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Item 1. Financial Statements

2023-05-10 compared with 2022-11-09 · 279 added, 334 removed, 256 unchanged (71% of the section changed)

2 unchanged sentences

CONSOLIDATED STATEMENTS OF OPERATIONS

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands, except per share amounts)

Revenue – services $ 31,534 $ 48,108

$ 55,305 $ 62,955 $ 153,683 $ 164,016

Revenue – products 3,688 2,052

8,288 6,026 15,861 14,367

Total revenue 35,222 50,160

Cost of sales – services 19,268 29,731

36,746 40,137 97,913 108,236

Cost of sales – products 2,472 1,558

5,902 3,967 10,886 8,266

Total cost of sales 21,740 31,289

6 unchanged sentences

Operating loss ( 12,970 ) ( 16,367 )

Other income/(expense) 518 20 648 ( 1,001 )

Other income 2,496 12

Interest expense ( 249 ) ( 190 )

Loss before income taxes ( 10,723 ) ( 16,545 )

(Provision for)/benefit from income taxes ( 8 ) 41 ( 133 ) ( 6 )

Provision for income taxes ( 23 ) ( 71 )

Net loss $ ( 10,746 ) $ ( 16,616 )

5 unchanged sentences

Diluted 68,176 67,559

See accompanying notes to unaudited consolidated financial statements.

See accompanying notes to the unaudited consolidated financial statements.

TELOS CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

3 unchanged sentences

Comprehensive loss $ ( 10,733 ) $ ( 16,587 )

See accompanying notes to unaudited consolidated financial statements.

See accompanying notes to the unaudited consolidated financial statements.

TELOS CORPORATION

CONSOLIDATED BALANCE SHEETS

September 30, 2022 December 31, 2021

(in thousands, except per share and share data)

March 31, 2023 December 31, 2022

(in thousands, except per share amount and share data)

Cash and cash equivalents $ 112,462 $ 119,305

6 unchanged sentences

Finance lease right-of-use assets, net 7,527 7,832

Operating lease right-of-use assets 456 852

Operating lease right-of-use assets, net 458 341

Goodwill 17,922 17,922

8 unchanged sentences

Operating lease obligations – current portion 494 361

Other financing obligations – current portion — 1,247

Other current liabilities 3,856 4,919

2 unchanged sentences

Operating lease liabilities – non-current portion — 27

Other financing obligations – non-current portion — 7,211

Deferred income taxes 770 758

1 unchanged sentence

Total liabilities 50,757 65,043

Commitments and contingencies ( Note 19 )

Commitments and contingencies

Stockholders’ equity:

Common stock, $ 0.001 par value, 250,000,000 shares authorized, 67,300,099 shares and 66,767,450 shares issued and outstanding as of September 30, 2022 and December 31, 2021, respectively

Common stock, $ 0.001 par value, 250,000,000 shares authorized, 69,388,256 shares and 67,431,632 shares issued and outstanding as of March 31, 2023 and December 31, 2022, respectively

Additional paid-in capital 420,980 412,708

Accumulated other comprehensive loss ( 30 ) ( 27 )

Accumulated other comprehensive income ( 42 ) ( 55 )

Accumulated deficit ( 251,151 ) ( 240,405 )

1 unchanged sentence

Total liabilities and stockholders’ equity $ 220,652 $ 237,397

See accompanying notes to unaudited consolidated financial statements.

See accompanying notes to the unaudited consolidated financial statements.

TELOS CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Nine Months Ended

September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

1 unchanged sentence

Net loss $ ( 10,746 ) $ ( 16,616 )

Adjustments to reconcile net loss to cash flows provided by operating activities:

Adjustments to reconcile net loss to cash (used in)/provided by operating activities:

Stock-based compensation 9,499 15,931

1 unchanged sentence

Deferred income tax provision 12 12

Accretion of discount on acquisition holdback 36 7

Accretion of discount in acquisition holdback 2 12

Loss on disposal of fixed assets 1 —

Provision for doubtful accounts 89 95

Recovery from inventory obsolescence ( 108 ) ( 2 )

Amortization of debt issuance costs 17 —

Gain on early extinguishment of other financing obligations ( 1,427 ) —

Changes in other operating assets and liabilities:

1 unchanged sentence

Inventories 1,248 ( 850 )

Prepaid expenses, other current assets, and other assets ( 2,486 ) ( 3,259 )

Prepaid expenses, other current assets, other assets ( 927 ) ( 3,563 )

Accounts payable and other accrued payables ( 4,489 ) 674

1 unchanged sentence

Contract liabilities 758 655

Other current liabilities and other liabilities ( 507 ) ( 348 )

Net cash provided by operating activities 20,118 9,637

Other current liabilities ( 477 ) ( 15 )

Net cash (used in)/provided by operating activities ( 100 ) 249

Cash flows from investing activities:

1 unchanged sentence

Purchases of property and equipment ( 223 ) ( 546 )

Cash paid for acquisition — ( 5,925 )

Payment of DFT holdback amount ( 564 ) —

Net cash used in investing activities ( 4,587 ) ( 3,341 )

3 unchanged sentences

Repurchase of common stock ( 139 ) —

Proceeds from issuance of common stock, net of issuance costs — 64,269

Repurchase of outstanding warrants — ( 26,894 )

Distributions to Telos ID Class B member – non-controlling interest

Net cash (used in)/provided by financing activities ( 11,821 ) 32,695

Payments for debt issuance costs ( 114 ) —

Net cash used in financing activities ( 2,156 ) ( 3,237 )

Net change in cash, cash equivalents, and restricted cash ( 6,843 ) ( 6,329 )

1 unchanged sentence

Cash, cash equivalents, and restricted cash, end of period $ 112,595 $ 120,233

See accompanying notes to unaudited consolidated financial statements.

See accompanying notes to the unaudited consolidated financial statements.

TELOS CORPORATION

2 unchanged sentences

Capital Accumulated

Other Comprehensive Income/(Loss) Accumulated Deficit Total Stockholders’

Shares Amount

(in thousands)

Balance at June 30, 2022 67,594 $ 106 $ 388,464 $ ( 9 ) $ ( 214,249 ) $ 174,312

Net loss — — — — ( 7,340 ) ( 7,340 )

Foreign currency translation loss — — — ( 21 ) — ( 21 )

Stock-based compensation expense, excluding accrued compensation — — 15,012 — — 15,012

Repurchase of common stock ( 499 ) — ( 4,681 ) — — ( 4,681 )

RSUs vested, net of shares withheld to cover tax withholding 205 — ( 249 ) — — ( 249 )

Balance at September 30, 2022 67,300 $ 106 $ 398,546 $ ( 30 ) $ ( 221,589 ) $ 177,033

Balance at June 30, 2021 66,635 $ 105 $ 341,928 $ 17 $ ( 176,265 ) $ 165,785

Net loss — — — — ( 5,222 ) ( 5,222 )

Foreign currency translation loss — — — ( 13 ) — ( 13 )

Stock-based compensation expense — — 12,372 — — 12,372

Balance at September 30, 2021 66,635 $ 105 $ 354,300 $ 4 $ ( 181,487 ) $ 172,922

Common Stock Additional Paid-in

Capital Accumulated

Other Comprehensive Income/(Loss) Accumulated Deficit Total Stockholders’

Other Comprehensive Income Accumulated Deficit Total Stockholders’

Shares Amount

2 unchanged sentences

Net loss — — — — ( 10,746 ) ( 10,746 )

Foreign currency translation loss — — — ( 3 ) — ( 3 )

Stock-based compensation expense, excluding accrued compensation — — 42,212 — — 42,212

Repurchase of common stock ( 859 ) — ( 7,683 ) — — ( 7,683 )

RSUs vested, net of shares withheld to cover tax withholding 1,392 1 ( 3,136 ) — — ( 3,135 )

Balance at September 30, 2022 67,300 $ 106 $ 398,546 $ ( 30 ) $ ( 221,589 ) $ 177,033

Foreign currency translation gain — — — 13 — 13

Restricted stock unit awards vested, net of shares withheld to cover tax withholding 1,180 1 ( 1,585 ) — — ( 1,584 )

Stock-based compensation — 7,916 — — 7,916

Issuance of common stock for 401K match 777 1 1,941 — — 1,942

Balance at March 31, 2023 69,388 $ 108 $ 420,980 $ ( 42 ) $ ( 251,151 ) $ 169,895

Balance at December 31, 2021 66,767 $ 105 $ 367,153 $ ( 27 ) $ ( 186,977 ) $ 180,254

Net loss — — — — ( 16,616 ) ( 16,616 )

Issuance of common stock 2,050 2 64,267 — — 64,269

Foreign currency translation loss — — — 29 — 29

Stock-based compensation expense — — 47,378 — — 47,378

Repurchase of outstanding warrants — — ( 26,894 ) — — ( 26,894 )

Repurchase of common stock ( 40 ) — ( 1,251 ) — — ( 1,251 )

Balance at September 30, 2021 66,635 $ 105 $ 354,300 $ 4 $ ( 181,487 ) $ 172,922

See accompanying notes to unaudited consolidated financial statements.

