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Goal 2020

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended September 30, 2019

OR

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____ to ____

Commission File Number 001-08931

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ⌧ Yes ◻ No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ◻ Yes ⌧ No

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ⌧ Yes ◻ No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ⌧ Yes ◻ No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act) ☐ Yes ⌧ No

The aggregate market value of 22,695,571 shares of common stock held by non-affiliates of the registrant was: $1,274,404,537, as of March 31, 2019, based on the closing stock price on that date. Shares of common stock held by each officer and director and by each person or group who owns 10% or more of the outstanding common stock have been excluded in that such persons or groups may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

Number of shares of common stock outstanding as of November 1, 2019 including shares held by affiliates is: 31,274,052 (after deducting 8,945,300 shares held as treasury stock).

DOCUMENTS INCORPORATED BY REFERENCE:

Portions of the Registrant’s definitive Proxy Statement to be filed with the Securities and Exchange Commission pursuant to Regulation 14A in connection with its 2020 Annual Meeting of Shareholders are incorporated by reference into Part III of this Annual Report on Form 10-K. Such Proxy Statement will be filed with the Securities and Exchange Commission subsequent to the date hereof but not later than 120 days after registrant’s fiscal year ended September 30, 2019.

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CUBIC CORPORATION

ANNUAL REPORT ON FORM 10-K

For the Year Ended September 30, 2019

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In pursuing our business strategy, we routinely evaluate and selectively pursue acquisition opportunities that will expand or complement our existing products and services, or customer base, at attractive valuations. From fiscal 2015 through 2019 we acquired GATR, DTECH, TeraLogics, Vocality, MotionDSP, Shield Aviation, and Nuvotronics in connection with our strategic efforts to build and expand our C4ISR business. These businesses collectively provide wideband ultra-portable expeditionary satellite communication terminal solutions, secure video delivery, real time processing and enhancement, exploitation and dissemination of full motion video in the cloud, computer vision analytics, deployable secure computing tactical cloud and networking solutions equipment, and communication gateways. In 2017 we acquired Deltenna, a wireless infrastructure company that designs and manufactures cutting-edge integrated wireless products and enhances our tactical communication and training capabilities. In 2019 we acquired Trafficware and GRIDSMART in our CTS segment which, when combined with our existing transportation capabilities, enhance our ability to offer compelling solutions to reduce urban congestion using their intelligent, data-rich intersection management technology. Generally, our business acquisitions are dilutive to earnings in the short-term due to acquisition-related costs, integration costs, retention payments and often higher amortization of purchased intangibles in the early periods after acquisition and expenses related to earn-outs. However, we expect that each of these recent acquisitions will be accretive to earnings in the mid-term.

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We are operating in an environment that is characterized by continuing economic pressures in the U.S. and globally. A significant component of our strategy in this environment is to focus on innovative solutions, program execution, improving the quality and predictability of the delivery of our products and services, and providing opportunities for customers to outsource services where we can provide a more effective solution. To the extent our business and contracts include operations in countries outside the U.S., other risks are introduced into our business, including changing economic conditions, fluctuations in relative currency rates, regulation by foreign countries, and the potential for deterioration of political relations.

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We were incorporated in the State of California in 1949 and began operations in 1951. In 1984, we moved our corporate domicile to the State of Delaware. Our internet address is www.Cubic.com. The content on our website is available for information purposes only. It should not be relied upon for investment purposes, nor is it incorporated by reference into this Form 10-K. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports can be found on our internet website under the heading “Investor Relations”. We make these reports readily available free of charge in a reasonably practicable time after we electronically file these materials with the Securities and Exchange Commission (SEC).

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BUSINESS SEGMENTS

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Information regarding the amounts of revenue, operating profit and loss and identifiable assets attributable to each of our business segments, is set forth in Note 18 to the Consolidated Financial Statements for the year ended September 30, 2019. Additional information regarding the amounts of revenue and operating profit and loss attributable to major classes of products and services is set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” which follows in Item 7 of this Form 10-K.

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Cubic Transportation Systems Segment

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CTS is a systems integrator of payment and information technology and services for intelligent travel solutions. We deliver integrated systems for transportation and traffic management, delivering tools for travelers to choose the smartest and easiest way to travel and pay for their journeys, and enabling transportation authorities and agencies to manage demand across the entire transportation network — all in real time. We offer fare collection and revenue management devices, software, systems and multiagency, multimodal integration technologies, as well as a full suite of operational services that help agencies and operators efficiently collect fares and revenue, manage operations, reduce revenue leakage and make transportation more convenient. Our NextBus business provides transit passengers with accurate, real-time predictive arrival information about buses, subways and trains, and includes real-time management and dispatch tools that enable transit operators to effectively manage their systems. Our Intelligent Transport Management Solutions (ITMS) business has a portfolio of information-based solutions for transportation agency customers and provides traffic management systems technology, traffic and road enforcement and the maintenance of traffic signals, emergency equipment and other critical road and tunnel infrastructure. Our Trafficware and GRIDSMART businesses provide a

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combination of hardware, software and sensor technology to optimize the flow of people and vehicles through intersections, corridors and urban grids. Through our Urban Insights business, we use big data and predictive analytics technology and a consulting model to help the transportation industry improve operations, reduce costs and better serve travelers.

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CTS is comprised of approximately 3,100 employees working in major transportation markets worldwide. As an established partner with transportation authorities and operators, we have installed systems in over 40 markets and currently serve over 41 million users a day, which in total process approximately 14 billion revenue-related transactions per year, generating more than $16 billion of revenue per year for such transportation authorities and operators. Products accounted for 58% of the segment’s fiscal year 2019 sales, with services accounting for 42%.

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We believe that we hold the leading market position in large-scale automated fare payment and revenue management systems and services for major metropolitan areas. We have implemented and, in many cases, operate, automated fare payment and revenue management systems for some of the world’s largest transportation systems, examples include London (Oyster/Contactless Payment), the New York region (Metrocard/OMNY), the Chicago region (Ventra), the San Francisco Bay Area (Clipper), the Los Angeles region (TAP), the Washington D.C. region (Smartrip), the Vancouver region (Compass), the Sydney region (Opal Card) and the Brisbane region (Go Card). In fiscal 2018, we were awarded: a contract by the New York Metropolitan Transportation Authority (MTA) to replace the MetroCard system with a New Fare Payment System (NFPS) and now branded as OMNY; a contract by the Massachusetts Bay Transit Authority (MBTA) to provide the CharlieCard system with a next-generation fare payment system; a contract by the Queensland Department of Transportation & Main Roads to provide a next-generation ticketing system for the state of Queensland, Australia; and a contract by the San Francisco Bay Area’s Metropolitan Transportation Commission (MTC) to deliver next-generation fare payment technology and operational services to the Clipper smart card system serving the Bay Area. The average lifecycle of our revenue management systems is approximately 10 years, providing long-term recurring sales visibility and opportunities for future replacements and upgrades.

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We are currently designing and building major new systems in New York, Boston, Brisbane, and the San Francisco Bay Area. Profit margins during the design and build phase of major projects can be slightly lower than during the operate-and-maintain phase. This has in the past caused, and may in the future cause, swings in profitability from period to period. Also, during the operate-and-maintain phase, revenues and costs are typically more predictable.

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Through our NextBus, ITMS, Trafficware and GRIDSMART businesses, we provide advanced transportation operational management capabilities and related services to hundreds of customers including organizations such as Transport for London, Transport Scotland, Highways England, Transport for Greater Manchester, Los Angeles Metro, San Francisco Muni and the Toronto Transit Commission. In August 2018, we were awarded an Intelligent Congestion Management Platform contract by Transport for New South Wales to provide Sydney, Australia with one of the world’s most advanced transport management systems. The new system will enhance monitoring and management of the road network across New South Wales, coordinate the public transport network across all modes, improve management of clearways, planning of major events and improve incident clearance times, while providing real-time information and advice to the public about disruptions.

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We also provide a modern tolling and road user charging alternative that uses state-of-the-art tools that are flexible and modular compared to the proprietary, legacy systems that the industry views as their only option.

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Most of our sales in CTS for fiscal year 2019 were from fixed-price contracts. However, some of our service contracts provide for variable payments, in addition to the fixed payments, based on meeting certain service level requirements and, in some cases, based on system usage. Service level requirements are generally contingent upon factors that are under our control, while system usage payments are contingent upon factors that are generally not under our control, other than basic system availability. For certain CTS contracts for which we develop a system for a customer and subsequently operate and maintain the customer’s system, the contract specifies that we will not be paid during system development, but rather we will be paid over the period that we operate and maintain the system.

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Industry Overview

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We define our addressable transportation market as multi-modal transportation revenue management systems (e.g. public transit fare collection, toll revenue collection, congestion charging), Real-Time Passenger Information and Intelligent Transportation Systems and services. We project the long-term growth for this market to be driven primarily by customer infrastructure expansion as well as technological refreshment and advancement which will lead to system replacements and upgrades. Together with additional opportunities that stem from our other businesses as well as entry into new geographies, we believe our overall addressable market to be in excess of $16 billion. We believe industry experience, past performance, technological innovation and price are the key factors customers consider in awarding programs and such factors can serve as barriers to entry to potential competitors when coupled with scale and the upfront investments required for these programs.

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Advances in communications, networking and security technologies are enabling interoperability of multiple modes of transportation within a single networked system, as well as interoperability of multiple transportation operators within a single networked system. As such, there is a growing trend for regional payment systems, usually built around a large agency and including neighboring operators, all sharing a common regional payment media. Recent procurements for open payment systems will further extend the acceptance of payment media from smart cards, to contactless bank cards and Near Field Communication (NFC) enabled smartphones.

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There is also an emerging trend for other applications to be added to these regional systems to expand the utility of the payment media and back-office system, offering higher value and incentives to the end users, and lowering costs and creating new revenue streams through the integration of multi-modal and multi-operator systems for the regional system operators. As a result, these regional systems have created opportunities for new levels of systems support and services including customer support call centers and web support services, smart card production and distribution, financial clearing and settlement, retail merchant network management, transit benefit support, and software application support. In some cases, operators are choosing to outsource the ongoing operations and commercialization of these regional payment systems. This growing new market provides the opportunity to establish lasting relationships and grow revenues and profits over the long term.

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Some customers have responded to the current market environment by seeking financing for their projects from the system supplier or from other sources. An example of this is our contract with the MBTA, which was awarded in early 2018 to develop, build, operate, and maintain a next-generation fare payment system in Boston. Under this contract, the MBTA required that we and a financing partner, John Laing, establish a public-private partnership (P3) in order to finance the design and build phase of the payment system. MBTA does not begin making payments until the ten-year operate and maintain phase of the contract, which will span from 2021 through 2031.

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Backlog

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Total backlog of CTS at September 30, 2019 and 2018 amounted to $2.953 billion and $3.545 billion, respectively. We expect that approximately $729 million of the September 30, 2019 backlog will be converted into sales by September 30, 2020.

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Cubic Mission Solutions Segment

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CMS provides C4ISR capabilities for defense, intelligence, security and commercial missions. CMS’ core competencies include protected wide-band communication for space, aircraft, UAV, and terrestrial applications. It provides Rugged IoT cloud solutions, interoperability gateways, and AI/ML based C2ISR applications for video situational understanding. CMS is also building UAV systems to provide ISR-as-a-service. With the acquisition of Nuvotronics, CMS will begin providing space and 5G solutions in the defense and commercial markets.

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From fiscal 2015 through 2019, CMS acquired DTECH, GATR, TeraLogics, Vocality, MotionDSP, Shield Aviation, and Nuvotronics in connection with our strategic efforts to build and expand our C4ISR business. In fiscal 2019, CMS’ organic growth was 55% and total growth including the Nuvotronics acquisition was 59%. CMS customers include the military services, principally the U.S. Army and U.S. Special Operations Command, various other government agencies

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of the U.S. and other countries, and commercial customers. In fiscal 2019, U.S. government customers accounted for 96% of CMS’ sales, international customers accounted for 2% of CMS’ sales, and U.S. commercial and other customers accounted for 2% of CMS’ sales. CMS is comprised of approximately 700 employees working primarily in the United States.

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CMS is engaged in the research, design, development, manufacture, integration, and upgrade of C4ISR solutions for aircraft, UAVs, satellites, and related technologies. CMS’ major programs include:

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Industry Overview

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We estimate that the Protected Communications, Ruggedized IoT and C2ISR markets within our CMS business have a total addressable market of approximately $3 billion annually. We believe that our products and technologies address mission critical requirements such as integrated communications suites for UAVs, ships and the dismounted soldier, battlefield awareness, and secure and encrypted communications. We believe that these technologies will continue to experience strong demand as the U.S. military maintains a smaller, more agile force structure.

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Backlog

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Funded and total backlog of CMS at September 30, 2019 was $104 million compared to $77 million at September 30, 2018. We expect that approximately $93 million of the September 30, 2019 backlog will be converted into sales by September 30, 2020.

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Cubic Global Defense Segment

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CGD is a market leader in live, virtual, constructive (LVC) and game-based training solutions to the DoD, other U.S. government agencies and allied nations. We design and manufacture realistic, high-fidelity air, ground, and surface instrumentation, visualization and data analytic systems that support LVC training in high fidelity environments. Our customized systems and services accelerate combat readiness in the air, on the ground and at sea while meeting the demands of evolving operations globally.

