Lionheart Holdings
Q4 2016 Earnings Call Transcript

Published: 21 Nov 2016

[Operator:]

Ladies and gentlemen welcome to Cubic Corporation's Fourth Quarter Fiscal Year 2016 Earnings Conference Call. At this time all participants are in a listen-only mode. Today’s webcast includes a slide presentation as part of the formal presentation, followed by a question-and-answer session. You can advance the slides by using the left and right arrows, located in the upper right corner of the slide window. [Operator Instructions] As a reminder this conference is being recorded, if any1 has any objections you may disconnect at this time. Now I would like to turn the call over to Jim Edwards, Cubic’s Senior Vice President and General Counsel. Thank you, you may begin.

[Jim Edwards:]

Thank you, operator. Hello everyone and thank you for joining Cubic's webcast. Today, before market hours we reported our fourth quarter fiscal year 2016 results. We encourage you to refer to the Company's press release and most recent reports filed with the SEC as well as today's presentation slides. You can access these documents on the Investor Relations tab of Cubic's website at www.cubic.com or on the SEC's website. On today's call, Brad Feldmann, Cubic's President and CEO, and Jay Thomas, Executive Vice President and CFO will comment on Cubic's fourth quarter 2016 results. Mark Harrison, Cubic's Senior Vice President and Corporate Controller, will join us for the Q&A session. Please note that certain information discussed on the call today is covered under the Safe Harbor provisions of the Private Securities Litigation Reform Act. I caution listeners that during this call Cubic management will be making forward-looking statements about future events or Cubic's future financial and operating performance. Actual results could differ materially from those stated or implied by these forward-looking statements due to risks and uncertainties associated with the Company's business. These forward-looking statements should be considered in conjunction with and are qualified by the cautionary statements contained in Cubic's earnings press release and SEC filings including its annual report on Form 10-K and quarterly reports on Form 10-Q. The conference call contains time-sensitive information that is accurate only as of the date of this broadcast, November 21, 2016. Cubic undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this conference call. This conference call will also include a discussion of non-GAAP financial measures as that term is defined in Regulation G. Cubic believes this information is useful to investors because it provides a basis for measuring the Company's available capital resources, the actual and forecasted operating performance of the Company's business, and the Company's cash flows. Any discussion of non-GAAP measures is not intended to detract from the importance of comparable GAAP measures. With that said, I'll turn the call over to Brad Feldmann, our President and CEO.

[Brad Feldmann:]

