# V2X, Inc. (VVX) FY 2023 MD&A

Verbatim Item 7 Management's Discussion and Analysis from V2X, Inc.'s 10-K for fiscal year 2023.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1601548/000160154824000004/vec-20231231.htm
Accession: 0001601548-24-000004
Filing date: 2024-03-05
Report date: 2023-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Published MD&A gate trimmed front/tail over-capture.
Confidence: high

Company profile: /company/VVX/
All MD&A years: /company/VVX/mda/
Previous year: /company/VVX/mda/fy2022/ (FY 2022)
Next year: /company/VVX/mda/fy2024/ (FY 2024)

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion of our financial condition and results of operations should be read in conjunction with the audited Consolidated Financial Statements and notes thereto in this Annual Report on Form 10-K as well as the discussion in Item 1 of this Annual Report on Form 10-K entitled "Business." This Annual Report provides additional information regarding the Company, our services, industry outlook and forward-looking statements that involve risks and uncertainties. The forward-looking statements are not historical facts, but rather are based on current expectations, estimates, assumptions and projections about our industry, business and future financial results. Our actual results could differ materially from the results contemplated by these forward-looking statements. See "Forward-Looking Statement Information" for further information. Amounts presented in and throughout this Item 7 are rounded and, as such, rounding differences could occur in period over period changes and percentages reported.

Forward-Looking Statement Information

This Annual Report on Form 10-K and certain information incorporated herein by reference contain forward-looking statements within the meaning of Section 21E of the Exchange Act, and Section 27A of the Securities Act, and the Private Securities Litigation Reform Act of 1995 and, as such, may involve risks and uncertainties. All statements included or incorporated by reference in this report, other than statements that are purely historical, are forward-looking statements. Forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “could,” “potential,” “continue” or similar terminology. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements.

The forward-looking statements included or incorporated by reference in this report are subject to additional risks and uncertainties further discussed under Item 1A. “Risk Factors” and are based on information available to us on the filing date of this report. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this report. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us.

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We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. In addition, forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from the Company’s historical experience and our present expectations or projections. These risks and uncertainties include, but are not limited to: our ability to submit proposals for and/or win all potential opportunities in our pipeline; our ability to retain and renew our existing contracts; our ability to compete with other companies in our market; security breaches, cyber-attacks or cyber intrusions, and other disruptions to our information technology and operation; our mix of cost-plus, cost-reimbursable, firm-fixed-price and time-and-materials contracts; maintaining our reputation and relationship with the U.S. government; protests of new awards; economic, political and social conditions in the countries in which we conduct our businesses; changes in U.S. or international government defense budgets; government regulations and compliance therewith, including changes to the DoD procurement process; changes in technology; our ability to protect our intellectual property rights; governmental investigations, reviews, audits and cost adjustments; contingencies related to actual or alleged environmental contamination, claims and concerns; delays in completion of the U.S. government budget; our success in extending, deepening, and enhancing our technical capabilities; our success in expanding our geographic footprint or broadening our customer base; our ability to realize the full amounts reflected in our backlog; impairment of goodwill; misconduct of our employees, subcontractors, agents, prime contractors and business partners; our ability to control costs; our level of indebtedness; terms of our credit agreement; inflation and interest rate risk; geopolitical risk, including as a result of recent global hostilities; our subcontractors' performance; economic and capital markets conditions; our ability to maintain safe work sites and equipment; our ability to retain and recruit qualified personnel; our ability to maintain good relationships with our workforce; our teaming relationships with other contractors; changes in our accounting estimates; the adequacy of our insurance coverage; volatility in our stock price; changes in our tax provisions or exposure to additional income tax liabilities; risks and uncertainties relating to the post-Merger integration efforts; changes in U.S. generally accepted accounting principles (GAAP); and other factors described in Item 1A, “Risk Factors,” and elsewhere in this report and described from time to time in our future reports filed with the SEC.

Overview

V2X is a leading provider of critical mission solutions primarily to defense clients globally. The Company operates as one segment and provides a comprehensive suite of integrated solutions and critical service offerings across the operations and logistics, aerospace, training and technology markets to national security, defense, civilian and international clients.

Our primary customer is the U.S. DoD. For the years ended December 31, 2023, 2022 and 2021, we had total revenue of $4.0 billion, $2.9 billion and $1.8 billion, respectively, the substantial majority of which was derived from U.S. government customers. For the years ended December 31, 2023, 2022 and 2021, we generated approximately 41%, 46% and 64%, respectively, of our total revenue from the U.S. Army.

Executive Summary

Our revenue increased by $1.1 billion, or 37.1%, for the year ended December 31, 2023 compared to the year ended December 31, 2022. Revenue increased $877.7 million due to the Merger and the remaining increase was from organic growth of our legacy programs. Revenue from programs in the U.S, Middle East, Asia, and Europe increased by $791.8 million, $168.9 million, $96.7 million, and $14.8 million, respectively.