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Training systems provided by CGD include customized military range instrumentation systems, multi-domain LVC instrumentation, laser and non-laser based ground training systems, live-fire range design, virtual simulation systems, game-based synthetic training environments and advanced data visualization and analytics solutions.

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CGD’s training systems are used to effectively deliver a range of training objectives, such as training for fighter pilots, ground troops, infantry, armored vehicles, ship operation and maintenance personnel, cyber warriors, and special operations forces. These systems deliver high fidelity threat representative environments that are used to create stressful scenarios and weapons’ effects, collect event and tactical performance data, record simulated engagements and tactical actions, and deliver after actions reviews to evaluate individual and collective training effectiveness.

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CGD also provides software and services that take the data and information generated in instrumented training ranges and provides advanced data visualization and data analytics that allow for training, proficiency and readiness assessment.

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Our products and systems help our customers to retain operational, tactical, and technological superiority with cost-effective solutions. We also provide ongoing support services for systems we have built for several of our international customers. Our training business portfolio is currently organized into air training, ground training, and synthetic/digital solutions. CGD is comprised of approximately 1,300 employees working in 13 nations on 4 continents providing training systems to the DoD and allied nations.

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Our established international footprint in 35 allied nations is a key element of our strategy. Our global footprint helps to mitigate possible shifts or downturns in DoD spending. Sales to international customers of CGD accounted for 51% of sales in 2019. In addition, new innovative technologies such as LVC training systems and potential expansion into adjacent markets provides us the means to add scale to our business. Strategically, we believe CGD is very well positioned to lead the increasing trend to fully integrated solutions that connect LVC and game-based training in multi-domain environments.

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Fixed-price contracts accounted for 92% of CGD’s revenue for fiscal year 2019. Fixed-price contracts create both the risk of cost growth and the opportunity to increase margins if we are able to reduce our costs.

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Air Training Solutions

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In air training, Cubic was the initial developer and supplier of Air Combat Maneuvering Instrumentation (ACMI) capability during the Vietnam War. The ACMI product line has progressed through five generations of technologies and capabilities. The latest generation, the P5 Combat Training System, provides advanced air combat training capability to the U.S. Air Force, Navy and Marine Corps, as well as allied nations which has solidified Cubic’s global market leading position. We have been awarded a series of contracts to produce and enhance ACMI for the F-35 Joint Strike Fighter. We have also developed a broad international base for our ACMI product, particularly in Asia Pacific and the Middle East. In addition to procuring the ACMI training system, many nations also rely on Cubic for on-site operations and maintenance support. We are constantly evolving our air combat training solutions to achieve full-spectrum LVC training systems. Cubic was the industry system integrator for the U.S. Air Force Research Lab’s Secure LVC Advanced Training Environment (SLATE) and Advanced Technology Demonstration (ATD). SLATE ATD validated production ready LVC with National Security Agency certified multi-level encryption and a newly developed 5^th generation advanced training waveform. The LVC system was verified operationally in both tethered and untethered LVC training scenarios. SLATE is a combination of protocols, standards, hardware and software that are joint, interoperable and supports advanced multi-domain warfighting concepts.

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Ground Training Solutions

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CGD is a leading provider of realistic, easy-to-use, high-fidelity, reliable, and cost-effective tactical engagement simulation systems that minimize user set-up time and increase training effectiveness. Our leadership role in instrumented training was established during the 1990s when Cubic provided turnkey systems for U.S. Army training centers including the Joint Readiness Training Center (JRTC) at Fort Polk, Louisiana, and the Combat Maneuver Training Center (CMTC) at Hohenfels, Germany, now known as the Joint Multinational Readiness Center. Since the completion of these original contracts, we have significantly expanded our market footprint with the sale of fixed, mobile

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and urban operation training centers to uniformed military and security forces in the United States and allied nations around the world. Our ground combat training systems operate at over 90 combat training centers (CTCs) worldwide. Our laser-based tactical engagement simulation systems, widely known as Multiple Integrated Laser Engagement Systems (MILES), are used to enable realistic training without live ammunition. Cubic MILES are being utilized by multiple branches of the U.S. Armed Services, as well as the Department of Energy, and numerous international government customers. We have increased our focus on joint training solutions and those that can operate simultaneously in multiple simulation environments including live, virtual, constructive and gaming domains. The business continues to deliver innovative ground-based training solutions with the introduction of non-laser based solutions and synthetic overlay to live training environments

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Synthetic/Digital Solutions

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The Littoral Combat Ship (LCS) courseware contract win in 2013 has opened a large new market for CGD. A key discriminator in the LCS proposal was the use of a high-fidelity gaming engine that allows avatars to instruct students at their own pace in an immersive environment based on realistic graphics. By integrating instructional material into a gaming environment, we have dramatically reduced instructor costs and provided a platform that is ideal for embedded training. These technologies are easily transferrable to different training domains and subject matters. The experiential learning environment can be augmented with intelligent tutoring and assessment tools increasing the value of this approach. The acquisition of Intific in 2014 brought enhanced software, data visualization and data analytics capabilities that provide in depth training analysis for customers.

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As the blend of LVC training creates broader higher fidelity training environments the data generated creates significant opportunity to capitalize on our advanced synthetic and digital capabilities to deliver greater insight into customer training effectiveness.

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Industry Overview

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CGD’s market is relatively large and stable. According to the 2018 Global Military Simulation and Virtual Training Market report, the value of the global military simulation and virtual training programs market was $10.2 billion in 2018. 

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Backlog

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Funded and total backlog of CGD at September 30, 2019 was $344 million compared to $443 million at September 30, 2018. We expect that approximately $183 million of the September 30, 2019 backlog will be converted into sales by September 30, 2020.

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Additional Defense Industry Considerations

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The U.S. government continues to focus on discretionary spending, tax, and other initiatives to control spending, debt and the deficit. More than 40 years since the Budget Act created the existing budget framework. Congress has rarely followed the required process and deadlines. Regular order has not been fully followed since fiscal year 1995—the last time Congress passed a budget conference agreement followed by all 12 appropriations bills before the beginning of the new fiscal year. The trend over the past decades has been reliance on continuing resolutions.

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Since 2011, we’ve experienced a constrained fiscal environment imposed by the Budget Control Act (BCA) and various ensuing Bipartisan Budget Acts (BBA). Budgetary considerations have put downward pressure on growth in the defense industry from 2011-2017 but under the BBA of 2018, defense budgets in 2018 and 2019 have shown substantial increases from previous years.

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In 2019, we were encouraged by the President’s proposed near-record defense spending of $750 billion for fiscal year 2020 and the U.S. Congress’ passage of a new BBA 2019 covering fiscal years 2020 and 2021 officially ending the threat of sequestration under the BCA. Unfortunately, even with the passage of BBA 2019, funding uncertainty endures as Congress has once again failed to pass all 12 appropriations bills for fiscal year 2020 and has relied on a continuing

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resolution to temporarily fund the government and avoid a government shutdown.  Nonetheless, beyond 2021, the President’s administration and Congress will likely continue to debate the size and expected growth of the U.S. federal budget as well as the defense budget over the next few years and balance decisions regarding defense, homeland security, and other federal spending priorities. If enacted, significant reductions in defense spending levels could have a materially adverse effect on our consolidated financial position. Regardless of the political outcomes and budgetary constraints, we believe that much of our business is well positioned in the DoD’s areas of focus for defense spending designed to help the DoD meet its critical future capability requirements for protecting U.S. security and the security of our allies in the years to come.

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Regarding international markets, an important revenue source, global defense expenditures were again on the rise in 2018 reaching their highest level since the end of the Cold War at approximately $1.67 trillion in 2018. Defense spending increased by approximately 3.3% in 2018 - the fastest rate of growth in a decade - driven by the largest year-on-year increase in U.S. defense spending since 2008. The increase in defense spending reflects improved global economic conditions coupled with continuing instability in several key regions.

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COMPETITIVE ENVIRONMENT

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Our businesses operate in highly competitive markets. CTS is one of several companies specializing in the transportation systems and services market. Our competitors in various market segments include among others Accenture, Conduent, Econolite, IBM, Indra, Init, Intelight, Kapsch, Kimley-Horn, McCain, Flowbird, Roper Technologies, Scheidt & Bachmann, Siemens, Thales, Trapeze and Vix. For large tenders, our competitors may form consortiums that could include telecommunications companies, financial institutions and consulting companies in addition to the companies noted above. These procurement activities are very competitive and require that we have highly skilled and experienced technical personnel to compete. We believe that our competitive advantages include intermodal and interagency regional integration expertise, technical skills, innovation, past contract performance, systems quality and reliability, experience in the industry and long-term customer relationships.

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CMS competes with numerous companies, large and small, including Boeing, General Dynamics, L3Harris, Lockheed Martin, and Northrop Grumman, as well as other smaller companies. In many cases, we have also teamed with several of these companies, in both prime and subcontractor roles, on specific bid opportunities.

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CGD competes with many of the same companies as CMS including Boeing, General Dynamics, L3 Harris, Lockheed Martin, Northrop Grumman and Saab Training Systems, as well as other smaller companies. Similarly to CMS, in many cases we have also teamed with several of these companies, in both prime and subcontractor roles, on specific bid opportunities.

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While we are generally smaller than our principal competitors, we believe our competitive advantages include an outstanding record of past performance, strong incumbent relationships, the ability to control operating costs and rapidly focus technology and innovation to solve customer problems.

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BUSINESS STRATEGY

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Goal 2020 reflects our vision of Cubic’s continued growth path to help generate superior returns for our shareholders. We believe our growth will be fueled by continually innovating in our markets to build leadership positions, accelerated with strategic acquisitions, led by our talented and dedicated employees. We will enhance value creation by building technology-driven market-leading businesses and providing our global customers with mission-critical solutions that reduce transportation congestion and increase military readiness and effectiveness. To achieve Goal 2020, we are focused on our winning proposition and the five key priorities of Winning the Customer, Building NextCity Globally, Building Next-Mission Globally, Building NextTraining Globally and Living One Cubic.

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Our strategy remains guided by our objective of Winning the Customer to create market-leading positions, delivering superior operational performance, developing customer-centric innovations and investing our capital and talent to enhance our market-leading businesses. We will accelerate our growth by being innovative, responsive, connected and,

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ultimately, indispensable to our customers. We will be good listeners, understand our customers’ perspective and find solutions together.

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In CTS, we have developed our NextCity vision for the future of transportation. We are repositioning ourselves from being a leading provider of mass transit fare collection systems to be a leading provider of integrated payment and information systems across all modes of transportation. In Building NextCity Globally, we will create transportation payment and information solutions in cities to help our customers increase efficiency and reduce congestion. We will focus on integrating transportation payments more efficiently and leveraging transportation data more effectively than anyone else. We will endeavor to increase our product reusability, innovate faster, use our superior global footprint to our advantage, and have a competitive cost structure. We will continue to grow our portfolio beyond fare collection to include industries such as tolling/road user charging, analytics and traffic management and design our solutions to scale to all cities, large and small.

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In CMS, over the past three years we acquired DTECH, GATR, TeraLogics, Deltenna, Motion DSP, Shield Aviation and Nuvotronics in connection with our strategic efforts to build and expand our NextMission Strategy. The CMS business unit combines and integrates our C4ISR and secure communications operations. In building C4ISR globally, we will become a leader in Communications-on-the-Move, Joint Aerial Layer Network and C2ISR cloud transformation markets. We will provide superb technology-leading mission solutions at optimal SWaP (size, weight, and power) for our global customers’ most challenging problems at market-based prices.

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In CGD, we have developed our vision for NextTraining. At its core, NextTraining will identify and quickly integrate highly valued, cutting-edge technical solutions that accelerate training proficiency for our customers. We will assist our customers in defining future training requirements while leveraging market conditions to generate competitive differentiation and cost synergies. In Building NextTraining Globally, we will provide superior value, cost effective all-domain readiness solutions built on an integrated, adaptable architecture to enable performance-based customer training solutions designed to exacting operational readiness standards.

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Lastly, Goal 2020 is supported by our Living One Cubic key priority of sharing resources across the company to help achieve superior talent management, absolute customer focus, innovation, collaboration, cost-effective enterprise systems and impeccable ethics.

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As part of our strategic planning process, we routinely conduct portfolio reviews and are reshaping our portfolio to help allow us to grow sales, improve profitability and deliver attractive returns. Our acquisition approach remains focused on opportunities that align with our strategy to build technology-driven, market-leading businesses in NextCity, NextMission and NextTraining.

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Long-Term Customer Relationships

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We seek to build leadership positions in our core markets by ensuring all our businesses are customer focused, thereby maintaining our long-term relationships with our customers. The length of relationship with many of our customers exceeds 30 years and further supports our industry-wide leadership and technological capabilities. As a result of

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maintaining a high level of performance, we continue to provide a combination of services and upgrades for our long-term customers. Such long-term relationships include the following:

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Strategic Innovation-focused Investment of Capital

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We target markets that have the potential for above-average growth and profit margins where domain expertise, innovation, technical competency and contracting dynamics can help to create meaningful barriers to entry. We will strategically reinvest our cash in key program captures, internal research and development (R&D), and acquisitions to target priority markets and help ensure market leading positions to drive long-term shareholder return.