Thank you Jim Thank you for joining us on the call. Today, I will discuss our year-end results for fiscal year 2016 along with fourth quarter highlights and a strategy update. Jay will cover our consolidated operating and financial results in detail as well as provide our fiscal year 2017 guidance that shows improved financial performance. On Slide 3, you will find an overview of our consolidated operating results. Sales for fiscal year 2016 were $1.46 billion, up slightly from last year due to our recent defense acquisitions and growth in our transportation segment offset by currency headwinds of $32 million. Adjusted EBITDA for the year was $118.0 million, down from last year due to an expected decrease in profits in our transportation segment from the transition to the new contract in London as well as lower profits in our defense systems segment on ground training related work. We'd anticipated recovering most of the shortfall in Q4 in our defense system segment, but we experienced funding and shipment delays that deferred sales and profits to fiscal year 2017. These results are consistent with our preannouncement on October 13, 2016. First, I will give a progress update on the major items that caused the Q4 shortfall. In training systems, we now anticipate receiving a settlement for an equitable adjustment from Littoral Combat Ship customer no later than Q2 FY ‘17. We have previously written off the excess costs and the recovery will have a positive impact on profits once finalized. For DTECH, we are making progress on an order that was delayed due to a funding reprioritization. We had met with the customer and expect increased demand because we believe our DTECH tactical data center solutions best address our customers’ needs. We now expect these orders to occur in the second half of FY ’17 and extend in FY ‘18. We have various air and ground training system shipments that were expected to ship in Q4 FY ’16 but slipped into FY ’17 due to changes in delivery dates requested by our customers. We are very proud to have completed the next phase of our ERP rollout in early October of this year. We expect to complete the rest of the phased implementation by early FY ‘18. We are expecting improved financial performance in FY ‘17. We believe our growth prospects are sound with several key contracts in the coming year including Cubic’s bid on the New York City New Fare Payment System, with an announcement likely in the New Year and open payment upgrades across many of our transportation customers globally. We're also expecting a decision to come this summer regarding the advancement from low rate initial production to full rate production on the GATR Transportable Tactical Command Communications Program or T2 C2 for the United States Army. With the presidential election now complete, we believe the Trump victory and Republican control of the House and Senate will ultimately benefit Cubic. In the short term, we expect the continuing resolution to be replaced with a fully funded appropriations bill early in the new calendar year. in the medium term, we expect the Budget Control Act and sequestration to be replaced with a budget deal that addresses necessary increases in discretionary spending including defense and transportation infrastructure. The new administration has explicitly stated its desire to rebuild both our nation's military capacity and the country's infrastructure. We believe these statements will favor growth in all of our businesses. We also expect lower corporate tax rates over the next several years as well as a possible tax holiday on foreign earnings. Overall, we believe the changes in the US government are beneficial for our company's growth and profitability and aligns with our strategic priorities. Moving to Slide 4, I'd like to discuss our longer term targets and rationale that went into developing Goal 2020 as well as provide an update on our strategy. By 2020, we plan to exceed $2 billion in revenue, driven jointly by organic growth and acquisitions. We will achieve this by focusing on our five strategic objectives, which are, winning the customer, building that NextCity globally, growing C4ISR globally, building NextTraining globally and living One Cubic. We plan to increase EBITDA with our portfolio shift to higher margin business areas and by implementing our range of One Cubic initiatives. We believe that by focusing on our objective of wining the customer, we will achieve 10% overall growth in line with our historical performance. We plan to continue deploying our capital primarily in NextCity transportation opportunities, C4ISR and in certain niche high-value training systems. We are targeting a debt to EBITDA ratio of 2.5x and we'll use our capital wisely on accretive acquisitions. With the integration of recent acquisitions and the pending completion of our ERP investment, we foresee improvements in cash flows in the United States and more flexibility to increase our dividend starting in FY ‘18. We have recognized the lack of growth and low profitability in our defense services business and we will be reassessing changes under President Elect Trump's new policy initiatives which if implemented are likely to increase demand for the kind of defense services we provide. I would now like to provide you an update on our five strategic objectives. Winning the customer continues to be the center of everything we do with a specific focus on innovation. This year, we are very proud to receive several awards for innovation across the company. Our defense business received an innovation Blue Ribbon award and recognition as a top simulation and training company by military training international magazine. The Blue Ribbon award is presented to companies leading the industry in innovation specifically focused on Live, Virtual, Constructive or LVC training Solutions. In transportation, APTA, the American Public Transportation Association awarded its 2016 innovation award to Cubic’s customer, the Chicago Transit Authority for the Ventra mobile app we delivered to them. The app provides one-stop convenience for train, bus and commuter rail services across the Chicago region enabling riders to easily plan, manage and pay for their journeys. We're pleased to announce that the Ventra app has reached the milestone of 1 million downloads. We’re also thrilled that our NextAgent, our next generation virtual ticket office which combines a ticket office, a ticket vending machine and a video linked call center all in one received multiple awards this year. NextAgent was awarded the Scheme or Product of the Year award at the 2016 Intelligent Transport Systems UK Awards for Excellence, The Product Innovation Of The Year award at the 2016 SmartRail European Innovation Awards, and the Best Product Innovation Of The Year at the Global AirRail Alliance Awards. NextAgent was also crucial to our recent contract win in Singapore. We have several exciting advancements related to our NextCity strategic objective, which is our vision for the future of our transportation segment CTS. Recently, we've been able to leverage our OneAccount solution, which enables the integration of all modes of payment including card, cloud account or mobile into several