TELOS CORPORATION — FY2017 Form 10-K
Reporting period: Year ended December 31, 2017. Telos provides cybersecurity, secure mobility, identity management, and enterprise IT solutions, primarily to U.S. government customers. Financial statements are audited; the auditor expressed an unqualified opinion. The common stock has no public market.
Financial performance and position
| Metric | FY2017 | FY2016 |
|---|---|---|
| Revenue | $107.7 million | $134.9 million |
| Gross profit / margin | $40.6 million / 37.7% | $43.4 million / 32.2% |
| Operating income | $0.4 million | $2.1 million |
| Net loss | $3.5 million | $3.7 million |
| Net loss attributable to Telos Corporation | $5.8 million | $7.2 million |
| Cash from operations | $(0.6) million | $13.9 million |
| Cash and cash equivalents at year-end | $0.6 million | $0.7 million |
Revenue fell 20.1%, largely because of lower NETCENTS-2 task-order activity and reduced services revenue. Services revenue declined 27.7% to $81.6 million; product revenue grew 18.8% to $26.1 million. Gross margin improved, mainly from contract and business-line mix, but lower sales and $6.7 million of interest expense left operating income near break-even and the company loss-making.
- Liquidity: Working capital was negative $4.1 million, improved from negative $8.6 million. Management expected its financing arrangements to cover the next 12 months, while cautioning that funding availability was not assured.
- Debt and obligations: Year-end balances included an EnCap senior term loan of $10.8 million net and subordinated debt of $2.3 million. Capital lease obligations totaled $19.0 million. The 12% cumulative public preferred stock was carried as a $131.6 million long-term liability; accrued unpaid dividends were $99.7 million. The filing also lists $25.4 million of future capital-lease payments, including interest.
- Cash uses and funding: Investing activities used $2.2 million, including $1.5 million of capitalized software development and property/equipment purchases. Financing activities provided $2.8 million, including $9.4 million net proceeds from the EnCap loan, offset in part by preferred-stock redemption, lease payments, and Telos ID distributions.
- Backlog: Total backlog was approximately $256.3 million, including $98.5 million funded, versus $90.5 million and $59.7 million, respectively, in 2016. Backlog includes options and unfunded amounts and does not assure revenue timing or realization.
Material changes and unusual items
- Federal customers represented 94.2% of revenue, down from 96.7%; state, local, and commercial revenue increased to 5.8% from 3.3%. Fixed-price contracts rose to 83.1% of revenue from 76.0%, increasing exposure to cost overruns.
- In January 2017, Telos borrowed $11 million under a five-year EnCap term loan at a 13% stated rate, with an exit fee and other financing costs. A revenue covenant waiver was obtained for September 2017. The related Porter subordinated notes were amended: interest fell from 12% to 6% and maturity moved to 2022; the related-party debt remeasurement produced an approximately $1.0 million credit to stockholders’ deficit, not earnings.
- Telos redeemed all senior redeemable preferred shares for $2.1 million in April 2017. The public preferred stock remains outstanding, accrues dividends at 12%, and has not paid dividends since 1991.
- The Tax Cuts and Jobs Act generated a $2.8 million income-tax benefit, principally from deferred-tax remeasurement. Telos recorded a full valuation allowance against deferred tax assets.
- Telos granted 5.0 million restricted shares in May 2017; 3.7 million remained subject to vesting at year-end. EnCap also received warrants for approximately 2.5% of common equity on a fully diluted basis.
Outlook, risks, and contingencies
The filing provides no quantified revenue or earnings guidance. Management anticipated approximately $2.2 million of capital expenditures in 2018. It cited higher U.S. defense appropriations for FY2018–FY2019 but emphasized continuing budget, appropriations, and sequestration uncertainty. Government contract awards, funding, renewals, and task orders are competitive and may be delayed, reduced, or terminated.
- On March 30, 2018, EnCap waived certain covenant defaults and reset 2018 tests; leverage and fixed-charge coverage were not tested at December 31, 2017. New minimum-revenue and working-capital covenants were added, and the interest rate increased by 1%, subject to potential reversion after specified performance.
- The receivables purchase agreement, which can cover up to $10 million, was extended through June 30, 2020. The Action Capital facility provides up to $5 million of advances; there were no borrowings under it at year-end. Continued access to these facilities is a key liquidity dependency.
- Significant risks include dependence on federal/DoD spending, fixed-price cost exposure, contract competition and recompetes, limited liquidity, reliance on receivables financing, and cybersecurity, supplier, staffing, and technology risks. Goodwill was $14.9 million with no impairment recorded, but management warned that lost contracts or failure to achieve projected growth could trigger impairment.
- Two longstanding shareholder/director disputes remained pending. In the Hamot litigation, a 2017 judgment awarded Telos $278,923 on one counterclaim; appeals and a request for legal-fee advancement/indemnification were pending. The company stated that outcomes could not be predicted with reasonable certainty. Management said other ordinary-course litigation was not expected to have a material adverse effect.
Key facts investors should verify
- Whether revenue and cash conversion recover after the 20.1% sales decline and the 2017 operating cash outflow.
- Availability, terms, and covenant compliance of EnCap, RCA, and Action Capital financing, including the impact of the post-year-end interest increase and new covenants.
- How much of the $256.3 million backlog is funded, exercised, and expected to convert to revenue, particularly under NETCENTS-2.
- The burden and restrictions associated with the $131.6 million public preferred liability, its cumulative dividends, and the company’s substantial negative stockholders’ deficit.
- The status and potential financial consequences of the pending legal proceedings and the government-contract portfolio.
- The filing contains inconsistent balance-sheet total-assets figures in its selected financial data and consolidated balance sheet; the audited balance sheet reports $74.4 million for 2017. Verify the underlying filing/XBRL presentation.