~~UNITED STATES~~

~~SECURITIES AND EXCHANGE COMMISSION~~

~~WASHINGTON, D.C. 20549~~

~~______________~~


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q


☒			Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended: September 30, ~~2021~~2022


☐			Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission file number: 001-08443

TELOS CORPORATION

(Exact name of registrant as specified in its charter)


Maryland						52-0880974
(State or other jurisdiction of incorporation or organization)						(I.R.S. Employer Identification No.)

19886 Ashburn Road, Ashburn, Virginia						20147-2358
(Address of principal executive offices)						(Zip Code)

(703) 724-3800

(Registrant’s telephone number, including area code)

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


Title of each class	Trading symbol	Name of each exchange on which registered
Common stock, $0.001 par value per share	TLS	The Nasdaq Stock Market LLC

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.

Large accelerated filer

☐☒

Accelerated filer

☐

Non-accelerated filer

☒☐

Smaller reporting company

☐

Emerging growth company

☒☐

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 Exchange Act): Yes ☐ No ☒

As of November ~~8, 2021,~~4, 2022, the registrant had outstanding ~~66,755,230~~67,210,624 shares of common stock.

Table of Contents

~~TELOS CORPORATION~~

~~TABLE OF CONTENTS~~

~~PART I - FINANCIAL INFORMATION~~Table of Contents to Third Quarter 2022 Form 10-Q



~~Page~~Part I - Financial Information		3
Item 1.	Financial Statements ~~(Unaudited)~~	3
	~~Condensed~~ Consolidated Statements of Operations ~~for the Three and Nine Months Ended September 30, 2021 and 2020~~	3
	~~Condensed~~ Consolidated Statements of Comprehensive Loss ~~for the Three and Nine Months Ended September 30, 2021 and 2020~~	4
	~~Condensed~~ Consolidated Balance Sheets ~~as of~~ ~~September~~ ~~30, 2021 and December 31, 2020~~	5
	~~Condensed~~ Consolidated Statements of Cash Flows ~~for the~~ ~~Nine~~ ~~Months Ended~~ ~~September~~ ~~30, 2021 and 2020~~	6
	~~Condensed~~ Consolidated ~~Statements~~Statement of Changes in ~~Stockholders’~~Stockholders' Equity ~~(Deficit) for the Three and~~ ~~Nine~~ ~~Months Ended~~ ~~September~~ ~~30, 2021 and 2020~~	7
	Notes to ~~Condensed~~the Consolidated Financial Statements	8
	1. Organization	8
	2. Significant Accounting Policies	8
	3. Revenue Recognition	10
	4. Accounts Receivable, Net	11
	5. Inventories, Net	11
	6. Property and Equipment, Net	11
	7. Goodwill	12
	8. Intangible Assets, Net	12
	9. Acquisition	12
	10. Purchase of Telos ID Non-controlling Interests	12
	11. Accounts Payable and Other Accrued Liabilities	13
	12. Stock-Based Compensation	13
	13. Share Repurchases	14
	14. Accumulated Other Comprehensive Loss	14
	15. Loss per Share	14
	16. Related Party Transactions	15
	17. Segment Information	15
	18. Revision of Prior Year Interim Financial Statements	16
	19. Commitments and Contingencies	18
	20. Supplemental Cash Flow Information	18
Item 2.	~~Management’s~~Management's Discussion and Analysis of Financial Condition and Results of Operations	20
	Forward-Looking Statements	20
	General and Business Overview	20
	Business Environment	21
	Backlog	23
	Financial Overview	23
	Results of Operations	24
	Non-GAAP Financial Measures	26
	Liquidity and Capital Resources	28
	Critical Accounting Policies and Estimates	29
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	3329
Item 4.	Controls and Procedures	3429
Part II - Other Information		~~PART II - OTHER INFORMATION~~31
Item 1.	Legal Proceedings	3531
Item 1A.	Risk Factors	3531
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	3531
Item 3.	Defaults ~~upon~~Upon Senior Securities	3531
Item 4.	Mine Safety Disclosures	3531
Item 5.	Other Information	3531
Item 6.	Exhibits	3632
	~~SIGNATURES~~Signatures	3733

Table of Contents

PART I –- FINANCIAL INFORMATION

Item 1. Financial ~~Statements~~Statements.

~~TELOS CORPORATION~~Telos Corporation

~~CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS~~Consolidated Statements of Operations

(Unaudited)

~~(amounts in thousands, except per share data)~~


	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 amounts)
Revenue – services	$	55,305	$	62,955	$	153,683	$	164,016
Revenue – products	8,288		6,026		15,861		14,367
Total revenue	63,593		68,981		169,544		178,383
Cost of sales – services	36,746		40,137		97,913		108,236
Cost of sales – products	5,902		3,967		10,886		8,266
Total cost of sales	42,648		44,104		108,799		116,502
Gross profit	20,945		24,877		60,745		61,881
Selling, general and administrative expenses:
Sales and marketing	3,042		5,363		13,035		14,233
Research and development	3,981		4,863		13,900		14,250
General and administrative	21,591		19,739		68,379		69,452
Total selling, general and administrative expenses	28,614		29,965		95,314		97,935
Operating loss	(7,669)		(5,088)		(34,569)		(36,054)
Other income/(expense)	518		20		648		(1,001)
Interest expense	(181)		(195)		(558)		(583)
Loss before income taxes	(7,332)		(5,263)		(34,479)		(37,638)
(Provision for)/benefit from income taxes	(8)		41		(133)		(6)
Net loss	$	(7,340)	$	(5,222)	$	(34,612)	$	(37,644)

Net loss per share:
Basic	$	(0.11)	$	(0.08)	$	(0.51)	$	(0.57)
Diluted	$	(0.11)	$	(0.08)	$	(0.51)	$	(0.57)

Weighted average shares outstanding:
Basic	67,493		66,755		67,641		65,999
Diluted	67,493		66,755		67,641		65,999

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
Revenue
Services $ 63,690 $ 44,166 $ 163,366 $ 124,210
Products 6,376 3,274 15,017 10,819
70,066 47,440 178,383 135,029
Costs and expenses
Cost of sales - Services 40,031 28,619 109,134 82,862
Cost of sales - Products 3,967 2,259 8,266 5,790
43,998 30,878 117,400 88,652
Selling, general and administrative expenses
Sales and marketing 5,363 1,491 14,233 4,556
Research and development 5,396 3,598 14,783 11,070
General and administrative 20,562 6,960 69,271 20,769
31,321 12,049 98,287 36,395
Operating (loss) income (5,253) 4,513 (37,304) 9,982
Other income (expense)
Other income (expense) 20 2 (1,001) 14
Interest expense (195) (2,013) (583) (6,026)
(Loss) income before income taxes (5,428) 2,502 (38,888) 3,970
Benefit from (provision for) income taxes 41 (8) (6) 136
Net (loss) income (5,387) 2,494 (38,894) 4,106
Less: Net income attributable to non-controlling interest — (2,694) — (6,284)
Net loss attributable to Telos Corporation $ (5,387) $ (200) $ (38,894) $ (2,178)
Net loss per share attributable to Telos Corporation, basic $ (0.08) $ (0.01) $ (0.59) $ (0.06)
Net loss per share attributable to Telos Corporation, diluted $ (0.08) $ (0.01) $ (0.59) $ (0.06)
Weighted-average shares of common stock outstanding, basic 66,755 39,002 65,999 38,554
Weighted-average shares of common stock outstanding, diluted 66,755 39,002 65,999 38,554

~~The~~See accompanying notes ~~are an integral part of these condensed~~to unaudited consolidated financial statements.

Table of Contents

~~TELOS CORPORATION~~Telos Corporation

~~CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS~~Consolidated Statements of Comprehensive Loss

(Unaudited)

~~(amounts inthousands)~~


	For the Three Months Ended				For the Nine Months Ended
	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021

	(in thousands)
Net loss	$	(7,340)	$	(5,222)	$	(34,612)	$	(37,644)
Other comprehensive loss, net of tax:
Foreign currency translation adjustments	(21)		(13)		(3)		(40)
Comprehensive loss	$	(7,361)	$	(5,235)	$	(34,615)	$	(37,684)

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
Net (loss) income $ (5,387) $ 2,494 $ (38,894) $ 4,106
Other comprehensive loss, net of tax:
Foreign currency translation adjustments (13) (2) (40) (1)
Less: Comprehensive income attributable to non-controlling interest — (2,694) — (6,284)
Comprehensive loss attributable to Telos Corporation $ (5,400) $ (202) $ (38,934) $ (2,179)

~~The~~See accompanying notes ~~are an integral part of these condensed~~to unaudited consolidated financial statements.

Table of Contents

~~TELOS CORPORATION~~Telos Corporation

~~CONDENSED CONSOLIDATED BALANCE SHEETS~~Consolidated Balance Sheets

~~(amounts in thousands, except shares and par value data)~~(Unaudited)


		September 30, 2021		December 31, 2020			September 30, 2022		December 31, 2021
		(Unaudited)
ASSETS
Current assets
							(in thousands, except per share and share data)
Assets:						Assets:
Cash and cash equivalents	Cash and cash equivalents	$	134,135	$	106,045	Cash and cash equivalents	$	125,332	$	126,562
Accounts receivable, net of reserve of $116 and $308, respectively		49,759		30,913
Inventories, net of obsolescence reserve of $849 and $851, respectively		2,025		3,311
Accounts receivable, net						Accounts receivable, net	50,983		59,844
Inventories, net						Inventories, net	4,676		1,247
Prepaid expenses	Prepaid expenses	5,440		3,059		Prepaid expenses	6,069		3,329
Other current assets	Other current assets	941		786		Other current assets	930		732
Total current assets	Total current assets	192,300		144,114		Total current assets	187,990		191,714
Property and equipment, net of accumulated depreciation and amortization of $33,805 and $32,057, respectively		14,363		14,977
Property and equipment, net						Property and equipment, net	5,128		6,088
Finance lease right-of-use assets, net						Finance lease right-of-use assets, net	8,137		9,053
Operating lease right-of-use assets	Operating lease right-of-use assets	1,004		1,464		Operating lease right-of-use assets	456		852
Goodwill	Goodwill	16,642		14,916		Goodwill	17,922		17,922
Intangible assets, net	Intangible assets, net	17,102		7,420		Intangible assets, net	26,858		19,199
Other assets	Other assets	1,256		926		Other assets	908		1,253
Total assets	Total assets	$	242,667	$	183,817	Total assets	$	247,399	$	246,081
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Liabilities and Stockholders' Equity:						Liabilities and Stockholders' Equity:
Liabilities:						Liabilities:
Accounts payable and other accrued liabilities	Accounts payable and other accrued liabilities	$	35,102	$	20,899	Accounts payable and other accrued liabilities	$	37,583	$	34,548
Accrued compensation and benefits	Accrued compensation and benefits	7,955		8,474		Accrued compensation and benefits	8,941		6,557
Contract liabilities	Contract liabilities	7,232		5,654		Contract liabilities	6,952		6,381
Finance lease obligations – short-term		1,430		1,339
Operating lease obligations – short-term		602		677
Finance lease obligations, current portion						Finance lease obligations, current portion	1,558		1,461
Operating lease obligations, current portion						Operating lease obligations, current portion	408		564
Other current liabilities	Other current liabilities	2,089		1,903		Other current liabilities	1,972		1,430
Total current liabilities	Total current liabilities	54,410		38,946		Total current liabilities	57,414		50,941

Finance lease obligations – long-term		13,218		14,301
Operating lease obligations – long-term		516		941
Finance lease obligations, non-current portion						Finance lease obligations, non-current portion	11,660		12,840
Operating lease liabilities, non-current portion						Operating lease liabilities, non-current portion	108		388
Deferred income taxes	Deferred income taxes	680		652		Deferred income taxes	748		723
Other liabilities	Other liabilities	2,352		1,873		Other liabilities	436		935
Total liabilities	Total liabilities	71,176		56,713		Total liabilities	70,366		65,827

Commitments and contingencies (Note 11)		0		0

Commitments and contingencies (Note 19)						Commitments and contingencies (Note 19)
Stockholders’ equity	Stockholders’ equity					Stockholders’ equity
Common stock, $0.001 par value, 250,000,000 shares authorized, 66,755,230 shares and 64,625,071 shares issued and outstanding as of September 30, 2021 and December 31, 2020, respectively		105		103
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, 67,300,099 shares and 66,767,450 shares issued and outstanding as of September 30, 2022 and December 31, 2021, respectively	106		105
Additional paid-in capital	Additional paid-in capital	354,119		270,800		Additional paid-in capital	398,546		367,153
Accumulated other comprehensive income		4		44
Accumulated other comprehensive loss						Accumulated other comprehensive loss	(30)		(27)
Accumulated deficit	Accumulated deficit	(182,737)		(143,843)		Accumulated deficit	(221,589)		(186,977)
Total stockholders’ equity	Total stockholders’ equity	171,491		127,104		Total stockholders’ equity	177,033		180,254
Total liabilities and stockholders’ equity	Total liabilities and stockholders’ equity	$	242,667	$	183,817	Total liabilities and stockholders’ equity	$	247,399	$	246,081

~~The~~See accompanying notes ~~are an integral part of these condensed~~to unaudited consolidated financial statements.

Table of Contents

~~TELOS CORPORATION~~Telos Corporation

~~CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS~~Consolidated Statements of Cash Flows

(Unaudited)

~~(amounts inthousands)~~


	For the Nine Months Ended
	September 30, 2022		September 30, 2021

	(in thousands)
Cash flows from operating activities:
Net loss	$	(34,612)	$	(37,644)
Adjustments to reconcile net loss to cash flows provided by operating activities:
Stock-based compensation	44,225		47,378
Depreciation and amortization	4,427		4,223
Deferred income tax provision	25		28
Accretion of discount on acquisition holdback	36		7
Loss on disposal of fixed assets	2		9
Provision for doubtful accounts	97		7
Recovery from inventory obsolescence	(108)		(2)
Changes in other operating assets and liabilities
Accounts receivable	8,763		(18,852)
Inventories	(3,321)		1,288
Prepaid expenses, other current assets, and other assets	(2,486)		(3,259)
Accounts payable and other accrued payables	2,635		15,742
Accrued compensation and benefits	371		(519)
Contract liabilities	571		1,579
Other current liabilities and other liabilities	(507)		(348)
Net cash provided by operating activities	20,118		9,637
Cash flows from investing activities:
Capitalized software development costs	(8,580)		(6,672)
Purchases of property and equipment	(815)		(1,645)
Cash paid for acquisition	—		(5,925)
Net cash used in investing activities	(9,395)		(14,242)
Cash flows from financing activities:
Payments under finance lease obligations	(1,083)		(993)
Payment of tax withholding related to net share settlement of equity awards	(3,135)		—
Repurchase of common stock	(7,603)		(1,251)
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	—		(2,436)
Net cash (used in)/provided by financing activities	(11,821)		32,695
Net change in cash, cash equivalents, and restricted cash	(1,098)		28,090
Cash, cash equivalents and restricted cash, beginning of period	126,562		106,045
Cash, cash equivalents and restricted cash, end of period	$	125,464	$	134,135

Nine Months Ended September 30,
2021 2020
Operating activities:
Net (loss) income $ (38,894) $ 4,106
Adjustments to reconcile net (loss) income to cash provided by operating activities:
Stock-based compensation 47,197 4
Dividends from preferred stock recorded as interest expense — 2,867
Depreciation and amortization 4,223 4,018
Amortization of debt issuance costs — 684
Deferred income tax provision 28 28
Other noncash items 14 (25)
Changes in other operating assets and liabilities (5,900) 275
Cash provided by operating activities 6,668 11,957
Investing activities:
Cash paid for acquisition (5,925) —
Capitalized software development costs (6,139) (5,459)
Purchases of property and equipment (1,645) (624)
Cash used in investing activities (13,709) (6,083)
Financing activities:
Proceeds from issuance of common stock, net of issuance costs 64,269 —
Repurchase of outstanding warrants (26,894) —
Repurchase of common stock (1,251) —
Payments under finance lease obligations (993) (907)
Amendment fee paid to lender — (100)
Distributions to Telos ID Class B member - non-controlling interest — (1,292)
Cash provided by (used in) financing activities 35,131 (2,299)
Increase in cash and cash equivalents 28,090 3,575
Cash and cash equivalents, beginning of period 106,045 6,751
Cash and cash equivalents, end of period $ 134,135 $ 10,326
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 583 $ 2,211
Income taxes $ 54 $ 50
Noncash:
Dividends from preferred stock recorded as interest expense $ — $ 2,867
Supplemental disclosure of non-cash investing activity
Acquisition holdback $ 506 $ —

~~The~~See accompanying notes ~~are an integral part of these condensed~~to unaudited consolidated financial statements.

Table of Contents

~~TELOS CORPORATION~~Telos Corporation

~~CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)~~Consolidated Statements of Changes in Stockholders' Equity

(Unaudited)

~~(amounts in thousands)~~


	Common Stock			Additional Paid-in Capital		Accumulated Other Comprehensive Income/(Loss)		Accumulated Deficit		Total Stockholders’ Equity
	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 Accumulated Deficit Non-Controlling Interest Total Stockholders’
Equity (Deficit)
For the Three Months Ended September 30, 2021
Beginning balance $ 105 $ 341,928 $ 17 $ (177,350) $ — $ 164,700
Net loss — — — (5,387) — (5,387)
Foreign currency translation loss — — (13) — — (13)
Stock-based compensation — 12,191 — — — 12,191
Ending balance $ 105 $ 354,119 $ 4 $ (182,737) $ — $ 171,491
For the Three Months Ended September 30, 2020
Beginning balance $ 78 $ 4,310 $ 7 $ (147,508) $ 7,104 $ (136,009)
Net (loss) income — — — (200) 2,694 2,494
Foreign currency translation loss — — (2) — — (2)
Stock-based compensation — 4 — — — 4
Distributions — — — — (292) (292)
Ending balance $ 78 $ 4,314 $ 5 $ (147,708) $ 9,506 $ (133,805)
For the Nine Months Ended September 30, 2021
Beginning balance $ 103 $ 270,800 $ 44 $ (143,843) $ — $ 127,104
Net loss — — — (38,894) — (38,894)
Issuance of common stock 2 64,267 — — — 64,269
Foreign currency translation loss — — (40) — — (40)
Stock-based compensation — 47,197 — — 47,197
Repurchase of outstanding warrants — (26,894) — — — (26,894)
Repurchase of common stock — (1,251) — — — (1,251)
Ending balance $ 105 $ 354,119 $ 4 $ (182,737) $ — $ 171,491
For the Nine Months Ended September 30, 2020
Beginning balance $ 78 $ 4,310 $ 6 $ (145,530) $ 4,514 $ (136,622)
Net (loss) income — — — (2,178) 6,284 4,106
Foreign currency translation loss — — (1) — — (1)
Stock-based compensation — 4 — — — 4
Distributions — — — — (1,292) (1,292)
Ending balance $ 78 $ 4,314 $ 5 $ (147,708) $ 9,506 $ (133,805)


	Common Stock			Additional Paid-in Capital		Accumulated Other Comprehensive Income/(Loss)		Accumulated Deficit		Total Stockholders’ Equity
	Shares	Amount

	(in thousands)
Balance at December 31, 2021	66,767	$	105	$	367,153	$	(27)	$	(186,977)	$	180,254
Net loss	—	—		—		—		(34,612)		(34,612)
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

Balance at December 31, 2020	64,625	$	103	$	270,800	$	44	$	(143,843)	$	127,104
Net loss	—	—		—		—		(37,644)		(37,644)
Issuance of common stock	2,050	2		64,267		—		—		64,269
Foreign currency translation loss	—	—		—		(40)		—		(40)
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

~~The~~See accompanying notes ~~are an integral part of these condensed~~to unaudited consolidated financial statements.