strategic wins. We have fully proven our capability to deploy our revenue management and transportation operations applications in the cloud and are under contract in Miami and Baltimore to deliver this capability. In Miami, we also launched a mobile ticketing app in the second month of the project. We are excited to see this trend for our customers wanting to move to the cloud and mobile. We also believe we have a highly competitive technological edge as a result of our leadership in deploying the highly sought after open payment functionality in both London and Chicago as well as recently achieving the primary system's acceptance milestones for our project in Vancouver. In Sydney, we have a pilot project to implement open payment to our Opal card system which should then lead to a system wide implementation of open payment over the next two years. We believe numerous other customers will demand open payment and their upgrade their systems over the next five years. We're in the middle of a critical competition for the New York City New Fair Payment Systems as I previously mentioned and remain confident due to our proven track record, technological edge and exclusive partnership with our customer Transport for London. New York's Metropolitan Transportation Authority recently extended our contract to support the metro card system on an as needed basis until the system is decommissioned, which is expected to occur in 2022 following the implementation of the New Fair Payment System. We are proud to have served New York's Public Transit System for more than 20 years. We are pleased to continue our partnership with the MTA and are focused on winning this critical recompete. In Q4, we also received a contract change from Transport for London which extends our Asset Management Services to the operational management of the bike sharing scheme. This supports are repositioning to provide systems and services across all forms of transportation as envisioned by NextCity. We have also opened an innovation center in London and are excited by the co-development with customers and universities on R&D programs for the future of gating and predictive analytics amongst many other projects. The CTS addressable market is over $12 billion with a compound annual growth rate of 5% to 7%. Our team is working to reach CTS revenue of over $900 million organically by 2020 with 13% to 15% EBITDA margins. Our mission solutions business which represents the tip of the spear for our strategy to grow C4ISR globally expects continued strong demand particularly at GATR. We are establishing a leadership position in expeditionary communications by delivering superior networking, full motion video dissemination and satellite ground data terminal capabilities on the edge of the battlefield. Recently, we have received several awards across GATR and TeraLogics, two of our recent acquisitions including multiple orders for GATR inflatable antennas supporting multiple service branches and an option exercise for the unified video dissemination system supporting airborne ISR dissemination for the Department of Defense. The integration and scaling of GATR and TeraLogics is well underway with key hires and a 50% staff increase at GATR’s headquarters in the important defense industry hub of Huntsville, Alabama. We're very glad to have them on the team. As previously mentioned, we are expecting a ramp up from low rate initial production to full-rate production on the GATR T2C2 program. We also recently received an award for a new research and development contract to study airborne networking terminals using HALO, our next generation antenna. In addition, we have successfully completed several key demonstrations for new products including a wideband communications system and an ultra portable satellite communications terminal, The CMS addressable market is over $2 billion with a near-term compound annual growth rate of 10% to 15% with high teen EBITDA margins. We are excited for the future of this business. The next strategic objective is to build our next training capability globally with innovative integrated training solutions to enable performance-based training. As we shift to this concept of performance-based training for our customers, especially in the blending of live virtual constructive and gaming offerings, we believe the next training addressable market will expand at least twofold. This is due to the ever improving virtual and constructive training technologies that help our customers mitigate the continuing increases in the cost of live training. We enjoy technical advantages in air range LVC training, training at ground range home stations and combat training centers as well as a naval game-based training for the Littoral Combat Ship program. Our work in the training domain was recognized by the US Air Force Research Laboratory which awarded Cubic a position on a team to study war fighter readiness and training. Additionally, we provide live training for the Joint Strike Fighter F35, which remains the largest military acquisition program and we are working to expand our capabilities on this globally developed platform as it expands its rollout. We have also recently won a significant recomplete for Special Forces training. We continue to intentionally share our technology, processes and people across the company in the spirit of One Cubic, our fifth and final strategic objective. In early October of this year, we successfully completed the next phase of our ERP implementation. By early FY ’18, we have completed the rest of our phased SAP implementation across the corporation at all our core global locations. We have decreased our supply chain vendors by half and as a result are seeing positive improvements in lowering our product costs. We anticipate these savings will grow as our back office and supply chain operations become even more efficient and adept at utilizing the capabilities of the new systems. In addition to these One Cubic improvements, we're sharing visualization, modeling and simulation, and other expertise between our defense and transportation segments. A recent example is the previously mentioned contract from the Land Transport Authority in Singapore to equip their future Thomson-East Coast rail line with their collection equipment including NextAgent. This contract repositions us in the Asian market and is our first fully funded contract for NextAgent. We are thrilled that our defense colleagues in Singapore were able to share their regional expertise and insights with their Cubic Transportation counterparts which helped us win this contract in a true One Cubic effort. We continue to feel very positive about our strategy, the leadership to drive it, our market positions, our rapid innovation cycles and the increased efficiency that we will achieve as we continue to rollout ERP across the enterprise. We also believe our Goal 2020 strategy and its five supporting objectives of winning the customer NextCity, C4ISR, NextTraining and One Cubic will achieve significant value for our customers and shareholders. We're pleased with the progress to date and our team is excited about the future. I would now like to turn the call over to Jay Thomas, our CFO.

