Leonardo DRS Q1 2025 Earnings Call Transcript

Quartr
Provided by Quartr
May 1, 2025
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Operator

Ladies and gentlemen, good day, and welcome to the Leonardo DRS First Quarter Fiscal Year twenty twenty five Earnings Conference Call. At this time, all participants are in a listen only mode. Following the company's prepared remarks, there will be an opportunity to ask questions and instructions will be given at that time. As a reminder, this event is being recorded. I would like to now turn the conference over to Steve Ather, Senior Vice President of Investor Relations and Corporate Finance.

Operator

Please go ahead.

Stephen Vather
Stephen Vather
Vice President of Investor Relations & Corporate Finance at Leonardo DRS

Good morning, and thanks for participating on today's quarterly earnings conference call. Joining me today are Bill Lynn, our Chairman and CEO and Mike DePold, our CFO. He'll discuss our strategy, operational highlights, financial results and forward outlook. Today's call is being webcast on the Investor Relations portion of the website, where you will also find the earnings release and supplemental presentation. Management may also make forward looking statements during the call regarding future events, anticipated future trends, and anticipated future performance of the company.

Stephen Vather
Stephen Vather
Vice President of Investor Relations & Corporate Finance at Leonardo DRS

We caution you that such statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Actual results may differ materially from those projected in the forward looking statements due to a variety of factors. For a full discussion of these risk factors, please refer to our latest Form 10 ks and our other SEC filings. We undertake no obligation to update any of the forward looking statements made on this call. During this call, management will also discuss non GAAP financial measures, which we believe provide useful information for investors.

Stephen Vather
Stephen Vather
Vice President of Investor Relations & Corporate Finance at Leonardo DRS

These non GAAP measures should not be evaluated in isolation substitute for GAAP performance measures. You can find a reconciliation of the non GAAP measures discussed on this call in our earnings release. At this time, I'll turn

Stephen Vather
Stephen Vather
Vice President of Investor Relations & Corporate Finance at Leonardo DRS

the call over to Bill. Bill?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Thanks, Steve. Good morning, and welcome, everyone, to the DRS Q1 earnings call. Our first quarter results reflect a solid start to the year and meaningfully surpassed our expectations.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Strong steadfast customer demand continued to materialize across our broad and differentiated portfolio. We secured a healthy level of bookings that totaled nearly $1,000,000,000 in the quarter, which translated to a 1.2 book to bill ratio. Demand remains well diversified throughout the business. In Q1, we saw particular order strength for advanced infrared sensing, electric power and propulsion, tactical radars, laser systems and force protection technologies. It's also worth noting that this marks the thirteenth consecutive quarter with a book to bill above one, a trend that has resulted in our backlog pushing to new company records.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

As a result, that backlog increased to 8,600,000,000 which is up on both a year over year basis and a sequential basis. Furthermore, in Q1, we saw remarkable organic growth of 16%, profit expansion and improved cash flow. Material receipts pulled into the quarter to drive revenue growth well above our forecast. Overall, we anticipate this will translate into better quarterly linearity for the year on revenue and profit. As you know, we have been focused on driving more balanced quarterly distribution and achieving our full year financial results.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

In addition to solid operational performance, we commenced execution of our capital return initiatives with the payment of our first dividend and initial stock repurchases against the authorization announced last quarter. All in all, our strong results in Q1 laid a nice foundation for the year, but we are maintaining a vigilant posture amidst a more dynamic operating environment that has emerged over the past few months. Let me share some more color on our perspectives with respect to the macro conditions. We are in a unique situation as our customers are now operating under a full year continuing resolution for FY 2025. What is different from prior CRs is the DoD's ability to initiate new program starts.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Congress also provided greater funding execution flexibility and a higher reprogramming authority threshold. As of now, we have not seen any significant changes to customer procurement behavior, and the leading indicators reinforce the durability of demand. Additionally, we are still targeting a total company book to bill above one in 2025. Looking ahead, we are expecting that the FY 'twenty '6 President's Budget Request will likely be released over the next month or so. As I've mentioned on prior calls, historically, the most relevant and predictive variable for future U.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

S. Defense spending growth is the global threat environment. Unfortunately, it remains elevated and largely unchanged, which will maintain pressure on the need for higher investment for the foreseeable future. We also anticipate that the FY 'twenty six request will provide incremental clarity and the funding allocations for the administration's key priorities. DRS continues to be well positioned and closely aligned to important national defense initiatives focused on enhancing the lethality, effectiveness, and affordability of critical capabilities.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Our customers are expanding their investments in layered air defense and counter UAS, improving shipbuilding throughput and more broadly modernizing technology embedded platforms to deter and contest near peers. We are leveraging our core strengths to actively address each of these secular themes. Next, while the implementation for most of the tariffs announced last month have been temporarily postponed, I still want to discuss the potential implications. Overall, as a pure play defense technology company, we expect relative insulation from direct impacts related to tariffs. As a reminder, our customer base is largely U.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

