating losses and the impairment during the quarter. As Roger indicated, we have signed a definitive sales agreement on Plainfield and expect to close on this transaction in the middle of the year. As a result of adjusting the book value down to the anticipated sales price, we incurred a $40 million impairment on the book value of this asset. Additionally, Plainfield incurred $6 million of operating losses during the fourth quarter. The combination of these two elements contributed to 13 percentage points of margin erosion, without which margins in the Health and Engineering Sector would have been 8.2% during the quarter, or an improvement of 180 basis points versus the prior year period. This core improvement reflects the revenue growth in our Federal Health and Engineering businesses. Clearly the Plainfield project has had adverse impacts on our financials. The sales agreement turns the plant over to an owner of several power plants. The deal includes approximately $30 million of cash at closing, and a secured note of roughly $80 million. Plainfield will not qualify as a discontinued operation for Leidos. Accordingly, operating results will remain in our reported results from continuing operations until the transaction closes, which again we expect roughly in the middle of the year. While we are disappointed with the further impairment to the value embedded in the sales price, we do believe for many reasons that accepting this offer was the best course of action for the company and our shareholders. Before I get to guidance, I want to mention that in addition to our results, this morning we announced the Board of Directors has approved a change to our fiscal year to more closely align with the calendar year. Rather than ending on the Friday closest to the end of January, our fiscal year will now end on the Friday closest to the end of December. We believe this change will benefit the investment community, this will improve the efficiency of numerous internal processes, and most importantly this will improve our ability to engage with our investors throughout the course of the year. We have posted a supplementary set of financials on our Investor Relations website to assist you in this transition, which provides a historical guide for modeling purposes. With that said, the guidance we are providing today is for the full 12-month period of January 3, 2015 to January 1, 2016, which will be referred to as calendar 2015. We plan to report the first calendar quarter ended April 3, 2015 and early May. Embodied within our guidance ranges are assumptions of modest revenue, earnings, and working capital effects from the LCST contract, which we anticipate will impact the second half of the year. Although the contract is yet to be definitized, we were selected as the sole preferred winner, and the U.K. equivalent of what we know in the U.S. as a 'protest phase' has expired without incident. As such, we have enough confidence to embed an initial ramp of this project into our guidance for the full year. While it is too early to provide any potential revenue ranges associated with the full scope of this contract, we can say that we intend to partially recognize revenue on a net accounting basis since one element of the scope of this work is to procure materials as an agent for the United Kingdom Ministry of Defense. With that for calendar 2015 we expect revenues in the range of $4.6 to $5.0 billion. While we see an improvement in the budget environment, we expect the discretionary Department of Defense outlays will continue their downward trajectory throughout this calendar year due to the lag effect from prior year budget reductions. The expected impact on that contributes to our overall outlook for the year. We expect OCO revenues to come in at roughly $200 million for calendar 2015. The $200 million year-over-year decline in our OCO revenues from last year accounts for more than two-thirds of the revenue decline reflected in the midpoint of our 2015 guidance range. For non-GAAP diluted earnings per share from continuing operations, we expect a range of $2.20 to $2.45. Operationally, we are factoring in a slight downtick in margins in our National Security Sector due to project churn combined with greater investment in R&D and in our business development function to increase our pipeline and our capture success. Within Health and Engineering, we expect an improvement in margins driven by increased contributions from security products and a lower level of operating losses from Plainfield. Embedded within our guidance are expected continuing losses from Plainfield operations during the first half of the year, prior to the expected closing date of the sale. This translates to $0.10 of earnings per share loss embodied in our calendar 2015 guidance of $2.20 to $2.45. We expect interest expense will run at a $16 million per quarter level, lower than the prior year due largely to the debt buybacks transacted over the course of the last 12 months. We also expect a 35% effective tax rate for the year. We expect to generate at or above $200 million in operating cash flow during calendar 2015. The step-down from the year we just reported is primarily attributable to three elements; first, we expect reported DSOs to be relatively flat for the forward 12 months, having benefited from reductions we've seen this past year. However, we expect some advance payments to burn off in calendar 2015, reflecting a working capital headwind. Second, we expect lower cash profits; and third, approximately $30 million in estimated working capital investment associated with the ramp-up of the LCST contract. While we do not provide quarterly guidance, we realize the shift in our fiscal year requires many to update their models to reflect the new year-end. To that end, we see no material change in the quarterly seasonality of our business. The cash flows or annual 401(k) contribution which occurs in January will now shift from previously being in Q4 to Q1, and this has a roughly $30 million impact. In conclusion, I'm pleased with the performance in the quarter and encouraged that through our portfolio rationalization actions and the diligent customer-centric efforts of our employees, we are positioning Leidos for profitable growth in the future. With that, operator, let's open it up, so we can take questions.

