Leonardo DRS highlights 34% increase in IMS revenue, driven by counter UAS initiatives and strong future outlook amid supply chain challenges.

OPERATOR - (00:00:00)

Sort of adoption penetration there.

UNKNOWN - (00:00:03)

Yeah. And I think this is one of DRS's nice differentiators is when we talk about counter-UAS, that is largely all of our Force Protection type of revenue that we have there. So we talk about and disclose Force Protection being about 20% of our revenues. That's largely dominated by the short range air defense and counter-UAS program. So we have real penetration which we believe gives us an advantage as we look to the future here. So that's think about that kind of in that 18 to 20% range of revenue is all tied to those efforts. Let me add to that quickly and just say that we're the current provider, the approved provider for counter-UAS for the US Army. Our solutions are battlefield tested. We know that our solutions work and we're always adapting our solutions to the evolving threat. We did see a lot of counter UAS solutions on the AUSA (Association of the United States Army) floor, but we distinguish ourselves by having a battle proven capability. And we're very close to our customer. We understand what they need, we understand where they're thinking. We do expect Canada UAS to kind of expand and proliferate to all echelons of the forces and really all domains. And so we see a real opportunity in the future here driving innovation and pushing this out new technology.

Michael - (00:01:32)

Okay, would you say you're kind of equally exposed to both kinetic and kind of non kinetic solutions for counter-UAS?

UNKNOWN - (00:01:39)

Yeah, I would say this, Michael. I think that you're going to see both capabilities on the battlefield. It's going to depend on where you are in the echelons. If you're up in the front. Next. To the front, you're going to see some capabilities in the back. At a higher echelons you're going to see other capabilities. DE is going to end up probably at both echelons, but those capabilities are going to be differing. So you're going to start seeing the counter-UAS market proliferate across all echelons, all different capabilities and we provide all of that.

Mike - (00:02:17)

Okay, okay, Last, last quick one for me, Mike. Just should we expect the same margin profile in 26 with kind of IMS being the lead engine and some more of that IRAD (Independent Research and Development) dampening down the ASC margins?

UNKNOWN - (00:02:35)

Yeah, I would expect the trends to continue. You know, we're not going to go deep into 26 here, but in terms of just the allocation of profit, the investment is going to stay heavy at ASC and we still feel pretty good about the tailwind that is Columbia class as we look into the future. Got it. Thanks. Guys, I'll jump back in the queue.

OPERATOR - (00:02:55)

Thank you. And our next question will be coming from the line of Christine Lewack of Morgan Stanley. Your line is open.

Christine Lewack - Analyst - (00:03:03)

Hey guys. Bill, congratulations on your retirement. It's been a pleasure to see how you've transformed Leonardo DRS over the years. And John, congrats on your new role. I guess following up on the supply chain, you guys have called out germanium a few times. So I just wanted to dive a little bit deeper into this. Can you talk a little bit more about your sourcing strategy for this? How much inventory do you have? It sounds like you got a little bit better access, but it would be really helpful to understand regarding some sort of timeline or some sort of quantity.

UNKNOWN - (00:03:36)

Yeah, thanks, Christine. I don't think I can give you. Precise numbers, but let me give you kind of the approach we had before anticipating these kinds of issues. Bought a buffer stock which we are using to transition 25 and support our 25 flow through at the same time. We're now actively involved in recycling from older optics and pulling the extracting the germanium and constructing new optics from that. And that's now we've seen success in that process and that will bridge us into 26 and get us partway through 26. And then at the same time we're involved in developing partnerships with companies in both the mining and the processing area outside of China so that we have a long term supply. And that's what gives us confidence that we're going to have a robust 26 and we're going to be able to support our germanium needs with these both midterm and short term initiatives. Great, thank you for that. And maybe pivoting to a different topic. I mean, in the quarter you guys made a $15 million investment on Hoverfly Technologies. I wanted, you know, I think you're now at 25% of your equity stake. I wanted to better understand what's your strategy regarding these unmanned capabilities. Where does this fit into your broader portfolio and strategic vision? Yeah, I would say the investment with hoverfly is really kind of key to some of the strategy that we have in terms of making sure we're bringing the best in breed technologies to different solutions. We think this tethered capability is going to allow for obviously for elevated sensing, for targeting, potentially for counter-UAS. So there's some good applications here for this capability and that's what fostered the investment. Gotcha. Great. If I could do a follow up question, you know, IMS growth was up 34% year over year. 32% up sequentially. Can you provide any color on how much of this was driven by the Columbia class and were there any other transitions in ship sets that drove this step up? Thank you. I didn't catch the first part of that question, Christine. I'm sorry. Oh, sorry.