S. Defense in nature. Our geographic footprint is principally in The U. S. With the exception of operations in Canada and Israel.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And lastly, our direct supply chain is predominantly comprised of U. S.-based companies. That said, we are keeping a watchful eye on any derivative impacts on the business and are instructing our suppliers to identify any tariff related costs so that we can pursue remedies from our customers should the need emerge. Secondly, China's increasing restriction on export of rare earth minerals to The U. S.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Also has limited impact on DRS. For us, the key rare earth reliance is on germanium, as it is an important element in our infrared sensing products. Since the initial restrictions went into effect in mid-twenty twenty three, we have taken mitigating actions to ensure our raw material suppliers had diverse sources. However, in the quarter, we discovered that a sole source optics supplier on an international program was unable to execute on our existing purchase orders. That placed us in an unfavorable position of absorbing increased cost as we rectified the issue with alternative germanium sources.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Outside of this discrete supplier issue, there have not been significant challenges with respect to supply to date, but pricing has certainly become more volatile. This supplier challenge that emerged in Q1, combined with the incremental cost escalation of germanium have been incorporated into our forward estimates and pressured quarterly ASC profitability. We have a steadfast priority on continuously enhancing program execution resilience across the business and are broadening the scope of our focus admits the more dynamic backdrop. Shifting to operations, we are making steady progress in several key areas. First, improving and expanding shipbuilding is a key national priority.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Our customers' behavior reflects an incredible urgency. We are working to expedite the completion of our Charleston, South Carolina facility as well as rapidly deploy the submarine industrial base investment announced last quarter to reinvigorate our steam turbine capability. Additionally, we are in ongoing conversations with customers on how to expand our role in supporting better overall throughput. Separately, but related, we are seeing new incremental domestic opportunities emerge

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

electric In the quarter, we also successfully demonstrated our electric propulsion capability on a medium unmanned surface vessel, proving the versatility of our technology as the Navy potentially considers a higher mix of unmanned naval platforms moving forward. Now to counter UAS, we are maturing the previously discussed directed energy capability through rigorous customer testing. The multiple rounds of results support the feasibility of near term operational deployment to augment existing systems. Additionally, we are actively working with partners to explore the integration of our counter UAS technologies into other domains and platforms, including the maritime arena to generate incremental growth. Next in the quarter, in partnership with best in class commercial technology partners, we announced the release of our AI processor.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

