We are a leading international provider of cost-effective systems and solutions that address the mass transit and global defense markets' most pressing and demanding requirements. We are engaged in the design, development, manufacture, integration, and sustainment of advanced technology systems and products. We also provide a broad range of engineering, training, technical, logistic, and information technology services. We serve the needs of various federal and regional government agencies in the U.S. and other allied nations around the world with products and services that have both defense and civil applications. Our main areas of focus are in mass transit fare collection, defense, intelligence, homeland security, and information technology, including cyber security.

We operate in three reportable business segments: Cubic Transportation Systems (CTS), Mission Support Services (MSS) and Cubic Defense Systems (CDS). We organize our business segments based on the nature of the products and services offered.

CTS develops and delivers innovative fare collection systems and services for public transit authorities worldwide. We provide fare collection devices, software and multiagency, multimodal transportation integration technologies, as well as a full scope of operational services that allow the agencies to efficiently collect fares, manage their operations, reduce fare evasion and make using public transit a more convenient and attractive option for commuters. We provide a wide range of services for transit authorities in 20 regions worldwide, including computer hosting services, call center and web services, payment media issuance and distribution services, retail point of sale network management, payment processing, financial clearing and settlement, software application support and outsourced asset operations and maintenance.

MSS is a leading provider of highly specialized support services to the U.S. government and allied nations. Services provided include live, virtual and constructive training, real-world mission rehearsal exercises, professional military education, intelligence support, information technology, information assurance and related cyber support, development of military doctrine, consequence management, infrastructure protection and force protection, as well as support to field operations, force deployment and redeployment and logistics.

CDS is focused on two primary lines of business: Training Systems and Secure Communications. CDS is a diversified supplier of live and virtual military training systems, and secure communication systems and products to the U. S. Department of Defense, other U.S. government agencies and allied nations. As a prime contractor on more than 75% of our contracts, we design and manufacture instrumented range systems for fighter aircraft, armored vehicles and infantry force-on-force live training weapons effects simulations, laser-based tactical and communication systems, and precision gunnery solutions. Our secure communications products are aimed at intelligence, surveillance, search and rescue, multi-band communication tracking devices, and cross domain hardware solutions to address multi-level security requirements.

Consolidated Overview

Sales for the quarter ended December 31, 2012 were $313.4 million compared to $316.8 million in the quarter ended December 31, 2011, a decrease of 1%. CTS sales decreased 6% and CDS sales decreased 3% compared to the first quarter of last year while MSS sales increased 5%. The sales generated by the operations of NEK Special Programs Group LLC (NEK), which was acquired on December 14, 2012, were not significant for the quarter. See the segment discussions following for further analysis of segment sales.

Operating income was $18.2 million in the first quarter of fiscal 2013 compared to $27.8 million in the first quarter of fiscal 2012, a decrease of 34%. CTS operating income decreased 26%, MSS operating income decreased 7% and CDS operating income decreased 80% compared to the first quarter of last year. NEK's operating loss for the first quarter of 2013 was $0.5 million, which included transaction costs of $0.4 million. Corporate and other costs for the first quarter of 2013 were $0.4 million compared to $0.6 million in 2012.

Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization (Adjusted EBITDA) for the first quarter of fiscal 2013 was $23.0 million, compared to $33.6 million in the first quarter of fiscal 2012. The decrease was due to lower operating income in all three segments, partially offset by a $1.1 million decrease in depreciation and amortization, primarily in MSS. See below for a reconciliation of this non-GAAP metric to net income and an explanation of why we believe it to be an important measure of performance.

Net income attributable to Cubic for the first quarter of fiscal 2013 was $12.4 million, or 47 cents per share, compared to $20.7 million, or 77 cents per share in 2012. Net income decreased for the quarter due to a decrease in operating income, a decrease in other income and an increase in interest expense. These decreases were partially offset by lower income tax expense due to the decrease in income before income taxes, although the effective tax rate in the first quarter was slightly higher this year, as described below. Included in other income was a net foreign currency exchange gain of $0.1 million in the first quarter of fiscal 2013 compared to a gain of $1.2 million in the first quarter of fiscal 2012. In the first quarter of fiscal 2013, we recorded $0.6 million of interest expense related to a judgment against us, which requires us to pay such amount of interest to the court on behalf of a party that had filed claims against us.