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We are committed to using innovation and technology to address our customers’ most pressing problems and demanding requirements. We have made meaningful and recognized contributions to technological advancements within our industries.

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The cost of company-sponsored R&D activities included in our Consolidated Statements of Operations are as follows (in thousands):

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In addition to internally funded R&D, a significant portion of our new product development occurs in conjunction with the performance of work on our contracts. These costs are included in cost of sales in our Consolidated Statements of Operations as they are directly related to contract performance. The cost of contract R&D activities included in our cost of sales are as follows (in thousands):

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Pursue Strategic Acquisitions

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We have developed an acquisition strategy that focuses our technology-driven, market-leading business strategy. We are focused on finding attractive acquisitions that enhance our market positions through technology, provide expansion into complementary growth markets and ensure sustainable long-term profitability and return on invested capital. Over the last several years, we have completed multiple acquisitions that have diversified our customer base and expanded our systems and services offerings. For example, from fiscal 2015 through fiscal 2019 we acquired GATR, DTECH, TeraLogics, Vocality, MotionDSP, Shield Aviation and Nuvotronics in connection with our strategic efforts to build and expand our C4ISR business. In fiscal 2019 we acquired GRIDSMART and Trafficware to complement our integrated traffic solutions business.

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Enhance Services Business

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We view services tied to our technologies as a core element of our business and we are working to expand our service offerings and customer base. In aggregate, approximately 32% of our sales in fiscal year 2019, were from service-related work. We believe that a strong base of service work helps to consistently generate profits and smooth the sales fluctuations inherent in systems work.

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At CTS, we deliver a number of customer services from key service facilities for multiple transportation authorities worldwide. Due to the technical complexities of operating payment systems, transportation agencies are turning to their system suppliers for IT services and other operational and maintenance services, such as regional settlement, card management and customer support services that would otherwise be performed by the agencies. As a result, we have transitioned from a supplier to a systems integration and services company providing a suite of turnkey outsourced services for more than 20 transit authorities and cities worldwide. Today, CTS delivers a wide range of services from customer support to financial management and technical support at operation centers across the United States, Canada, United Kingdom and Australia.

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At CGD, we primarily provide services for products for which we are the Original Equipment Manufacturer. Our services on OEM equipment drive value for our customers and allow us to earn higher margins. Compared to the U.S. market where small business requirements, omnibus contracts and local preferences create acquisition challenges, we believe the international market offers greater opportunities to bundle and negotiate multi-year, turnkey contracts. We believe these long-term contracts reinforce CGD’s competitive posture and enable us to provide enhanced services through regular customer contact and increased visibility of product performance and reliability.

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Expand International Footprint

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We have developed a large global presence in our business segments. CTS has delivered over 500 projects in 40 major markets on 4 continents to date. Approximately 43% of the CTS segment’s fiscal year 2019 sales were attributable to international customers. In fiscal 2018, CTS was selected by the Queensland Department of Transport & Main Roads (DTMR) in Australia to design, build and operate a new ticketing system for the state and signed a contract with

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Transport for New South Wales in Australia to build an Intelligent Congestion Management Platform. In 2017, CTS signed a contract with Transport for London (TfL) for a three-year extension of services to London’s Oyster and contactless ticketing system to extend the contract for these services from 2022 to 2025.

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CGD has delivered systems in more than 35 allied nations. In fiscal year 2019, approximately 51% of CGD sales were to allied foreign governments and an additional 5% of CGD sales were to projects funded by the U.S. government pursuant to Foreign Military Sales and Foreign Military Financing arrangements. We have expanded our presence in the United Kingdom, Canada, and the Middle-East in response to growing opportunities. These complement a well-established and sound presence in Singapore, Australia, New Zealand, and Italy.

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Our CMS products are designed to address the needs of numerous international defense and civil applications. Our ISR data links are used by a number of international allied forces. In early fiscal 2018, CMS was awarded an order to provide satellite communication solutions for the New Zealand Defence Force (NZDF) under which we are supplying inflatable satellite antennas with supporting hardware and equipment training for the NZDF Network Enabled Army program. In addition, in late fiscal 2018 Australia’s Ministry of Defense procured CMS Atlas Strike kits that provide communications capability and situational awareness for Australia’s Joint Tactical Air Controllers. In fiscal 2019, CMS was awarded a contract from the New Zealand Ministry of Defence to deliver Command and Control (C2) capabilities to support the Network Enabled Army (NEA) program's Tactical Network (TNet) project. The NEA program is a transformational program to be delivered in four tranches over 12 years and will benefit the New Zealand Army's Land Forces and Special Operations Forces. The TNet contract is a framework agreement allowing multiple awards over the life of the contract to address current, emerging and future requirements through support of the four tranches.

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EXECUTIVE OFFICERS

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The executive officers of Cubic as of November 1, 2019 are as follows:

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Bradley H. Feldmann, 58. Mr. Feldmann is Chairman of the Board of Directors, Chief Executive Officer (CEO), and President of Cubic. He was appointed to the Board of Directors in May 2014 and was elected as Chairman of the Board in February 2018. He has served as CEO of Cubic since July 2014, and as President since January 2013. He also served as Chief Operating Officer of Cubic from January 2013 to July 2014. Prior to that, he was President of the companies comprising the Cubic Defense Systems segment, a role he assumed in 2008. He previously worked at Cubic Defense Systems from 1989 to 1999. Prior to rejoining Cubic in 2008, Mr. Feldmann held senior leadership positions at OMNIPLEX World Services Corporation and ManTech International. He is a Board Leadership Fellow of the National Association of Corporate Directors, a member of the Aerospace Industries Association Board of Governors and serves on its Executive Committee and is a member of the Board of the National Defense Industrial Association, and serves on their Executive Committee and as Chair of the Finance Committee. He also serves on the Board of UrbanLife, a non-profit organization, as Chair of the Finance Committee.

Anshooman Aga, 44. Mr. Aga is Executive Vice President and Chief Financial Officer (CFO) of Cubic. He joined Cubic in July 2017 as Executive Vice President and assumed the role of CFO in October 2017. In this role, Mr. Aga is responsible for all aspects of the Company's financial strategies, processes and operations, including corporate development, risk management, investor relations, real estate, and global manufacturing and procurement. Prior to joining Cubic, Mr. Aga served at AECOM since June 2015, where he was senior vice president and CFO of their multi-billion-dollar Design and Consulting Services business in the Americas. He also held a series of financial leadership positions at Siemens from July 2006 to May 2015, including CFO of the Energy Automation business based in Nuremburg, Germany, in addition to similar CFO roles for Siemen's Rail Electrification and TurboCare business units.

Matthew. J. Cole, 40. Mr. Cole is Senior Vice President of Cubic and President of the companies comprising the CTS segment, a position he has held since October 2015. Prior to that he held a variety of increasingly responsible roles at CTS since he joined in 2003, most recently serving as Executive Vice President/Deputy for Strategy, Business Development and Diversification and in key roles worldwide including in Australia and the U.K. Before joining Cubic, Mr. Cole held various financial positions with large public and private companies such as British Airways, Schlumberger, First Choice and Endemol.

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Hilary L. Hageman, 51. Hilary Hageman is Senior Vice President, General Counsel and Corporate Secretary for Cubic, a position she has held since October 2019. She is responsible for managing the legal department as well as overseeing ethics, contracts, global trade compliance and security. Ms. Hageman is a business leader with extensive legal experience. Prior to joining Cubic, she was the senior vice president and deputy general counsel for SAIC. She has also held senior legal counsel roles at CACI, the U.S. Intelligence Community and Department of Defense.

Mark A. Harrison, 62. Mr. Harrison is Senior Vice President and Chief Accounting Officer of Cubic. He was appointed to the position in June 2019. His prior roles at Cubic include, Senior Vice President and Corporate Controller from 2012 to June 2019, Vice President and Corporate Controller from 2004 to June 2012, Vice President – Financial Planning and Accounting from 2000 to 2004, and Assistant Corporate Controller and Director of Financial Planning from 1991 to 2000. Since 1983, Mr. Harrison has held a variety of financial positions with Cubic. From 1980 to 1983 he was a Senior Auditor with Ernst & Young.

Michael Knowles, 52. Mr. Knowles was named Senior Vice President of Cubic and President of the companies comprising our CGD business segment, as of October 1, 2018. Previously, Mr. Knowles served as Vice President and General Manager of the Air Ranges business unit for CGD since July 2014. In this role, Mr. Knowles was responsible for the strategic direction and business management of air ranges, air training, Air Combat Maneuvering Instrumentation and LVC business initiatives. Before joining Cubic, Mr. Knowles served as the senior director of Air Transport and Mission Solutions at Rockwell Collins where he was employed from 2004 until he joined Cubic. He also held a series of program management and engineering roles at Photon Research Associates and Lockheed Martin. Mr. Knowles also served as a Naval Flight Officer, flight test engineer and aerospace engineering duty officer in the United States Navy where he retired as a Commander.

Michael R. Twyman, 59. Mr. Twyman is Senior Vice President of Cubic and President of the companies comprising the CMS segment, a position he has held since May 2016. He joined Cubic as Senior Vice President of air training and secure communications in June 2014. Prior to that he held a variety of executive leadership positions spanning more than 30 years at Northrup Grumman including sector Vice President and General Manager of the defense systems division and Vice President of integrated C3I systems.

Rhys V. Williams, 50. Mr. Williams is Vice President and Treasurer of Cubic, a position he has held since March 2018. Prior to joining Cubic, Mr. Williams led the treasury function at Ancestry, the largest online resource for family history and consumer genomics, as its Treasurer since October 2013. Prior to that, Mr. Williams was the Director of Treasury from April 2009 to October 2013, at Life Technologies, a biotechnology company which was later acquired by Thermo Fisher Scientific, responsible for overseeing all facets of the capital markets function. He also held treasury and business development roles at Callaway Golf Company, and Gateway, Inc.

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RAW MATERIALS

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The principal raw materials used in our products include sheet aluminum and steel, copper electrical wire and castings, fabrics, purchased electronic subcomponents, cabling to include electrical wiring, connectors and harnesses, injection molded plastics, and composite products. A significant portion of our end products are composed of purchased electronic components and subcontracted parts and supplies that we procure from third-party suppliers. In general, supplies of raw materials and purchased parts are adequate to meet our requirements.

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INTELLECTUAL PROPERTY

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We seek to protect our proprietary technology and inventions through patents and other proprietary-right protection, and also rely on trademark laws to protect our brand. However, we do not regard ourselves as materially dependent on patents for the maintenance of our competitive position. We also rely on trade secrets, proprietary know-how and continuing technological innovation to remain competitive.

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REGULATION

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Our businesses must comply with and are affected by various government regulations that impact our operating costs, profit margins and our internal organization and operation of our businesses. We deal with numerous U.S. government agencies and entities, including all branches of the U.S. military and the DoD. Therefore, we must comply with and are affected by laws and regulations relating to the formation, administration, and performance of U.S. government and other contracts. These laws and regulations, among other things, include the Federal Acquisition Regulations and all department and agency supplements, which comprehensively regulate the formation, administration and performance of U.S. government contracts. These and other federal regulations require certification and disclosure of cost or pricing data in connection with contract negotiations for certain types of contracts, define allowable and unallowable costs, govern reimbursement rights under cost-based contracts, and restrict the use, dissemination and exportation of products and information classified for national security purposes. For additional discussion of government contracting laws and regulations and related matters, see “Risk factors” and “Business—Industry Considerations” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies, Estimates and Judgments—Revenue Recognition” with respect to pricing and revenue under government contracts.

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Our business is subject to a range of foreign, federal, state and local laws and regulations regarding environmental protection and employee health and safety, including those that govern the emission and discharge of hazardous or toxic materials into the environment and the generation, storage, treatment, handling, use, transportation and disposal of such materials. From time to time, we have been named as a potentially responsible party at third-party waste disposal sites. We do not currently expect compliance with such laws and regulations to have a material effect upon our capital expenditures, earnings or competitive position. However, such laws and regulations are complex, change frequently and have tended to become increasingly stringent over time. Accordingly, we cannot assure that such laws and regulations will not have a material effect on our business in the future.

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OTHER MATTERS

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We do not generally engage in any business that is seasonal in nature. Since our revenues are generated primarily from work on contracts performed by our employees and subcontractors, first quarter revenues tend to be lower than the other three quarters due to our policy of providing many of our employees more holidays in the first quarter, compared to other quarters of the year. The U.S. government’s fiscal year ends on September 30 of each year. It is not uncommon for U.S. government agencies to award extra tasks or complete other contract actions in the weeks before the end of a fiscal year in order to avoid the loss of unexpended funds. These are not necessarily consistent patterns and depend upon actual activities in any given year.

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We employed approximately 6,200 persons at September 30, 2019.

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Our domestic products and services are sold almost entirely by our employees. Overseas sales are made either directly or through representatives or agents.

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vulnerable to adverse changes in our revenues, income and cash flows if a significant number of our government contracts, subcontracts or prospects are delayed or canceled for budgetary or other reasons.

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The factors that could cause us to lose these contracts and could decrease our backlog or otherwise materially harm our business, prospects, financial condition or results of operations include:

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In addition, some of our international work is done at the request and at the expense of the U.S. government and its agencies. Therefore, risks associated with performing work for the U.S. government and its agencies may also apply to our international contracts.

