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Operator: Good morning, and thank you for standing by. Welcome to Booz Allen Hamilton's Earnings Call covering Second Quarter Fiscal Year 2026 results. [Operator Instructions] I'd now like to turn the call over to the Head of Investor Relations, Dustin Darensbourg.
Dustin Darensbourg: Thank you. Good morning, and thank you for joining us for Booz Allen's Second Quarter Fiscal Year 2026 Earnings Call. We hope you've had an opportunity to read the press release we issued earlier this morning. We have also provided presentation slides on our website and are now on Slide 2. With me today to talk about our business and financial results are Horacio Rozanski, our Chairman, Chief Executive Officer and President; Matt Calderone, Executive Vice President and Chief Financial Officer; and Kristine Martin Anderson, Executive Vice President and Chief Operating Officer. As shown in the disclaimer on Slide 3, please note that we may make forward-looking statements on today's call, which involve known and unknown risks, uncertainties and other factors that may cause our actual results to differ materially from forecasted results discussed in our SEC filings and on this call. All forward-looking statements are expressly qualified in their entirety by the foregoing cautionary statements and speak only as of the date made. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements. During today's call, we will also discuss some non-GAAP financial measures and other metrics, which we believe provide useful information for investors. We include an explanation of adjustments and other reconciliations of our non-GAAP measures to the most comparable GAAP measures in our second quarter fiscal year 2026 earnings release and slides. Numbers presented may be rounded and as such, may vary slightly from those in our public disclosure. It is now my pleasure to turn the call over to our Chairman, CEO and President, Horacio Rozanski, we are now on Slide 4.
Horacio Rozanski: Thank you, Dustin. Welcome, everyone, and thank you for joining today's call. This morning, Kristine, Matt and I will share our financial results for the second quarter of fiscal year 2026. The headline for our call today is that the reacceleration of our business will take longer than we expected when we spoke last quarter. As a result, we are lowering top and bottom line guidance for the year. As I will describe in a moment, this is based on continuing friction in the overall procurement environment and fundamentally different dynamics within our civil and national security portfolios. By national security, I mean the combination of our increasingly integrated Defense and Intel businesses. At the same time, and despite these near-term headwinds, we continue to see strong performance in our most exciting growth vectors. This success fuels our optimism for the medium term. In a few moments, Matt will take you through our quarterly results in depth and cover how they differ from our original expectations. Before that, I would like to describe the market and how it impacts our business differentially, where we see growth coming from in the near and medium term and the actions we are taking to compete and win in the current environment and to set us up for long-term strategic and financial success. Beginning with the market. This is the most bifurcated environment I have seen in my decades with Booz Allen. Our civil and national security portfolios are experiencing completely different dynamics, and we believe both face different prospects over the coming quarters. Our civil business is operating in the most challenging market in a generation. Over the past 9 months, the pace of change in civil agencies focus on funding has moved at extraordinary speed. As we shared in May, this resulted in run rate cuts in some of our large technology contracts. Since then, the business base has stabilized, and we have seen some growth in pockets. However, the procurement environment and our near-term pipeline in civil have not recovered. Our second quarter is typically the most active as it coincides with the end of the government's fiscal year. This year, we saw no major procurement actions nor plus-ups or cuts on any existing contracts. And we also did not see nearly the typical pace of tactical selling. Given this environment, we expect our return to growth in civil to be delayed by several quarters. When exactly that happens will depend on how funding and contract activity evolve. For our part, across all levels of government, we're discussing potential opportunities that align to the administration's highest priorities from critical minerals to border security. These are excellent and very promising conversations. There are also several large RFPs in our growing medium-term business pipeline, including new work and recompetes. Looking ahead, our focus in the civil business is to maximize our AI capabilities and commercial technology partnerships to revolutionize delivery and reignite growth. The dynamics across our defense and intelligence markets, broadly speaking, our national security portfolio are fundamentally different from civil and are much stronger. There remains some friction in the funding process, characterized by shorter funding increments and slower ramp-ups in new contract wins. Despite this friction, the pace of awards in our national security portfolio has been encouraging. Of our $7.2 billion of gross bookings in the quarter, about 90% were in national security. This includes the almost $1.2 billion Shadow Raptor task order, where Booz Allen will help the Air