TELOS Q2 FY26 earnings call TLS

Telos reported a strong second quarter, with total revenue reaching $47.7 million, a 33% year-over-year increase, surpassing the high end of guidance. This performance was primarily driven by Telos ID, particularly the TSA PreCheck program and the Defense Manpower Data Center (DMDC) contract. Adjusted EBITDA significantly exceeded expectations at $6.9 million, leading to a substantial expansion in adjusted EBITDA margin to 14.4% from 1.1% in the prior year. The company's disciplined execution on fixed-price contracts also contributed to outperforming gross margin expectations.

Management announced a strategic decision to phase out a low-margin third-party software resale business starting in Q4 FY26. While this stream contributes approximately $33 million in annual revenue, it carries only a single-digit gross margin, which is inconsistent with the company's desired margin profile. This move is expected to improve total company cash gross margin by over 600 basis points on a run-rate basis. The full-year revenue outlook was adjusted downwards by $2.5 million at the midpoint to reflect this change, but with only a modest impact on profit.

Telos continued its trend of strong cash flow generation, reporting $8.8 million in operating cash flow and $6.6 million in free cash flow for the quarter, equating to a 13.9% free cash flow margin. This marks the sixth consecutive quarter with a free cash flow margin above 12%. The company attributes this to improved cash gross margins, lower operating expenses, and disciplined working capital management, including better alignment of collections and payments. This capital-light business model and shift to fixed-price contracts contribute to its premium free cash flow margins compared to defense contract peers.

The company maintains a healthy pipeline of government opportunities, with submitted proposals representing over $500 million in total contract value, an increase from the previous quarter. These opportunities are concentrated in Security Solutions and Secure Network segments, with a strong emphasis on confidential IT security work where Telos has solid past performance. While award decisions are expected in the second half of 2026, the timing remains at the discretion of government customers. These awards are anticipated to be a significant P&L driver for FY27 rather than the current fiscal year.

The TSA PreCheck program is performing well, with market share significantly up year-over-year. Following efforts to build out its network of enrollment locations last year, the company is now focused on improving the productivity of these sites. A pilot program with the Post Office for additional enrollment sites is progressing, with further expansion expected. Normal seasonality is anticipated in the second half of the year, with typically lighter market activity, which has been factored into guidance.

Telos deployed $4.7 million to repurchase over 1 million shares at an average price of $4.50 per share during the quarter, demonstrating its commitment to returning capital to shareholders. Management emphasized its laser focus on maximizing shareholder value through organic growth, strong cash generation, and consistent share repurchases. The company indicated it would seriously consider a change of control opportunity if it presented a superior path to value creation for shareholders.