Categories Earnings Call Transcripts, Technology

Leidos Holdings Inc (NYSE: LDOS) Q1 2020 Earnings Call Transcript

LDOS Earnings Call - Final Transcript

Leidos Holdings Inc (LDOS) Q1 2020 earnings call dated May. 05, 2020

Corporate Participants:

Peter M. Berl — Investor Relations

Roger A. Krone — Chairman and Chief Executive Officer

James C. Reagan — Chief Financial Officer

Analysts:

Jonathan Raviv — Citigroup — Analyst

Matthew Akers — Barclays — Analyst

Robert Spingarn — Credit Suisse — Analyst

Cai von Rumohr — Cowen — Analyst

Edward Caso — Wells Fargo — Analyst

Seth Seifman — JP Morgan — Analyst

Sheila Kahyaoglu — Jefferies — Analyst

Presentation:

Operator

Greetings. Welcome to the Leidos First Quarter 2020 Earnings Call. [Operator Instructions].

At this time, I’ll turn the conference over to Peter Berl, Investor Relations. Mr. Berl, you may begin.

Peter M. Berl — Investor Relations

Thank you, Rob and good morning everyone. I’d like to welcome you to our first quarter 2020 earnings conference call. Joining me today are Roger Krone, our Chairman and CEO; Jim Reagan, our Chief Financial Officer; and other members of the Leidos management team.

Today, we will discuss our results for the quarter ending April 3, 2020. Roger will lead off the call with notable highlights from the quarter, as well as comments on the market environment and our company strategy. Jim will follow with a discussion of our financial performance and our guidance expectations. After these remarks from Roger and Jim, we’ll open the call for your questions.

Today’s discussion contains forward-looking statements based on the environment as we currently see it, and as such, does include risks and uncertainties. Please refer to our press release for more information on the specific risk factors that could cause actual results to differ materially. Finally, during the call, we will 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 presentation slides. The press release and presentation, as well as supplementary financial information file are provided on the Investor Relations section of our website at ir.leidos.com.

With that, I’ll turn the call over to Roger Krone.

Roger A. Krone — Chairman and Chief Executive Officer

Thank you all for joining us this morning for our first quarter 2020 earnings conference call. These are challenging times for all of us and I sincerely hope that each of you and your families are both safe and healthy.

First quarter results demonstrate the resiliency of our business, as evidenced by strong pro forma organic revenue growth across all business segments, significant bookings and a new record backlog position. While the COVID-19 pandemic presented some late quarter headwinds, we are confident that the critical nature of our work, coupled with our early business contingency planning, will mitigate any long-term impacts. In the quarter, the business delivered revenue of $2.89 billion, reflecting 12.1% growth from the prior year. Adjusting for acquisitions and divestiture activity, the pro forma organic growth rate was 8.2%, demonstrating the continued conversion of our successful business development campaigns to revenue.

We delivered non-GAAP diluted earnings per share of $1.19 up 5.3% from the prior year. We generated and generally $372 million of cash from operations and ended the quarter with a strong cash balance of $445 million. Net bookings of $5.5 billion yielded a book-to-bill of 1.9 for the quarter, a significant achievement compared to our historical pattern. With several recent favorable protest resolutions on single award IDIQs, we expect additional bookings as incremental task orders are awarded against these vehicles later in the year.

Adjusted EBITDA margin of 9.3% was lower than prior year. Primary factors were late quarter COVID-19 headwinds and a charge related to an international receivable. The impact of COVID-19 in the first quarter was approximately $50 million in revenue and $9 million in non-GAAP operating income.

As discussed during the fourth quarter earnings call, we closed the Dynetics acquisition back on January 31. The integration activities are progressing as planned. On a pro forma basis, Dynetics delivered approximately 30% top line growth in the quarter, demonstrating that business’ strength in fast growing strategic areas, such as hypersonics, space exploration and unmanned systems. Just last week, Dynetics was awarded one of three prime contracts by NASA under the Artemis program, to develop a human landing system through the preliminary design phase. Our contract consists of two phases; a 10 month base period for preliminary design valued north of $250 million, followed by a down select to two contractors for a four-year option period to build and send a lander to the moon. This win will be captured in our second quarter bookings and backlog.

Following the theme of M&A activity, yesterday, we announced the closing of a acquisition of L3Harris’ Security Detection and Automation businesses. We are excited about what this acquisition means for our future in the high growth, ever expanding global security market. While COVID-19 is causing a temporary impact on airlines and airport traffic volumes, the lower traffic scenarios are actually causing many airports to consider pulling in upgrades and maintenance activity during this unseasonably slow traffic period.

After careful review of first quarter results and the business’ pipeline, including recent discussions with key customers and prospects, we remain confident that this transaction will create significant value for Leidos, our customers, and our shareholders. We welcome the 1,200 employees to the Leidos family and look forward to updating you on our integration and synergy activities over time. We continue to expect this acquisition to be accretive to revenue growth, adjusted EBITDA margins, and earnings this year. Jim will provide more details on this, later in his remarks.

As of today, reflecting both acquisitions, our estimated net leverage ratio is 3.7 as we have stated consistently in the past, our target net leverage ratio is 3.0 and as such, our capital deployment philosophy will prioritize debt reduction until we approach that level, while sustaining our quarterly dividend and funding important capital and R&D investments to continue to drive growth.