Table of Contents

~~TELOS CORPORATION~~Telos Corporation

~~NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS~~

~~(Unaudited)~~Notes to the Unaudited Consolidated Financial Statements

~~Note 1~~. ~~General and Basis of Presentation~~

~~Description of Business~~

~~Organization~~

1. ORGANIZATION

Telos Corporation, together with its subsidiaries (collectively, the ~~"Company", "we",~~"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 ~~share capital~~shares of Xacta Corporation, a subsidiary that develops, markets and ~~sells~~sell government-validated secure enterprise solutions to government and commercial customers. We ~~also~~ own ~~all of~~ the issued and outstanding share capital of Ubiquity.com, Inc., a holding company for Xacta Corporation. We ~~own~~also have a 100% ownership interest in Telos Identity Management Solutions, LLC (“("Telos ~~ID”~~ID"), Teloworks, Inc. ~~(“Teloworks”)~~, and Telos APAC Pte. Ltd. ~~(“Telos APAC”).~~

~~On November 12, 2020, we amended our charter to effect an approximate 0.794-for-1 reverse stock split with respect to our common stock. The par value and the authorized shares~~

2. SIGNIFICANT ACCOUNTING POLICIES

(a)Basis of the common stock were not adjusted as a result of the reverse stock split. The accompanying condensed consolidated financial statements and notes to the condensed consolidated financial statements give retroactive effect to the reverse stock split for all periods presented.Presentation

~~Public Offerings of Common Stock~~

On November 19, 2020, we completed our initial public offering ("IPO") of shares of our common stock. We issued 17.2 million shares of our common stock at a price of $17.00 per share, generating net proceeds of approximately $272.8 million. We used approximately $108.9 million of the net proceeds in connection with the conversion of our outstanding shares of Exchangeable Redeemable Preferred Stock into the right to receive cash and shares of our common stock, $30.0 million to fund our acquisition of the outstanding Class B Units of Telos ID, and $21.0 million to repay our outstanding senior term loan and subordinated debt.

On April 6, 2021, we completed our follow-on offering of 9.1 million shares of our common stock at a price of $33.00 per share, including 7.0 million shares of common stock held by certain existing stockholders of Telos. The offering generated approximately $64.3 million of net proceeds to Telos. We did not receive any proceeds from the shares of common stock sold by the selling stockholders. On April 19, 2021, we used approximately $1.3 million of the net proceeds to repurchase 39,682 shares of our common stock and $26.9 million to repurchase the warrants to purchase 900,970 shares of our common stock owned by certain affiliates of Enlightenment Capital Solutions ("EnCap").

We have used and intend to continue using the remaining net proceeds for general corporate purposes, including working capital, sales and marketing activities, research and development, general and administrative matters and capital expenditures. We also may use a portion of the net proceeds to acquire complementary businesses, products, services, or technologies. The amounts and timing of our actual use of the net proceeds will vary depending on numerous factors.

~~Principles of Consolidation and Reporting~~

The accompanying unaudited ~~condensed~~ 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 ~~subsidiaries.~~directly and indirectly by Telos Corporation. All intercompany transactions have been eliminated in consolidation.

~~The accompanying condensed consolidated~~(b)Basis of Presentation for Interim Periods

Certain information and footnote disclosures normally included for the annual financial statements ~~for the three and nine months ended September 30, 2021 and 2020 have been~~ prepared in accordance with accounting principles generally accepted in the United States of America ~~(“GAAP”~~("U.S. GAAP") have been condensed or omitted for the interim periods presented. We believe that the unaudited interim financial statements include all adjustments (which are normal and ~~pursuant~~recurring) necessary to ~~rules~~state fairly our financial position and ~~regulations~~the results of operations and cash flows for the ~~Securities and Exchange Commission (“SEC”).~~ periods presented.

The ~~presented~~results of operations for the interim ~~results~~periods presented are not necessarily indicative of ~~fiscal~~results that may be expected for the year performance for a variety of reasons including, but not limited to, the impact of seasonal and short-term variations. We have continued to follow the accounting policies (including the critical accounting policies) set forth in the consolidated financial statements included in our 2020 Annual Report on Form 10-K filed with the SEC. These condensed consolidatedor future periods. The financial statements should be read in conjunction with ~~the~~our audited consolidated financial statements and the notes thereto for the year ended December 31, 2021, included in our Annual Report on Form 10-K for the fiscal year ~~ended December 31, 2020.~~then ended. We have continued to follow the accounting policies set forth in those financial statements.

~~In preparing these~~(c)Segment Reporting

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,~~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 ~~have evaluated subsequent events through~~corrected the ~~date that these~~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 were issued.~~statements.

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~~Basis~~(e)Use of ~~Comparison~~Estimates

Preparing unaudited consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of revenue, expenses, assets, and liabilities and disclosure of contingent assets and liabilities. The Company regularly assesses these estimates; however, actual results could differ from those estimates. 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. 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 ~~prior-period amounts~~reclassifications have been ~~reclassified~~made to prior years' consolidated financial statements to conform to the current ~~period~~year's presentation. ~~In the current period, we have reclassified and presented intangible assets separately from our property and equipment line item.~~ The reclassification had no impact on our total assets or liabilities nor on our net loss or stockholders' equity.

For the three months ended September 30, 2021, the Company recorded an out-of-period adjustment resulting in a $1.1 million increase to 'Services' revenue and a $1.0 million reclassification between 'Cost of Sales - Services' and 'General and Administrative' expenses within the condensed consolidated statements of operations. The Company identified and corrected this error in the current period. This error was not material to any previously filed consolidated financial statements and the impact of correcting this error in the current period is not material to our third quarter 2021 condensed consolidated financial statements.

~~Segment Reporting~~

Operating segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly by the chief operating decision maker (“CODM”), or decision making group, in deciding how to allocate resources and assess performance. We currently operate in 1 operating and reportable business segment for financial reporting purposes. Our Chief Executive Officer is the CODM. The CODM evaluates profitability based on consolidated results.

(h)Recent Accounting Pronouncements

~~Accounting Standards Recently Adopted~~

~~In December 2019,~~Changes to U.S. GAAP are established by the Financial Accounting ~~Standard~~Standards Board ~~(“FASB”~~("FASB") ~~issued~~in the form of Accounting Standards ~~Update (“ASU”~~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. ~~2019-12, “Simplifying the~~2021-08, “Business Combination (Topic 805): Accounting for ~~Income Taxes (Topic 740)~~Contract Assets and Contract Liabilities from Contracts with Customers,”, which ~~simplifies the accounting for income taxes by removing certain exceptions~~requires entities to ~~the general principles~~apply Topic 606 to recognize and measure contract assets and contract liabilities in ~~Topic 740.~~a business combination. The ASU ~~also clarifies~~improves comparability after the business combination by providing consistent recognition and ~~amends existing~~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 ~~improve consistent application.~~business combinations that occur after the effective date. This standard iswill be effective for reporting periods beginning after December 15, ~~2020, which made this standard effective for us on January 1, 2021. The~~2022, with early adoption permitted. While we are currently assessing the impact of the adoption of this ASU, ~~did~~we do not believe the adoption of this ASU will have a material impact on our ~~condensed~~unaudited consolidated financial position, results of operations, and cash flows.

~~Summary~~In June 2022, the FASB issued ASU No. 2022-03, "Fair Value Measurement (Topic 820): Fair Value Measurement of ~~Significant Accounting Policies~~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. 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.

~~Inventories~~

~~Inventories are stated at~~In September 2022, the ~~lower~~FASB issued ASU No. 2022-04, "Liabilities - Supplier Finance Programs (Subtopic 405-50): Disclosure of cost or net realizable value, where cost is determined using the weighted average method. Substantially all inventories consist of purchased off-the-shelf hardware and software, and component computer parts usedSupplier Finance Program Obligations," which requires a company that uses a supplier finance program in connection with ~~system integration~~the purchase of goods or services ~~that~~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. While we ~~perform. An allowance for obsolete, slow-moving or nonsaleable inventory is provided for all other inventories. This allowance is based~~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 ~~overall obsolescence experience~~unaudited consolidated financial position, results of operations, and our assessment of future inventory requirements. This charge is taken primarily due to the age of the specific inventory and the significant additional costs that would be necessary to upgrade to current standards as well as the lack of forecasted sales for such inventory in the near future. Gross inventory was $2.9 million and $4.2 million as of September 30, 2021 and December 31, 2020, respectively. As of September 30, 2021, it is management’s judgment that we have fully provided for any potential inventory obsolescence, which was $0.8 million and $0.9 million as of September 30, 2021 and December 31, 2020, respectively.

~~Software Development Costs~~

We account for development costs of our software to be sold in accordance with ASC Topic 985-20, “Software – Costs of Software to be Sold, Leased, or Marketed” and for internal use software in accordance with ASC Topic 350-40 “Internal Use Software”. Under both standards, software development costs are expensed as incurred until technological feasibility is reached, at which time additional costs are capitalized until the product is available for general release to customers or is ready for its intended use, as appropriate. Technological feasibility is established when all planning, designing, coding and testing activities have been completed, and all risks have been identified. Software development costs are capitalized and amortized over the estimated product life of 2 years on a straight-line basis, which are included as a part of intangible assets. The Company analyzes the net realizable value of capitalized software development costs on at least an annual basis and has determined that there is no indication of impairment of the capitalized software development costs as forecasted future sales are adequate to support the carrying values.cash flows.

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~~Income Taxes~~

We account for income taxes in accordance with ASC 740, “Income Taxes”. Under ASC 740, deferred tax assets and liabilities are recognized for the estimated future tax consequences of temporary differences and income tax credits. Deferred tax assets and liabilities are measured by applying enacted statutory tax rates that are applicable to the future years in which deferred tax assets or liabilities are expected to be settled or realized for differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. Any change in tax rates on deferred tax assets and liabilities is recognized in net income in the period in which the tax rate change is enacted.

We follow the provisions of ASC 740 related to accounting for uncertainty in income taxes. The accounting estimates related to liabilities for uncertain tax positions require us to make judgments regarding the sustainability of each uncertain tax position based on its technical merits. If we determine it is more likely than not that a tax position will be sustained based on its technical merits, we record the impact of the position in our condensed consolidated financial statements at the largest amount that is greater than fifty percent likely of being realized upon ultimate settlement. These estimates are updated at each reporting date based on the facts, circumstances and information available. We are also required to assess at each reporting date whether it is reasonably possible that any significant increases or decreases to our unrecognized tax benefits will occur during the next 12 months.

The provision for income taxes in interim periods is computed by applying the estimated annual effective tax rate against earnings before income tax expense for the period. In addition, non-recurring or discrete items are recorded during the period in which they occur.

~~Goodwill~~

Goodwill is recorded as the difference between the aggregate consideration paid for an acquisition and the fair value of net tangible and intangible assets acquired and liabilities assumed. Goodwill is not amortized, but rather tested for potential impairment annually during our fourth quarter, or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Such circumstances could include, but are not limited to: (1) a significant adverse change in legal factors or business climate, or (2) a loss of key contracts or customers.

The goodwill impairment test is performed at the reporting unit level. The Company estimates and compares the fair value of each reporting unit to its respective carrying value including goodwill. If the fair value is less than the carrying value, the amount of impairment expense is equal to the difference between the reporting unit’s fair value and the reporting unit’s carrying value.

~~Goodwill is amortized and deducted over a 15-year period for tax purposes.~~

~~Stock-Based Compensation~~

Under our 2016 Omnibus Long-Term Incentive Plan, as amended (the “2016 LTIP”), we have the ability to award restricted stock units with time-based vesting (“Service-Based RSUs”), and restricted stock units with performance-based vesting (“Performance-Based RSUs”) to senior executives, directors, employees and other eligible service providers. Under the 2016 LTIP, our Board of Directors or, by designation of authority, the Compensation Committee of our Board of Directors has the discretion to establish the terms, conditions and criteria of the various awards, including the weighing and vesting schedule of Service-Based RSUs and the performance conditions applicable to the Performance-Based RSUs, including the achievement of certain financial performance criteria or price targets for our common stock. Upon vesting, Service-Based RSUs and Performance-Based RSUs will be settled in the Company’s common stock.

•~~Service-Based RSUs~~ ~~granted to eligible employees as an incentive generally vest in equal installments over~~ ~~two~~ ~~to three years from the date of grant. Service-Based RSUs granted to senior executives in 2021 vest in~~ ~~three~~ annual installments from the date of grant, with 30% vesting on the first and second anniversaries and 40% vesting on the third anniversary. The grant date fair value per share is equal to the closing stock price on the date of grant.

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•~~Performance-Based RSUs~~ may vest upon the achievement of a defined performance target or at the end of the defined performance period from the date of grant, whichever initially occurs. The grant date fair value per share of these Performance-Based RSUs is equal to the closing stock price on the date of the grant or the fair value of the award on the grant date as determined through an independent valuation, for performance-based RSUs with market condition. Performance-Based RSUs may vest upon the achievement of certain price targets for the Company’s common stock anytime over a three-year period from the date of grant. In order to reflect the substantive characteristics of these market condition awards, the Company employs a Monte Carlo simulation valuation model to calculate the grant date fair value and corresponding requisite service period of the award. Monte Carlo approaches are a class of computational algorithms that rely on repeated random sampling to compute their results. This approach allows the calculation of the value of such awards based on a large number of possible stock price path scenarios.3. REVENUE RECOGNITION

We recognize these share-based payment transactions when services from the employees are received and recognize a corresponding increase in additional paid-in capital in our condensed consolidated balance sheets. The measurement objective for these equity awards is the estimated fair value at the date of grant of the equity instruments that we are obligated to issue when employees have rendered the requisite service and satisfied any other conditions necessary to earn the right to benefit from the instruments. The compensation expense for an award is recognized ratably over the requisite service period for the entire award, which is the period during which an employee is required to provide service in exchange for an award. Compensation expense for awards with performance conditions is recognized over the requisite service period if it is probable that the performance condition will be satisfied. If such performance conditions are not or are no longer considered probable, no compensation expense for these awards is recognized, and any previously recognized expense is reversed. If the performance condition is achieved prior to the completion of the requisite service period, any unrecognized compensation expense will be recognized in the period the performance condition is achieved. Compensation expense for awards with market conditions is recognized over the derived service period, or sooner, if the market condition is achieved. Previously recognized expense for awards with market conditions will never be reversed even if the market conditions is never achieved. We recognize forfeitures of share-based compensation awards as they occur. Share-based compensation expense is recognized as part of cost of sales and general and administrative expenses in our condensed consolidated statements of operations.

~~Net 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 stock, unvested restricted stock units and common stock 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 are as follows (in common stock equivalent shares, in thousands):

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
Unvested restricted stock and restricted stock units 313 60 394 60
Common stock warrants, exercisable at $1.665/sh. — 901 405 901
Total 313 961 799 961

~~Other Comprehensive Loss~~

Our functional currency is the U.S. Dollar. For one of our wholly owned subsidiaries, the functional currency is the local currency. For this subsidiary, the translation of its foreign currency into U.S. Dollars is performed for assets and liabilities using current foreign currency exchange rates in effect at the balance sheet date and for revenue and expense accounts using average foreign currency exchange rates during the periods presented. Translation gains and losses are included in stockholders’ equity (deficit) as a component of accumulated other comprehensive income (loss).

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~~Accumulated other comprehensive income included within stockholders’ equity (deficit) consists of the following (in thousands):~~
September 30, 2021 December 31, 2020
Cumulative foreign currency translation loss $ (103) $ (63)
Cumulative actuarial gain on pension liability adjustment 107 107
Accumulated other comprehensive income $ 4 $ 44

~~Note 2. Revenue Recognition~~

~~Performance Obligation~~

~~We account for~~ revenue in accordance with ASC Topic 606, ~~“Revenue~~"Revenue from Contracts with ~~Customers”.~~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. Timing of the satisfaction of performance obligations varies across our businesses due to our diverse product and service mix, customer base, and contractual terms. Significant judgment can be required in determining certain performance obligations, and these determinations could change the amount of revenue and profit recorded in a given period. Our contracts may have a single performance obligation or multiple performance obligations. When there are multiple performance obligations within a contract, we allocate the transaction price to each performance obligation based on our best estimate of standalone selling price.

Contracts are routinely and often modified to account for changes in contract requirements, specifications, quantities, or price. Depending on the nature of the modification, we determine whether to account for the modification as an adjustment to the existing contract or as a new contract. Generally, modifications are not distinct from the existing contract due to the significant interrelatedness of the performance obligations and are therefore accounted for as an adjustment to the existing contract, and recognized as a cumulative adjustment to revenue (as either an increase or reduction of revenue) based on the modification’s effect on progress toward completion of a performance obligation.

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 ~~customers~~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, ~~and 93% and 92% of our revenue for the three and nine months ended September 30, 2020.~~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~~cost-plus fixed-fee contract types, which may include variable consideration as discussed further below. Revenue is recognized over time using costs incurred to date relative to total estimated costs at completion to measure progress toward satisfying our performance obligations. Incurred cost represents work performed, which corresponds with, and thereby best depicts, the transfer of control to the customer. Contract costs include labor, material, subcontractor costs and indirect expenses.consideration.

~~Revenue that is recognized~~We also recognize revenue at a point in time ~~is for~~on certain contracts, when our customer obtains control of the ~~sale of software licenses in our Information Assurance / Xacta®~~transferred product, generally upon delivery, and ~~Secure Communications business groups and for~~ the ~~sale of resold products in Telos ID and Secure Networks, and~~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 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 ~~7% and 8% of our~~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, ~~2020. Revenue on these contracts is recognized when the customer obtains control of the transferred product or service, which is generally upon delivery of the product~~2022, and 2021.

