Good morning ladies and gentlemen and welcome to the Jacobs Solutions Second Quarter 2023 Earnings Call and Webcast. [Operator Instructions] Please be advised that this call is being recorded. [Operator Instructions] And now at this time, I will turn things over to Mr. Jonathan Evans, Vice President of Corporate Development and Investor Relations. Please go ahead, Mr. Evans.

Thank you. Good morning. Our earnings announcement and 10-Q were filed this morning and we have posted a slide presentation on our website which we'll reference during the call. In addition, this morning, we published a release announcing our intent to create 2 independent companies with the separation of our Critical Mission Solutions business. I would like to refer you to Slide 2 of the presentation material for information about our forward-looking statements and non-GAAP financial measures. Turning to the agenda. Speaking on today's call will be Jacobs CEO, Bob Pragada; and CFO, Kevin Berryman. We are also joined by our incoming CFO, Claudia Jaramillo. Bob will begin by providing an overview of today's portfolio announcement, then summarizing highlights from our second quarter results. Kevin will provide a more in-depth discussion of our financial metrics as well as a review of our balance sheet and cash flow. Finally, Bob will provide details on our updated outlook along with closing remarks. And then we'll open up the call for questions. With that, I'll turn it over to Bob.

Thank you, Jonathan and thank all of you for joining us today to discuss our second quarter fiscal year 2023 business performance. Jacobs has a story of 75-year history of delivering value for our clients, employees and shareholders. We have consistently strived to improve our company through a purposeful strategy of transforming our portfolio to capture higher value opportunities in our core and adjacent markets. Turning to Slide 4. Today's announcement marks a key inflection point as we progress on our journey of continuous improvement and value creation. This morning, Jacobs announced our intent to separate our Critical Mission Solutions business through a spin-off. The decision to separate CMS is a result of a comprehensive review and evaluation to identify opportunities that streamline our portfolio and maximize strategic focus and potential growth opportunities for both future companies. We will sharpen both companies focus on their distinct strategies and operational initiatives that are most relevant to the specific industries in which they operate. Each company will have a tailored capital allocation and structure that is directed towards their respective growth strategies as well as a strength and ability to attract and retain top talent. Moving forward, in addition to our industry-leading position in core sectors, Jacobs will be a higher growth, higher margin, technology-enabled solutions provider continuing to address the world's most complex critical infrastructure and sustainability challenges. Jacobs’s core skill sets in technical and consulting services, coupled with data science and technology-enabled expertise will continue to differentiate us from our peers and allow us to provide end-to-end solutions to our global clients. Our streamlined portfolio will include leading positions in critical infrastructure such as water and environment, energy transition, transportation and the advanced manufacturing sectors. Once the separation is complete, we can focus our attention on building additional capabilities and…

Thank you, Bob and good day to everyone. Turning to Slide 10 for a financial overview of our second quarter results. Second quarter gross revenue grew 6% year-over-year and net revenue grew 5%. Net revenue grew 8% year-over-year on a constant currency basis, a continuation of healthy growth against a tough 10% year ago comparison. Adjusted gross margin in the quarter as a percentage of net revenue was 26% sequentially in line with the first quarter but down year-over-year. I will provide additional comments regarding our segments later in my remarks. Adjusted G&A as a percentage of net revenue was 15.6%, approximately flat sequentially but down 90 basis points year-over-year, more than offsetting the lower gross margin percentage versus last year. While we felt the impacts from inflationary pressure, costs were managed well overall to a disciplined cost management. We are still targeting G&A as a percentage of net revenue to stay below 16% for the full fiscal year 2023. GAAP operating profit was $290 million for the quarter and included $50 million of amortization from acquired intangibles, a $10 million noncash charge related to decrease in our real estate footprint aligned to our future work strategy and other acquisition deal-related costs and restructuring efforts of $8 million. These deal-related costs are largely incentive compensation that was considered part of total consideration and PA noncash contingent equity-based agreements associated with the PA transaction structure. Excluding these items, adjusted operating profit was $356 million, up 7% year-over-year. On a constant currency basis, adjusted operating profit was up 11% year-over-year. We remain committed to reducing our restructuring-related costs. Consistent with our previous comments, we expect approximately $15 million of restructuring charges for fiscal year 2023. We also expect a total $50 million to $55 million in noncash real estate impairment charges over…

