DLHC - NASDAQ

Good day and welcome to the DLH Holdings Fiscal 2024 Fourth Quarter Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Chris Witty, Investor Relations Advisor. Please go ahead.

Thank you and good morning, everyone. On the call with me today is

Thank you very much, Chris, and welcome to everyone here for joining us on the fourth quarter communication. I'd like to take a moment to once again express our appreciation to the tremendous commitment that our workforce has given during this quarter to be able to deliver great results. It happens to be a very, very strong end of the year. And we really are truly blessed to have a well -- a strongly committed team of scientists, technologists and subject matter experts delivering every day for our customers and we really, really appreciate that. In addition, we're going to cover a number of things on today's call as we want to really give some highlights around our differentiating capabilities. But our troops have really done a tremendous job and I know we'll continue to do so in the quarters to come. Now turning to Slide 4, I'll provide an overview of our financial results. We reported fourth quarter revenue of $96.4 million, and for the full year revenue increased to nearly $396 million, surpassing our previous record results. Our EBITDA for the fourth quarter was $10.7 million and $42 million for the fiscal year. We generated operating cash of $12.5 million during the period, equating to $27.4 million of operating cash flow for the fiscal year. This cash generating ability allowed us to pay down debt by $11.9 million in the fourth quarter, ending the fiscal year with $154.6 million in total debt outstanding. Kathryn will review our results further in a moment. If you would turn to Slide 5, I'd like to give you an update on our near-term outlook as we move into a new year and soon a new administration. We are very pleased announce a new $76 million contract award with the United States Navy at the tail end of the quarter. This highly competitive award was won through a competitive procurement process unseating a long-term incumbent. Under this contract, we will provide critical systems engineering and integrated logistics support to support our fleet's C5ISR missions. Wins such as this illustrate the newly positioned DLH organic growth posture as we go forward. With a focus on leveraging now our technology-enabled solutions, the implementations of strategically new business organic development capabilities in order to win contracts from across our client base. Turning to broader industry trends, we are operating of course under another continuing resolution which when combined with in an election year with changing priorities of the new presidential administration is expected to have a substantial reshaping, we believe, of the federal government procurement landscape. Changes developed by traditional cabinet secretaries as well as other advisory organizations such as commissions, if you would, such as Department of Government Efficiency, DOGE, as we refer to it, will likely emerge in our fiscal '25 second and third quarters. As we remain very close to the administration's transition team, it's important that we keep a focus on how we see it impacting our addressable market, as DLH. I'm happy to tell you that at this stage, despite a lot of the headlines, we see it as neutral to slightly positive over the long haul with regard to our addressable market and growth forecast. To support our growth plan for fiscal '25, we recently amended our credit facility to provide flexibility while navigating small business conversion headwinds that we've talked about previously, most notable of those, of course, being our CMOP and our -- and with regard to our CMOP portfolio, we're operating under new task orders that currently extend into our services into the second quarter of fiscal 2025 as the VA continues to try to work through its procurement process. We continue to expect that the VA will conclude these procurements and make award decisions within fiscal 2025. In our last discussion during the previous quarter, we indicated that we are evaluating our CMOP proposal strategy in response to what then were some new amendments to the procurement process that were issued by the VA. In short, we have not continued our joint venture bids in response to all of those VA acquisition changes. We believe those changes will further dilute the performance standards or serve to former dilute the performance standards required, which typically results in low bidder awards. These, however, we believe will also be concluded during the year. Having said that, we have selectively participated in some of the sites as a value-added subcontractor. Turning to Slide 6, let me provide further detail into how we see the future of the company evolving. As you may recall, over 8 years ago, Kath and I began communicating and implementing an acquisition strategy that was designed to deliver on our strategy, which was to expand in very specific technology and scientific capabilities, and to diversify into selected markets beyond the VA. The DLH that you see today is the result of that strategy having unfolded successfully to assemble a dynamic science and technology-based enterprise with a broad set of capabilities and customers to create an enterprise that was greater than the sum of its parts. We are now taking that organization for a spin, for organic growth, and we're excited about the added business development engines that we have put into place. We were intentional about building a company that was capable to addressing the full range of our targeted customers' requirements in a way that offers an agile, best practice-based, high-tech solutioning company to compete favorably in the organic space. We think about our differentiating capabilities in three primary components, digital transformation and cyber security, science research and development, and systems engineering and integration. We internally refer to those as DTC, SRD, and SE&I. The main reason for having built this capability over the years has been to strengthen these service offerings with regard to these key agencies that have demonstrated strategically a strong interest in those capabilities. These happen to be the channels in which we provide our strong capabilities in artificial intelligence, and we've talked about machine language and large language systems. We've talked about robotics engineering and telehealth tools and technologies, the application of modeling and simulation, specialized engineering, and the like. And those are the powerful capabilities that we're able to leverage in developing winning solutions, much like on the recent award. Now, with these fully assembled capabilities, we're pursuing a nearly $4 billion pipeline, new business pipeline of opportunities for which we have substantially elevated win probabilities. As our investors know, we already have a seat at the table for many relevant future task orders through existing long-term IDIQ contract vehicles, and we are continuing to seek more. But we're also using our organic growth engine to go after larger, broader contracts that again look very much like our most recent win with the Navy. These services are in high demand because the federal government is looking to drive efficiencies. They're also looking to partner with organizations much like us, a company that in its DNA has been rooted on driving efficiencies, delivering best value, and reducing cost to our clients. These require more complex answers, how to get things done, how to do things more differently and more efficiently, leveraging tools such as AI and ML, and supportive data analytics, how to leverage digital transformation, cloud-based secure computing in order to improve systems performance and to pursue capabilities such as achieving precision medicine in the outyears. We also look at how to offer to the customer how to ensure that their networks are safe from cybersecurity attacks, how to tackle and address the health care challenges of today and most notably for tomorrow. Our highly credentialed staff, including our health IT professionals, a world-class team of experts, deliver these mission-critical solutions and services to our customers every day. The DLH team is recognized as thought leaders within the health and defense markets more and more, where we're pursuing major organic growth opportunities. This is where we are and we are looking forward to the future. Given our expanded capabilities and focus on these end markets, I believe that we're at a precipice of a new day at DLH, which will take us to much higher levels and stronger values as we achieve top line growth and operating outbound performance. This is clearly an exciting time as we navigate through some of these administrative and other near-term challenges. We really appreciate all of our investors who have joined us through this journey, and we're even more excited about continuing the successful strategy unfolding that we have shared with you over the last decade. We're excited about what the future holds from a shareholder value for DLH. With that, I'd like to turn the call over to our Chief Financial Officer, Kathryn JohnBull. Kathryn?