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Government spending priorities and terms may change in a manner adverse to our businesses.

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At times, our businesses have been adversely affected by significant changes in U.S. and foreign government spending during periods of declining budgets. A significant decline in overall spending, or the decision not to exercise options to renew contracts, or the loss of or substantial decline in spending on a large program in which we participate could materially adversely affect our business, prospects, financial condition or results of operations. For example, the U.S. defense and national security budgets in general, and spending in specific agencies with which we work, such as those that are a part of the DoD, have declined from time to time for extended periods, resulting in program delays, program cancellations and a slowing of new program starts. Future levels of expenditures and authorizations for defense-related programs by the U.S. and foreign governments may decrease, remain constant or shift to programs in areas where we do not currently provide products or services, thereby reducing the chances that we will be awarded new contracts.

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Even though our contract periods of performance for a program may exceed one year, Congress and certain foreign governments must usually approve funds for a given program each fiscal year and may significantly reduce funding of a program in a particular year. Significant reductions in these appropriations or the amount of new defense contracts awarded may affect our ability to complete contracts, obtain new work and grow our business. Congress and such foreign governments do not always enact spending bills by the beginning of the new fiscal year. Such delays leave the affected agencies under-funded which delays their ability to contract. Future delays and uncertainties in funding could impose additional business risks on us.

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In addition, the DoD has an increased emphasis on awarding contracts to small businesses and awarding shorter duration contracts, each of which has the potential to reduce the amount of revenue we could otherwise earn from such contracts. Shorter duration contracts lower our backlog numbers and increase the risk associated with re-competing for a contract, as we would need to do so more often. In addition, as we may need to expend capital resources at higher levels upon the award of a new contract, the shorter the duration of the contract, the less time we have to recoup such expenditures and turn a profit under such contract.

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Our contracts with government agencies may be terminated or modified prior to completion, which could adversely affect our business.

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Government contracts typically contain provisions and are subject to laws and regulations that give the government agencies rights and remedies not typically found in commercial contracts, including providing the government agency with the ability to unilaterally:

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Most U.S. government agencies and some other agencies with which we contract can terminate their contracts with us for convenience, and in that event we generally may recover only our incurred or committed costs, settlement expenses and profit on the work completed prior to termination. If an agency terminates a contract with us for default, we may be denied any recovery and may be liable for excess costs incurred by the agency in procuring undelivered items from an alternative source. We may receive show-cause or cure notices under contracts that, if not addressed to the agency’s satisfaction, could give the agency the right to terminate those contracts for default or to cease procuring our services under those contracts.

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In the event that any of our contracts were to be terminated or adversely modified, there may be significant adverse effects on our revenues, operating costs and income that would not be recoverable.

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We have made assumptions concerning behavior by transportation authorities which may not hold true over time.

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In our transportation business we have made certain assumptions that support the growth of the business. For example, we have assumed that governments will continue to charge passengers for using public transit. We have also assumed that transportation agencies will continue to outsource operations and services. Should these assumptions not hold true, our transportation business could experience a material loss of business.

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The use of ride sharing, microtransit, and other shared mobility services and the development of autonomous vehicles could erode the demand for traditional public transit.

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Ride sharing, microtransit, and other shared mobility services are creating options for public transit patrons which may be leading to the decline of ridership in some markets. The development and acceptance of autonomous vehicles could also lead to a decline in ridership for public transit systems. If these trends accelerate or expand, public transit agencies may decide to defer or reduce plans to upgrade their fare collection systems and our prospects for growth in our transportation business could diminish.

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Failure to retain existing contracts or win new contracts under competitive bidding processes may adversely affect our revenue.

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We obtain most of our contracts through a competitive bidding process, and substantially all of the business that we expect to seek in the foreseeable future likely will be subject to a competitive bidding process. Competitive bidding presents a number of risks, including:

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We may not be afforded the opportunity in the future to bid on contracts that are held by other companies and are scheduled to expire if the agency decides to extend the existing contract. If we are unable to win particular contracts that are awarded through the competitive bidding process, we may not be able to operate in the market for services that are provided under those contracts for a number of years. If we win a contract, and upon expiration the customer requires further services of the type provided by the contract, there is frequently a competitive rebidding process and there can be no assurance that we will win any particular bid, or that we will be able to replace business lost upon expiration or completion of a contract.

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As a result of the complexity and scheduling of contracting with government agencies, we occasionally incur costs before receiving contractual funding by the government agency. In some circumstances, we may not be able to recover these costs in whole or in part under subsequent contractual actions.

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In addition, the customers currently serviced by our CTS segment are finite in number. The loss of any one of these customers, or the failure to win replacement awards upon expiration of contracts with such customers, could adversely impact us.

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If we are unable to consistently retain existing contracts or win new contract awards, our business, prospects, financial condition and results of operations will be adversely affected.

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Many of our U.S. government customers spend their procurement budgets through multiple-award or ID/IQ contracts, under which we are required to compete among the awardees for post-award orders. Failure to win post-award orders could affect our ability to increase our sales.

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The U.S. government can select multiple winners under multiple-award contracts, federal supply schedules and other agency-specific ID/IQ contracts, as well as award subsequent purchase orders among such multiple winners. This means that there is no guarantee that these ID/IQ, multiple-award contracts will result in the actual orders equal to the ceiling value under the contract, or result in any actual orders. We are only eligible to compete for work (purchase orders and delivery orders) as an awardee pursuant to government-wide acquisition contracts already awarded to us. Our failure to compete effectively in this procurement environment could reduce our sales, which would adversely affect our business, results of operations and financial condition.

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Government audits of our contracts could result in a material charge to our earnings, have a negative effect on our cash position following an audit adjustment or adversely affect our ability to conduct future business.

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U.S. government agencies, including the DoD and others, routinely audit and review a contractor’s performance on government contracts, contract costs, indirect rates and pricing practices, and compliance with applicable contracting and procurement laws, regulations and standards. Based on the results of such audits, the relevant government agency could

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adjust our contract costs, and any costs found to be unreasonable, improperly allocated, or unallowable under government cost accounting standards or contractual provisions will not be reimbursed. The government could also potentially refuse to agree to our proposed unit prices if the auditing agency does not find them to be “fair and reasonable.” The government may also demand that we refund what the government claims are any excess proceeds we received on particular items where the government claims we did not properly disclose required information in negotiating the unit price.

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The DoD, in particular, also reviews the adequacy of, and compliance with, our internal control systems and policies, including our purchasing, accounting, financial capability, pricing, labor pool, overhead rate and management information systems. Our failure to obtain an “adequate” determination of our various accounting and management internal control systems from the responsible U.S. government agency could significantly and adversely affect our business, including our ability to bid on new contracts and our competitive position in the bidding process. Failure to comply with applicable contracting and procurement laws, regulations and standards could also result in the U.S. government imposing penalties and sanctions against us, including suspension of payments and increased government scrutiny that could delay or adversely affect our ability to invoice and receive timely payment on contracts or perform contracts, or could result in suspension or debarment from competing for contracts with the U.S. government. In addition, we could suffer serious harm to our reputation if allegations of impropriety were made against us, whether or not true.

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In addition, transit authorities have the right to audit our work under their respective contracts. If, as the result of an adverse audit finding, we were suspended, debarred, proposed for debarment, or otherwise prohibited from contracting with the U.S. government, any significant government agency or a transit authority terminated its contract with us, or our reputation or relationship with such agencies and authorities was impaired or they otherwise ceased doing business with us or significantly decreased the amount of business done with us, it would adversely affect our business, results of operations and financial condition.

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Our international business exposes us to additional risks, including exchange rate fluctuations, foreign tax and legal regulations and political or economic instability that could harm our operating results.

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Our international operations subject us to risks associated with operating in and selling products or services in foreign countries, including:

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Our foreign subsidiaries generally enter into contracts and make purchase commitments that are denominated in foreign currencies. Accordingly, we are exposed to fluctuations in exchange rates, which could have a significant impact on our results of operations. We have no control over the factors that generally affect this risk, such as economic, financial and political events and the supply of and demand for applicable currencies. While we use foreign exchange forward and option contracts to hedge significant contract sales and purchase commitments that are denominated in foreign currencies, our hedging strategy may not prevent us from incurring losses due to exchange fluctuations.

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The impacts of the United Kingdom’s proposed withdrawal from the European Union (EU) may have a negative effect on global economic conditions, financial markets and our business.

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In June 2016, a majority of voters in the United Kingdom elected to withdraw from the EU in a national referendum. In March 2017, the United Kingdom formally notified the European Union of its intention to withdraw pursuant to Article 50 of the Lisbon Treaty. The referendum was advisory, and the terms of any withdrawal are subject to a negotiation period that is ongoing with a possible further extension to January 31, 2020. The referendum has created significant uncertainty about the future relationship between the United Kingdom and the EU with a number of outcomes still possible.

These developments, or the perception that any of them could occur, have had and may continue to have a material adverse effect on global economic conditions and the stability of global financial markets, and could significantly reduce global market liquidity and restrict the ability of key market participants to operate in certain financial markets. Asset valuations, currency exchange rates and credit ratings have been and may continue to be subject to increased market volatility. Lack of clarity about future United Kingdom laws and regulations as the United Kingdom determines which EU laws to replace or replicate in the event of a withdrawal, could depress economic activity, restrict our access to capital or adversely affect our contracts or relationships with customers in the United Kingdom or elsewhere in the European economic area. For example, our total sales to customers in the United Kingdom accounted for $218.2 million, $240.7 million and $219.4 million of our consolidated sales in 2019, 2018 and 2017, respectively. If the United Kingdom and the EU are unable to negotiate acceptable withdrawal terms, barrier-free access between the United Kingdom and other EU member states or among the European economic area overall could be diminished or eliminated. Any of these factors could have a material adverse effect on our business, financial condition and results of operations.

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Our business and stock price may be adversely affected if our internal control over financial reporting is not effective.

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The accuracy of our financial reporting is dependent on the effectiveness of our internal controls. We are required to provide a report from management to our shareholders on our internal control over financial reporting that includes an assessment of the effectiveness of these controls. Internal control over financial reporting has inherent limitations, including human error, the possibility that controls could be circumvented or become inadequate because of changed conditions, and fraud. Because of these inherent limitations, internal control over financial reporting might not prevent or detect all misstatements or fraud. If we cannot maintain and execute adequate internal control over financial reporting or implement required new or improved controls that provide reasonable assurance of the reliability of the financial reporting and preparation of our financial statements for external use, we could suffer harm to our reputation, incur incremental compliance costs, fail to meet our public reporting requirements on a timely basis, be unable to properly report on our business and our results of operations, or be required to restate our financial statements, and our results of operations, our share price and our ability to obtain new business could be materially adversely affected.

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We are subject to new and evolving laws and regulations governing personal data privacy both in the United States and internationally, which may expose us to legal claims, penalties, increased costs of business, and other harm to our business.

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The changing legal landscape in the area of data privacy may affect the way we do business or impose increased costs. As an example, the EU’s General Data Protection Regulation (GDPR) was implemented in May 2018 and has created a variety of new compliance obligations as well as increased financial penalties for noncompliance (which include fines up to 4% of global turnover of the preceding financial year or €20 million, whichever is greater, for serious violations). While there is still significant uncertainty around the United Kingdom’s exit from the EU, the United Kingdom privacy obligations will remain substantially similar to those in the GDPR. Noncompliance with such laws could result in fines, legal claims, loss of contracts and reputational harm.

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We may not be able to receive the necessary licenses required for us to sell our export-controlled products and services overseas. In addition, the loss of our registration as either an exporter or a broker under the International Traffic in Arms Regulations (ITAR) or the Export Administration Regulations (EAR), would adversely affect our business, results of operations and financial condition.

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U.S. government agencies, primarily the Directorate of Defense Trade Controls within the State Department and the Bureau of Industry Security within the U.S. Department of Commerce, must license shipments of certain export-controlled products that we export. These licenses are required due to both the products we export and to the foreign customers we service. If we do not receive a license for an export-controlled product, we cannot ship that product. We cannot be sure of our ability to gain any licenses required to export our products, and failure to receive a required license would eliminate our ability to make that sale. A delay in obtaining the necessary licenses to sell our export-controlled products abroad could result in delayed deliveries and delayed recognition of revenue, which could cause us reputational damage and could result in a customer’s decision not to do business with us in the future. We may also be subject to inquiries by such U.S. government agencies relating to issues involving the export-controlled products and services we export and failure to satisfactorily resolve such inquiries would adversely affect our business, results of operations and financial condition.

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In addition to obtaining a license for certain of our exports outside of the United States, we are also required to maintain a standing registry under the ITAR and the EAR as an exporter. We operate as an exporter when we ship certain products to our customers outside the United States. If we were to lose our registration as an exporter under the ITAR or the EAR, we would not be able to sell export-controlled products abroad, which would adversely affect our business, results of operations and financial condition.

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The loss of required licenses from the Bureau of Alcohol, Tobacco, Firearms and Explosives could limit our ability to perform on contracts requiring the use of controlled firearms.

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In our training business we use certain firearms which are regulated by the Bureau of Alcohol, Tobacco, Firearms and Explosives. If we fail to properly manage the firearms pursuant to the regulations, we could face fines and the possible

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loss of the licenses. The loss of the licenses could result in our inability to perform on certain contracts, which would have an adverse business, reputational and financial impact.