Restricted stock unit awards vested, net of shares withheld to cover tax withholding 1,100 1 ( 2,887 ) — — ( 2,886 )

Stock-based compensation — — 14,280 — — 14,280

Balance at March 31, 2022 67,867 $ 106 $ 378,546 $ 2 $ ( 203,593 ) $ 175,061

See accompanying notes to the unaudited consolidated financial statements.

TELOS CORPORATION

1 unchanged sentence

Telos Corporation, together with its subsidiaries (collectively, the "Company," "we," "our" or "Telos"), a Maryland corporation, is a leading provider of cyber, cloud and enterprise security solutions for the world's most security-conscious organizations.

We own all of the issued and outstanding shares of Xacta Corporation, a subsidiary that develops, markets and sell government-validated secure enterprise solutions to government and commercial customers.

We own all of the issued and outstanding shares of Xacta Corporation, a subsidiary that develops, markets and sells government-validated secure enterprise solutions to government and commercial customers.

We own the issued and outstanding share capital of ubIQuity.com, inc., a holding company for Xacta Corporation.

1 unchanged sentence

SIGNIFICANT ACCOUNTING POLICIES

(a) Basis of Presentation

The accompanying unaudited consolidated financial statements include the accounts of Telos Corporation and its subsidiaries (see Note 1 – Organ ization ), all of whose issued and outstanding share capital is wholly-owned directly and indirectly by Telos Corporation.

Basis of Presentation and Principle of Consolidation

The accompanying unaudited consolidated financial statements include the accounts of Telos and its subsidiaries (see Note 1 – Organization ), all of whose issued and outstanding share capital is wholly owned directly and indirectly by Telos Corporation.

All intercompany transactions have been eliminated in consolidation.

(b) Basis of Presentation for Interim Periods

Basis of Presentation for Interim Periods

Certain information and footnote disclosures normally included for the annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("U.S.

4 unchanged sentences

We have continued to follow the accounting policies set forth in those financial statements.

Operating segments are defined as components of an enterprise for which separate discrete financial information is available and regularly evaluated by the chief operating decision maker (“CODM”), or decision-making group, in deciding how to allocate resources and assess performance.

During the fourth quarter of 2021, we reorganized our internal management reporting structure and the financial results evaluated by our CODM;

therefore, we changed our operating segments to align with how our CODM currently oversees the business, allocates resources, and evaluates operating performance.

As a result of the segment reorganization, we reported two reportable and operating segments:

Security Solutions and Secure Networks.

The segments enable the alignment of our strategies and objectives and provide a framework for the timely and rational allocation of resources within the lines of business.

We eliminate any inter-segment revenues and expenses upon consolidation.

Prior period segment information has been recast to reflect the change.

The segment reorganization had no impact on previously reported unaudited consolidated financial results.

(d) Basis of Comparison – Revision of Previously Issued Interim Financial Statements

The Company recorded certain revisions related to the previously issued unaudited condensed consolidated financial statements.

The Company considered the errors identified in accordance with the SEC's Staff Accounting Bulletin No.

99 and determined the impact was immaterial to the previously issued condensed consolidated interim financial statements.

Nonetheless, the Company corrected these errors when identified in 2021.

During the third quarter of 2021, the Company identified out-of-period adjustments on certain revenue and expense classification.

Further, we corrected the cash flow presentation to properly reflect the final payment to fully acquire all of the membership interest of Telos ID as financing activities.

Further information regarding the misstatements and related revisions are included in Note 18 – Revision of Prior Year Interim Financial Statements to the condensed consolidated financial statements.

(e) Use of Estimates

Basis of Comparison - Revision of Previously Issued Interim Financial Statements

During the course of preparing the Company's consolidated financial statements for the year ended December 31, 2022, we identified that stock-based compensation expense related to performance-based restricted stock unit (“PSU”) awards with market conditions was erroneously reversed when those PSUs were forfeited during the quarter ended March 31, 2022.

Although the Company has determined that the error did not have a material impact on its previously issued interim consolidated financial statements, it revised the previously reported interim financial information in conjunction with the issuance of its quarterly filings on Form 10-Q for the quarter ended March 31, 2023.

Further information regarding the misstatements and related revisions are included under N ote 20 – Revision of P rior Year Interim Financial Statements to the unaudited consolidated financial statements.

Use of Estimates

Preparing unaudited consolidated financial statements in conformity with U.S.

3 unchanged sentences

We base our estimates on historical experience, currently available information, and various other assumptions that we believe are reasonable under the circumstances.

The most significant items involving management estimates include estimates of revenue recognition, allowance for credit losses, allowance for inventory obsolescence, the valuation allowance for deferred tax assets, the provision for income taxes, share-based compensation, contingencies and litigation, and valuation of intangibles and goodwill.

Management evaluates these estimates and assumptions on an ongoing basis, including those relating to revenue recognition on cost estimation on certain contracts, allowance for credit losses, inventory obsolescence, valuation allowance for deferred tax assets, income taxes, certain assumptions related to share-based compensation, valuation of intangible assets and goodwill, restructuring expenses accruals, and contingencies.

Actual results could differ from those estimates.

The impact of changes in estimates is recorded in the period in which they become known.

(f) Software Development Cost (Cloud-computing implementation costs)

ASC 350-40 requires hosting arrangements that are service contracts to follow the guidance for internal-use software to determine which implementation costs can be capitalized.

As of September 30, 2022, the capitalized implementation costs related to hosting arrangements that were incurred during the application development stage aggregated to $ 0.3 million.

These costs are related primarily to the implementation of a new enterprise resource planning system.

The capitalized implementation costs will be amortized over the expected term of the arrangement on a straight-line basis.

Amortization begins when the component of the hosting arrangement is ready for its intended use after all substantial testing is complete and classified in the same line item on our consolidated statement of operations as the expense for fees for the associated hosting arrangement.

(g) Reclassifications

Certain reclassifications have been made to prior years' consolidated financial statements to conform to the current year's presentation.

The reclassification had no impact on our total assets or liabilities nor on our net loss or stockholders' equity.

(h) Recent Accounting Pronouncements

Changes to U.S.

GAAP are established by the Financial Accounting Standards Board ("FASB") in the form of Accounting Standards Updates ("ASUs") to the FASB's Accounting Standards Codification ("ASC").

We consider the applicability and impact of all recent ASUs.

ASUs not listed below were assessed and determined to be not applicable.

Accounting Pronouncements Not Yet Adopted

In October 2021, the FASB issued ASU No.

2021-08, “Business Combination (Topic 805):

Accounting for Contract Assets and Contract Liabilities from Contracts with Customers,” which requires entities to apply Topic 606 to recognize and measure contract assets and contract liabilities in a business combination.