From an organic growth perspective, I’d like to highlight a couple of notable programs from the quarter, that reflect the successful defense of two protests in our Defense Solutions segment, and one in our Civil segment. In all three cases, Leidos is the incumbent. The first is the Global Solutions management Operations or GSM-O II contract, where we continue to manage a series of networks and computer systems that serve as the backbone of the Department of Defense’s command and control systems. This 10 year single award IDIQ contract has a ceiling value of $6.5 billion, if all options are exercised. Note that the GSM-O II contract has yet to contribute materially to our backlog, and we’ll do so over time, as new task orders are issued.

Second, the protest of the Department of Energy’s Hanford Mission Essential Services contract was also resolved in our favor. The 10-year single award IDIQ contract has an approximate value of $4 billion, if all options are exercised. Finally, the Air Force National Capital Region or ASNCR, information technology service support contract, was also successfully defended. Under this five-year $450 million single award IDIQ contract, we will continue to provide a full range of support and services to our nation’s command and control systems and IT support for thousands of users. During the COVID-19 crisis, we are enabling teleworking capabilities through hardware, software and cloud-based service deployments.

To support our business’ continuing growth, our talent acquisition efforts continue to attract and hire 100 or more new employees each week. We hired over 1,800 in the first quarter. This result is made possible by our recruiting and onboarding programs, which adopted a number of virtual practices, well before the current COVID-19 crisis.

Turning now to COVID-19, this global pandemic is affecting us all. At Leidos, we have been carefully managing the impacts to our people, our community, our business partners, and our customers. We have implemented changes to our business rhythms to maximize telework where possible, and minimize risk to our employees. We have revisited and improved certain healthcare benefits for our employees, to minimize the burden on them and their families during the crisis. I am proud to report that the whole Leidos family, from employees up to the Board, have stepped up to offer aid in their communities through generous donations.

Since the start of the outbreak, employees have donated nearly $400,000 to the Leidos Relief Foundation to assist our colleagues, who’ve been directly impacted by the virus. Last week, our Board of Directors unanimously approved a reduction in director compensation for the current year. As a result of this decision, the company will contribute $0.5 million to the relief foundation. Additionally, I have donated my salary to the relief foundation during the pandemic. Externally, the company has contribute contributed more than $250,000 with a commitment to match up to an additional $1 million of employee donations to the, ALL OF US Combat Coronavirus Campaign, created by the U.S. Centers for Disease Control and Prevention Foundation. Our customers recognize the critical nature of the services that we perform and the overwhelming majority of our work remains without impact. We have identified approximately $270 million of revenue or about 2% of our total for 2020, that is expected to be impacted by COVID-19. Much of which we expect to recover in 2021.

The passage of the Cares Act does provide some relief for us in our industry peers. However, since this specific implementation is left to the discretion of contracting officers, we are not allowed to bill fee on certain contracts, where the workforce is kept at home in a ready-state. This is the cause for the majority of margin reduction in the Defense Solutions segment.

To minimize business impacts and to continue to deliver innovative solutions in a cost-efficient manner, we have implemented a number of cost-cutting measures across the organization. These actions include, reduced discretionary spending and indirect hiring freeze of non-essential open positions and mandatory time off on alternating Fridays for indirect staff. In a few minor areas where we have seen reduced business volumes, furloughs have been implemented.

Beyond this, is worth highlighting that Leidos supports many customers who are in the news today for their efforts on addressing the pandemic, including NIH, CDC, FDA and others. We are unique among our peers in the breadth of our health capabilities and have been engaged with all of these customers and more to leverage our capabilities to directly help combat the pandemic. First, on behalf of the NIH’s National Cancer Institute, our subsidiary, Leidos Biomedical Research staffs and operates the Frederick National Laboratory for Cancer Research, which is dedicated exclusively to the biomedical sciences. Frederick National Laboratory Sciences have been working directly with the NIH to facilitate an international therapeutic trial of Remdesivir in COVID-19 patients.

Second, the Frederick National Laboratory scientists are also conducting research to identify genetic determinants of virus susceptibility and outcomes, hopefully leading to better therapeutics and medicines to combat the virus. In other parts of our health business, we have been exploring opportunities to develop and offer virtual care solutions, which support the complete pandemic pathway. From patient intake and pre-screening, through virtual visits with staff positions via remote monitoring, within the hospital or other care environments.

While these are challenging times for all of us, the mission essential nature of our work, the additional protective measures in the Cares Act and the significant actions we are taking as a company, provide a strong foundation for our business, as we manage headwinds entering the second quarter. Jim will give more detail on our revised guidance, but in short after reflecting both the expected COVID-19 impacts, as well as offsets from the inclusion of the L3Harris security acquisition, our revised guidance at the same level as before, at a $1 billion or higher, while decreasing revenue by 1% and earnings per share by 6% at the midpoint of our range.

From a macro perspective, fiscal year ’21’s budget levels for both defense and non-defense spending are set under the Bipartisan Budget agreement, and Congress does not plan to change those levels, despite the unprecedented spending increases being enacted to offset the economic impact of COVID-19. Consequentially, there should be more certainty in the budget process this year, even though we expect fiscal year ’21 to start continuing resolution, due to the November elections.