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Our operating margins may decline under our fixed-price contracts if we fail to accurately estimate the time and resources necessary to satisfy our obligations.

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Approximately 97% of our revenues in fiscal year 2019 were from fixed-price contracts under which we bear the risk of cost overruns. Our profits are adversely affected if our costs under these contracts exceed the assumptions we used in bidding for the contract. We may therefore need to absorb any increases in our supply costs and may not be able to pass such costs increases along to our customers. Sometimes we are required to fix the price for a contract before the project specifications are finalized, which increases the risk that we will incorrectly price these contracts. The complexity of many of our engagements makes accurately estimating the time and resources required more difficult.

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We may not receive the full amounts estimated under the contracts in our total backlog, which could reduce our sales in future periods below the levels anticipated and which makes backlog an uncertain indicator of future operating results.

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As of September 30, 2019, our total backlog was approximately $3.4 billion. Orders may be cancelled, and scope adjustments may occur, and we may not realize the full amounts of sales that we may anticipate in our backlog numbers. There can be no assurance that the projects underlying the contracts and purchase orders will be placed or completed or that amounts included in our backlog ultimately will be billed and collected. Additionally, the timing of receipt of sales, if any, on contracts included in our backlog could change. The failure to realize amounts reflected in our backlog could materially adversely affect our business, financial condition and results of operations in future periods.

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We may be liable for civil or criminal penalties under a variety of complex laws and regulations, and changes in governmental regulations could adversely affect our business and financial condition.

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Our businesses must comply with and are affected by various U.S. government and foreign regulations that impact our operating costs, profit margins and our internal organization and operation of our businesses. These regulations affect how we do business and, in some instances, impose added costs. Any changes in applicable laws could adversely affect our business and financial condition. Any material failure to comply with applicable laws could result in contract termination, price or fee reductions or suspension or debarment from contracting. The more significant regulations include:

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Many of our U.S. government contracts contain organizational conflicts of interest clauses that may limit our ability to compete for or perform certain other contracts. Organizational conflicts of interest arise when we engage in activities that provide us with an unfair competitive advantage. A conflict of interest issue that precludes our competition for or performance on a significant program or contract could harm our prospects and negative publicity about a conflict of interest issue could damage our reputation.

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In addition, the U.S. and foreign governments may revise existing contract rules and regulations or adopt new contract rules and regulations at any time and may also face restrictions or pressure regarding the type and amount of services it may obtain from private contractors. For instance, Congressional legislation and initiatives dealing with procurement reform and shifts in the buying practices of U.S. government agencies resulting from those proposals could have adverse effects on government contractors, including us. Any of these changes could impair our ability to obtain new contracts or renew contracts under which we currently perform when those contracts are eligible for re-competition. Any new contracting methods could be costly or administratively difficult for us to implement, which would adversely affect our business, results of operations and financial condition.

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Our failure to identify, attract and retain qualified technical and management personnel could adversely affect our existing businesses, financial condition and results of operations.

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We may not be able to identify, attract or retain qualified technical personnel, including engineers, computer programmers and personnel with security clearances required for classified work, or management personnel to supervise such activities that are necessary for maintaining and growing our existing businesses, which could adversely affect our financial condition and results of operations. The technically complex nature of our operations results in difficulties finding qualified staff. In our defense businesses especially, experienced personnel possessing required security clearances are finite in number. A number of our employees maintain a top-secret clearance level. Obtaining and maintaining security clearances for employees involves a lengthy process, and it is difficult to identify, recruit and retain employees who already hold security clearances. If our cleared employees lose or are unable to timely obtain security clearances or we lose a facility clearance, our U.S. government customers may terminate their contracts with us or decide not to renew such contracts upon their expiration. As a result, to the extent we cannot obtain or maintain the required security clearances for a particular contract, or we fail to obtain them on a timely basis, we may not generate the sales anticipated from the contract, which could harm our operating results. To the extent we are not able to obtain facility security clearances or engage employees with the required security clearances for a particular contract, we will be unable to perform that contract and we may not be able to compete for or win new awards for similar work.

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In addition, in our transportation business, we frequently need to recruit new highly skilled people into technical roles in order to perform our contractual obligations. An inability to recruit such people and quickly integrate them into the business may cause us to not be able to meet contractual deadlines which could lead to the imposition of liquidated damages or termination of our contracts for default in certain cases.

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Our business could be negatively affected by cyber or other security threats or other disruptions.

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We face cyber threats, threats to the physical security of our facilities and employees, including senior executives, and terrorist acts, as well as the potential for business disruptions associated with information technology failures, damaging weather or other acts of nature, and pandemics or other public health crises, which may adversely affect our business.

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We routinely experience cyber security threats, threats to our information technology infrastructure and attempts to gain access to our company sensitive information, as do our customers, suppliers, subcontractors and joint venture partners. We may experience similar security threats at customer sites that we operate and manage as a contractual requirement.

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Prior cyber-attacks directed at us have not had a material impact on our financial results, and we believe our threat detection and mitigation processes and procedures are robust. However, because of the evolving nature and sophistication of security threats, which can be difficult to detect, there can be no assurance that our policies, procedures and controls have detected or will detect or prevent any of these threats and we cannot predict the full impact of any such past or future incident.

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In addition, we could be impacted by cyber security threats or other disruptions or vulnerabilities found in products we use or in the systems of our customers, suppliers, subcontractors and joint venture partners that are used in connection with our business. Although we work cooperatively with these third parties to seek to minimize the impacts of cyber threats, other security threats or business disruptions, in addition to our internal processes, procedures and systems, we must also rely on the safeguards put in place by those entities.

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The costs related to cyber or other security threats or disruptions may not be fully mitigated by insurance or other means. Occurrence of any of these events could adversely affect our internal operations, the services we provide to customers, loss of competitive advantages derived from our R&D efforts, early obsolescence of our products and services, our future financial results, our reputation or our stock price. The occurrence of any of these events could also result in civil and/or criminal liabilities.

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Internal system or service failures could disrupt our business and impair our ability to effectively provide our services and products to our customers, which could damage our reputation and adversely affect our revenues and profitability.

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Any system or service disruptions, if not anticipated and appropriately mitigated, could have a material adverse effect on our business. We are also subject to systems failures, including network, software or hardware failures, whether caused by us, our customers, suppliers, subcontractors or joint venture partners, cybersecurity threats, malicious insiders, power shortages, terrorist acts or other events, which could cause loss of data and interruptions or delays in our business, cause us to incur remediation costs, subject us to claims and damage our reputation. In addition, the failure or disruption of our systems or services, or those of our customers, suppliers, subcontractors or joint venture partners, could cause us to interrupt or suspend our operations or otherwise adversely affect our business. Our insurance may be inadequate to compensate us for all losses that may occur as a result of any system or operational failure or disruption and, as a result, our revenues and profitability could be adversely affected.

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We may incur significant costs in protecting our intellectual property which could adversely affect our profit margins. Our inability to obtain, maintain and enforce our patents and other proprietary rights could adversely affect our businesses’ prospects and competitive positions.

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We seek to protect our proprietary technology and inventions through patents and other proprietary-right protection, and also rely on trademark laws to protect our brand. However, we may fail to obtain the intellectual property rights necessary to provide us with a competitive advantage, and any of our owned or licensed intellectual property rights could be challenged, invalidated, circumvented, infringed or misappropriated.

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We may also fail to apply for or obtain intellectual property protection in important foreign countries, and the laws of some foreign countries do not protect proprietary rights to the same extent as the laws of the United States. If we are unable to obtain or maintain these protections, we may not be able to prevent third parties from using our technology and inventions, which could adversely affect our business.

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The U.S. government, and the DoD in particular, has become more aggressive in seeking rights in all technical data, computer software, and computer software documentation that we may deliver under U.S. government contracts. The U.S. government generally takes the position that it has the right to royalty-free use of technologies that are developed under U.S. government contracts. Those rights include, but are not limited to, the ability of the government to provide that technical data, computer software, and computer software documentation to our competitors which may result in “leveling the playing field” for competitors and reducing our incumbency advantage during re-procurements for those goods or services. Thus, we may not have the right to prohibit the U.S. government from using certain technologies developed by us, and we may not be able to prohibit third party companies, including our competitors, from using those technologies in providing products and services to the U.S. government.

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We may incur significant expense in obtaining, maintaining, defending and enforcing our intellectual property rights. We may fail to take the actions necessary to enforce our intellectual property rights and even if we attempt to enforce such rights, we may ultimately be unsuccessful, and such efforts may result in our intellectual property rights being challenged, limited in scope, or declared invalid or unenforceable. Also, some aspects of our business and services may rely on technologies and software developed by or licensed from third parties, and we may not be able to maintain our relationships with such third parties or enter into similar relationships in the future on reasonable terms or at all.

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We also rely on trade secrets, proprietary know-how and continuing technological innovation to remain competitive. We have taken measures to protect our trade secrets and know-how, including seeking to enter into confidentiality agreements with our employees, consultants and advisors, but the measures we have taken may not be sufficient. For example, confidentiality agreements may not provide adequate protection or may be breached. We generally control and limit access to our product documentation and other proprietary information, but other parties may independently develop our know-how or otherwise obtain access to our technology, which could adversely affect our businesses’ prospects and competitive position.

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Assertions by third parties that we violate their intellectual property rights could have a material adverse effect on our business, financial condition and results of operations.

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Third parties may claim that we, our customers, licensees or parties indemnified by us are infringing upon or otherwise violating their intellectual property rights. Such claims may be made by competitors seeking to obtain a competitive advantage or by other parties. Additionally, in recent years, individuals and groups have begun purchasing intellectual property assets for the purpose of making claims of infringement and attempting to extract settlements from companies like ours.

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Any claims that we violate a third party’s intellectual property rights can be time consuming and costly to defend and distract management’s attention and resources, even if the claims are without merit. Such claims may also require us to redesign affected products and services, enter into costly settlement or license agreements or pay costly damage awards, or face a temporary or permanent injunction prohibiting us from marketing or providing the affected products and services. Even if we have an agreement to indemnify us against such costs, the indemnifying party may not have sufficient financial resources or otherwise be unable to uphold its contractual obligations. If we cannot or do not license the infringed technology on favorable terms or cannot or do not substitute similar technology from another source, our revenue and earnings could be adversely impacted.

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We compete primarily for government contracts against many companies that are larger, better capitalized and better known than us. If we are unable to compete effectively, our business and prospects will be adversely affected.

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Our businesses operate in highly competitive markets. Many of our competitors are larger, better financed and better-known companies who may compete more effectively than we can. In order to remain competitive, we must keep our capabilities technically advanced and compete on price and on value added to our customers. Our ability to compete may be adversely affected by limits on our capital resources and our ability to invest in maintaining and expanding our market share. Consolidation in the industries in which we operate, and government budget cuts may lead to pressure being placed on the margins we may earn on any contracts we win. In addition, should the transportation market move towards requiring contractors to provide up-front financing for contracts they are awarded (for example, our contract for the Chicago Open Standards Fare System and our contract for a fare payment system in Boston), we may need to compete more heavily on the basis of our financial strength or alternate financial structures, which may limit the contracts we can service at any one time.

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The terms of our financing arrangements may restrict our financial and operational flexibility, including our ability to invest in new business opportunities.

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At September 30, 2019 we had $200.0 million of senior unsecured notes payable to a group of insurance companies. We also have a committed revolving credit agreement with a group of financial institutions in the amount of $800.0 million which is scheduled to expire in April 2024 (Revolving Credit Agreement). The available line of credit is reduced by any letters of credit issued under the Revolving Credit Agreement. As of September 30, 2019, there were $195.5 million of borrowings under this agreement and there were letters of credit outstanding totaling $31.5 million, which reduce the available line of credit to $573.0 million. The $31.5 million of letters of credit includes both financial letters of credit and performance guarantees.

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Our revolving credit agreement and note purchase and private shelf agreement each contain a number of customary covenants, including requirements for us to maintain certain interest coverage and leverage ratios and restrictions on our and certain of our subsidiaries’ abilities to, among other things, incur additional debt, create liens, consolidate or merge with any other entity, or transfer or sell substantially all of their assets, in each case subject to certain exceptions and limitations.

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The occurrence of any event of default under these agreements may result in all of the indebtedness then outstanding becoming immediately due and payable, or the increase of the coupon rate for such indebtedness. For example, at March 31, 2017 we did not maintain the required leverage ratio. Therefore, in May 2017 certain terms and conditions of the Revolving Credit Agreement and note purchase and private shelf agreement were further revised to allow us to maintain

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a higher level of leverage as of March 31, 2017 and for the remainder of the 2017 fiscal year. The revisions to the agreements did not impact the required leverage ratios in fiscal 2018 or subsequent years.

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Additionally, we may continue to use alternative financing structures in order to fund certain projects related to the redevelopment of our corporate campus. Any such financing arrangements may further restrict our financial and operational flexibility.

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Our corporate campus redevelopment plan may be subject to certain unanticipated financial, environmental, regulatory, and construction risks that are beyond the scope of our typical business activities.