Force Research Laboratory to increase warfighting lethality through adoption of advanced technologies. We also won 3 other notable awards valued at over $800 million each, including a competitive takeaway win with the United States Army National Guard, Intelligence and Security Directorate and 2 wins at the Defense Intelligence Agency, where we will modernize military intelligence and deliver new AI/ML capabilities in global no-fail missions. Booz Allen continues to win in national security because we bring our unparalleled technology and our depth of mission expertise to the fight. Looking more broadly across our national security work, our leading positions in cyber, AI and war fighting tech are highly relevant to the Trump administration's technology and mission priorities. Our cyber business is increasingly differentiated. Our Thunderdome product is becoming the standard for Zero Trust. It met all the government's milestones 2 years ahead of schedule. And just last month, it won the 2025 Cybersecurity Breakthrough Award. We also continue to be the largest provider of AI to the federal government as Deltek recently reaffirmed. And as cyber, AI and new hardware and software stacks converge, we are building the tech that makes Booz Allen unbeatable at the edge. Some of you actually had the opportunity to see our edge technology at AUSA and our recent investor event from our modular detachment kit or MDK to TAC Sirex solution and our exquisite tactical gear. We are combining our own tech with the best commercial products to empower and protect our nation's war fighters. As we look at this year and beyond, we continue to see top line growth in our national security portfolio and the potential for expanded margins as the transition to fixed price and outcome-based products and solutions takes hold. Now reaggregating our portfolio and looking across the entire company, we did not see the normalization of the procurement and funding environment that we originally assumed. I am disappointed in our results this quarter and that we are lowering guidance across all key metrics. Simply put, the strength in our national security portfolio cannot offset the current year decline in our civil business. This has led us to reassess our market assumptions and to take bold and significant action immediately. We are well prepared to operate in a highly fluid and dynamic environment for the foreseeable future. There are significant opportunities ahead. For example, in the funding of priorities from the One Big Beautiful Bill, the prioritization of AI adoption across all aspects of the federal government and the increased pace of converting contracts to our outcome-based. But there are also headwinds like the government shutdown, the decrease in the acquisition workforce and the continued reevaluation of civil agency priorities. Booz Allen's goal is to remain focused and nimble in this environment so we can accelerate into the more clear and proven growth vectors in our portfolio, areas where we have clear technology and mission leadership. And to do so, our strategy is threefold. First, we are reducing costs by accelerating the use of AI in our internal operations and simplifying our operating model. We're also making the difficult decision to reduce layers and numbers in our senior ranks. These actions will allow us to continue to invest in our priority growth areas and accelerate decision-making. Matt will describe the impact and timing of this program shortly. Second, we are focusing our investments by doubling down on our strengths. This means flowing investment and talent to a few key areas where we are currently experiencing strong growth and that we believe can be accelerated further. Our primary areas of focus for the near term include cyber, both in the government and commercial markets, artificial intelligence, including growing areas like agentic, physical and adversarial AI, warfighting tech, especially in edge technologies and mission systems, critical national security programs, specifically scaling our work in ongoing missions supporting the war fighter both at home and abroad, tech ecosystem partnerships, including existing partnerships like NVIDIA, AWS and Shield AI, our own venture portfolio and new concepts and ideas with the best companies in Silicon Valley. And of course, continued emphasis on new tech from quantum to AI-native 6G. Booz Allen will lead in the next waves of technology as well. And third, as the administration accelerates the transition to outcome-based contracting and commercial solutions, Booz Allen is leading the way. We are working with our customers to convert existing contracts and procure new work using these models. We are working diligently to productize more of our IP, including our breakthrough ground systems and fire control solutions proposed for Golden Dome. These approaches will provide greater cost savings and certainty for our customers and provide us with margin expansion opportunities as we gain greater flexibility in how we deliver. I believe that these steps taken in combination, will expand our market leadership in key areas, accelerate the implementation of VoLT and importantly, strengthen our financial performance. In short, we are making bold moves in the areas we can control. Every period of adversity has made us stronger, and this one is no exception. We are transforming ourselves at breakneck speed, and I am deeply committed to ensuring Booz Allen is an essential player in driving America's technological superiority. Thus, I remain very optimistic about the future of our company. And with that, Matt, over to you.