Operating income for the year ended December 31, 2023 was $124.4 million, an increase of $68.6 million or 123.1%, compared to the year ended December 31, 2022. Operating income increased $34.8 million due to the Merger and the remaining increase was from organic growth for legacy programs, partially offset by acquisition-related costs incurred during 2022.

During the performance of long-term contracts, estimated final contract prices and costs are reviewed periodically, and revisions are made as required, which are recorded as changes in revenue and cost of revenue in the periods in which they are determined. Additionally, the fees under certain contracts may be increased or decreased in accordance with cost or performance incentive provisions which measure actual performance against established targets or other criteria. These incentive fees or penalties are included in revenue when there is sufficient information to reasonably assess anticipated contract performance. Amounts representing contract change orders or limitations in funding on contracts are recorded only if it is probable a claim will result in additional contract revenue and the amounts can be reliably estimated. Changes in estimated revenue, cost of revenue and the related effect to operating income are recognized using cumulative adjustments, which recognize in the current period the cumulative effect of the changes on current and prior periods based on a contract's percentage of completion. Cumulative adjustments are driven by changes in contract terms, program performance, customer scope changes and changes to estimates in the reported period. These changes can increase or decrease operating income depending on the dynamics of each contract.

We recorded an income tax benefit of $1.9 million and an income tax expense of $8.2 million for the years ended December 31, 2023 and 2022, respectively, which represent effective income tax rates of 7.9% and (134.6)%, respectively. See Note 13, Income Taxes, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for further information.

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Further details related to our financial performance for the year ended December 31, 2023, compared to the year ended December 31, 2022, are contained in the "Discussion of Financial Results" below. Details related to our financial performance for the year ended December 31, 2022, compared to the year ended December 31, 2021 are contained in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation - Discussion of Financial Results" of our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, electronically filed with the SEC on EDGAR on March 2, 2023.

Merger with Vertex

For a discussion of our Merger and related debt and stock-based compensation obligations, see Note 3, Merger, Note 10, Debt and Note 16, Stock-Based Compensation, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K.

Significant Contracts

The following table reflects contracts that accounted for more than 10% of total revenue:

[[GREPCENT_TABLE]]
[["","","% of Total Revenue"],["","","Years Ended December 31,"],["Contract Name","","2023","","2022","","2021"],["LOGCAP V - Kuwait Task Order","","12.0%","","16.4%","","11.8%"],["LOGCAP V - Iraq Task Order","","7.5%","","9.8%","","11.7%"],["K-BOSSS","","\u2014%","","0.7%","","15.8%"]]
[[/GREPCENT_TABLE]]

Revenue associated with a contract will fluctuate based on increases or decreases in the work being performed on the contract, award fee payment assumptions, and other contract modifications within the term of the contract resulting in changes to the total contract value.

U.S. government contracts are multi-year contracts and typically include an initial period of one year or less with annual one-year (or less) option periods for the remaining contract period. The number of option periods vary by contract, and there is no guarantee that an option period will be exercised by the U.S. government. The right to exercise an option period is at the sole discretion of the U.S. government. The U.S. government may also extend the term of a program by issuing extensions or bridge contracts, typically for periods of one year or less.

The LOGCAP V - Kuwait Task Order is currently exercised through June 30, 2024, with two additional twelve-month options and one six-month option through December 31, 2026. The task order provides services to support the Geographical Combatant Commands and Army Service Component Commands throughout the full range of military operations in the Kuwait region. The LOGCAP V - Kuwait Task Order contributed $474.3 million and $472.9 million of revenue for the years ended December 31, 2023 and 2022, respectively.

The LOGCAP V - Iraq Task Order is currently exercised through June 21, 2024, with two additional twelve-month options and one six-month option through December 21, 2026. The task order provides services to support the Geographical Combatant Commands and Army Service Component Commands throughout the full range of military operations in the Iraq region. The LOGCAP V - Iraq Task Order contributed $296.9 million and $282.5 million of revenue for the years ended December 31, 2023 and 2022, respectively.

The K-BOSSS contract ended on August 28, 2023. Components of the K-BOSSS contract were re-competed as a task order under the LOGCAP V contract vehicle and were awarded to us in 2019. The K-BOSSS contract contributed $1.9 million and $18.9 million of revenue for the years ended December 31, 2023 and 2022, respectively.

Backlog

Total backlog includes remaining performance obligations, consisting of both funded backlog (firm orders for which funding is contractually authorized and appropriated by the customer) and unfunded backlog (firm orders for which funding is not currently contractually obligated by the customer and unexercised contract options). Total backlog excludes potential orders under IDIQ contracts and contracts awarded to us that are being protested by competitors with the U.S. Government Accountability Office (GAO) or in the U.S. Court of Federal Claims (COFC). The value of the backlog is based on anticipated revenue levels over the anticipated life of the contract. Actual values may be greater or less than anticipated. Total backlog is converted into revenue as work is performed. The level of order activity related to programs can be affected by the timing of government funding authorizations and their project evaluation cycles. Year-over-year comparisons could, at times, be impacted by these factors, among others.