Thank you, Kevin. Turning to Slide 13. Due to our continued momentum across our business, we feel confident in our ability to reach our previously stated objectives and narrow our outlook for FY '23 adjusted EBITDA to a range of $1.42 billion to $1.47 billion and adjusted EPS to $7.25 to $7.45. Finally, with today's announcement, we are reinforcing our continuous commitment to take proactive actions to create greater shareholder value as well as strategic and value-creating benefits for both future companies and their respective stakeholders. Operator, we will now open the call for questions.

[Operator Instructions] We'll take our first question this morning from Jamie Cook of Credit Suisse.

Congratulations on a nice quarter. I guess my first question, just sort of related to the spin. Can you just sort of help us talk through your decision to spin versus sell the asset and/or any sort of dissynergies associated with spinning the CMS business? And then I have a follow-up question after that.

Okay. So maybe I'll start off and then Kevin, I'll turn it over to you. With regards to the second part first, Jamie, we do not see dissynergies with the spin. On the spin, specifically, we were looking for the most optimal tax-free benefit for our shareholders as well as our confidence in the business that it has the credibility and the horsepower to operate successfully as an independent entity. So those were kind of the drivers we're looking to obviously maximize shareholder value. Kevin, anything you want to add?

Yes. Look, I think we've evaluated all alternatives. And at the end of the day, given the facts and circumstances that Bob has highlighted, we're excited about the announcement of the spin. But as circumstances change or anything comes to light, we would certainly have to consider that because we are interested in maximizing shareholder value.

And then I guess just my other just sort of now that we're sort of splitting the businesses, is there any way you could sort of frame how you think about longer-term or medium-term organic growth or margin targets associated with the different businesses as they sit today?

Yes. Maybe I'll answer the first part and then you talk about margin targets, Kevin. So as far as our growth expectations for the business, they're very strong and in line with what we articulated in our '22 strategy for the segment reporting. So we feel that pipeline as well as the opportunities in front of us with the platform that we have, looks very, very bright for the RemainCo post spin. Kevin, you want to add anything?

Yes. Look, as we talked in the prepared remarks, as we look at the 2 businesses and we talk about 2022 kind of pro forma, if we had done something, we had a 12% margin for the People & Places business, operating profit margin and about 8% for CMS. We think that our spend will ultimately allow the 2 incremental individual companies to focus on their respective opportunities and in a manner that allows for, if anything, an acceleration in growth. I do would like to say that in the event that the spin is able to be executed, we are -- we do realize that there will be some incremental CMS public company costs that would have to be incurred but we will think we'll be able to offset and then some with our opportunities to streamline our 2 organizations.

We go next now to Andy Kaplowitz at Citi.

Congrats on the announcement. So backlog continues to rise in P&PS. Obviously, there are some cross currents given concerns around private spend but state and local governments, I think, continue to spend -- you've talked about funding ramping from the fiscal bill. So do you see backlog growth continuing there sequentially over time? And can you sustain that 10% year-over-year constant currency growth that you have in the segment?

Let me answer the backlog growth. Right now, the way our pipeline is lining up, Andy, the answer is yes. We do see consistent opportunity to increase our backlog and grow the business. Part of the 10% constant currency growth on the top line, I think that's going to be dependent on the phasing of the jobs, how these jobs come out, especially on the infrastructure side as well as in our private sector business those early phases of the job tend to be more study and higher-end consulting work. And then as we move through subset phases, kind of where the larger the revenue opportunities are. So I wouldn't want to go and say that that's going to be a consistent quarterly topic but definitely a target if you were to aggregate over a period of time.

And maybe a similar question with CMS. You've got did get a backlog uplift from Kennedy? And I think you mentioned that the pipeline is up double digits. But how are you thinking about backlog and CMS moving forward? What is the risk that that's going to be, could slow down bookings a bit for a couple of quarters?

Actually, we see the backlog potential in CMS being strong. The pipeline of work that we have and not just the rebid but the new work that's coming down the pike they provide some real opportunity for us to continue that backlog growth. So we feel confident about that.