Our gross margin percentages on products and services did not change significantly between the first quarter of 2012 and 2013. However, product sales decreased $17.6 million, or 11.5%, while services sales increased by $14.2 million, or 8.7%. The lower gross margin percentage on services sales contributed to gross profits that were $3.3 million lower in the first quarter this year compared to the first quarter of fiscal 2012.

Selling, general and administrative (SG&A) expenses increased in the first quarter of 2013 to $41.0 million compared to $35.2 million in 2012. As a percentage of sales, SG&A expenses were 13% for the first quarter of 2013 compared to 11% in 2012. SG&A expenses increased in all business segments primarily due to higher selling and marketing costs, and increased information technology costs. In addition, during the first quarter of 2013 we incurred $1.1 million of professional services costs in connection with the restatement of our consolidated financial statements for the year ended September 30, 2012 and previous periods. Also, in the first quarter of 2013 SG&A expenses were reduced by $1.4 million related to proceeds from an insurance claim for losses that we incurred over the period from fiscal 2010 to fiscal 2012. In addition, SG&A expenses for NEK were $0.5 million for the first quarter of 2013.

Company funded research and development expenditures, which mainly relate to new defense technologies we are developing, increased to $5.8 million for the first quarter of 2013 compared to $4.9 million in 2012. Amortization of purchased intangibles decreased in the first quarter of 2013 to $3.6 million compared to $4.0 million in the first quarter of 2012, primarily due to the decrease in the amortization of certain intangible assets related to our acquisition of Abraxas Corporation (Abraxas) in December 2010 that are being amortized using accelerated amortization methods. The decrease in amortization expense was partially offset by the amortization of intangible assets recorded in connection with our acquisition of NEK in December 2012, which totaled $0.2 million in the first quarter of fiscal 2013.

Based on the tax law that was in effect at the end of the first quarter of fiscal 2013, we estimated our annual effective tax rate to be approximately 30%, which is reflected in the tax provision for the first quarter.

The American Taxpayer Relief Act of 2012, which reinstated the U.S. federal research and development tax credit retroactively from January 1, 2012 through December 31, 2013, was not enacted into law until the second quarter of fiscal 2013. Therefore, the expected tax benefit resulting from such reinstatement for fiscal 2013 will not be reflected in our estimated annual effective tax rate for fiscal 2013 until the second fiscal quarter. Additionally, we expect to record a discrete tax benefit of approximately $1.7 million in the second quarter of fiscal 2013 related to the reinstatement of the federal research and development tax credit for fiscal 2012. After consideration of both of these items, we estimate our annual effective income tax rate for fiscal 2013 will be approximately 26%. The effective rate for fiscal 2013 could be affected by, among other factors, the mix of business between the U.S. and foreign jurisdictions, our ability to take advantage of available tax credits and audits of our records by taxing authorities.

Transportation Systems Segment (CTS)



                                                    Three Months Ended
                                                       December 31,
                                                     2012         2011
                                                      (in millions)
Transportation Systems Segment Sales              $    118.6    $  125.8

Transportation Systems Segment Operating Income   $     13.2    $   17.9

CTS sales decreased 6% to $118.6 million compared to $125.8 million last year. The primary reason for the decrease in sales was due to reduced work on a contract to design and build a system in Vancouver. In last year's first quarter revenues were higher on the project as we were producing a significant amount of the hardware for the system, while this year we are in the latter stages of the system delivery. This decrease was partially offset by higher sales from a contract to design and build a system in Sydney, Australia. The average exchange rates between the prevailing currency in our foreign operations and the U.S. Dollar resulted in an increase in sales of $2.6 million when compared to the first quarter of 2012 exchange rates.