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We are in the process of developing our corporate campus in San Diego and this redevelopment project may be subject to various risks associated with real property development including but not limited to financing, compliance with environmental laws and regulations, obtaining permits and other governmental approvals, regulatory compliance, changes in market conditions, labor and material shortages, legal claims, delays in completion, distracting management’s and employees’ attention and resources, natural disasters, cost overruns, socio-political risks, and construction defects. Any of the abovementioned risks, or other risks generally associated with real property development, could increase our operational expenses, expose us to fines and penalties, disrupt our business operations, require us to expend additional resources, or expose us to other unanticipated liabilities that are not encountered in our typical business activities.

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Our development contracts may be difficult for us to comply with and may expose us to third-party claims for damages.

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We are often party to government and commercial contracts involving the development of new products and systems. These contracts typically contain strict performance obligations and project milestones. We cannot assure you we will comply with these performance obligations or meet these project milestones in the future. If we are unable to comply with these performance obligations or meet these milestones, our customers may terminate these contracts and, under some circumstances, recover damages or other penalties from us. If other parties elect to terminate their contracts or seek damages from us, it could materially harm our business and negatively impact our stock price.

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Our revenues could be less than expected if we are not able to deliver services or products as scheduled due to disruptions in supply.

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Since our internal manufacturing capacity is limited, we use third parties to supply certain products or components we use. While we use care in selecting our suppliers, we have less control over the reliability of supply, quality and price of products or components than if we manufactured them. In some cases, we obtain products from a sole supplier or a limited group of suppliers. Consequently, we risk disruptions in our supply of key products and components if our suppliers fail or are unable to perform because of shortages in raw materials, operational problems, strikes, natural disasters, financial condition or other factors. We may have disputes with our suppliers arising from, among other things, the quality of products and services or customer concerns about the supplier. If any of our suppliers fail to timely meet their contractual obligations or have regulatory compliance or other problems, our ability to fulfill our obligations may be jeopardized. Economic downturns can adversely affect a supplier’s ability to manufacture or deliver products. Further, suppliers may also be enjoined from manufacturing and distributing products to us as a result of litigation filed by third parties, including intellectual property litigation. If we were to experience difficulty in obtaining certain products, there could be an adverse effect on our results of operations, customer relationships and reputation. Additionally, our suppliers could also increase pricing of their products, which could negatively affect our ability to win contracts by offering competitive prices.

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Any material supply disruptions could adversely affect our ability to perform our obligations under our contracts and could result in cancellation of contracts or purchase orders, penalties, delays in realizing revenues, payment delays, as well as adversely affect our ongoing product cost structure.

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Failure to perform by our subcontractors could materially and adversely affect our contract performance and our ability to obtain future business.

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Our performance of contracts often involves subcontractors, upon which we rely to complete delivery of products or services to our customers. We may have disputes with subcontractors. A failure by a subcontractor to satisfactorily deliver products or services can adversely affect our ability to perform our obligations as a prime contractor. Any subcontractor performance deficiencies could result in the customer terminating our contract for default, which could expose us to liability for excess costs of re-procurement by the customer and have a material adverse effect on our ability to compete for other contracts.

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Our future success will depend on our ability to develop new products, systems and services that achieve market acceptance in our current and future markets.

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Both our commercial and government businesses are characterized by rapidly changing technologies and evolving industry standards. Accordingly, our performance depends on a number of factors, including our ability to:

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We believe that, in order to remain competitive in the future, we will need to continue to develop new products, systems and services, and in some cases transition to a product-oriented approach as opposed to our historical, project oriented approach, all of which will require the investment of significant financial resources. The need to make these expenditures could divert our attention and resources from other projects, and we cannot be sure that these expenditures ultimately will lead to the timely development of new products, systems or services. In recent years, we have spent an amount equal to approximately 3% to 5% of our annual sales on internal R&D efforts. There can be no assurances that this percentage will not increase should we require increased innovations to successfully compete in the markets we serve. We may also experience delays in completing development and introducing certain new products, systems or services in the future due to their design complexity. Any delays could result in increased costs of development or redirect resources from other projects. In addition, we cannot provide assurances that the markets for our products, systems or services will develop as we currently anticipate, which could significantly reduce our revenue and harm our business. Furthermore, we cannot be sure that our competitors will not develop competing products, systems or services that gain market acceptance in advance of ours, or that cause our existing products, systems or services to become non-competitive or obsolete, which could adversely affect our results of operations.

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If we deliver products or systems with defects, our reputation will be harmed, revenue from, and market acceptance of, our products and systems will decrease and we could expend significant capital and resources as a result of such defects.

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Our products and systems are complex and frequently operate in high-performance, challenging environments. Notwithstanding our internal quality specifications, our products and systems have sometimes contained errors, defects and bugs when introduced. If we deliver products or systems with errors, defects or bugs, our reputation and the market acceptance and sales of our products and systems would be harmed. Further, if our products or systems contain errors, defects or bugs, we may be required to expend significant capital and resources to alleviate such problems and incur significant costs for product recalls and inventory write-offs. Defects could also lead to product liability lawsuits against us or against our customers, and could also damage our reputation. We have agreed to indemnify our customers in some circumstances against liability arising from defects in our products and systems. In the event of a successful product liability claim, we could be obligated to pay damages significantly in excess of our product liability insurance limits.

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We face certain significant risk exposures and potential liabilities that may not be covered adequately by insurance or indemnity.

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We are exposed to liabilities that are unique to the products, systems and services we provide. A significant portion of our business relates to designing, developing, manufacturing, operating and maintaining advanced defense and transportation systems and products. New technologies associated with these systems and products may be untested or unproven. In addition, certain activities in connection with which our training systems are used or our services are provided are inherently dangerous.

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While in some circumstances we may receive indemnification from U.S. and foreign governments, and we maintain insurance for certain risks, the amount of our insurance or indemnity may not be adequate to cover all claims or liabilities, and we may be forced to bear substantial costs from an accident or incident. It also is not possible for us to obtain insurance to protect against all operational risks and liabilities. Substantial claims resulting from an incident in excess of the indemnification we receive from our insurance coverage would harm our financial condition, results of operations and cash flows. Moreover, any accident or incident for which we are liable, even if fully insured, could negatively affect our standing with our customers and the public, thereby making it more difficult for us to compete effectively, and could significantly impact the cost and availability of adequate insurance in the future.

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We may acquire other companies, which could increase our costs or liabilities or be disruptive to our business.

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Part of our strategy involves the acquisition of other companies. For example, from fiscal 2015 through fiscal 2019 we acquired GATR, DTECH, TeraLogics, Vocality, MotionDSP, Shield Aviation and Nuvotronics in connection with our strategic efforts to build and expand our C4ISR business. In fiscal 2019 we acquired GRIDSMART and Trafficware to complement our integrated traffic solutions business.

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We may not be able to integrate acquired companies successfully without substantial expense, delay or operational or financial problems. Such expenses, delays or operational or financial problems may include the following:

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As a result, the integration of acquired businesses may be costly and may adversely impact our results of operations and financial condition. Acquisitions also could result in dilutive issuances of equity securities or the incurrence of debt, which could adversely affect our operating results. In addition, we may not achieve the anticipated benefits from any acquisition, in which case our results of operations, business, and financial condition may suffer.

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Changes in future business or other market conditions could cause business acquisitions or investments and/or recorded goodwill or other long-term assets to become impaired, resulting in substantial losses and write-downs that would reduce our results of operations.

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As part of our strategy, we have in the past acquired, and expect to continue to acquire, from time to time, businesses, or a minority or majority interest in a business. These acquisitions or investments are made upon analysis and due diligence procedures designed to achieve a desired return or strategic objective. These procedures often involve certain assumptions and judgment in determining acquisition price. After acquisition, unforeseen issues could arise which adversely affect the anticipated returns or which are otherwise not recoverable as an adjustment to the purchase price. Even after careful integration efforts, actual operating results may vary significantly from initial estimates.

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A significant portion of the purchase price of companies we acquire may be allocated to acquired goodwill. We evaluate our recorded goodwill balances for potential impairment annually as of July 1, or when circumstances indicate that the carrying value may not be recoverable. Any goodwill impairment could result in substantial losses and write-downs that would reduce our results of operations. For more information on the accounting policies we have in place for impairment of goodwill, see our discussion under “Valuation of Goodwill” in Item 7 of this Form 10-K.

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Our employees or third-party contractors may engage in misconduct or other improper activities, which could harm our business, financial condition and results of operations.

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We are exposed to the risk of employee and third-party contractor fraud or other misconduct. Employee and third-party contractor misconduct could include intentionally failing to comply with U.S. government procurement regulations, engaging in unauthorized activities, attempting to obtain reimbursement for improper expenses, or submitting falsified time records, which could result in legal proceedings against us, lost contracts or reduced revenues.

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Employee and third-party contractor misconduct could also involve improper use of our customers’ sensitive or classified information, which could result in regulatory sanctions against us and serious harm to our reputation. Misconduct could also involve making payments, or offering something of value, to government officials or third parties that would expose us to being in violation of the Foreign Corrupt Practices Act, the UK Anti-Bribery Act or similar laws in other countries.

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It is not always possible to deter employee or third-party contractor misconduct, and the precautions we take to prevent and detect this activity may not be effective in controlling unknown or unmanaged risks or losses, which could harm our business, financial condition and results of operations. In addition, alleged or actual employee or third-party contractor misconduct could result in investigations or prosecutions of employees or third-party contractors engaged in the subject activities, which could result in unanticipated consequences or expenses and management distraction for us regardless of whether we are alleged to have any responsibility.

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Unanticipated changes in our tax provisions or exposure to additional tax liabilities could affect our profitability.

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Our business operates in many locations under government jurisdictions that impose taxes based on income and other criteria. Changes in domestic or foreign tax laws and regulations, or their interpretation, could result in higher or lower tax rates assessed, changes in the taxability of certain revenues or activities, or changes in the deductibility of certain expenses, thereby affecting our tax expense and profitability. In addition, audits by tax authorities could result in unanticipated increases in our tax expense.

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Continued narrowing of the definition of a “commercial item” for federal government contracting purposes could affect our profitability.

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If the federal government continues to narrow of the definition of a “commercial item” for government contracting purposes and increases the aggressiveness in challenging our assertions that items we furnish to the government as “commercial items” our profitability on the affected contracts could be reduced.

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Changes in accounting principles and guidance, or their interpretation, could result in unfavorable accounting charges or effects, including changes to previously filed financial statements, which could cause our stock price to decline.

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We prepare our consolidated financial statements in accordance with accounting principles generally accepted in the United States. These principles are subject to interpretation by the SEC and various bodies formed to create and interpret appropriate accounting principles and guidance. A change in these principles or guidance, or in their interpretations, may have a significant effect on our reported results, as well as our processes and related controls, and may retroactively affect previously reported results.

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For example, in May 2014, the Financial Accounting Standards Board issued Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers, as amended (commonly referred to as ASC 606). We adopted ASC 606 effective October 1, 2018 using the modified retrospective transition method. The adoption of ASC 606 resulted in a change in our significant accounting policy regarding revenue recognition and resulted in changes in our accounting policies regarding contract estimates, backlog, inventory, contract assets, long-term capitalized contract costs, and contract liabilities. The cumulative effect of applying the standard was an increase of $24.5 million to shareholders’ equity as of October 1, 2018. However, the adoption of ASC 606 or any other new or revised accounting standard could adversely affect our financial position or operating results in the future or may retroactively adversely affect previously reported results, which could cause our stock price to decline.

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For a discussion of the impact that the adoption of ASC 606 has had and is expected to have on our consolidated financial statements and related disclosures, see “Recently Adopted Accounting Pronouncements” in Note 1 of the Consolidated Financial Statements of this Form 10-K.

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Our results of operations have historically fluctuated and may continue to fluctuate significantly in the future, which could adversely affect our stock price.

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Our results of operations are affected by factors such as the unpredictability of contract awards due to the long procurement process for most of our products and services, the potential fluctuation of governmental agency budgets, any timing differences between our work performed and costs incurred under a contract and our ability to recognize revenue and generate cash flow from such contract, the time it takes for the new markets we target to develop and for us to develop and provide products and services for those markets, competition and general economic conditions. Our contract type/product mix and unit volume, our ability to keep expenses within budget and our pricing affect our operating margins. Significant growth in costs to complete our contracts may adversely affect our results of operations in future periods and cause our financial results to fluctuate significantly on a quarterly or annual basis. In addition, certain contracts in our CTS segment are structured such that we incur significant expenses during the design and build phases of the contract that are not offset by revenue recognized or cash flows generated under the contract until we deliver a product or perform operational or maintenance services during the latter phases of the contract. Consequently, we do not believe that comparison of our results of operations from period to period is necessarily meaningful or predictive of our likely future results of operations. In future financial periods our operating results or cash flows may be below the expectations of public market analysts or investors, which could cause the price of our stock to decline significantly.

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The funding and costs associated with our pension plans may cause our earnings, cash flows, and shareholders’ equity to fluctuate significantly from year to year.

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Certain of our employees in the U.S. are covered by a noncontributory defined benefit pension plan and approximately one-half of our European employees are covered by a contributory defined benefit pension plan. The impact of these plans on our GAAP earnings may be volatile in that the amount of expense we record for our pension plans may materially change from year to year because those calculations are sensitive to changes in several key economic assumptions, including discount rates, inflation, salary growth, expected return on plan assets, retirement rates and mortality rates. Changes in these factors affect our plan funding, cash flows, earnings, and shareholders’ equity.

