Kratos Defense & Security Solutions (NASDAQ:KTOS) Q3 2026 Earnings Call

0:00 Good day and thank you for standing by. Welcome to the Kratos Defense & Security Solutions third quarter 2026 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you'll need to press star 1-1 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker today, Marie Mendoza, Senior Vice President and General Counsel. Please go ahead.

0:34 Thank you. Good afternoon. Thank you for joining us for the Creative Defense and Security Solutions Third Quarter 2026 Conference Call. With me today is Eric DeMarco, Creative Assistant President and Chief Executive Officer, and Deanna Lund, Creative Assistant Executive Vice President and Chief Financial Officer. Before we begin the substance of today's call, I'd like everyone to please take note of the Safe Harbor paragraph that is included at the end of today's press release. This paragraph emphasizes the major uncertainties and risks inherent in the forward-looking statements we will make this afternoon. Please keep these uncertainties and risks in mind as we discuss future strategic initiatives, potential market opportunities, operational outlook, financial guidance, and other forward-looking statements during today's call. Today's call will also include a discussion of non-GAAP financial measures, as that term is defined in Regulation G. Non-GAAP financial measures should not be considered in isolation from or as a substitute for financial information presented in compliance with GAAP.

1:32 Accordingly, at the end of today's press release, we have provided a reconciliation of these non-GAAP financial measures to the company's financial results prepared in accordance with GAAP.

1:41 Eric? Thank you. Kratos' affordability as a technology and making the investments up front to be first-to-market pillars are winners. As reflected in today's report, and I expect Kratos' affordability to be even more differentiating for our company, once the new Congress sits in January. Kratos' business is built on working with the department, the traditional prime system integrators, production programs and programs of record, certain of which I will highlight today, and all providing us confidence in our continued high organic growth expectations and forecast. Our Q3 report includes a consolidated revenue growth rate of 35.7%, organic growth of 23.2%, Bookings of $1.04 billion, a book-to-bill ratio of 2.2 to 1, and a record backlog of $2.6 billion.

2:37 I will emphasize that our Q3 2.2 to 1 book-to-bill ratio is on top of our third quarter nearly 36% organic growth rate. And along with an increased opportunity pipeline of $15.5 billion is reflective of the continued acceleration of our business in the third quarter. Also importantly for Q3, we reported an adjusted EBITDA profit margin of $50.9 million, or 10.8%, demonstrating leverage of the Kratos business as production quantities increase and as we continue to scale. We have also provided our initial full-year 2027 financial forecast, including revenue of $2.1 to $2.2 billion, an adjusted EBITDA of $230 to $240 million, reflecting revenue growth of approximately 18% to 22% over our current increased 2026 financial revenue guidance range.

3:34 I will highlight that Kratos' internal 2027 revenue and EBITDA financial forecast currently rolls up considerably higher than what we are initially guiding to today, with a substantial part of the 2027 forecast supported by programs of record including either direct with the government or with our large traditional prime contractor partners or commercial type contracts. We are trying to be cautious with today's initial 2027 guide as a result of a current continuing resolution, a lame duck Congress, a new Congress that's going to sit in January, divided government party leadership, and continuing supply chain challenges. Assuming the continuing resolution is resolved and there is a funding appropriation in place early next year, similar to prior years, we expect Kratos' third and fourth quarter of fiscal 27 to reflect substantially greater revenue in adjusted EBITDA, and we expect Q1 2027 to be our lightest revenue in EBITDA fiscal quarter.

4:38 There is a generational recapitalization of U.S. and its allies' military industrial base underway. which has and which I believe will continue to have bipartisan support, and there are a very limited number of qualified companies like Kratos able to address the related demand. The global threat environment is real, threats are increasing, and I believe that there is bipartisan conviction and support for the whole of nation effort that is required to deter and if necessary defeat our enemies and preserve all of our freedoms and our way of life. Since our last report, Kratos Valkyrie has recently successfully flown in Europe with our partner Airbus, achieving or exceeding every required milestone, and we have now very recently received what I will call a Valkyrie Low Rate Initial Production, or LRIP, contract award.

5:32 I am currently unable to disclose details related to this Valkyrie order due to specific customer-related restrictions. and we expect to receive additional Valkyrie awards in 2027. With our outstanding partner Airbus, the U.S. Marine Corps' MUX-TAC air program of record and other international Valkyrie customers, I continue to believe and expect that Kratos' Valkyrie will be the first fielded CCA system globally. We have received increased interest for Kratos' tactical fire jet and target fire jet drones, Both domestic and international, and as a result, we expect to approximately triple the manufacturing capacity of our FireJet production line in Oklahoma City by the end of 27, and we continue discussions with customers to establish international Kratos jet drone production facilities.

6:29 FireJet is a program of record with the U.S. Army, and Kratos' APSAT and FSAT drone programs are also programs of records with the Air Force and Navy, respectively. Both FireJet and Valkyrie are produced in Oklahoma, so we are re-planning the production quantities and resource requirements for each of these drones in order to adequately address all of our customers' jet drone demands. So in summary, Kratos' drone business is seeing significant increased demand and interest, including with programs and drones we have not publicly disclosed. And net-net, we are significantly ramping up our drone production for both Valkyrie and FireJet with the number of each to be produced in 27 and 28 evolving with customer demand mix and type.

7:18 Kratos' unmanned systems division is currently forecast to be one of our strongest organic growers next year. Since our last report, the US Air Force awarded Boeing an Undefinitized Contract Action, or UCA, to acquire the BSU-111B Payload Delivery Unit, or PDU, The Joint Direct Attack Munition Long Range, JDAM-LR, a precision-guided munition that can travel over 300 nautical miles with a 500-pound class payload. And JDAM is a program of record. The Kratos J85 turbojet engine has been selected as the engine source to power the JDAM-LR munition, enhancing affordable precision strike capability with our high-volume, low-cost military-grade propulsion system.