This AI processor is designed to quickly deliver real time threat detection, situational awareness, and advanced mission processing into combat vehicles. This processor integrates with AI algorithms and is engineered to process massive amounts of battlefield data to deliver actionable intelligence and also enable AI aided target recognition. We are also investing to advance our own software offering that will serve as an open operating system architecture to enable the management and fusion of multiple sensing modalities. Similarly, we predict that AI and other intensive applications will only drive growth of shipboard processing requirements. As a result, we are seeing customer appetite build for our advanced cooling techniques that enable greater computing density.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Last, but certainly not least, our infrared sensing remains in high demand across domains from dismounted to ground combat vehicles to missiles. On the latter, we are being designed into a number of next generation missile systems to provide our differentiated infrared capability. The diversity and breadth of our technology portfolio is a distinguishing characteristic of DRS and is facilitating multiple avenues for future growth. As I mentioned at the outset, I'm pleased with the nice start to the year. Our Q1 financial performance provides us confidence in executing on our 2025 outlook.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Clearly, the operating environment is significantly more dynamic compared to last year, and this has required us to leverage our agility to navigate through new complexities. That said, DRS remains well positioned to enduring defense priorities. We are maintaining a sharp focus on delivering critical innovation at speed, efficiently and in an affordable manner. With that, let me turn the call over to Mike, who will walk you through our financials in further detail.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Thanks, Bill. I would echo that we are off to a solid start to the year across our key financial metrics. Overall, the quarter was well ahead of our expectations. In Q1, revenue growth was 16% and ended up being meaningfully above the framework we laid out on the last call. This was mostly due to the favorable timing of material receipts.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Late in the quarter, we saw some supplier deliveries pull left by just a few days, which materialized at the sizable tailwind to Q1. Let me reiterate, this will mostly help drive improved quarterly linearity in 2025. Taking a closer look at the quarter, the most notable drivers of growth were programs related to ground and naval network computing, as well as offerings in tactical radars and electric power propulsion. From a segment perspective, the programmatic increases to network computing and tactical radars spurred quarterly ASC revenue growth of 18%. IMS revenue was also up nicely at 11% with growth evident across the segment.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Strong contribution from both electric power propulsion, as well as force protection programs were visible in the quarterly IMS revenue output. Now to adjusted EBITDA. Adjusted EBITDA in the quarter was $82,000,000 representing 17% growth from the last year. Adjusted EBITDA margin in Q1 was 10.3%, which represents 10 basis points of year over year margin expansion. The slight margin expansion was primarily as a result of favorable net contract adjustments and higher volume.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Shifting to the segment view, ASC adjusted EBITDA increased by 2%, but margin declined by 130 basis points, primarily due to negative contract adjustments in the segment. As Bill mentioned earlier, the discrete cost growth from the sole source supplier on the infrared sensing program, as well as the broader impact of greater germanium costs on our remaining backlog hampered profitability in the quarter. IMS adjusted EBITDA was up 38% and margin expanded by two sixty basis points, which was well beyond what we anticipated. Embedded in our baseline plan for the segment was the continued progression of Columbia Class and some operational benefit from increased volume, which both occurred in the quarter. However, incremental to our expectations was the recognition of favorable contract adjustments as a result of risk retirement milestones reached on Columbia Class.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Onto the bottom line metrics. First quarter net earnings were $50,000,000 and diluted EPS was $0.19 a share, up 7273% respectively. Our adjusted net earnings of $54,000,000 and adjusted diluted EPS of $0.20 a share were up forty two percent and forty three percent respectively. Strong organic operational performance combined with a reduced effective tax rate and a lower interest burden drove the favorable year over year compare. While the Q1 tax rate was lower due to excess tax benefits on equity compensation, we still anticipate a normalized full year tax rate of 19%.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Moving to free cash flow. Our cash usage in the quarter was significantly lower than this time last year, thanks to increased net profitability and enhanced working capital efficiency, partly aided by favorable timing and quarterly cash collections from customers. Our capital expenditures in the quarter were approximately 4% of revenue, in line with our expectations discussed on the last call. Overall, the year over year free cash flow improvement in Q1 supports better line of sight into achieving our full year outlook. With only one quarter behind us, we are maintaining our 2025 guidance across our metrics.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

We delivered a solid Q1, but the more dynamic operating backdrop offers both puts and takes that we are still evaluating. As a quick refresher, we expect the following for the full year. Revenue in the range of 3,425,000,000.000 to 3,525,000,000.000 implying a 6% to 9% year over year growth. Material receipts will continue to be the biggest factor influencing revenue output. We are operating with significant backlog visibility, but a small portion of book to bill revenue still remains.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Our adjusted EBITDA range is expected to be between $435,000,000 and $455,000,000 At this time, we expect IMS to offer more growth and margin improvement opportunity relative to ASC. Adjusted diluted EPS remains in the $1.2 to $1.08 per share range. The underlying assumptions on tax rate and fully diluted share count remain consistent at 19 percent and $270,000,000 shares respectively. Also, we are still targeting 80% free cash flow conversion of adjusted net earnings for the year. Lastly, let me frame up what we are seeing for the second quarter.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

At this time, we are expecting revenue to trend around $825,000,000 with adjusted EBITDA margin likely in the mid 11% range. I'll wrap up with some quick thoughts. We have an exceptional team. Our strategy is sound and we are well positioned for long term success. We are focused on capturing and converting significant demand into strong continued organic growth.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Additionally, we are keeping a steadfast focus on program execution to deliver value for customers and our commitments to shareholders. With that, we are ready to take your questions.

Operator

Thank you. At this time, we will begin the question and answer session. Our first question comes from Michael Ciarmoli with Truist Securities. You may proceed.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Hey, good morning, guys. Thanks for taking the call or questions. Nice results. Hey, Mike or Bill, I guess you talked about material receipts and pulling some work left. Can you maybe talk specifically to what programs?

