Leonardo DRS(DRS) - 2023 Q4 - Annual Report

Part I Business Leonardo DRS, Inc. is an advanced defense technology provider specializing in sensing and computing, primarily serving U.S. government customers, with its backlog significantly growing to $7.8 billion - The company operates through two primary business segments: Advanced Sensing and Computing (ASC) and Integrated Mission Systems (IMS)[22] Revenue by Customer Type (2021-2023) | Customer Type | 2023 | 2022 | 2021 | | :--- | :--- | :--- | :--- | | U.S. Government | 80% | 84% | 86% | | Foreign Gov't & Commercial | 20% | 16% | 14% | Revenue by Contract Type (2021-2023) | Contract Type | 2023 ($M) | 2022 ($M) | 2021 ($M) | | :--- | :--- | :--- | :--- | | Firm-fixed price | $2,373 | $2,347 | $2,498 | | Flexibly priced | $453 | $346 | $381 | Total Backlog (2021-2023) | Backlog Type | 2023 ($M) | 2022 ($M) | 2021 ($M) | | :--- | :--- | :--- | :--- | | Funded | $3,397 | $2,783 | $2,510 | | Unfunded | $4,354 | $1,486 | $351 | | Total Backlog | $7,751 | $4,269 | $2,861 | Company-Funded R&D Expenses (2021-2023) | Year | R&D Expense ($M) | | :--- | :--- | | 2023 | $82 | | 2022 | $58 | | 2021 | $48 | - As of December 31, 2023, the company had approximately 6,600 employees, with about 7% (470 employees) represented by labor unions[48] - In 2022, the company completed a merger with RADA Electronic Industries Ltd. and sold its Global Enterprise Solutions (GES) business for net cash proceeds of $427 million[55][56] Risk Factors The company faces significant risks including heavy dependence on U.S. defense spending, fixed-price contract cost overruns, FOCI status requiring a DoD proxy agreement, cybersecurity threats, and supply chain disruptions - The company is highly dependent on U.S. government contracts, which represented approximately 80%, 84%, and 86% of total revenues for the years 2023, 2022, and 2021, respectively[89] - A significant portion of revenue is derived from fixed-price contracts (84% in 2023), which exposes the company to financial risk from potential cost overruns[95] - As a company deemed to be under Foreign Ownership, Control, or Influence (FOCI) due to its ownership by Leonardo S.p.A., DRS must operate under a proxy agreement with the DoD to maintain security clearances for classified work[100][211] - The company faces a heightened risk of security breaches and cyber-attacks due to its role as a government contractor with access to sensitive and classified information[148] - The ongoing conflict between Israel and Hamas, which began in October 2023, has the potential to disrupt the company's Israeli operations, which includes the former RADA business[180] - The Committee on Foreign Investment in the United States (CFIUS) may review, delay, or prevent future acquisitions or investments by the company because it is considered a "foreign person" under CFIUS regulations[218] Unresolved Staff Comments The company reports no unresolved staff comments from the Securities and Exchange Commission - None[232] Cybersecurity Leonardo DRS addresses significant cybersecurity threats through a comprehensive program with four core components, overseen by the Board's Government Security Committee and senior management - The company's Cybersecurity Program is built on four core components: Cyber Operations; Cyber and Information Technology Governance and Compliance; Classified Information Systems; and Cyber/Supplier Risk Management[235][236][237] - The Board of Directors oversees cybersecurity risks through its Government Security Committee (GSC), which receives regular briefings from senior leadership, including the Chief Information Security Officer[241] - The company utilizes third-party assessments to evaluate security controls and incident response capabilities, with findings tracked internally and reviewed by senior leadership and the Board[239][240] Properties The company operates a mix of owned and leased facilities across 18 U.S. states, Canada, and Israel, supporting manufacturing, engineering, and office functions for its business segments Significant Owned and Leased Facilities | Location | Segment | Approx. Sq. Footage | Owned/Leased | | :--- | :--- | :--- | :--- | | West Plains, MO | IMS | 447,067 | Owned | | Menomonee Falls, WI | IMS | 372,856 | Leased | | Melbourne, FL | ASC | 336,287 | Leased | | High Ridge, MO | IMS | 183,600 | Owned | | Bridgeton, MO | IMS | 171,500 | Leased | Legal Proceedings The company is involved in ordinary course legal proceedings, notably eliminating a reserve for a CERCLA environmental inquiry at the "Orphan Mine" site after the EPA indicated no further federal action - The company