8:06 Additional programs and platforms Kratos' turbojet engine business is focused on include FAM, ERAM, LCCM, Lumberjacks, CMMT, and many others. An example of the market opportunity for Kratos' jet engines, FAM, the U.S. Air Force Family of Affordable Mass Missiles, is a program of record for 28,000 cruise missiles over a five-year period beginning in 2027. Based on the opportunity set, We are currently placing orders with the supply chain to be able to produce 3,000 turbojet engines in our Michigan facility in 2027. Based on our current production plan and expected customer delivery schedules, we currently expect to deliver to customers approximately 1,500 of these engines in 2027, predominantly in Q3 and Q4, and we expect to deliver the remaining 1,500 engines of this 3,000 engine production lot to customers in 2028.

9:04 Additionally, we currently expect to place orders with our supply chain next year for a second production lot of approximately 5,000 more engines, which engines we currently plan to build predominantly in 28 and deliver to customers in 28 and 29. In the turbofan jet engine area in our KTT business, since our last report, it was announced that Kratos and GE Aerospace GEK800 engine has been selected as a second source propulsion system for the Joint Air-to-Surface Standoff Missile, or JASM, which is a program of record. It was also announced that the G.E.K. 800 engine received the U.S. military engine type designation F-143ZZ-100, and the G.E.K. was awarded a contract with the United States Air Force for the Engineering, Manufacturing, and Development, or EMD phase, for our turbofan for JASM.

10:03 The G.E.K. 800 engine designation and EMD contract mark continued advancement of this program, which is designed to provide small, low-cost, high-performance engines for use in cruise missiles, collaborative combat-type aircraft, and other uncrewed systems. Kratos' new turbofan engine manufacturing facility in Oklahoma, also referred to as our Blade Works facility, is on track to begin operations in late 2027. to support this and other program production requirements. KTT has also recently been selected sole source related to a new high supersonic system propulsion or engine system for a new customer's aerial application.

10:50 Kratos' hypersonic and rocket system business has recently received significant additional new funding of several hundred million dollars and we remain on track to generate approximately $700 million in revenue in 2027. We have also recently received a new hypersonic or related program awards, three. These include Nemesis I, Nemesis II and Kraken and we are pursuing additional new opportunities in this area. Kratos' space business recently achieved several important milestones. One of the most noteworthy being that we successfully demonstrated end-to-end connectivity across a native multi-vendor 5G NRNTN or new radio non-terrestrial network using Kratos' OpenSpace, the industry's first fully virtualized and software-defined satellite ground system platform.

11:45 The Kratos virtualized ground system offers the most advantageous path forward for operators seeking flexibility and scalability as Kratos' OpenSpace's software-defined architecture Allows satellite systems to behave more like terrestrial 5G infrastructure. So simply stated, Kratos' standard-based open space software system allows operators to dynamically scale services, reduce hardware dependencies, and adopt multi-vendor, non-vendor lock solutions that best support mission performance and cost requirements. Sovereign National Satellite Systems with open 5G standards allowing customer roaming in other countries and networks and also has a lockdown or restriction capability for national sovereignty and security requirements.

12:43 Kratos' satellite business is an example of Kratos being a dual-use, both commercial and national security solution provider where multi-market and diverse customer leverage accelerates technology development, and Deployment and Reduces Cost. Kratos' space and satellite business is expected to be one of our strongest performers, including internationally and commercially, and we have an outstanding partner with SES, a true industry technology leader that is doing some incredible things. Our C5ISR missile radar air defense hypersonic system and CUAS hardware business saw particularly strong bookings in Q3. We are currently forecasting this business to also be one of our strongest performers in 2027.

13:31 Building military-grade hardware at scale is hard, and Kratos is an industry leader in this area, including the utilization of state-of-the-art manufacturing equipment, including robotics, additive manufacturing, and 3D printing. Virtually every program that Kratos' C5ISR business is performing on is related to a program of record or production program. Kratos' microwave electronics business, headquartered in Israel, was a solid Q3 performer with key partners including the Israeli Ministry of Defense, Rafael, Israeli Aerospace Industries, and Elbit. The United States has offshored its manufacturing capability for decades. The reindustrialization of America, including the defense industrial base, is underway, and Kratos is participating.

14:21 There is also currently a deficit of manufacturing talent in the United States, and as a result, Kratos is investing in computerized and automated factories, once again including 3D printing and additive manufacturing, and also robots, as we train a new generation of industrial talent in America. Also, as reflected in our financial performance and by our future prospects and forecast, I continue to believe that Kratos, is the most valuable defense technology company, including with our leadership positions in hypersonic systems, space and satellite systems, propulsion systems, air defense, directed energy, and counter UAS systems, and also jet drones.

15:06 Additionally, in my opinion, no other defense technology company has Kratos' depth and breadth of programs of record, production contracts, OpenSpace-type satellite software and qualified opportunity pipelines. We are in a rapid organic growth phase that we are currently investing in. Each of our investments must have a justifiable, adequate forecasted rate of return, and we currently expect to be a substantially larger company and cash flow positive as a result of the investments by 2029. Operational challenges include obtaining and retaining qualified people, including those that require a national security clearance, and the supply chain. Deanna?

15:49 Thank you, Eric. Good afternoon. In summary, our third quarter revenue came in with an organic growth rate of 23.2%, slightly above the midpoint of our estimated range of 19.5% to 25.5% organic revenue growth. Our adjusted EBITDA exceeded the high end of our estimated range driven by a favorable mix as well as leverage from the increased volume on our fixed cost infrastructure. We expect this growth trend to continue in the fourth quarter with a forecast organic revenue growth range of 18 to 26% from the fourth quarter of 2025. Revenues for the third quarter were $471.8 million, slightly above the midpoint of our estimated range of $460 to $480 million, and with KGS generating organic revenue growth of 35.8%, driven by notable organic revenue growth in our rocket support hypersonics business of 149%, 27.1% in our turbine technologies business, 16.6% in our microwave electronics business, and 11.6% in our space training and cyber business, currently our largest business.

17:00 Adjusted EBITDA offered the third quarter was $50.9 million. above the high end of our estimated range of $40 to $45 million, reflecting a favorable mix as well as leverage on our fixed costs. Unmanned Systems' third quarter 26 revenue was down $12.6 million due to a prior year comparable, which included approximately $16.1 million from a Valkyrie shipment we made to an international customer in the third quarter of 2025. KGS third quarter 26 revenue was up $136.8 million year-over-year from the third quarter of 25, or up 52.5%, with organic revenue growth of 35.8%, excluding the impact of the recent acquisitions of Nomad and Orbit, which contributed $43.7 million.