Matthew Calderone: Good morning, and thank you for joining us today. As Horacio noted, our business performance remains bifurcated. Our second quarter performance and revised guidance for the full fiscal year reflect this dynamic. In large portions of our business, we have real momentum, and we have a number of reasons for optimism about our medium-term financial performance. Most important, significant portions of our business are growing and are positioned for continued growth. We anticipate that for the full fiscal year, our national security portfolio, inclusive of our defense and intelligence businesses will grow revenue in the mid-single-digit range. We won $7.2 billion of new work in the quarter, including 4 programs of over $800 million in our national security portfolio. We continue to build the technology that our nation needs and are rapidly expanding the network of commercial tech partners with whom we innovate. We have the ability to adjust our cost structure to meet near-term demand patterns, ensure we are cost competitive and create capacity to invest for the future. And finally, our balance sheet remains strong, and we continue to generate significant cash flow. This is a real strategic and financial asset. That said, we clearly experienced more disruption in the first half of our fiscal year than we anticipated, particularly in our civil portfolio. This is due to a number of factors. First, with the amount of change we are seeing in government, procurement cycles are stretching, new initiatives are seeing longer lead times and funding is coming in smaller increments. While the pace of contract funding improved over the course of our second quarter, it still lagged the prior year by 3%. As a result, our funded backlog was down 6% year-over-year. Second, while our civil business has stabilized and we have not experienced any negative contract actions beyond those discussed in the first quarter, there has been a substantial gap in procurements in the broader civilian space. We expect to see pricing pressures on large procurements, including a few notable recompetes. As a result, we now anticipate that our civil business revenue will decline in the low 20% range for the year. Third, as stated previously, our civil business has a proportionately larger share of fixed price contracts and therefore, has historically generated higher profit margins than Booz Allen on the whole. Thus, our overall mix shift away from civil is putting downward pressure on our margins in the near to medium term. And finally, the duration of the government shutdown has introduced an additional layer of friction into the system. We expect this will have a modest negative impact on our revenue and profitability for the full fiscal year. Echoing Horacio's earlier remarks, we previously stated that our FY '26 guidance was predicated on a normalization of the funding environment, particularly in our second quarter. While funding did pick up over the course of the quarter, in fact, September funding was consistent with the year prior, the overall pace of funding was meaningfully slower than in prior years. As a result, our business did not reaccelerate as we had forecast, and we now anticipate that a return to growth in the business overall will require a few quarters. Due to these factors, we have revised our fiscal year 2026 guidance down across all key metrics. In our revised outlook, we assume that current funding and procurement trends persist through fiscal year-end and therefore, that on-contract and new award growth relative to bookings will remain slower than in years past. Make no mistake, this is not the year that Booz Allen wanted to deliver, and we are taking significant actions in response. As Horacio stated, our focus going forward will be on 3 areas: doubling down on areas of our business where we see significant growth potential, working with our customers to convert how the solutions we build are bought in a more commercially oriented outcomes-based approach and restructuring our business to take out a net incremental $150 million of cost on an annualized basis. We have identified where this cost will come from and have already begun to take action. This will provide a modest benefit to our bottom line financial results this fiscal year. The full impact will be felt next fiscal year. We expect that these actions will support our margins returning closer to historical levels in fiscal year 2027, while having a modestly negative impact to revenue on our cost-plus contracts. Critically, these actions will also create room for continued investment in core technology and talent, allow us to be more competitive and increase our speed and agility to match the pace of the market. These are meaningful actions and are taking real effort. Some have long been in the works, some are painful, but necessary in a time of rapid change. Collectively, they support our VoLT strategy and our long-term vision for Booz Allen. And ultimately, they will position Booz Allen for an exciting new wave of growth and to deliver superior value for our shareholders. With that context, let's take a deeper dive into our second quarter results. For the quarter, gross revenue was $2.9 billion, an 8% decline over the prior year period and roughly a 9% decline on a revenue ex-billable basis. Adjusting for the onetime reduction to our provision for claim costs in the second quarter last year, gross revenue was down about 5% year-over-year. Inside of these overall numbers, our market performance was not uniform. Our national security portfolio of defense and intelligence programs continues to grow. For the quarter, this portfolio was up 5% year-over-year, exclusive of the discrete items from the prior fiscal year. And we anticipate this portfolio will grow in mid-single-digit range for the full fiscal year. In contrast, revenue in our civil business was down 22% year-over-year, exclusive of the prior year discrete item. We anticipate that our civil business revenue will decline in the low 20% range for the full fiscal year. Moving to demand. We had a solid sales quarter, both in volume and in quality, particularly in the context of a complex macro environment. Gross bookings totaled $7.2 billion in the quarter, including 4 awards in our national security portfolio with a value of greater than $800 million. These were partially offset by 2 distinct items, one atypical in nature and the other consistent with seasonal patterns. In the quarter, we recorded about $1.1 billion in contract ceiling reductions, the majority of which pertain to fiscal year 2028 and beyond. These stemmed from our engagement with the new administration to identify out-year cost reduction opportunities, particularly as we shift to more outcome-based contracting. We believe this is a nonrecurring event, and it has had minimal impact on our run rate on