Thank you,

[Operator Instructions] The first question comes from Joe Gomes with NOBLE Capital. Please go ahead.

Thank you. Good morning,

Good morning, Joe.

Hey, Joe.

Just want to -- I know this is a little bit backwards looking, but I just kind of wanted to go a little bit over the CMOP. So it sounds like for fiscal 25', Q1 and Q2 were should be somewhat as the same Q4 run rate. But then going forward after Q2 when the extended contract -- the contract extension is over that that should drop off somewhat dramatically. And so I was wondering what percent of that $140 million of CMOP that you did this past fiscal year are you bidding on as a subcontractor?

Yes. Thanks. Great first question there, Joe. Yes, I think you're not far off. Our best estimate is as you -- as indicated that Q1 and Q2 will be relatively similar to Q4. Obviously, there will be some variances there. And then it is our current expectation that and communications with the VA that they are anticipating executing on some of the other awards downstream. So we're looking at the material aspects to be reflected in the second half of the year for FY '25, which coincides of course with the time period with -- provided there's not too much delay or paralysis associated with the continuing resolution and the award of new contracts with the ramp up hopefully of some decisions to be made on the bids and proposals that we have in place now. With regard to the -- our commitments on the bids, it's still very procurement sensitive environment. So we're really not giving very much color there. I can tell you that we are not bidding on all of them. There are several of them which we are not bid. We have elected to participate with small business partner on a few and we'll leave it at that.