Longer term however, deficit pressures could impact both defense and domestic spending levels, potentially starting as early as fiscal year ’23. But again, the 18 to 24 month delay from budget dollars to outlay dollars does still provide us with runway, before we are potentially faced with that dynamic. Further DoDs unobligated balance of over $100 billion could mitigate the impact of any future cuts to budget authority in the first one to two years of a downturn scenario.

Finally in closing, I’d like to comment briefly on the transition in our Investor Relations team. Peter Berl was recently appointed as Head of our IR team, and brings over 25 years of experience across numerous financial departments within Lockheed Martin and Leidos, where he most recently served as CFO of our Health Group. Peter succeeds Kelly Hernandez, who after six years as our IR lead, was recently named the new CFO of our Civil Group. I’d like to thank Kelly for her many contributions in her prior role and know she will be a great asset to the Civil Group.

With that, I’ll turn the call over to Jim Reagan, our Chief Financial Officer, for more details on our first quarter results and our full year outlook.

James C. Reagan — Chief Financial Officer

Thank you, Roger, and thanks for everyone joining us on the call today. I’ll start by sharing some highlights from the quarter and then I’ll provide some color on what we see as the potential impacts on COVID-19 for the remainder of the year in the context of our updated guidance. Beginning with revenue, we’re pleased with our strong start to the year. First quarter revenues grew 12.1% over the prior year and 8.2% organically, continuing our growth momentum into 2020. The increase in revenue was driven by high levels of on-contract growth and increased contributions from new programs that ramped up during the quarter. These increases were offset by a slowdown in programs related to COVID-19, which caused in approximately $50 million impact to the quarter’s revenue.

Excluding this, first quarter organic growth would have been 10% over the prior year period. Adjusted EBITDA margins of 9.3% declined 80 basis points from the prior year quarter. The decline was characterized by two events; the first was what I would characterize broadly as COVID-19 related, particularly impactful on our Defense Solutions’ segment programs ability to perform, coupled with the inability to recognize fee on the maintenance of ready state labor. This impact is approximately $9 million to adjusted EBITDA.

The second item is an $8 million charge related to an international receivable. After adjusting for these discrete items, adjusted EBITDA margins would have been more in line with historic company levels. Non-GAAP diluted EPS for the quarter increased $0.06 over the prior year to $1.19, primarily reflecting a lower non-GAAP effective tax rate and lower share count. Operating cash flows of $372 million were above seasonal norms and reflect the continued diligent management of our working capital, as well as the implementation of the accounts receivable monetization facility, which we discussed previously, which contributed nearly $140 million in the quarter.

We had another strong quarter in business development, resulting in bookings of over $5.5 billion, bringing our book-to-bill for the quarter to 1.9 times, and a record ending backlog position of $28.3 billion. This outstanding backlog number reflects the successfully defended protests on the Hanford and AF NCR contracts, as well as our continued success in competing for new programs and takeaway opportunities.

Before I get into segment results, I’d like to point out that effective at the start of 2020, we reassigned several programs from the Civil reportable segment to the Defense Solutions reportable segment, to better align segment operations with the customers they serve. The net impact was that programs worth a total of about $1 billion of annual revenue, moved out of Civil and into the Defense Solutions segment. The 2019 financials have been recast to reflect the new structure for a year-over-year comparison, and have been provided to you in the supplementary financials file on our website.

Now for an overview of our segment results; Defense Solutions segment revenue grew 14.4% on a year-over-year basis, reflecting 5.7% organic growth and two months of contribution from Dynetics. On a pro forma basis, for the full quarter, Dynetics experienced approximately 30% growth compared to the prior year period. These strong growth rates take into account COVID-19 impacts that affected some of our intelligence programs in the latter part of the first quarter. We expect these programs to return to their normal run rates during the third quarter.

Non-GAAP operating margins of 6.8% in our Defense Solutions segment are uncharacteristically low, declining 120 basis points from the prior year quarter. The current quarter margins reflect $7 million associated with the programs impacted by COVID-19. An increase in indirect expenditures and a reserve for a potential $8 million receivables write down on an international program.

Defense Solutions booked over $1 billion of net awards, resulting in a book-to-bill of 0.8 times in the quarter and 1.6 times on a trailing 12 month basis. The recent successful resolution of the protest on the GSM-O II contract has not yet impacted these metrics due to our booking methodology. However, as we receive task orders on this IDIQ contract later in the year, the backlog will reflect those new bookings.

In our Civil segment, revenues grew 5% from the prior year quarter and 6.9% organically. This growth was driven by the increased contribution from the ramp up of new programs and volume growth on our existing programs. This growth was partially offset by the sale of our commercial cyber business last year. Non-GAAP operating margins in the Civil segment were strong at 10.9% the prior year’s margin of 12.4% reflected a number of non-recurring items that resulted in a higher than usual amount of write-ups, combined with higher volume in our security and transportation systems business. While the first quarter of 2020 saw lower product volumes and mix, we look forward to driving more value in this higher margin segment with the addition of the L3Harris Security Detection and Automation businesses.