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Was that more on the shipbuilding, the propulsion side? And then any color you can give on international growth in the quarter? Was that a contributor?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

So I'll take that one, Mike, and appreciate the question. So the material acceleration and the impact of the revenue was really more holistic across the board. We've seen some good supplier deliveries. Our on time deliveries have been improving. We saw some acceleration again, not a lot pull forward a week or so.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

And that really impacted the revenue for the quarter. So a good result there, good confidence in the supply chain right now. So that's what drove the over performance on that side. The increase from the year over year revenue has really been actually on the domestic side, the international, as you'll see when the Q is released is actually a little bit for the quarter just from this some of the timing from certain deliveries to actually to support Ukraine. So the international a little headwind for the quarter.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Don't anticipate that prospectively, But for Q1, was a domestic growth story.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Okay, got it. And then just piecing this together quickly here on the fly. I think you just said $825,000,000 revenue 2Q. I mean, the low end of the guidance, I mean, would imply second half maybe flat, almost down, I think, year over year. I mean, is that just is there anything you talked about supply chain.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

We've got the good kind of demand backdrop, bookings above one. Anything we should read into, just kind of leaving the door open for maybe the unknowns on tariff trade, if at all anything materializes there?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

I think you should think about it a little differently. Would say that we're continuing to push and improve linearity across the business. And I think you're seeing that materialize. So even if you kind of throw the Q1 results in the Q2 framework, our H2 guide would then say we're going to be somewhere between flat to up 6% on the top line and still showing a margin expansion in the 50 to 80 basis point range. If you look back into 2024, it's relatively consistent with what we started to see in Q4 twenty four, right?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

You saw the acceleration of revenue growth pull in as we improved our linearity. And then on the back end, you started to see the quarters not have the same robust growth. I think you're going to see that trend materialize here in 2025 as well.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Okay, perfect.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Last one for me. Just any concern going forward on that ASC margin? Should we expect a snap back? Or is that program now going to be running at a lower margin, given the measures you had to take with that challenged supplier?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Yeah, no, good question. And yes, so what we did here is we took the adjustment in Q1 to kind of reset the backlog for the remainder of the program. So the lion's share of the impact is going to be in Q1. And then you'll have obviously a lower gross margin prospectively, but that will be mitigated and you'll see a pop back.

Michael Ciarmoli
Michael Ciarmoli
Managing Director - Aerospace & Defense Equity Research at Truist Securities

Okay, perfect. I'll jump back in the queue. Thanks, guys.

Operator

Thank you. Our next question comes from Seth Seifman with JPMorgan. You may proceed.

Alex Ladd
Alex Ladd
Equity Research Associate at JP Morgan

Yeah. Hey, guys. Thanks for the question. This is Alex on for Seth. Maybe wanted to kind of ask at a higher level in terms of the margin expectations for this year.

Alex Ladd
Alex Ladd
Equity Research Associate at JP Morgan

Obviously, Q1 came in a little bit lower at 10.3% versus I think the full year guide implies a 12.8% margin. I understand last year we kind of saw a similar dynamic where the margin started lower before kind of increasing as the year went on. Curious kind of if you guys could help us walk through the puts and takes here. I imagine Colombia is a pretty big driver of the expected margin expansion. So maybe if you could kind of put a finer point on it and help us understand that bridge a little bit better.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Yes, Alex, the bridge is going to be a little more simple than that. What you're going to see is because we period expense our G and A, the volume matters in terms of the drop through on the EBITDA margin percentage. So as our revenue increases quarter over quarter, you'll start to see the margin have that impact of that additional operational leverage. So that's what's really going to drive it in terms of if you're looking at the sequential quarter projections.

Alex Ladd
Alex Ladd
Equity Research Associate at JP Morgan

Got it. Okay, that's helpful. And then maybe as a second question, kind of a bigger picture question. I know you guys talked about expediting the investments in the Charleston facility. And another thing we kind of saw related to shipbuilding earlier this week is these plans for this reconciliation bill.

Alex Ladd
Alex Ladd
Equity Research Associate at JP Morgan

And I think there's expected to be $34,000,000,000 of funding for shipbuilding. Kind of just thinking about is there any opportunity at least with the Charleston facility to maybe get DRS more involved on kind of the current classes of ships, given all this kind of funding going into them, going into shipbuilding right now? Just kind of curious about maybe how DRS could be involved in that as well.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yeah, I'll take that, Alex. We do see opportunity there. I mean, you should look at this as a stepped. We've got the Columbia class program, which is the original justification for Charleston, and that continues to increase both in terms of volume and margin. We've also now have an investment from the Navy to expand our content, in particular to become a second source on the steam turbine generators.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And we're just in the process now of developing the design for that, and that will phase in over the next several years. And then beyond that, we're in discussion with the Navy about further investments they might make and further support we might give to the expanded throughput, particularly of Virginia class submarines, which is a lot of the focus of that reconciliation bill that you mentioned, and as well as the administration's priorities. And we think we're in negotiation to have a participation in that through a Navy investment. And much of that would come through Charleston.