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Our contracts are multi-year contracts and typically include an initial period of one year or less with annual one-year (or less) option periods for the remaining contract period. The number of option periods vary by contract, and there is no guarantee that an option period will be exercised. The right to exercise an option period is at the sole discretion of the U.S. government when we are the prime contractor or of the prime contractor when we are a subcontractor. The U.S. government may also extend the term of a program by issuing extensions of bridge contracts, typically for periods of one year or less.

We expect to recognize a substantial portion of our funded backlog as revenue within the next 12 months. However, the U.S. government or the prime contractor may cancel any contract at any time through a termination for convenience. Most of our contracts have terms that would permit us to recover all or a portion of our incurred costs and fees for work performed in the event of a termination for convenience.

Total backlog increased by $0.5 billion in the year ended December 31, 2023, as compared to the year ended December 31, 2022, primarily due to new business awards offset by recognition of revenue. The following is a summary of funded and unfunded backlog:

[[GREPCENT_TABLE]]
[["","","As of December 31,"],["(in millions)","","2023","","2022"],["Funded backlog","","$","2,778","","","$","2,567"],["Unfunded backlog","","10,011","","","9,695"],["Total backlog","","$","12,789","","","$","12,262"]]
[[/GREPCENT_TABLE]]

Funded orders (different from funded backlog) represent orders for which funding was received during the period. We received funded orders of $4.2 billion during the year ended December 31, 2023, which was an increase of $1.6 billion compared to the year ended December 31, 2022. The increase was due to timing of awards.

Economic Opportunities, Challenges and Risks

The U.S. government’s investment in services and capabilities in response to changing security challenges creates a complex and fluid business environment for V2X and other firms in this market. However, the U.S. continues to face substantial fiscal and economic challenges in addition to a varying political environment which could affect funding. The pace and depth of U.S. government acquisition reform and cost savings initiatives, combined with increased industry competitiveness to win long-term positions on key programs, could add pressure to revenue levels and profit margins. However, the Company expects the U.S. government will continue to place a high priority on national security and will continue to invest in affordable solutions. V2X believes that its capabilities, particularly in operations and logistics, aerospace, training and technology, should help its clients increase efficiency, reduce costs, improve readiness, and strengthen national security and, as a result, continue to allow for long-term profitable growth in the business. Further, the DoD budget remains the largest in the world and management believes the Company's addressable portion of the DoD budget offers substantial opportunity for growth.

The U.S. government's Fiscal Year (FY) begins on October 1 and ends on September 30. The Fiscal 2024 budget request was submitted to the U.S. Congress on March 9, 2023, and requested $886 billion for National Defense, with $842 billion of the total allocated to the Department of Defense.

In January 2023, the statutory debt ceiling limit of $31.4 trillion was reached and on June 3, 2023, the President signed “The Fiscal Responsibility Act” (FRA) into law, which suspends the debt ceiling until January 1, 2025. The FRA places caps on defense and non-defense discretionary spending in FY 2024 and FY 2025. The FRA cap on discretionary spending for National Defense in FY 2024 and FY 2025 is $886 billion and $895 billion, respectively. Additionally, the FRA mandates cuts in FY 2024 by one percent from FY 2023 enacted levels if Congress does not pass all twelve defense and non-defense discretionary appropriations bills by April 30, 2024.

In December 2023, the President signed the FY 2024 National Defense Authorization Act into law, which matched the original request of $886 billion for National Defense, with $842 billion being allocated to the Department of Defense. However, annual appropriations to fund the federal government for FY 2024 have not been enacted. Recently, the President signed a continuing resolution (CR) that extends funding of six appropriations bills to March 8, 2024 and the remaining six to March 22, 2024. Under a CR, funding is generally consistent with FY 2023 appropriated levels, however, new program and contract starts are not authorized. If FY 2024 appropriations or an additional CR is not passed before the CR's expiration, the U.S. government is expected to enter a shutdown and cease certain non-essential operations. Depending on the length and nature of a potential shutdown, companies that are reliant on U.S. government funding, could be significantly impacted.

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While it is difficult to predict the specific course of future defense budgets, V2X believes the core functions the Company performs are mission-essential and spending to maintain readiness, improve performance, increase service life, lower cost, and modernize digital and physical environments will continue to be a U.S. government priority. The Company's focus is on providing integrated solutions across the mission lifecycle that encompass (i) high consequence training; (ii) readiness/logistics/deployment; (iii) mission and infrastructure support, including rapid response contingency efforts; (iv) battlefield connectivity and communications; (v) maintenance, modification, repair, and overhaul of assets and aircraft; (vi) and upgrades and modernization across digital and physical environments. The Company develops and inserts operational technologies across its solutions to improve efficiency and the outcomes of its clients' missions. The Company believes this aligns with its clients' intent to utilize and harden existing equipment, infrastructure, and assets rather than executing new purchases. While customers may reduce the level of services required from us, the Company does not currently anticipate the complete elimination of these services, and the Company continues to focus on contract expansion and capturing new business opportunities.