Disaggregated Revenues

In addition to ~~the customer for their use, due to us maintaining control of the product until that point. Orders for the sale of software licenses may contain multiple performance obligations, such~~our segment reporting, 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 using our best estimate of standalone selling price.

further discussed in ~~Table of Contents~~Note 17

~~Contract Estimates~~

Due to the transfer of control over time, revenue is recognized based on progress towards completion of the performance obligation. The selection of the method to measure progress towards completion requires judgment and is based on the nature of the performance obligations. We generally use the cost-to-cost measure of progress on a proportional performance basis for our contracts because it best depicts the transfer of control to the customer which occurs as we incur costs on our contracts. Under the cost-to-cost measure of progress, the extent of progress towards completion is measured based on the ratio of costs incurred to date to the total estimated costs at completion of the performance obligation. Revenues are recorded proportionally as costs are incurred. Due to the nature of the work required to be performed on certain of our performance obligations, the estimation of total revenue and cost at completion is complex, subject to many variables and requires significant judgment. Contract estimates are based on various assumptions including labor and subcontractor costs, materials and other direct costs and the complexity of the work to be performed. A significant change in one or more of these estimates could affect the profitability of our contracts. We review and update our contract-related estimates regularly and recognize adjustments in estimated profit on contracts on a cumulative catch-up basis, which may result in an adjustment increasing or decreasing revenue to date on a contract in a particular period that the adjustment is identified. Revenue and profit in future periods of contract performance are recognized using the adjusted estimate.

Our contracts may include various types of variable consideration, such as claims (for instance, indirect rate or other equitable adjustments) or incentive fees. We include estimated amounts in the transaction price based on all of the information available to us, including historical information and future estimations, and to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when any uncertainty associated with the variable consideration is resolved.

Historically, most of our contracts do not include award or incentive fees. For incentive fees, we would include such fees in the transaction price to the extent we could reasonably estimate the amount of the fee. With limited historical experience, we have not included any revenue related to incentive fees in our estimated transaction prices. We may include in our contract estimates additional revenue for submitted contract modifications or claims against the customer when we believe we have an enforceable right to the modification or claim, the amount can be estimated reliably and its realization is probable. We consider the contractual/legal basis for the claim (in particular the FAR provisions), the facts and circumstances around any additional costs incurred, the reasonableness of those costs and the objective evidence available to support such claims.

For our contracts that have an original duration of one year or less, we use the practical expedient applicable to such contracts and do not consider the time value of money. We capitalize sales commissions related to proprietary software and related services that are directly tied to sales. We do not elect the practical expedient to expense as incurred the incremental costs of obtaining a contract if the amortization period would have been one year or less. For the sales commissions that are capitalized, we amortize the asset over the expected customer life, which is based on recent and historical data.

~~We have 1 reportable segment in accordance with ASC 280,~~ –Segment ~~Reporting~~Information, ~~as such, the disaggregation of~~we disaggregate our revenue ~~below reconciles directly to its unique reportable segment.~~by customer and contract types. We treat sales to U.S. customers as sales within the ~~U.S.~~United States, regardless of where the services are performed. Substantially all of our revenues are generated from U.S. customers.


Table 3.1: 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)
Federal	$	60,294	95	%	$	66,612	97	%	$	160,351	95	%	$	171,091	96	%
State & local, and commercial	3,299		5	%	2,369		3	%	9,193		5	%	7,292		4	%
Total revenue	$	63,593			$	68,981			$	169,544			$	178,383


Table 3.2: 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)
Firm fixed-price	$	54,055	85	%	$	60,349	87	%	$	140,636	83	%	$	155,832	87	%
Time-and-materials	3,457		5	%	3,154		5	%	9,104		5	%	9,243		5	%
Cost plus fixed fee	6,081		10	%	5,478		8	%	19,804		12	%	13,308		8	%
Total revenue	$	63,593			$	68,981			$	169,544			$	178,383

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 ~~as revenue derived~~and generally do not require collateral or other guarantees from ~~international customers is not currently meaningful.~~our customers. We maintain allowances for potential losses.

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Table 3.3: 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
U.S. Department of Defense ("DoD")	77%	74%	74%	75%
Civilian federal agencies	18%	23%	21%	21%

Contract Balances


Table 3.4: Contract Balances
	September 30, 2022		December 31, 2021

	(in thousands)
Contract assets (unbilled receivables)	$	28,290	$	41,374
Contract liabilities	6,952		6,381

The ~~following tables disclose revenue (in thousands) by customer type~~change in the Company's contract assets and contract ~~type~~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, ~~and 2020.~~

Three Months Ended
September 30, Nine Months Ended
September 30,
2021 2020 2021 2020
Federal $ 67,697 $ 45,788 $ 171,091 $ 128,756
State & Local, and Commercial 2,369 1,652 7,292 6,273
Total $ 70,066 $ 47,440 $ 178,383 $ 135,029

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Three Months Ended
September 30, Nine Months Ended
September 30,
2021 2020 2021 2020
Firm-fixed-price $ 61,434 $ 39,483 $ 155,832 $ 113,080
Time-and-materials 3,154 3,605 9,243 11,066
Cost plus fixed fee 5,478 4,352 13,308 10,883
Total $ 70,066 $ 47,440 $ 178,383 $ 135,029

~~Contract Balances~~

~~Contract assets are amounts~~ that are invoiced as work progresses in accordance with agreed-upon contractual terms, either at periodic intervals or upon achievement of contractual milestones. Generally, revenue recognition occurs before billing, resulting in contract assets. These contract assets are referred to as unbilled receivables and are reported within accounts receivable, net of reserve on our condensed consolidated balance sheets.

Billed receivables are amounts billed and due from our customers and are reported within accounts receivable, net of reserve on the condensed consolidated balance sheets. The portion of the payments retained by the customer until final contract settlement is not considered a significant financing component due to the intent of the retainage being the customer’s protection with respect to full and final performance under the contract.

Contract liabilities are payments received in advance and milestone payments from our customers on selected contracts that exceed revenue earned to date, resulting in contract liabilities. Contract liabilities typically are not considered a significant financing component because they are generally satisfied within one year and are used to meet working capital demands that can be higher in the early stages of a contract. Contract liabilities are reported on our condensed consolidated balance sheets on a net contract basis at the end of each reporting period. As of September 30, 2021 and December 31, 2020, the contract liabilities primarily related to product support services.

~~The following table provides information about accounts receivable, contract assets and contract liabilities (in thousands):~~

September 30, 2021 December 31, 2020
Billed accounts receivable $ 10,158 $ 12,060
Unbilled receivables 39,717 19,161
Allowance for doubtful accounts (116) (308)
Accounts receivable – net $ 49,759 $ 30,913
Contract liabilities $ 7,232 $ 5,654

~~Significant changes~~was included in the contract liabilities balance ~~(in thousands):~~at the beginning of each reporting period, was $0.8 million and $4.1 million, respectively.

Three Months Ended
September 30, Nine Months Ended
September 30,
2021 2020 2021 2020
Revenue recognized that was included in the opening contract liability balance $ 823 $ 1,690 $ 4,065 $ 5,208

September 30, 2021 December 31, 2020
(in thousands) (in thousands)
Remaining performance obligations (funded backlog) $ 163,351 $ 127,735

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 ~~95%~~85% of our remaining performance obligations over the next 12 months and the balance thereafter.

4. ACCOUNTS RECEIVABLE, NET


Table 4: Details of Accounts Receivable, Net
	September 30, 2022		December 31, 2021

	(in thousands)
Billed accounts receivable	$	22,903	$	18,586
Unbilled receivables	28,290		41,374
Allowance for credit losses	(210)		(116)
Accounts receivable, net	$	50,983	$	59,844

5. INVENTORIES, NET


Table 5: Details of Inventories, Net
	September 30, 2022		December 31, 2021

	(in thousands)
Gross inventory	$	5,429	$	2,108
Allowance for inventory obsolescence	(753)		(861)
Inventories, net	$	4,676	$	1,247

6. PROPERTY AND EQUIPMENT, NET


Table 6: Details of Property and Equipment, Net
	September 30, 2022		December 31, 2021

	(in thousands)
Furniture and equipment	$	15,765	$	15,420
Leasehold improvement	3,073		2,994
Property and equipment, at cost	18,838		18,414
Accumulated depreciation	(13,710)		(12,326)
Property and equipment, net	$	5,128	$	6,088

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.

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~~Note 3. Non-controlling Interests / Purchase~~7. GOODWILL

The goodwill balance was $17.9 million as of ~~Telos ID~~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. 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.

~~On April 11, 2007, Telos ID~~

8. INTANGIBLE ASSETS, NET


Table 8.1: Details of Intangible Assets, Net
	September 30, 2022						December 31, 2021
	Gross		Accumulated Amortization		Net		Gross		Accumulated Amortization		Net

	(in thousands)
Acquired technology	$	3,630	$	(529)	$	3,101	$	3,630	$	(256)	$	3,374
Customer relationships	40		(16)		24		40		(5)		35
Software development costs	31,199		(7,466)		23,733		22,222		(6,432)		15,790
	$	34,869	$	(8,011)	$	26,858	$	25,892	$	(6,693)	$	19,199

Amortization expense was formed as a limited liability company under the Delaware Limited Liability Company Act. We contributed substantially all of the assets of our Telos ID Enterprise business line and assigned our rights to perform under our U.S. Government contract with the Defense Manpower Data Center to Telos ID at their stated book value, amounting to $17,000. Until April 19, 2007, we owned 99.999% of the membership interests of Telos ID and Hoya ID Funds A, LLC ("Hoya") owned 0.001% of the membership interests of Telos ID. On April 20, 2007, we sold an additional 39.999% of the membership interests to Hoya for $6 million in cash consideration, resulting in 60% ownership of Telos ID.

On December 24, 2014, Hoya acquired from the Company an additional ten percent (10%) membership interest in Telos ID in exchange for $5 million (the “2014 Transaction”). In connection with the 2014 Transaction, the Company and Hoya entered into the Second Amended and Restated Operating Agreement (the “Operating Agreement”) governing the business, allocation of profits and losses and management of Telos ID. Under the Operating Agreement, Telos ID was managed by a board of directors comprised of five (5) members (the “Telos ID Board”). The Company owned 50% of Telos ID, was entitled to receive 50% of the profits of Telos ID, and could appoint three (3) members of the Telos ID Board. Hoya owned 50% of Telos ID, was entitled to receive 50% of the profits of Telos ID, and could appoint two (2) members of the Telos ID Board.

~~As a result of the 2014 Transaction, each of the members owned 50% of Telos ID, as mentioned above, and as such each was allocated 50% of the profits, which was $2.7~~$0.5 million and ~~$6.3~~$1.3 million for the three and nine months ended September 30, ~~2020, respectively. Hoya held the non-controlling interest.~~

~~On October 5, 2020, we entered into a Membership Interest Purchase Agreement between the Company~~2022, respectively, 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 7,278,040 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 the elimination of Hoya’s non-controlling interest in Telos ID. The net impact to APIC associated with the acquisition of the additional 50% interest in Telos ID was a reduction of $25.5 million.

Distributions were made to the members only when and to the extent determined by Telos ID’s Board of Directors, in accordance with the Operating Agreement. Hoya received a final distribution of $2.4 million in January 2021, which was accrued and presented in accounts payable and other accrued liabilities in the condensed consolidated balance sheets as of December 31, 2020. Hoya received a total distribution of $0.3$0.4 million and $1.3 million ~~during~~for the three and nine months ended September 30, ~~2020,~~2021, respectively.

~~Note 4. Acquisition~~9. ACQUISITION

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 USU.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. We have calculated the fair values of the DFT acquired assets based on our preliminary valuation analysis, using the information available to us. The Company may continue to adjust the preliminary purchase price allocation (including the identified intangible assets) as additional information becomes available during the remainder of the measurement period, which will not exceed 12 months from the closing of the acquisition. Measurement period adjustments will be recognized in the reporting period in which the adjustment amounts are determined. Any such adjustments may be material.

~~Table of Contents~~

The Company recognized ~~$5.0~~$3.7 million of intangible assets and ~~$1.7~~$3.0 million of goodwill, which is housed in the Telos ID reporting ~~unit.~~unit, part of the Security Solutions operating segment. Goodwill is primarily attributable to ~~expected synergies between~~an excess of the purchase price over the acquired identifiable net tangible and intangible ~~assets and the Company's digital identify technology and solutions and acquired workforce.~~assets. The acquired intangible assets will be amortized on a straight-line basis over ~~3 - 8~~three to eight years. The acquisition was considered an asset purchase for tax purposes, and the recognized goodwill is deductible for tax purposes.

10. 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.

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11. ACCOUNTS PAYABLE AND OTHER ACCRUED LIABILITIES


Table 11: Details of Accounts Payable and Other Accrued Liabilities
	September 30, 2022		December 31, 2021

	(in thousands)
Accounts payable - trade	$	16,339	$	7,869
Accrued liabilities	19,870		25,300
Others	1,374		1,379
Accounts payable and other accrued liabilities	$	37,583	$	34,548

12. 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 ~~results~~stock-based compensation expense includes an immaterial adjustment of ~~DFT operations have been~~$1.3 million for the nine months ended September 30, 2022, related to the prior year. There were no income tax benefits recognized on the share-based compensation expense for both periods.


Table 12.1: 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

	(in thousands)
Cost of sales – services	$	929	$	718	$	2,798	$	1,974
Sales and marketing	611		1,536		3,699		5,316
Research and development	897		970		2,884		2,079
General and administrative	12,284		9,148		34,844		38,009
Total stock-based compensation expense	$	14,721	$	12,372	$	44,225	$	47,378


Table 12.2: Service-Based RSU and Performance-Based RSU Award Activity
	Service-Based RSU	Performance-Based RSU	Total	Weighted-Average Grant Date Fair Value
Unvested outstanding units as of December 31, 2021	3,030,608	492,727	3,523,335	$	34.24
Granted	3,897,786	—	3,897,786	10.00
Vested	(1,653,308)	—	(1,653,308)	31.21
Forfeited	(360,762)	(155,942)	(516,704)	33.22
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.

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13. SHARE REPURCHASES

On May 24, 2022, the Company announced that the Board of Directors approved a new share repurchase program ("SRP") authorizing the Company to repurchase up to $50.0 million of its common stock. Pursuant to this authorization, the Company may repurchase shares of its common stock on a discretionary basis from time to time through open market purchases. 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.


Table 13: 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.

14. ACCUMULATED OTHER COMPREHENSIVE LOSS

Our functional currency is the U.S. Dollar. For one of our wholly-owned subsidiaries, the functional currency is the local currency. For this subsidiary, the translation of its foreign currency into U.S. Dollars is performed for assets and liabilities using current foreign currency exchange rates in effect at the balance sheet date and for revenue and expense accounts using average foreign currency exchange rates during the periods presented. Translation gains and losses are included in ~~our condensed consolidated statements~~stockholders’ equity as a component of ~~operations from~~accumulated other comprehensive loss.


Table 14: Details of Accumulated Other Comprehensive Loss
	September 30, 2022		December 31, 2021

	(in thousands)
Cumulative foreign currency translation loss	$	(137)	$	(134)
Cumulative actuarial gain on pension liability adjustment	107		107
Accumulated other comprehensive loss	$	(30)	$	(27)

15. LOSS PER SHARE

Basic net earnings (loss) per share is computed by dividing the ~~acquisition date,~~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 ~~material~~included in the calculation of diluted net earnings (loss) per share, because to do so would be anti-dilutive.


Table 15: 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

	(in thousands)
Unvested restricted stock and restricted stock units	833	313	435	394
Common stock warrants, exercisable at $1.665 per share	—	—	—	405
Total	833	313	435	799
Unvested antidilutive stock units excluded from the dilutive effect (stock units)	1,218	—	965	—

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16. RELATED PARTY TRANSACTIONS

Emmett J. 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, ~~2021. Acquisition-related costs were immaterial~~2022, respectively, and ~~have been expensed as incurred. The pro-forma financial information have not been presented for this acquisition as the impact to our condensed consolidated financial statements is not material.~~

~~Note 5~~. ~~Goodwill~~

~~The goodwill balance was $16.6 million~~$88,000 and $14.9 million as of September 30, 2021 and December 31, 2020, respectively. Goodwill is subject to annual impairment tests and if triggering events are present in the interim before the annual tests, we will assess impairment. For the three and nine months ended September 30, 2021 and 2020, no impairment charges were taken.

~~Note 6~~. ~~Intangible Assets~~

~~Intangible assets, all of which are finite-lived, consists of the following (in thousands):~~

September 30, 2021 Estimated Useful Life Gross Carrying Amount Accumulated Amortization Net Carrying Value
Acquired technology 8 years $ 4,910 $ (112) $ 4,798
Customer relationships 3 years 40 (2) 38
Software development costs 2 years 18,392 (6,126) 12,266
$ 23,342 $ (6,240) $ 17,102

December 31, 2020 Estimated Useful Life Gross Carrying Amount Accumulated Amortization Net Carrying Value
Acquired technology 0 $ — $ — $ —
Customer relationships 0 — — —
Software development costs 2 years 12,253 (4,833) 7,420
$ 12,253 $ (4,833) $ 7,420

~~Amortization expense was $0.5 million and $1.4 million~~$389,000 for the three and nine months ended September 30, 2021, ~~respectively;~~respectively. Additionally, Mr. Emmett Wood owned 94,547 and ~~$0.4 million~~73,562 shares of the Company’s common stock as of September 30, 2022, and ~~$1.3 million~~December 31, 2021.

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, ~~2020,~~2021, respectively.

17. SEGMENT INFORMATION

As noted in Note 72 - Significant Accounting Policies. ~~Fair Value Measurements~~

, 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: Security Solutions and Secure Networks. The ~~accounting standard for fair value measurements provides~~segments enable the alignment of our strategies and objectives and provide a framework for ~~measuring fair value~~the timely and ~~expands disclosures about fair value measurements.~~ rational allocation of resources within the lines of business. We eliminate any inter-segment revenues and expenses upon consolidation.

The ~~framework requires~~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. 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. The majority of the operating costs relate to labor, material, and overhead costs. Software sales have immaterial operation costs associated with them, thus yielding higher margins. 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. Revenue is recognized over time as the work progresses on contracts related to managing network services and information delivery. Contract costs include labor, material, and overhead costs. Variances in costs recognized from period to period primarily reflect increases and decreases in activity levels on individual contracts.


Table 17: 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

	(in thousands)
Revenues:
Security Solutions	$	32,440	$	34,558	$	90,178	$	89,624
Secure Networks	31,153		34,423		79,366		88,759
Total revenue	63,593		68,981		169,544		178,383
Gross profit:
Security Solutions	15,577		19,517		47,062		46,032
Secure Networks	5,368		5,360		13,683		15,849
Total gross profit	20,945		24,877		60,745		61,881
Selling, general and administrative expenses	28,614		29,965		95,314		97,935
Operating loss	(7,669)		(5,088)		(34,569)		(36,054)
Other income/(expense)	518		20		648		(1,001)
Interest expense	(181)		(195)		(558)		(583)
Loss before income taxes	(7,332)		(5,263)		(34,479)		(37,638)
(Provision for)/benefit from income taxes	(8)		41		(133)		(6)
Net loss	$	(7,340)	$	(5,222)	$	(34,612)	$	(37,644)

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We measure each segment's profitability based on gross profit. We account for inter-segment sales and transfers as if the sales or transfers were to third parties, that is, at current market prices. Interest income, interest expense, other income and expense items, and income taxes, as reported in the consolidated financial statements, are not part of the segment profitability measure and are primarily recorded at the corporate level.