Christine Lewack - Analyst - (00:06:11)

On IMS growth, IMS was up 34% year over year, up 32% sequentially. Just trying to understand how much of this step up was driven by Columbia-class or if there were other transitions and shipsets that drove this increase.

UNKNOWN - (00:06:26)

Yeah, so good question. The increase in the revenue. Actually, Columbia has been pretty stable from its revenue output in a quarterly cadence throughout the course of the year. The increase in revenue is really coming from a lot of the short range air defense and counter-UAS programs for the quarter. So that's where the big pop was this quarter. Great, thank you.

OPERATOR - (00:06:52)

Thank you. And as a reminder, please limit yourself to one question and one follow up. The next question will be coming from the line of Anthony Valentini of Goldman Sachs. Please go ahead.

Anthony Valentini - Analyst - (00:07:06)

Hey guys, thanks for taking my question And Bill, congrats on a great run.

UNKNOWN - (00:07:11)

I'm just trying to get a sense of

Anthony - (00:07:12)

For the longer term growth prospects here. Are there opportunities to take what you guys are doing in propulsion on Columbia class to other types of ships and programs? And the primes are talking about significant growth in missiles, which I think are highly dependent on the sensors. You guys have expertise there. So I'm wondering how large the missile business is today for DRS and where that can go over time. Any color really on the large growth factors would be great.

UNKNOWN - (00:07:40)

Thanks.

John - (00:07:42)

Thanks Anthony. This is John. Let me start with the ship classes and the propulsion systems and absolutely, we are looking and bidding other ship classes classes and we have some real progress in that regard shaping. We believe that we have an advantage in providing energy flexibility on board a ship classes. It's not obvious, but the more energy, more power a ship classes has, the further away can fight. You know, longer range radars, longer range electronic warfare, a longer range directed energy. And our solutions allow for that capability to be able to direct that energy to different places on the ship classes. So yes, for sure we believe that there's opportunity, long term growth for us there. Turning to missiles. Leonardo DRS has always been a supplier of the best infrared sensoring in the industry and other sensors as well. We're really at the top of the food chain when it comes to missiles. Those missiles have to be smarter, they have to have longer range, they have to have greater capability. So we're seeing an increased pull for those higher performing sensors. Into that space. And so we're playing at all different levels from the very low cost, high volume missiles and effectors all the way to the very high end missiles and effectors.

OPERATOR - (00:09:17)

Thank you. One moment for the next question. And the next question will be coming from the line of JP Morgan. Your line is open.

UNKNOWN - (00:09:28)

Hey, thanks very much. Good morning everyone and congratulations to Bill and to John as well. I wanted to ask, John, you mentioned at the outset the SAGE Corps. I wonder if you could talk a little bit about how that fits into army's NGC2 plans and the extent to which that can be a growth driver. It seems there's a good amount of funding headed in that direction.

John - (00:09:58)

Thanks, Seth. Let me step back and talk about the fact that when we see platforms, all platforms are going to end up having to think for themselves. They're going to have to sense for themselves and think for themselves. At the end of the day, those platforms that are at the edge of the battle space, whether it's land, sea or air, are going to have disrupted communications in battle. So the computing resources for those platforms to think about what's happening on the battle space has to be on the platform, has to be at the edge. This is where we're putting our energy, this is where we're putting a lot of our money is to build out that capability. The connectivity from the platform up to the Enterprise will be there at certain times and some of the Enterprise capabilities will play there. But those platforms, platforms have to think. So this is part of NGC2 (Next Generation Command and Control) program with the army is being able to build out a capability on the platform, not just to communicate, but also to think. And so we're adding the AI capability. And now with the SAGE Corps, it's really the DRS operating system which we're going to place onto those computing resources at the edge that allow those platforms to think for themselves, to fuse the sensing information, to have AI, to understand what's going on on the edge and to be able to make sense and act on the information. So that's where Sage Corps fits into the program. Not just for the Army's platforms, but we're also using on the sea for USVs. We're also putting in other air platforms and in space as well.