Okay. Thank you for that. And obviously, in the quarter, you continue to do a great job of on the SG&A side, down that I think it was about $8.5 million. Is that a good run rate or going forward do you think there's more that can be taken out on the SG&A, obviously putting aside the whole CMOP part of it right this second?

I think our SG&A rate will run around -- it will probably as we indicated in our discussion on Slide 11 in the deck, we will feel some growth as a percent of top line as that top line as CMOP exits the top line. But we do expect to scale the business appropriately. So if you think about gross margin running at the 20% to 21% rate and EBITDA of 9% that implies SG&A of somewhere between 11% and 12%. As a function of really needing scaling the business where appropriate, but protecting our ability to execute and to really pursue and develop organic growth. So we are not anticipating scaling that level of effort. To the contrary, we think the size of the pipeline we've identified and worked focused on building means that we should continue to pursue that investment and deliver the top line growth. So there'll be -- for a period of time, there'll be probably some bubbling up of the percent of SG&A costs, the dollar value will vary depending on where the top line is. But I hope that helps you from a modeling perspective. But clearly, we understand the importance of scaling SG&A costs where we reasonably can, but we need to make sure we balance that in the context of protecting our ability to execute and deliver on our organic growth strategy.

Okay. And then on the defense presence that you guys have, obviously, we are having a new administration come in here in another month or so. And then same thing on the DOGE. Maybe you can just give us a little more color detail on the opportunities that this opens up for you guys and how that fits into some of your core strengths and especially on the DOGE going forward?

Yes, great question. Yes and again I've had the pleasure sitting down multiple times with folks on the transition team working a variety of the agencies and as well as the DOGE Commission as I kind of refer to them. What we like about it in terms of our heritage and DNA is we have been a company. If you look to use the example of the CMOP over the course of when we took it over, the number one driving aspect for growth for us was that we were driving efficiencies into the business that they had not accomplished before, right? And as those efficiencies that led to the VA achieving record level per capita costs for delivering their services prescription pharmaceutical service record level, right. Along with that achieving the highest exacting standards of customer service and satisfaction to our veterans, right. Evidenced by nearly two decades consistently of winning the JD Power Award for mail order pharmacies against all of the commercial and other countries. And so we have -- our culture has been that way all along. Every time we brought in new family members through acquisitions and organic growth, that's also been a cultural imperative to make sure that we are in alignment. And I can tell you that our leadership teams and on all the contracts that we execute, we are looking to drive best practices in a way that delivers efficiencies and cost savings. And even at the expense of revenue, top line revenue for us, we believe that doing those right things will usually yield positivity and it has for us. So we are looking forward to being able to have a dialogue with and look for those opportunities where this new administration is looking to accelerate efficiencies. And that's just a strong part of our DNA that we think positions us well with a lot of the headlines coming out of there from the DOGE and other perspectives. Beyond that also is your question with regard to defense and as you well know, we are bolstering our commitments to defense as evidenced by our win with the Navy, most recent win with the command control and the intelligence, surveillance and reconnaissance community. We have seen for quite a while a convergence between the health care community and the cybersecurity and data surveillance arena. And that intersection over the last several years has made its way into strategic plans of organizations such as HHS, various divisions there and hugely across the defense and military health services community. And so we are looking to leverage that where we will have expansion with Navy, Marine Corps and others, much like you saw in our recent TACNET [ph] win against a large long time incumbent. But our pipeline is also healthy there too. I would say today Joe, approximately 50% of our new business pipeline over the next couple of years is reflective of defense health and defense intelligence community as well.