these contracts. Second, about $1.3 billion of backlog expired during the quarter. This reflects the routine expiration of contract ceilings and is in line with historic Q2 levels. As a result, our net bookings for the second quarter were $4.8 billion. This translated to a quarterly book-to-bill ratio of 1.7x and a trailing 12-month book-to-bill of 1.1x. Excluding the out-year ceiling removal, book-to-bill was slightly greater than 2.0x for the quarter and 1.2x for the trailing 12 months. Total backlog at the end of the quarter reached $40 billion, up 3% year-over-year. Funded backlog grew about 34% sequentially to roughly $5 billion, but was down 6% year-over-year. At the end of the second quarter, our qualified pipeline for the remainder of FY '26 stood at nearly $25 billion. This is roughly on par with the prior 2 fiscal years. In summary, we continue to see solid demand signals in a market that is bifurcated in the short term. We remain confident that as the macro environment stabilizes and we lean into our proven growth vectors, Booz Allen will be well positioned to return to growth. Pivoting now to headcount. Booz Allen ended the first half with roughly 33,000 employees. Our customer-facing staff was down about 3% sequentially in the quarter and is now down 10% year-over-year. These declines largely reflect lingering effects from contract run rate reductions in our civil business as well as deliberate actions to improve utilization of existing staff. We are running the business efficiently. Our customer-facing staff utilization in the second quarter was meaningfully above the prior year period. Operationally, we continue to align our workforce with our key growth vectors, including accelerating hiring in critical mission and technology areas. We continue to hire aggressively in meaningful portions of our business to support new wins and other growth opportunities. I will now turn to profitability. During the second quarter, we delivered $324 million in adjusted EBITDA, down 11% from the prior year period. This translated to an adjusted EBITDA margin of 11.2%, 40 basis points lower than the same period a year ago. Through the first half of the fiscal year, our adjusted EBITDA margin was 10.9%. We expect margins to decline in the second half of the year due to 3 factors: The timing of contract write-ups and award fees, seasonal spending patterns and continued mix shift away from civil. This will be offset to some degree by the part year impact of our cost restructuring actions as well as our shift to outcome-based sales. Moving down the P&L. Second quarter net income was $175 million, down 55% year-over-year. Adjusted net income was $183 million, down 21% versus the prior year. Diluted earnings per share was down 53% year-over-year to $1.42 per share, and adjusted diluted earnings per share decreased 18% year-over-year to $1.49 per share. The year-over-year declines in diluted earnings per share and ADEPS were driven by 4 factors: Lower overall profitability, both an unrealized investment gain and tax planning initiatives that benefited the prior year quarter and higher interest expense. These were partially offset by a reduction in share count compared to the prior year period. Transitioning now to the balance sheet. Our balance sheet remains strong and allows us to be proactive and opportunistic in how we allocate capital to create shareholder value. We ended the second quarter with $816 million of cash on hand, net debt of $3.1 billion and a net leverage ratio of 2.5x adjusted EBITDA for the trailing 12 months. Free cash flow for the quarter was $395 million, the result of $421 million of cash from operations plus $26 million of CapEx. Turning to capital deployment. In the quarter, we deployed a total of $279 million to generate value for shareholders. This included $208 million in share repurchases at an average price of $107.15 per share. We repurchased nearly 2% of outstanding shares in the quarter, $68 million in quarterly dividends and $3 million in strategic investments made through Booz Allen Ventures. Today, we are pleased to announce that our Board of Directors has approved a quarterly dividend of $0.55 per share, which will be payable on December 2 to stockholders of record as of November 14. Our Board has also approved an increase of $500 million to our share repurchase authorization, bringing our available capacity to approximately $880 million as of September 30. Finally, please turn to Slide 7 for our forward outlook. As we have discussed, our original FY '26 guidance is predicated on a normalization of the funding environment. While funding and awards picked up over the course of the quarter, this pace remained meaningfully slower than in prior years. As a result, our top line and bottom line performance for the second quarter was below our forecast, and we are reducing our fiscal year 2026 guidance across all key metrics. We now expect to deliver revenue between $11.3 billion and $11.5 billion. We now expect adjusted EBITDA margins in the mid-10% range. This translates to an adjusted EBITDA dollar range of between $1.19 billion and $1.22 billion. We now expect ADEPS of between $5.45 and $5.65 per share. Lastly, we expect free cash flow to be between $850 million and $950 million. As we forecast our growth cadence for the second half, we now assume that current funding trends will persist through fiscal year-end, and therefore, that on-contract and new award growth relative to bookings will remain slower than in years past. Also, at the midpoint, our revised guidance range incorporates the loss of approximately $30 million in revenue and $15 million in profit related to the government shutdown. These estimates assume the shutdown extends through October 31. Although not contemplated in our guidance, if the shutdown does continue for the month of November, we estimate the impact will be roughly within the same range, assuming no material changes in government scope or Booz Allen policy. So to sum up, our market remains bifurcated, and funding levels have not normalized as we had hoped. We are disappointed in our results this quarter and that we are lowering guidance across the board. We are winning significant new programs, particularly in our national security portfolio, where we are pleased with our growth trajectory. We are taking significant actions immediately to adjust our cost structure and prepare us to reaccelerate growth and profitability. We are doubling down on the key growth vectors where we have real traction in the near term, primarily our differentiated positions in cyber, artificial intelligence, war fighter tech and critical national security programs. Our focus is on positioning Booz Allen to accelerate performance into next fiscal year and beyond, and we are confident that we will be able to do so. Operator, please open the line for questions.