The ASU improves comparability after the business combination by providing consistent recognition and measurement guidance for revenue contracts with customers acquired in a business combination and revenue contracts with customers not acquired in a business combination.

Entities should apply the amendments prospectively to business combinations that occur after the effective date.

This standard will be effective for reporting periods beginning after December 15, 2022, with early adoption permitted.

While we are currently assessing the impact of the adoption of this ASU, we do not believe the adoption of this ASU will have a material impact on our unaudited consolidated financial position, results of operations, and cash flows.

In June 2022, the FASB issued ASU No.

2022-03, "Fair Value Measurement (Topic 820):

Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions," which clarifies that a contractual restriction on the sale of an equity security is not considered part of the unit of account of the equity security and, therefore, is not considered in measuring fair value.

This standard will be effective for reporting periods beginning December 15, 2023, with early adoption permitted.

In September 2022, the FASB issued ASU No.

2022-04, "Liabilities - Supplier Finance Programs (Subtopic 405-50):

Disclosure of Supplier Finance Program Obligations," which requires a company that uses a supplier finance program in connection with the purchase of goods or services to disclose sufficient information about the program to allow a user of the financial statements to understand the program's nature, activity during the period, changes from period to period, and potential magnitude.

This standard will be effective for reporting periods beginning December 15, 2022, with early adoption permitted.

Restructuring Expenses

In the fourth quarter of 2022, the Company committed to a restructuring plan to streamline its workforce and spending to better align its cost structure with its volume of business.

The restructuring plan reduced the Company's workforce, with a majority of the affected employees separating from the business in early 2023.

In connection with this restructuring plan, we incurred restructuring-related costs, including employee severance and related benefit costs.

Employee severance and related benefit costs may include cash payments, outplacement services and continuing health insurance coverage.

Severance costs pursuant to ongoing-benefit arrangements are recognized when probable and reasonably estimated.

Other related costs include external consulting and advisory fees related to implementing the restructuring plan.

These costs are recognized at fair value in the period in which the costs are incurred.

In the Company's recent Annual Report on Form 10-K for the year ended December 31, 2022, the Company estimated that the expected restructuring expenses were $ 2.8 million as of December 31, 2022.

As of March 31, 2023, the Company has updated its total expected restructuring plan costs to $ 4.0 million.

The Company reviews the restructuring plan and may incur incremental restructuring costs during the remainder of 2023 when determined as probable and estimable.

The restructuring expenses are recorded under "Selling, general and administrative expenses" in the Company's unaudited consolidated statements of operations.

At each reporting date, the Company evaluates its restructuring expense accrual to determine if the liabilities reported are still appropriate.

Any changes in the estimated costs of executing the approved restructuring plan are reflected in the Company's unaudited consolidated statement of operations.

Summary of Changes in Restructuring Expenses Accrual

Severance and related benefit costs (1)

Other related costs (1)

(in thousands)

Balance at December 31, 2022 $ 2,763 $ — $ 2,763

Charges/(adjustments) ( 100 ) 1,300 1,200

Cash payments ( 1,673 ) — ( 1,673 )

Balance at March 31, 2023 $ 990 $ 1,300 $ 2,290

(1) Restructuring-related liabilities are reported as part of "Other current liabilities" in the Company's unaudited consolidated balance sheets, see Note 9 - Other Balance Sheet Components for further details.

Recent Accounting Pronouncements

From time to time, new accounting standards are issued by the Financial Accounting Standard Board or other standard-setting bodies and are adopted by the Company as of the specified accounting date.

Unless otherwise discussed, the Company believes that issued standards not yet effective will not have a material effect on its financial statements.

REVENUE RECOGNITION

We recognize revenue in accordance with ASC Topic 606, "Revenue from Contracts with Customers." The unit of account in ASC 606 is a performance obligation, which is a promise in a contract with a customer to transfer a good or service to the customer.

The majority of our revenue is recognized over time, as control is transferred continuously to our customers who receive and consume benefits as we perform, and is classified as services revenue.

Revenue transferred to customer over time accounted for 87 % and 91 % of our revenue for the three and nine months ended September 30, 2022, respectively, and 91 % and 92 % of our revenue for the three and nine months ended September 30, 2021, respectively.

We account for revenue in accordance with ASC Topic 606, "Revenue from Contracts with Customers." The unit of account in ASC 606 is a performance obligation, which is a promise in a contract with a customer to transfer a good or service to the customer.

The majority of our revenue is recognized over time, as control is transferred continuously to our customers who receive and consume benefits as we perform.

Revenue transferred to customers over time accounted for 89 % and 96 % of our revenue for the three months ended March 31, 2023 and 2022, respectively.

All of our business groups earn services revenue under a variety of contract types, including time and materials, firm-fixed price, firm-fixed price level of effort, and cost-plus fixed fee contract types, which may include variable consideration.

We also recognize revenue at a point in time on certain contracts, when our customer obtains control of the transferred product, generally upon delivery, and the revenue is classified as product revenue.

Revenue transferred to customers at a point in time accounted for 13 % and 9 % of our revenue for the three and nine months ended September 30, 2022, respectively, and 9 % and 8 % of our revenue for the three and nine months ended September 30, 2021, respectively.

For performance obligations in which control does not continuously transfer to the customer, we recognize revenue at the point in time in which each performance obligation is fully satisfied.

This coincides with the point in time the customer obtains control of the product or service, which typically occurs upon customer acceptance or receipt of the product or service, given that we maintain control of the product or service until that point.

Revenue transferred to customers at a point in time accounted for 11 % and 4 % of our revenue for the three months ended March 31, 2023 and 2022, respectively.

Orders for the sale of software licenses may contain multiple performance obligations, such as maintenance, training, or consulting services, which are typically delivered over time, consistent with the transfer of control disclosed above for the provision of services.

When an order contains multiple performance obligations, we allocate the transaction price to the performance obligations based on the standalone selling price of the product or service underlying each performance obligation.

The standalone selling price represents the amount we would sell the product or service to a customer on a standalone basis.

For certain performance obligations where we are not primarily responsible for fulfilling the promise to provide the goods or services to the customer, do not have inventory risk and have limited discretion in establishing the price for the goods or services, we recognize revenue on a net basis.

We provide for anticipated losses on contracts during the period when the loss is determined by recording an expense for the total expected costs that exceed the total estimated revenue for a performance obligation.

No contract losses were recorded during the three and nine months ended September 30, 2022, and 2021.

We provide for anticipated losses on contracts during the period when the loss is determined by recording an expense for the total expected costs that exceeds the total estimated revenue for a performance obligation.

No contract losses were recorded during the three months ended March 31, 2023 and 2022.

Disaggregated Revenues

In addition to our segment reporting, as further discussed in Note 17 – Segment Information , we disaggregate our revenue by customer and contract types.

In addition to our segment reporting, as further discussed in Note 1 7 – Segment Information , we disaggregate our revenues by customer and contract types.

We treat sales to U.S.

customers as sales within the United States, regardless of where the services are performed.

Substantially all of our revenues are generated from U.S.

customers as sales within the U.S.

regardless of where the services are performed.

Substantially most of our revenues are generated from U.S.

customers, while international customers are de minimis;

as such, the financial information by geographic location is not presented.

Revenue by Customer Type

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

Amount % Amount % Amount % Amount %

(in thousands)

For the Three Months Ended

March 31, 2023 March 31, 2022

Amount % Amount %

(dollars in thousands)

Federal $ 32,989 94 % $ 47,843 95 %

2 unchanged sentences

Revenue by Contract Type

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

Amount % Amount % Amount % Amount %

(in thousands)

For the Three Months Ended

March 31, 2023 March 31, 2022

Amount % Amount %

(dollars in thousands)

Firm fixed-price $ 27,013 77 % $ 41,277 82 %

2 unchanged sentences

Total revenue $ 35,222 100 % $ 50,160 100 %

As our primary customer base includes agencies of the U.S.

government, we have a concentration of credit risk associated with our accounts receivable, as 95 % of our billed accounts receivable, as of September 30, 2022, were directly with U.S.

government customers.