Yes, thank you very much. And two questions; maybe you could quantify what you have embedded for the U.K. logistics contract, and secondly, give us an update on where we are with the DHMSM bid?

Good morning, Cai. This is Roger. I’ll discuss the U.K. and then challenge Mark to not answer the question. We are currently in negotiations with the U.K. and are actively at the table. Until we finalize the agreement and receive clearance from the customer, there isn’t much we can disclose. There has been considerable media coverage regarding the size of the contract, which is significant. When we do sign it, it will be in the billions, not just in the hundreds of millions. However, we’re not prepared to discuss the specifics of that contract at this stage. You may be familiar with our planning approach, where we assign probability weights to a pool of contracts to estimate the likelihood of each occurring. We compile them into a basket and sum them up, recognizing that some will perform better than others. For LCST, we aimed to assemble our guidance based on a broad range of potential outcomes from the negotiations, ensuring that our guidance remains reliable whether we sign LCST early and start promptly or if the negotiations are prolonged. Let me check in with Mark on LCST, and then I'll update you on DHMSM.

All I'll add to that, Cai, is that we said in our prepared remarks that we do expect a modest impact to revenues and earnings, but not significant, and we do have a plan to achieve our guidance without LCST. I did quantify that we expect an outflow of up to $30 million, or working capital outflows related to the LCST ramp-up. And that was important to do because we are explaining a decrease in operating cash flows year-over-year that's pretty significant, and that's a meaningful portion. So we wanted to clarify that. But otherwise, we're sticking to modest for the earnings and revenue impacts at this point.

Okay. On DHMSM, and for everybody else on the call, that's the re-compete of the DHA electronic healthcare records system, Defense Health Management Systems Modernization, I think is what it stands for. So we have submitted. We've been found to be in the acceptable range. So we've been down-selected, and we believe that there are three, but we can't confirm that; three companies that are still involved. We have gone through a series of face-to-face meetings with the customers, not exactly orals in the traditional ways, but we had submitted questions, they have submitted questions to us. And so this was a chance to expedite the process and get to an understanding of just a whole host of issues. It's a really broad-reaching program, and they range from cyber to fielding, and compatibility, and the ability to be interoperable. So we've had I think three or four of those face-to-face meetings. I think there's one more scheduled, and then there is expected to be a call for something called an IPR, which will be another roll-up of the proposal, and the cost proposal. And so we'll take into account the input we got from the customer to update our proposal. And then there might be a short face-to-face session after IPR, which we expect will lead to either a final price revision or best and final offer, which could be, given the end of March. And that could be something we submit, maybe mid-May. Again, we're all speculating there. And then it probably would take another 45 to 90 days to evaluate. So that means an award in the latter part of the summer. And then after the award, it's anyone's speculation where it goes from there. It's an important contract to our customer, an important contract to the companies that are bidding. And we are intensely aware of the tendency of companies to protest. So if that happens you'd add another 99 days on the back of the award. And that gets you almost to the end of the year. So from our standpoint, we like where we are, we had great conversations with the customers, but we're not looking for an impact to our financials in calendar year '15, from DHMSM.

Thank you. And a last one, your $200 million of cash flow looks a little bit light, even if we include the $30 million from the U.K. contract. Where is that $30 million? Is that in inventory? What are you assuming for DSOs, and how come that number isn't a little bit stronger?