We go next now to Michael Dudas at Vertical Research Partners.

So with regard to the spin and is there any of the businesses in CMS, I guess you highlighted 5G maybe staying with the business, the automotive side? Anything from CMS that may stay with Jacobs and maybe vice versa, given some of the demand for security and issues that have been leveraged from CMS to your customer based on the PP&S side.

Yes, Michael, just to clarify 1 point. We didn't -- actually 5G and automotive are a part of the CMS segment and that's actually what we were reporting today. So I just want to clarify that point. I would say as far as what stays, what goes, we're early in that process. And so to be direct and to provide clarity, it is the CMS segment today.

Got it. But there's -- you're still debating where the things could adjust between now and let me set things of current? Is that what I understand?

No, we're not. We're not. And so I just want to provide clarity on that.

Got it. Terrific. Second question is you've -- it seems like again, the last couple of quarters, your new projects and new contracts in the backlog have come in at better margin rates than prior I assume you anticipate that going forward in both -- in all the segments? And how do you see the execution of getting that margin from the backlog to the bottom line? Is that something that we can see more acceleration as we maybe track into fiscal year 2024?

Yes. So on the margins themselves, I mean, I think clearly, it's been a part of our strategy for not just '22 but '19 as well. We are in -- we continue to going up the value chain for our clients. And as we do that and we're getting more into the higher-end consultancy work, we're seeing the incremental effect on our booked margin as far as how that's dropping into the bottom line, I think 2 parts, Michael, that you're highlighting. One is that kind of excellence in project delivery which has been a part of our DNA for decades, that continues to be high on our list on delivering not only to our clients' expectation but within our financial expectation as we're booking these shops. As far as the last part of your question on the timing of that dropping to the bottom line. We're seeing a nice pace in the marketplace. And this kind of goes to all segments of our business. After a period of time, I think, in the beginning of Q1 and maybe in the back half of last year, that was having an effect on our top line and some of our actuals to forecast, that is reconciled back and hence, the performance this quarter. And so all indications that we're getting from our clients is that's going to continue.

We'll go next now to Sean Eastman of KeyBanc Capital Markets.

First 1 is kind of high level. Just rewinding to the Strategy Day from last year, we kind of got a vibe from that update that you guys were kind of embarking on a deeper integration of the business units with the Divergent Solutions segment kind of being a bridge. And today, we're kind of talking about a more exciting outlook as separate entities. So I'm just curious what changed there. I hope that's a fair question.

Yes, Sean, we're constantly looking at our portfolio and doing an evaluation on how we're executing externally with our clients and the effect that, that is having on advancing our strategy. So is it -- to reflect back on what we -- where we were before. I don't think we're doing anything that's different from what we articulated in our strategy. And so we feel confident in the decision that we made today.

Okay. Understood. And then relative to the Divergent Solutions dynamic between investing in growth and kind of releasing margins. Any update post the review you guys did on how you're balancing those 2 things?

Well, look, I think that we are continuing to invest in what we think is a great opportunity to enable divergent actually People & Places and PA to benefit from some of the overall investments being made in digital data capabilities for the total Jacobs. And so those investments continue because we believe there is strong rationale for a very large return relative to that. So we're not making any choices relative to those investments. We continue to make them and we're confident in the ability that the scale is growing as it did in the quarter and how we've communicated a sequential growth in terms of the top line which will translate into a growth leverage factor that translates into margin improvement. As we highlighted in our pared remarks. Nothing has changed. We feel good about that. We see visibility forward to be able to do that. So investments continue. And our growth is going to allow for us to get to the margin profile that we've communicated.

We'll go next now to Bert Subin at Stifel.

So your updated earnings guidance range are things to contemplate maybe a slight up -- maybe a slightly more tempered growth path in the second half of this fiscal year. Can you just walk us through what you see as the potential positive drivers that could get you a little closer to the high end of $7.45 EPS? And then maybe highlight where your visibility is a little bit weaker.

Kevin, why don't you start off from a market standpoint, I'll talk after that.