is involved in an inquiry under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) regarding potential radioactive material at the "Orphan Mine" site, operated by a predecessor entity[251] - In June 2023, the EPA's Superfund database indicated that the Orphan Mine site does not qualify for the National Priorities List and that no further federal action will be taken, consequently, DRS eliminated its reserve for this matter as liability is no longer considered probable or estimable[252] Mine Safety Disclosures This item is not applicable to the company - Not applicable[253] Information about our Executive Officers This section provides biographical information for the company's executive officers as of December 31, 2023, including the CEO, COO, CFO, General Counsel, and EVP of Business Operations Executive Officers (as of Dec 31, 2023) | Name | Age | Position | | :--- | :--- | :--- | | William J. Lynn III | 69 | Chief Executive Officer and Chairman | | John A. Baylouny | 62 | Executive Vice President, Chief Operating Officer | | Michael D. Dippold | 43 | Executive Vice President, Chief Financial Officer | | Mark A. Dorfman | 49 | Executive Vice President, General Counsel & Secretary | | Sally A. Wallace | 57 | Executive Vice President, Business Operations | Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities The company's common stock trades on Nasdaq under "DRS," with no current cash dividends or share repurchase program, and 49 registered holders as of February 26, 2024 - The company's common stock trades on the Nasdaq under the symbol "DRS"[271] - The company does not currently pay quarterly cash dividends and does not have a common stock share repurchase program[271][273] Management's Discussion and Analysis of Financial Condition and Results of Operations For 2023, revenues increased to $2.83 billion and gross profit grew, but net earnings decreased due to a prior-year divestiture gain, while backlog reached a record $7.8 billion and Adjusted EBITDA slightly increased Consolidated Results of Operations (2021-2023) | Metric (in millions, except EPS) | 2023 | 2022 | 2021 | | :--- | :--- | :--- | :--- | | Total revenues | $2,826 | $2,693 | $2,879 | | Gross profit | $648 | $575 | $547 | | Operating earnings | $231 | $561 | $236 | | Net earnings | $168 | $405 | $154 | | Diluted EPS | $0.64 | $1.88 | $0.73 | | Backlog | $7,751 | $4,269 | $2,861 | | Bookings | $3,516 | $3,156 | $2,595 | - The significant decrease in operating and net earnings in 2023 compared to 2022 is primarily attributed to the $354 million gain realized on the disposals of the GES and AAC businesses in 2022[309][318][319] - Backlog increased by $3.5 billion (81.6%) in 2023, largely due to the receipt of multi-submarine contracts for the Columbia Class submarine program, which added approximately $3 billion in unfunded backlog[327] Key Non-GAAP Operating Measures (2021-2023) | Metric (in millions, except EPS) | 2023 | 2022 | 2021 | | :--- | :--- | :--- | :--- | | Adjusted EBITDA | $324 | $318 | $310 | | Adjusted EBITDA margin | 11.5% | 11.8% | 10.8% | | Adjusted Diluted EPS | $0.73 | $0.83 | $0.83 | | Free cash flow | $159 | $74 | $122 | Segment Performance Highlights (2023 vs 2022) | Segment (in millions) | Revenues | % Change | Adj. EBITDA | % Change | Backlog | % Change | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | ASC | $1,831 | 5.7% | $215 | 8.0% | $2,402 | 28.6% | | IMS | $1,021 | 3.9% | $109 | (8.4)% | $5,349 | 122.8% | - Cash from operating activities increased to $205 million in 2023 from $33 million in 2022, driven by lower working capital outlays and the absence of tax payments on dispositions that occurred in the prior year[393] Quantitative and Qualitative Disclosures About Market Risk The company is exposed to market risks including interest rate risk on variable-rate debt, limited foreign currency risk, and inflationary pressures on supply chain costs impacting profitability - The company is exposed to interest rate risk on its variable-rate 2022 Term Loan A. A 0.5% increase or decrease in the weighted average interest rate would result in an approximate $1 million change in annual interest expense[423] - Foreign currency risk is limited as the vast majority of revenue is from U.S. sources. The primary exposure is to the Canadian dollar, with receivables of $31 million as of year-end 2023[424] - The company has experienced inflationary pressures on its supply chain costs, particularly for micro-electronics and commodities, which have impacted profitability[425] Financial Statements and Supplementary Data This section presents the company's audited consolidated financial