17:50 Third quarter 26 cash flow used in operations was $5.2 million, primarily reflecting the working capital requirements related to the revenue growth impacting our receivables by approximately $69.5 million. Free cash flow used in operations for the third quarter of 26 was $29.4 million after reflecting funding of $30.2 million of capital expenditures, net of $0.4 million of sales from assets and $5.6 million of proceeds from state grants for capital construction. As we have mentioned previously, we continue to pursue federal and state government funding for our capital expenditures to offset our internal investments when possible. As we plan, we are continuing to make investments to expand and build out certain of our manufacturing and production facilities in our microwave products, rocket systems, hypersonic, and jet engine businesses to meet existing and anticipated customer orders and requirements and investing in related new machinery, equipment and systems.

18:54 Consolidated DSOs or day sales outstanding increased from 114 days during the second quarter of 26 to 125 days during the third quarter of 26, primarily reflecting the revenue growth and the impact of billing milestone events. Our contract mix for the third quarter of 26 was 63% fixed price, 32% cost plus and 5% time and materials. Revenues generated from contracts with the U.S. federal government during the third quarter of 26 were approximately 75%, including revenues generated from contracts with the DOW, non-DOW federal government agencies, and foreign military sales contracts, and 17% from foreign customers and 8% from commercial.

19:40 Now moving on to financial guidance. Our financial guidance we provided today includes our expectations and assumptions for our supply chain's execution, The impact of employee sourcing, hiring, retention, and the related costs. Our fourth quarter 26 guidance reflects the estimated revenue mix and estimated leverage on elevated administrative manufacturing overhead and bid and proposal costs that we have ramped in the business to support the forecasted full year 26 and expected future growth as well as the estimated continued impact of foreign currency rate exchange including in our microwave products Israeli business which is being and Mary Cervantes de Burgreen. Our fourth quarter revenue guidance of 480 to 510 million reflects estimated organic revenue growth of approximately 18 to 26 percent as compared to the fourth quarter of 25. Our tightened full year 2026 revenue guidance of 1.78 to 1.810 billion includes forecast Organic revenue growth for both our operating segments, KGS, and unmanned systems.

20:52 Our updated cash flow guidance reflects our current estimates of billing milestones and working capital uses, including our expected ramps in inventory. Our initial 2027 revenue forecast of $2.1 to $2.2 billion reflects estimated organic revenue growth of 18% to 22%, from our estimated fiscal 2026 revenue range and includes organic revenue growth across all business units within our KGS and KUS segments.

21:24 Thank you, Deanna. We'll turn it over to the moderator for questions. Thank you. At this time, we will conduct the question and answer session. As a reminder, to ask a question, you'll need to press star 1-1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1-1 again. Please stand by while we compile the Q&A roster. Our first question comes from Colin Canfield with Cantor. Please go ahead.

21:54 Hey, thanks for the question. Maybe let's start with the funded bookings progression. If you could just kind of walk through, as we think about the building blocks of funded bookings progression in 2027, how do we think about kind of the moving pieces between USCCA, international CCA, and then if there's any kind of initial orders that we should be expecting around expat manufacturing work. Thanks.

22:22 Right. So on, Colin, I think your first question was on funding and booking progression. A significant amount of our work, I would say a significant majority of our work is tied to large projects program of record or production programs that are underway. And they're funded in the 2026 appropriation, and so they should not be materially impacted by the continuing resolution, which gives us confidence in what we're looking at there. On the CCA side, as I mentioned in my remarks, we definitely believe we're going to receive some additional Valkyrie orders in 2027.

23:08 including international orders. As far as the current bookings and backlog on that, also as I said in my prepared remarks, I have received something in writing from the customer. I cannot provide any more detail than what I provided on the production contract we received, the LRIP production contract. I'm sorry, I just can't, but you will see that when we provide the segmentation guidance. And when we report Q4, you're going to see that revenue ramp from that production contract in our guidance. That's what's anticipated. On your question on the expat or other ones like that, I can't comment on things like that at all because of NDAs.

23:56 Got it. Thank you.

23:58 Yes, sir.

24:00 Thank you. Our next question comes from Peter Arment with Baird. Please go ahead.

24:07 Yeah, good afternoon, Eric and Deanna. Nice results. Eric, could you give us an update on, you know, how you're thinking about the hypersonics business scaling up? I think the original plan was, you know, generating close to $400 million in revenues this year and then jumping up considerably next year. You know, how are you thinking about that just given the budget environment? Yep. The business is doing fantastic. Peter. Fantastic. And net-net, we've received approximately $600 million in funding now already. So we are well on our path, as I said, to $700 million in revenue next year. We have a clear path.

24:52 The risks to that that I see are supply chain. I don't see any flashing yellow lights there right now relative to rocket motors coming in and some of the materials for the glide vehicles coming in and range time. There are a lot of what are called DX rated programs right now that are taking priority even if you have slotted range time. We haven't seen any hiccups on that yet, but I want to put that out there that if we have a mission scheduled for, I'm making this up for March and it's pushed to May or June, We could have something move on us just because of government priorities on the range. But other than that, the hypersonic business is looking really, really good. And I'm glad you asked. We won all three, Nemesis I, Nemesis II, and Kraken, three new programs that we're already underway on. So, so far, so good.

25:48 Great to hear. And then just a quick follow-up on the Mighty Hornet, some pretty good.

25:52 Pretty glowing press reports in Taiwan about the desire for the Mighty Hornet. How are you thinking about the production? You talked about production scaling up significantly in Oklahoma, but I think there's also some production potentially in Taiwan.

26:06 Maybe you can give us some more details there.