However, business conditions have become more challenging and uncertain due to macroeconomic conditions, including inflation and rising interest rates, as well as recent international events. For example, global hostilities could create additional demand for our products and services, however, any such demand, and the timing and extent of any incremental contract activity resulting from that demand, remains uncertain. Further, given the current level of inflation and geopolitical factors, the Company is monitoring the impact of rising costs on its active and future contracts and its financial results, and actively evaluating opportunities for cost reductions and deleveraging. In recent quarters of 2023, the Company’s cost-plus and cost-reimbursable contracts have been increasing sequentially as a percentage of total contract mix and revenue. The Company’s earnings and profitability may vary materially depending on the total mix of contracts. To date, the Company has not experienced broad-based increases from inflation or geopolitical hostilities in the costs of its fixed-price and time and materials contracts that are material to the business. However, if the geopolitical conditions worsen or if the Company experiences greater than expected inflation in its supply chain and labor costs, then profit margins, and in particular, the profit margin from fixed-price and time and materials contracts, which represent a substantial portion of its contracts, could be adversely affected.

On August 16, 2022, the U.S. government enacted the Inflation Reduction Act of 2022, which includes, among other provisions, changes to the U.S. corporate income tax system. While the Company does not currently anticipate any impact on its business, evaluation of the Inflation Reduction Act of 2022 and its requirements continues, as well as any potential impact on its business in the future.

The information provided above does not represent a complete list of trends and uncertainties that could impact our business in either the near or long-term and should be considered along with the risk factors identified under the caption “Risk Factors” identified in Part 1, Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2023 and the matters identified under the caption “Forward-Looking Statement Information" herein.

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DISCUSSION OF FINANCIAL RESULTS

Selected financial highlights are presented in the table below:

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,","","Change"],["(In thousands)","","2023","","2022","","$","","%"],["Revenue","","$","3,963,126","","","$","2,890,860","","","$","1,072,266","","","37.1","%"],["Cost of revenue","","3,628,271","","","2,595,848","","","1,032,423","","","39.8","%"],["% of revenue","","91.6","%","","89.8","%"],["Selling, general and administrative expenses","","210,439","","","239,241","","","(28,802)","","","(12.0)","%"],["% of revenue","","5.3","%","","8.3","%"],["Operating income","","124,416","","","55,771","","","68,645","","","123.1","%"],["Operating margin","","3.1","%","","1.9","%"],["Loss on extinguishment of debt","","(22,298)","","","\u2014","","","(22,298)","","","*"],["Interest expense, net","","(122,442)","","","(61,879)","","","(60,563)","","","97.9","%"],["Other expense, net","","(4,194)","","","\u2014","","","(4,194)","","","*"],["Loss before taxes","","(24,518)","","","(6,108)","","","(18,410)","","","301.4","%"],["% of revenue","","(0.6)","%","","(0.2)","%"],["Income tax (benefit) expense","","(1,945)","","","8,222","","","(10,167)","","","(123.7)","%"],["Effective income tax rate","","7.9","%","","(134.6)","%"],["Net loss","","$","(22,573)","","","$","(14,330)","","","$","(8,243)","","","57.5","%"],["*Percentage change is not meaningful."]]
[[/GREPCENT_TABLE]]

Revenue

Revenue increased by $1.1 billion, or 37.1%, for the year ended December 31, 2023 as compared to the year ended December 31, 2022. Revenue increased $877.7 million due to the Merger and the remaining increase was from organic growth for legacy programs. Revenue from programs in the U.S, Middle East, Asia, and Europe increased by $791.8 million, $168.9 million, $96.7 million, and $14.8 million, respectively.

Cost of Revenue

Cost of revenue increased by $1.0 billion, or 39.8%, for the year ended December 31, 2023 as compared to the year ended December 31, 2022, primarily due to increased revenue from the Merger and increased amortization of intangible assets.

Selling, General & Administrative (SG&A) Expenses

SG&A expenses decreased by $28.8 million, or 12.0%, for the year ended December 31, 2023 as compared to the year ended December 31, 2022, primarily due to $39.9 million of acquisition-related costs that were incurred during 2022.

Operating Income

Operating income increased by $68.6 million, or 123.1%, for the year ended December 31, 2023 as compared to the year ended December 31, 2022. Operating margin (income as a percentage of revenue) was 3.1% for the year ended December 31, 2023, compared to 1.9% for the year ended December 31, 2022. The increase in operating income was due to the Merger and organic growth for legacy programs, partially offset by acquisition-related costs incurred during 2022.

For the years ended December 31, 2023 and 2022, aggregate cumulative adjustments increased operating income by $22.7 million and $13.3 million, respectively. The aggregate cumulative adjustments for the years ended December 31, 2023 and 2022 related to changes in contract terms, program performance, customer changes in scope of work and changes to estimates in the reported period. Operating income was also impacted by labor mix and other direct cost purchases.

Loss on Extinguishment of Debt

The Company recorded a $22.3 million loss on extinguishment of debt for the year ended December 31, 2023. For a discussion of the loss on extinguishment see Note 10, Debt, in the Notes to Consolidated Financial Statements.