Sure. The $30 million for LCST is primarily funds expected to be tied up in receivables, to some degree inventory, but mostly receivables due to a projected ramp-up in the second half of the year, and toward the end of the second half particularly. With respect to the other elements of the $200 million cash flow, I will say that we finished the year very strong in DSOs for fiscal '15 at 70 days, better than we expected. We generally expect that to be stable over the course of the year, so no further improvement on that front. So that's a headwind relative to fiscal '15 reported results. A second, as I've said earlier, we had benefited from advanced payments on the order of $40 million plus. Over the course of fiscal '15, we need to be prepared to either work that off or pay that off in calendar '15. And our guidance reflects a full effect of that. And then one thing I didn't mention in particular is because of the dual nature of counting January 2015 as a month twice, both for fiscal '15 and again for calendar '15. We actually have an extra tax payment in the calendar '15 year, which is about a $25 million impact. So when you add all those up, you've got cash earnings of ballpark $275 million for calendar '15, you’ve got LCST negative $30, you've got cash taxes of $25, and that accounts for some of your deterioration against cash earnings down to the guided level of $200 plus.

Thank you very much.

Thanks, Cai.

Hi, everyone. This is Amit Singh standing in for Jason. I wanted to begin with the guidance. I'm interested in your visibility regarding the midpoint of your guidance, which indicates a 6% decline year-on-year. If I compare this to the book-to-bill ratio for calendar 2015, which is 0.7, and considering the U.K. LCST contract, it appears that if it gets finalized, it will be towards the end of the year. I’d like to understand how confident you are in the guidance.

I'll start, and ask Roger to finish up, but I will say our confidence is strong coming into the year from a revenue coverage perspective. As it pertains to opening backlog, our coverage is about 70% to 75% of our midpoint, and our range is covered in opening backlog. And while the funded was down year-over-year, it is well north of six months of forward revenue coverage, which is generally a healthy metric. So this is why we of course have confidence in the revenue range we've provided.

Yes, I want to provide some context. When I joined in July, we addressed an impairment and lowered our guidance shortly after my arrival. I'm aware that we had touched guidance before I came on board. Since then, I've participated in our annual planning process and helped create what we refer to as our annual operating plan. This gives me strong confidence in the numbers we've generated, which we use to measure our performance for the current calendar year, also known as 2015. As we developed guidance, my intention was to accurately reflect the management team's expectations for the end of the year while allowing enough flexibility to maintain our guidance. We aimed for high confidence in our guidance and to provide numbers that we believe can hold up for the year, especially considering that last fiscal year we adjusted guidance multiple times. Therefore, I prefer to offer a broader range and maintain our guidance for the year, which is where we have positioned ourselves.

All right, great. And then quickly on margins; I believe calendar '15 operating margins were around 7.5%. What are you expecting for now that the fiscal '15?

I think what I would say is we finished on a non-GAAP basis. Fiscal '15, the year we just reported in the low 7% range, and generally, we expect that to be flat in the forward year calendar '15 with two main elements. We expect improved profitability from the Health and Engineering Sector in large part from the absence of Plainfield for the full year as I articulated earlier, and also a bump up in volume and security products that helps HES year-over-year on an apples-to–apples basis. And on the other side, we see volume decline and a slight margin decline in our larger National Security Solutions business due to projection, lower fee rates in some areas, and also some increased investment in business development and IR&D. So, those two are largely offsets year-over-year; therefore, a flat margin story year-over-year.

I want to emphasize that we are maintaining our cost reduction program while also streamlining the organization. Our primary focus is to invest in the business and restore growth. While some in the sector are applying their cost savings directly to profits, this management team is committed to increasing our investments in both internal research and development and proposal bidding. Therefore, we do not expect a margin shift in line with our cost reductions, as we need to fill our pipeline and continue pursuing new business.

Okay. And just quickly one last one from me; Mark, you're planning to retire at the end of this year. So what is the status of the transition plan and the search for the new candidate?