Seth - (00:11:43)

Excellent, excellent, thanks.

UNKNOWN - (00:11:44)

And as a follow up, if we could just talk about IMS and on the Columbia class, kind of what shipset you're up to, or maybe a different way of saying it is how far up the curve are we in terms of when you've got to a place where pricing is kind of stabilized.

John - (00:12:08)

Yeah. And we've talked about Columbia class in the past, that we're always kind of working on three different shipsets simultaneously. In terms of our revenue base, what happens in 2025 is we will start to pretty much retire the second shipset, which was bid at a lower price point. So subsequent to 2025, we'll be at a cadence where all of the new ship and revenue base associated with the different ship classes will be negotiated after the design was materially complete, after the inflation impacts to labor and material. So we should see more consistent margin output from Columbia starting in 2026 with one more year of margin expansion and then a little asterisk I'd put on that is that is before we see the margin benefit from the South Carolina facility and think about that impact starting in 2027.

UNKNOWN - (00:13:03)

Great, great. Thanks very much.

OPERATOR - (00:13:08)

Thank you. Our next question will be coming from the line of Andre Madrid of btig. Your line is open.

Andre Madrid - Analyst - (00:13:17)

Good morning, everybody, and congrats to Bill and John.

UNKNOWN - (00:13:22)

Thank you. Thank you. I want to talk again about hoverfly. You know, great to see the upped investment there. Is this something that fits into your.

Andre Madrid - Analyst - (00:13:34)

Previously outlined M&A criteria?

UNKNOWN - (00:13:39)

Yeah. I would say that when we're talking about M&A, we're looking at different aspects of that, whether they're joint ventures, partnerships, minority investments, and certainly with this capability, having the ability to assist us in elevated sensing, to bring our sensors through from a network perspective. I think that this kind of checks the boxes that we were looking at from an M&A perspective, and it's certainly strategic to where DRS is headed. Got it. Got it. That's helpful. And then I wanted to follow up. On. The cuas work that you guys are doing. Could you maybe talk a bit more about the margin profile of that work and if it's generally accretive or dilutive to IMS? Yeah, we don't get into the marginality of this particular program, but it's the same customer set. It's in line with the rest of our portfolio. There's no anomalies here from a drag or from a tailwind perspective. Got it, Got it.

Mike - (00:14:45)

Appreciate the color, Mike, and I'll leave it there.

OPERATOR - (00:14:50)

Thank you. And our next question will be coming from the line of Ronald Epstein of Bank of America. Your line is open.

Alex Preston - Analyst - (00:15:00)

Hey, guys, this is Alex Preston on for Ron today. First of all, just wanted to echo the congratulations to both Bill and John.

UNKNOWN - (00:15:07)

Thank you.

Alex Preston - Analyst - (00:15:07)

I wanted to discuss the government shutdown. You know, obviously, three Q. Bookings are really strong. You guys mentioned there's not a ton of material impact at this point, but I'm wondering if you're seeing any slowness in the contracting environment and if so, where? You know, I think, for instance, we might have expected Golden Dome awards to be maybe a little more firmed up by now, given reconciliation funding is to be spent, there's contract vehicles in place. Curious if you have any commentary on that.

UNKNOWN - (00:15:37)

Yeah, as I said, it would take a while before this would catch up to influencing things like that. It would through, you know, think of things like, you know, testing to prove systems out. But those schedules are generally pretty far out. And so we haven't really seen much more than modest impact yet. And it would have to go much closer to the end of the year before we'd see that.