Operating income from CTS decreased 26% in the first quarter this year to $13.2 million, compared to $17.9 million in the first quarter of last year. We are currently incurring costs related to our contract in Sydney, Australia to transition portions of the system into full operations, for which revenues are not sufficient to cover our costs of servicing the system. This situation should improve as the systems complete the transition phase and move into full operations. In addition, we realized lower margins on certain projects in the U.K. during the first quarter of this year than we had earned on similar projects in the first quarter last year. These decreases in operating income were partially offset by sales of certain higher margin fare system products in North America. The average exchange rates between the prevailing currency in our foreign operations and the U.S. Dollar resulted in an increase in operating income of $0.3 million when compared to the first quarter of 2012 exchange rates.

Mission Support Services Segment (MSS)



                                                      Three Months Ended
                                                         December 31,
                                                       2012         2011
                                                        (in millions)
Mission Support Services Segment Sales              $    113.4    $  107.5

Mission Support Services Segment Operating Income   $      4.2    $    4.5

Sales from MSS increased 5% to $113.4 million in the first quarter this year, from $107.5 million in the first quarter of last year. Sales growth was driven by an increase in activity during the first quarter at the Joint Readiness Training Center (JRTC) in Fort Polk, Louisiana and by higher Abraxas sales. These increases were partially offset by lower sales due the loss of a contract in 2012 for flight simulator training work, because of a lower bid by a competitor. The sales generated by the operations of the newly acquired NEK business were not significant for the quarter.

MSS operating income decreased 7% to $4.2 million in the first quarter this year from $4.5 million in the first quarter of last year. The loss of the training work for flight simulators described above had a negative impact on operating income for the first quarter of this year, and cost growth on a training contract in Europe also contributed to the decrease in margins. In addition, NEK had an operating loss of $0.5 million in the first quarter of fiscal 2013 primarily due to the incurrence of $0.4 million of acquisition-related costs. These decreases in operating profits were partially offset by increased margins on increased Abraxas sales. The amortization expense for MSS intangible assets decreased from $3.3 million in the first quarter of fiscal 2012 to $2.9 million in the first quarter of fiscal 2013.

Defense Systems Segment (CDS)



                                              Three Months Ended
                                                 December 31,
                                              2012          2011
                                                (in millions)
Defense Systems Segment Sales
Training systems                           $     65.6    $     64.7
Secure communications                            11.6          15.0
Other                                             4.0           3.6
                                           $     81.2    $     83.3

Defense Systems Segment Operating Income
Training systems                           $      2.5    $      4.8
Secure communications                             0.3           3.2
Other                                            (1.6 )        (2.0 )
                                           $      1.2    $      6.0

Training Systems

Training systems sales increased 1% in the first quarter this year to $65.6 million compared to $64.7 million in the first quarter of last year. Operating income decreased 48% for the quarter from $4.8 million last year to $2.5 million this year. Increased sales of air combat training systems in the first quarter of fiscal 2013 were nearly offset by decreased sales of small arms training systems in the Middle East and to the U.S. government. The decreases in operating income were the result of decreased sales of the relatively high margin small arms training systems. Also, although total sales of air combat training systems increased in the first quarter of fiscal 2013, sales of higher margin air combat training systems to a customer in the Far East decreased, which decreased overall margins from air combat training systems.

Secure Communications

Secure communications sales decreased 23% in the first quarter this year to $11.6 million compared to $15.0 million in the first quarter of last year. Operating income decreased to $0.3 million in the first quarter this year from $3.2 million in the first quarter of last year. Decreased profitability on lower data link sales, including the impact of $1.2 million cost increase on a U.S. government contract, contributed to the decrease in operating income. Sales and operating profits were also lower from power amplifiers and personnel locater systems.

Other

Higher margins on increased sales of cross domain and global asset tracking products slightly decreased the operating losses that resulted from our continued investment in the development and marketing of these products.