This is Roger. Although Mark is involved in the process, I will answer that question. We have met with a first round of external candidates, and there are a couple of internal candidates as well. We have conducted very short interviews with about half a dozen people. Our team will regroup to consider the internal candidates, likely narrowing down the list. Starting as early as next week, we will bring back a couple of preferred candidates, including our internal candidates, and then make some decisions about our future direction. While we won't specify a date for a replacement, we are pleased with the process and the strong interest from many individuals wanting to join Leidos and help us grow the company.

Okay. Thank you very much.

Hey, good morning guys. Mark, I was wondering if you could qualify or clarify on the advance payments. Does the guidance assume all of that $40 million benefit burn off in 2015?

Yes, it does Jon.

Jon, I'm sure you understand this. It's a contract that hasn't been finalized yet. Once we finalize it, we expect to receive the payment back. Think of it as a swing. Last year we had $40 million that was high, and this year it will be accounted for. So that's an $80 million swing from year to year, which helps explain why we were over last year. We are always pleased to have money in the bank, but we expect to finalize this contract and proceed with that particular customer.

Fair enough. And then with that, the guidance implies somewhere in the range of 130% to 150% operating cash flow conversion. Is that the right number to think about going forward? You mentioned tax planning perhaps benefiting over the long term. Is there any kind of upside to that conversion number? And then on a related note, what is the CapEx plan?

On the tax question, I would say that the benefits I mentioned will be inconsistent and primarily related to future capital gain transactions. Therefore, I wouldn't categorize that as a continuous and stable benefit in our operating cash flows moving forward. I estimate our normative tax rate will be around 37% to 38%. I previously mentioned a rate of 35% for calendar year 2015, mainly because we experienced benefits in the fourth quarter of fiscal year 2015 and in January. Consequently, the first quarter of calendar year 2015 will likely show an effective rate below 30% due to the January 2015 impact, before normalizing to 37% to 38%. That's worth noting. Regarding overall cash conversion, once you assess our cash earnings or net income and add back depreciation, amortization, and stock compensation—which is approximately $95 to $100 million annually at the current pace—this provides a reasonable model for our future operating cash flows. You will need to account for working capital changes as we guide you. Lastly, regarding capital expenditures, we concluded the year at $30 million, which is well under 1% of revenues, and I do not anticipate a significant change to that figure going forward.

Great. And then a quick one for Roger, if I may; can you characterize the competition that you highlighted at NSS and its impact on award sales margins? Is it large companies, small, public, private, commercial companies, government-related companies? And then from your perspective, what has changed over the last year and how do we turn this ship around in terms of the NSS competitiveness?

Okay. Let's see how I can do that question justice. So, by the way, I would say on the competitive side I don't see much new. I mean it is depending upon which line of business; whether you're in SRG or ISG or GSG, at the big end we see the big platform players, we tend to compete with the big five primes for some of the work that we do. In the National Security space or in the Intel space kind of in the middle, it's sort of everybody from bigs to little. And then in the services space, it's some other large companies, but more people in the mid-tiers. I would also characterize I don't see a lot of new entrants. You don't see people getting into the National Security business. And relative to competitive, I mean we still see the effects of lowest technically acceptable, and we still see cost as a major differentiator. But I can't sit here and tell you that our biggest problem is always cost, it's making sure that we are close to the customer, we understand your requirements, we have a disciplined process as we go through the acquisition cycle from your requirements, identification to draft RFPs, RFPs proposals, and negotiations. And part of it, and I said this in prior calls, is we just to get everybody back focused externally and close to the customer. We went through the processes of splitting the company, and that by its nature drives people to think about what's going on inside the company. And I think we have already made significant progress in getting our Presidents and our Ops Managers and our Business Development team to start thinking externally and start thinking about growth and where our customer is going. Unfortunately, and I've said this in prior calls, the time constant in that government National Security business runs 12 to 18 months, so we could fix everything instantly. Last quarter when Mike Leiter arrived, and we wouldn't see the result for 12 to 18 months. So it's going to take some time although LCST is going to probably make our numbers look pretty good for calendar year '15. We know that that is a single event, and we want to get our number of things that we bid and our win rate back where they have been historically for the company.