[Jay Thomas:]

Thanks Brad. Now turning to Slide 5, consolidated sales were $1.462 billion, which were 2% higher compared to last year despite 32.2 million of FX headwinds. Sales in our two defense segments were negatively impacted this year due to funding shifts or customer requested delays which impacted the year and Q4 especially. Q4 sales were $406.6 million compared to $425.9 million or down 5%. Operating income was $7.2 million compared to $75.4 million last year. Operating income was lower this year due to lower margins in our defense systems and transportation segments, somewhat offset by an increase in defense service profits. I will discuss those specifics a little later. Also negatively impacting operating income this year were purchase accounting charges and operating losses from recent acquisitions in our defense system segment totaling $32.7 million and expenses related to the new One Cubic ERP system totaling $36.8 million. Adjusted EBITDA was $118 million for the year, down from $140.5 million last year. GAAP EPS was $0.06 for the year, down from $0.85 cents in the prior year. EPS was lower due to lower operating income, higher interest costs resulting from increased leverage on recent acquisitions and a pension settlement somewhat offset by a positive income tax benefit of $9.2 million. We offered a lump sum buyout payment to retired employers in our US pension plan in lieu of regular monthly payments. This resulted in a curtailment loss of $2.7 million. The lump sum payment buyout reduces our exposure to rising PBGC premiums and exposure to investment volatility. The lump sum was paid from planned assets. The $9.2 million tax benefit resulted primarily from a partial reversal of the deferred tax valuation allowance set up last year for US taxes. Now turning to Slide 6, I will discuss our transportation segment or CTS. CTS had sales of $586.4 million, which was up from $566.8 million last year or 3% despite $28.5 million of FX headwinds. Sales were higher in North America with increased project work in New York and San Francisco along with higher services revenues in Chicago and Vancouver. Sales were lower in the UK due to the pound weakening against the US dollar and the terms of our new London contract. CTS operating income for the year was $57.5 million, down from $75.9 million last year. The largest change in operating income was expected and related to the New London contract. Starting in August of last year, the new contract eliminated usage bonuses which in recent years range from $10 million to $15 million per year. Operating income was also impacted by start-up cost on the new London contract, adverse FX rates which had a negative impact of $3.9 million and higher R&D expenses totaling $5 million. The higher R&D expenses reflected accelerated investment in new transportation product development including fair collection technologies, cloud services and development of tolling and analytics technologies. All of these next generation technologies are tied to our NextCity vision and future growth plans. During the year, we won a series of new contract awards related to these investments including the New Hampshire tolling, Miami, Baltimore and Singapore contracts. Adjusted EBITDA margins of 11.5% for the year were consistent with our expectations for this operating segment. CTS ended the year with $1.793 billion in backlog, down from $1.894 billion last year. FX headwinds negatively impacted backlog by $95 million due to the decline in the British pound. Now turning to Slide 7, I will discuss Cubic Global Defense Systems. Defense system sales increased to $484.2 million versus $462.1 million last year. The increase resulted primarily from the recent acquisitions of GATR technologies and TeraLogics. For the year, we had higher sales in air combat systems and lower sales in ground combat training systems, data links and modular networking systems. During the fourth quarter, we experienced funding delays from the US DOD based customers and also experienced shipment delays on some US and international customers, which impacted sales for ground training systems and modular networking systems. Defense systems had an operating loss of $17.1 million. The operating loss included $32.7 million of charges for acquisitions we made in fiscal years ’15 and ’16. These charges for various expenses related to retention and stock-based compensation, earn-out costs, transaction-related expenses and amortization cost. We are required to treat a portion of the purchase price as compensation expense for pre-acquisition employee share awards, rather than purchase consideration in accordance with GAAP. In fiscal years ’15 and ’16, we acquired DTECH, TeraLogics and GATR Technologies to form the core of our C4ISR mission solutions business. Defense systems backlog ended the year at $576.8 million, down from $595.7 million last year. The decrease in backlog was related to lower air combat and ground training orders somewhat offset by the impact of the GATR and TeraLogics acquired backlog. Now turning to Slide 8, I will discuss Cubic Global Defense