Yes. Look, clearly, as we look going forward, I think there's a couple of things to highlight. Certainly, we've got inflationary pressure on the medical cost. And ultimately, we're going to be able to pass that along to our clients. But in the short term, certainly, we're seeing some pressure in that. We saw it in the first quarter. First quarter is, as you know, the last year of our medical plan. So we wanted to get a better read on our second quarter which now is in the next plan year. We continue to see that occurring in Q2. So we're projecting that, that's going to continue through the full year. So assuming that, that didn't happen, that obviously would be a positive. But right now, that's what our expectations are. Our interest rates obviously are higher year-over-year. And we think we're at hopefully, the top end of kind of what the interest rate scenarios are going to look like and that, if anything, we're going to be able to trend down. If that happens, we're not counting on it but certainly, that would allow for us to be able to have some incremental performance in our EPS figures as well. I think the underlying business is actually quite strong. And so absent some of these dynamics, I think putting it into context, we don't really see a situation where our business is slowing.

Well said. Not going to add any comment.

Okay, great. And maybe just a follow-up to the CMS spin announcement, now that you're doing that portfolio rationalization. How should we think about capital allocation maybe over the next 4 quarters does the transaction not taking place for another year to maybe more of a conservative view towards M&A and buybacks? Or do you go full steam ahead here now that you have the plan underway.

Kevin?

So look, I think that, clearly, we have in front of us, a lot of execution that is really imperative for us to do well against. Whether that be on our business or it be the actual execution of the spin of CMS. So that is clearly job number 1. Number 2 is, because of that, certainly, I think there is a relatively high bar right now from a financial people, gross margin perspective as it relates to actually deploying additional capital in the M&A. Never say never but we think the bar is pretty high at this particular moment. So having said all of that, there certainly is opportunities to invest back in our shares as appropriate. And I think that you might want to think about that potentially happening over the course of the next several months.

Yes. Just wanted to add -- we really like what we got.

We'll go next now to Steven Fisher of UBS.

How should we think about the second half '24 timing for the spin? I think that's within the normal range for these types of transactions. But still seems like it's a bit long dated. Is there any potential to accelerate that if it stays a spin? And what are the factors there? Just curious if the debt ceiling discussions and continuing resolutions and federal budget. Is that all a factor? Or is it more just the internal process?

No. Look, it is certainly a process, both internal but also external. So as you may be aware, the process of putting in place a structure and an organization that facilitates an ability on day 1 to execute and manage a publicly traded company is not inconsequential. And so we're not going to rush that process. And I think 12 to 18 months is actually a fairly aggressive stance in some respects. So I don't think we're going to be able -- if, in fact, it continues to be oriented around the spend to do much better than that. But occurs, we'll do whatever we can to accelerate for sure.

Okay. And then P&PS is going to really be the biggest contributor to profits post spin. So there's going to be a lot of focus on that and particularly the margin. So just looking at the sequential margins this quarter were down in P&PS but up 150 basis points year-over-year. It sounds like you think we should focus on the year-over-year there. But I'm curious about how we should think about mix within P&PS and how might that affect margins on a quarter-to-quarter basis?

Yes, Steve, a couple of things. One is that we were pretty clear last quarter that on the quarter-to-quarter or at least Q1, that had some project incentive releases that were onetime. As far -- so another way of saying we need to really take a look at the year-over-year comparisons. And then the -- for all of us to be aware that we put margin targets out at our Strategy Day. And just to do kind of a midterm report on that, we are actually a year ahead of where we said we were going to be on our margin profile. So that's a -- look at it over the period of time, so I hope that clarifies that.

So 1 thing, just to crystallize and make sure that you caught it correctly. Our margins in CMS Q1. Yes. I'm sorry. I'm sorry.

And as far as that continuing, Steve, I missed 1 part of your question. As far as that continuing, we evaluate based on our clients and trends that we're seeing in the marketplace. And as we said in the script, those have been very, very strong in the P&PS world. So we continue to have confidence in our business.

We'll go next now to Chad Dillard of Alliance Bernstein.

Just wanted to dig into the spend a little bit more with the, I guess, like the remaining Jacobs business. Can you talk about like what the cash conversion profile looks like? And how you'll think about capital allocation once the spin is done and if there's any potential gaps that need to be filled on the capability side once it's complete.