Management does not utilize total assets by segment to evaluate segment performance or allocate resources. As a result, assets are not tracked by segment, and therefore, total assets by segment are not disclosed.

18. 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.

(c)Software Capitalization

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 ~~financial instruments using~~its 2021 acquisition. The change in assumption resulted in additional goodwill of $1.3 million and a ~~three-tiered approach. The statement requires fair value measurement to be classified and disclosed in one~~reduction of the ~~following categories:~~

~~Level 1: Unadjusted quoted prices in active markets~~intangible asset for the same amount that ~~are accessible at~~should have been reported during the ~~measurement date for identical, unrestricted assets and liabilities;~~

~~Level 2: Quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term~~third quarter of ~~the asset or liability; or~~

~~Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity).~~

As of September 30, 2021 and December 31, 2020, we did not have any financial instruments with significant Level 3 inputs and we did not have any financial instruments that are measured at fair value on a recurring basis.2021.

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For certain of our non-derivative financial instruments, including receivables, accounts payable and other accrued liabilities, the carrying amount approximates fair value due to the short-term maturities of these instruments.


Table 18.1: 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)


Table 18.2: 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)

~~Note~~8. ~~Debt Obligations~~

~~Enlightenment Capital Credit Agreement~~

On January 25, 2017, we entered into a Credit Agreement (the "Credit Agreement") with Enlightenment Capital Solutions Fund II, L.P., as agent (the "Agent") and the lenders party thereto (the "Lenders"), (together referenced as “EnCap”). The Credit Agreement provides for an $11 million senior term loan (the "Loan") with a maturity date of January 25, 2022, subject to acceleration in the event of customary events of default. All borrowings under the Credit Agreement accrued interest at the rate of 13.0% per annum.

In connection with the Credit Agreement, on January 25, 2017, the Company issued warrants (each, a "Warrant") to the Agent and certain of the Lenders representing in the aggregate the right to purchase in accordance with their terms 900,970 shares of the Class A Common Stock of the Company, no par value per share, which was equivalent to approximately 2.5% of the common equity interests of the Company on a fully diluted basis on the date of grant. The exercise price was $1.665 per share. The value of the warrants was determined to be de minimis and no value was allocated to them on a relative fair value basis in accounting for the debt instrument.

The Credit Agreement also included an $825,000 exit fee, which was payable upon any repayment or prepayment of the loan. This amount had been included in the total principal due and treated as an unamortized discount on the debt, which would be amortized over the term of the loan, using the effective interest method at a rate of 15.0% at the time of the original loan. We incurred fees and transaction costs of approximately $374,000 related to the issuance of the Credit Agreement, which were amortized over the life of the Credit Agreement.

On March 30, 2018, the Credit Agreement was amended (the “Third Amendment”) to add a minimum revenue covenant and a net working capital covenant were added. In consideration of these amendments, the interest rate on the loan was increased by 1% which will revert back to the original rate upon achievement of 2 consecutive quarters of a specified fixed charge coverage ratio as defined in the agreement. The increase in interest expense has been paid in cash. Contemporaneously with the Third Amendment, Mr. John B. Wood agreed to transfer 50,000 shares of the Company’s Class A Common Stock owned by him to EnCap.

On July 19, 2019, we entered into the Fourth Amendment to Credit Agreement and Waiver; First Amendment to Fee Letter (“Fourth Amendment”) to amend the Credit Agreement. As a result of the Fourth Amendment, several terms of the Credit Agreement were amended, including (but not limited to) the following:

•~~The Company borrowed an additional $5 million from the Lenders, increasing the total amount of the principal to $16 million.~~

•~~The maturity date of the Credit Agreement was amended from January 25, 2022 to January 15, 2021.~~

•The prepayment price was amended as follows: (a) from January 26, 2019 through January 25, 2020, the prepayment price is 102% of the principal amount, (b) from January 26, 2020 through October 14, 2020, the prepayment price is 101% of the principal amount, and (c) from October 15, 2020 to the maturity date, the prepayment price will be at par. However, the prepayment price for the additional $5 million loan attributable to the Fourth Amendment will be at par.

•~~The exit fee was increased from $825,000 to $1,200,000.~~

The exit fee had been included in the total principal due and treated as an unamortized discount on the debt, which was amortized over the term of the loan using the effective interest method at a rate of 17.3% over the remaining term of the loan.

On March 26, 2020, the Credit Agreement was amended (the “Fifth Amendment”) to modify the financial covenants and to update the previously agreed-upon definition of certain financial covenants, specifically the amount of Capital Expenditures to be included in the measurement of the covenants. The Fifth Amendment provides for 4 quarterly maturity date extensions, which would increase the Exit Fee payable under the Credit Agreement by $250,000 for each quarterly maturity date extension elected, for a total of $1 million increase to the Exit Fee were all 4 of the maturity date extensions to be elected. The Company paid EnCap an amendment fee of $100,000 and out-of-pocket costs and expenses in consideration for the Fifth Amendment.

~~We incurred interest expense in the amount of $0.8 million and $2.3 million for the three and nine months ended September 30, 2020, respectively, under the Credit Agreement.~~


Table 18.3. 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

Table of Contents

On November 24, 2020, upon the closing of the IPO, the Company paid a total of $17.4 million to satisfy its obligations under the Credit Agreement in full including an exit fee of $1.2 million, accrued interest of $138,000, and legal fees of $13,000.

On April 19, 2021, the Company entered into multiple Redemption Agreements and Warrant Redemption and Cancellation Agreements (collectively the "Repurchase Agreement") with EnCap and certain related funds that held the warrants to purchase 900,970 shares of the Company's common stock in addition to 39,682 shares of the Company's common stock. Under the Repurchase Agreement, the Company agreed to repurchase the outstanding warrants for $26.9 million and common stock for $1.3 million. The average price of the warrants and common stock repurchased were $29.85 per share and $31.51 per share, respectively. Upon settlement, the repurchased warrants were retired. The Company reduced common stock for the $0.001 par value of the shares repurchased, with the excess purchase price over par value recorded as a reduction of additional paid-in-capital ("APIC"). As a result of the repurchases, the Company recognized these amounts as a reduction to APIC.

~~Subordinated Debt~~

On March 31, 2015, the Company entered into Subordinated Loan Agreements and Subordinated Promissory Notes (“Porter Notes”) with affiliated entities of Mr. John R. C. Porter (together referenced as “Porter”). At the time, Mr. Porter and Toxford Corporation, of which Mr. Porter controls as the co-trustee of the trust that is the sole stockholder of Toxford, owned 35.0% of our Class A Common Stock. Under the terms of the Porter Notes, Porter lent the Company $2.5 million on or about March 31, 2015. Telos also entered into Subordination and Intercreditor Agreements with Porter and a prior senior lender, in which the Porter Notes were fully subordinated to the financing provided by that senior lender, and payments under the Porter Notes were permitted only if certain conditions were met. According to the original terms of the Porter Notes, the outstanding principal sum bore interest at the fixed rate of twelve percent (12%) per annum which would be payable in arrears in cash on the 20th day of each May, August, November and February, with the first interest payment date due on August 20, 2015. The Porter Notes did not call for amortization payments and were unsecured. The Porter Notes, in whole or in part, may be repaid at any time without premium or penalty. The unpaid principal, together with interest, was originally due and payable in full on July 1, 2017.

~~We incurred interest expense in the amount of $90,000 and $265,000 for the three and nine months ended September 30, 2020, respectively, on the Porter Notes.~~

~~On November 23, 2020, upon the closing of the IPO, the Porter Notes were paid in full.~~


Table 18.4. 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

~~Note 9~~. ~~Exchangeable Redeemable Preferred Stock Conversion~~

~~Public Preferred Stock~~

A maximum of 6,000,000 shares of Exchangeable Redeemable Preferred Stock (the "Public Preferred Stock"), par value $.01 per share, has been authorized for issuance. We initially issued 2,858,723 shares of the Public Preferred Stock pursuant to the acquisition of the Company during fiscal year 1990. The Public Preferred Stock was recorded at fair value on the date of original issue, November 21, 1989, and we made periodic accretions under the interest method of the excess of the redemption value over the recorded value. We adjusted our estimate of accrued accretion in the amount of $1.5 million in the second quarter of 2006. The Public Preferred Stock was fully accreted as of December 2008. We declared stock dividends totaling 736,863 shares in 1990 and 1991. Since 1991, no other dividends, in stock or cash, had been declared. In November 1998, we retired 410,000 shares of the Public Preferred Stock.

We paid dividends on the Public Preferred Stock when and if declared by the Board of Directors. The Public Preferred Stock accrued a semi-annual dividend at the annual rate of 12% ($1.20) per share, based on the liquidation preference of $10 per share, and was fully cumulative. Dividends in additional shares of the Public Preferred Stock for 1990 and 1991 were paid at the rate of 6% per share for each $.60 of such dividends not paid in cash. We accrued dividends on the Public Preferred Stock of $1.0 million and $2.9 million for the three and nine months ended September 30, 2020, respectively, which was recorded as interest expense. Prior to the effective date of ASC 480 on July 1, 2003, such dividends were charged to stockholders’ accumulated deficit.

~~Table of Contents~~

Upon the closing of the IPO, which constituted a qualified initial public offering for the purposes of the terms of the Public Preferred Stock, each issued and outstanding share of Public Preferred Stock automatically was converted (the “ERPS Conversion”) into the right to receive (i) an amount of cash equal to (I) the ERPS Liquidation Value; multiplied by (II) 0.90; multiplied by (III) 0.85 and (ii) that number of shares of common stock (valued at the initial offering price to the public) equal to (I) the ERPS Liquidation Value; multiplied by (II) 0.90; multiplied by (III) 0.15. No fractional shares of common stock, however, were issued upon the ERPS Conversion but, in lieu thereof, the holder was entitled to receive an amount of cash equal to the fair market value of a share of common stock (valued at the initial offering price to the public) at the time of the ERPS Conversion multiplied by such fractional amount (rounded to the nearest cent). “ERPS Liquidation Value” means, per each share of Public Preferred Stock, $10 together with all accrued and unpaid dividends (whether or not earned or declared) thereon calculated as of the actual date of the ERPS Conversion without interest, which, was approximately $142.3 million as of November 19, 2020. All shares of common stock issued upon an ERPS Conversion were validly issued, fully paid and non-assessable.

On November 23, 2020, holders of the Public Preferred Stock received $108.9 million in cash and 1.1 million shares of our common stock at $17 per share for a total value of $19.2 million in connection with the ERPS Conversion. The difference in the redemption value of the ERPS and the carrying value has been accounted for as a gain on extinguishment of debt in accordance with ASC 470 and ASC 480. Approximately $0.2 million of costs directly attributable to this redemption were applied against the gain, resulting in a net gain of $14.0 million.

~~Note 10~~. ~~Income Taxes~~

We establish a valuation allowance for deferred tax assets if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Based on available evidence, realization of deferred tax assets is dependent upon the generation of future taxable income. We considered projected future taxable income, tax planning strategies, and reversal of taxable temporary differences in making this assessment. There has been no change in the established valuation allowance as of September 30, 2021. As of September 30, 2021 and December 31, 2020, we have recorded a net deferred tax liability of approximately $680,000 and $652,000, respectively.

We review and update our estimated annual effective tax rate each quarter. For the three months ended September 30, 2021 and 2020, we recorded an income tax benefit of $41,000 and income tax provision of $8,000 respectively. For the nine months ended September 30, 2021 and 2020, we recorded an income tax provision of $6,000 and income tax benefit of $136,000, respectively. For the three and nine months ended September 30, 2021 and 2020, our estimated effective rate was primarily impacted by the overall valuation allowance position which reduced the net tax impact from taxable income or loss for all periods.

Under the provisions of ASC 740, we determined that there were approximately $961,000 and $763,000 of gross unrecognized tax benefits as of September 30, 2021 and December 31, 2020, respectively. Included in the balance of unrecognized tax benefits as of September 30, 2021 and December 31, 2020 were $241,000 and $278,000, respectively, of tax benefits that, if recognized, would impact the effective tax rate. Also included in the balance of unrecognized tax benefits as of September 30, 2021 and December 31, 2020 were $720,000 and $485,000, respectively, of tax benefits that, if recognized, would not impact the effective tax rate due to the Company’s valuation allowance. The Company had accrued interest and penalties related to the unrecognized tax benefits of $238,000 and $241,000, which were recorded in other liabilities as of September 30, 2021 and December 31, 2020, respectively. We believe that the total amounts of unrecognized tax benefits will not significantly increase or decrease within the next 12 months.

~~Note 11~~. ~~Commitments and Contingencies~~19. COMMITMENT AND CONTINGENCIES

Legal Proceedings

~~Hamot et al. v. Telos Corporation~~

As previously reported in Note 819 of the Form 10-Q for the quarter ended June 30, ~~2021~~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. In the complaint, the plaintiffs, who purport to represent a class of purchasers of Telos common stock between November 19, 2020, and March 16, ~~2021, beginning on August 2, 2007, Messrs. Seth W. Hamot (“Hamot”~~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 ~~Andrew R. Siegel (“Siegel”), principals of Costa Brava Partnership III, L.P. (“Costa Brava”), were involved in litigation against~~ the ~~Company as Plaintiffs~~Centers for Medicare and ~~Counter-defendants in the Circuit Court~~Medicaid Services and to take into account those delays when providing a financial forecast for Baltimore City, Maryland (the “Circuit Court”). Mr. Siegel was a Class D Director of the Company until the closing of the IPO on November 23, 2020, and Mr. Hamot was a Class D Director of the Company until his resignation on March 9, 2018. Trial on Hamot and Siegel’s claims and the Company’s ~~counterclaims took place in July through September 2013, and~~2021 performance. On June 15, 2022, the Court subsequently issued decisions on the various claims by way of memorandum opinions and orders dated September 11, 2017. Among other rulings, the Court found Hamot and Siegel liable for the intentional tort of tortious interference with the Company’s contractual relationship with one of its auditors and entered a monetary judgment in favor of the Company and against Hamot and Siegel.

~~Table of Contents~~

Hamot (and later, his Estate) and Siegel on multiple occasions during this litigation sought to be indemnified or to be awarded advancement of various attorney’s fees and expenses incurred by them in this litigation. On January 28, 2021, Plaintiffs filed a ~~Motion~~consolidated complaint which added claims (i) concerning Telos' disclosure of revenue projections for ~~Leave~~these contracts, (ii) against the directors of Telos at the time of its initial public offering, and (iii) pursuant to ~~File Amended Motion for Indemnification~~Sections 11 and 15 of ~~Legal Fees and Expenses (“Amended Motion”).~~the Securities Act of 1933. The ~~Amended Motion demanded that~~Company is vigorously defending the case, but given the early stage, although a loss may reasonably be possible, the Company ~~indemnify~~is unable to predict the ~~Plaintiffs for legal fees~~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 ~~expenses incurred in the sum of $2,540,000 plus the costs incurred in obtaining indemnification, and~~December, 31, 2021, respectively.

In addition, the Company opposed the motions. On May 5, 2021, the Company, Plaintiffs and Costa Brava entered into a settlement agreement, which included a mutual general release, fully and finally settling the indemnification claim in exchange for a $1.0 million payment, which sum was paid on May 12, 2021 as reported under other income (expense) in our condensed consolidated statements of operations. This settlement concluded all open matters or disputes between the Company and Messrs. Hamot (or his estate) and Siegel, as well as the previously disposed of claims of Costa Brava.

~~Other Litigation~~

~~The Company may be~~is a party to litigation ~~from time to time~~ 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 ~~condensed~~unaudited consolidated financial position, results of operations or cash flows.

Other - Government Contracts

As a U.S. government contractor, we are subject to ~~U.S. government~~various audits and investigations by the U.S. government to determine whether our operations are being conducted in accordance with applicable regulatory requirements. U.S. government investigations of our operations, whether relating to ~~our operations,~~government contracts or conducted for other reasons, could result in administrative, civil, or criminal liabilities, including ~~claims~~repayments, fines or penalties being imposed upon us, suspension, proposed debarment, debarment from eligibility for ~~fines, penalties, and compensatory and damages. We believe the outcome~~future U.S. government contracting, or suspension of ~~such ongoing government audits and investigations will not~~export privileges. Suspension or debarment could have a material ~~impact~~adverse effect on ~~our results of operations, financial condition or cash flows.~~

~~In the performance~~us because of our dependence on contracts ~~we routinely request contract modifications that require additional funding from~~with the ~~customer. Most~~U.S. government. U.S. government investigations often ~~these requests~~take years to complete, and many result in no adverse action against us. We also provide products and services to customers outside of the United States, which are ~~due~~subject to ~~customer-directed changes in the scope of work. While we are entitle to recovery of these costs under our contracts, the administrative process~~U.S. and foreign laws and regulations and foreign procurement policies and practices. Our compliance with ~~our customer~~local regulations or applicable U.S. government regulations also may be ~~protracted. Based~~audited or investigated.

20. SUPPLEMENTAL CASH FLOW INFORMATION


Table 20.1: Details of Cash, Cash Equivalent, and Restricted Cash
	September 30, 2022		December 31, 2021

	(in thousands)
Cash and cash equivalents	$	125,332	$	126,562
Restricted cash (1)	132		—
Cash, cash equivalents, and restricted cash	$	125,464	$	126,562

(1)Restricted cash consists of a commercial money market account held as a deposit on the circumstances, we periodically file requests for equitable adjustments ("REAs") that are sometimes converted into claims. In some cases, these requests are disputed by our customers. We believe our outstanding modifications, REAsAshburn lease and ~~other claims will be resolved without material impact to our result of operations, financial conditions or cash flows.~~

~~Note 12~~. ~~Related Party Transactions~~

Emmett J. 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 $88,000 and $389,000 for the three and nine months ended September 30, 2021, respectively, and $193,000 and $517,000 for the three and nine months ended September 30, 2020, respectively. Additionally, Mr. Wood owned 73,562 and 682,502 shares of the Company’s common stock as of September 30, 2021 and December 31, 2020, respectively.

~~On March 31, 2015, the Company entered into the Porter Notes. At that time, Mr. Porter and Toxford Corporation, of which Mr. Porter controls as the co-trustee of the trust that~~ is the sole stockholder of Toxford, owned 35.0% of our Class A Common Stock. Under the terms of the Porter Notes, Porter lent the Company $2.5 million on or about March 31, 2015. According to the original terms of the Porter Notes, the outstanding principal sum bore interest at the fixed rate of twelve percent (12%) per annum which would be payable in arrears in cashrecorded under "Other assets" on the 20th day of each May, August, November and February, with the first interest payment date due on August 20, 2015. The Porter Notes did not call for amortization payments and were unsecured. The Porter Notes, in whole or in part, may be repaid at any time without premium or penalty. The unpaid principal, together with interest, was originally due and payable in full on July 1, 2017.