Alex Preston - Analyst - (00:16:08)

Okay, thanks. And then just as a quick follow up, you know, we've noted a bunch of us have noted the strength in counter-UAS bookings and revenue this quarter. Just curious if you could characterize more on where the demand is coming from. I know you mentioned there's particular strength of the U.S. army, there's foreign military sales involvement. Just curious if you could provide any color on the split there.

UNKNOWN - (00:16:32)

Yeah, I think that's where the demand is coming from for sure. We are seeing demand coming from really all over. We're seeing demand coming from the army for sure, and that's evident in the bookings. We're seeing demand coming from Navy, Marines as well. In the US Air Force is also plagued with this problem. We're seeing progress there in demand building and some bookings there as well. And of course, direct commercial and international FMS sales as well. There's demand coming from all avenues, as you might imagine due to the due to the changing nature of warfare. Great. Thank you guys. Appreciate the help.

OPERATOR - (00:17:21)

Thank you. And our next question will be coming from the line of John Tanweg of cjs, please go ahead.

John Tanweg - Analyst - (00:17:33)

Hi, good morning. Thank you for taking my questions and congratulations on your retirement and John and Fran on their appointments. My first question is if you could.

UNKNOWN - (00:17:44)

Drill just a little bit more into.

John Tanweg - Analyst - (00:17:46)

The germanium supply, that would be helpful. You mentioned bridging into the future with recycling and then alternative supply. But do you expect to be constrained in the coming quarters as your stockpile falls off and then maybe catch up later in the year? Or how do you expect that to shape up? Does do the programs that you have in mind fulfill 100% of supply right out the gate, or does it take time to get there.

UNKNOWN - (00:18:12)

We think we have a plan, John, that does bridge from the 25, where I think we've taken account of the supply restrictions and price increases, and we have it planned into 26 with the different initiatives that I mentioned. So we're feeling comfortable as to where we are.

John Tanweg - Analyst - (00:18:37)

Okay, great. That's helpful. And then second, is the price on these alternative supplies significantly higher than what you're seeing in the market? And does that further impact the ASC margin as we go forward? How should we think about the profitability there as you ramp these alternative sources?

UNKNOWN - (00:18:53)

Yeah, I would say that, as you know, we're largely a fixed price shop, so the higher pricing is certainly going to be inherent in those programs as we look into 202026.

John Tanweg - Analyst - (00:19:07)

Okay, got it. One last one, if I could just. Any changes to thoughts on capital allocation? You obviously did the hoverfly investment. You did some share repurchases, but any thoughts on capital allocation and use of cash going forward?

UNKNOWN - (00:19:21)

Yeah, I mean, as we've said that we want to have a balanced capital allocation strategy. So we've instituted a dividend this year. We have a moderate buyback, but our priority continues to be seeking out M&A opportunities that meet both our strategic and financial criteria. In that we've exercised patience, we've looked, looked at a lot of things. We are doing the hoverfly this quarter, as we mentioned. We're looking at larger investments as well. But you should expect going forward to see more M&A, but a balanced strategy as well. Great, thank you and congrats again.

OPERATOR - (00:20:10)

Thank you. And our next question will be coming from the line of Austin Miller of Canaccord. Your line is open.

Austin Miller - Analyst - (00:20:19)

Hi, good morning. Thanks again, John and John, for your leadership. Just my first question here. You talked about recycling germanium from older optics. It sounds like you're going to get additional legs on your supply beyond Q1 26, which is, I think, what you discussed last time for your visibility. Have you looked into alternative glass based solutions like Black Diamond Glass, potentially to replace the germanium, just given it has less temperature sensitivity and better supply? You're correct.

UNKNOWN - (00:20:59)

We are looking at alternative materials. It's particularly relevant for smaller optics where you can replace germanium with other materials. And that is part of the portfolio of solutions we're pursuing. And that one is in the early stages, but we are seeing success there as well.

Austin Miller - Analyst - (00:21:22)

Okay, and just to follow up, I know we're in a government shutdown here, but if we think about the opportunity for Golden Dome program and when we start to get RFPs and contracts for that, do you have any sense of the timing next year? And there's also like your partner AeroVironment has been testing UAS solutions at Grand Forks in North Dakota.