We perform ongoing credit evaluations of all our customers and generally do not require collateral or other guarantees from our customers.

We maintain allowances for potential losses.

Revenue Concentrations Greater than 10% of Total Revenue

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

Revenue Concentration Greater than 10% of Total Revenue

For the Three Months Ended

March 31, 2023 March 31, 2022

Department of Defense ("DoD") 68 % 71 %

Civilian federal agencies 18 % 23 % 21 % 21 %

Contract Balances

Civilian 26 % 24 %

Contract Balances

September 30, 2022 December 31, 2021

Balance Sheet Presentation March 31, 2023 December 31, 2022

(in thousands)

Contract assets (unbilled receivables) $ 28,290 $ 41,374

Contract liabilities 6,952 6,381

The change in the Company's contract assets and contract liabilities during the period was primarily the result of the timing differences between the Company's performance, invoicing and customer payments.

Revenue recognized for the three and nine months ended September 30, 2022, that was included in the contract liabilities balance at the beginning of each reporting period, was $ 0.9 million and $ 5.0 million, respectively.

Revenue recognized for the three and nine months ended September 30, 2021, that was included in the contract liabilities balance at the beginning of each reporting period, was $ 0.8 million and $ 4.1 million, respectively.

As of September 30, 2022, we had $ 111.4 million of remaining performance obligations, which we also refer to as funded backlog.

We expect to recognize approximately 85 % of our remaining performance obligations over the next 12 months and the balance thereafter.

Billed accounts receivables (1)

Accounts receivable, net $ 18,297 $ 13,521

Unbilled accounts receivable Accounts receivable, net 4,658 11,657

Contract assets Accounts receivable, net 11,747 14,891

Contract liabilities Contract liabilities 7,203 6,444

(1) Net of allowance for credit losses.

The significant change in the Company's contract assets and contract liabilities during the current period was primarily the result of the timing differences between the Company's performance, invoicing and customer payments.

Revenue recognized for the three months ended March 31, 2023 and 2022, that was included in the contract liabilities balance at the beginning of each reporting period was $ 2.5 million and $ 2.5 million, respectively.

As of March 31, 2023, we had approximately $ 77.4 million of remaining performance obligations, which we also refer to as funded backlog.

We expect to recognize approximately 70 % of our remaining performance obligations as revenue in 2023, an additional 29 % in 2024, and the balance thereafter.

ACCOUNTS RECEIVABLE, NET

Details of Accounts Receivable, Net

September 30, 2022 December 31, 2021

March 31, 2023 December 31, 2022

(in thousands)

Billed accounts receivable $ 18,520 $ 13,655

Unbilled receivables 28,290 41,374

Unbilled accounts receivable 4,658 11,657

Contract assets 11,747 14,891

Allowance for credit losses (1)

( 223 ) ( 134 )

Accounts receivable, net $ 34,702 $ 40,069

(1) Includes provision for credit losses, net of recoveries.

As our primary customer base includes agencies of the U.S.

government, we have a concentration of credit risk associated with our accounts receivable, as 95 % of our billed and unbilled accounts receivable as of March 31, 2023 were directly with U.S.

government customers.

While we acknowledge the potential material and adverse risk of such a significant concentration of credit risk, our past experience collecting substantially all of such receivables provides us with an informed basis that such risk, if any, is manageable.

We perform ongoing credit evaluations of all of our customers and generally do not require collateral or other guarantee from our customers.

We maintain allowances for potential losses.

INVENTORIES, NET

Details of Inventories, Net

September 30, 2022 December 31, 2021

March 31, 2023 December 31, 2022

(in thousands)

4 unchanged sentences

Details of Property and Equipment, Net

September 30, 2022 December 31, 2021

March 31, 2023 December 31, 2022

(in thousands)

2 unchanged sentences

Property and equipment, at cost 19,275 19,178

Accumulated depreciation ( 13,710 ) ( 12,326 )

Accumulated depreciation and amortization ( 14,869 ) ( 14,391 )

Property and equipment, net $ 4,406 $ 4,787

Depreciation expense was $ 0.6 million and $ 1.8 million for the three and nine months ended September 30, 2022, respectively, compared to $ 0.6 million and $ 1.5 million for the three and nine months ended September 30, 2021, respectively.

The goodwill balance was $ 17.9 million as of September 30, 2022, and December 31, 2021, of which $ 3.0 million is allocated to the Security Solutions segment and $ 14.9 million is allocated to the Secure Networks segment.

Depreciation and amortization expense was $ 0.6 million for both three months ended March 31, 2023 and 2022, respectively.

The goodwill balance was $ 17.9 million as of March 31, 2023, and December 31, 2022, of which $ 3.0 million is allocated to the Security Solutions segment and $ 14.9 million is allocated to the Secure Networks segment.

Goodwill is subject to annual impairment tests and if triggering events are present in the interim before the annual tests, we will assess impairment.

No impairment charges were taken for the three and nine months ended that September 30, 2022, and 2021.

No impairment charges were recorded for the three months ended March 31, 2023 and 2022 .

INTANGIBLE ASSETS, NET

Details of Intangible Assets, Net

September 30, 2022 December 31, 2021

Gross Accumulated Amortization Net Gross Accumulated Amortization Net

(in thousands)

March 31, 2023

December 31, 2022

Estimated Useful Life Gross Carrying Amount Accumulated Amortization Net Carrying Value Gross Carrying Amount Accumulated Amortization Net Carrying Value

(in years) (in thousands)

Acquired technology 8 $ 3,630 $ ( 756 ) $ 2,874 $ 3,630 $ ( 643 ) $ 2,987

Customer relationships 40 ( 16 ) 24 40 ( 5 ) 35

Customer relationship 3 40 ( 22 ) 18 40 ( 19 ) 21

Software development costs 2 - 5

39,005 ( 8,096 ) 30,909 35,080 ( 7,793 ) 27,287

Amortization expense was $ 0.5 million and $ 1.3 million for the three and nine months ended September 30, 2022, respectively, and $ 0.4 million and $ 1.3 million for the three and nine months ended September 30, 2021, respectively.

On July 30, 2021, the Company acquired the assets of Diamond Fortress Technologies ("DFT") and wholly-owned subsidiaries for a total purchase consideration of $ 6.7 million, inclusive of $ 0.3 million related to a pre-existing contractual arrangement with DFT.

Upon closing, $ 5.9 million of cash was paid with an additional $ 0.6 million payable to DFT 18 months after the close date (the "holdback").

The holdback amount has been discounted to its present value of $ 0.5 million using a discount rate relevant to the acquisition.

The acquisition adds several new patents to the Company’s library of biometric and digital identity intellectual property.

The addition of contactless biometrics technology will enable the Company to better serve the needs of organizations in existing and new markets.

The acquisition of the assets of DFT has been accounted for under U.S.

GAAP using the acquisition method of accounting.

The total purchase consideration of $ 6.7 million has been allocated among the assets acquired at their fair value at the acquisition date.

The Company recognized $ 3.7 million of intangible assets and $ 3.0 million of goodwill, which is housed in the Telos ID reporting unit, part of the Security Solutions operating segment.

Goodwill is primarily attributable to an excess of the purchase price over the acquired identifiable net tangible and intangible assets.

The acquired intangible assets will be amortized on a straight-line basis over three to eight years .

The acquisition was considered an asset purchase for tax purposes, and the recognized goodwill is deductible for tax purposes.

PURCHASE OF TELOS ID NON-CONTROLLING INTERESTS

Telos ID was formed as a limited liability company under the Delaware Limited Liability Company Act in 2007.

Prior to the IPO, the Company owned a 50 % interest in Telos ID, with the remaining interest owned by Hoya ID Fund A, LLC ("Hoya") as the non-controlling interest.

Distributions were made to the members only when and to the extent determined by Telos ID’s Board of Directors, in accordance with its Operating Agreement.