On April 18, 2017, we amended and restated the Porter Notes to reduce the interest rate from twelve percent (12%) to six percent (6%) per annum, to be accrued, and extended the maturity date from July 1, 2017 to July 25, 2022. Telos also entered into Intercreditor Agreements with Porter and EnCap, in which the Porter Notes were fully subordinated to the Credit Agreement and any subsequent senior lenders, and payments under the Porter Notes were permitted only if certain conditions were met. All other terms remained in full force and effect. We incurred interest expense in the amount of $90,000 and $265,000 for the three and nine months ended September 30, 2020, respectively, on the Porter Notes. On November 23, 2020, upon the closing of the IPO, the Porter Notes were paid in full.

~~On February 8, 2021, we hired Ms. Donna Hill, as Director, Human Resources, reporting directly to Ms. Nakazawa, EVP of the Company. Ms. Hill is the sister of Mr. Edward Williams, COO of the Company.~~Consolidated Balance Sheets

2018

Table of Contents


Table 20.2: Supplemental Cash Flow Information
	For the Nine Months Ended
	September 30, 2022		September 30, 2021

	(in thousands)
Cash paid during the period for:
Interest	$	523	$	583
Income taxes	188		54
Non-cash investing and financing activities:
Operating lease ROU assets obtained in exchange for operating lease liabilities	$	396	$	486
Capital expenditure activity in accounts payable and other accrued liabilities	400		—
Common stock repurchase under SRP	80		—
Acquisition holdback	—		506

Table of Contents

~~Note 13. Leases~~

~~The components of lease expense were as follows (in thousands):~~

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
Operating lease cost $ 182 $ 182 $ 546 $ 542
Short-term lease cost(1)
4 26 13 83
Finance lease cost
Amortization of right-of-use assets 305 305 915 915
Interest on lease liabilities 187 205 574 622
Total finance lease cost 492 510 1,489 1,537
Total lease costs $ 678 $ 718 $ 2,048 $ 2,162

~~(1)~~ ~~Leases that have terms of 12 months or less~~

~~The weighted average remaining lease terms and discount rates were as follows:~~

September 30,
2021 2020
Weighted average remaining lease term (in years):
Finance leases 7.6 years 8.6 years
Operating leases 1.9 years 2.8 years
Weighted average discount rate:
Finance leases 5.04 % 5.04 %
Operating leases 5.75 % 5.75 %

~~Future minimum lease commitments at September 30, 2021 were as follows (in thousands):~~

Year Ending December 31, Operating Leases Finance Leases
2021 (excluding the nine months ended September 30, 2021) $ 181 $ 530
2022 603 2,149
2023 373 2,202
2024 27 2,258
2025 — 2,314
After 2025 — 8,344
Total lease payments 1,184 17,797
Less imputed interest (66) (3,149)
Total 1,118 14,648
Less Short-term portion 602 1,430
Total, net of short-term portion $ 516 $ 13,218

~~Supplemental cash flow information related to leases was as follows (in thousands):~~

Nine Months Ended September 30,
2021 2020
Cash paid for amounts included in the measurement of lease liabilities:
Cash flows from operating activities - operating leases $ 586 $ 552
Cash flows from operating activities - finance leases 574 622
Cash flows from financing activities - finance leases 993 907
Operating lease right-of-use assets obtained in exchange for lease obligations 486 455

~~Table of Contents~~

~~Note 14 – Stock-Based Compensation~~

During October 2020, the Company amended the 2016 LTIP to increase the total number of shares available for issuance to 9,400,000 from 4,500,000 and extend the term to September 30, 2030. Our 2016 LTIP provides for the grant of stock options, stock appreciation rights, restricted stock, restricted stock units, unrestricted stock and dividend equivalent rights 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 ~~two~~ to three years and stock options granted under the 2016 LTIP expire no more than ten years after the date of grant. Approximately 5.7 million shares of our common stock were reserved for future grants as of September 30, 2021 under the 2016 LTIP.

The following are the stock-based compensation expense incurred for the three and nine months ended September 30, 2021 (in thousands). We recorded immaterial share-based compensation expense for the comparative periods ended September 30, 2020.

Three Months Ended September 30, 2021 Nine Months Ended September 30, 2021
Cost of sales - services $ 442 $ 1,974
Sales and marketing 1,536 5,316
Research and development 970 2,079
General and administrative 9,243 37,828
Total $ 12,191 $ 47,197

~~Restricted Stock Awards and Restricted Stock Unit (collectively “RSU”) Activity~~

~~The Company grants RSUs to our senior executives, directors and employees.~~

~~Service-Based RSU Awards~~

~~A summary of the awards of Service-Based RSUs that vest upon the completion of a service requirement are presented below:~~
Number of
Shares Weighted-
Average Grant
Date Fair
Value
(per share) Weighted-
Average
Contractual
Life (years) Aggregate
Intrinsic
Value
(in thousands)
Unvested Balance - December 31, 2020 59,521 $ 0.18 2.4 $ 2,000
Granted 3,036,563 35.69 — —
Vested (119,800) 36.17 — —
Forfeited (79,476) 36.63 — —
Unvested Balance - September 30, 2021 2,896,808 $ 35.04 1.5 $ 82,300

We recognized an expense of $12.0 million and $34.0 million related to share-based compensation expense for Service-Based RSUs capable of being earned for completing a service requirement during the three and nine months ended September 30, 2021, respectively. As of September 30, 2021, there was approximately $71.5 million of unrecognized stock-based compensation expense related to Service-Based RSUs, and this unrecognized expense is expected to be recognized over a weighted-average period of 1.5 years on a straight-line basis.

~~Table of Contents~~

~~Performance-Based RSU Awards~~

~~A summary of the awards of Performance-Based RSUs that vest upon the attainment of certain price targets of the Company’s common stock are presented below:~~
Number of
Shares Weighted-
Average Grant
Date Fair
Value
(per share) Weighted-
Average
Contractual
Life (years) Aggregate
Intrinsic
Value
(in thousands)
Unvested Balance - December 31, 2020 — $ — — $ —
Granted 508,903 30.09 — —
Vested — — — —
Forfeited (16,176) 30.84 — —
Unvested Balance - September 30, 2021 492,727 $ 30.07 2.5 $ 14,000

During 2021 the Company granted certain senior executives awards of Performance-Based RSUs that could settle in 458,903 shares of our common stock. The awards will vest only if, during the three-year period from the date of grant, (a) the Company’s common stock, as listed on the Nasdaq Global Market, trades at or above $42.40 per share (the “Target Price”) for 20 of 30 consecutive trading days or (b) the weighted average of the per share price of the Company’s common stock over any 30 consecutive trading days is at least equal to the Target Price. Further, the Company granted 50,000 shares of Performance-Based RSUs to certain employees that will fully vest upon the achievement of certain operational milestones during a three-year period from the grant date.

For these Performance-Based RSUs containing market conditions, the conditions are required to be considered when calculating the grant date fair value. In order to reflect the substantive characteristics of these awards, a Monte Carlo simulation valuation model was used to calculate the grant date fair value of such awards. Monte Carlo approaches are a class of computational algorithms that rely on repeated random sampling to compute their results. This approach allows the calculation of the value of such Performance-Based RSUs based on a large number of possible stock price path scenarios. As the Company recently completed its IPO in November 2020, expected volatility was based on the average historical stock price volatility of comparable publicly-traded companies over the performance period. The risk-free rate is based on the U.S. treasury zero-coupon issues in effect at the time of grant over the performance period. Expense for these awards is recognized over the derived service period as determined through the Monte Carlo simulation model.

Our key assumptions include a performance period ranging from 2.45 to 2.92 years, expected volatility between 57.4% - 58.81%, and a risk-free rate of 0.18%-0.29%. The fair value at grant date and derived service periods calculated for these market condition Performance-Based RSUs were $19.12 - $30.84 and between 0.38 - 0.76 years, respectively.

We recognized an expense of $0.2 million and $13.2 million related to share-based compensation expense for these awards of Performance-Based RSUs during the three and nine months ended September 30, 2021, respectively. As of September 30, 2021, there was approximately $1.6 million of unrecognized stock-based compensation expense related to these Performance-Based RSUs, and this unrecognized expense is expected to be recognized over a weighted-average period of 0.3 years on a straight-line basis.

~~Table of Contents~~

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects” and similar expressions are intended to identify forward-looking statements. There are a number of important factors that could cause the Company’s actual results to differ materially from those indicated by such forward-looking statements. These factors include, without limitation, those set forth in the risk factors section included in the Company’s Form 10-K for the year ended December 31, ~~2020,~~2021, as filed with the SEC.

General and Business Overview

We offer technologically advanced, software-based security solutions that empower and protect the world’s most security-conscious organizations against rapidly evolving, sophisticated and pervasive threats. Our portfolio of security products, services, and expertise empower our customers with capabilities to reach new markets, serve their stakeholders more effectively, and successfully defend the nation or their enterprise. We protect our customers’ people, information, and digital assets so they can pursue their corporate goals and conduct their global missions with confidence in their security and privacy.

Our mission is to protect our customers’ people, systems, and vital information assets with offerings for cybersecurity, cloud security, and enterprise security. In the current global environment, our mission is more critical than ever. The emergence of each new information and communications technology ~~("ICT")~~ introduces new vulnerabilities, as security is still too often overlooked in solution development. Networks and applications meant to enhance productivity and profitability often jeopardize an organization due to poor planning, misconfiguration, or an unknown gap in security. Ransomware, insider threats, cybercrime, and advanced persistent threats continue to menace public and private enterprises across all industries.

Cybersecurity, cloud security, and enterprise security of the modern organization share much in common, yet also call for a diverse range of skills, capabilities, and experience in order to meet the requirements of security-conscious customers. Decades of experience in developing, orchestrating, and delivering solutions across these three domains ~~gives~~give us the vision and the confidence to provide solutions that empower and protect the enterprise at an integrated, holistic level. Our experience in addressing challenges in one area of an enterprise helps us meet requirements in others. We understand that a range of complementary capabilities may be needed to solve a single challenge, and we also recognize when a single solution might address multiple challenges.

Our security solutions span across ~~the following domains:~~these three domains.

•As a result of the change in our organization and leadership structure in the fourth quarter of 2021, we established and operate in two reportable segments ~~Cybersecurity~~– ~~– We~~Security Solutions and Secure Networks.

Security Solutions

Security Solutions, which focuses on cybersecurity, cloud and identity solutions, includes Information Assurance, Secure Communications, and Telos ID. Cybersecurity solutions help our customers ensure the ongoing security, integrity, and compliance of their on-premises and related cloud-based systems by reducing threats and vulnerabilities to foil cyber adversaries before they can attack. Our ~~consultants~~security engineers and subject matter experts assess our customers’ ~~security~~cybersecurity environments and design, engineer, and operate ~~the~~ systems ~~they need~~needed to strengthen their cybersecurity posture.

•~~Cloud Security~~ ~~– The~~ Our cloud ~~as an organizational resource is more than two decades old, yet the needs of cloud users are constantly changing. Telos offers~~solutions leverage the specialized skills and experience needed to help our customers plan, engineer, execute and ~~execute~~accelerate secure cloud ~~migration strategies and then assure~~migrations while assuring ongoing management and security ~~in keeping with the leading standards~~of enterprise cloud technology environments. Our identity solutions deliver digital identity, biometric, and nationwide enrollment services and address Know Your Customer and identity management challenges for ~~cloud-based systems~~enterprises working within regulated and ~~workloads.~~

•~~Enterprise Security~~ – Securing the enterprise means protecting the essential and timeless elements common to every organization: its people and processes, its supply chain and inventories, its finances and facilities, and its information and communications. As ICT and operational technology (“OT”) have become part of the organizational make-up, we have offered solutions that ensure personnel can work securely and productively across and beyond the enterprise.

We refer to our cyber and cloud applications as Security Solutions, which includes Information Assurance / Xacta® (previously referred to as Cyber & Cloud Solutions), Secure Communications (previously referred to as Secure Communications Cyber and Enterprise Solutions), and Telos ID (previously referred to as Telos ID Enterprise Solutions). We refer to our offerings for enterprise security as Secure Networks (previously referred to as Secure Mobility and Network Management/Defense Enterprise Solutions).

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~~Security Solutions~~critical infrastructure environments.

•Information Assurance ~~/ Xacta:~~

◦Xacta: a premier platform for enterprise cyber risk management and security compliance automation, delivering security awareness for systems in the cloud, on-premises, and in hybrid and multi-cloud environments. Xacta delivers automated cyber risk and compliance management solutions to large commercial and government enterprises. Across the U.S. federal government, Xacta is the de facto commercial cyber risk and compliance management solution.

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•Secure Communications:

◦Telos Ghost:a virtual obfuscation network-as-a-service with encryption and managed attribution capabilities to ensure the safety and privacy of people, information, and resources on the network. Telos Ghost seeks to eliminate ~~cyber-attack~~cyberattack surfaces by obfuscating and encrypting data, masking user identity and location, and hiding network resources. It provides the additional layers of security and privacy needed for intelligence gathering, cyber threat protection, securing critical infrastructure, and protecting communications and applications when operations, property, and even lives can be jeopardized by a single error in security.

◦Telos Advanced Cyber Analytics ("ACA"): a solution-as-a-service that delivers timely, accurate, actionable intelligence at speed and scale to illuminate threats to enterprise assets. It enables organizations to detect malicious activity earlier and to uncover and identify previously unknown attacks and new malicious behavior. Further, it assists in the attribution of events and provides sophisticated and comprehensive analytics without expensive overhead.

◦Telos Automated Message Handling System (“AMHS”): web-based organizational message distribution and management for mission-critical communications; the recognized gold standard for organizational messaging in the U.S. government. Telos AMHS is used by military field operatives for critical communications on the battlefield and is the only web-based solution for assured messaging and directory services using the ~~DISA~~Defense Information System Agency's Organizational Messaging Service and its specialized communications protocols.

•Telos ID: offering ~~Identity Trust~~identity trust and ~~Digital Services~~digital services through IDTrust360® – an enterprise-class digital identity risk platform for extending ~~SaaS~~flexible hybrid cloud identity services. This platform is enabled for mobile, enterprise environments and custom digital identity services that mitigate threats through the integration of advanced technologies that fuse biometrics, credentials, and other identity-centric data used to continuously monitor trust. In April 2021, we announced the acquisition of the assets of DFT, whose ONYX® touchless mobile fingerprint software is being integrated with the IDTrust360 platform. We maintain government certifications and designations that distinguish Telos ID, including TSA PreCheck® enrollment provider, Designated Aviation Channeling provider, FBI-approved Channeler, and ~~FINRA~~Financial Industry Regulatory Authority Electronic Fingerprint Submission provider.

Secure Networks

Secure Networks focuses on enterprise security. Secure Networks provides secure networking architectures and solutions to the DoD, the federal Intelligence Community and other federal government agencies. Our net-centric solutions enable collaboration and connectivity in order to increase efficiency, reduce costs, and improve mission outcomes. We provide an extensive range of wired and wireless, fixed and deployable, classified and unclassified voice, data, and video secure network solutions and services to support defense and civilian missions. Capabilities include network design, operations and sustainment; system integration and engineering; network security and compliance; deployable comms; robotic process automation and other digital transformation capabilities; service desk; defensive cyber operations; and program management.

•Secure Mobility: solutions for business and government that enable remote work and minimize ~~concern~~operational and security concerns across and beyond the enterprise. Our secure mobility team brings credentials to every engagement, supplying deep expertise and experience as well as highly desirable clearances and ~~industry recognized~~industry-recognized certifications for network engineering, mobility, and security.

•Network Management and Defense: services for operating, administrating, and defending complex enterprise networks and for defensive cyber operations. Our diverse portfolio of network management and defense capabilities addresses common and uncommon requirements in many industries and disciplines, ranging from the military and government agencies to Fortune 500 companies.

Business Environment

Our business performance continues to be heavily affected by the overall level of U.S. ~~Government~~government spending and the alignment of our solutions with the priorities of the U.S. ~~Government.~~government. U.S. ~~Government~~government spending and contracts continue to be affected by the federal budget and appropriations process and related legislation. Due to delays in the passage of FY 2022 appropriations legislation, the federal government is operating under the terms of a Continuing Resolution ("CR"), which limits spending to the prior year’s funding levels and generally prohibits new spending initiatives and contract starts. The current CR will expire December 3, and unless the individual appropriations bills are enacted by then, another CR will be needed to avert a government shutdown.

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Congress could not agree on fiscal year ("FY") 2023 appropriations legislation before the start of the fiscal year on October 1, 2022. As a result, the entire federal government is currently operating under the terms of a continuing resolution ("CR"), which only permits agencies to spend at FY 2022 appropriations levels without any adjustments for the dramatic increase in inflation we have seen over the past year. Moreover, federal departments and agencies are generally precluded from moving forward on new contract starts or accelerating current projects while they are funded by a CR. The current CR runs through December 16, 2022, and it is not clear at this time whether Congress will be able to come to an agreement on appropriations legislation for FY 2023 by then or will have to pass another CR, possibly lasting into January or February 2023. Such continued delays in finalizing FY 2023 appropriations could, in turn, impact future planning by Telos and our government customers.

The President’s FY 2023 budget request called for approximately 4% more defense spending than was provided for FY 2022.However, this proposed FY 2023 budget was developed before Russia invaded Ukraine and did not include expenditures related to that ongoing event. The proposed FY 2023 budget also assumed an inflation rate for DoD of 2.2%, which Pentagon officials subsequently acknowledged would need to be adjusted higher. There is significant congressional support for boosting defense spending further to account for these factors and other needs, as demonstrated by the House and Senate versions of the FY 2023 National Defense Authorization Act, which call for authorizing appropriations of $37 billion (House) and $45 billion (Senate) more than proposed by the President’s budget. Actual final appropriations levels for national defense will not be determined until December, at the earliest.

The proposed FY 2023 budget also called for an increase in federal civilian agency (non-defense) cybersecurity funding of nearly 11%. The Biden Administration says it is seeking to increase investments across the various civilian federal agencies to help align them to the cybersecurity practices and priorities outlined in the President’s Executive Order 14028, “Improving the Nation’s Cybersecurity.” As with overall defense spending, final appropriations levels for non-defense cybersecurity efforts will not be determined until December, at the earliest. An exception to this is the new four-year, $1 billion State and Local Cybersecurity Grant program, which has already been appropriated and the first year’s funding is now available.

Looking ahead to next year, the Office of Management and Budget ("OMB") has already given federal departments and agencies guidance for cybersecurity priorities to include in their FY 2024 proposed budgets. OMB has directed that agencies prioritize accelerated adoption of the cloud, IT modernization, further private sector collaboration for sector risk management responsibilities and ensuring adequate cyber threat information sharing, and supply chain risk management. These priorities align with the solutions Telos has been developing and bringing to market for the past several years. For example, Xacta, our flagship offering, continues to set the standard for innovative capabilities in managing cyber risk and automating continuous compliance in on-premises, cloud, and hybrid environments. Our cloud practice area includes cloud migration, CloudSecOps, and cloud security compliance to accelerate IT modernization for business and government. Our Telos ACA platform combines decades of information security experience with an extensive background in cyber intelligence to defend enterprises against advanced cyber threats.