Civil generated nearly $4 billion in net bookings in the quarter for a book-to-bill of 6.1 times. This was largely driven by the positive impact from the successful resolution of the protest on the Hanford contract.

And finally, turning to our Health segment, revenues grew 14.5% over the prior year period, 18.5% organically, after adjusting for the divestiture of the commercial staff augmentation business. This strong organic growth was due primarily to increased program volumes, and expansion of scope on our existing programs.

Non-GAAP operating income for the Health segment grew 360 basis points to 15.5% from the prior year quarter, due to a shift in program mix. Our Health segment saw approximately $250 million in bookings in the quarter, driving a book to bill of 0.5 times, with a trailing 12-month book-to-bill of 0.9 times.

And now on to the remainder of the year; we’re updating our 2020 guidance for revenue, adjusted EBITDA margin and non-GAAP diluted EPS, to include the addition of the L3Harris Security Detection and Automation businesses and the expected impacts to our business from COVID-19. We are adjusting our revenue guidance to a range of $12.5 billion to $12.9 billion. The updated range reflects 13% to 16% growth over the prior year. This range includes approximately $290 million of revenue contribution from the Security Detection and Automation businesses, offset by approximately 370 million of expected impact from COVID-19 and other associated market uncertainties. Note that we expect our COVID impacted programs to ramp back up to our normalized run rates during the second quarter, resuming full run rate in the fourth quarter and then continuing unimpacted into 2021.

We also anticipate that we will start to make up some of the lost revenue from Q1 and Q2 during the latter half of 2020 and into early 2021, as employees are able to return to previously closed customer work locations. With the abatement of the COVID-19 impacts beyond the fourth quarter, combined with the strength of our backlog and recent awards position, we are confident that we will achieve high single digit organic growth in 2021, with margins at/or above our 10% adjusted EBITDA margin long-term target.

In terms of margins, we expect adjusted EBITDA margins of 9.8% to 10% for this year. The primary drivers of the 20 basis point reduction from the prior range includes, an estimated value of approximately 30 basis points associated with COVID-19, offset by the approximate 10 basis point increase from the inclusion of the Security Detection and Automation revenues at accretive margins. Specifically, COVID-19 is impactful from a margin perspective in a few different ways. First, the revenue headwinds we are currently experiencing in our higher margin generating businesses. We expect to begin increasing our volumes back to normal run rates in these portfolios, beginning in the second quarter.

Second, some of our customers are only reimbursing costs and not fees associated with maintaining ready-state labor on certain programs. This is impacting margins on some intelligence programs within the Defense Solutions segment. And third, as mentioned earlier, we expect to begin ramping back to our historical run rate in margin mix across the enterprise, beginning in the second quarter of 2020. Our expectation is that we will be at normalized margins in the fourth quarter and continuing in to 2021. These revenue and margin changes result in an updated non-GAAP diluted EPS guidance range of $5 to $5.30. Our non-GAAP diluted EPS guidance range includes modest accretion from the SD&A transaction, and we expect the accretion from the transaction to increase beyond 2020, as we undertake integration activities and begin to realize revenue and cost synergies.

As Roger indicated, our guidance for operating cash flows remains unchanged at $1 billion or more for the year. As a reminder, our capital deployment efforts are focused on debt reduction, rather than share repurchases, until we approach our target net leverage ratio of 3.0 times, which we expect to do by the end of the first quarter of 2021.

Let me provide you with a couple of additional comments to help you with modeling. We expect net interest expense for the full year of $197 million inclusive of the L3Harris Security Detection and Automation transaction. We also expect a slightly lower non-GAAP tax rate in 2020 of 22%.

Before we turn it over for questions, I’d like to mention that for the third consecutive year, Leidos has been recognized as one of the 2020 World’s Most Ethical Companies by the Ethisphere Institute, a global leader in defining in advancing the standards of ethical business practices. Leidos is one of only 132 honorees from 21 countries and 51 industries to receive this recognition, and this award would not have been possible without each and every one of our employees committing to do what is right, every day.

With that, I’ll turn the call over to Rob, so we can take some questions.

Questions and Answers:

Operator

[Operator Instructions]. Thank you. Our first question today comes from the line of Jon Raviv with Citigroup. Please proceed with your question.

Jonathan Raviv — Citigroup — Analyst

Hey thanks, good morning everyone. Roger, you talked about some of these items of — there’s demand disruption and then potentially in some areas, it could be demand destruction. Can you parse between those two dynamics here? It sounds like it’s mostly disruption, but you did mention some potential shortfall — could it be with us for longer?

Roger A. Krone — Chairman and Chief Executive Officer

OK. I’m trying to understand your question. Let me take a shot and if I don’t get it — so I think we were pretty clear both Jim and I, that we don’t see significant long-term impact as a result of COVID-19, which is what I think your question was. Most what we saw — a little bit in Q1, but mostly in the month of April, except for the 3610 fee, which we will never get back, because we’re only being reimbursed for costs, not fee, we see almost — all of that revenue and therefore earnings just moving to the right, and will either pick it up in third quarter or fourth quarter or a roll into ’21. For instance, as you all know, we do a lot of work at hospitals, right, our Defense Health program is installing the new Cerner Millennium software at hospitals. Those hospitals are now being used for COVID-19, even those at military bases. As such, we are not getting access to the hospital right now, and so we are slowing down our deployment. But those deployments will still occur, they’re just moved to the right by a quarter or so. And so our DHMSM program will pick back up, in fact, it’s already starting to gain momentum again and should be fully back in third or fourth quarter.