Alex Ladd
Alex Ladd
Equity Research Associate at JP Morgan

Got it. That's super helpful. Thank you, guys.

Operator

Thank you. Our next question comes from John Tanwanteng with CJS Securities. You may proceed.

Jon Tanwanteng
Managing Director at CJS Securities

Hi, good morning. Thank you for taking my questions and really nice quarter. I was wondering if you could just talk a little bit about the guidance. You obviously did much better in Q1. Some of that was pull ins obviously, but the full year was unchanged.

Jon Tanwanteng
Managing Director at CJS Securities

I was wondering just does that give you more cushion for the year or is that really an offset from higher inputs and tariffs and things like that?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

No, John, I think of it as our continued thrust on that improved linearity. So I think that's what we're doing. We're pulling some things left here. Still have that, as I mentioned earlier, still have the kind of zero to 6% growth on the second half and still have lion's share of the margin expansion on the back end. So it's, I would say it's less conservatism and more our continued thrust to have more linear operations quarter over quarter.

Jon Tanwanteng
Managing Director at CJS Securities

Got it, understood.

Jon Tanwanteng
Managing Director at CJS Securities

As we hear rumors of potentially up to or approaching a $1,000,000,000,000 defense budget, how do you expect your share of that to evolve? I know you've previously said that you expect to grow ahead of the defense budget. I'm wondering if that still holds true in the current environment and given what priorities are at the DOD today.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yeah, I mean, John, obviously, we don't have a budget yet, but I think the trends are good. As you say, they're talking about $1,000,000,000,000 I assume that means 50, even though it's beyond defense. But that would still mean a meaningful increase in the defense budget year over year and over the original Biden program. That's reinforced by the talk about up to 150,000,000,000 front loaded ad in the reconciliation bill. So I think the general trends are up.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And then we think the priorities of the new administration, as they've been demonstrated in that reconciliation bill, that was a congressional and then in the memo and other comments that are coming from the new administration. I think they overlap strongly with our core markets in shipbuilding and in force protection, the nuclear triad represented by Columbia. So we feel like we are well positioned for this growth and to take our share of it.

Jon Tanwanteng
Managing Director at CJS Securities

Okay, great. Last one, just wanted to focus on a comment you mentioned about being integrated into next generation missile systems. Is that a market that you traditionally had a lot of exposure to? Can you just size the opportunity that's ahead of you?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

For us, that's a little bit more of an adjacent market. We have a core capability in sensors. We're world class in terms of sensors. But moving that capability into missiles is something that we're in the midst of doing, and we see it as sort of a new opportunity, a greenfield for us. And as the sensing capabilities of missiles, the accuracy of missiles continues to increase, we think that we can provide the technology to do that.

Jon Tanwanteng
Managing Director at CJS Securities

Okay, so just to be clear, this is more of a greenfield opportunity for you, and you do have design wins in this arena?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yes, exactly right.

Jon Tanwanteng
Managing Director at CJS Securities

Okay, great. Thank you.

Operator

Thank you. Our next question comes from Ron Epstein with Bank of America. You may proceed.

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

Good morning, everyone. This is Mariana on for Ron today.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

How you doing? Good morning, Mariana.

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

So, question is going to be the first one on Europe. As these European countries build out their own, like, defenses, and they try to do their own, like, domestic systems. How exposed are you, and how big is the opportunity for you as a subsystem provider?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

I think there's a substantial near term opportunity, Mariana, I think in certain systems like counter drone force protection, some of our advanced sensing programs, we're pretty far ahead, particularly when you're talking about production. So I think that as they want to increase their capabilities and their capacities in those areas, they're going to turn to companies like ours. Over time, I think that may evolve into a competition as they use some of their new resources to develop organic capabilities. But I think that's down the road.

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

Thank you. And then a follow-up on the Navy opportunity. As you become a clear competitor or a clear alternative to actually increase the throughput with more outsourcing, with dual source alternatives, even with opportunities for higher volumes with commercial opportunities on some cases. How fast you could see those opportunities play out? What is your sense of the Navy actually or that money actually spreading down the supply chain?