On October 5, 2020, we entered into a Membership Interest Purchase Agreement between the Company and Hoya to purchase all of the Class B Units of Telos ID owned by Hoya (the “Telos ID Purchase”).

Upon the closing of the Telos ID Purchase, Telos ID became our wholly-owned subsidiary.

On November 23, 2020, the Telos ID Purchase was consummated with the Company transferring $ 30.0 million in cash and issuing 7.3 million shares of our common stock at $ 20.39 per share (which totals approximately $ 148.4 million);

the total consideration transferred to Hoya was $ 178.4 million.

As part of the common stock issuance, the Company recognized an increase to additional paid-in capital (“APIC”) of $ 148.4 million.

The Company further recognized a reduction to APIC of $ 173.9 million as part of eliminating Hoya’s non-controlling interest in Telos ID.

The net impact to APIC associated with acquiring the additional 50 % interest in Telos ID was a reduction of $ 25.5 million.

Hoya received a final distribution of $ 2.4 million in January 2021.

ACCOUNTS PAYABLE AND OTHER ACCRUED LIABILITIES

Subtotal 42,675 ( 8,874 ) 33,801 38,750 ( 8,455 ) 30,295

Software held for resale (1)

— — $ — 7,120 — $ 7,120

Total $ 42,675 $ ( 8,874 ) $ 33,801 $ 45,870 $ ( 8,455 ) $ 37,415

(1) This amount is net of $ 0.6 million charged into cost for sales for the period ended December 31, 2022.

See Note 10 – Debt and Other Obligations for related details.

Amortization expense related to capitalized software development costs was $ 0.3 million for both three months ended March 31, 2023 and 2022.

Amortization expense related to other intangible assets was $ 0.1 million for both three months ended March 31, 2023 and 2022.

OTHER BALANCE SHEET COMPONENTS

Details of Accounts Payable and Other Accrued Liabilities

September 30, 2022 December 31, 2021

March 31, 2023 December 31, 2022

(in thousands)

Accounts payable - trade $ 16,339 $ 7,869

Accrued liabilities 19,870 25,300

Others 1,374 1,379

Accounts payable $ 11,683 $ 12,606

Accrued payables 6,328 9,945

Accounts payable and other accrued liabilities $ 18,011 $ 22,551

Details of Other Current Liabilities

March 31, 2023 December 31, 2022

(in thousands)

Other accrued expenses $ 874 $ 1,530

Restructuring expenses accrual 2,290 2,763

Other 692 626

Other current liabilities $ 3,856 $ 4,919

DEBT AND OTHER OBLIGATIONS

Revolving Credit Facility

On December 30, 2022 (the "Closing Date"), we entered into a Credit Agreement (the "Credit Agreement"), by and among the Company, as borrower, Xacta Corporation, ubIQuity.com.

inc, Teloworks, Inc., and Telos Identity Management Solutions, LLC, as guarantors, the lenders' party thereto (the "Lenders"), and JPMorgan Chase Bank N.A., as administrative agent for the Lenders (in such capacity, the "Agent").

The Credit Agreement provides for a $ 30.0 million senior secured revolving credit facility with a maturity date of December 30, 2025, with the option of issuing letters of credit thereunder with a sub-limit of $ 5.0 million, and with an uncommitted expansion feature of up to $ 30.0 million of additional revolver capacity (the "Loan").

The Loan is subject to acceleration in the event of customary events of default.

The Company has not drawn any amount under the Loan.

Borrowings under the Credit Agreement will accrue interest, at our option, at one of three variable rates, plus a specified margin.

We can elect to borrow at (i) the Alternative Base Rate, plus 0.9 %;

(ii) Adjusted Daily Simple Secured Overnight Financing Rate ("SOFR"), plus 1.9 %;

and (iii) Adjusted Term SOFR, plus 1.9 %, as such capitalized terms are defined and calculated in the Credit Agreement.

The Company may elect to convert borrowings from one type of borrowing to another type per the terms of the Credit Agreement.

After the occurrence and during the continuance of any event of default, the interest rate may increase by an additional 2.0 %.

We are obligated to pay accrued interest (i) with respect to amounts accruing interest based on the Alternative Base Rate, each calendar quarter and on the maturity date, (ii) with respect to amounts accruing interest based on Adjusted Daily Simple SOFR, on each one-month anniversary of the borrowing and on the maturity date, and (iii) with respect to amounts accruing interest based on Adjusted Term SOFR, at the end of the period specified per the Credit Agreement and on the maturity date.

Upon five, three, or one day's prior notice, as applicable, we may prepay any portion or the entire amount of the Loan.

We also paid costs and customary fees, including a closing fee, commitment fees and letter of credit participation fee, if any, payable to the Agent and Lenders, as applicable, in connection with the Loan.

The Loan under the Credit Agreement is collateralized by substantially all of the Company's assets, including the Company's pledge of its domestic and material foreign subsidiary equity interests.

The Loan has various covenants that may, among other things, affect our ability to create, incur, assume or suffer any indebtedness, merge into or consolidate with another entity, acquire entity interests, sell or transfer certain assets, enter into certain arrangements (such as sale and leaseback and swap agreements) or restrictive agreements, pay dividends and make certain restricted payments, and amend material documents related to any subordinated indebtedness and corporate agreements.

The Credit Agreement also requires certain financial covenants to maintain a Senior Leverage Ratio on the last day of any fiscal quarter, no greater than 3 to 1.

We were in compliance with all covenants as of March 31, 2023.

The occurrence of an event of default under the Credit Agreement could result in the Loan and other obligations becoming immediately due and payable and allow the Lenders to exercise all rights and remedies available to them under the Credit Agreement.

On April 12, 2023, the Credit Agreement was amended to exclude from collateral the (i) amount collectible from a third party related to an Accounts Receivable Purchase Agreement and (ii) receivables generated by the Company from the sale of goods supplied to this third party in an amount not to exceed $ 25.0 million.

Other Financing Obligations

We entered into a Master Purchase Agreement ("MPA") with a third-party buyer ("Buyer") for $ 9.1 million relating to software licenses under a specific delivery order ("DO") with our customer resulting in proceeds from other financing obligations of $ 9.1 million in November 2022.

Under the MPA, we sold, assigned and transferred all of our rights, title and interest in (i) the DO payments from the customer and (ii) the underlying licenses.

The DO covers a base period with an option for the customer to exercise three ( 3 ) additional 12 -month periods through January 2026.

The DO payments assigned to the Buyer are billable to the customer at the beginning of the base period and for each option year exercised.

The underlying licenses were acquired for resale, see Note 8 – Intangible Assets , net for further details.

On February 9, 2023, the customer notified us that it would not exercise the first option period under the DO.

The MPA provides that, if the customer terminates the DO for non-renewal and the Buyer reasonably concludes that the customer's actions constitute grounds for filing a claim with the customer's contracting officer, Buyer and Telos will cooperate in preparing such a claim, which would be filed in Telos' name.

Buyer has notified Telos of its intent to pursue a claim against the customer.

Concurrently, the Company transferred all the rights, title and interest in the underlying licenses in exchange for the extinguishment of the outstanding financing obligations.

The Company evaluated the transfer of the underlying licenses as consideration paid for the outstanding financing obligations under ASC 470-10, Debt , and the provisions of the MPA, and concluded that the transaction resulted in an extinguishment of debt.

The Company recorded the difference between the carrying value of the Company's debt instrument and the underlying licenses as a gain on early extinguishment of other financing obligations.

During the three months ended March 31, 2023, the Company reported a gain of $ 1.4 million, which was recorded as "Other income" in the unaudited consolidated statements of operations.

Upon closing, $ 5.9 million of cash was paid with an additional $ 0.6 million payable to DFT 18 months after the close date (the "holdback").

The holdback amount has been discounted to its present value of $ 0.5 million using a discount rate relevant to the acquisition.

On February 2, 2023, the Company paid DFT the holdback amount of $ 0.6 million.