So we’re not — Jon, I don’t I said that we saw a permanent impairment of our business and if you heard that in my comments, then I apologize. Clearly, we have seen impacts in the month of April. But but the vast majority of our impact is either the earnings we lose on 3610 or revenue and earnings that have been delayed. Back to you, Jon.

Jonathan Raviv — Citigroup — Analyst

Thanks Roger. No, I didn’t mean to imply that you said, I just want to make sure we’re perfectly clear on the disruption idea here. What I was getting at, though, a quick follow up here, is just, you did bring up the idea that going forward, maybe in 2020, 2023, 2024, 2025, let’s say, deficit starts to become more of an issue, discretionary spending could be pressured. I mean, you’re a big business, but you are also operating in a big market. I mean, how do you think about the company positioning for what that long-term spending environment could be? Because there is still going to be mission essential spending, but how do you position for — what those priorities and just share what those priorities are going to be?

Roger A. Krone — Chairman and Chief Executive Officer

Yeah. Well, Jon, we’re really pleased with how we have repositioned the business over the last five years, to be in parts of the market that we think are more resilient to what will be eventually a cyclical flattening of government spending. We have moved into mission essential, digital transformation areas and have diversified from a concentration in DoD, to where we now have essentially our four markets in defense intel health and civil infrastructure. So we’re really pleased with how we’ve restructured the company and how we position ourselves for the markets going forward, and if the Department of Defense slows in growth, I think we will see a lot of civil infrastructure projects, how we do inspection at airports is going to change with social distancing, and we are well positioned to take advantage of shifts in spending in that direction.

Jonathan Raviv — Citigroup — Analyst

Thank you.

Operator

The next question is from the line of Matt Akers with Barclays. Please proceed with your question.

Matthew Akers — Barclays — Analyst

Hey, good morning guys. Thanks for the question. I wonder if you could comment a little bit more on the security detection business? I know, Roger, I think you mentioned, you’re maybe seeing some demand pull forward during the slow period. But I mean how much of that business should we think of as kind of tied to sort of air travel run rate and the kind of just — seeing sort of an unprecedented downturn there. So how much of it is sort of that versus kind of longer cycle stuff that you have sort of booked already?

Roger A. Krone — Chairman and Chief Executive Officer

Yeah, it is — over the period of signing to closing, we’ve gone out and touched all of our traditional long-term customers and the new long-term customers that come to us by way of the L3Harris acquisition. We really wanted to understand what their capital spending plans were and what their view of technology was. And in the U.S., this is a funded through TSA, there are some markets where the inspection function is funded by ticket surcharges and it’s a mix, as you go country-to-country, what we heard across the board was, movement in new technologies, social distancing at checkpoints, CT scanning, the addition of biometrics which very-very few airport checkpoints have today, whether that be facial recognition, temperature scanning, and really what has gotten us excited is, I think this is going to spawn a recapitalization of checkpoints.

We were talking to one customer that said, can we put ultraviolet lights in the tray return conveyor, so that we could sanitize the tray as it comes back around and is presented to the next traveler. All of that is capital investments. All of that really plays well with the L3Harris business that we’ve gotten, and of course our traditional business was very strong in ports and borders. And this only accelerates the need to do inspection at the ports and borders, as we want to have control of the border, but we want to be able to tell, not only who is coming across, but now there are some aspects about do they have a temperature, things like that. So we were very-very excited about the L3Harris business back when we signed the deal in early February, and the world events have only made us more excited.

Matthew Akers — Barclays — Analyst

Great. That’s helpful. And then I guess, just one other on MHS GENESIS, there has been a couple of press reports that there may be some delays in that program. Are those impacting you, and what’s sort of — what the run rate that you guys are at, on that program right now?

Roger A. Krone — Chairman and Chief Executive Officer

As I made my comment to Jon, because those hospitals and even the ones at military bases have been dedicated to COVID-19 or at least put in a ready-state, so we have had to do more work off prem, to get ready for deployments, and we’re doing some other work on behalf of DHA as well with our team. But there has been an impact that we’ve seen slowing of our deployment. Maybe I’ll let Jim comment.

James C. Reagan — Chief Financial Officer

Yeah. As you know, there was supposed to be a peak in the deployment activity late this year, early next, and and now with the rescheduling, clearly that peak is being pushed out into 2021 as we kind of rejigger our schedule to accommodate the use of the hospitals for COVID-19 patients.

Matthew Akers — Barclays — Analyst

OK, got it. Thank you.

Roger A. Krone — Chairman and Chief Executive Officer

Thanks, Matt.

James C. Reagan — Chief Financial Officer

Thanks, Matt.

Operator

Thank you. [Operator Instructions]. Our next question comes from the line of Robert Spingarn with Credit Suisse. Please proceed with your question.

Robert Spingarn — Credit Suisse — Analyst

Hi, good morning.

Roger A. Krone — Chairman and Chief Executive Officer

Hey, good morning, Rob.