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Interest (Expense) Income, Net

Interest (expense) income, net was as follows:

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,","","Change"],["(In thousands)","","2023","","2022","","$","","%"],["Interest income","","$","966","","","$","165","","","$","801","","","485.5","%"],["Interest expense","","(123,408)","","","(62,044)","","","(61,364)","","","98.9","%"],["Interest expense, net","","$","(122,442)","","","$","(61,879)","","","$","(60,563)","","","97.9","%"]]
[[/GREPCENT_TABLE]]

Interest income is directly related to interest earned on our cash. Interest expense is directly related to borrowings under our senior secured credit facilities, the amortization of debt issuance costs, and derivative instruments used to hedge a portion of our exposure to interest rate risk. The increase in interest expense of $61.4 million for the year ended December 31, 2023 compared to the year ended December 31, 2022 was due to increased debt assumed with the Merger.

Other Expense, Net

During the year ended December 31, 2023, the Company incurred purchase discount fees and other expenses of $4.0 million related to the sale of accounts receivable through the Master Accounts Receivable Purchase Agreement (MARPA Facility). For a discussion of the MARPA Facility, see Note 18, Sale of Receivables, in the Notes to Consolidated Financial Statements.

Income Tax (Benefit) Expense

We recorded income tax benefit of $1.9 million and income tax expense of $8.2 million for the years ended December 31, 2023 and 2022, respectively, which represented effective income tax expense rates of 7.9% and (134.6)%, for the respective years. The effective income tax rate for the year ended December 31, 2023 was due to increased non-deductible compensation, foreign tax expenses, and state income tax expense which were partially offset by the release of prior year uncertain tax position and credits. The effective income tax rate for the year ended December 31, 2022 was due to increased non-deductible compensation, non-deductible transaction costs, foreign tax expenses, and state income tax expense which were partially offset by the release of prior year uncertain tax position and current year Foreign Derived Intangible Income (FDII) deduction.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity

The Company is not aware of any known trends, demands, commitments, events or uncertainties that will result in, or that are reasonably likely to result in, a material decrease in our liquidity. In addition, other than items discussed, there are no known material trends, favorable or unfavorable, in our capital resources and no expected material changes in the mix of such resources.

Our major sources of funding will be our operating cash flow, our existing balances of cash and cash equivalents and proceeds from any issuances of debt. We believe we have sufficient liquidity to fund operations, acquisitions, capital expenditures and scheduled debt repayments. The Company expects to fund its ongoing working capital, capital expenditure and financing requirements and pursue additional growth through new business development and potential acquisition opportunities by using cash flows from operations, cash on hand, its credit facilities, and access to capital markets. When necessary, our revolving credit facility and MARPA Facility are available to satisfy short-term working capital requirements.

If cash flows from operations are less than expected, the Company may need to access the long-term or short-term capital markets. Although the Company believes its current financing arrangements will permit financing of its operations on acceptable terms and conditions, access to and the availability of financing on acceptable terms and conditions in the future will be impacted by many factors, including but not limited to: (i) its credit ratings, (ii) the liquidity of the overall capital markets, and (iii) the current state of the economy. The Company cannot provide assurance that such financing will be available on acceptable terms or that such financing will be available at all.

During the first quarter of 2023, we entered into a credit agreement (the 2023 Credit Agreement) that provided for $750.0 million in senior secured financing, consisting of a $500.0 million five-year revolving credit facility (2023 Revolver) and a five-year $250.0 million term loan (Term Loan). The proceeds were used to repay certain existing debt balances. See Note 10, Debt, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for further discussion.

During the fourth quarter of 2023, we amended our senior secured first lien term loans (Vertex First Lien Credit Agreement). The amendment provided for a new tranche of term loans under the Vertex First Lien Credit Agreement in an aggregate original principal amount of $911.1 million (the New Term Loans), in which the New Term Loans replaced or refinanced in full all the existing term loans outstanding under the Vertex First Lien Credit Agreement.

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As of December 31, 2023, the carrying value of the New Term Loans was $908.8 million, excluding deferred discount and unamortized deferred financing costs of $36.4 million. The estimated fair value of the New Term Loans as of December 31, 2023 was $908.8 million. The fair value is based on observable inputs of interest rates that are currently available to us for debt with similar terms and maturities for non-public debt (Level 2).

As of December 31, 2023, under the 2023 Revolver there were no outstanding borrowings and $17.5 million of outstanding letters of credit. Unamortized deferred financing costs related to the 2023 Revolver of $4.2 million are included in other non-current assets in the Consolidated Balance Sheets. As of December 31, 2023, the fair value of the 2023 Revolver approximated the carrying value because the debt bears a floating interest rate.

As of December 31, 2023, the carrying value of the Term Loan portion of the 2023 Credit Agreement was $245.3 million, excluding unamortized deferred financing costs of $2.1 million. The estimated fair value of the Term Loan portion of the 2023 Credit Agreement as of December 31, 2023 was $245.6 million. The fair value is based on observable inputs of interest rates that are currently available to us for debt with similar terms and maturities for non-public debt (Level 2). For additional discussion of the Company’s indebtedness, see Note 10, Debt, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K.

