TELOS CORP - 10-Q Filing Summary
Business Context and Reporting Period
Company: TELOS CORPORATION (Telos)
Reporting Period: Quarter and nine months ended September 30, 2010
Business Overview: Telos provides information technology solutions and services, primarily to U.S. Government and commercial customers. Key business lines include Secure Networks, Information Assurance, Secure Messaging, and Identity Management. The company operates as a non-accelerated filer.
Key Financial Metrics
| Metric (in thousands) | 3 Months Ended Sep 30, 2010 | 3 Months Ended Sep 30, 2009 | 9 Months Ended Sep 30, 2010 | 9 Months Ended Sep 30, 2009 |
|---|---|---|---|---|
| Total Revenue | $57,630 | $71,582 | $174,634 | $190,884 |
| Operating Income | $6,550 | $4,850 | $10,733 | $8,564 |
| Net Income (Total) | $2,095 | $1,086 | $2,601 | $1,574 |
| Net Income Attributable to Telos | $1,636 | $880 | $1,854 | $863 |
| Cash from Operating Activities | N/A | N/A | $2,117 | $(2,108) |
| Cash and Equivalents (Sep 30, 2010) | $85 | |||
| Working Capital (Sep 30, 2010) | $16,555 | |||
| Total Debt & Preferred Stock Obligations | $131,500 (approx.) |
Note: Revenue decreased 19.5% QoQ and 8.5% YoY (9-month). Operating margins improved to 11.4% (Q3) and 6.2% (9-month) compared to 6.8% and 4.5% in the prior year periods, respectively.
Material Changes vs. Prior Period
- Revenue Decline: Total revenue decreased due to a $18.0 million drop in Secure Networks sales in Q3, partially offset by growth in Identity Management and Secure Messaging. For the nine months, revenue declined 8.5% primarily due to Secure Networks and Identity Management decreases.
- Margin Expansion: Gross margin improved significantly to 26.5% in Q3 (from 19.2% in 2009) and 20.0% for the nine months (from 17.8%). This was driven by a shift in product mix toward proprietary software and a reduction in accrued warranty liabilities.
- Debt Restructuring: In May 2010, the company amended its credit facility with Wells Fargo, extending the maturity to 2014, increasing the limit to $30 million, and adding a $7.5 million term loan. Proceeds were used to fully repay $4.2 million in Senior Subordinated Notes.
- Preferred Stock Redemption: In September 2010, the company redeemed 4.9% of its Senior Redeemable Preferred Stock for $430,000, recognizing a gain of $92,000.
- Profitability: Net income attributable to Telos increased 85.9% in Q3 and 114.8% for the nine months compared to the prior year, driven by higher operating income and reduced interest expense.
Guidance, Outlook, Risks, and Contingencies
- Liquidity Outlook: Management believes available cash and borrowings under the Wells Fargo Facility (with $18.2 million unused availability as of Sep 30, 2010) are sufficient to meet needs through Q3 2011. The facility expires May 17, 2014.
- Backlog: Total backlog was $668.7 million as of September 30, 2010, down from $700.7 million in 2009. Funded backlog was $152.1 million.
- Legal Proceedings:
- Costa Brava Partnership III v. Telos: An appeal regarding the classification of Public Preferred Stock and fiduciary duties is pending before the Maryland Court of Special Appeals. The company denies the claims.
- Hamot et al. v. Telos: Litigation involving Class D Directors regarding access to documents and interference with auditors is ongoing. A motion for advancement of legal fees is pending.
- Capital Structure Risks: The company has significant obligations related to Senior Redeemable Preferred Stock ($10.1 million carrying value) and Public Preferred Stock ($103.9 million carrying value), which are classified as liabilities. Dividends on these instruments are accrued as interest expense. The company is currently restricted from paying dividends or redeeming stock due to covenants in its credit facility.
Key Facts for Investor Verification
- Debt Covenants: Verify continued compliance with the Wells Fargo Facility covenants, specifically minimum EBITDA and recurring revenue requirements, as these restrict dividend payments and stock redemptions.
- Preferred Stock Liability: Confirm the treatment of the $114.5 million in redeemable preferred stock obligations and the impact of accrued dividends on future cash flow requirements.
- Revenue Mix: Monitor the sustainability of the improved gross margins, which were driven by a shift to proprietary software sales and warranty adjustments.
- Legal Exposure: Track the status of the Costa Brava and Hamot litigation, as adverse rulings could impact the company's capital structure or management stability.
- Backlog Funding: Assess the ratio of funded vs. unfunded backlog ($152.1M funded vs. $516.6M unfunded) to gauge revenue visibility given the reliance on government appropriations.