Robert Spingarn — Credit Suisse — Analyst

Roger, you talked about the work that you do with NIH that directly touches on the pursuit of a cure or therapeutic for COVID-19. Could you talk about the materiality of that revenue, where it stands now, and could that be a meaningful needle mover, as we move forward? And then really as a follow-up to that higher level, how should the market think about Leidos, given that you have a healthcare segment and just the long-term ramifications of the federal response to this disease?

Roger A. Krone — Chairman and Chief Executive Officer

OK. Let me start with the easy one. The work we do at Frederick National Laboratory for Cancer Research is part of our FFRDC support contract and although we believe it’s very important to the country, and it is a great past performance call for us, it is a never been for $12 billion, $13 billion company, a material set of numbers. So it’s just not — and it has to do with the way the contract for FFRDCs are structured and how we book. That being said, the work we believe is highly important and it provides credibility for us across our healthcare segment, and longer term, we like being in the healthcare segment, we view that as a significant growth market for us. It is, as you all have seen, our highest margin market, which shows that our customers value what we bring to the market there, and we continue to invest and to grow in that marketplace.

And your question about the federal response, I’ll make this statement, and I am really proud of what the organizations that we work with have done in response to the pandemic. This is unprecedented and unpredicted, right, and every organization that we work with, whether they are at NIH or NCI or frankly our DoD and Intel customers, have all leaned forward. We are doing virtual customer meetings by phone. We are doing Zoom chats, and across the board, you know there are a lot of people who are critical out there is not us. We are thrilled with all the hard work, that all of our customers have done, to try to keep our workforce employed and paid and to combat the pandemic and to take care of their employees and our employees.

Robert Spingarn — Credit Suisse — Analyst

I guess, where I was going with that, Roger was, once we’re through this, if they set up some kind of a federal pandemic office to try and prepare differently let’s say for next time how much of an advantage. Are you — does Leidos have versus the competition, given that you’re already in the Healthcare IT arena?

Roger A. Krone — Chairman and Chief Executive Officer

We think we have a significant advantage. And part of why we do FFRDC work, is to have knowledge of the environment and how therapeutics are created and how vaccines are created. Rob, as you may know, we are heavily involved in the Ebola vaccine and the worldwide effort to eradicate Ebola off the face of the planet. And although it doesn’t generate significant profit the way some of our other large programs do, it gives us great credibility, as we pivot to support what may very well may be a federal response — a permanent federal response to future potential pandemics.

Robert Spingarn — Credit Suisse — Analyst

OK. Thank you, Roger.

Roger A. Krone — Chairman and Chief Executive Officer

Thank you.

Operator

The next question comes from the line of Cai von Rumohr with Cowen. Please proceed with your question.

Cai von Rumohr — Cowen — Analyst

Yes, thank you very much. So, Roger, you talked about $270 million of COVID impact, and yet the guide has $370 million, which would imply about $100 million for other ‘market uncertainties.’ Could you give us some color on what those other market uncertainties are? And then of the $270 million of COVID related, walk us through some more specifics, like the DHMSM impact and some sense of the of the quarterly pattern, because it would suggest that COVID impacts could be bigger in the second quarter than the first? Thanks.

Roger A. Krone — Chairman and Chief Executive Officer

Yeah, Cai, let me get started on that and I’ll let Jim pick up on what I don’t talk about. So the $270 million, is that from a bottoms-up, we can tie directly to COVID-19, so 3610 Act slowdown on DHMSM. When we touch guidance, we sit back and go, OK, what are the unknown unknowns? And although it hasn’t happened yet, we think some of the procurements are going to slow down, and there is just going to be a little bit more drag on the business writ large, and when we touch guidance, we felt it was prudent to put another $100 million of revenue headwind in our guidance and it’s not specific, I can’t go into the additional — the $270 million, we can almost go contract by contract, and Jim may touch on the major pieces there. The additional $100 million for us is — I actually thought we were going to get an NDAA this year, and now, I don’t think we will. I think we’ll be in a continuing resolution. So our forecast assumes a continued growing federal budget and things operating in a normal way. And now, I don’t think that’s going to happen. I think procurements will slow down, that things will take longer, meetings take an extra week or two, there is no travel and we wanted to put in another $100 million of headwind to get us to a midpoint, which was indeed our 50-50.

Hey, a little bit of the quarter-by-quarter, Cai, as you know, we don’t guide by quarter. That being said, April must be the worst month, given what we all have been through. We’ve already seen states start to reopen here in Virginia, the Governor is talking about opening next week in non-essential. So we think that May will be better and June will be even better. But, if you’re starting to face, we now know our first quarter, there is no doubt that second quarter is going to be the quarter that’s the most impacted. And then we expect, as Jim said in his comments, to be fully recovered or maybe be better than by fourth quarter. Jim, you want to add some color?

James C. Reagan — Chief Financial Officer

Yeah, just a couple of more comments on that. Roger characterized it exactly that $100 million is the piece of our revision that does not have any specific contracts tied to it, but it is that — out of what we — Cai, as you know, we try to be pretty conservative in how we guide, and it was — we thought the the prudent thing to do, You asked for some color on a couple of contracts, we mentioned DHMSM, there is also, for example, we support the National Science Foundation and Antarctic. The Antarctic is the one continent that has no COVID-19 today, and they want to keep it that way, and so they have slowed down the level of activity that we are going to have down on the ice for the balance of the year. And so, that is — now there are some big programs down there that we’re going to manage and so that pushes into 2021, like a lot of these impacts. And then there is a part of our business, a couple of contracts that have a lot of fixed costs, and they’re also fixed unit priced, and that downdraft, that is going to be temporary in the second quarter, obviously is going to impact both revenue and margin in Q2.