The cash presented on our Consolidated Balance Sheets consists of U.S. and international cash from wholly-owned subsidiaries. As of December 31, 2023, the Company held cash, cash equivalents and restricted cash of $72.7 million, which included $43.6 million held by foreign subsidiaries. We do not currently expect that we will be required to repatriate undistributed earnings of foreign subsidiaries. We expect our U.S. domestic cash resources will be sufficient to fund our U.S. operating activities and cash commitments for financing activities.

Sources and Uses of Liquidity

Cash, accounts receivable, unbilled receivables, and accounts payable are the principal components of the Company's working capital and are generally driven by revenue with other short-term fluctuations related to payment practices by customers, sales of accounts receivable through the MARPA Facility and the timing of billings. The Company's receivables reflect amounts billed to customers, as well as the revenue that was recognized in the preceding month, which is normally billed in the month following each balance sheet date.

Accounts receivable balances can vary significantly over time and are impacted by revenue levels and the timing of payments received from customers. Days sales outstanding (DSO) is a metric used to monitor accounts receivable levels. The Company determines its DSO by calculating the number of days necessary to exhaust its ending accounts receivable balance based on its most recent historical revenue. DSO was 58 and 68 as of December 31, 2023 and 2022, respectively.

The following table sets forth net cash provided by (used in) operating activities, investing and financing activities.

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,"],["(in thousands)","","2023","","2022","","2021"],["Operating activities","","$","187,968","","","$","93,495","","","$","61,339"],["Investing activities","","(22,649)","","","175,958","","","(12,643)"],["Financing activities","","(211,023)","","","(193,236)","","","(75,585)"],["Foreign exchange1","","2,288","","","1,337","","","(3,325)"],["Net change in cash, cash equivalents and restricted cash","","$","(43,416)","","","$","77,554","","","$","(30,214)"],["1 Impact on cash balances due to changes in foreign exchange rates."]]
[[/GREPCENT_TABLE]]

Net cash provided by operating activities for the year ended December 31, 2023 consisted of cash inflows from non-cash income items of $169.8 million and cash inflows from the sale of receivables through the MARPA Facility of $72.7 million, partially offset by a net loss of $22.6 million, cash outflows for other non-current assets and liabilities of $25.8 million, and cash outflows for working capital requirements of $6.1 million.

Net cash provided by operating activities for the year ended December 31, 2022 consisted of cash inflows from non-cash income items of $100.6 million and a decrease in net working capital requirements of $47.7 million, partially offset by a net loss of $14.3 million and cash outflows for other non-current assets and liabilities of $40.5 million.

Net cash used in investing activities for the year ended December 31, 2023 consisted of $25.0 million of net capital expenditures for the purchase of computer hardware and software and equipment related to ongoing operations, partially offset by $1.3 million of cash received in a business disposition and $1.0 million of cash received in joint venture distributions.

Net cash provided by investing activities for the year ended December 31, 2022 consisted of $193.7 million of cash acquired in the Merger. This was partially offset by $12.4 million of net capital expenditures for the purchase of computer hardware and software, and equipment related to ongoing operations and $5.3 million of cash disbursed in a business disposition.

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Net cash used in financing activities during the year ended December 31, 2023 consisted of repayments of long-term debt of $432.6 million, payment of debt issuance costs of $8.8 million, prepayment penalty of $1.6 million, and payments of $18.0 million for employee withholding taxes on share-based compensation, partially offset by proceeds from long-term debt of $250.0 million.

Net cash used in financing activities during the year ended December 31, 2022 consisted of repayments of long-term debt of $108.4 million, payment of debt issuance costs of $2.3 million, and payments of $2.0 million for employee withholding taxes on share-based compensation. During 2022, we also borrowed and repaid $392.0 million and $472.9 million, respectively, on the Amended Revolver. These cash outflows were partially offset by $0.4 million received from the exercise of stock options.

Capital Resources

As of December 31, 2023, we held cash, cash equivalents and restricted cash of $72.7 million, which included $43.6 million held by foreign subsidiaries and had $482.5 million of available borrowing capacity under the 2023 Revolver, which expires on February 25, 2028. We believe that our cash, cash equivalents and restricted cash as of December 31, 2023, as supplemented by cash flows from operations, the 2023 Revolver, and the MARPA Facility will be sufficient to fund our anticipated operating costs, capital expenditures and current debt repayment obligations for at least the next 12 months.

Contractual Obligations

As of December 31, 2023, commitments to make future payments under long-term contractual obligations were as follows:

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[["","","Payments Due in Period"],["(In thousands)","","Total","","Less than 1 Year","","1 - 3 Years","","3 - 5 Years","","More than 5 Years"],["Operating leases","","$","54,341","","","$","15,489","","","$","19,478","","","$","11,309","","","$","8,065"],["Principal payments on Vertex First Lien Credit Agreement\u00b9","","908,847","","","9,111","","","18,223","","","881,513","","","\u2014"],["Principal payments on 2023 Credit Agreement\u00b9","","245,313","","","6,250","","","23,438","","","215,625","","","\u2014"],["Interest on Vertex First Lien and 2023 Credit Agreements","","475,197","","","102,787","","","200,358","","","172,052","","","\u2014"],["Total","","$","1,683,698","","","$","133,637","","","$","261,497","","","$","1,280,499","","","$","8,065"],["\u00b9 Includes unused funds fee and is based on the December 31, 2023 interest rate and outstanding balance."]]
[[/GREPCENT_TABLE]]

CRITICAL ACCOUNTING ESTIMATES

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting periods. Estimates are revised as additional information becomes available. Management believes that the accounting estimates employed and the resulting balances are reasonable; however, actual results in these areas could differ from management's estimates under different assumptions or conditions.