Operator: [Operator Instructions] And it comes from the line of Louie DiPalma with William Blair.
Louie Dipalma: Given the shutdown and your high exposure to the federal civilian agencies, many investors were anticipating a guidance reduction. Horacio and Matt, you both used the term bifurcation several times. And you also mentioned how funding in the month of September was actually consistent with last year's September. I'm drilling into that, are you receiving signs and indications that the funding environment for the defense and intel business is actually improving and getting back to normal? Or is this funding environment expected to be strained for your defense and intel business even after the government restarts and the shutdown?
Horacio Rozanski: Louie, why don't I start? Thank you for the question. I think the notion of bifurcation is an important one as we look at the business, as we understand the business, I hope you will understand it as well. As I said in the prepared remarks, we see our civil business operating in the most challenging market in a generation. To give you a sense of what Matt described as a gap in funding, we saw essentially every procurement slide to the right in lockstep. And that's not something I have ever seen before. And as we look forward, we're not trying to predict the future as much as react and anticipate what's right in front of us. And so that's how we're thinking about it. By contrast, in our national security business, it's a much stronger environment. There's still friction though. The government shutdown certainly backs things up. If we end up in a continuing resolution environment, how the CR is written will have an impact on this. But as we think about it, we had these very significant wins. We're very happy to share with you this morning about we are not anticipating a very fast ramp-up on those wins. We're anticipating the ramp-up on those, in fact, to be below historical levels. It will ramp up, but simply more slowly. And I think that's -- everything that we are talking to you about this morning is predicated on the notion that there's -- that this friction is going to continue, not impede our growth, but continue. Now having said that, I think the key for us, as we're trying to describe this morning, is to stay very nimble and to stay very focused. Staying nimble means not trying to predict long term, but really trying to anticipate the short and medium term and react as quickly as we can. Part of the cost actions that Matt described to you are a part of that in both to secure our financials and give us more capacity to both invest and react to pricing more nimbly, but also to streamline our operating model so we can make decisions faster and move faster. And the second part is to be very focused. I am personally very excited about what I'm seeing in our cyber business, both in government and commercial. Our AI capabilities are in greater and greater demand. I think you saw and hopefully we were impressed by the Warfighting Tech Day that we hosted last week, which is really becoming a crown jewel in our portfolio, some of these critical national security contracts where we support such important missions and do such great work there. And then the partnerships with the tech ecosystem, which are really both giving us access to new opportunities that are more commercially focused and enhancing our go-to-market and our capabilities because we can move faster when we build on top of their tech. So when we take it all, obviously, we're not pleased with the results or the near-term guidance lowering, but that's how we see the environment.
Louie Dipalma: And for the rest of the year for the civilian guidance of, I think, negative 21%. What is assumed here -- what is assumed there in terms of the government shutdown and further cuts to existing programs? Are you assuming that other programs are throttled? Or what is baked in the assumptions? Because investors are -- they want to know whether there's going to be another cut to the federal civilian business and if this is going to be in a perpetual cycle. So what gives you confidence that this is the last guidance reduction for the federal civilian business?
Matthew Calderone: Yes, Louie, I'll start, and then Kristine may want to provide some color as to what's happening in the civil business. As we said in the prepared remarks, we didn't actually see any actions positive or negative in civil last quarter. So we didn't see any additional cuts. We also didn't see any plus-ups or new awards or new procurements and what have you. So if you look at our civil portfolio, outside of a number of large programs that we've talked about, that portfolio is going to be essentially flat, both at the top and the bottom for the year, again, which just sort of indicates sort of the state of where we are in many of those agencies. But those large programs matter, and that's why we're guiding down to -- in the low 20% range at the top. So we aren't anticipating any further cuts. We are anticipating a very competitive procurement environment, with some pricing pressure, particularly on the large program side. We also are having great conversations with folks in the administration about some of our key priorities. So we've used the word stabilized in civil, and that's what it feels like, but stabilized after a fairly significant run rate on our pretty large programs in an environment where things just aren't moving very quickly. But Kristine, I'm sure you want to chime in there.