26:11 You're right. The press has been great. They're talking hundreds of them. That's out there. They're talking hundreds of them or more. We The plan would be, if this happens, if it goes through, the plan would be the initial ones we will build in the U.S., but we will be, assuming we get State Department approval, I believe we will, with trade compliance, we will stand up a capability for them to be produced over in Taiwan, where Kratos will receive a license fee on the units produced. So that's how I see that one evolving, and we should have some more information for you based on the way things are moving when we report Q4 in February.

26:56 Great. I'll jump back into Q. Thanks, Eric. Thank you. Thank you. Our next question comes from Josh Sullivan with Jones Trading. Please go ahead.

27:08 Hey, good evening. Eric, Deanna. Good evening, sir. Good evening. So the gap between the public and private defense tech world, you know, Andrew's $90 billion valuation earlier this month, How do you reconcile that?

27:23 And then if we layer in the current political environment, how do we layer that in as well?

27:31 That's an excellent and very thoughtful question. First of all, the U.S., because of where the industrial base is, we need more defense product companies and technology companies, including companies like Andral, to be successful. We need them to be successful. As I said in my prepared remarks, I don't know everything that Angel does because they're private. We're public. We have to do things in the light of day. They're not. But based on my understanding and based on I know what we have, like I said in my prepared remarks, Josh, there's no way I'd want to be any other company than Kratos. We, for our size, where we are in our growth trajectories, we have more production contracts, more programs of records. We're in hypersonic systems.

28:22 People talk about other people's software. We have OpenSpace, which is a crown jewel, and I believe we're all going to see this really take off in 2027. We have our propulsion business, obviously our drone business. I believe we're the highest value company, the most valuable company out there. I believe we are. As far as a disconnect between a private company and VC companies, I can't reconcile it. Hopefully, when some of these guys come public, their valuations will come with it. Investors will take a look at their valuations relative to Kratos and their capabilities relative to Kratos, and maybe then it will equalize more and we'll move up and be closer to them, which I think is appropriate based on the capabilities as I understand them.

29:15 Got it. And then, you know, kind of a related question. You've got a billion forward and cash on the balance sheet. What do you need to execute on all these organic opportunities? And then, you know, what's dry powder for, you know, potential consolidation? All right. So first of all, we are absolutely fully capitalized and there are no more capital raises coming for the, I never say never, but for the foreseeable future. We are totally capitalized. We are laser focused on internal execution. We are in a significant investment phase right now where we are basically winning virtually everything we're going after. And now is the time to build an incredible company that will have ultimate incredible cash flows. As I say, I see the lines crossing in 2029 when the production programs, the line is going up. It's going to cross the investment line, which should be going down by then. and we're going to be a significant sustained cash flow generator.

30:19 I would see Kratos doing no significant acquisitions, none. We have no gaps in our gap analysis. When we do routinely every quarter, Deanna and I, with the division presidents, we do a gap analysis. We have no gaps. You will continue to see us do small, what I'll call tuck-ins, tuck-in acquisitions. These are primarily, these are not auctions, there are not bankers involved. Perfect. Thank you. Yes, sir. Thank you. Our next question comes from Michael Tremoli with Guggenheim Securities.

31:17 Please go ahead.

31:19 Hey, good evening, guys. Thanks for taking my questions. Nice results. Eric, I know we all get kind of caught up here in CCAs and Unmanned and Valkyrie, but maybe I'm just looking. KGS Bookings, $1.9 billion year-to-date. I think you did $2.1 billion in 2025 and 2026 combined. I mean, if we look at what's really the engine of this company in a predictable fashion, I mean, what are you most excited about? I mean, it really seems like you've got a tremendous opportunity in the KGS segment, and obviously we've got the hypersonics, but maybe even just some color on what's driving that booking strength.

32:06 Yeah. Some of the ones that are driving it, and thank you for saying that, and I really appreciate you taking a look at KGS because it is the flywheel of the company right now with multiple flywheels within it. Our C5ISR business, we are the merchant supplier of military-grade hardware for the Primes for virtually every air defense, missile, and radar system. So when you Google a Raytheon system or a Lockheed system or a Northrop system, or Patriot or Integrated Battle Command System, or you take a look at Leidos' IFPIC Indirect Fire. We build a lot of that hardware for these guys, and that's really driving it. And that is seeing incredible strength, and it's going to continue to go up and to the right. Next is the space business.

32:57 Our space business is killing it. It is absolutely killing it. I wish I could show you some of the opportunities we're chasing. I think we're going to win that aren't even in the backlog yet. It's incredible. The team is phenomenal. If there's any question of how technologically rich Kratos is, we're a technology company, take a look at our space team and what they're doing with that software. I mean, that is our lattice, if you will. And it is the crown jewel, and it is helping us run the table. And thirdly, KTT. This is a big deal that the GDK engine has received a classification, a name. This doesn't happen.

33:44 The Air Force has come out. You will be second source on JASM. Take a look at the number of JASMs that are planning on being built. The factory is coming online the second half of next year, right when EMD is going to begin and then LRIP will begin in 28, and that's going to be a new significant growth driver. And then, of course, there's the hypersonic business, which is just, it's unbelievable. And this is the poster child of Kratos being first to market with Aranis, first to market with Dark Fury, first to market with Zeus, being first to market with affordable systems. We're running the table. So those are the ones in KG. Yep, those are the ones.

34:27 Okay. Just one more. I appreciate the conservatism with 27, still pretty compelling organic growth. Do you need reconciliation funding to accomplish any of those objectives? I know you talked about lame duck, you know, just kind of, we got the CR supply chain. Can you accomplish these growth objectives without reconciliation funding?

34:51 Yeah, so assuming, so if you take a look at the 27 NDAA, the $1.15 trillion, You take a look at that. You take a look at the components in that, which, of course, we've done. Okay. If there are no material changes to that, to the NDAA, which I believe there's top-line agreement on the 1.15. There's no material changes on the internals of that. We are in very, very, very good shape for 2027. We do not need a reconciliation bill to achieve our objectives.

35:25 Got it. Perfect. Thanks, guys. I'll jump back in the queue. Yep. Thank you. Our next question comes from Jonathan Sigmund with Stiefel. Please go ahead.

