Business context and reporting period
Telos Corporation’s unaudited Form 10-Q covers the quarter and six months ended June 30, 2022. The company provides cybersecurity, cloud, identity and secure networking solutions, primarily to U.S. government customers, through Security Solutions and Secure Networks.
Financial performance and liquidity
Amounts below are in millions of dollars except per-share data and percentages.
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Revenue | $55.8 | $53.6 | $106.0 | $109.4 |
| Gross profit / margin | $20.9 / 37.5% | $22.5 / 42.0% | $39.8 / 37.6% | $37.0 / 33.8% |
| Operating loss | $(12.2) | $(17.5) | $(26.9) | $(31.0) |
| Net loss / diluted loss per share | $(12.3) / $(0.18) | $(17.6) / $(0.26) | $(27.3) / $(0.40) | $(32.4) / $(0.49) |
| Adjusted EBITDA (non-GAAP) | $4.5 | $5.3 | $5.5 | $6.8 |
| Operating cash flow | $7.9 | $3.5 | $8.1 | $(3.4) |
| Free cash flow (non-GAAP) | $5.4 | $1.4 | $2.4 | $(8.1) |
Second-quarter revenue rose 4.0%, but gross margin declined, which management attributed to contract mix and segment revenue weighting. For the first half, revenue fell 3.2%, primarily as certain Secure Networks projects neared completion; gross margin improved as the mix shifted and lower-margin projects wound down. SG&A was $33.1 million in Q2, down 17.3%, largely reflecting lower stock-based compensation. The first-half GAAP net loss improved, while adjusted EBITDA decreased year over year; stock-based compensation added back in adjusted EBITDA was $29.5 million for the half.
At June 30, cash and cash equivalents were $122.6 million, versus $126.6 million at year-end; working capital was $130.4 million. Total liabilities were $67.6 million. The company reported finance lease obligations of $13.6 million in total and operating lease obligations of $0.6 million; no other borrowings are identified in the supplied filing text. First-half investing cash use was $5.8 million, including $5.1 million of capitalized software development. Financing cash use was $6.2 million, including share repurchases and tax withholding on equity awards. Management said available funds and expected operating cash generation should meet needs for the next 12 months, while noting this expectation is not assured.
Material changes, outlook and risks
- Segments: Q2 Security Solutions revenue was $30.8 million, down from $32.2 million, with gross margin steady at 53%. Secure Networks revenue was $25.0 million, up from $21.4 million, but gross margin fell to 18% from 25%. For the first half, Security Solutions revenue increased about 5% and gross margin rose to 55%; Secure Networks revenue declined about 11% and gross margin fell to 17%.
- Backlog: Funded backlog was $100.5 million at June 30. Telos expected to recognize approximately 76% in 2022, another 20% in 2023, and the remainder thereafter. The filing gives no formal full-year revenue or earnings guidance.
- Government exposure: U.S. government contracts and subcontracts represented 94% of revenue in both the quarter and first half. DoD accounted for 72% of Q2 revenue and 71% of first-half revenue. Management cited uncertainty around FY2023 appropriations, including possible continuing resolutions or a shutdown, as a planning risk; it also discussed potential defense and cybersecurity budget growth as an opportunity, not a guaranteed outcome.
- Legal contingency: Telos and certain current and former officers face a proposed securities class action alleging nondisclosure of delays in TSA and CMS contract launches and related forecasts. The company is defending the case; a loss was described as reasonably possible, but Telos could not estimate a loss or range and recorded no material liability.
- Controls: Disclosure controls were concluded to be ineffective at June 30 because previously identified material weaknesses in internal control over financial reporting remained unremediated. Areas included entity-level controls and staffing, IT access/change controls, revenue recognition, software costs, stock compensation, business-combination valuations, financial close and transaction coding. Remediation was in progress.
- Other notable items: The company repurchased 360,439 shares for $3.0 million under a newly authorized $50 million program; $47.0 million remained authorized at quarter-end. It repurchased another 142,536 shares for $1.1 million through August 5. The filing also describes revisions to prior 2021 interim statements, which management had determined were immaterial to those previously issued statements.
Key facts for investors to verify
- Whether funded backlog converts to revenue on the stated schedule, and whether unfunded opportunities and contract renewals support future growth.
- Whether Secure Networks margins recover and Security Solutions growth and margins are sustained.
- Whether operating cash generation remains adequate after software development spending, lease payments and repurchases.
- Progress in remediating material weaknesses and whether disclosure and financial reporting controls become effective.
- Developments in the securities litigation, government contract launches, and federal appropriations that could affect forecasts or contract timing.
- The assumptions and exclusions in non-GAAP measures, particularly the substantial stock-based compensation adjustment to adjusted EBITDA.