Cybersecurity Landscape

Despite the massive shift to teleworking by federal employees and contractors as a result of the pandemic, the government has successfully maintained continuity of services. More recently, as the government has proceeded to develop and implement its reopening process, officials have said they will seek to continue to maximize use of teleworking by federal employees. As such, with much of the business of government still being conducted by federal employees working remotely using information technology systems, we believe there will continue to be a need on the part of the government for the types of solutions and services provided by Telos.

~~Over the past year, continued~~In recent years, continuing and increasingly damaging ransomware and other cyberattacks against federal, state and local ~~government and~~governments, K-12 ~~education (SLED),~~ and higher education, and private sector enterprises have resulted in intensified efforts to better defend against such attacks. The growing demand for these solutions continues to provide Telos with the privilege of offering our expertise to protect these vitally important organizations.

Ransomware remains arguably the most severe cyber threat to enterprises in the commercial, state, and ~~SLED~~local government and education sectors. Our Xacta offering empowers these organizations and institutions to maintain a strong cyber risk posture to minimize the risk of ransomware gaining a foothold in their IT environment. Our Telos ACA offering provides real- and near-real-time intelligence into known and unknown threats to give organizations advance warning of ransomware and other threats. Should ransomware get loose in the enterprise network, Telos Ghost, our virtual obfuscation network offering, can hide vital resources from view to prevent the payload from reaching them.

Critical infrastructure and industrial ~~Internet~~internet of things ("IoT") are among the categories at greatest risk of cyberattacks. Energy, utilities, ~~transportation,~~financial services, and ~~food supply~~healthcare were among the critical infrastructure sectors that experienced high-profile breaches or ransomware attacks over the past year. Telos Ghost can hide critical OTIoT and industrial control systems ~~(ICS)~~ from the public internet to keep them from being compromised. ItTelos Ghost can also cordon off financial data, medical records, intellectual property, and other crown-jewel assets from visibility or accessibility by adversaries.

These capabilities are increasingly important, as threat actors continue to breach enterprise networks in spite of access management systems such as virtual private networks and multi-factor authentication. Telos Ghost creates an additional layer of defense against intruders by hiding critical records, information, and applications as well as their users in an anonymous undiscoverable network. Adversaries cannot see them, so they cannot hack them. This also makes Telos Ghost a robust component in a Secure Access Service Edge or Zero Trust Network Access security architecture.

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Government mandates and initiatives to assure stronger security in highly regulated industries, as noted above, also lead to opportunities for ~~Xacta. A pending~~Telos solutions and services. An update to the research study Telos conducted last year reveals that audit fatigue continues to burden these organizations, with automation solutions being recognized as the most effective remedy for the many repetitive and redundant tasks that security compliance requires. Xacta streamlines, harmonizes, and automates the security controls and processes that comprise the leading cybersecurity standards and frameworks, in on-premises, cloud, hybrid, and multi-cloud environments.

President Biden’s May 12 Executive Order on “Improving the Nation’s Cybersecurity” acknowledged the severity and scope of the cybersecurity challenges facing the public and private sectors, the American people and our economy. It gave direction for federal departments and agencies to modernize government cybersecurity by: moving more rapidly to adopt secure cloud services; adopting multifactor authentication; pushing for increased use in government of such practices as zero trust architecture; and improving the security and integrity of the software supply chain, with a priority on addressing critical software. The executive order also called for improving communications with cloud service providers through automation and standardization of messages at each stage of theFor example, Xacta supports Federal Risk and Authorization Management Program ("FedRAMP") ~~process, and for other changes in an effort to accelerate and improve the process.~~

Subsequently, federal agencies, including the Cybersecurity & Infrastructure Security Agency and the Transportation Security Administration, which have specific responsibilities for various aspects of government and private sector cybersecurity, have taken steps to enhance public sector and critical infrastructure cybersecurity.

Congress has given final approval to a $1.2 trillion infrastructure package which contains a number of provisions dealing with cybersecurity and would provide considerable funding for infrastructure-related cybersecurity. We believe many of these actions could ultimately result in increased need for solutions and services provided by Telos. Congress is also considering a potentially $2 trillion budget reconciliation measure that could, among other things, also boost federal support for cybersecurity and provide additional opportunities for Telos.

For example, Telos Ghost is a perfect complement to zero trust security, creating an additional layer of defense against intruders by hiding critical resources and users in an anonymous undiscoverable network. As noted earlier, it is also ideal for protecting the crown-jewel assets of critical infrastructure from unauthorized access. Xacta streamlines and automates the critical processes of the leading cybersecurity standards and frameworks, in particular FedRAMP,authorization, allowing all process participants to collaborate within the same Xacta application to attain a FedRAMP Authority to Operate. Xacta is also a trailblazer in ~~adopting~~deploying the Open Security Controls Assessment Language, a multi-format framework adopted by FedRAMP to allow security professionals to automate security assessment, auditing, and continuous monitoring processes.

~~Table~~The DoD’s emerging Cybersecurity Maturity Model Certification ("CMMC") program is intended to ensure that members of ~~Contents~~the defense supply chain are applying sound cybersecurity practices in order to protect sensitive unclassified information. Because CMMC 2.0 is still an evolving standard, the flexible Xacta for CMMC offering enables Defense Industrial Base customers to conduct preliminary CMMC compliance audits that assess the maturity level required today as well as build a roadmap to future maturity level requirements. Telos is also a Cyber AB Registered Provider Organization

™, authorized by The Cyber AB to provide consulting services to government contractors and other companies in preparation for their CMMC assessments.

Finally, asCISOs with today’s cost-conscious enterprises are under increasing pressure to provide evidence that their security strategies yield a ~~whole, the COVID-19 pandemic has resulted~~return on investment. Xacta’s latest cyber risk quantification capabilities meet this need, allowing our customers to calculate inherent risk likelihood, impact, and criticality, shown in ~~acceleration of digital transformation~~a graphic display that illustrates real-time risk posture and ~~cloud adoption within the government and beyond, which will likely increase demand~~visualizes progress over time. In addition, customers can also define their own financial loss formula for ~~Xacta and Telos Ghost. Xacta is engineered to manage~~customer-specific risk and compliance of complex cloud and multi-cloud environments, a key capability for federal agencies and regulated industries that need to gain and maintain compliance with cloud-specific security regulations. Telos Ghost is a cloud-native, as-as-service offering that delivers network obfuscation and managed attribution capabilities on a global scale to support the cloud-enabled enterprise.analysis in dollar amounts.

COVID-19 Pandemic

~~The coronavirus disease 2019 ("COVID-19") pandemic has caused a disruption~~With much of the ~~normal operations~~business of ~~many businesses, including~~government still being conducted by federal employees working remotely through the ~~temporary closure or scale-back~~use of ~~business operations and/or~~information technology systems, we believe there will continue to be a need on the ~~imposition of either quarantine or remote work or meeting requirements for employees, either by government order or on a voluntary basis.~~

The ongoing pandemic may adversely affect our customers’ ability to perform their missions and is in many cases disrupting their operations. It may also impact the ability of our subcontractors, partners, and suppliers to operate and fulfill their contractual obligations, and result in an increase in their costs and cause delays in performance. These supply chain effects, and the direct effectpart of the ~~virus~~government for the types of solutions and the disruption on our operations, may negatively impact both our ability to meet customer demand and our revenue and profit margins. Our employees, in some cases, are working remotely due either to safety concerns or to customer imposed limitations and using various technologies to perform their functions. On September 24, 2021, Executive Order 14042 on Ensuring Adequate COVID Safety Protocols for Federal Contractors was issued requiring, amongst other things, all employees, sub-contractors and vendors working on certain federal contracts or who do work related to these federal contracts be fully vaccinatedservices provided by December 8, 2021. While that deadline to be fully vaccinated has been pushed back to January 18, 2022, this new requirement may negatively impact our ability to hire and retain talent, and to utilize certain sub-contractors and/or vendors to meet our customer demands and/or contractual requirements.

Additionally, the disruption and volatility in the global and domestic capital markets may increase the cost of capital and limit our ability to access capital. Both the health and economic aspects of COVID-19 are highly fluid and the future course of each is uncertain.Telos.

Backlog

~~We develop~~Backlog is a useful measure in developing our annual budgeted revenue by estimating for the upcoming year, our continuing business from existing customers and active contracts. We consider backlog, both funded and unfunded (as explained below), other expected annual renewals, and expansion planned by our current customers. In the context of our current customer portfolio, we view “recurring revenue” as revenue that occurs often and repeatedly. In each of the last three years, recurring revenue has exceeded 85% of our annual revenue.

Total backlog ~~a component of recurring revenue,~~ consists of the aggregate contract revenues remaining to be earned by us at a given time over the life of our contracts, whether funded or unfunded. Funded backlog consists of the aggregate contract revenues remaining to be earned at a given time, which, in the case of U.S. government contracts, means that they have been funded by the procuring agency. Unfunded backlog is the difference between total backlog and funded backlog and includes potential revenues that may be earned if customers exercise delivery orders and/or renewal options to continue these contracts. Based on historical experience, we generally assume option year renewals to be exercised. Most of our customers fund contracts on athe basis of one year or less, and, as a result, funded backlog is generally expected to be earned within one year from any point in time, whereas unfunded backlog is expected to be earned over a longer period.

Financial Overview

TSA PreCheck® Update

On October 18, 2022, TSA issued an authority to operate to Telos ID for Telos’ PreCheck® System. With TSA approval, Telos is providing its TSA PreCheck® enrollment services for a trial period to a limited population of applicants in order to validate systems and processes in advance of its full implementation as an authorized TSA PreCheck® enrollment provider. Once Telos successfully completes its trial period to the satisfaction of TSA, Telos will launch its services to the public more widely. Telos continues to anticipate this launch will occur in calendar year 2022.

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~~Consolidated~~ Results of Operations ~~(Unaudited)~~


Table MD&A 1: Results of Operations
	For the Three Months Ended						For the Nine Months Ended
	September 30, 2022			September 30, 2021			September 30, 2022			September 30, 2021

	(in thousands)
Revenue	$	63,593		68,981			169,544			178,383
Cost of sales	42,648			44,104			108,799			116,502
Gross profit	20,945			24,877			60,745			61,881
Gross margin	32.9		%	36.1		%	35.8		%	34.7		%
Selling, general and administrative expenses	28,614			29,965			95,314			97,935
Selling, general and administrative expenses as percentage of revenue	45.0		%	43.4		%	56.2		%	54.9		%
Operating loss	(7,669)			(5,088)			(34,569)			(36,054)
Other income/(expense)	518			20			648			(1,001)
Interest expense	(181)			(195)			(558)			(583)
Loss before income taxes	(7,332)			(5,263)			(34,479)			(37,638)
(Provision for)/benefit from income taxes	(8)			41			(133)			(6)
Net loss	$	(7,340)		$	(5,222)		$	(34,612)		$	(37,644)

Company Results

We generate revenue from the delivery of products and services to our customers. The ~~following table sets forth selected data as a percentage~~discussion of material changes in our net revenue should be read in conjunction with the subsequent discussion of changes in our consolidated cost of sales and our business segment results of operations. Cost of sales, for ~~the three~~both services and ~~nine months ended September 30, 2021~~products, consists of material, labor, subcontracting costs and ~~2020 are as follows:~~

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
(unaudited) (unaudited)
Revenue 100.0 % 100.0% 100.0% 100.0%
Cost of sales 62.8 65.1 65.8 65.7
Selling, general and administrative expenses 44.7 25.4 55.1 26.9
Operating (loss) income (7.5) 9.5 (20.9) 7.4
Other income (expense) — — (0.6) —
Interest expense (0.2) (4.2) (0.3) (4.5)
(Loss) income before income taxes (7.7) 5.3 (21.8) 2.9
Benefit from (provision for) income taxes — — — 0.1
Net (loss) income (7.7) 5.3 (21.8) 3.0
Less: Net income attributable to non-controlling interest — (5.7) — (4.6)
Net loss attributable to Telos Corporation (7.7) % (0.4) % (21.8) % (1.6) %
an allocation of indirect costs.

Three Months Ended September 30, ~~2021~~2022, Compared with Three Months Ended September 30, ~~2020~~2021

For the three months ended September 30, 2022, revenue decreased by $5.4 million, or 7.8%, compared to the same period in 2021. The decrease in revenue was primarily due to a large program that ended in 2021 within Security Solutions and the expected wind-down of large programs within Secure Networks.

~~Revenue increased~~Cost of sales decreased by ~~47.7% to $70.1~~$1.5 million, or 3.3%, for the third quarter of ~~2021, from $47.4 million for~~2022 compared to the same period in ~~2020. Revenue for~~2021, primarily as a result of decreased revenue, reduced costs across the Secure Networks portfolio, and revenue mix, offset by increased investment in a single large program in Security Solutions.

Gross profit decreased by $3.9 million, or 15.8%, in the third quarter ~~excluding~~of 2022 compared to the ~~contract with the U.S. Census Bureau of $1.6 million~~same period in ~~2021 and $9.4 million in 2020, would have grown by 79.9% in the current quarter compared with prior year same period. Security Solutions revenue was $35.7 million and $31.2 million~~2021. Gross margin decreased from 36.1% to 32.9% for the third quarter of 2021 and 2020, respectively. This increase of approximately 14.4% was driven primarily by the increases in sales of Telos ID and Information Assurance offerings, offset by the decrease in Secure Communications offerings. Secure Networks revenue was $34.4 million and $16.2 million for the third quarter of 2021 and 2020, respectively. This increase of approximately 112.3% resulted from various contracts with the DoD, primarily in our Secure Mobility Solutions offerings. Due2022 compared to ~~the various solutions offerings within the business groups, sales may vary from period to period according to the solution mix and timing of deliverables for a particular period.~~

~~Cost of sales increased by 42.5% to $44.0 million for the third quarter of 2021, from $30.9 million for~~ the same period in ~~2020 as~~2021. This is primarily due to higher investment in a ~~result of increases~~single large program in ~~revenue. Cost of sales for~~ Security Solutions, ~~decreased to $15.3 million (inclusive of $0.4 million of stock-based compensation) for the third quarter of 2021 from $17.2 million for the same period~~offset by higher gross margins in ~~2020 (which had no stock-based compensation), which translates as a decrease in the cost of sales as a percentage of revenue to 42.9% from 55.1%,~~Secure Networks due to broad-based margin performance across the portfolio, and a ~~change~~slight shift in ~~the~~revenue mix and nature of the programs. Cost of sales for Secure Networks increased to $28.7 million (inclusive of $0.1 million stock-based compensation) for the third quarter of 2021 from $13.7 million for the same period in 2020 (which had no stock-based compensation). While the cost of sales increased between periods, the sales mix improved, which translates to a decrease in the cost of sales as a percentage of revenue to 83.4% from 84.6%.

~~Gross profit increased by 57.4% to $26.1 million for the third quarter of 2021 from $16.6 million for the same period in 2020. Gross profit for~~towards Security Solutions increased to $20.4 million for the third quarter of 2021 from $14.0 million for the same period in 2020. Gross profit for Secure Networks increased to $5.7 million for the third quarter of 2021 from $2.6 million for the same period in 2020. Gross margin increased to 37.2% for the third quarter of 2021 from 34.9% for the same period in 2020, due to various changes in the mix of higher profit margin contracts in all business lines as discussed above. Gross margin for Security Solutions increased to 57.1% for the third quarter of 2021 from 44.9% for the same period in 2020. Gross margin for Secure Networks increased to 16.6% for the third quarter of 2021 from 15.8% for the same period in 2020.Solutions.

Selling, general, and administrative (“SG&A”) ~~expense increased~~expenses decreased by ~~160.0%~~$1.4 million, or 4.5%, in the third quarter of 2022 compared to ~~$31.3~~the same period in 2021, primarily attributable to the cost actions, offset by an increase in stock-based compensation.

Operating loss was $7.7 million for the third quarter of ~~2021, from $12.0~~2022, compared to $5.1 million for the same period in ~~2020,~~2021, primarily ~~attributable~~due to ~~increases~~the decrease in ~~stock-based compensation~~gross profit in the third quarter of ~~$11.8 million, labor costs of $5.5 million,~~2022, as mentioned above, offset by the decrease in SG&A expenses.

There were no significant changes in interest expense, and ~~outside services of $1.2 million.~~other income and expenses between the comparable periods.

~~Operating loss was $5.3 million~~The change in the income tax provision for the third quarter of ~~2021,~~2022 compared to ~~$4.5 million operating income for~~ the same period in ~~2020, primarily due to the stock-based compensation expense related to the RSUs granted in fiscal year 2021.~~

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~~Interest expense decreased by 90.3% to $0.2 million for the third quarter of~~ 2021 from $2.0 million for the same period in 2020, primarily due to the repayment of the EnCap loan, subordinated debt, and redemption of public preferred stock upon the closing of our IPO in November 2020.

~~Income tax benefit was $41,000 for the third quarter of 2021, compared to $8,000 income tax provision for the same period in 2020, which~~ is based on the estimated annual effective tax rate applied to the pretax loss incurred for the quarter plus ~~discreet~~discrete tax items, based on our expectation of pretax loss for the fiscal year.

Net loss ~~attributable to Telos Corporation~~ was ~~$5.4~~$7.3 million for the third quarter of ~~2021,~~2022, compared to ~~$0.2~~$5.2 million for the same period in ~~2020,~~2021, primarily due to the ~~stock-based compensation recorded~~decrease in gross profit, offset by the ~~third quarter~~decrease in SG&A expenses.

Table of ~~2021 as mentioned above.~~Contents

Nine Months Ended September 30, ~~2021~~2022, Compared with Nine Months Ended September 30, ~~2020~~

2021

Revenue decreased by $8.8 million, or 5.0%, during the nine months ended September 30, 2022 compared to the same period in 2021. The decrease is the result of the end of a large program in 2021 in Security Solutions and the expected wind-down of large programs in Secure Networks, offset by other increases across the portfolio.

Cost of sales decreased by $7.7 million, or 6.6%, for the nine months ended September 30, 2022, compared to the same period in 2021, primarily as a result of decreased revenue, reduced costs across the portfolio, and revenue mix.

Gross profit decreased by $1.1 million, or 1.8%, for the nine months ended September 30, 2022, compared to the same period in 2021. Gross margin increased from 34.7% to 35.8% for the comparable periods due to broad-based margin performance across the portfolio and a shift in revenue mix toward Security Solutions.

SG&A expense decreased by ~~32.1%~~2.7% to ~~$178.4~~$95.3 million for the nine months ended September 30, 2022, from $97.9 million for the same period in 2021, primarily due to reduced stock-based compensation.

Operating loss was $34.6 million for the nine months ended September 30, 2022, compared to $36.1 million for the same period in 2021, primarily due to the decreases in SG&A expense, offset by the decrease in gross profit described above.

Other expense of $1.0 million for the nine months ended September 30, 2021, ~~from $135.0 million~~was attributable to an accrual for a litigation settlement agreement, with no similar cost in 2022. There was no significant change in interest expense between comparable periods.