35:38 Hey, good afternoon. Thanks for taking my question. Maybe just on 27 a little bit more, you really quantified hypersonics. Everything's on track there. That gets you a big chunk of What's your 27 versus 26 revenue build should be? You've given us some breadcrumbs on missiles, but just can you talk a little bit about some of the other pieces that, you know, space and these other programs. Is that more growth that's 28 and beyond? Or is there anything in the portfolio that's dropping off next year that we should be aware of? Thank you.

36:20 Yeah, there's... There's nothing dropping off. So let me give you the pieces of what we're highly confident in, and this is one of the reasons we were able to take the roll-up, which is very, very high, and guide to what we guided, which I think is very reasonable. Our C5ISR business. We have won numerous programs in the past three months. for missile systems, radar systems, air defense systems, and counter UAS systems. That is going to be a big driver for us in 2027. And we have those, and they're either in production or they're beginning in production.

37:05 At the end of last quarter, we received a very large new laser weapon system program with the Department of Energy. That is ramping. That will be a significant driver in 2027. Our space business. Take a look at the last two quarters book-to-bill ratios. We have won several multi-initial value, multi-hundred million dollar new space programs. I think if you take a look at our job request right now on our website, we have hundreds of open recs. Our space business has major program wins that are well funded that is going to drive this business.

37:51 Next, our Israeli microwave business. This is not tied to the U.S. budget. This is tied to the Israeli Ministry of Defense. We all know they live in a bad neighborhood, and they are rearming. So that business is very, very solid for next year. And as you know, for Rafael and Israeli Aerospace Industries and Elbit and the Ministry of Defense, our microwave electronics are designed in on a substantial number of their missile systems, their radar systems, their air defense systems. So I'll stop there. There's four or five that are just bolted in by program.

38:29 Thank you very much. Yep. Thank you. Our next question comes from Anthony Valentini with Barclays. Please go ahead.

38:42 Hey, Eric. Thanks for the question. In the past, you guys have put out some guidance where I think you've been conservative on Valkyrie. or in some cases I think it's included actually like no Valkyrie. What are you guys baking into 2027 for Valkyrie? How should we be thinking about it?

39:01 Yeah, and so today we put out our consolidated guide for next year. We did not put it out by segment. As I said in my remarks, we expect our unmanned systems business where Valkyrie sits to be one of the primary growth drivers next year. There are a number of pieces that are included in there, including the turbojet engines in Q3 and Q4. You know, we're going to build a bunch in the first half and ship them in the second half, but also Valkyrie and also FireJet. So we are starting to include Valkyrie in the guide. We are starting to. But I want to emphasize, this is important, that going back to what Deanna said and what I said, that our guide that we're putting out is extremely conservative-based and comparable to what our internal forecast rolls up to.

39:53 If we're anywhere near what our internal forecast rolls up to, okay, which I told you in the guide where you put out today there's Valkyrie, if we get anywhere near to what the internal forecast rolls up to, you could look at Valkyrie as an additive to what we have today, taking in some of that conservatism if we're able to bring it in.

40:17 Okay, that's helpful.

40:18 Thank you.

40:19 Yep. Thank you. Our next question comes from Mike Crawford with B. Reilly Securities. Please go ahead.

40:29 Thanks. Could you give an update on progress of getting Prometheus Energetics off the ground?

40:36 Absolutely. So we, that's in Crane, Indiana, as you know. We're tracking that I believe late in 27 we're going to have first fire of an energetic out there in 2027. And I've said previously that we look to go into production in the late 27 or early 28. I'm just going to keep saying early 28 to be conservative. I can't give you the program, but we have received second source on a very large program. So we've received it. So we have a very significant order. Obviously, we have our partner, Rafael, and what they're going to bring to Prometheus from a production standpoint. So we are tracking, and I continue to believe that we will be the first true, real, next merchant supplier of energetics and solid rocket motors in the United States, with our key differentiator being, Rafael is qualified already. Their systems are qualified.

41:42 Their processes are qualified, etc., etc., which takes a long time, which in addition to Rafael bringing their IP, those qualifications are going to jump up, start us to be first to market when the facility is ready.

41:57 Thank you. And then just one more. You talked about tripling your production line in Oklahoma, but in Sacramento, you're Unmanned Systems President Steve Fendley presented at this Elroy Air Analyst Day in September where you would produce their unmanned hybrid drone when they're talking about commercial demand pipeline and more than 1,400 aircraft. Is that something you could build in Sacramento today or would you have to do some major investment there?

42:29 We can build. So we can build. We can build. I'm going to use a rough number. We can build the handful of the initial units in Sacramento today, which is what we're doing. If all the points come together and we go into production on this next year, I believe our current plan, because Elroy is in California, Sacramento is in California, we will build, we will go into production in California and I don't want to get into the investment dynamics because I'm under an NDA on who's going to pay for that, but we would do it in California. That's the plan right now.

43:12 Okay. Thank you, Eric.

43:14 Yep. Thank you. Our next question comes from Andre Madrid with U.S. Bancorp BGVIG. Please go ahead.

43:25 Eric, Deanna, good afternoon. Thanks for taking my question. Hi. Hi. You mentioned just earlier that you don't need reconciliation to achieve your 2027 targets. So maybe how should we be thinking about potential upside if that does come through? And then, you know, kind of piggybacking off that, I think you also mentioned that before that even with a blue wave, reconciliation may still be in the cards. And I just wanted to see if you still hold that to be true.

43:54 Yeah, so I'll answer the second question first and the first question second. Obviously, in the past 24, 48 hours, I've been on the phones doing a lot of videos with current leadership and future leadership in Congress, both the House and the Senate. My opinion, I'm not putting any words in anybody's mouth, my opinion is that if the Republicans can get There are members, both in the Senate and the House, back into Washington for a vote. They fully intend on trying to get a reconciliation bill done. So the people that lost, the Republicans that lost, they need to get them back to Washington to do a formal vote, and the intent is for a reconciliation bill to pass. That is a focus right now, and that's what's happening.

44:52 I don't know what's going to happen there. If they're patriots and they want to do what's right for the country, in my opinion, they should do it, but we'll see. The first question, so it was on the difference between the reconciliation and the appropriation. What specifically can I answer on that?