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We have taken certain actions to mitigate the effect of our defined benefit pension plans on our financial results. For example, benefits under the U.S. plan were frozen as of December 31, 2006, so no new benefits have accrued after that

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date, and benefits under the European plan were frozen as of September 30, 2010, though the European plan is a final pay plan, which means that benefits will be adjusted for increases in the salaries of participants until their retirement or departure from the company. U.S. and European employees hired subsequent to the dates of freezing of the respective plans are not eligible for participation in the defined benefit plans. For more information on how these factors could impact earnings, cash flows and shareholders’ equity, see “Pension costs” in Item 7 of this Form 10-K.

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We are subject to various investigations, claims and litigation that could ultimately be resolved against us.

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The size, nature and complexity of our business make us susceptible to investigations, claims, and litigation, particularly those involving governments. We are and may become subject to investigations, claims and administrative, civil or criminal litigation globally and across a broad array of matters, including, but not limited to, government contracts, false claims, products liability, fraud, environmental, intellectual property, tax, export/import, anti-corruption, anti-trust, breach of contract, labor, wage and hour, health and safety, employee benefits and plans, including plan administration, and improper payments. These matters could divert financial and management resources; result in fines, penalties, compensatory, treble or other damages or non-monetary relief; and otherwise disrupt our business. Government regulations also provide that certain allegations against a contractor may lead to suspension or debarment from government contracts or suspension of export privileges for a company or one or more of its components. Suspension, debarment, or being proposed for debarment could have a material adverse effect on our company because of our reliance on government contracts and export authorizations. An investigation claim or litigation, even if fully indemnified or insured, could also negatively impact our reputation among our customers and the public, and make it more difficult for us to compete effectively or obtain adequate insurance in the future. Investigations, claims or litigation could have a material adverse effect on our financial position, results of operations and/or cash flows.

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Risks relating to our common stock

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The price of our common stock may fluctuate significantly

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An active, liquid and orderly market for our common stock may not be sustained, which could depress the trading price of our common stock.

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Volatility in the market price of our common stock may prevent you from being able to sell your shares at or above the price you paid for your shares or at all. The market price of our common stock could fluctuate significantly for various reasons, which include:

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In addition, the stock market in general has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. Broad market and industry factors may seriously affect the market price of our common stock, regardless of actual operating performance. In addition, in the past, following periods of volatility in the overall market and the market price of a particular company’s securities, securities class action litigation has often been instituted against these companies. If litigation is instituted against us, it could result in substantial costs and a diversion of our management’s attention and resources.

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Your percentage ownership in us may be diluted by future issuances of capital stock, which could reduce your influence over matters on which shareholders vote.

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Our board of directors has the authority, without action or vote of our shareholders, to issue all or any part of our authorized but unissued shares of common stock, including shares issuable upon the exercise of options and the vesting of restricted stock units, shares that may be issued in the future under our Amended and Restated 2015 Incentive Award Plan or shares of our authorized but unissued preferred stock. For example, in December 2018, we completed the sale of approximately 3.8 million shares of our common stock in an underwritten public offering. Issuances of common stock or preferred voting stock could reduce your influence over matters on which our shareholders vote and, in the case of issuances of preferred stock, likely could result in your interest in us being subject to the prior rights of holders of that preferred stock.

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Provisions in our charter documents and Delaware law could delay or prevent a change in control of Cubic.

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Provisions of our amended and restated certificate of incorporation and amended and restated bylaws may discourage, delay or prevent a merger, acquisition or other change in control that shareholders may consider favorable, including transactions in which shareholders might otherwise receive a premium for their shares. In addition, these provisions may frustrate or prevent any attempt by our shareholders to replace or remove our current management by making it more difficult to replace or remove our board of directors. These provisions include:

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In addition, Delaware law prohibits a publicly held Delaware corporation from engaging in a business combination with an interested shareholder, generally a person who, together with its affiliates, owns or within the last three years has owned 15% of our voting stock, for a period of three years after the date of the transaction in which the person became an interested shareholder, unless the business combination is approved in a prescribed manner. Accordingly, Delaware law may discourage, delay or prevent a change in control of our company.

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If we are unable to pay semiannual dividends at the targeted level, our reputation and stock price may be harmed.

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We have consistently paid cash dividends to our shareholders since 1971, and, in fiscal 2019, we paid $8.4 million of cash dividends to our shareholders.

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The dividend program requires the use of a portion of our cash flows. Our ability to continue to pay semiannual dividends will depend on our ability to generate sufficient cash flows from operations in the future. This ability may be subject to certain economic, financial, competitive and other factors that are beyond our control. Our board of directors may, at its discretion, decrease the targeted semiannual dividend amount or entirely discontinue the payment of dividends at any time. Any failure to pay dividends after we have announced our intention to do so may adversely affect our reputation and investor confidence in us, and negatively impact our stock price.

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CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING INFORMATION

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This report, including the documents incorporated by reference herein, contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that are subject to the safe harbor created by such Act. Any statements about our expectations, beliefs, plans, objectives, assumptions, future events or our future financial and/or operating performance, including those concerning new programs and growth in the markets in which we do business, Goal 2020 and our five key priorities, increases in demand for our products and for fully integrated systems, retention of existing contracts and receipt of new contracts, the development of new products, systems and services, expansion of our automated payment and fare collection systems and services, maintenance of long-term relationships with our existing customers, expansion of our service offerings and customer base for services, maintenance of a diversified business mix, expansion of our international footprint, strategic acquisitions, U.S. and foreign government funding, supplies of raw materials and purchased parts, cash needs, financial condition, liquidity, prospects, and the trends that may affect us or the industries in which we operate, are not historical and may be forward-looking.

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These statements are often, but not always, made through the use of words or phrases such as “may,” “will,” “anticipate,” “estimate,” “plan,” “project,” “continuing,” “ongoing,” “expect,” “believe,” “intend,” “predict,” “potential,” “opportunity” and similar words or phrases or the negatives of these words or phrases. These forward-looking statements involve risks, estimates, assumptions and uncertainties, including those discussed in “Risk factors” and elsewhere throughout this report and in the documents incorporated by reference herein, that could cause actual results to differ materially from those expressed in these statements.

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Such risks, estimates, assumptions and uncertainties include, among others: our dependence on U.S. and foreign government contracts; delays in approving U.S. and foreign government budgets and cuts in U.S. and foreign government defense expenditures; the ability of certain government agencies to unilaterally terminate or modify our contracts with them; the effects of potential sequestration on our contracts; our assumptions covering behavior by public transit authorities; our ability to successfully integrate new companies into our business and to properly assess the effects of such integration on our financial condition; the U.S. government’s increased emphasis on awarding contracts to small businesses, and our ability to retain existing contracts or win new contracts under competitive bidding processes; negative audits by the U.S. government; the effects of politics and economic conditions on negotiations and business dealings in the various countries in which we do business or intend to do business; competition and technology changes in the defense and transportation industries; the change in the way transit agencies pay for transit systems:

our ability to accurately estimate the time and resources necessary to satisfy obligations under our contracts; the effect of adverse regulatory changes on our ability to sell products and services; our ability to identify, attract and retain qualified employees; our failure to properly implement our enterprise resource planning system; unforeseen problems with the implementation and maintenance of our information systems; business disruptions due to cyber security threats, physical threats, terrorist acts, acts of nature and public health crises; our involvement in litigation, including litigation related to patents, proprietary rights and employee misconduct; our reliance on subcontractors and on a limited number of third parties to manufacture and supply our products; our ability to comply with our development contracts and to successfully develop, introduce and sell new products, systems and services in current and future markets; defects in, or a lack of adequate coverage by insurance or indemnity for, our products and systems; changes in U.S. and foreign tax laws, exchange rates or our economic assumptions regarding our pension plans; unanticipated issues related to the restatement of our financial statements; our ability to monitor and evaluate the effectiveness of new processes and procedures we

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have implemented to remediate the material weaknesses that existed in our internal control over financial reporting; and other factors discussed elsewhere in this report.

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Because the risks, estimates, assumptions and uncertainties referred to above could cause actual results or outcomes to differ materially from those expressed in any forward-looking statements made by us or on our behalf, you should not place undue reliance on any forward-looking statements. In addition, past financial and/or operating performance is not necessarily a reliable indicator of future performance and you should not use our historical performance to anticipate results or future period trends.

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Further, any forward-looking statement speaks only as of the date on which it is made, and, except as required by law, we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible for us to predict which factors will arise. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.

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CGD: Abu Dhabi, UAE; Amesbury, UK; Auckland, New Zealand; Austin, TX; Beavercreek, OH; Chippenham Wilshire, UK; Fyschwyck, Australia; Helsinger, Denmark; Orlando, FL; Riyadh, Saudi Arabia; Rome, Italy; Shackleford, UK; Singapore, Asia; Tijuana, Mexico; and Townsville, Australia.

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The table below quantifies the impact of adopting ASC 606 on sales, operating income, net income from continuing operations attributable to Cubic, for the year ended September 30, 2019 (in millions):

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Sales: Our sales increased 24% to $1.496 billion in fiscal year 2019 from $1.203 billion in 2018. The increases in sales for CTS and CMS of 27% and 59%, respectively, were partially offset by a decrease in CGD sales of 2%. Sales from businesses we acquired in 2019 and 2018 amounted to $83.3 million and $0.6 million for fiscal years 2019 and 2018, respectively. The average exchange rates between the prevailing currencies in our foreign operations and the U.S. dollar between 2018 and 2019 had a negative impact on sales of $25.3 million, which was 2% of 2019 sales. The impacts of changes in foreign currency exchange rates on sales from 2018 to 2019 predominantly affected our CTS segment results. See the segment discussions below for further analysis of segment sales.

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Gross Margin: Our gross margin percentage from product sales was 28% in 2019, compared to 33% in 2018. The decrease in product sales gross margins was primarily due to sales mix. The gross margin on service sales was 31% in 2019 compared to 27% in 2018. The increase in service sales gross margins was primarily caused by an increase in service sales by CGD, which has a higher average margin percentage on services sales than our other business segments.

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Selling, General, and Administrative: SG&A expenses increased to $270.1 million in 2019, compared to $258.6 million in 2018. However, as a percentage of sales SG&A decreased to 18% in 2019 compared to 22% in 2018. The increase in SG&A expense was primarily due to $29.2 million of SG&A expenses incurred by three businesses we acquired in fiscal 2019 including the impacts of business acquisition accounting which is further described in the segment discussions below. These increases in SG&A expenses were partially offset by the results of cost reduction activities undertaken in fiscal 2019 as well as reduced strategic and IT system resource expenses which totaled $8.2 million in 2019 compared to $24.1 million in 2018.

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Amortization of Purchased Intangibles: Amortization of purchased intangibles totaled $42.1 million in 2019 compared to $27.1 million in 2018. The increase is due to the amortization of purchased intangibles for companies acquired by Cubic in fiscal year 2019.

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Gain on the Sale of Fixed Assets: In line with our One Cubic strategic objective, in fiscal 2019, we entered into agreements related to the construction and leasing of two buildings on our existing corporate campus in San Diego, California that will allow us to co-locate our San Diego-based employees on a single modern campus to foster innovation and collaboration across our business. Under these agreements, a financial institution will own the buildings, and we will lease the facilities for a term of five years commencing upon their completion. In the third quarter of fiscal 2019, we sold land and buildings comprising our separate CTS campus in San Diego. We have entered into a lease with the buyer of this campus and CTS employees will continue to occupy this separate campus until the new buildings on our corporate

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campus are ready for occupancy in fiscal 2021. In the third quarter of fiscal 2019, we also sold land and buildings in Orlando, Florida and we are entering a lease for new space with a smaller footprint in Orlando to accommodate our employees and operations in Orlando. In connection with the sale of these real estate campuses we received total net proceeds of $44.9 million and recognized net gains on the sales totaling $32.5 million within operating income.

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Research & Development: Company-sponsored R&D spending totaled $50.1 million in 2019 compared to $52.4 million in 2018. For fiscal 2019 there was a shift in the mix of R&D expenditures between our business segments with CMS increasing its portion of our total R&D spend and CTS and CGD decreasing. In fiscal 2019 CMS’ R&D expenditures were driven by the development of secure communications and ISR-as-a-service technologies and CTS continued to make R&D investments in new transportation product development, including fare collection technologies, real-time passenger information and development of intelligent transport systems and analytic technologies. CGD’s R&D expenditures focused on next generation live, virtual and constructive training systems.

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In addition to company-sponsored R&D, a significant portion of our new product development occurs in conjunction with the performance of work on our contracts. These costs are included in cost of sales in our Consolidated Statements of Operations as they are directly related to contract performance. The cost of contract R&D activities included in our cost of sales were $78.4 million in fiscal 2019 compared to $69.6 million in fiscal 2018. The increase in contract R&D activities is primarily due to significant development on CTS contracts in New York, Boston, San Francisco Bay Area and Brisbane.