Services. Defense services had sales of $391.1 million, down 3% from $402.1 million last year. The sales were lower due to less activity on US Marine, US Army and Special Forces contracts. Overall, the segment was impacted by the continuing resolution which delayed new contract starts. Operating profit of $11.2 million was higher for the year due to lower amortization related costs and positive expense controls. Total backlog increased to $570.3 million from $485.7 million last year. The backlog increased due to competitive award of a Navy F/A-18 training contract totaling 64 million. After the end of the fiscal year, we successfully won a recompete on our primary special forces training contract. We also submitted a bid on a recompete for the Joint Readiness Training Center contract which is the largest contract in the segment. We are currently under contract at the JRTC through the third quarter of ’17. Now turning to Slide 9, I’ll discuss the balance sheet and cash flow. We had positive operating cash flows totaling $44.6 million compared to $89.7 million last year. Operating cash flows were negatively impacted by acquisition-related expenses, primarily in our defense systems segment totaling $28.7 million as well as $34.8 million at ERP related expenses. CTS and Defense Services had positive operating cash flow while Defense Systems had negative operating cash flows due to the acquisition-related costs. Total AR net of customer advances increased to 332.4 million from 284.8 million last year. The recent increase was attributable to acquisitions; a decrease in customer was attributable to acquisitions, a decrease in customer advances and higher AR days in our defense segment related to certain international contracts. During the year, we spent $243.5 million on acquisitions and this was financed by both short and long term debt. We finished the year with $441 million in total debt, up from $186.7 million last year. In 2016, we saw a significant decline in the British pound which decreased our cash balances by $33.5 million. We recorded $48 million of translation adjustments to other comprehensive income in our shareholders' equity, primarily related to the decline of the British pound. Other comprehensive income was also negatively impacted by an increase of our pension liability totaling $19.6 million resulting from record low interest rates. In the fourth quarter, we elected to accrue US income taxes on the income from our UK-based transportation subsidiary starting this fiscal year and going forward. We intend to pay dividends from our UK-based subsidiaries to the US to improve our liquidity and to focus on the near-term growth we are expecting across our US-based markets. Now turning to Slide 10, I will discuss our fiscal year ‘17 guidance. We are expecting consolidated sales to be in the range of $1.505 billion to $1.555 billion assuming no new acquisitions and constant FX rates which were set forth on guidance slide. We are expecting growth in our Defense Systems business resulting from a catch up on sales adjusted from ‘16 to ’17 due to the funding and shipment delays that occurred. In addition, we are expecting incremental growth in our mission solutions business due to the ramp up later in the fiscal year on the GATR, US Army, T2C2 program. We remain positive but cautious on our defense services business. As Brad noted, we believe the environment and activity levels for this business will grow once the new administration lays out its plans for the US military. We expect that this growth may not occur until FY ‘18. We are expecting positive growth in the second half of the year in our transportation segment due to a robust bid pipeline for fare collection work we currently have, particularly in the US for open payment and cloud-based solutions in cities such as New York and other cities in our installed base. We are projecting a rebound in consolidated operating income to be in the range of $30 million to $50 million, EBITDA to be in the range of $80 million to $100 million and adjusted EBITDA to be in the range of $120 million to $140 million. Our guidance assumes projected ERP expenses of $25 million to $35 million related to our One Cubic initiatives, $8 million to $12 million of legacy acquisition-related cost and higher R&D cost. The higher R&D costs relates to pre-award engineering cost in the defense and transportation segments as our contracts we're bidding such as New York, and next generation data links. In addition, we are continuing to invest in NextCity related technologies where we see the potential for market leadership and stronger growth towards our Goal 2020. Our GAAP EPS guidance is $0.40 to $0.80 with a projected tax rate of 33%. The higher tax rate reflects that we are now accruing US income taxes on our UK, Australian and New Zealand earnings. We have not assumed any benefits from a tax holiday that the incoming administration may recommend to Congress. Our EPS guidance also does not assume a significant change in our deferred tax valuation allowance. And with that I will turn it back to Brad for his closing comments.