45:14 If you don't need Reconciled to achieve your 27 targets now, how should we be thinking about potential upside if it does come through?

45:22 Yeah, well, again, so that ties into the conservative posture we took in putting out our 27 forecast. I would not use the term substantially higher unless it was substantially higher. So if we do get another reconciliation bill and, and, and, and, we get a formal appropriation done by, let's say, the end of March, so we have a six-month CR, okay? I've got to see it. Obviously, I've got to see how the details fall. I've got to see the details on the reconciliation bill, but my tummy tells me that if we get an appropriation by March 31st and we get a reconciliation bill, let's say north of $150-$200 billion additional to a $1.15 trillion 27 NDAA, that could be important upside for us throughout 2027.

46:13 That's how I see it.

46:15 Got it, got it. And then you mentioned hundreds of job listings. I've heard you say this before. What needs to be done to fill these seats, and do you expect this headwind really to abate at any point?

46:30 I do not expect the headwind to abate. This is really hard because there is a generational rebuild, reindustrialization going on, and we're hiring them, Lockheed's hiring them, Northrop's hiring them, Andrel's hiring them, SpaceX is hiring them, and so it's very, very difficult. It's an additive difficulty is when these individuals need a security clearance. Because as you know, in many states now in the United States, smoking marijuana is legal. But federally, it's not. And I'm not passing judgment here. This is what it is. It's business. And so a lot of very smart people that can be very smart technically and very smart engineers, they don't want to get a security clearance. and they have lots of opportunities commercially, which is straining them off. So this is why I purposely today said that we and what we're doing in our investments, we are building, and I don't talk a lot about this for competitive people. We're not big podcast people like some of these other companies.

47:35 We are building robotic factories. I say our additive manufacturing and 3D printing capability in place, building stuff today, second to none. Second to none. I think one of our vendors that we just bought a monstrous 3D printing machine from put out a press release in the last two weeks. I think it's the biggest one they ever built. That wasn't our press release, it was theirs. So we are trying to adjust to there being less workers, More robotics, more automation, and training up the kids to be able to work on this stuff. Thank you.

48:24 Thank you. Our next question comes from Sheila with Jefferies. Please go ahead.

48:34 Hi. Good afternoon, Eric, Deanna. Thank you so much for the time. Maybe on first question on margins, just thinking about Q3, great margin performance, 11.7% up 200 bps year over year, and your initial 2027 outlook implies about 100 basis points of expansion. You know, I guess, how do we think about the puts and takes of the improvement next year, given some programs are in development still and others are ramping in production?

49:05 Yeah, the puts and takes are, as we Our priming larger system integration projects, those are typically cost-plus, and that's something the government dictates. And those are typically lower margin, just by definition, the way they're set up. So it is going to be dependent on the mix of our programs, but we have won a number of large prime system integration-type programs, which are cost-plus. We will have a ceiling, if you will, on staff margin expansion on that portion of our work, and we're about 30% cost plus now, and that's been growing from about 22%, 23% last year to about 30%. So it's really just that delicate balance of the fixed price contracts and the time and material contracts where we're ramping into production to get leverage off of our fixed infrastructure costs, and then balancing that with the cost plus side where we're limited structurally from significant margin expansion there.

50:17 And Sheila, important to note on the cost plus ones, the margins might be less, but because they're cost plus, it's less risky to us. And we won't have exactly a fixed price blow up like you see some other people have. And so that's been part of our calculus and our bid strategies.

50:37 Okay, now that's helpful. And maybe another one on just the 27 guide, you know, you put out revenues, you put out EBITDA, but you said you're going to wait on cash flow. And then you have, you know, pretty big write up on forecasted internal funded investments in the press release. And I know you're investing in the defense supply chain. Eric, so I guess, how do we think about, you know, your internal investments as we think about next year, whether it's, you know, R&D, off the balance sheet, or via cash flow? You have a lot going on in terms of investments, and I guess if you could just kind of summarize your key focus areas and how we should be thinking about that.

51:17 Yep, yep. So the primary investment areas right now, based on the way I see it, is going to be in property, plant, equipment, and facilities. Right now we're building our anechoic chamber, anaconda, for the SPY-1 radars. This program can go through 2053. So that's part of our calculus on building this facility. Helios. This is a hypersonic facility arc chamber with a fiber laser in it. We already have a customer. So we're putting out the CapEx, we're building that facility, and then we're going to start doing stuff with hypersonic systems in that facility. I can go on, but that's how we're doing it, Sheila, is the customer, the department is coming to us. We're working with the department.

52:08 They say, we have a need. We will, if you make an investment and stand up the facility with the right capabilities, et cetera, we will give you a program to do this, this, and this for this number of years. That's how we do our rate of return analysis. Because we're funding it, we can move much faster than the government. So the department is very happy because we get that facility up in a year or a year and a half. So their color of money is different. So instead of using blue money or red money, they're using our money. They give us the program, and they reimburse us for it either through the rates or a direct charge to the contract. And every one of these, as I said in my remarks, We have an internal rate of return hurdle that they've got to achieve or we won't do it.

52:55 That's how we look at it, and this is one of the reasons I'm so confident that we're going to turn when the production quantities cross the line on the investments, we're going to turn cash flow positive and we're going to sustain cash flow. Because we are not doing build it and hope they come. We're not doing that. They've already come. We're building it and we have that program or that customer or that partner lined up.

53:19 Okay, that's super helpful. Thank you. Yep. Thank you. Our next question comes from Trevor Walsh with Citizens Capital Markets. Please go ahead.

53:31 Hi, it's Ethan Frost on for Trevor. Just going back to the robotics and manufacturing, just curious, like, the history there in terms of, like, where KREOS is today and then, like, whether the comments in the prepared remark are something more of, like, a Thank you for joining us.

54:15 Let's go to where we're building big military-grade hardware. That is a process that we have to go through because the existing process and the existing machinery, doing it with traditional methods, is qualified and certified and signed off by the customer for the weapon system. And we are very cautious about changing something out, a machine or a system, where we have to get requalified. That's more of a long-term process, if you will. We've won a new drone program. I'm not going to talk about what it is yet, but that's a greenfield program. We're going to do that robotically in 3D manufacturing right out of the chute because it's greenfield.