STOCK-BASED COMPENSATION

Our 2016 Omnibus Long-Term Incentive Plan (the "2016 LTIP") provides for the grant of restricted stock units with time-based vesting ("Service-Based RSU" or "RSU") and restricted stock units with performance-based vesting ("Performance-Based RSU" or "PRSU") to our senior executives, directors, employees, and other service providers.

Awards granted under the 2016 LTIP vest over the periods determined by the Board of Directors or the Compensation Committee of the Board of Directors, generally one to three years .

The Company records stock-based compensation related to accrued compensation in which it intends to settle in shares of the Company’s common stock.

However, it is the Company’s discretion whether this compensation will ultimately be paid in stock or cash, as it has the right to dictate the form of these payments up until the date they are paid.

The stock-based compensation expense includes an immaterial adjustment of $ 1.3 million for the nine months ended September 30, 2022, related to the prior year.

The Company grants stock-based compensation awards under the 2016 Omnibus Long-Term Incentive Plan, as amended (the "2016 LTIP").

We may grant restricted stock awards ("RSA"), restricted stock units with time-based vesting ("RSUs") and PSUs.

Awards granted under the 2016 LTIP vest over the periods determined by the Board of Directors or the Compensation Committee of the Board of Directors, which has the discretion to establish the terms, conditions and criteria of the various awards.

The RSUs granted to eligible employees generally vest in installments over a period of up to three years.

PSUs will vest upon the achievement of a defined performance target or market conditions for the Company's common stock, certain operational milestones over prescribed period, or at the end of the defined performance period from the date of grant.

There were no income tax benefits recognized on the share-based compensation expense for both periods.

Details of Stock Compensation Expense by Department

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

Cost of sales – services $ 326 $ 1,007

$ 929 $ 718 $ 2,798 $ 1,974

Sales and marketing 58 1,668

1 unchanged sentence

General and administrative 8,345 11,961

Total stock-based compensation expense $ 14,721 $ 12,372 $ 44,225 $ 47,378

Service-Based RSU and Performance-Based RSU Award Activity

Service-Based RSU Performance-Based RSU Total Weighted-Average Grant Date Fair Value

Total $ 9,499 $ 15,931

Restricted Stock Activity

Service-Based Performance-Based Total Shares Weighted-Average Grant Date Fair Value

Unvested outstanding units as of December 31, 2022 3,570,082 336,785 3,906,867 $ 19.53

3,030,608 492,727 3,523,335 $ 34.24

Granted 205,540 — 205,540 3.87

1 unchanged sentence

Forfeited ( 370,807 ) ( 71,177 ) ( 441,984 ) 14.66

Unvested outstanding units as of September 30, 2022

4,914,324 336,785 5,251,109 $ 17.23

As of September 30, 2022, the intrinsic value of the RSUs and PRSUs outstanding, exercisable, and vested or expected to vest was $ 46.5 million.

There was $ 42.7 million of total compensation costs related to stock-based awards not yet recognized as of September 30, 2022, which is expected to be recognized on a straight-line basis over a weighted-average remaining vesting period of approximately one year .

Unvested outstanding units as of March 31, 2023 1,869,527 265,608 2,135,135 $ 14.67

As of March 31, 2023, the intrinsic value of the RSUs and PSUs outstanding, exercisable, and vested or expected to vest was $ 5.4 million.

There was approximately $ 15.2 million of total compensation costs related to stock-based awards not yet recognized as of March 31, 2023, which is expected to be recognized on a straight-line basis over a weighted-average remaining vesting period of 0.9 years.

SHARE REPURCHASES

2 unchanged sentences

The repurchase program has no expiration date and may be modified, suspended, or terminated at any time.

As of September 30, 2022, there was $ 42.3 million of the remaining authorization for future common stock repurchases under the SRP.

Shares Repurchase Activity

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

(in thousands, except per share and share data)

Amount paid for shares repurchased (1)

$ 4,681 $ — $ 7,683 $ —

Number of shares repurchased 498,731 — 859,170 —

Average per share price paid (1)

$ 9.38 $ — $ 8.94 $ —

(1) Includes commissions paid for repurchases on the open market.

As of November 4, 2022, the Company has repurchased an additional 106,623 shares of its common stock for $ 1.0 million since September 30, 2022.

There were no share purchases during the first quarter of 2023 and 2022.

As of March 31, 2023, there was approximately $ 38.7 million of the authorization remaining for future common stock repurchases under the SRP.

ACCUMULATED OTHER COMPREHENSIVE LOSS

5 unchanged sentences

Details of Accumulated Other Comprehensive Loss

September 30, 2022 December 31, 2021

March 31, 2023 December 31, 2022

(in thousands)

3 unchanged sentences

LOSS PER SHARE

Basic net earnings (loss) per share is computed by dividing the net earnings (loss) by the weighted-average number of common shares outstanding for the period, without consideration for potentially dilutive securities.

Diluted net earnings (loss) per share is computed by dividing the net earnings (loss) by the weighted-average number of shares of common stock and dilutive common stock equivalents outstanding for the period determined using the treasury-stock and if-converted methods.

Dilutive common stock equivalents are comprised of unvested restricted common stock and warrants.

For the period of net loss, potentially dilutive securities are not included in the calculation of diluted net earnings (loss) per share, because to do so would be anti-dilutive.

Potentially Dilutive Securities

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

Unvested restricted stock and restricted stock units 410 —

Common stock warrants, exercisable at $ 1.665 per share

Total 833 313 435 799

Unvested antidilutive stock units excluded from the dilutive effect (stock units) 1,218 — 965 —

For the three months ended March 31, 2023 and 2022, PSUs in the amount of 265,608 and 439,786 , respectively, have been excluded from the calculation of potentially dilutive securities above because the issuance of shares is contingent upon the satisfaction of certain conditions which were not satisfied by the end of the period.

RELATED PARTY TRANSACTIONS

Wood, the brother of our Chairman and CEO, has been an employee of the Company since 1996.

The amounts paid to this individual as compensation were $ 91,000 and $ 696,000 for the three and nine months ended September 30, 2022, respectively, and $ 88,000 and $ 389,000 for the three and nine months ended September 30, 2021, respectively.

Wood, the brother of our Chairman and CEO, had been an employee of the Company since 1996.

The amounts paid to him as compensation were $ 249,000 and $ 512,000 for the three months ended March 31, 2023 and 2022, respectively.

Additionally, Mr.

Emmett Wood owned 94,547 and 73,562 shares of the Company’s common stock as of September 30, 2022, and December 31, 2021.

Wood owned 199,785 and 178,041 shares of the Company’s common stock as of March 31, 2023 and December 31, 2022, respectively.

In January 2023, he tendered his resignation as an employee effective February 7, 2023.

One of the Company’s directors serves as a consultant to the Company.

In February 2022, the director and the Company amended the consulting agreement to provide that the Company would pay the remainder of the director’s consulting fees for 2022 in a fixed price amount in the form of restricted stock units.

The Company granted the director 26,091 restricted stock units on February 1, 2022, which vest quarterly in four equal amounts through the end of the year, subject to the director’s continued performance under the consulting agreement.

No cash payments were made for the three months ended September 30, 2022.

The amounts paid for his consulting services were $ 25,000 for the nine months ended September 30, 2022, and $ 71,000 and $ 212,000 for the three and nine months ended September 30, 2021, respectively.

On January 1, 2023, the director and the Company amended the consulting agreement under which he provides services ("2023 consulting agreement"), extending his services through June 30, 2023, with the option to further extend for another six months by mutual agreement of the parties.

The Company, at its election, would pay the director's 2023 consultancy fees in a fixed amount, in the form of restricted stock units.

On January 3, 2023, the Company granted the director 16,859 RSUs for his consulting services, one-half of which vested on March 3, 2023, and the other half vesting on or about May 18, 2023, subject to the director's continued performance under the 2023 consulting agreement.

During the three months ended March 31, 2022, the Company paid $ 25,000 , and granted him 26,091 RSUs on February 1, 2022, for his consulting services in 2022, which RSUs vested quarterly in four equal amounts through the end of the year.