Thank you.

Yes.

Thank you. I was wondering if you could grab your crystal ball and...

Ed, we are not hearing you clearly.

Hey, did Ed drop off, or is Ed still on.

Okay. I think Ed was asking about the budget outlook for fiscal '16 and how the House and Senate, particularly the Republicans, want to allocate more of the defense budget to OCO. I'll pose Ed's question for him before moving on to mine.

Bill, I appreciate your understanding, and I apologize for the technical issue. We’re currently talking on a cell phone, so I want to share my perspective on the situation in Washington. I am more optimistic than many regarding the unified control of the House and the Senate by the same party, along with Ash Carter's steady leadership at the department. I believe if we combine the base budget with the OCO and related defense budgets, we will likely see an increase. However, I think the approach to sequestration will involve taking it from the base budget, while utilizing the OCO account to appropriately allocate funds where they are needed. We're particularly excited about developments in C4SR and cyber, as well as supporting troops in the AOR. Once we finalize the budget, we will shift focus to presidential politics for the following year, which may bring a lot of rhetoric. Nevertheless, we are hopeful for an approach bill and an authorizations bill to be passed by Congress before sending anything to the White House. Overall, we remain optimistic about the upcoming developments and anticipate changes in the OCO account definition. It’s important to remember that it may take a year and a half, or even longer, for budget allocations to transition into actual outlays through the PBBS system. So, while good news is on the horizon, it will require some time to reflect in our top-line growth. Thank you. I believe you have a question to ask as well.

Yes. So just commercial healthcare; what can you tell us about that business in terms of what the size is now? Obviously it was down in the quarter. Will that trend continue? Is it profitable, and just if you can just be specific on that?

Yes, well, of course we won't guide below the sector level, but I'll just give you some qualitative thoughts. It is down from where it was when I arrived. I would tell you, I think the business is stable, there's actually some very, very nice pieces in our commercial health business that point to the strength of our offering, certainly doing implementation of EHR/EMRs and the Go-Live. So we're pleased with that. What my job really is to find the follow-on leader for that business and to grow, not just our EMR/EHR implementation business, but to roll some of Lou Von Thaer's cyber offerings into our commercial health business, and then to go and grow beyond simple implementation, and do optimization, integration, and interoperability as our commercial providers deal with what now looks to be like a pretty near-term ICD-10 conversion, and then the folks who are still dealing with Meaningful Use-2. The learning for me was, compared to what we have in the National Security side, the commercial health business is a much shorter cycle, and so if we take our eye off the ball, the revenue goes down faster than it does in National Security. But the good news is as we rebuild our relationships with the major providers and reinvigorate their sales force and our consultants, the business can also come back faster. And I think we're being very balanced in how commercial health rolls into overall trends, but I'm still very enthusiastic about the business. I think healthcare is a great place for us to be as a company, and it does leverage our core capabilities. And actually, I'd be more optimistic than parts of my team about the year that we'll have in commercial health.

Is it still declining through the year in all of 2015 and is it profitable, is it earning above or below overall margins, corporate average margins?

Yes. By its nature, it's a profitable business because of the way our sales model works. We put a consultant in and then we've got earnings on top of the consultant. So it's not like a product business where you have the cost of the product and what you could sell it for. We actually go in and we get compensated for the consultant that we put in and then we add our fee to that, so it's always profitable. But as we build our plan, we expect commercial health in the plan and the guidance to decline in the year. I'm challenging the team to do better than that, but as we built our guidance and our mix, we have commercial health continuing to decline, and as we all remember that is the situation we found ourselves with back in the summer when we impaired the acquisition of Vitalize and maxIT.

Thank you, and thank you everyone for joining us on our earnings call today. Sorry about the technical difficulties. We look forward to seeing you again next quarter. Thank you.