Kristine Anderson: Yes, thanks, Matt. Yes, the business is stable, as Matt said. The environment itself still continues to be very slow with very few new large bids and not much ramp-up in funding. But I think that reflects the administration's rethinking how they want to prosecute some of those missions. And the work that we do in civil is impressive technically, and it is aligned to the administrative priorities. For example, we have one of the largest agentic AI software implementations in the world, and it's in civil, and we're leading in agentic AI. And we do expect work to grow there again. And we are having lots of productive conversations with the administration leaders on some new approaches to the core missions where we're bringing commercial solutions and combining it with our IP and IC, their outcome-based commercial offerings that we're talking through. But again, it's just hard to predict exactly when those will launch. And so as Matt said, we're just assuming the status where we are now continues through the rest of the year, but we do see growth over the medium term.
Louie Dipalma: Thanks, Kristine. So was there stabilization in the civil business from the -- in the September quarter relative to the June quarter?
Kristine Anderson: I would say yes. Yes, it's been pretty steady since the reductions that we had a while back in the year.
Matthew Calderone: Yes. But stable, it means we didn't -- again, we...
Kristine Anderson: Yes.
Matthew Calderone: There were no new decrements, but we also didn't see some of the on-contract growth and plus-ups and typical velocity of tactical selling in Q2 that we'd anticipated.
Horacio Rozanski: Yes. Louie, when we talk about bifurcation, another way to think about it is there's upside and downside in -- across all of our business, there always is. I would say as we sit here right now, maybe a little more downside potential in the civil business, a little more upside potential in the national security business. But as I said before, I mean, things change very quickly. And we could -- what we're trying to do is, like I said, it's flow resources, flow investment to where we see the opportunities and not be married to a particular outlook, but rather just ensure that when there is an opportunity to grow, we double down on it.
Operator: Our next question comes from the line of Sheila Kahyaoglu with Jefferies.
Sheila Kahyaoglu: Maybe 2 questions. The first one, a bit shorter term and bigger picture for this next one. So first, I guess, I think you guys have previously talked about the civil portfolio being 13% margins or so, which implies defense and intel is in the 8% to 10% range. Is that still the right way to think about the profitability profile of the customers?
Matthew Calderone: Yes, that's in range, Sheila. We never quantified it that way, but we've talked about how civil has a significantly higher proportion of fixed price contracts. So that's roughly in range.
Sheila Kahyaoglu: Okay. Got it. And then maybe a bigger picture question, Horacio, for you. How do we think about the business model for Booz longer term, just given pendulums clearly shift and maybe 3 years from now, it will shift back where we're scrubbing our models for national security exposure and saying civil will grow again double digits. So how do you think about aligning the sales force and the workforce and your management team as you restructure the business a bit?
Horacio Rozanski: One of the hallmarks of our operating model is the notion that we operate in a single P&L, and that gives us the ability to respond to the market across any arbitrary lines really fast. We always have. We -- every time, as you point out, an administration transitions, they refocus their priorities. As I said before, this is perhaps one of the most significant or the most significant refocusing that I've seen. But we're going to continue to make sure that we are taking advantage of our broad footprint to go where the opportunities are. The other piece of it is I do believe that because of the way technology has evolved more broadly, this idea of injecting commercial technology into missions, moving to outcome-based as opposed to input-based models and those big trends are going to continue well into the future. They were somewhat underway before. I think there's an accelerant right now as the Trump administration doubles down on a lot of this. But I don't see us going back. And so that's why we've invested so much time, so much effort and resources on building partnerships from the very largest tech companies to small start-ups with promising technology and everything in between. I think -- our position in this tech ecosystem I think gives us a long-term edge that we're just beginning to see realize, just beginning to exploit. There's a couple of opportunities right here right now that we are chasing, one in civil and a couple of national security that would be impossible without the strong partnership that we have with some of these companies. And the more people see Booz Allen as somebody who builds tech, but also leverages tech that others build to create the right answer, I think the more power we're going to have in the market.
Operator: One moment for our next question. It comes from the line of Colin Canfield with Cantor Fitzgerald.
Colin Canfield: So it sounds like the civil reduction, Matt, suggests there may be a little bit of downside in terms of the cost-plus nature of the business. So as we do the building blocks on '27, if we assume civil is down another, call it, 10%, and defense and intelligence is accelerating to, call it, mid-single digit. We think the building blocks probably suggest something like 0% to 2% organic that should notionally accelerate in '28 off of that base. So a, does that math make sense at a high level? B, fundamentally, can you grow next year? And then, c, if not, when do you expect this business to return to growth?
Matthew Calderone: Yes. Thanks, Colin. Look, I think a couple of things. One, as we talked about, we have a lot of momentum in our national security portfolio. Two, the civil business is stable, right? And unfortunately, we saw a significant decline in the first half of this year. But obviously, our comps will get proportionately easier given where we are. I'm not going to get into next year. We've got a lot of medium-term optimism. There's some significant building blocks. As Horacio said, the nature of this market is such where things are happening fast, and we've got some exciting opportunities in the fire. So I would not necessarily straight line the math exactly how you did, Colin, but I'm sure we're having this conversation over the next couple of quarters.