[Brad Feldmann:]

Thank you, Jay. Now turning to Slide 11, our summary slide. We believe our Goal 2020 strategy is sound and we're making great progress on winning the customer, NextCity, C4ISR, NextTraining and One Cubic. While we’re disappointed by the shortfall in our fiscal year 2016 financial results, we fully expect the delayed orders to be received in fiscal year 2017. We anticipate improved financial performance in fiscal year 2017, especially in our defense systems, C4ISR businesses. The next few years are pivotal for Cubic’s future as we rebuild our infrastructure and increase our productivity and efficiency, and work towards our Goal 2020 vision. Together, our team continues its intense focus on implementing our strategy and providing superior value to our shareholders and customers. We're very excited for the future and appreciate your partnership in the company. Now let's proceed to the Q&A session.

[Operator:]

[Operator Instructions] Our first question comes from the line of Julian Mitchell from Credit Suisse. Please go ahead.

[Lee Sandquist:]

Hi, this is actually Lee Sandquist on for Julian Mitchell. The positive benefits from the election outcome such as defense and infrastructure spend and then also corporate taxes were discussed and you mentioned 2018 for defense services but, how soon do you think you could see the potential impact from these policies on the order book and P&L for the other segments?

[Brad Feldmann:]

Probably in late ’17 and in ’18.

[Lee Sandquist:]

Understood and could you also walk us through the path from 11.5% margins to the 15% to 20% guide that you just announced for CTS.

[Jay Thomas:]

So that's in the out year, so in the short term as we bid and win some new systems work those have lower than median margins and as those contracts get towards completion and we start shifting towards the services cycle that's when we see our margins picking up. So I think in the last two years, we've seen services running 55% to 60% of sales and products have been the difference or systems. In the next few years, assuming we win New York, we start on some other projects that shift is going to go back to products. And then by ‘18 and ’19 then we see the shift back into the services when the risk levels come down and we start getting back to our normalized margins.

[Brad Feldmann:]

Let me just add, in the CTS business, we're putting a lot of emphasis on reusability of software code and if you will building legos [ph] that we can reuse. So we see going forward the modularity of our code will allow us to have a lower cost base and therefore greater margins and Matt and his team are working on that very, very hard.

[Lee Sandquist:]

And then just one clarifying question and then I'll pass along, but does your fiscal year ‘17 sales guidance embed the anticipated benefit from the potential New York City contract that's coming up? Thank you.

[Jay Thomas:]

So, in all of our forecasts we always factor various contract activities, so there is a very low factored value in our number.

[Operator:]

Thank you. Our next question comes from the line of Jim Ricchiuti from Needham & Company. Please go ahead.

[Jim Ricchiuti:]

So the R&D levels that we are looking at, should we assume this kind of R&D spend going forward. It was up quite a bit from obviously from fiscal Q3 levels but is this - where we should be thinking about R&D going forward, Jay?

[Jay Thomas:]

I’m going to let Brad answer that question.

[Brad Feldmann:]

So we've increased our R&D particularly in C4ISR, we think we have some breakthrough products that can lead to large revenue streams. So we've intentionally increased there. We've also increased in CTS there a lot of products that we're trying to improve. And we think that will really help us in particularly in the domestic market going forward. So, I think there will be somewhat of an increase on a going forward basis, but probably not to quite the level that we have been doing.

[Jay Thomas:]

And I’ll just add that this year we're spending money in advance of winning some contracts and we can't predict what quarter these contracts are going to come in. So, take for example, in the York, we're doing some things in advance to sort of derisk the project. So that is actually - it’s hitting the P& L and because of the scale of that contract it's more material than we've seen in the past.

