Leidos [LDOS] on Thursday posted a hefty increase in net income in its fourth quarter squarely on the back of a one-time tax benefit whiles sales dipped slightly.
Net income nearly doubled to $114 million, 74 cents earnings per share (EPS), from $59 million (39 cents EPS) a year ago, with the tax gain contributing $115 million (75 cents EPS) to the bottom line. Operating income actually fell by about one-third to $101 million and operating margin slid 190 basis points to 4 percent due to higher acquisition, integration and restructuring costs and amortization.
Adjusting for the various costs and amortization, and excluding the tax benefit, per share earnings were 87 cents versus 75 cents a year ago, topping consensus estimates by two pennies. The tax benefit was related to a tax reform package signed into law in December that reduces federal income taxes beginning in 2018 and, in the case of Leidos, had a positive impact in the fourth quarter related to a reevaluation of net deferred tax liabilities.
With lower tax rates in play, Leidos will increase investments in its specific bid and proposal efforts to boost sales, Roger Krone, the company’s chairman and CEO, said during an earnings call with analysts. Leidos will also increase its investments in “technology and capital to increase our advantage in offering innovative solutions to our customers,” he said.
The strategy for cash deployment remains intact, and includes dividends, share repurchases, debt reduction, internal investments and acquisitions, Krone said, noting that the company on Thursday announced a new authorization for the repurchase of up to 20 million of its outstanding stock.
James Reagan, Leidos’ chief financial officer, said on the call that the company now plans to spend about $80 million annually on capital expenditures, up from the previous level of $60 million. Capital expenditures in 2017 were $81 million.
Sales in the quarter were down 2 percent to $2.5 billion from $2.6 billion a year ago due primarily to lower revenue in the Defense Solutions segment and slight declines the Civil and Health segments.
The company ran into some sales headwinds in 2017 related to the impact of its 2016 acquisition of the former Information Systems and Global Solutions (IS&GS) segment of Lockheed Martin [LMT]. Integration of IS&GS is mostly complete and more than $350 million in cost saving synergies have already been realized, but these savings actually led to lower revenues on programs with cost-plus contracts, Krone said.
Krone said that most cost reduction actions are behind the company so the impact on cost-plus work has been removed. Leidos is forecasting sales growth in 2018, due in part by the improved cost structure through the savings from the IS&GS integration, he said.
Leidos also won positions on 28 new indefinite-delivery, indefinite-quantity contracts in 2017, which will boost growth prospects this year. Krone also said that Leidos’ efforts to improve its bid and proposal processes and “modernize our proposal center” have led to improved win rates and increased confidence for better returns.
Sales in 2018 are expected to be between $10.3 billion to $10.7 billion, up between 1 and 5 percent from $10.2 billion recorded in 2017. Adjusted earnings are expected to be between $4.15 and $4.50 per share versus $3.72 in 2017 and operating cash flow is forecast to be at least $645 million versus $526 million last year. The improved outlook for cash is due in part to the lower tax rate.
The outlook for adjusted operating margin in 2018 is between 10.1 percent and 10.4 percent versus 9.8 percent in 2017.
Krone said congressional approval earlier this year of a two-year budget deal that increases spending for the defense and civilian sectors give him confidence for sales gains in 2018 and beyond.
Reagan said the outlook for sales beyond 2018 is even better given the company’s win rate, strong pipeline, which stands at $24 billion in outstanding bids, and the recent budget agreement.
Orders in the quarter were $2.3 billion and for the year $9.7 billion, while backlog at the end of 2017 stood at $17.5 billion, $5 billion of which was funded. Backlog at the end of 2016 stood at $17.7 billion, $6 billion of which was funded.
Separately this week, Leidos said that John Jumper, the company’s former chairman and CEO from 2012 until 2014 and a current member of the board, will retire from the board at the end of his term on May 11.