That said, those customers that procure those products and services from us, have already contacted us about their restart plans and we’re working with them closely to begin re-ramping back in the second quarter, and we expect that we’ll be in much better shape there on the third.

Cai von Rumohr — Cowen — Analyst

Very helpful. So you mentioned protests, could you update us the NextGen protest, and also the UNH defense health takeaway win?

Roger A. Krone — Chairman and Chief Executive Officer

Yeah. Well, right now we’re in the throes of finishing and have recently finished all the back and forth and responses on the NGen protest. And right now, we continue to expect that that will be concluded in the second quarter. And as we said before, we’re pretty confident of that outcome, and that would result in a booking in Q2. And did you have another one in mind, Cai? I’m sorry.

Cai von Rumohr — Cowen — Analyst

Yes, the UNH defense health takeaway win?

Roger A. Krone — Chairman and Chief Executive Officer

Is that the Reserve Health program, Cai?

Cai von Rumohr — Cowen — Analyst

Yes, exactly.

Roger A. Krone — Chairman and Chief Executive Officer

RHRP? Yeah, we call that RHRP. Well, that’s in protest as well. Add two more months from where we are.

James C. Reagan — Chief Financial Officer

Yeah. And so that should be that should also be resolved by the end of the second quarter Cai, and so we’ll have something to say about that on our next call as well.

Cai von Rumohr — Cowen — Analyst

Thanks so much.

Operator

Our next question comes from the line of Edward Caso with Wells Fargo. Please proceed with your question.

Edward Caso — Wells Fargo — Analyst

Hi, good morning.

Roger A. Krone — Chairman and Chief Executive Officer

Good morning Ed.

Edward Caso — Wells Fargo — Analyst

I was wondering how much of your revenue guidance is a function of request for equitable adjustments, if that’s a meaningful factor that you need to recapture?

James C. Reagan — Chief Financial Officer

This is Jim. The REAs right now are in the forecast very conservatively, like zero. It’s not our habit to include those in revenue projections, mainly because the timing of resolution of those is pretty difficult. With that said, we have had a number of customers, I can think of one customer in the Health group and a couple of customers in the Defense segment, that had invited us to prepare a request for equitable adjustment for things like the fee on COVID standby labor pre-March 27, which isn’t provided specifically in the Cares Act. But our customers do understand that there is some significant lost profit. So the pursuit and successful closure of REAs, if it happens this year, would result in some upside to the numbers that we have out there.

Edward Caso — Wells Fargo — Analyst

Right. Can you also talk a little bit about your client’s behavior on award activity, and whether you’re seeing bridges and extensions in the current environment? Thanks.

Roger A. Krone — Chairman and Chief Executive Officer

Ed, thanks. I’ll start on that. To date, they have awarded pretty much on time and almost to our surprise, like the the human lander program out of NASA really was right on schedule. That being said, part of the $100 million that we added into our revenue guidance is conservatism on our part, that may not continue as we go throughout the summer. And just the RFP process, where maybe we used to do orals face to face and now we’re going to have to do orals by video. We just think that’s going to take longer. But as — through today, we have not really seen anything that I would call an appreciable delay, and in fact on our L3Harris deal, our Hart Scott, we got early termination. So the government is up and operating and things are moving forward.

Edward Caso — Wells Fargo — Analyst

Thank you.

Operator

The next question is from the line of Seth Seifman with JP Morgan. Please proceed with your questions.

Seth Seifman — JP Morgan — Analyst

Well, thanks very much and good morning. Just curious on the airport security acquisition that we are — the presentation that you guys did when the deal was announced back in January I think, when — you look at that now, should we still be thinking about the same types of numbers for 2020 and the out years, or is there kind of, do I need to kind of relook at things after after the close?

James C. Reagan — Chief Financial Officer

Yeah, thanks for the question, Seth. When we took a look at this business, both before COVID and really very recently and doing our diligence update we saw that the business was up through the beginning of COVID, the business was outperforming our own projections and pipeline and backlog, as we recently looked at it still looks good. As Roger mentioned, we had an opportunity to touch base with many of their major customers and we were pleased that they are continuing with much of their plans and in fact are thinking about how to reconfigure some of the systems that the L3Harris business has already sold to accommodate their need for more lanes for example, because of the need for slower testing, as airline customers go through security. Then that’s just by way of example.

Now with that said, there will undoubtedly be some slowdown in the revenue and just because of the inability in the short run, to get some of the work done, but it hasn’t changed our view of what the backlog — the order backlog of the business is. And those those provisions are — have been incorporated into our guide for that business for the rest of the year.