55:01 There are the three different ways we're looking at it and how it's coming along and evolving in Kratos.

55:08 Great, thanks. And then just a smaller piece, talked about smaller acquisitions. With the Jet Set Aeromotive Acquisition, is there anything beyond what was already said that sticks out to you or excites you about that?

55:23 It's a small tuck-in. The guys were retiring. Our guys knew them forever. It's in engines and propulsion systems, the exact same engines and propulsion systems we do, bringing a new customer set. and probably most importantly, bringing an inventory of engines and parts and subsystems to engines that because of the way we structured the acquisition, we're getting it at a very favorable cost and we're getting it now. This is a one plus one equals three because the demand for these type of engines out there in the market is incredible and it's increasing and this is giving us the channel, the components of the engines and another trusted partner that's now part of Kratos to the industry that we're able to bring forth.

56:13 So this is like perfect for Kratos because it's low risk, exactly what we do, exactly what we're already doing, and we know the guys.

56:24 Great. Thank you.

56:26 Yep. Thank you. Our next question comes from Austin Moeller with Canaccord Genuity.

56:33 Please go ahead. Hi, good afternoon, Eric and Deanna. So, do you expect more mock TB funds in the reconciliation bill if they pass it? I've heard that they might be trying to move it on December 11th.

56:50 Right, yeah. You know, you see the right stuff, ma'am. Let me answer the question. Okay, I don't know. I don't know. But let me remind, I'm glad you brought this up because it triggered a brain cell. The mock TB FIDUP, the fiscal year defense plan for the five years, is $7.9, it's $8 billion. So that's in the base budget process, not the reconciliation bill. And so this ties into the previous question. Okay, so we have that FIDUP. We know it's in the 2027 appropriation. I hope it gets passed. We've built that into our guidance.

57:35 If there is a reconciliation bill and there's additional funding from OCTB, that could be an upper force.

57:46 Okay. And Kratos SRE participated in Gauntlet one of the Drone Dominance Program. How do you view Kratos' scale and competitive positioning versus the other large U.S. drone manufacturers since DOW wants to procure one million drones? Is there anything you would need to do to scale from a CapEx perspective to meet those kind of volumes?

58:10 Yeah. So as I believe I said a couple three-quarters ago when we won that face one of the drone dominance, okay. Drone dominance is not a strategic priority for Kratos. And I know the quantities. Boston, I get it, but it's not. There are, and I'm not saying this negatively, I'm just saying this factually, there are dozens and dozens of guys that are building Class 1 drones. And even if there's a million of them, if you make a dollar a drone, you've got a million dollars in profit. That is not a priority for us. If there's an opportunity and the government brings it to us and we've got some stuff lying around and we think we can satisfy it, very low investment and win, we might take a look at it.

58:58 But I am much more focused on areas where we are the man. And we are the man in hypersonic systems. We are the man in small jet engines. We are the man in open space software. I can keep going, and that's where we're going to make our investments, where we are the first to market. industry leader, and we're going to do very good.

59:22 Great. I'll pass back there. Thank you.

59:25 Okay.

59:27 Thank you. Our next question comes from Clark Jeffries with Piper Sandler. Please go ahead.

59:35 Hello. Thank you for taking the question. Eric, you know, I appreciate the comments around, you know, framing CCA and Valkyrie and The Airbus test flight is a major milestone and definitely seems like there's a lot of pipeline internationally. I wanted to talk about domestically. I mean, what's your sort of finger on the pulse on any opportunities that might exist in 2027 for Valkyrie class? It seems like there are a lot of things that are being speculated from either a specification standpoint or things that are kind of net new like MMA. A little unclear from our position on what magnitude we're going in terms of future CCA opportunities. We want to get your thoughts on 2027 domestic rather than international.

1:00:28 Right. And obviously in these comments I have to be very careful because of the nature of classification on the program. So I'll go by branch. I'll go very quickly. And guys, it's 3 o'clock here in the People's Republic of California. I can go another 15 minutes today. All right, so I just want to give you that. So the Air Force program, you know, Inc. One is going. Andrew and GA have, this is all public information, of course, have been awarded some type of a production contract. It's unclear what the quantities are, et cetera. Inc. 2 has kicked off. At the most recent AFA show, the secretary talked about up to 500 drones fielded under the CCA program by 2033 or something like that. But in addition to that, there's the Reaper Replacement Program that's coming. That solicitation is out. That class of a drone, if you read the public information, is very close to the kind of stuff that they're looking for with the CCA program.

1:01:38 And so you've got a lot of stuff converging there. CCA is a program of record. But now we have what just happened with the election. And Adam Smith, who we're very close with, great patriot, he will probably be the next chair of the House Armed Services Committee. And Senator Reid will probably, in my opinion, be the next chair of the Senate Armed Services Committee. I think that they might have some different perspectives on how some things are moving there, my opinion. It's unclear to me other than what I'm reading publicly. On the Navy CCA program, the Navy has come out with their solicitation. That's public. They came out with it. That has begun. Since that's brand new, in my opinion, there's not going to be a lot happening on that in 2027, especially with what just happened with the new Congress sitting, will there be a reconciliation bill or not, etc., And then there's the Marine Corps. That's the one sure one, the one Kratos has.

1:02:42 Program of Record, Mux Tac Air, a couple billion dollars in the fight-up. You know we're moving forward. Northrop is the prime, so there's a gag order on me of what I can say is going on here. So with that game field, it's unclear to me, but I feel I would not want to be anyone else Then Kratos with the Valkyrie that's in production, that comes off the line, white tail, $6 million or something like that, maybe $8 million depending on configuration, missionized it's more, affordability is going to win. And because we build 150 to 200 jet drones every year, I think more than anyone else in the world, Kratos does, target and tactical, and our bill of materials across the target drones and the tactical drones is substantially the same, which gives us leverage on the supply chain. No one can hit our price points, cost points.

1:03:46 Can't do it. Can't do it. So I believe we're going to win ultimately globally, including in the U.S., because of capability and affordability. Thank you very much.