Significant accounting policies used in the preparation of the Consolidated Financial Statements are discussed in Note 1, Description of Business and Summary of Significant Accounting Policies, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K. We believe that the assumptions and estimates associated with revenue recognition, business combinations, goodwill impairment, intangible assets and income taxes have the greatest potential impact on our financial statements because they are inherently uncertain, involve significant judgments, and include areas where different estimates reasonably could materially impact the financial statements. We discuss below significant critical accounting policies. Management believes that the accounting estimates employed and the resulting balances are reasonable; however, actual results in these areas could differ from management's estimates under different assumptions or conditions.

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Revenue Recognition

We account for revenue following the guidance in Accounting Standards Codification (ASC) Topic 606, Revenue from Contracts with Customers (Topic 606). As a defense contractor engaging in long-term contracts, the substantial majority of our revenue is derived from long-term service contracts. The unit of account for revenue in ASC Topic 606 is a performance obligation. A performance obligation is a promise in a contract to transfer a distinct good or service to the customer. A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. To determine the proper revenue recognition method, consideration is given as to whether a single contract should be accounted for as more than one performance obligation. For most of our contracts, the customer contracts with us to perform an integrated set of tasks and deliverables as a single service solution, whereby each service is not separately identifiable from other promises in the contract and therefore is not distinct. As a result, when an integrated set of tasks exists, the contract is accounted for as one performance obligation. Unexercised contract options and IDIQ contracts are considered to be separate performance obligations when the option or IDIQ task order is exercised or awarded. Our performance obligations are satisfied over time as services are provided throughout the contract term. We recognize revenue over time using the input method (e.g., costs incurred to date relative to total estimated costs at completion) to measure progress. Our over time recognition is reinforced by the fact that our customers simultaneously receive and consume the benefits of our services as they are performed.

Accounting for contracts and programs involves the use of various techniques to estimate total contract revenue and costs. For contracts, we estimate the profit on a contract as the difference between the total estimated revenue and expected costs to complete a contract and recognize that profit over the life of the contract. When the estimates of total costs to be incurred on a contract exceed total estimates of the total revenue to be earned on the contract, a provision for the entire loss is determined at the contract level and recognized in the period in which the loss was determined.

Contract estimates are based on various assumptions to project the outcome of future events. These assumptions include labor productivity and availability, the complexity of the services being performed, the cost and availability of materials, the performance of subcontractors, and the availability and timing of funding from the customer.

The nature of our contracts gives rise to several types of variable consideration, including award and incentive fees, inspection of supplies and services, undefinitized change orders, and fluctuation in allowable indirect reimbursable costs. We include award or incentive fees in the estimated transaction price when there is certainty and a basis to reasonably estimate the amount of the fee. These estimates are based on historical award experience, anticipated performance and our best judgment at the time. The inspection of supplies and services is a factor because the U.S. government can reduce the transaction price if we do not perform the services in compliance with contract requirements. Variable consideration associated with undefinitized change orders is included to the extent that related estimated costs have been included in the expected costs to complete a contract. The fluctuation of allowable indirect reimbursable costs is a factor because the U.S. government has the right to review our accounting records and retroactively adjust the reimbursable rate. Any prior adjustments are reflected in the U.S. government reserve amounts recorded in our financial statements. We estimate variable consideration at the most likely amount that we expect to be entitled to receive. Refer to Note 15, Commitments and Contingencies, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for further discussion regarding U.S. government reserve amounts.

As a significant change in one or more of these estimates could affect the profitability of our contracts, we review and update our contract estimates regularly. We recognize adjustments in estimated profit on executed contracts cumulatively. The impact of the adjustments on profit recorded to date is recognized in the period the adjustment is identified. Revenue and profit in future periods of contract performance are recognized using the adjusted estimate. If at any time the estimate of contract profitability indicates an anticipated loss on the contract, we recognize the total loss in the quarter it is identified.

Contracts are often modified to account for changes in contract specifications and requirements. If the modification either creates new enforceable rights and obligations or changes the existing enforceable rights and obligations, the modification will be treated as a separate contract. Our contract modifications, except for those to exercise option years, have historically not been distinct from the existing contract and have been accounted for as if they were part of that existing contract.