Horacio Rozanski: Yes. The only thing I would add to that is as we describe the growth vectors that we're talking to you about, clearly, the national security market is more robust. And so we'll see those growth vectors play more strongly there. But the number of things we're talking about around cyber, around AI, around some of the tech that we're developing that is highly applicable to border security, to large event security to the upcoming World Cup and so forth, we are looking for opportunities to leverage and grow in the parts of our civil business that are most aligned with the administration's priorities. And we're -- we will continue to do that pretty aggressively.
Matthew Calderone: Colin, if I could just jump back in here. Two other thoughts for you. One is we are seeing an increasing pace of contract conversion to outcomes-based. While small, the portion of our national security portfolio is fixed price did increase quarter-over-quarter, and that's certainly the direction of travel. And in part because of that, but also other dynamics, I do think going forward, our growth will be not as linearly connected to headcount growth for a handful of reasons. If I can just give you a couple, the vast majority of our FTE loss this year was in civil, and that's where we have more of our fixed price contracts, and that revenue is not as "headcount" dependent. Second, we're driving up utilization. And then third, the mix shift that I just described. So I understand we've had a fairly stable business model, and that's relatively easy to model for you externally. Those dynamics are changing, consistent with the kind of pace of change that Horacio was talking about, and we'll continue to engage with you over the coming quarters.
Colin Canfield: Got it. So margin troughs this year, it gets better over time and then growth is [ TBD ] is kind of my takeaway. Appreciating that the business isn't managed on a quarter-to-quarter basis, but just putting an investor's hat on for a bit, as we think about the next quarter, what would you fundamentally tell an investor that wanted to go short again next quarter? And then kind of why were the reasons would you expect that to be a bad idea?
Matthew Calderone: I'm not in the business of giving investment advice, Colin.
Operator: Our next question is from Mariana Perez Mora with Bank of America.
Mariana Perez Mora: When you guys think about the new guidance, I'd appreciate some color around how much is already in backlog, how much you have to go and win and is still depending on some contracts that could be delayed? Could you give us some kind of measure of how strong is that backlog coverage and also the pipeline? And if you have any amount of how that pipeline compares to a year ago or something?
Matthew Calderone: Yes, Maria, I think we're in the main anticipating that the current sort of burn rates and trends largely persist that headcount remains essentially flat, obviously, absent the cost reduction initiative that we described. And it's not really based on any significant new wins, but that does require some uncontract growth, new wins to ramp up and a handful of other factors. So we've -- in this current guidance, attempted -- there's not any material things that need to happen for us to land in this range, but it is a volatile situation.
Mariana Perez Mora: And you mentioned on-contract growth. How is your conversation with your customers right now about like certainty about like them meeting that kind of growth or still like there is a lot of uncertainty on -- if that's going to happen or where it's going to trend?
Horacio Rozanski: I'll start, and I'm sure my colleagues are going to want to add. But we're having very productive conversations, especially on the national security side and especially in these growth vector areas that I'm talking about. So if you take cyber, for example, we expect Thunderdome as an example, to continue to grow. Thunderdome has become really both a standard and a product that everybody wants, and we expect to see some level of growth there. A number of other areas in the national security space are -- we are seeing significant pickup. As Matt pointed out, we have not made any heroic assumptions about that happening in the back half of the year in recognition of the fact that our -- there is friction in the environment that we're still in the middle of a shutdown and all of that, and we've tried to incorporate that into the way that we're thinking on the one hand. On the other hand, we are as aggressive as we've ever been in terms of trying to accelerate past that. So that's sort of the thought process right now.
Kristine Anderson: I would add the administration really wants to push speed in some areas. So those conversations are extremely productive. And so that continues as well.
Mariana Perez Mora: So you mentioned cyber and the expectations were for that portfolio to actually grow like at speed. How large is that right now? And what do you expect for that portfolio? Again, like the near term has been volatile, but in the next 2 to 3 years?
Horacio Rozanski: I am as bullish about our cyber business as I've ever been for a couple of reasons. First of all, we do occupy a unique position in cyber in the national security space that is both well recognized internally in the government and it's a real strength of ours. Second, I always talk about convergence. If you think about what's happening in terms of AI and Agentic and how it affects cyber, 3 ways, just to name a couple, right? I mean the attack surface has grown because the AI models themselves have grown are now becoming in their own attack surface. Second, adversaries are using cyber much more effectively by leveraging AI into it. And therefore, defense needs to move in that direction. And third, we are seeing across the board interest in us bringing these capabilities, including in our commercial customers that are both under siege by a number of cyber actors and see us and what we do as being a key player in helping them move past that. So I think, unfortunately, cyber risks are everywhere, cyber risks continue to grow. And Booz Allen, I believe, has, in essence, the most powerful -- one of the most powerful cyber businesses in the world.