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

And then how much ahead or how much involvement you should have as this administration asked for some skin on the game or commercial terms? Are you thinking about internal R and D to actually support and go forward and try to capture these opportunities?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

That's a complex question. On the last part there, we're already 85% fixed price. So we're, I think, already much closer to the commercial model that they're talking about. We know how to operate in that environment. We have been increasing IRAD, our organic investment, and we've been pushing it more towards things like developing prototypes of different capabilities.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

So I think we are already positioned in we're already do what they're talking about doing. We're less of cost plus shop and less of a response, just a pure response to requirements. Things like the directed energy capability for counter UAS, we try and be proactive and get ahead of customer needs and demonstrate them. On the first part of your question in terms of the competition in the Naval area, if you're implying that that's going to be a threat to the shipyards and the Navy, I don't think that's right. I think this is an enabler for the shipyards that their overwhelming desire, and it's what their customer wants is to increase that throughput.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

To do that, they're going to have to diversify the work and push more into the suppliers like ourselves, so that they can produce more submarines faster rather than more content each submarine. And so things like us doing integration and testing more of it before we ship to the yards. I think of the kinds of initiatives that the Navy's looking for. And I think the yard very much support. So I think this is a collaborative enterprise.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

It's not something where we're trying to take share from the yards.

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

Great. And just a quick follow-up on that one. In the Investor Day, you guys shared that you have exposure and you work with the Korean Navy. Through these alternative, I don't know, shipyards or help for the Navy to have not only more throughput but improve the maintenance of current ships and stuff. Do you have any exposure through those alternative channels?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

We're engaged right now in supporting a new ship class for the Korean Navy. And we're competing to put our electric power on the next frigate class. We don't have yet to have a response to our proposal on that. So yes, we're engaged with the international customers, particularly in Korea. And I don't know how this debate is going to go in chip building, but I think we do have that kind of knowledge and exposure of the international customer.

Mariana Pérez Mora
Mariana Pérez Mora
Director at Bank of America Merrill Lynch

Thank you so much.

Operator

Thank you. Our next question comes from Andre Madrid with BTIG. You may proceed.

Andre Madrid
VP - Equity Research at BTIG

Hey, good morning, everyone.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Good morning.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Good morning.

Andre Madrid
VP - Equity Research at BTIG

Want to ask, I understand that you guys are kind of staying on with the dividend and the buybacks as you had kind of signaled last quarter. But I want to revisit the M and A environment, see what you guys are seeing there and get your sense of that's still on the table from a cap deployment perspective.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yes. No, Andre, we did initiate the dividend and the buyback will continue through on that. But the priority still for the balance sheet strength that we have is M and A. We despite the kind of a little bit of disruption in the market, we are still seeing a robust pipeline. We're seeing opportunities that are strategically attractive.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And we're in the process of doing diligence on those without anything at this point to announce. But we're actively engaged in the process side, in the diligence side, and it remains the top priority we have for capital allocation.

Andre Madrid
VP - Equity Research at BTIG

Got it. Got it. And then I guess pivoting back now to tag on another question here, but I can't help but ask. Given the adjustments you took this quarter to reset for the germanium impact on the sole source contract, is there a point in time where this problem might creep up again? How much leeway does this provide us, I think?

Andre Madrid
VP - Equity Research at BTIG

It seems like we're set for through the balance of the year, but is there a possibility that this might resurface beyond? I know you have several years' worth of supply of germanium and inventory, but still.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Yeah. So the way I think I would look at this is what we did in Q1 was adjust for the new pricing mechanisms and getting the advanced germanium to this supplier took that for our backlog. I think the important thing to note is prospectively, what we've been doing is including economic price adjustment clauses in our future contracts in order to kind of mitigate the risk here of price volatility. So the customer has been willing to have those conversations. We're putting those clauses in place.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

So I think it becomes about backlog. And I think we largely have it contained here because we have pricing commitments now on those backlogs. We have scheduled commitments and supply commitments for that. I think we largely have it if you couple in the fact that we're going to be including these clauses prospectively to give us some reopener relief in case there continues to be volatility in pricing.

Andre Madrid
VP - Equity Research at BTIG

That's good to hear. That's good to hear. How frequently are those repriced or I guess renegotiated?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

So, what we're looking at right now is to start to include that in all of the programs that are beyond our funded backlog. So we're having conversations in real time to modify existing options, existing IDIQ placements that are coming prospectively. So we're really taking an aggressive stance here to make sure we get that reopener ability in as quickly as possible.

Andre Madrid
VP - Equity Research at BTIG

Got it. Got it. Mike, Bill, appreciate as always. Thanks.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Thanks.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Thanks.

Operator

Thank you. Our next question comes from Karl Ochsleger with Vertical Research Partners. You may proceed.