The timing of revenue recognition, billings and cash collections results in billed and unbilled accounts receivable (contract assets) and customer advances and deposits (contract liabilities) on the Consolidated Balance Sheets. Amounts are billed as work progresses in accordance with agreed-upon contractual terms at periodic intervals (e.g., biweekly or monthly). Generally, billing occurs subsequent to revenue recognition, resulting in contract assets. However, we may receive advances or deposits from our customers, before revenue is recognized, resulting in contract liabilities. These advance billings and payments are not considered significant financing components because they are frequently intended to fund current operating expenses under the contract. These assets and liabilities are reported on the Consolidated Balance Sheets on a contract-by-contract basis at the end of each reporting period.

See Note 1, Description of Business and Summary of Significant Accounting Policies, and Note 4, Revenue, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for further discussion.

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Business Combinations, Goodwill and Other Intangible Assets

The purchase price of an acquired business is allocated to the tangible assets, financial assets and separately recognized intangible assets acquired less liabilities assumed based upon their respective fair values, with the excess recorded as goodwill. Determining the fair value of assets acquired and liabilities assumed requires significant judgment, which includes, among other factors, analysis of historical performance and estimates of future performance. These factors may cause final amounts to differ materially from original estimates. In some cases, we use discounted cash flow analyses, which are based on our best estimate of future revenue, earnings and cash flows as well as our discount rate adjusted for risk.

Goodwill is not amortized, but instead is tested for impairment annually (or more frequently if impairment indicators arise, such as changes to the reporting unit structure or significant adverse changes in the business climate). We conduct our annual impairment testing as of the beginning of the fourth fiscal quarter. In reviewing goodwill for impairment, we have the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the estimated fair value of a reporting unit is less than its carrying amount. If we elect to perform a qualitative assessment and determine that an impairment is more likely than not, we then perform a quantitative impairment test as described below. Otherwise, no further analysis is required. We also may elect not to perform the qualitative assessment and, instead, proceed directly to the quantitative impairment test.

For the quantitative impairment test we compare the estimated fair value of a reporting unit to its carrying value, including goodwill. If the estimated fair value of the reporting unit exceeds its carrying value, goodwill of the reporting unit is not impaired. If the carrying value of the reporting unit, including goodwill, exceeds its estimated fair value, a goodwill impairment loss is recognized in an amount equal to that excess limited to the total amount of goodwill allocated to that reporting unit while taking into consideration the related income tax effect from any tax-deductible goodwill.

For 2023 and 2022, we used the qualitative approach to assess goodwill for impairment. No impairment charges related to goodwill were recorded during 2023 and 2022.

We recognize acquired intangible assets apart from goodwill whenever the intangible assets arise from contractual or other legal rights, or whenever they can be separated or divided from the acquired entity and sold, transferred, licensed, rented or exchanged, either individually or in combination with a related contract, asset or liability. Such intangibles are amortized over their estimated useful lives unless the estimated useful life is determined to be indefinite. Amortizable intangible assets are being amortized over useful lives of four to eight years. The straight-line method of amortization is used as it has been determined to approximate the use pattern of the assets.

Income Taxes

We determine the provision or benefit for income taxes using the asset and liability approach. Under this approach, deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and tax bases of assets and liabilities, applying enacted tax rates in effect for the year in which we expect the differences will reverse. Based on the evaluation of available evidence, we recognize future tax benefits, such as net operating loss carryforwards, to the extent that we believe it is more likely than not we will realize these benefits. We periodically assess the likelihood that we will be able to recover our deferred tax assets and reflect any changes to our estimate of the amount we are more likely than not to realize in the valuation allowance, with a corresponding adjustment to earnings or other comprehensive income (loss), as appropriate.

Our effective tax rate reflects the impact of certain undistributed foreign earnings for which we have not recognized U.S. taxes because we plan to reinvest such earnings indefinitely outside the U.S. We plan foreign earnings remittance amounts based on projected cash flow needs, as well as the working capital and long-term investment requirements of our foreign subsidiaries and our domestic operations. Based on these assumptions, we estimate the amount we will distribute to the U.S. and recognize the U.S. federal taxes due only on these amounts. Material changes in our estimates of cash, working capital and long-term investment requirements in the various jurisdictions in which we do business could impact our actual remittance amounts and, accordingly, our effective tax rate.

The calculation of our tax liabilities involves uncertainties in the application of complex tax regulations in a multitude of jurisdictions across our global operations. We recognize potential liabilities and record tax liabilities for anticipated tax audit issues in the U.S. and other tax jurisdictions based on our estimate of whether, and the extent to which, additional taxes will be due. Furthermore, we recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement.

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We adjust our liability for unrecognized tax benefits in light of changing facts and circumstances; however, due to the complexity of some of these uncertainties, the ultimate resolution may result in a payment that is materially different from our current estimate of the tax liabilities. If our estimate of tax liabilities proves to be less than the ultimate assessment, an additional tax expense would result. If a payment of these amounts ultimately proves to be less than the recorded amounts, the reversal of the liabilities would result in tax benefits being recognized in the period when we determine the liabilities are no longer necessary to be provided.

New Accounting Standards Updates

See Part II, Item 8, Note 2, Recent Accounting Standards Updates, in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for information regarding accounting standards updates.