Great. And then one more if I may and I'll turn it over. So Kathryn, I know it's a very fluid situation here, but do you have any goal for debt reduction for fiscal '25 that you care to share with us?

Well, I do expect to continue at a very healthy EBITDA conversion rate. My internal target is 55% of that. So, it's going to be a function of the timing of when CMOP exits a portfolio. But whatever EBITDA we deliver, I do expect us to convert that smartly to ability to pay down debt.

Great. Thanks again for the time and I'll turn it over.

Thank you.

Thank you, Joe.

The next question comes from Burt Osterweis with Osterweis Business Consulting. Please go ahead.

Good morning,

Good morning, Burt.

Good morning,

Yes. What's in the balance sheet is really a function of what exists at time of the acquisition. So purchase accounting requires you to value the business you acquired. So and it really only allows you, requires you, but more so allows you in terms of establishing an asset, really only allows you to establish that for awarded contracts. It doesn't allow you to value your pipeline of potential other future opportunities. That's kind of inherent in goodwill, if you will. So the intangible related to the backlog of all the various acquired companies, that's all footnoted out for us in the 10-K. I apologize if I don't remember the footnote. No, but if you want to reach out to me later, I can tell you. But those amortize over average useful lives of the contracts at the time you do the acquisition typically somewhere between 7 and 10 years.

So that Navy contract would appear that some component of it would have bumped the intangible assets?

No.

No. Since that was not a contract that the acquired company had at the time we bought them, it's not a part of that valuation.

Okay. I got you. All right. Thanks so much. Have a happy holiday if I don't see you before.

Yes, thank you.

Thank you, Burt.

Same to you Burt, you and yours. And as you know, maybe we'll see you March 13 when we have our annual shareholder …

I hope so. Thanks.

Absolutely. Thanks for joining us.

[Operator Instructions] The next question comes from Ross Davisson with Banneton Capital. Please go ahead.

Good morning, Ross.

Hi,

Hey, Ross.

Thanks for taking the question.

Yes.

The -- I think the only question I had was around just setting aside CMOP, my understanding is that you faced a headwind of small business set asides just in the other parts of the business as well. And if I have that right, is there kind of a known amount or a horizon of that transition or is it an ongoing process and you're just -- it depends a lot on procurement processes and you're just not sure when it might end?

Yes, great question, Ross. Yes, indeed, there was a component that was inherent and we disclosed to some extent, but as you know, just about every one of our acquisitions had a portion of their business that we described that was contributed to the pro forma that was subject to small it was already small business set aside and there was zero likelihood that we would it would change as they came full term. Some of those had a year of life, some of them 2 years of life in the small business ring before they came around. So those were clearly known. And then as we indicated earlier in this year, in January of calendar '24, the President issued an executive order, executive memo that translated into a number of agencies where they put added pressure on agencies to identify more work as recurring work to have it set aside. And so we've been modeling those and we've had our industry has had some pretty material impacts from that over the course of the last year, some very large contracts and we've had we've seen where a $1 billion contract that was held by a very large company went to small business set aside and we were not immune to that as well. So we've had two to three of ours that we've had long-term contracts. What we're finding the government doing is trying to unbundle or break apart some of those and say, hey, here's maybe a $20 million annual contract that maybe $10 million of that can be set aside for small businesses, so let's take an approach. And so as this approach of breaking those up. And so for us on our recurring work, obviously, there's risk that we build into our waterfall in our pipeline. And Kathryn and I are modeling when those risks are anticipated to occur. We do see some of those occurring in 2025 that we've addressed. At the same time, we've seen some opportunities where some pieces of some very large contracts where the government is breaking those up from some of the multibillion dollar companies that there are pieces that when what's left is still unrestricted where we can now maybe compete very favorably. So there's some additions to our new business pipeline where we think there's a degree of vulnerability now by some of those long time incumbents who may have had a proprietary piece folded into it that no longer will be in that scenario. So we do expect some erosion from the small continued small business set aside work that again both we had planned from the acquisition standpoint as well as the response to the executive order. And we are fortunate that our new business pipeline position is as good as it's ever been and not just the size, we never tout the size of it. I rarely even mentioned those sort of things, but it's the quality of that pipeline and our ability to have the technology resources and differentiating capabilities to elevate our win probabilities. We've successfully won 100% in fiscal '24 of all of our prime eligible recompetes and we are off to a good start with our Navy TACNET award and we are hoping the government is going to be making more and more decisions. A lot of these, we really hope they're going to try to get decided in the coming quarter or two, so that we will have a great ability to offset some of that erosion.