So we're early in our process, Chad. We do know that People & Places and CMS both have good cash flow characteristics. Actually, People & Places has a lower DSO level than the current CMS organization. So we're working through all of that. We'll provide incremental details relative to when we get to that space to really give greater clarity. But I think you're going to see both businesses being robust in terms of their cash flow capabilities longer term.

And Chad, on the second part that you asked about the capabilities, we feel strong that we've got a strong platform. We feel strongly that we've got a really solid platform today. In areas where we continue to innovate is around our digital platforms and our digital enablement and the partnership that we have with Palantir and with others, that is that's -- those are strong platforms in order to grow without making huge investments. So we're really comfortable where we sit today.

That's helpful. Then second question on PA with respect to the margin. Now you guys talked about operating margins getting to like the 20% range in the second half. But maybe kind of thinking a little bit longer term, just would like to understand what's the path to bring you back to, I guess, what your target range would be?

I would say that we think -- we're thinking longer term that there's no cap ultimately at the 20% level. So we'll work to continue to drive with the management team and ability to get back to margins that are north of 20% longer term.

Next now to Michael Feniger of Bank of America.

I'm just curious there, there's obviously a headline. I know someone brought up the government shutdown but there's also headlines with the House bill potentially trying to repeal the IRA clean energy tax incentives many things that's not likely. But I'm just curious on the ground through the channel on fieldwork. Are any of these headlines starting to slow project activity as these headlines pick up does it maybe push some things out to the right in the near term that we should be aware of?

So Michael, the short answer is no. IIJA, that's where we made specific commentary about that in the script, has really started to incrementalize in our business and we can see it not only in our pipeline but in our bookings. And it's realizing itself in that was -- it's why we specifically called out P&PS Americas on the 30% year-over-year growth. So we're not seeing that at all. And just 1 other -- just a clarifying point on IIJA, it's a law, right? So as far as it being repealed, there would have to be significant -- there have be a new law. And so we feel confident about that. On some of these other items, those were actually in the early stages and we had not even -- we had not seen the effects of those in our pipeline or in our work. So the fact that there's a debate about those now, it's not really having that material effect on the business.

Good to know. And just lastly, there was a comment about Europe. It seems like there's some mixed signals, some positives and negatives. What are you kind of seeing in Europe when we think of like the PA and the PPS business?

Yes. Interesting, I kind of separated between PA and P&PS. Our PA business in the U.K. specifically is actually growing and it's been really, really strong. And that's kind of a testament to no different than Jacobs historically, real strong capabilities in those areas of global priorities and national priorities and it's around the defense sector that PA has a strong relationship with MOD as well as in energy and utilities which, in fact, is turning into a security issue in broader Europe. So that's really driving the PA business. What's driving the PA and the P&PS business is the energy security issue in the broader Continental Europe as well as in Scandinavia. And I'll give you just 1 statistic. 1 year ago, 2 years ago, of our U.K. platform which you know is really, really strong, about 90% of our folks that were based in the U.K., worked in U.K. business. Today, that's about 60-40 is where we have our talent from the U.K. working on programs and projects and engagements all throughout Europe as well as globally. And that goes into -- Kevin and I have been really vocal about that over the course of the last 3 or 4 years about tying that global talent. So it doesn't totally dampen the effect of some of the economic headwinds in Europe but our diversity is helping in that front.

We go next now to Gautam Khanna at Cowen.

Yes. Congrats, Kevin and Claudia. I just wanted to go back to -- I think it was the first question in the Q&A on any sort of dissynergies and I don't mean quantitative necessarily but are there any linkages that CMS and PA or CMS and P&PS, we're able to just be more competitive on bids because you could bid the broader qualifications of the entire enterprise that might be lost and I was also thinking just when PA was acquired, I thought 1 of the thrust was to bring them outside of the U.K. which you just talked about but into the U.S. and into some of the government customers. And does that potential opportunity may be look less optimistic if CMS is not under the same roof.