John - (00:21:52)

Let me take the Golden Dome part of that for sure. We're seeing a lot of activity on Golden Dome. While the architecture is not yet public, we certainly see movement. You're probably aware of the shield RFI, RFP that I think 1500 companies bid, including Leonardo DRS. We do expect that to move forward very quickly. I think that we see, we see opportunity here, not just in the space sensing, but also in the under layer and also in the Overland Horizon radar area. So we believe that that's going to move forward and General Bootlein is moving forward very quickly on the counter UAS front. We see a lot of activity in counter-UAS, including Anduril's activity. And I think that, you know, just to go back to the points about the fact that we are the ones that are solving this problem for the Army. We have battle proven technology, we've proven our capability and we're following the threat, making sure that we're ahead of the threat and very close to a customer.

Austin Miller - Analyst - (00:23:07)

Got it. Thanks for filling me in.

OPERATOR - (00:23:11)

Thank you. I would now like to turn the call over to management for closing remarks.

UNKNOWN - (00:23:15)

Please go ahead.

Lisa - Operator - (00:23:17)

Thank you. And thank you all for your time. This morning and your interest in DRS as usual. If you have any follow up questions, please call or email me. We look forward to speaking with all. Of you again soon. Enjoy the rest of your day.

OPERATOR - (00:23:32)

This does conclude today's program. Thank you all for participating. You may now disconnect.

- (00:41:15)