Karl Oehlschlaeger
Vice President at Vertical Research Partners

Thanks, guys. On and maybe this one's for Mike. On this on ASC, you know, you this charge of the raw materials, I guess, and you think you've worked through it, but has that sort of excluding that charge, is there a new kind of lower baseline expectation of margin there versus what you kind of thought going into the year?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

I think from if you're looking at our overall margin expansion for the year, we've always thought it was going to be skewed towards the IMS segment because of the strength of Columbia. And I think that that remains, I think you're going to see the overwhelming majority of the margin expansion coming out of the IMS segment. The ASC segment, obviously, will be a headwind to the overall margin for the year. And if you think about where we were in our last call, we were talking about incremental investment on the IRAD front. The overwhelming increase in the IRAD is also coming from ASC.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

So when you think about the kind of segment over segment outlook for 2025, think that the IMS segment is going to be the driver in terms of the margin expansion while ASC kind of hangs more in line with where they were last year.

Karl Oehlschlaeger
Vice President at Vertical Research Partners

Okay. And then just kind of follow-up on cash, I guess, for revenues and you did a good job of kind of improving the linearity. And cash too was as bad as it had been and biggest of the outflows you've had in the past in Q1. Is Q2 and Q3 is going to be kind of similar to what you've had in the past, though, is sort of more of a breakeven and then a pretty big Q4?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Yes. So I think, yes, the trend line is going to be similar. We accelerated some cash into Q1. I think some of that Q1 overperformance was some accelerated payments we received from certain customers. So I think when you're looking at Q2 cash, we probably won't get to that same breakeven level that we were in last year.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Probably have a little bit still on the negative side, just giving back a little bit of the performance we had in Q1. But trend line is the same, just making our incremental benefits in the overall linearity. And I think you saw that in Q1.

Karl Oehlschlaeger
Vice President at Vertical Research Partners

Okay. And then maybe this one's for Bill. This 150,000,000,000 that's getting talked about it. It was the shipbuilding angle was discussed a bit, but maybe give a little bit more color on other opportunities within that, like, know, there's Golden Dome's a big portion. And when you think about that 150, do you think you have a bigger share of that 150

Karl Oehlschlaeger
Vice President at Vertical Research Partners

than you do of

Karl Oehlschlaeger
Vice President at Vertical Research Partners

the overall budget? Is it just kind of skew better towards DRS than kind of the overall budget that the USS?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Hard to say because we haven't seen a new budget from the administration. But I think I said at the outset, we do think the broad priorities that are reflected in that reconciliation bill towards shipbuilding, you mentioned towards force protection, counter UAS, the support for the Golden Dome, where we think we have multiple options the lower end encounter UAS and sensing end with things like over the horizon radar. And then in the space, we're competing. I think that the Tranche three is going to be part of Golden Dome. It looks that way anyway.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And we're competing in that area with our space sensing capabilities. So we think we align with multiple dimensions of this reconciliation bill.

Karl Oehlschlaeger
Vice President at Vertical Research Partners

Okay. Thanks, guys.

Operator

Thank you. Our next question comes from Christine Lewag with Morgan Stanley. You may proceed.

Justin Lang
Justin Lang
Analyst at Morgan Stanley

Yeah. Hey, this is Justin on for Christine this morning. Thanks for taking the questions. Bill, one for It looks like the Secretary of Defense is pushing for a pretty big transformation of the Army with new details trickling out this week. Just wanted to ask to what extent you see any risks or opportunities here for some of the changes announced, given the service accounts for about a third of your revenue base?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yeah, I mean, we feel that where that we're headed with the Army is going to they're going to have to look at longer range sensors, given the threat, given what you've seen in Ukraine. As you look at Indo Pak, you're looking at longer ranges. So we think our core sensing capability is going to be even more valuable. And then we think as they make adjustments, we feel good about the platform agnostic position we have. They make adjustments that pull back on certain new platforms.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

They're still going to have to have improved sensing and computing. That means legacy upgrades. It means putting them in autonomous vehicles. Can we are it's easy for us to pivot to those new platforms and support putting the modern capabilities in those. So we think we're well positioned against those army priorities.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

And obviously, they've even as they reduce the force structure in the last administration, they increased the part of the force structure that was dedicated to air defense and counter UAS systems. It's that kind of alignment we think is going to continue in this administration. Kind of priority is going to pass through as we see the new budget.

Justin Lang
Justin Lang
Analyst at Morgan Stanley

Got it, super helpful. And then maybe just another quick one, a couple of peers have called out, marginally slower contracting activity in recent weeks. Are you seeing any evidence of this? And the press release called out sort of no change to customer behavior and bookings were quite healthy. So just trying to square some of the commentary we're seeing across the space.

Justin Lang
Justin Lang
Analyst at Morgan Stanley

Thanks.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

Yeah, I don't really can't comment on other companies. We obviously exceeded our expectations on bookings. So we did not see customer demand. We saw it not only we not see it flagged this quarter, we saw it increased. We had nearly $1,000,000,000 in bookings, which was higher than we had in our plan.