Operator: Our next question comes from Gavin Parsons with UBS.
Gavin Parsons: I just wanted to unpack the disconnect between awards and funding a little further, if we could. Is total backlog still a good leading indicator of demand and growth?
Matthew Calderone: Yes, long term, but I think, obviously, short-term funded backlog matters, right? And our funded backlog -- our funding was down in Q1, 9% year-over-year, in Q2, 3% year-over-year, which nets out to 6% for the first half. So I think it shows the direction of travel. The funding environment has improved, but in no way normalized over the first half. Now there's a lot of noise in there, particularly in the current environment. As Kristine said, we're seeing shorter -- funding come in shorter increments. It's a little more episodic. So it's not as linear relationship as it used to be. But obviously, 4 new -- 4 awards of scale, that's going to drive growth. I think one is a pure recompete, one was a recompete with increased ceiling, one was a new award and one was a takeaway. So again, we are less comfortable that it's going to ramp as quickly as we've seen in the past, and we built that into our guidance, but backlog absolutely matters.
Operator: And our last question comes from the line of Tobey Sommer with Truist.
Tobey Sommer: Could you discuss your process for determining how much growth investment to allocate and how you balance that against where you were targeting near-term profitability and headcount cuts. That's sort of a tight rope and there's tension there. And maybe you could discuss how you arrived at your decisions?
Horacio Rozanski: I guess I'll start. Look, I mean, as somebody pointed out earlier, we do not manage this company for the quarter. We manage the company for the medium and long term. And we are making the investments that we believe are both prudent in terms of long -- short-term profitability, but important and exciting in terms of long-term growth at both the top and the bottom line. And look, that's always been the case. It is the case now. We're undertaking a difficult decision of doing some significant cost reduction in some ways to ensure that we can both deliver in the short term, really more focused on our FY '27 given where we are in the year, but also so that we have the capacity to stay nimble and invest in the areas where we see the most opportunity. And I think that, that is what's exciting about Booz Allen. I mean I can talk to you about things that are growing now. I can talk to you about things that are -- we believe have significant growth potential in the short term, and I can talk to you about the things we are doing like quantum and like AI-based 6G that I believe will fuel growth in sort of in the third horizon. And so that needs to continue, while at the same time, recognizing that we have work to do in order to drive the short-term financials to where we want them to be.
Matthew Calderone: If I add to that. I mean, we're in an interesting spot because obviously, we're disappointed with our performance and our guidance. And as I look inside of our portfolio, there are actually more demand and more opportunities to invest to drive medium- to long-term growth than I remember in a long time because as Kristine and Horacio said, it's an incredibly dynamic environment. This administration wants to change. We're seeing significant opportunities, not just in U.S. government, but even in commercial and with some of our allies. And so part of the internal dialogue and part of the reason we're taking these painful actions to free up $150 million worth of cost is precisely because we see these investment opportunities. So we're prioritizing the growth vectors that we've all described. But there's real opportunity here, and that's, in many ways, more of a driver of us taking these cost actions than hitting a short-term set of financial results.
Tobey Sommer: If I could ask another question on civil. Amid a once-in-a-generation change to the top line and demand, do you assume that the margin holds because it's relatively unusual for significant sort of TAM changes not to be accompanied by margin compression?
Kristine Anderson: Yes, that's a great question. I mean, overall, yes, but there is competition for price that we're expecting because there'll be fewer bids, there will be more bidders, there'll be much more aggressive pricing. But that's at the same time that we are able to use a lot more technology to innovate how we deliver, which would still preserve margin.
Operator: And this concludes our Q&A session for today. I will pass the call back to Horacio Rozanski for concluding comments.
Horacio Rozanski: Thank you, everyone, for joining us today. I hope this discussion gave you a deeper understanding of the factors that underlie our performance, how we see the market, how quickly we are responding and our reasons for optimism about the future of Booz Allen, which include both our leading position in advanced technologies, but how we apply them to critical missions in a way that we build things at work, our agility, our willingness to move fast and our capacity to invest and accelerate our growth vectors and really most importantly, the people of Booz Allen and the quality of our team, which continues to be extraordinary and it's a source of optimism for all of us. And so together, we are moving forward, and we want to accelerate both our mission impact and our financial performance, and we are focused on doing so. Thank you again, and have a great day.
Operator: And thank you. And this concludes our conference. Thank you for participating, and you may now disconnect.