On the Columbia kind of what? Ships that you're up to. Or maybe. Continuously in terms of our revenue base. What happens in 2025 is that we're always kind of working on three different ship sets simultaneously. Yeah. And we've talked about Columbia in the past and chipset, which was bid at a lower price point. So subsequent is we will start to pretty much retire. The second to 2025 will be at a cadence where all of the new ship dated after the design. Was materially complete after the inflation impacts to labor and material, so we should see more consistent and revenue base associated with the different ship classes will be negotiate margin output from Columbia starting at year. Six. Expand that with one chin. Put a mark on that and that benefit. Great. Thanks very much. Starting in 2027. From the South Carolina facility. And think about that impact. Thank you. Our next question will be coming from the line of Andre Madrid of BTiG. Your line is. Bill and John. Thank you. Good morning, everybody, and congrats to thank you. I want to talk again about Hoverfly. Great to see the upped investment there. Is this something that fits into your previously outlined m and a criteria. Yeah. I would expect to say that other than join one more time. Talking about partners today, shift where minor look already, and that. Difference network perspective. I think that this kind of checks the box. Assist us in elevated sensing to bring our sensors. Through some. And certainly. With this capability, having the ability to. That's helpful. And then I wanted us is that we were looking at from an m. And a perspective. And it's certainly strategic, too, where DRS is headed. You maybe talk a bit more about the margin profile of that work and if it's. Follow up. On. The Cuas work that you guys are doing. Yeah. We don't get into the marginality of this particularly. Different approach. Same bully. It's here from God. It appreciate the color, Mike, and I'll leave it there. Thank you. From a dread or from a tailwind perspective. Our next question. Will be coming from the line of Ronald Epstein of Bank of America. Your line is open. Hey, guys, this is Alex Preston on for Ron today. First of all, just wanted to echo the congratulations to both Bill and John. Thank you. I wanted to circle back on the government shutdown. Obviously, three queue bookings are. Really strong you guys mentioned. There's not a draft ton of material. Where, but I'm wondering if you're seeing any loan isn't. In place. Curious if you have any commentary on that. By now. Given the reconciliation funding is to be spent. There's contract vehicles we might have. Expected Golden Dome awards to be maybe a little more firmed up. Yeah, as I said. It would take a while before this would catch up to influencing things like that. Think of things like. Testing to poop systems out. But those schedules are generally pretty far out. We haven't really seen. Much more than my end of the year before we see that. Impact yet. Okay, thanks. As a go. Up. Revenue this quarter. Just curious if you could characterize more on. We've noted a bunch of us have noted the strength in countyway that's bookings and where the demand is coming from. I know you mentioned. This particular strength of the US army. There's foreign military sales involvement. Yeah, I think that's where the demand is coming from for sure. Curious if you could. Provide any color on the split there. We are seeing demand coming from really all over. We're seeing demand coming from the army for sure, and that's evident in the bookings. We're seeing demand coming from. Navy. Marines as well in the US air force. Is also prompted plague man. Looking there as well. And, of course, direct commercial. And international FMS sales as well. This demand coming from all avenues, as you might imagine. Due to the changing nature of war. Appreciate the help. Great. Thank you, guys. Thank you. And our next question. Of CJS, please. Go ahead. We'll be coming from the line of. John tanwig. Hi. Good morning. Thank you for taking my questions. And congratulations to our questions. In your tubing. By front end because it's quite transformation. On the new place I applied that would be helpful. You mentioned bridging. Into the future with the recycling and then alternative supply. But do you expect to be constrained in the coming quarters as your stockpile falls off and then maybe catch up later in the year. Or how do you expect that to shape up? Do the programs that you have in line fill 100% of supply right out the gate or. Does it take time to get there? We think we have a plan, John. That does bridge supply restrictions and price increases. And we're from 25, where I think we've taken account of the. We have. It planned into 26. With the work of the field. So where we are? That I mentioned. Price on these alternative supplies significantly higher than what you're seeing in the market. Okay, great. That's helpful. And then second. Does that further impact the ASC margin as we go forward? How should we think about the profitability there as you rank these alternative sources. Yeah, I would say that. As you know, we're largely a fixed price shop, so the higher pricing is certainly going to be 2026. Okay, got it. Inherent in those programs as we look into it. One last one. If I could just. Any changes? To thoughts on capital allocation? You obviously did the hover fly investment. You did some share repurchases. But any thoughts on capital allocation? Yeah. Sleep strategy. We've been without M and a opportunities that meet both our strategic and tuned dividend. This year. We have a moderate buyback, but our priority continues to be seeking nice patients. We've looked at a lot of things. We are doing. Financial criteria in that we've exercised the hoverfly. This quarter, as we mentioned. We're looking at. That larger investments as well. M and a. But a balanced strategy as well. But you should expect, going forward to see. More. From the line. Thank you. Hi. Good morning. Thanks again, Bill and John, for your leadership. Just my first question here. You've talked about recycling germanium from older optics. It sounds like you're going to get. Additional legs on your supply beyond Q 126, which is, I think, what you discussed last time for your visibility. Have you looked into alternative. Like glass based solutions like Black diamond glass potentially to replace the germanium just given it has less temperature sensitivity and better supply. Your coeise. We roll, Arlin. Looking for CS mall all around. Where you can replace germanium with other, and that is part of the portfolio of solutions. We're pursuing and. That one. Is in the. Okay. And just a follow up. I know we're in a shutdown. Here. But if we think about. The early stages, but we are seeing success there as well. Opportunity for Golden Dome. And when we start to get rfps and contracts for that, Do you have any sense of the timing next year? And there's also, like, your partner, aerovironment. Is as. Test grant standpoint. The golden dome part of that for sure. We're seeing a lot of activity on gold. And dome. The architecture is not yet public. Shield. Rfi. Rfp. That. We certainly see movement. You're probably aware of. The 1800 companies bid, including drs. But we see opportunity here, not just. In the we do expect that to move forward very quickly. I think that the space sensing, but also in the underlayer and also in the over the horizon radar. Very quick area. We've been. Asking. For. We see a lot of activity in counter UAS, including Andrel's activity. And I think that just to go back to the points about the fact that we are the ones that are solving this problem for the army. We have battle proven technology. We've proven our capability and we're following the threat, making sure that we're ahead of the threat and very close to a customer. Got it. Thanks for filling me in. To management for closing remarks. Please, go ahead. Thank you. I would like to turn the call over. Thank you, Lisa. Thanks. Azure. Time the stock force, more follow up spring and you're quite seeking or ingestion. With ultrasound, all of you. Again. Call reindeer. Thank you all for participating. You may now disconnect. This does conclude today's program. Thank you.