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Kratos Downplays Sequestration's Threat to Core Milspace Business

PARIS — Satellite command and control systems provider Kratos Defense & Security Solutions on March 12 said its products are embedded so deeply into the U.S. Defense Department's core programs that the company will be able to ride out the current budget upheavals.

San Diego, Calif.-based Kratos, whose satellite communications portfolio grew substantially following the July 2011 purchase of Integral Systems, nonetheless said Integral's revenue is likely to dip in 2013 as a result of highly competitive Defense Department competitions that have forced Kratos to bid at lower-than-expected prices.

Kratos in December won a $17.5 million contract with the U.S. Air Force to provide command and control for the Air Force's four flagship military satellite communications programs — the Defense Satellite Communications System, Milstar, Wideband Global Satcom and Advanced EHF. The contract is valued at up to $133 million over six years if options are exercised.

In a conference call with investors, Kratos Chief Executive Eric M. DeMarco said Kratos won the competition on technical merit despite the fact that it faced a lower-cost competitor.

“There was one bidder against us and he bid low, low, low,” DeMarco said. The result was that Kratos had to lower its own price, which will affect Integral's revenue in 2013. “That is going down a tad this year because of how we had to bid,” he said of the U.S. Air Force contract.

DeMarco said that despite the threats inherent in sequestration — mandatory, across-the-board cuts to government spending — it is likely that U.S. military commanders will be given leeway in how they apportion the cuts.

If that turns out to be the case, he said, Kratos' business with the Pentagon should not be overly affected, especially as the military shifts its focus from Afghanistan and Iraq to the Pacific Ocean region.

“Significant money is coming out of fighting asymmetric warfare,” DeMarco said. “The money is being shifted right now to strategic platforms and strategic satellite communications — ISR satellites that are geos,” meaning intelligence, surveillance and reconnaissance spacecraft in geostationary orbit. “These are not tactical satellites.

“There is a significant amount of funding going into these areas because of the pivot to the Pacific. We have R&D going into the strategic satcom area,” he said, as well as in aerial unmanned vehicles that became a Kratos focus following its July 2012 acquisition of Composite Engineering Inc. “As we all know, our government has put billions of dollars into the electromagnetic spectrum, into communications. Protecting that electromagnetically, and attacking the other guy through electromagnetics — these are areas where we’re putting R&D.”

DeMarco said Kratos has been reducing the services component of its product portfolio in part because of the evolution of U.S. military procurement where former five- or 10-year program commitments now are sliced as far down as to be one-month commitments and 59 one-month options.

Instead, Kratos will focus on products that include geo-location of sources of satellite interference, signal monitoring and interference detection in addition to command and control. The U.S. military has been decreasing in importance for Kratos, but it still was the source of 65 percent of the company’s 2012 revenue, with other U.S. government agencies accounting for another 5 percent of revenue.

Commercial and international customers accounted for most of the rest. With its main Defense Department programs firmly among the military's programs of record, and not funded as part of the Overseas Contingency Operations budget, DeMarco said Kratos should emerge relatively unscathed from the budget battles to come.

“I don't think it's practical to shut down a satellite, or deorbit a satellite, or reorbit it or put it on furlough to save money,” DeMarco said. “Especially since if you do that, you now have a hole in your communications or ISR or missile defense constellation. I believe those are going to be funded because the cost-benefit analysis is incredibly negative on something like that.”

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