statements for 2021-2023, along with reports from independent registered public accounting firms - The critical audit matter identified by the independent auditor, Ernst & Young LLP, relates to revenue recognition, specifically the estimates required to determine the total cost at completion for certain long-term contracts accounted for using the percentage of completion method[433][435][436] Consolidated Balance Sheet Highlights (in millions) | Account | Dec 31, 2023 | Dec 31, 2022 | | :--- | :--- | :--- | | Assets | | | | Cash and cash equivalents | $467 | $306 | | Total current assets | $1,918 | $1,707 | | Goodwill | $1,238 | $1,236 | | Total assets | $3,921 | $3,677 | | Liabilities & Equity | | | | Total current liabilities | $1,078 | $1,042 | | Long-term debt | $349 | $365 | | Total liabilities | $1,596 | $1,550 | | Total shareholders' equity | $2,325 | $2,127 | - The company completed its all-stock merger with RADA Electronic Industries Ltd. on November 28, 2022, with a total purchase consideration of $511 million, resulting in $286 million of goodwill allocated to the ASC segment[548][552] - Total backlog (remaining performance obligations) was $7.75 billion as of December 31, 2023, of which approximately 27% is expected to be recognized as revenue over the next 12 months[572] Changes in and Disagreements With Accountants on Accounting and Financial Disclosure The company reports no changes in or disagreements with its accountants regarding accounting and financial disclosure - None[724] Controls and Procedures As of December 31, 2023, management concluded that disclosure controls and internal control over financial reporting were effective, a conclusion affirmed by an unqualified auditor's opinion - Management concluded that the company's disclosure controls and procedures were effective as of December 31, 2023[725] - Based on an assessment using the COSO 2013 framework, management concluded that the company's internal control over financial reporting was effective as of December 31, 2023[726] - The independent registered public accounting firm, Ernst & Young LLP, issued an unqualified opinion on the effectiveness of the company's internal control over financial reporting as of December 31, 2023[733] Other Information No director or officer adopted or terminated a Rule 10b5-1 or non-Rule 10b5-1 trading arrangement during the fourth quarter of 2023 - No director or officer adopted or terminated a Rule 10b5-1 trading arrangement or non-Rule 10b5-1 trading arrangement in the fourth quarter of 2023[741] Part III Directors, Executive Officers and Corporate Governance Information on directors, executive officers, and corporate governance is incorporated by reference from the company's 2024 definitive proxy statement - Information required by this item is incorporated by reference from the company's 2024 definitive proxy statement[744] Executive Compensation Information regarding executive compensation is incorporated by reference from the company's 2024 definitive proxy statement - Information required by this item is incorporated by reference from the company's 2024 definitive proxy statement[745] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Information regarding security ownership is incorporated by reference from the company's 2024 definitive proxy statement - Information required by this item is incorporated by reference from the company's 2024 definitive proxy statement[746] Certain Relationships and Related Transactions, and Director Independence Information regarding related party transactions and director independence is incorporated by reference from the company's 2024 definitive proxy statement - Information required by this item is incorporated by reference from the company's 2024 definitive proxy statement[746] Principal Accountant Fees and Services Information regarding principal accountant fees and services is incorporated by reference from the company's 2024 definitive proxy statement - Information required by this item is incorporated by reference from the company's 2024 definitive proxy statement[747] Part IV Exhibits and Financial Statement Schedules This section lists the consolidated financial statements and provides an index of all exhibits filed with the Form 10-K, including key agreements and certifications - This section lists the financial statements and schedules filed as part of the annual report[749] - An index of exhibits is provided, incorporating by reference key documents such as the RADA merger agreement, credit agreements, and executive compensation plans[751] Form 10-K Summary The company did not provide a Form 10-K summary - None[755]