The increase in the same period in 2020. Revenue, excluding the contract with the U.S. Census Bureau of $4.2 million in 2021 and $29.9 million in 2020, would have grown by 65.8% year-over-year. Security Solutions revenue was $89.7 million and $92.5 millionincome tax provision for the nine months ended September 30, 2021 and 2020, respectively. This decrease of approximately 3.0% was driven primarily by decreases in sales of offerings in Telos ID, as the Census contract ramps down, and Secure Communication offerings, offset by an increase in Information Assurance offerings. Secure Networks revenue was $88.7 million and $42.5 million for the nine months ended September 30, 2021 and 2020, respectively. This increase of approximately 108.7% resulted from various contracts with the DoD, primarily in our Secure Mobility Solutions offerings. Due2022, compared to ~~the various solutions offerings within the business groups, sales may vary from period to period according to the solution mix and timing of deliverables for a particular period.~~

~~Cost of sales increased by 32.4% to $117.4 million for the nine months ended September 30, 2021, from $88.7 million for~~ the same period in 2020 as a result of increases in revenue. Cost of sales for Security Solutions decreased to $44.5 million (inclusive of $1.7 million of stock-based compensation) for the nine months ended September 30, 2021, from $53.8 million for the same period in 2020 (which had no stock-based compensation), which translates as a decrease in the cost of sales as a percentage of revenue to 49.6% from 58.2%, due to a change in the mix and nature of the programs. Cost of sales for Secure Networks increased to $72.9 million (inclusive of $0.3 million of stock-based compensation) for the nine months ended September 30, 2021 from $34.9 million for the same period in 2020 (which had no stock-based compensation), which translates as an increase in the cost of sales as a percentage of revenue to 82.2% from 82.1%.

Gross profit increased by 31.5% to $61.0 million for the nine months ended September 30, 2021 from $46.4 million for the same period in 2020. Gross profit for Security Solutions increased to $45.2 million for the nine months ended September 30, 2021 from $38.7 million for the nine months ended September 30, 2020. Gross profit for Secure Networks increased to $15.8 million for the nine months ended September 30, 2021 from $7.6 million for the nine months ended September 30, 2020. Gross margin decreased to 34.2% as of the third quarter of 2021 from 34.3% for the same period in 2020, due to various changes in the mix of contracts in all business lines as discussed above. Gross margin for Security Solutions increased to 50.4% as of the third quarter of 2021 from 41.8% for the same period in 2020. Gross margin for Secure Networks decreased to 17.8% as of the third quarter of 2021 from 17.9% for the same period in 2020.

SG&A expense increased by 170.1% to $98.3 million for the nine months ended September 30, 2021, from $36.4 million for the same period in 2020, primarily attributable to increases in stock-based compensation of $45.2 million, labor costs of $11.9 million, outside services of $3.2 million, insurance costs of $1.0 million, and trade show costs of $1.1 million, offset by the decrease in bonus costs of $1.6 million.

Operating loss was $37.3 million for the nine months ended September 30, 2021, compared to $10.0 million of operating income for the same period in 2020, primarily due to the stock-based compensation recorded as of the third quarter of 2021 as mentioned above.

Other expense for the nine months ended September 30, 2021 was $1.0 million compared to $14,000 of other income for the nine months ended September 30, 2020 was as a result of the settlement of outstanding litigation.

Interest expense decreased by 90.3% to $0.6 million for the nine months ended September 30, 2021, from $6.0 million for the same period in 2020, primarily due to the repayment of the EnCap loan, subordinated debt, and redemption of public preferred stock upon the closing of our IPO in November 2020.

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~~Income tax provision was $6,000 for the nine months ended September 30, 2021, compared to $136,000 income tax benefit for the same period in 2020, which~~ is based on the estimated annual effective tax rate applied to the pretax loss incurred for the nine months ~~period~~ plus ~~discreet~~discrete tax items, based on our expectation of pretax loss for the fiscal year.

Net loss ~~attributable to Telos Corporation~~ was ~~$38.9~~$34.6 million for the nine months ended September 30, ~~2021,~~2022, compared to ~~$2.2~~$37.6 million for the same period in ~~2020,~~2021, primarily attributable to the ~~stock-based compensation recorded~~decrease in ~~2021 as~~SG&A expenses coupled by the change in other expenses mentioned ~~above.~~above, offset by the decrease in gross profit.

~~Balance Sheet Review~~

~~Assets~~Segment Results

The ~~Company's total assets~~accounting policies of each business segment are the same as ofthose followed by the Company as a whole. Management evaluates business segment performance based on gross profit.


Table MD&A 2: Security Solutions Segment - Financial Results
	For the Three Months Ended				For the Nine Months Ended
	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021

	(in thousands)
Revenue	$	32,440	$	34,558	$	90,178	$	89,624
Gross profit	$	15,577	$	19,517	$	47,062	$	46,032
Gross margin	48.0 %		56.5 %		52.2 %		51.4 %

For the three months ended September 30, ~~2021 were $242.7~~2022, Security Solutions' revenue decreased by $2.1 million, or 6.1%, compared to ~~$183.8 million as of December 31, 2020.~~the same period in 2021. The ~~increase in total assets~~reduction was primarily attributable to ~~an increase~~a large program that ended in ~~cash~~2021 and ~~cash equivalents provided~~a decrease in another large program within the portfolio.

Security Solutions' gross profit for the third quarter of 2022 decreased by $3.9 million, or 20.2%, compared to the ~~follow-on offering, an increase~~same period in ~~accounts receivables~~2021. Gross margin for the quarter decreased from 56.5% in 2021 to 48.0% in 2022 due to higher investment in a single large program and revenue ~~generation and increase in intangible assets and goodwill as a result of~~mix shift within the ~~acquisition during the nine months ended September 30, 2021.~~portfolio.

~~Liabilities~~

The Company's total liabilities as of September 30, 2021 were $71.2 million compared to $56.7 million as of December 31, 2020. The increase in total liabilities was primarily attributable to the increase in accounts payable and other accrued liabilities as a result of the increase in cost of sales as of September 30, 2021.

~~Equity~~

As of September 30, 2021, the Company had a total equity of $171.5 million compared to $127.1 million as of December 31, 2020. The increase in equity is primarily driven by the follow-on offering that raised $64.3 million and stock-based compensation of $47.2 million; offset by the repurchase of the common stock and outstanding warrants held by EnCap for $1.3 million and $26.9 million, respectively. The Company reported a net loss of $38.9 millionRevenue for the nine months ended September 30, 2022, slightly increased by $0.6 million, or 0.6%, compared to the same period in 2021. This is due to broad based increases across the segment portfolio, offset by a decrease in revenue from a program that ended in 2021.

Security Solutions' gross profit for the nine months ended September 30, 2022, increased by $1.0 million, or 2.2%, compared to the same period in 2021. Segment gross margin also increased from 51.4% in 2021 to 52.2% in 2022. The segment's profitability improvement was primarily due to a revenue mix shift within the business, along with some minor margin improvements in certain portions of the portfolio.

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Table MD&A 3: Secure Networks Segment - Financial Results
	For the Three Months Ended				For the Nine Months Ended
	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021

	(in thousands)
Revenue	$	31,153	$	34,423	$	79,366	$	88,759
Gross profit	$	5,368	$	5,360	$	13,683	$	15,849
Gross margin	17.2 %		15.6 %		17.2 %		17.9 %

Secure Networks' revenue for the third quarter of 2022 decreased by $3.3 million, or 9.5%, compared to the same period in 2021. This was driven by the expected wind-down of large programs within the portfolio.

While revenue decreased in the third quarter of 2022, Secure Networks' gross profit remained at approximately $5.4 million during the comparable periods. Segment gross margin increased between comparable periods from 15.6% in 2021 to 17.2% in 2022 due to broad-based margin performance across the portfolio.

For the nine months ended September 30, 2022, Secure Networks' revenue decreased by $9.4 million, or 10.6%, compared to the same period in 2021, due to the expected wind-down of large programs.

Gross profit for Secure Networks for the nine months ended September 30, 2022, decreased by $2.2 million, or 13.7%, compared to the same period in 2021, primarily as a result of the decline in year-to-date segment revenue. Segment gross margin decreased between comparable periods from 17.9% in 2021 to 17.2% in 2022 due to minor margin reductions across the portfolio.

Non-GAAP Financial Measures

In addition to our results determined in accordance with GAAP, we believe the non-GAAP financial measures of Enterprise EBITDA, Adjusted EBITDA, Adjusted EBITDA Margin, Adjusted Net Income (Loss), Adjusted ~~EPS~~Earnings Per Share ("EPS") and Free Cash Flow are useful in evaluating our operating performance. We believe that this non-GAAP financial information, when taken collectively with our GAAP results, may be helpful to readers of our financial statements because it provides consistency and comparability with past financial performance and assists in comparisons with other companies, some of which use similar non-GAAP financial information to supplement their GAAP results. The non-GAAP financial information is presented for supplemental informational purposes only, should not be considered a substitute for financial information presented in accordance with GAAP, and may be different from ~~similarly-titled~~similarly titled non-GAAP measures used by other companies. A reconciliation is provided below for each of these non-GAAP financial measures to the most directly comparable financial measure stated in accordance with GAAP.

We use the following non-GAAP financial measures to understand and evaluate our core operating performance and trends, to prepare and approve our annual budget, to develop short-term and long-term operating plans, and to evaluate the performance of certain management personnel when determining incentive compensation. We believe these non-GAAP financial measures facilitate comparison of our operating performance on a consistent basis between periods by excluding certain items that may, or could, have a ~~disproportionate~~disproportionately positive or negative impact on our results of operations in any particular period. When viewed in combination with our results prepared in accordance with GAAP, these non-GAAP financial measures help provide a broader picture of factors and trends affecting our results of operations.

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Enterprise EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin

~~Both~~ Enterprise EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin are supplemental measures of operating performance that are not made under GAAP and that do not represent, and should not be considered as an alternative to net ~~loss~~(loss) income and net (loss) income margin, as determined by GAAP. We define Enterprise EBITDA as net ~~loss attributable to Telos Corporation,~~(loss) income, adjusted for ~~net income attributable to non-controlling interest,~~ non-operating expense (income) ~~expense,~~, interest expense, provision for (benefit from) income taxes, and depreciation and amortization. We define Adjusted EBITDA as Enterprise EBITDA, adjusted for ~~transaction gains/losses/expenses related to our IPO and~~ stock-based compensation expense.

~~A reconciliation of net loss attributable to Telos Corporation to Enterprise EBITDA and~~ We define Adjusted EBITDA margin as adjusted EBITDA as a percentage of total revenue.

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Table MD&A 4: Reconciliation of Net Loss to Enterprise EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin
	For the Three Months Ended								For the Nine Months Ended
	September 30, 2022				September 30, 2021				September 30, 2022				September 30, 2021
	Amount		Margin		Amount		Margin		Amount		Margin		Amount		Margin

	(in thousands)
Net loss	$	(7,340)	(11.5)	%	$	(5,222)	(7.6)	%	$	(34,612)	(20.4)	%	$	(37,644)	(21.1)	%
Adjustments:
Non-operating (income)/expense	(518)		(0.8)	%	(20)		—	%	(648)		(0.4)	%	1,001		0.6	%
Interest expense	181		0.3	%	195		0.3	%	558		0.3	%	583		0.3	%
Provision for/(benefit from) income taxes	8		—	%	(41)		—	%	133		0.1	%	6		—	%
Depreciation and amortization	1,517		2.4	%	1,459		2.1	%	4,427		2.6	%	4,223		2.4	%
Enterprise EBITDA	(6,152)		(9.6)	%	(3,629)		(5.2)	%	(30,142)		(17.8)	%	(31,831)		(17.8)	%
Stock-based compensation expense (1)	14,721		23.1	%	12,372		17.9	%	44,225		26.1	%	47,378		26.5	%
Adjusted EBITDA	$	8,569	13.5	%	$	8,743	12.7	%	$	14,083	8.3	%	$	15,547	8.7	%

(1)The stock-based compensation adjustment to EBITDA for the ~~most directly comparable GAAP measure,~~three and nine months ended September 30, 2022, is ~~as follows (in thousands):~~

Three Months Ended September 30, Nine Months Ended September 30,
2021 2020 2021 2020
Net loss attributable to Telos Corporation $ (5,387) $ (200) $ (38,894) $ (2,178)
Adjustments:
Net income attributable to non-controlling interest — 2,694 — 6,284
Non-operating (income) expense (20) (2) 1,001 (14)
Interest expense 195 2,013 583 6,026
(Benefit from) provision for income taxes (41) 8 6 (136)
Depreciation and amortization 1,459 1,284 4,223 4,018
Enterprise EBITDA (3,794) 5,797 (33,081) 14,000
Stock-based compensation expense 12,191 4 47,197 4
Adjusted EBITDA $ 8,397 $ 5,801 $ 14,116 $ 14,004
made up of $15.0 million and $42.2 million, respectively, of stock-based compensation expenses for the awarded RSUs and PRSUs, and $(0.3) million and $2.0 million, respectively, of other sources of stock-based compensation (adjustment)/expense. The other source of stock-based compensation consists of accrued compensation, which the Company 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. The Company has the right to dictate the form of these payments up until the date at which they are paid. Any change to the expected payment form would result in a change of estimate that would add back to Adjusted EBITDA.

Adjusted Net Income (Loss) and Adjusted EPS

Adjusted Net Income (Loss) and Adjusted EPS are supplemental measures of operating performance that are not made under GAAP and that do not represent, and should not be considered as an alternatives to net income (loss) and earnings (loss) per share, as determined by GAAP. We define Adjusted Net Income (Loss) as net income (loss) ~~attributable to Telos Corporation,~~, adjusted for non-operating expense (income) and stock-based compensation expense. We define Adjusted EPS as Adjusted Net Income (Loss) divided by the weighted-average number of common shares outstanding for the period.

~~A reconciliation of~~


Table MD&A 5: Reconciliation of Net Loss to Adjusted Net Income and Adjusted EPS
	For the Three Months Ended								For the Nine Months Ended
	September 30, 2022				September 30, 2021				September 30, 2022				September 30, 2021
	Adjusted Net Income/(Loss)		Adjusted Per Share		Adjusted Net Income/(Loss)		Adjusted Per Share		Adjusted Net Income/(Loss)		Adjusted Per Share		Adjusted Net Income/(Loss)		Adjusted Per Share

	(in thousands, except per share data)
Reported GAAP measure	$	(7,340)	$	(0.11)	$	(5,222)	$	(0.08)	$	(34,612)	$	(0.51)	$	(37,644)	$	(0.57)
Adjustments:
Non-operating (income)/ expense	(518)		(0.01)		(20)		—		(648)		(0.01)		1,001		0.01
Stock-based compensation expense (2)	14,721		0.22		12,372		0.19		44,225		0.65		47,378		0.72
Adjusted non-GAAP measure	$	6,863	$	0.10	$	7,130	$	0.11	$	8,965	$	0.13	$	10,735	$	0.16
Weighted-average shares of common stock outstanding	67,493				66,755				67,641				65,999

(2)The stock-based compensation adjustment to net loss ~~attributable~~for the three and nine months ended September 30, 2022, is made up of $15.0 million and $42.2 million, respectively, of stock-based compensation expenses for the awarded RSUs and PRSUs, and $(0.3) million and $2.0 million, respectively, of other sources of stock-based compensation (adjustment)/expense. The other source of stock-based compensation consists of accrued compensation, which the Company intends to ~~Telos Corporation~~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. The Company has the right to dictate the form of these payments up until the date at which they are paid. Any change to the expected payment form would result in a change in estimate that would add back to Adjusted Net ~~Income~~ Income/(Loss) ~~and Adjusted EPS, the most directly comparable GAAP measure, is as follows:~~

Three Months Ended September 30, 2021 2020
Adjusted Net Income (Loss) Adjusted Earnings Per Share Adjusted Net Income (Loss) Adjusted Earnings Per Share
(in thousands) (in thousands)
Reported GAAP measure $ (5,387) $ (0.08) $ (200) $ (0.01)
Adjustments:
Non-operating income (20) — (2) —
Stock-based compensation expense 12,191 0.18 4 —
Adjusted non-GAAP measure $ 6,784 $ 0.10 $ (198) $ (0.01)
Weighted-average shares of common stock outstanding 66,755 39,002

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Nine Months Ended September 30, 2021 2020
Adjusted Net Income (Loss) Adjusted Earnings Per Share Adjusted Net Income (Loss) Adjusted Earnings Per Share
(in thousands) (in thousands)
Reported GAAP measure $ (38,894) $ (0.59) $ (2,178) $ (0.06)
Adjustments:
Non-operating expense (income) 1,001 0.01 (14) —
Stock-based compensation expense 47,197 0.72 4 —
Adjusted non-GAAP measure $ 9,304 $ 0.14 $ (2,188) $ (0.06)
Weighted-average shares of common stock outstanding 65,999 38,554

Free Cash Flow

Free cash flow, as reconciled in the table below, is a non-GAAP financial measure defined as net cash provided by or used in operating activities, less ~~capital expenditure~~purchases of property and ~~adjusted for the final distribution to Telos ID Class B members included in cash from operating activities.~~equipment and capitalized software development costs. This non-GAAP financial measure may be a useful measure for investors and other users of our financial statements as a supplemental measure of our cash performance and to assess the quality of our earnings as a key performance measure in evaluating management.

Nine Months Ended September 30, 2021 2020
(in thousands) (in thousands)
Net cash flows provided by operating activities $ 6,668 $ 11,957
Adjustments:
Capital expenditure (7,784) (6,083)
Final distribution to Telos ID Class B member - included in cash from operating activities 2,436 —
Free cash flow $ 1,320 $ 5,874

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~~Each of~~


Table MD&A 6: Free Cash Flow
	For the Three Months Ended				For the Nine Months Ended
	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021

	(in thousands)
Net cash flows provided by operating activities	$	11,986	$	12,991	$	20,118	$	9,637
Adjustments:
Purchase of property and equipment	(174)		(575)		(815)		(1,645)
Capitalized software development costs	(3,446)		(3,009)		(8,580)		(6,672)
Free cash flow	$	8,366	$	9,407	$	10,723	$	1,320

Enterprise EBITDA, Adjusted EBITDA, Adjusted EBITDA Margin, Adjusted Net Income (Loss), Adjusted EPS and Free Cash Flow each has limitations as an analytical tool, and you should not consider any of them in isolation, or as a substitute for analysis of our results as reported under GAAP. Among other limitations, ~~each of~~ Enterprise EBITDA, Adjusted EBITDA, Adjusted EBITDA Margin, Adjusted Net Income (Loss), Adjusted EPS and Free Cash Flow each does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments, does not reflect the impact of certain cash charges resulting from matters we consider not to be indicative of our ongoing operations, and does not reflect income tax expense or benefit. Other companies in our industry may calculate Enterprise EBITDA, Adjusted EBITDA, Adjusted EBITDA Margin, Adjusted Net Income (Loss), Adjusted EPS and Free Cash Flow differently than we do, which limits ~~its~~their usefulness as a comparative measure. Because of these limitations, neither Enterprise EBITDA, Adjusted EBITDA, Adjusted EBITDA Margin, Adjusted Net Income (Loss), Adjusted EPS nor Free Cash Flow should be considered as a replacement for net income (loss), net income (loss) margin, earnings (loss) per share, or net cash flows provided byby/ (used in) operating activities, as determined by GAAP, or as a measure of our profitability. We compensate for these limitations by relying primarily on our GAAP results and using non-GAAP measures only for supplemental purposes.