[Brad Feldmann:]

We’re also doing something similar on our training system contract as well. Both of those contracts were obviously fairly savvy that we'll win and get in backlog.

[Jim Ricchiuti:]

Brad, if we put aside New York for a minute. It sounds like you're looking at a number of other open payment opportunities, maybe without being specific on individual contracts, if we were to aggregate those, can you give us a sense of the opportunity, just putting aside New York, which we all know is a fairly large contract.

[Brad Feldmann:]

Let me say it this way, at the end of the script or in the CTS portion I said the teams working to get to $900 million in revenue. Today they are in the six band [ph], New York will add some obviously, Sydney open payment upgrade and the rest are a bunch of contracts particularly in North America. So we see good growth in the next few years within CTS.

[Jim Ricchiuti:]

And then last question for me, I'll jump back in the queue. A while back, you had talked about targeting operating margin improvement of 200 to 250 basis points by fiscal ’18, where does that stand or are you just seeing whether it's timing issues on the defense side and increased investment in transportation, does that push that out?

[Brad Feldmann:]

No, we have to get ERP fully implemented across the enterprise. As we proudly stated, we got the second phase done at the beginning of the fiscal year, which was ERP and our defense systems business in North America. We have a quarterly rollout period to get the rest of the business and in early ’18, we’ll be done with that. We've already started to see some savings in supply chain, we've seen between $10 million and $15 million. So we're still pretty savvy that between supply chain and SG&A savings, we’ll be able to increase the overall earnings of the company more than 2% starting in FY ’18 and it will be somewhat phased.

[Operator:]

Thank you. Our next question comes from the line of Brian Gesuale from Raymond James. Please go ahead.

[Brian Gesuale:]

A few thoughts on guidance here, wondering if you can - I think be LCS settlement is embedded in guidance in the second quarter if I heard your comment and read the script correctly. Could you confirm that? And then maybe also talk a little bit about the quarterly cadence and when we might start to see some incremental margin improvement on the incremental revenue. Thank you.

[Jay Thomas:]

Yeah we have embedded that that by the second quarter. The first quarter for us will be weaker than when we get to the sort of the third and fourth quarters, a lot of it has to do with the cadence around the continuing resolution. The latest reading is that funding would get released once they get the budget approved on new starts and so everything we're hearing sort of suggests that that gets done by March. And since we're on a fiscal year that's at the end of our second quarter. So, definitely a stronger third and fourth quarter, probably like last year a weak start in Q1.

[Brian Gesuale:]

And then maybe just a broader kind of question on the market. We’ve kind of hit the lull in the training cycle over the last three or four years with talk about incremental force levels, maybe some incremental training in Europe and force protection over there. Can you maybe talk about maybe the outlook for that business, how it's kind of come off the bottom here over the last, well with the election I guess? Thank you.

[Brad Feldmann:]

As we have read and heard the new administration is interested in rebuilding defense, the force levels we think are good for us in terms of increased training. I think time will tell a little bit but we're optimistic that most parts of the services business will get on a rebounded growth.

[Jay Thomas:]

In regards to your comment on Europe, we are actively out there in the market today trying to sell in now the C4ISR products and so we’re - we've actually set up a European sales organization to go after that market. So hopefully that starts turning into some orders during the next couple of quarters.

[Operator:]

Thank you. [Operator Instructions] Our next question comes from the line of Ken Herbert from Canaccord. Please go ahead.

[Ken Herbert:]

I just wanted to follow up on the revenue guidance, when you look at the DTECH and LCS, and the other one-time items that slipped out of ‘16 to ’17, can you give a little more specific guidance by segment and where we actually you know how the revenues flow through for ’17. I mean it looks like when I back those out; you're looking at maybe low-single 1% to 2% organic growth from a revenue standpoint. But can you give a little more specifics on a segment level.