1:04:02 You got it. Thank you. Our next question comes from Cashin Keeler with BNP Paribas. Please go ahead.

1:04:11 Hey, yeah, thanks for fitting me in. Just to stay on Valkyrie, I guess with respect to the German opportunity, there were some headlines about one of your competitors being dropped from direct acquisition and maybe the fielding timeline there being pushed out from 2029 into the 2030s. So just wanted to see what your thoughts were there and how we can kind of pair that against some of your earlier comments about International Orders.

1:04:35 Right. Yeah. Let me answer it this way, okay? And what I'm going to say, not many people have focused on. The Valkyrie is flying internationally. The Valkyrie is a fifth generation. You guys know what that means. Jet drone, unclassed, 3,000-mile range, all internal weapons. We're flying internationally. What does that mean? We had to get State Department approval. You don't see anyone else flying internationally, do you? They talk about it. We're going to fly here. We're going to fly there. We're going to build it here. We're going to build it there. No one's done it but us.

1:05:22 That is a huge, ginormous competitive advantage for us with international customers because we can bring them airplanes and fly them for them on their ranges and heretofore, no one else can. That's how I see it.

1:05:38 Got it. Okay. And then just quickly on supply chain, you called it out a few times in the prepared remarks. You said there's nothing really of concern within the hypersonics, but just curious if you're seeing anything in any other pieces of the business and are you doing any sort of mitigation actions to kind of counter that?

1:05:58 Yeah, that's the right question to ask. We have lots of credo systems. What's the most important part in the system? The one you don't have. What's the most important part in the jet engine we're building for a missile? If one guy doesn't deliver us a bolt, we can't finish the jet engine. We're going from a few hundred engines to several thousands next year to more thousands in 2028. We are doing everything we can to dual source and triple source. Everything we can. In some areas, because of the supply chain and the industrial base, it's just not possible. And so we're doing everything we can with these vendors to work with them, to be with them, to communicate with them, to help them address issues, because this is one of the key operational risks for Kratos.

1:06:53 And I'm just using engines as an example, but across the company, we have multiple programs going into production. are going into significant increased production, and it's that supply chain, and we've got to make sure that the parts show up on time, and one of the ways we're working to mitigate that is we're building, I'm building 3,000 engines, all right? I don't think I'll get them all built next year, and I don't think we'll be able to integrate them all, maybe half of them, 1,500 of them, but we've got them all on order, and so hopefully that'll give us some cushion between the 15,000 I'm planning on selling and the 3,000 I'm building because if I only get parts to build 2,500, I'm still good. So we're also building that in that kind of phasing.

1:07:42 Thanks. Thank you. Our next question comes from Brian Dobson with Clear Street. Please go ahead.

1:07:54 Thanks very much for the tremendous color on the business segments today, but perhaps we could just bring it up to 30,000 feet. As you're looking around the globe, which areas are you most excited about, or rather, which allied partners are you most excited about in 27 and 28, and where do you see the largest international growth within your business?

1:08:15 Yep. Okay, international partners we're excited about is Israel, Rafael, Israeli Aerospace Industries, and Elbit. These are very close partners. They're very close friends. We're doing a lot with them, and there is, for obvious reasons, there's an incredible amount of opportunity. Incredible amount. And this isn't like new for us. We're already in. We're trusted. We're qualified. We're going to kick some serious butt over there.

1:08:45 Okay.

1:08:46 Europe, SES, and what Adel is doing, the CEO. and he's a great guy, he's smart as hell, incredibly technologically advanced company and they're our partner. And you have Starlink, you got Musk and SpaceX and then you got SES, the global operating gold standard and they're our partner. And so that means international work, that means commercial work, that means national security work, so I'm very bullish on that. And the third one I'll say, there are many more, but the third one I'll say is Airbus. and Michael, the CEO. He's a friend. They're a friend. They're an incredible partner. We had the successful flight. We're going to kick the competition. We're going to win this out.

1:09:33 And my plan is to run the table over there in Europe with the Valkyrie for some of the reasons I said a minute ago. So there are just some. I could keep going, but those are some that I'm extremely excited about for our company.

1:09:47 Great. Thanks very much.

1:09:49 Yep. Thank you. Our next question comes from Gavin Parsons with UBS. Please go ahead.

1:09:59 Hi, this is Joel Santos for Gavin Parsons. Thanks for taking my question. Just a follow up to Sheila's question about cash. You mentioned that you expect cash flow positive in 2029. You have now about $2.7 billion in backlog, capacity expansion underway, several programs ramping up. How much more do you need to invest in working capital and CapEx before then? And maybe if you could walk us through the main steps to get you to positive cash flow and if you could help to get that sooner too.

1:10:34 Yeah, so that's a complicated question. Let me give you one example. And I'm not trying to avoid it. I'll answer it. But let me tell you why that's a complicated question. So in this example I'm going to give you, we've got 10 of these across our company. So in the turbojet area, we're putting out $130 or $140 million, Kratos money. This is one of the reasons why we're working so closely with the department. They like what we do to turn on the supply chain for 3,000 engines. That's going to be a working capital use for Kratos between now and I'm going to say June 30 of 2027. But then we're going to start shipping a bunch of those engines in Q3 and Q4. So now it's going to flip and the cash is going to start coming in.

1:11:22 But hold on. In Q3 or Q4 of next year, I'm probably going to place an order for another 5,000 engines. I'm going to plan on shipping most of those in 28. So you can see the ebbs and flows. And that's why I said when I take a look at the 9 or 10 programs we have like this, In 2029, the lines cross where there's more production and shipments going on than having to buy the parts to build it, and we turn cash flow positive. And we've got it laid out by division, by business unit, by product. Thank you.

1:12:05 You got it. Okay, guys, one more. This actually concludes the question and answer session, and now I'd like to turn it back to Eric DeMarco for closing remarks.

1:12:16 You guys, I appreciate it a lot. I'm sorry, I've got a lot going on. So thank you very much. Any follow-ups, obviously circle with Deanna. I envision a lot happening on the good side between now and when we talk to you again when we report the fourth quarter. So thanks for joining us. Thank you for your participation in today's conference. This concludes the program. You may now disconnect.