Liquidity and Capital Resources

Upon the closing of the IPO in November 2020, we issued 17.2 million shares of our common stock at a price of $17.00 per share, generating net proceeds of approximately $272.8 million. We used approximately $108.9 million of the net proceeds in connection with the ~~ERPS Conversion (see Note 9 – Exchangeable Redeemable Preferred Stock Conversion),~~exchangeable redeemable preferred stock conversion, $30.0 million to fund our acquisition of the outstanding Class B Units of Telos ID (see Note 3 10 – ~~Non-controlling Interests /~~ Purchase of Telos ~~ID)~~ID Non-controlling Interests), and $21.0 million to repay our outstanding senior term loan and subordinated ~~debt (see Note 8 – Debt Obligations).~~

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debt. On April 6, 2021, we completed our follow-on offering of 9.1 million shares of our common stock at a price of $33.00 per share, including 7.0 million shares of common stock by certain existing stockholders of Telos. The offering generated approximately $64.3 million of net proceeds to Telos. We did not receive any proceeds from the shares of common stock sold by the selling stockholders. On April 19, 2021, we used approximately $1.3 million of the net proceeds to repurchase 39,682 shares of our common stock and $26.9 million to repurchase 900,970 outstanding warrants ~~to purchase 900,970 shares~~for our common stock ~~owned~~held by EnCap ~~(see Note 8 - Debt Obligations).~~fund holders. Further, on July 30, 2021, we used approximately $5.9 million of the net proceeds to acquire the assets of DFT (see Note ~~4 - Acquisition)~~9 – Acquisition).

We intend to use the remaining net proceeds of the IPO and the follow-on offering for general corporate purposes. ~~We also may use a portion of the net proceeds to acquire complementary businesses, products, services, or technologies. The amounts~~

Our overall financial position and ~~timing of our actual use of the net proceeds will vary depending on numerous factors. Proceeds held by us is invested in short-term investments until needed for the uses described above.~~

liquidity are strong. Our working capital was ~~$137.9~~$130.6 million and ~~$105.2~~$140.8 million as of September 30, ~~2021~~2022, and December 31, ~~2020,~~2021, respectively. Although no assurances can be given, we expect ~~our current sources of liquidity~~that funds generated from operations are sufficient to ~~support~~maintain the liquidity we require to meet our operating, investing and financing needs for the next 12 months.

~~We ended the third quarter~~As of ~~2021 with~~September 30, 2022, we had a cash and cash equivalent balance of ~~$134.1~~$125.3 million, compared to ~~$106.0~~$126.6 million aton December 31, 2021. This balance gives us the ~~end of 2020.~~flexibility for capital deployment while maintaining our focus on preserving a strong balance sheet to position us for future opportunities. We believe we have adequate funds on hand to execute our financial and operating strategy. The following is a discussion of our major operating, investing and financing activities in the first nine months of 2021 and 2020, as classified on the Condensed Statements of Cash Flows in Part I, Item 1.

Cash provided by operating activities was ~~$6.7~~$20.1 million for the nine months ended September 30, ~~2021,~~2022, compared to cash ~~provided by~~used in operating activities of ~~$12.0~~$9.6 million for the same period in ~~2020.~~2021. Cash provided by or used in operating activities is primarily driven by the Company’s operating loss, the timing of receipt of customer payments, the timing of our payments to vendors and employees, and the timing of inventory ~~turnover.~~turnover, adjusted for certain non-cash items that do not impact cash flows from operating activities.

Cash used in investing activities was approximately ~~$13.7~~$9.4 million and ~~$6.1~~$14.2 million for the nine months ended September 30, ~~2021~~2022, and ~~2020,~~2021, respectively, primarily ~~driven by~~due to software development costs of $8.6 million and $6.7 million for the nine months ended September 30, 2022, and 2021, respectively, and the purchase of property and equipment. In addition, in 2021, $5.9 million ofwas paid in cash ~~paid~~ for the acquisition completed in July 2021 (see Note ~~4 - Acquisition)~~9 – Acquisition).

Cash ~~provided by~~used in financing activities was ~~$35.1~~$11.8 million for the nine months ended September 30, ~~2021~~2022, compared to cash ~~used in~~provided by financing activities of ~~$2.3~~$32.7 million for the same period in ~~2020,~~2021. This is primarily attributable to payments under finance leases for both periods, payments of tax withholding related to a net share settlement of equity awards of $3.1 million in 2022, and the ~~proceeds~~repurchase of common stock of $7.6 million in 2022 under the share repurchase program (see Note 13 – Share Rep urchases). By

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contrast, in 2021, there was a cash inflow from the follow-on offering that generated $64.3 million of net proceeds, reduced by $2.4 million of final distributions to the Class B Members of Telos ID in the first quarter, $26.9 million used to repurchase the outstanding warrants and $1.3 million to repurchase the common stock held by ~~EnCap.~~

~~Recent Accounting Pronouncements~~

~~See Note 1 of the Condensed Consolidated Financial Statements for a discussion of recently issued accounting pronouncements.~~EnCap fund holders.

Critical Accounting Policies and Estimates

~~During~~The preparation of financial statements in conformity with accounting principles generally accepted in the ~~three months ended September 30,~~U.S. requires us to make estimates, judgments, and assumptions that affect the amounts reported. Actual results could differ from those estimates. The 2021 ~~there were no material changes to our critical accounting policies as reported in our Annual Report on~~ Form 10-K, ~~for the year ended December 31, 2020~~ as filed with the SEC on March ~~25, 2021.~~28, 2022, includes a summary of critical accounting policies we believe are the most important to aid in understanding our financial results. There have been no changes to those critical accounting policies that have had a material impact on our reported amounts of assets, liabilities, revenues, or expenses during the nine months ended September 30, 2022.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

None.

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Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

~~An evaluation of the effectiveness of our~~The Company has established disclosure controls and procedures ~~as of September 30, 2021~~to ensure that information required to be disclosed in this quarterly report on Form 10-Q was ~~performed under~~properly recorded, processed, summarized and reported within the ~~supervision~~time periods specified in the Commission's rules and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosureforms. The Company's controls and procedures are ~~effective~~designed to ensure that information required to be disclosed by the Company in ~~its~~the reports that it files or submits under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms, and that information required to be disclosed by the Company in the reports the Company files or submits under the Exchange Actof 1934, as amended (the "Exchange Act") is accumulated and communicated to ~~our~~the Company's management, including its principal executive and principal financial officer to allow timely decisions regarding required disclosure.

We carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) at September 30, 2022, based on the evaluation of these controls and procedures required by paragraph (b) of Rule 13a-15 or Rule 15d-15 under the Exchange Act. This evaluation was carried out under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer. Based upon the evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, on September 30, 2022, our disclosure controls and procedures were not effective as ~~appropriate to allow timely decisions regarding required disclosure.~~a result of the previously identified material weaknesses disclosed below.

Internal Control over Financial Reporting

~~There~~In connection with its evaluation of the internal control over financial reporting for the year ended December 31, 2021, management identified the following material weaknesses in our internal control over financial reporting:

a.Management did not maintain appropriately designed entity-level controls impacting the control environment and monitoring activities to prevent or detect material misstatements to the consolidated financial statements. Specifically, the Company did not have sufficient qualified resources to effectively design, operate and oversee internal control over financial reporting, which contributed to the failure in the effectiveness of certain controls.

b.Management did not maintain appropriately designed information technology general controls in the areas of user access, change management, and segregation of duties, including controls over the recording of journal entries and safeguarding of assets, related to certain information technology systems that support the Company’s financial reporting process.

c.Management did not maintain appropriately designed and implemented controls over the following:

i.Recording of revenue in accordance with ASC Topic 606, "Revenue from Contracts with Customers.”

ii.Accounting for software development costs in accordance with ASC Topic 985-20, “Software – Costs of Software to be Sold, Leased, or Marketed,” and ASC Topic 350-40, “Internal Use Software.”

iii.Review of completeness and accuracy of award stock-based compensation expense, and review of the key inputs and assumptions utilized in third-party valuations.

iv.Preparation and review of projected financial information utilized in the valuation of the business combination.

v.Financial statement close process to ensure the consistent execution, accuracy, and timely review of account reconciliations, as well as review of the statement of cash flows.

vi.Coding of transactions within the purchase to disbursement cycle.

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These material weaknesses were partially related to employee turnover, resulting in a temporary shortage of qualified personnel to effectively perform the internal controls referenced above.

The Company is working to remediate the material weaknesses in internal control over financial reporting and is taking steps to improve the internal control environment. The Company hired additional accounting personnel and implemented training of new and existing personnel on the proper execution of designed control procedures. Further, the Company is:

a.Enhancing processes and designing and implementing internal controls around revenue recognition, software development costs, stock-based compensation, business combination, and financial close and reporting; and,

b.Enhancing user access provisioning and monitoring controls to enforce appropriate system access and segregation of duties.

The material weaknesses will be considered remediated when management concludes that, through testing, the applicable remedial controls are designed and implemented effectively.

We are still assessing the design and operating effectiveness of these measures and, as such, the identified material weaknesses have not been fully remediated as of September 30, 2022. We will continue to monitor the effectiveness of these remediation measures and will make any changes and take other actions that we deem appropriate.

Changes in Internal Control over Financial Reporting

Other than the ongoing remediation activities listed above, there has been no change in our internal control over financial reporting during the quarter ended September 30, ~~2021~~2022, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

3430

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PART II—OTHER INFORMATION

Item 1. Legal Proceedings

Information regarding legal proceedings may be found in Note 1119 – Commitments and Contingencies to the ~~condensed~~unaudited consolidated financial statements.

Item 1A. Risk Factors

There were no material changes in the period ended September 30, ~~2021~~2022, in our risk factors as disclosed in our Annual Report on Form 10-K for the year ended December 31, ~~2020.~~2021.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

(a)Unregistered Sales of Securities

None.

(b)Use of Proceeds

None.

(c)Issuer Purchases of Equity Securities

~~None.~~


Common Stock Purchase Activity During the Three Months Ended September 30, 2022
Period	Total Number of Shares Purchased (1) (2)	Average Price Paid per Share (1)		Total Number of Shares Purchased as Part of Publicly Announced Repurchases Plans (1)	Maximum Dollar Value of Shares that May Yet Be Purchased Under the Plans (1)
July 1, 2022 - July 31, 2022	151,675	$	7.73	119,012	$	46,077,038
August 1, 2022 - August 31, 2022	230,183	9.64		230,183	$	43,856,971
September 1, 2022 - September 30, 2022	149,536	10.30		149,536	$	42,316,996
Total	531,394	$	9.38	498,731

(1) On May 24, 2022, the Board of Directors authorized a Share Repurchase Program, pursuant to which the Company can repurchase up to $50.0 million of issued and outstanding common stock. The repurchase program has no expiration date and may be modified, suspended, or terminated at any time. For the third quarter of 2022, the Company repurchased 498,731 shares of common stock under the program for an aggregate price of $4.7 million in open market.

(2) The Total Number of Shares Purchased includes shares withheld by the Company upon the vesting of restricted stock units to satisfy tax withholding obligations of the holders of those restricted stock units.

Item 3. Defaults upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

None.

3531

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Item 6. Exhibits


Exhibit ~~Number~~No.		Description of Exhibit
31.1 *	v	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2 *	v	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32 *	z	Certification ~~pursuant to 18 U.S.C. Section 1350, as Adopted~~of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101.INS	v	XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document

101.SCH	v	XBRL Taxonomy Extension Schema ~~Document~~

101.CAL	v	XBRL Taxonomy Extension Calculation Linkbase ~~Document~~

101.DEF	v	XBRL Taxonomy Extension Definition Linkbase ~~Document~~

101.LAB	v	XBRL Taxonomy Extension Label Linkbase ~~Document~~

101.PRE	v	XBRL Taxonomy Extension Presentation Linkbase ~~Document~~

104	v	Cover Page Interactive Data ~~File - the cover page iXBRL tags are embedded within the~~File. (formatted as Inline XBRL ~~document~~tags and contained in Exhibit ~~101~~101)


v	Filed herewith.
z	Furnished herewith.

* filed or furnished herewith.

3632

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the ~~registrant~~Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

~~Date: November 15, 2021~~

TELOS CORPORATION

/s/ John B. Wood

November 9, 2022

By:

John B. Wood

Chief Executive Officer ~~(Principal~~

(Principal Executive Officer)

/s/ Mark Bendza

November 9, 2022

By:

Mark Bendza

~~Mark Bendza~~
Chief Financial Officer ~~(Principal~~

(Principal Financial Officer)

/s/ Victoria Harding

November 9, 2022

By:

Victoria Harding

Controller and Chief Accounting Officer

(Principal Accounting Officer)

3733


	Three Months Ended September 30,				Nine Months Ended September 30,
	2021		2020		2021		2020
Revenue
Services	$	63,690	$	44,166	$	163,366	$	124,210
Products	6,376		3,274		15,017		10,819
	70,066		47,440		178,383		135,029
Costs and expenses
Cost of sales - Services	40,031		28,619		109,134		82,862
Cost of sales - Products	3,967		2,259		8,266		5,790
	43,998		30,878		117,400		88,652
Selling, general and administrative expenses
Sales and marketing	5,363		1,491		14,233		4,556
Research and development	5,396		3,598		14,783		11,070
General and administrative	20,562		6,960		69,271		20,769
	31,321		12,049		98,287		36,395
Operating (loss) income	(5,253)		4,513		(37,304)		9,982
Other income (expense)
Other income (expense)	20		2		(1,001)		14
Interest expense	(195)		(2,013)		(583)		(6,026)
(Loss) income before income taxes	(5,428)		2,502		(38,888)		3,970
Benefit from (provision for) income taxes	41		(8)		(6)		136
Net (loss) income	(5,387)		2,494		(38,894)		4,106
Less: Net income attributable to non-controlling interest	—		(2,694)		—		(6,284)
Net loss attributable to Telos Corporation	$	(5,387)	$	(200)	$	(38,894)	$	(2,178)
Net loss per share attributable to Telos Corporation, basic	$	(0.08)	$	(0.01)	$	(0.59)	$	(0.06)
Net loss per share attributable to Telos Corporation, diluted	$	(0.08)	$	(0.01)	$	(0.59)	$	(0.06)
Weighted-average shares of common stock outstanding, basic	66,755		39,002		65,999		38,554
Weighted-average shares of common stock outstanding, diluted	66,755		39,002		65,999		38,554


	Common Stock		Additional Paid-in Capital		Accumulated Other Comprehensive Income		Accumulated Deficit		Non-Controlling Interest		Total Stockholders’ Equity (Deficit)
For the Three Months Ended September 30, 2021
Beginning balance	$	105	$	341,928	$	17	$	(177,350)	$	—	$	164,700
Net loss	—		—		—		(5,387)		—		(5,387)

Foreign currency translation loss	—		—		(13)		—		—		(13)
Stock-based compensation	—		12,191		—		—		—		12,191


Ending balance	$	105	$	354,119	$	4	$	(182,737)	$	—	$	171,491
For the Three Months Ended September 30, 2020
Beginning balance	$	78	$	4,310	$	7	$	(147,508)	$	7,104	$	(136,009)
Net (loss) income	—		—		—		(200)		2,694		2,494
Foreign currency translation loss	—		—		(2)		—		—		(2)
Stock-based compensation	—		4		—		—		—		4
Distributions	—		—		—		—		(292)		(292)
Ending balance	$	78	$	4,314	$	5	$	(147,708)	$	9,506	$	(133,805)
For the Nine Months Ended September 30, 2021
Beginning balance	$	103	$	270,800	$	44	$	(143,843)	$	—	$	127,104
Net loss	—		—		—		(38,894)		—		(38,894)
Issuance of common stock	2		64,267		—		—		—		64,269
Foreign currency translation loss	—		—		(40)		—		—		(40)
Stock-based compensation	—		47,197				—		—		47,197
Repurchase of outstanding warrants	—		(26,894)		—		—		—		(26,894)
Repurchase of common stock	—		(1,251)		—		—		—		(1,251)
Ending balance	$	105	$	354,119	$	4	$	(182,737)	$	—	$	171,491
For the Nine Months Ended September 30, 2020
Beginning balance	$	78	$	4,310	$	6	$	(145,530)	$	4,514	$	(136,622)
Net (loss) income	—		—		—		(2,178)		6,284		4,106
Foreign currency translation loss	—		—		(1)		—		—		(1)
Stock-based compensation	—		4		—		—		—		4
Distributions	—		—		—		—		(1,292)		(1,292)
Ending balance	$	78	$	4,314	$	5	$	(147,708)	$	9,506	$	(133,805)


	Three Months Ended September 30,				Nine Months Ended September 30,
	2021		2020		2021		2020
Federal	$	67,697	$	45,788	$	171,091	$	128,756
State & Local, and Commercial	2,369		1,652		7,292		6,273
Total	$	70,066	$	47,440	$	178,383	$	135,029


September 30, 2021	Estimated Useful Life	Gross Carrying Amount		Accumulated Amortization		Net Carrying Value
Acquired technology	8 years	$	4,910	$	(112)	$	4,798
Customer relationships	3 years	40		(2)		38
Software development costs	2 years	18,392		(6,126)		12,266
		$	23,342	$	(6,240)	$	17,102


	September 30,
	2021		2020
Weighted average remaining lease term (in years):
Finance leases	7.6 years		8.6 years
Operating leases	1.9 years		2.8 years
Weighted average discount rate:
Finance leases	5.04	%	5.04	%
Operating leases	5.75	%	5.75	%


Year Ending December 31,	Operating Leases		Finance Leases
2021 (excluding the nine months ended September 30, 2021)	$	181	$	530
2022	603		2,149
2023	373		2,202
2024	27		2,258
2025	—		2,314
After 2025	—		8,344
Total lease payments	1,184		17,797
Less imputed interest	(66)		(3,149)
Total	1,118		14,648
Less Short-term portion	602		1,430
Total, net of short-term portion	$	516	$	13,218


	Three Months Ended September 30, 2021		Nine Months Ended September 30, 2021
Cost of sales - services	$	442	$	1,974
Sales and marketing	1,536		5,316
Research and development	970		2,079
General and administrative	9,243		37,828
Total	$	12,191	$	47,197


	Number of Shares	Weighted- Average Grant Date Fair Value (per share)		Weighted- Average Contractual Life (years)	Aggregate Intrinsic Value (in thousands)
Unvested Balance - December 31, 2020	59,521	$	0.18	2.4	$	2,000
Granted	3,036,563	35.69		—	—
Vested	(119,800)	36.17		—	—
Forfeited	(79,476)	36.63		—	—
Unvested Balance - September 30, 2021	2,896,808	$	35.04	1.5	$	82,300