[Jay Thomas:]

As we said earlier, the biggest growth is going to be in the defense systems and a lot of that has to do with having full-year results. We had partially year results last year on the acquisitions. So we expect growth across C4ISR because we’re going to go from low rate initial production to full rate production later in the year on the GATR products. Probably a little muted growth in defense services and that's just a tougher environment because of the CR. We’ve seen just delays in funding there, so not expecting a lot of growth. And in transportation, it really is sort of driven by when we get contract decisions later in the year, say in a New York or a follow on work in Sydney but we're definitely expecting growth in transportation.

[Brad Feldmann:]

I think we've been a little cautious and the reason is we don't know the exact timing of New York, we anticipated in the second quarter and CR, what the impacts of that are.

[Ken Herbert:]

I think that's prudent and it definitely looks like there's some conservatism in the guidance. If I take the adjusted EBITDA guidance and the bridge from the 118 this year to the 130 at the midpoint for ‘17 and I make the adjustments for looks like a little ERP and obviously lower acquisition related costs. Is it fair to say from a revenue standpoint at the operating segment level you should be looking at sort of flat adjusted EBITDA from ’16 to ‘17.

[Jay Thomas:]

Yeah and that's - but that's after taking consideration, this higher R&D and this pre-spend that we're doing and those numbers, you can assume that's about 1% of sales for those two categories between the R&D and the pre-spend that’s built into our numbers.

[Ken Herbert:]

And then finally, on the GRTC, the recomplete, can you just remind us when you might expect to hear about a contract award there or some of the milestones we should watch out for?

[Brad Feldmann:]

This is Brad, it's in the middle of store selection. We haven't as of yet got renewed questions. People are anticipating in the next few months, it seems like it's on track for that.

[Ken Herbert:]

So you don't see any timing risk around that award considering expected sort of March resolution to the CR.

[Brad Feldmann:]

I think potentially they’ll continue us under the existing contract and I think once they get a full budget they'll do the award, I think that's right.

[Jay Thomas:]

They keep it - they've extended us again, I think right now we’re extended through about Q3 on our original contract.

[Operator:]

Thank you. Our next question comes from the line of Josephine Millward from The Benchmark Company. Please go ahead.

[Josephine Millward:]

Let's say you win New York City in Q2, which is extremely likely, when can we start seeing revenue contribution?

[Brad Feldmann:]

We're assuming right now that that's going to be accounted for under our potential completion accounting. So as we incur costs then we would start to accrue revenues against that. So it, you know, again it's a ramp up on spending. Most of these projects, the initial phase is engineering before you start going into production. So when you have production, then you’re obviously you’re spending more money and incurring higher revenues. So early on, the revenues are going to be a little light and then it will build as we get into ’18 and ‘19.

[Josephine Millward:]

And on Sydney, if they decide full implementation upgrade of the system, can you help us quantify the opportunity set?

[Brad Feldmann:]

There actually it appears going to do a phased rollout over time and the amount of incremental revenue add is in the tens of millions of dollars category.

[Josephine Millward:]

Brad, can you give us an update on your [Technical Difficulty] what other award decisions are you expecting in the coming year?

[Brad Feldmann:]

Well, the big ones of course we went through was New York, the Sydney add-on, the full rate production decision for T2C2, there are a number of opportunities in training systems as well and Matt's area there are some domestic fare collection opportunities also.

[Jay Thomas:]

Also Josephine, if you've noticed there's been a bunch of recent awards in cities like Baltimore and Miami. Those are like follow on awards and so I think you're going to see a lot of those, the big competitive procurement, probably the biggest one in the pipeline is Boston. But we're not expecting [Technical Difficulty] Boston this fiscal year. I think the timetable suggest it's going to be at fiscal year ’18 decision.

[Josephine Millward:]

Would Boston be in the hundreds of millions or are we talking about tens of millions?

[Jay Thomas:]

Hundreds, it’s a combination of products and services.

[Operator:]

Thank you. Ladies and gentlemen we have no further questions in queue at this time. I would like to turn the floor back over to Mr. Bradley Feldmann for closing comments.

[Brad Feldmann:]

Thank you for joining us on the call today, we’re excited about Cubic’s future. Thank you very much for your continued interest and support of our great company.

[Operator:]

Thank you ladies and gentlemen, this does conclude our teleconference for today. You may now disconnect your lines at this time and log off your computers. Thank you for your participation and have a wonderful day.