SEGMENT INFORMATION

As noted in Note 2 - Significant Accounting Policies , during the fourth quarter of 2021, as a result of the segment reorganization, our CODM began evaluating, overseeing, and managing the financial performance of our operations through two operating segments:

We operate our business in two reportable and operating segments:

Security Solutions and Secure Networks.

The segments enable the alignment of our strategies and objectives and provide a framework for the timely and rational allocation of resources within the lines of business.

We eliminate any inter-segment revenues and expenses upon consolidation.

The Security Solutions segment is primarily focused on cybersecurity, cloud and identity solutions, and secure messaging through Xacta ® , Telos Ghost ® , Telos Advanced Cyber Analytics, Telos AMHS and Telos ID offerings.

These segments enable the alignment of our strategies and objectives and provide a framework for the timely and rational allocation of resources within the business lines.

Our Security Solutions segment is primarily focused on cybersecurity, cloud and identity solutions, and secure messaging through Xacta ® , Telos Ghost ® , Telos Advanced Cyber Analytics ("Telos ACA"), Telos AMHS and Telos ID offerings.

We recognize revenue on contracts from providing various system platforms in the cloud, on-premises, and in hybrid cloud environments, as well as software sales or software-as-a-service.

Revenue associated with the segment's custom solutions is recognized as work progresses or upon delivery of services and products.

Fluctuation in revenue from period to period is the result of the volume of software sales, and the progress or completion of cloud and/or cybersecurity solutions during the period.

Fluctuation in revenue from period to period is the result of the volume of software sales, and the progress or completion of cloud or cybersecurity solutions during the period.

The majority of the operating costs relate to labor, material, and overhead costs.

1 unchanged sentence

Gross profit and margin are a function of operational efficiency on security solutions and changes in the volume of software sales.

The Secure Networks segment provides secure networking architectures and solutions to our customers through secure mobility solutions, and network management and defense services.

Our Secure Networks segment provides secure networking architectures and solutions to our customers through secure mobility solutions, and network management and defense services.

Revenue is recognized over time as the work progresses on contracts related to managing network services and information delivery.

2 unchanged sentences

Results of Operations by Business Segment

For the Three Months Ended For the Nine Months Ended

September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

2 unchanged sentences

Total revenue 35,222 50,160

Gross profit:

Security Solutions 10,274 15,051

3 unchanged sentences

Operating loss ( 12,970 ) ( 16,367 )

Other income/(expense) 518 20 648 ( 1,001 )

Other income 2,496 12

Interest expense ( 249 ) ( 190 )

Loss before income taxes ( 10,723 ) ( 16,545 )

(Provision for)/benefit from income taxes ( 8 ) 41 ( 133 ) ( 6 )

Provision for income taxes ( 23 ) ( 71 )

Net loss $ ( 10,746 ) $ ( 16,616 )

4 unchanged sentences

As a result, assets are not tracked by segment, and therefore, total assets by segment are not disclosed.

REVISION OF PRIOR YEAR INTERIM FINANCIAL STATEMENTS

(a) Expense Classification

During the third quarter of 2021, the Company identified that stock compensation for a single individual was incorrectly charged to "cost of sales - services" instead of "general and administrative expense." The total amount of stock compensation incorrectly charged to the cost of sales was $ 0.3 million, of which $ 0.1 million was related to the first quarter of 2021, and $ 0.2 million related to the second quarter of 2021.

The Company corrected the error during the third quarter of 2021.

In addition, the Company identified that the allocation of stock compensation for two of the Company's overhead cost pools was incorrectly charged to "cost of sales" instead of "general and administrative expense" during the second quarter of 2021.

The total amount of the allocated stock compensation incorrectly charged to the cost of sales was $ 0.7 million, which the Company corrected during the third quarter of 2021.

(b) Revenue Recognition

In the third quarter of 2021, the Company identified $ 1.1 million in revenue related to the stub period of a newly awarded contract that should have been recognized as income during the second quarter of 2021.

The Company initially corrected the error during the third quarter of 2021.

Additionally, and related to this contract, in the fourth quarter of 2021, the Company identified $ 0.3 million of products revenue for the second quarter of 2021 and $ 0.4 million of products revenue for the third quarter of 2021 that should be classified in the condensed consolidated statements of operations as services revenue.

In the third quarter of 2021, the Company erroneously recorded a $ 0.5 million expense related to a software project whose development milestones were achieved, and therefore, costs associated with the software should have been capitalized.

(d) Recording of Expense

In the third quarter of 2021, the Company erroneously recorded a $ 0.9 million expense related to a contract that had not yet begun.

In the fourth quarter of 2021, the Company reversed the expense previously recorded and does not plan to record the expense until the start of the period of performance.

In the fourth quarter of 2021, the Company identified that a third-quarter RSU was awarded to an individual, but that award was erroneously excluded from its calculation of compensation expense, causing compensation expense to be understated by $ 0.2 million in the third quarter of 2021.

(e) Cash Flow

The Company erroneously presented the $ 2.4 million final payment to fully acquire all membership interest of Telos ID as an operating activity on the condensed consolidated statements of cash flows.

The Company corrected the presentation to properly reflect the final payment within financing activities on the consolidated statements of cash flows in the fourth quarter of 2021.

(f) Valuation of Acquired Assets

In the fourth quarter of fiscal year 2021, the Company identified a necessary update to a previously established assumption related to the valuation of its 2021 acquisition.

The change in assumption resulted in additional goodwill of $ 1.3 million and a reduction of the intangible asset for the same amount that should have been reported during the third quarter of 2021.

Impact of the Correction to the Condensed Consolidated Statement of Operations

For the Three Months Ended September 30, 2021 For the Nine Months Ended September 30, 2021

Previously Reported Error Correction As Adjusted Previously Reported Error Correction As Adjusted

(in thousands, except per share amounts)

Revenue - services $ 63,690 $ ( 735 ) $ 62,955 $ 163,366 $ 650 $ 164,016

Revenue - products 6,376 ( 350 ) 6,026 15,017 ( 650 ) 14,367

Revenue 70,066 ( 1,085 ) 68,981 178,383 — 178,383

Cost of sales - services 40,031 106 40,137 109,134 ( 898 ) 108,236

Costs and expenses 43,998 106 44,104 117,400 ( 898 ) 116,502

Research and development 5,396 ( 533 ) 4,863 14,783 ( 533 ) 14,250

General and administrative 20,562 ( 823 ) 19,739 69,271 181 69,452

Selling, general and administrative expenses 31,321 ( 1,356 ) 29,965 98,287 ( 352 ) 97,935

Operating loss ( 5,253 ) 165 ( 5,088 ) ( 37,304 ) 1,250 ( 36,054 )

Loss before income taxes ( 5,428 ) 165 ( 5,263 ) ( 38,888 ) 1,250 ( 37,638 )

Net loss ( 5,387 ) 165 ( 5,222 ) ( 38,894 ) 1,250 ( 37,644 )

Net loss attributable to Telos Corporation ( 5,387 ) 165 ( 5,222 ) ( 38,894 ) 1,250 ( 37,644 )

Net loss per share attributable to Telos Corporation

Basic $ ( 0.08 ) $ — $ ( 0.08 ) $ ( 0.59 ) $ 0.02 $ ( 0.57 )

Diluted $ ( 0.08 ) $ — $ ( 0.08 ) $ ( 0.59 ) $ 0.02 $ ( 0.57 )

Impact of the Correction to the Condensed Consolidated Statement of Comprehensive Loss

For the Three Months Ended September 30, 2021 For the Nine Months Ended September 30, 2021

Previously Reported Error Correction As Adjusted Previously Reported Error Correction As Adjusted

(in thousands)

Net loss $ ( 5,387 ) $ 165 $ ( 5,222 ) $ ( 38,894 ) $ 1,250 $ ( 37,644 )

Comprehensive loss attributable to Telos Corporation ( 5,400 ) 165 ( 5,235 ) ( 38,934 ) 1,250 ( 37,684 )