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Operating Income: Operating income increased to $86.2 million in 2019 compared to $24.4 million in 2018 driven by improvements in profitability from all three of our businesses. CTS operating income increased by 28% to $77.2 million in 2019 compared to $60.4 million in 2018, primarily due to increased volumes on contracts in New York, Boston, San Francisco Bay Area and Brisbane. CMS generated operating income of $7.8 million in fiscal 2019 compared to an operating loss of $0.1 million in 2018. The increase in CMS profitability was driven by broad increases in sales volume across all of its major product lines. CGD’s operating income increased 39% to $23.0 million in 2019 compared to $16.6 million in 2018 primarily due to the results of cost reduction efforts and reduced R&D expenditures. Businesses acquired in 2019 and 2018 generated operating losses of $22.9 million in 2019 compared to $3.5 million in 2018, including acquisition-related costs totaling $9.7 million in 2019 and $1.0 million in 2018, and including amortization of purchased intangible assets of $22.0 million in 2019 and $0.5 million in 2018. Excluding the gain on sale of fixed assets noted above, the unallocated corporate and other costs were $54.3 million in 2019 compared to $52.5 million in 2018, and included expenses related to strategic and IT system resource planning as part of our One Cubic initiative totaling $8.2 million in 2019 and $24.1 million in 2018. Unallocated corporate costs also include restructuring charges of $8.9 million and $3.1 million in fiscal years 2019 and 2018, respectively. The average exchange rates between the prevailing currencies in our foreign operations and the U.S. dollar resulted in a decrease in operating income of $3.7 million in 2019 compared to 2018. See the segment discussions below for further analysis of segment operating income.

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Interest and Dividend Income and Interest Expense: Interest and dividend income was $6.5 million in 2019 compared to $1.6 million in 2018. The increase in interest income in fiscal 2019 was primarily due to the interest income recorded on long-term contracts financing receivables in our consolidated balance sheet. Under ASC 606, in fiscal year 2019 we recognized interest income on such receivables. Interest expense was $20.5 million in 2019 compared to $10.4 million in 2018. The change in interest expense generally reflected the increase in our average outstanding debt balances. The average outstanding borrowings under our revolving credit agreement increased during fiscal 2019 primarily to finance the acquisition of three businesses.

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Other Income (Expense): Other income (expense) netted to expense of $20.0 million in fiscal 2019 and $0.7 million in fiscal 2018. The nonoperating expense in fiscal 2019 included unrealized losses of $21.6 million caused by the change in the fair value of an interest rate swap held by a variable interest entity (VIE) that is consolidated by Cubic. The 90 percent noncontrolling interest in the net loss of the consolidated VIE, which is comprised primarily of the VIE’s loss on its interest rate swap, is added back to our net income to arrive at net income attributable to Cubic.

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Income Tax Provision: Our income tax provision totaled $11.0 million (effective rate of 21%) for fiscal 2019, compared to an income tax provision of $7.1 million (effective rate of 48%) for fiscal 2018. The fiscal 2019 tax provision primarily resulted from tax on foreign earnings and state income tax, partially offset by tax benefits in connection with

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acquisitions involving significant U.S. deferred tax liabilities which allowed for a subsequent release of deferred tax valuation allowance. The fiscal 2018 tax provision, as a result of the Tax Cuts and Jobs Act of 2017 (Tax Act), includes a one-time non-cash tax benefit of $7.1 million, primarily related to the re-measurement of certain U.S. deferred tax liabilities and the impact of the utilization of indefinite lived deferred tax liabilities as a source of future taxable income when assessing the realizability of indefinite lived deferred tax assets. The change in the valuation allowance does not have any impact on our consolidated operations or cash flows, nor does such an allowance preclude us from using loss carryforwards or other deferred tax assets in the future. Until we re-establish a pattern of continuing profitability, in accordance with the applicable accounting guidance, U.S. income tax expense or benefit related to the recognition of deferred tax assets in the consolidated statement of operations for future periods will be offset by decreases or increases in the valuation allowance with no net effect on the consolidated statement of operations. Our effective tax rate could be affected in future years by, among other factors, the mix of business between U.S. and foreign jurisdictions, fluctuations in the need for a valuation allowance against deferred tax assets, our ability to take advantage of available tax credits and audits of our records by taxing authorities.

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As of September 30, 2019, a total valuation allowance of $69.1 million has been established against U.S. deferred tax assets, certain foreign operating losses and other foreign assets. During fiscal 2019, the valuation allowance decreased by $12.7 million, of which $10.0 million was recorded as a net tax benefit in our Consolidated Statement of Operations, offset by amounts recorded through acquisition accounting, retained earnings and other components of income. We will continue to assess the need for a valuation allowance on deferred tax assets and should circumstances change it is possible the valuation allowance, or a portion thereof, will be reversed.

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Net Income from Continuing Operations attributable to Cubic: Our net income from continuing operations attributable to Cubic was $51.1 million ($1.67 per share) in 2019, compared to $8.1 million ($0.29 per share) in 2018. The increase in net income was primarily related to the increase in operating profits including the gain on the sale of fixed assets, partially offset by the increase in interest expense and the increase in our income tax provision, all of which are described above.

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Net Income (Loss) from Discontinued Operations: Our net loss from discontinued operations was $1.4 million in fiscal 2019 compared to net income from discontinued operations of $4.2 million in fiscal 2018. In fiscal 2018, net income from discontinued operations included the results of the operations of Cubic Global Defense Services (CGD Services) through the date of the sale as well as a loss on the sale of CGD Services of $6.1 million, which was calculated as the excess of the carrying value of the net assets of CGD Services at the sale date over the sales price, less estimated selling costs of $4.5 million. In fiscal 2019, we revised certain estimates related to the working capital settlement and reduced the receivable from the purchaser of CGD Services by $1.4 million and recognized a loss on the sale of CGD Services in the second quarter of fiscal 2019.

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Adjusted EBITDA: Adjusted EBITDA increased 40% to $146.6 million in 2019 compared to $104.6 million in 2018 and included increases in Adjusted EBITDA for all three business segments as described in the segment disclosures below. The increase in Adjusted EBITDA was primarily due to the same factors that drove the increase in operating income described above, excluding the changes in amortization expense, acquisition transaction costs, and restructuring costs as such items are excluded from Adjusted EBITDA. In addition, Adjusted EBITDA increased by $5.9 million in 2019 as a result of the adoption of the new revenue recognition standard. Adjusted EBITDA is a non-GAAP financial measure.

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Adjusted Net Income: Adjusted Net Income increased 59% to $95.6 million in 2019 compared to $60.0 million in 2018. The increase in Adjusted Net Income was primarily due to the same factors that drove the increase in net income from continuing operations attributable to Cubic described above including margin growth on increased sales, but excludes the changes in amortization expense, the gain on sale of fixed assets, acquisition transaction costs, restructuring costs, acquisition related costs, and nonoperating losses as such items are excluded from Adjusted Net Income. In addition, Adjusted Net Income increased by $9.1 million in 2019 as a result of the adoption of the new revenue recognition standard. Adjusted Net Income is a non-GAAP financial measure.

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Adjusted EPS: Adjusted EPS increased 43% to $3.13 in 2019 compared to $2.19 in 2018. The increase in Adjusted EPS was due to the same factors that impacted Adjusted Net Income noted above. In addition, Adjusted EPS increased by

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$0.30 in 2019 as a result of the adoption of the new revenue recognition standard. Adjusted EPS is a non-GAAP financial measure.

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Sales: CTS sales increased 27% to $849.8 million in 2019 compared to $670.7 million in 2018, including the impact of the adoption of ASC 606. The increase in sales was primarily driven by growth in both organic and inorganic business in North America. Sales in 2019 were higher in the U.S. primarily due to system development on contracts in New York, Boston, and the San Francisco Bay Area. Businesses acquired by CTS during fiscal year 2019, whose operations are all located in the U.S., had sales of $74.4 million in fiscal year 2019. Sales increased slightly in Australia between fiscal years 2018 and 2019 as increased system development work on a contract in Brisbane was partially offset by the negative impact of foreign currency exchange rates as well as a decrease in service sales. Sales were lower in the UK primarily due to a decrease in system development work in London and the negative impact of currency exchange rates. The average exchange rates between the prevailing currencies in our foreign operations and the U.S. dollar resulted in a decrease in CTS sales of $22.2 million for 2019 compared to 2018, primarily due to the strengthening of the U.S. dollar against the British pound and Australian dollar. 

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Amortization of Purchased Intangibles: Amortization of purchased intangibles included in the CTS operating results totaled $22.0 million in 2019 and $5.2 million in 2018. The increase is due to the amortization of purchased intangibles for companies acquired by CTS in fiscal year 2019.

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Operating Income: CTS operating income increased 28% in 2019 to $77.2 million compared to $60.4 million in 2018. The increase in operating income was primarily caused by higher margins on increased work on development projects in New York, Boston, the San Francisco Bay Area and Brisbane, as well as the impact of the adoption of ASC 606. These increases in operating income were partially offset by operating losses incurred by businesses acquired by CTS in fiscal 2019 as well as the negative impact of changes in foreign currency exchange rates. Businesses acquired by CTS in fiscal years 2019 incurred operating losses of $10.1 million in fiscal 2019, which included acquisition transaction costs of $8.1 million and amortization of intangible assets totaling $19.3 million. The average exchange rates between the prevailing currency in our foreign operations and the U.S. dollar resulted in a decrease in CTS operating income of $3.6 million for 2019 compared to 2018.

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Adjusted EBITDA: CTS Adjusted EBITDA increased 51% to $110.5 million in 2019 compared to $73.3 million in 2018. The increase in Adjusted EBITDA was primarily driven by the same factors that drove the increase in operating income described above excluding the increases in amortization of purchased intangibles and acquisition transaction costs which are excluded from Adjusted EBITDA. Adjusted EBITDA for CTS increased by $2.3 million in 2019 as a result of the adoption of the new revenue recognition standard.

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Sales: CMS sales increased 59% to $328.8 million in fiscal 2019 compared to $207.0 million in 2018. The increase in sales resulted from increased product deliveries in all of our CMS product lines, and particularly expeditionary satellite communications products and secure network products. Businesses acquired during fiscal years 2019 and 2018 whose operations are included in our CMS operating segment had sales of $8.9 million and $0.6 million for fiscal years 2019 and 2018, respectively.

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Amortization of Purchased Intangibles: Amortization of purchased intangibles included in the CMS results amounted to $19.5 million in 2019 and $20.8 million in 2018.

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Operating Income: CMS had operating income of $7.8 million in 2019 compared to an operating loss of $0.1 million in 2018. The improvement in operating results was primarily from higher sales from expeditionary satellite communications products and secure networks products. The improvements in operating profits was partially offset by operating losses incurred by businesses that CMS acquired during fiscal 2019 and 2018. Businesses acquired by CMS in fiscal years 2019 and 2018 incurred operating losses of $12.8 million in fiscal 2019 compared to $3.5 million in fiscal 2018. Included in the operating loss incurred by acquired businesses are acquisition transaction costs of $1.6 million and $1.0 million incurred in fiscal years 2019 and 2018, respectively. In addition, the increase in operating profits was partially offset by an increase of $4.4 million in R&D expenditures from fiscal 2018 to fiscal 2019 related primarily to the development of secure communications and ISR-as-a-service technologies.

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Adjusted EBITDA: CMS Adjusted EBITDA increased 31% to $34.4 million in 2019 compared to $26.2 million in 2018. The increase in CMS Adjusted EBITDA was primarily due to the same factors that drove the increase in operating income described above, excluding the changes in amortization expense and acquisition transaction costs as such items are excluded from Adjusted EBITDA. Adjusted EBITDA for CMS increased by $0.5 million in 2019 as a result of the adoption of the new revenue recognition standard. The increase in Adjusted EBITDA was partially offset by the increase in R&D expenditures described above.

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Sales: CGD sales decreased 2% to $317.9 million in 2019 compared to $325.2 million in 2018. The timing of sales recognition was impacted by the adoption of ASC 606. Under ASC 606, a number of our CGD contracts, most significantly in air combat training and ground live training, for which revenue was historically recorded upon delivery of products to the customer, are now accounted for on the percentage-of-completion cost-to-cost method of revenue recognition. For fiscal 2019, sales were lower from air combat training systems, simulation product development contracts, and international services contracts, partially offset by higher sales from ground combat training systems. The average exchange rates between the prevailing currencies in our foreign operations and the U.S. dollar resulted in a decrease in CGD sales of $3.2 million for 2019 compared to 2018.

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Amortization of Purchased Intangibles: Amortization of purchased intangibles included in the CGD results amounted to $0.6 million in 2019 and $1.1 million in 2018.

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Operating Income: CGD operating income increased by 39% to $23.0 million in 2019 compared to $16.6 million in 2018. For fiscal 2019, operating profits improved primarily due to the results of cost reduction efforts, including headcount reductions designed to optimize our cost position, and reduced R&D expenditures. Operating profits were higher from increased sales of ground combat training system sales but were lower on decreased sales from air combat training systems, simulation product development contracts, and international services contracts. The average exchange rates between the prevailing currency in our foreign operations and the U.S. dollar had no significant impact on CGD operating income between 2018 and 2019.

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Adjusted EBITDA: CGD Adjusted EBITDA was $32.8 million in 2019 compared to $26.3 million in 2018. The increase in Adjusted EBITDA was primarily driven by the same factors that drove the increase in operating income described above. Adjusted EBITDA for CGD increased by $3.1 million in 2019 as a result of the adoption of the new revenue recognition standard.

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