Yes. So Gautam, it's Bob. One of the things that -- we looked at this really, really hard. And as far as the dissynergies go, we feel pretty confident that, that's not going to be of any materiality at all. Now that said, similar to what we've done in the past, our relationship post spin with CMS is going to continue to be very strong. And so our ability to work together, collaborate and partner for the benefit of our client is going to continue to be there. So that's always going to be there. In fact, we've demonstrated that in our history with a previous divestiture that we did and that relationship continues to this date to be very, very strong. On the PA outside of the U.K., really that entrance into the U.S. which we're in real time and having success on was around the private sector in the U.S., not the government sector and more specifically around energy and utilities and health and life sciences. And those opportunities have continued In fact, today, in the U.S., we have probably 50 active pursuits with a lot of cases, bids in play with PA and we're feeling really confident about that.

And if I might follow up just on the decision to spin versus an outright sale, can you talk a little bit about what the tax basis of CMS would be because presumably, when you announce something like this that potential suitors would also be interested, I would imagine. So what is the tax basis of the enterprise CMS?

So we've evaluated all the opportunities. And depending upon if you were to do some type of other structure, we'll ultimately determine what the tax basis is. But clearly, if we did some type of other transaction, there would be some tax implications that would occur. So the fact that we've centered around executing against spend is a tax-efficient way of addressing the opportunity to create 2 separate very strong companies. And so look, I think that's how we're executing. That's our plan at this particular point in time. It takes a little bit of time given some of the discussions that we've had in the past. But that's 1 of the reasons that we consider the spin to be a highly attractive option. But as we go through the process and determine if we get any additional facts or circumstances that could change that, we'll consider that because we are ultimately interested in ensuring that we maximize shareholder value.

And we'll take our final question this morning from Andy Wittmann of Baird.

So I was going to ask here on some of the capitalization, I guess, of NewCo and some of the cash costs to spin off. So could you, Kevin, comment on what you think a realistic range for cash cost to effectuate the spin would be as well as your thoughts on where the debt would sit I would guess that you'd keep them ratable or similar leverage based on the relative EBITDA. But I guess from a practical standpoint, I guess, NewCo probably gets spun out at with no debt and then would borrow and then pay like a cash dividend back to RemainCo to achieve the capitalization. So kind of a lot in here but I guess there's another aspect to it which is as you're ranging new debt in today's debt markets, what's the net impact on interest expense from having to recapitalize a new company?

So look, I'll make my first comment in response to your detailed questions is we remain committed to the Jacobs RemainCo that it's going to be investment-grade rating. So I think that gives you a ground post that you can certainly evaluate what the potential options may or may not look like. The second thing I would say is we're a little bit too early in the process. We have kept this to a very small group of executives and team members up until this point in time. And now we are -- as we publicly announced, we're going to go through a very detailed, thoughtful, disciplined process that will answer all of these questions. I do think that the way we would characterize the leverage factors, they're going to be appropriate relative to the businesses in which they are. So I think I'll just leave it there and I think you can interpret what that may or may not mean. But we think ultimately that there is an ability to have a stand-alone organization that will -- that is now CMS which is going to be -- have an ability to be quite successful longer term and people in places and PA and divergent as well as the RemainCo.

Got it. And then I guess just for my follow-up. I think I heard on your revenue outlook for Divergent that you're expecting good acceleration. Maybe I missed it but did you have a comment on the second half revenue performance that you're expecting for CMS? I think previously, this business also was expected to see an acceleration. I just wanted to make sure I heard your latest on that one.

Well, look, we didn't really comment about CMS, although I think what I would focus on in CMS is really more about the margin, sequential improvement which we think is really important as we get the business back to that level of 8% for the full year which is what we characterized. And so perhaps I'll leave it there because we didn't really talk about the CMS numbers; still growing.

And Mr. Pragada, I'd like to turn things back to you, sir, for any closing comments this morning.

Yes, thank you. It's exciting times ahead. We're really looking forward to what the future brings. Thank you, everyone, for joining the call and we'll be very close to the market continue -- as things continue to develop and progress. Thank you, everyone.

Thank you. And ladies and gentlemen, that will conclude the Jacob Solutions second quarter 2023 earnings call and webcast. We'd like to thank you all so much for joining us and wish you all a great rest of your day. Goodbye.