Impact of the Correction to the Condensed Consolidated Statement of Cash Flows

For the Nine Months Ended September 30, 2021

Previously Reported Error Correction As Adjusted

(in thousands)

Net loss $ ( 38,894 ) $ 1,250 ( 37,644 )

Stock-based compensation 47,197 181 47,378

Changes in other operating assets and liabilities ( 5,900 ) 1,538 ( 4,362 )

Cash used in operating activities 6,668 2,969 9,637

Capitalized software development costs ( 6,139 ) ( 533 ) ( 6,672 )

Cash used in investing activities ( 13,709 ) ( 533 ) ( 14,242 )

Distribution to Telos ID Class B member – non-controlling interest

— ( 2,436 ) ( 2,436 )

Cash provided by financing activities 35,131 ( 2,436 ) 32,695

Impact of the Correction to the Condensed Consolidated Statement of Changes in Stockholders' Equity

For the Three Months Ended September 30, 2021 For the Nine Months Ended September 30, 2021

Previously Reported Error Correction As Adjusted Previously Reported Error Correction As Adjusted

(in thousands)

Net loss $ ( 5,387 ) $ 165 $ ( 5,222 ) $ ( 38,894 ) $ 1,250 $ ( 37,644 )

Additional paid-in capital 354,119 181 354,300 354,119 181 354,300

Accumulated deficit - beginning balance ( 177,350 ) 1,085 ( 176,265 ) ( 143,843 ) — ( 143,843 )

Accumulated deficit - ending balance ( 182,737 ) 1,250 ( 181,487 ) ( 182,737 ) 1,250 ( 181,487 )

Total Stockholders' equity 171,491 1,431 172,922 171,491 1,431 172,922

COMMITMENT AND CONTINGENCIES

COMMITMENTS AND CONTINGENCIES

Legal Proceedings

As previously reported in Note 19 of the Form 10-Q for the quarter ended June 30, 2022, filed on August 9, 2022, on February 7, 2022, Telos and certain of its current and former officers were named as defendants in a lawsuit filed in the United States District Court for the Eastern District of Virginia.

On February 7, 2022, Telos and certain of its current and former officers were named as defendants in a lawsuit filed in the United States District Court for the Eastern District of Virginia ("Court").

In the complaint, the Plaintiffs, who purport to represent a class of purchasers of Telos common stock between November 19, 2020, and March 16, 2022, allege that the defendants violated securities laws by failing to disclose delays relating to the launch of certain contracts between Telos and the Transportation Security Administration ("TSA") and the Centers for Medicare and Medicaid Services and to take into account those delays when providing a financial forecast for the Company's 2021 performance.

On June 15, 2022, the Plaintiffs filed a consolidated complaint which added claims (i) concerning Telos' disclosure of revenue projections for these contracts, (ii) against the directors of Telos at the time of its initial public offering, and (iii) pursuant to Sections 11 and 15 of the Securities Act of 1933.

The Company is vigorously defending the case, but given the early stage, although a loss may reasonably be possible, the Company is unable to predict the likelihood of success of plaintiffs' claims or estimate a loss or range of loss.

As a result, no material liability has been recorded as of September 30, 2022, and December, 31, 2021, respectively.

In addition, the Company is a party to litigation arising in the ordinary course of business.

In the opinion of management, while the results of such litigation cannot be predicted with any reasonable degree of certainty, the final outcome of such known matters will not, based upon all available information, have a material adverse effect on the Company's unaudited consolidated financial position, results of operations or cash flows.

On February 1, 2023, the Court dismissed the lawsuit in its entirety for failure to state a claim.

The Court's order of dismissal provided the Plaintiffs twenty-one days within which to file a motion for leave to file an amended complaint, should they have a good faith basis to do so.

On March 1, 2023, the Plaintiffs filed a motion for leave to file an amended complaint, and on March 13, 2023, the Court granted the parties' consent motion permitting the filing of a consolidated amended class action complaint and establishing a briefing schedule for Telos' forthcoming motion to dismiss that amended complaint.

On April 14, 2023, Telos moved to dismiss the consolidated amended class action complaint.

The Company does not believe that there are claims or proceedings that would have a material adverse effect on the business, or the unaudited consolidated financial statements of the Company as of March 31, 2023.

Other - Government Contracts

10 unchanged sentences

SUPPLEMENTAL CASH FLOW INFORMATION

Details of Cash, Cash Equivalent, and Restricted Cash

September 30, 2022 December 31, 2021

Details of Cash, Cash Equivalents, and Restricted Cash

March 31, 2023 December 31, 2022

(in thousands)

2 unchanged sentences

Cash, cash equivalents, and restricted cash $ 112,595 $ 119,438

(1) Restricted cash consists of a commercial money market account held as a deposit on the Ashburn lease and is recorded under "Other assets" on the Consolidated Balance Sheets

(1) Restricted cash consists of a commercial money market account held as a deposit on the Ashburn lease and is recorded under "Other assets" on the unaudited consolidated balance sheets.

Supplemental Cash Flow Information

For the Nine Months Ended

September 30, 2022 September 30, 2021

For the Three Months Ended

March 31, 2023 March 31, 2022

(in thousands)

1 unchanged sentence

Interest $ 219 $ 179

Income taxes 188 54

Non-cash investing and financing activities:

1 unchanged sentence

Capital expenditure activity in accounts payable and other accrued liabilities 273 —

Common stock repurchase under SRP 80 —

Acquisition holdback — 506

Withholding tax on net share settlement under other current liabilities 65 —

Issuance of common stock for 401K match 1,942 —

Intangible assets transferred to extinguish the other financing obligations 7,089 —

REVISION OF PRIOR YEAR INTERIM FINANCIAL STATEMENTS

During the course of preparing the Company's consolidated financial statements for the year ended December 31, 2022, we identified that stock-based compensation expense related to the PSU awards with market conditions was erroneously reversed when those PSUs were forfeited during the quarter ended March 31, 2022.

Due to the error, general and administrative expense was understated by $ 1.6 million in the first quarter of 2022.

The errors had no net impact on cash flows from operating, investing or financing activities in the consolidated statement of cash flows.

The following tables set forth the effects of the revisions of previously issued unaudited quarterly consolidated financial statements to correct for prior period error.

Impact of the Correction to the Unaudited Consolidated Statement of Operations

For the Three Months Ended March 31, 2022

As Previously Reported Adjustment As Revised

(in thousands, except per share data)

General and administrative $ 22,923 $ 1,633 $ 24,556

Total selling, general and administrative expenses 33,605 1,633 35,238

Operating loss ( 14,734 ) ( 1,633 ) ( 16,367 )

Loss before income taxes ( 14,912 ) ( 1,633 ) ( 16,545 )

Net loss ( 14,983 ) ( 1,633 ) ( 16,616 )

Net loss per share, basic $ ( 0.22 ) $ ( 0.03 ) $ ( 0.25 )

Net loss per share, diluted $ ( 0.22 ) $ ( 0.03 ) $ ( 0.25 )

Impact of the Correction to the Unaudited Consolidated Statement of Comprehensive Loss

For the Three Months Ended March 31, 2022

As Previously Reported Adjustment As Revised

(in thousands)

Net loss $ ( 14,983 ) $ ( 1,633 ) $ ( 16,616 )

Comprehensive loss ( 14,954 ) ( 1,633 ) ( 16,587 )

Impact of the Correction to the Unaudited Consolidated Statement of Changes in Stockholders' Equity

For the Three Months Ended March 31, 2022

As Previously Reported Adjustment As Revised

(in thousands)

Stock-based compensation $ 12,647 $ 1,633 $ 14,280

Additional paid-in capital, end 376,913 1,633 378,546

Net loss $ ( 14,983 ) $ ( 1,633 ) $ ( 16,616 )

Accumulated deficit, end ( 201,960 ) ( 1,633 ) ( 203,593 )

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 1. Financial Statements