And Ross, I would just add to that to say, of course, what we are describing to you is what we are experiencing, that's the philosophy and the direction provided by the outgoing administration. And if you've been in this business for more than a handful of years, you know that the pendulum swings and each administration wants to provide their own imprint and their own philosophy and all that. So whatever we're describing to you is really what we've seen and heard the current administration articulate. Of course, we are watching carefully what the new administration will set forward as their goals. And the key for us, as

That's very helpful. A really good color. And yes, great point, Kathryn. Of course, everything could change come January, February and thereafter.

That's interesting, I guess.

Just kidding. And just quick follow-up on that. So I mean, is it fair to think about and this is just kind of more like kind of a story to fiscal 2024, is it fair to think about you had this headwind that you just described and it's helpful to understand like some of it was clearly identified when you acquired GRSi, and then some of it was more driven by the executive order. Is it fair to think of F24 as facing that headwind and then the what because of the continuing resolutions and just some of the slowness there that you didn't see as much ramp as you might have otherwise. And so you've got this declining anticipated, but slightly declining piece and you didn't have as much growth as you might have had because of a slow kind of process. Because I totally hear you that there's a large amount and a very -- it sounds a very exciting amount of sort of business to come and I'm excited to see that. I'm just curious as you think back on the year, was there a bit less of a pickup in new business than you might have otherwise hoped?

Yes, that's a great question. Yes, I think the right way to look at it, Ross, is that we -- our new business pipeline is at a record for a couple of reasons. A, as we've gotten really good at identifying and positioning for some really good quality opportunities that now reflect the totality of our capabilities in DTC, SEI and SRC, right. These are the capabilities that each of our decision makers and our targeted agencies need desperately. And those awards -- those type of awards will have high value, will have best value awards and we think will add great value in terms of our financial profile. At the same time, there's been a buildup, right? We don't count the recompetes in those numbers like CMOP and so forth and of course, you know our status there. But we would love to see more decisions, right. So that there are things that we have been anticipating, we would have submitted proposals by now that still continue to slip to the right. That's often a function of budget instability, right, which comes with CRs where customers just really can't make decisions in Q1, Q2 not knowing again what they will have at their disposals for three and four. And so it's really a two-pronged thing. There weren't anything as we were missing. It's really largely the fact that acquisitions, while they're not as bad as what we've seen from the VA on CEMA, there are a number of other programs that we are chasing where the incumbent is getting extensions like we are, but we are really hopeful and starting to see signs that RFPs will be coming out.

Okay. Yes, that’s really helpful. Thank you both. I appreciate it.

Thanks for joining us, Ross.

This concludes our question-and-answer session. I would like to turn the conference back over to

Thank you. Once again, I want to thank you all for participating today and for your continued support and interest in DLH. We are really excited about what the future holds. We really appreciate your continued interest and we will certainly keep you posted with regard to the evolution of not only the impact of the administration changes, but the continued evolution of DLH. A major part of that of course will be our descriptions of the business as we approach our annual meeting for the shareholders, which is scheduled for March 13. And once again, we'll be based in New York. So we look forward to engaging you as we continue to keep you abreast on both Q1 and the implementation of the strategy. Thank you again, you all and have a blessed day. Bye for now.