Justin Lang
Justin Lang
Analyst at Morgan Stanley

Great. I'll leave it there. Thanks.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Thank you.

Operator

Thank you. Our next question comes from Jan Engelbrecht with Baird. You may proceed.

Jan-Frans Engelbrecht
Senior Equity Research Associate at Baird

Good morning, Bill, Mike and Steve. Congrats on another good quarter. A lot has been talked obviously about the supplementals, but the funding and the strong expected 2026 budget request. But would you say that there's any increased confidence from your side to pursue high growth opportunities and perhaps self fund product development, just given the signals that you've seen by the new administration in terms of hardware support and just the areas that you play in?

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

I think what we see is we want to continue the path that we were on. We've been increasing our CapEx. We talked about on an earlier question, the support that gives the submarine and the Navy shipbuilding industrial base. We want to increase our IRAD, and we try and translate that into proactive moves with the customers, supporting, for example, the directed energy capability on counter UAS. We're already heavily fixed price.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

So we're, I think in the kind of commercial terms that the new administration has talked about. So we've been moving in that direction for a couple of years. I think what we want to do is continue steps down that same path.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

And I'll just add on to what Bill is saying here. The quarter, we increased our IRAD by about 40% compared to the prior year. So we are making the investments in areas as we discussed on last call to get our mission equipment package on unmanned service vessels, getting it on robotic combat vehicles. We do think we're gonna have to be agile in terms of to fulfill the procurement desires of getting things in the hands of the war fighters faster, getting innovative tech quicker. And we're making the investments to make that a reality.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

And you started to see that immediately here in Q1 numbers with that uptick in our IRAD spend.

Jan-Frans Engelbrecht
Senior Equity Research Associate at Baird

Great. Thanks. Well, thanks, Mike. And then just Mike, just a quick follow-up, perhaps an easy one, just on interest expense, just the cadence for the year, we obviously saw it looks like $1,000,000 for this quarter much lower than prior quarters, but just how should we think about that for the rest of 2025?

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Yes, well, there's likely going to be a tailwind from lower interest expense that carries into the full year. We wanted to see another quarter or so play out before we took that to the bench. But what we do believe given our cash position, what we've seen from an improved cash linearity perspective that even with the capital allocation we implemented, probably will see a lower interest burden than we did in the prior year.

Jan-Frans Engelbrecht
Senior Equity Research Associate at Baird

Great. Thanks, Mike. I'll jump back in the queue. Appreciate it.

Michael Dippold
Michael Dippold
Executive VP & CFO at Leonardo DRS

Thanks. Thank you.

Operator

Thank you.

William Lynn
William Lynn
Chairman & CEO at Leonardo DRS

At this time, I will turn the floor back to Steve Vather for any closing remarks.

Stephen Vather
Stephen Vather
Vice President of Investor Relations & Corporate Finance at Leonardo DRS

Thank you all for your time this morning and your interest in DRS. Of course, if you have any follow-up questions, please don't hesitate to contact me. We look forward to speaking to you all again soon. Enjoy the rest of your day.

Operator

Thank you. This concludes today's conference. You may disconnect now. Thank you for your participation.

Executives
    • Stephen Vather
      Stephen Vather
      Vice President of Investor Relations & Corporate Finance
    • William Lynn
      William Lynn
      Chairman & CEO
    • Michael Dippold
      Michael Dippold
      Executive VP & CFO
Analysts
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Key Takeaways

  • Leonardo DRS reported 16% organic revenue growth in Q1, secured nearly $1 billion in bookings for a 1.2 book-to-bill ratio, and ended the quarter with a record backlog of $8.6 billion.
  • Adjusted EBITDA rose 17% to $82 million with margins expanding to 10.3%, while GAAP net earnings were $50 million ($0.19 per share) and adjusted EPS climbed 43% to $0.20.
  • The company commenced capital return initiatives by paying its first dividend and initiating share repurchases under the previously approved authorization.
  • Despite continuing resolution funding and proposed tariffs, customer procurement remained stable and a one-time germanium cost hit was addressed through economic price adjustment clauses in future contracts.
  • Full-year 2025 guidance was reconfirmed, targeting $3.425–3.525 billion in revenue (up 6–9%), $435–455 million in adjusted EBITDA, $1.08–1.20 in adjusted EPS, and ~80% free cash flow conversion.
AI Generated. May Contain Errors.
Earnings Conference Call
Leonardo DRS Q1 2025
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