Roger A. Krone — Chairman and Chief Executive Officer

Yeah, and Seth, I just want to add, if you were going to take a word out of what we have heard. The word touchless is what we’re hearing from customers about the transit of passengers through security checkpoints, and every customer we’ve talked to has said, we have been doing this in a highly personal, highly contacted environment, and going forward, we don’t want to put — for instance in the U.S. our TSA agents at risk and we don’t want to contact the traveling public. And if you recall, your experience back when we all flew, depending upon what happens, you were touched and especially if you get a pat down, you might be touched three or four times through the checkpoint, and that’s just going to be unacceptable going forward. So the TSA agent is not going to want to hold your driver’s license, right. They’re going to want another way of verifying who you are. You’re going to put your material in a bin. Before you put material in another bin, you want to know that bin is sanitized, right. If you need to be — go through a secondary, you want to do a secondary in a way where a TSA agent doesn’t actually have to make contact with you, that means CT at the checkpoint. So a lot of great application of technology to the checkpoint of the future, and again, we’re excited about the opportunity to grow the business that we bought.

Seth Seifman — JP Morgan — Analyst

OK. Thanks very much.

Operator

Our next question is from the line of Sheila Kahyaoglu with Jefferies. Please proceed with your question.

Sheila Kahyaoglu — Jefferies — Analyst

Hi, good morning Roger and Jim, and thank you for the time. Roger, I wanted to follow up on Rob’s question with regarding the healthcare opportunity, not only on healthcare, but may be IT infrastructure, just given government employees are also working from home. Kind of where are we in terms of timing with these opportunities, when do they emerge? Are we step one in terms of tracking and tracing? Maybe can you talk about that?

Roger A. Krone — Chairman and Chief Executive Officer

Let me start with the easiest, and that which we have already seen a positive impact. Sheila, as you know we provide IT infrastructure and digital and transformation for a whole host of government customers from CMS to the Pentagon. We are the telework provider, for a significant part of the government. In fact, I’ll recount story, a Agency Director elected to work-at-home and that Director had never worked at home before, and we are the infrastructure for that particular agency. And so, we facilitated that individuals work at home. We configure the laptop, we made sure that he had enough bandwidth at home. We provided user support and that has been going on across our IT transformation contracts, and that’s immediate, And it’s not really in our guide and we really don’t know how it’s going to come down to the bottom line, but we’re seeing that across the board, and even more so in the health world; telemedicine is going to be a big deal and we view that both in the short term and the long term, and then — I think John’s question was or Rob’s was really focused on, we used to have a pandemic working group and that seemed to have gone away. We all know that’s going to come back. And we have seen a global viral outbreak every seven to 10 years. So we know this is not — there’ll be a COVID-25 and we expect that the federal government and organizations like NIH and NIAID will mobilize to put in a better response capability and I think for us that is a significant growth opportunity.

Sheila Kahyaoglu — Jefferies — Analyst

OK, thank you. And then maybe one follow-up on Defense, when we add back that international receivable margins that are still around the low 7%, so it implies a bit of a ramp. What’s going on in terms of profitability in that segment?

James C. Reagan — Chief Financial Officer

Yeah. Sheila, the profitability in the Defense Group, while we did have that unusual item, we had to record. If you take a look back in Q4, you might recall that we had a big write-up on a couple of programs in Q4. We keep thinking of that as being a business that should be running longer term, you know 8%-ish or a little north of 8%.

Sheila Kahyaoglu — Jefferies — Analyst

OK, all right, thank you very much.

Roger A. Krone — Chairman and Chief Executive Officer

Thank you.

James C. Reagan — Chief Financial Officer

Thanks, Sheila.

Operator

Thank you. At this time, we’ve reached the end of our question-and-answer session and I’ll hand the call back to Peter Berl for closing comments.

Peter M. Berl — Investor Relations

Thank you, Rob. Thank you all for your time this morning and for your interest in Leidos. We look forward to updating you again soon. Have a great day.

Operator

[Operator Closing Remarks].

Disclaimer

This transcript is produced by AlphaStreet, Inc. While we strive to produce the best transcripts, it may contain misspellings and other inaccuracies. This transcript is provided as is without express or implied warranties of any kind. As with all our articles, AlphaStreet, Inc. does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company’s SEC filings. Neither the information nor any opinion expressed in this transcript constitutes a solicitation of the purchase or sale of securities or commodities. Any opinion expressed in the transcript does not necessarily reflect the views of AlphaStreet, Inc.

© COPYRIGHT 2021, AlphaStreet, Inc. All rights reserved. Any reproduction, redistribution or retransmission is expressly prohibited.

Most Popular

Hormel Foods (HRL) to report Q4 2024 earnings results, a look at what to expect

Shares of Hormel Foods Corporation (NYSE: HRL) rose over 1% on Friday. The stock has gained over 5% in the past one month. The branded food company is slated to

What to look for when Hewlett Packard (HPE) reports Q4 2024 results

Information technology company Hewlett Packard Enterprise (NYSE: HPE) is actively innovating its product portfolio to better align with the AI-driven transformation currently sweeping the industry. In recent quarters, the company's

What to expect when Dollar General (DG) reports Q3 2024 earnings

Shares of Dollar General Corporation (NYSE: DG) rose over 1% on Wednesday. The stock has dropped 38% over the past three months. The discount retailer is slated to report its earnings

Add Comment
Loading...
Cancel
Viewing Highlight
Loading...
Highlight
Close
Top