Backlog



                            December 31,     September 30,
                                2012             2012
                                    (in millions)
Total backlog
Transportation Systems     $      1,665.3   $       1,663.7
Mission Support Services            746.6             737.0
Defense Systems:
Training systems                    341.4             362.0
Secure communications                39.3              42.1
Other                                23.8              26.8
Total Defense Systems               404.5             430.9
Total                      $      2,816.4   $       2,831.6

Funded backlog
Transportation Systems     $      1,665.3   $       1,663.7
Mission Support Services            257.3             248.1
Defense Systems:
Training systems                    341.4             362.0
Secure communications                39.3              42.1
Other                                23.8              26.8
Total Defense Systems               404.5             430.9
Total                      $      2,327.1   $       2,342.7

Total backlog decreased $15.2 million from September 30, 2012 to December 31, 2012. Decreases in backlog for CDS were partially offset by increases in backlog at CTS and MSS. The increase in MSS backlog was primarily due to the addition of $19.5 million of backlog from the acquisition of NEK, partially offset by decreases in backlog on other contracts. In the past, many of the contracts we were awarded in MSS were long-term in nature, spanning periods of five to ten years. The U.S. Department of Defense now awards shorter-term contracts for the services we provide and increasingly relies upon Indefinite Delivery/Indefinite Quantity (ID/IQ) contracts, which results in a lower backlog due to the shorter-term nature of these ID/IQ awards. CDS backlog has been negatively impacted by recent delays in contract awards and extensions, which are due in part to the budgetary uncertainties experienced by our U.S. governmental agency customers. Changes in exchange rates between the prevailing currency in our foreign operations and the U.S. Dollar as of the end of the quarter added $2.4 million to backlog compared to September 30, 2012.

The difference between total backlog and funded backlog represents options under multiyear service contracts. Funding for these contracts comes from annual operating budgets of the U.S. government and the options are normally exercised annually. Funded backlog includes unfilled firm orders for our products and services for which funding has been both authorized and appropriated by the customer (Congress, in the case of U.S. government agencies). Options for the purchase of additional systems or equipment are not included in backlog until exercised. In addition to the amounts identified above, we have been selected as a participant in or, in some cases, the sole contractor for several substantial indefinite delivery/ indefinite quantity (IDIQ) contracts. IDIQ contracts are not included in backlog until an order is received. We also have several service contracts in our transportation business that include contingent revenue provisions tied to meeting certain performance criteria. These variable revenues are also not included in the amounts identified above.

Adjusted EBITDA

Adjusted EBITDA represents net income attributable to Cubic before interest, taxes, non-operating income, depreciation and amortization. We believe that the presentation of Adjusted EBITDA included in this report provides useful information to investors with which to analyze our operating trends and performance and ability to service and incur debt. Also, Adjusted EBITDA is a factor we use in measuring our performance and compensating certain of our executives. Further, we believe Adjusted EBITDA facilitates company-to-company operating performance comparisons by backing out potential differences caused by variations in capital structures (affecting net interest expense), taxation and the age and book depreciation of property, plant and equipment (affecting relative depreciation expense), and non-operating expenses which may vary for different companies for reasons unrelated to operating performance. In addition, we believe that Adjusted EBITDA is frequently used by securities analysts, investors and other interested parties in their evaluation of companies, many of which present an Adjusted EBITDA measure when reporting their results. Adjusted EBITDA is not a measurement of financial performance under GAAP and should not be considered as an alternative to net income as a measure of performance. In addition, other companies may define Adjusted EBITDA differently and, as a result, our measure of Adjusted EBITDA may not be directly comparable to Adjusted EBITDA of other companies. Furthermore, Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:

† Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments;

† Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

† Adjusted EBITDA does not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debt;

† Adjusted EBITDA does not reflect our provision for income taxes, which may vary significantly from period to period; and

† although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements.

Because of these limitations, Adjusted EBITDA should not be considered as a measure of discretionary cash available to us to invest in the growth of our business. We compensate for these limitations by relying primarily on our GAAP results and using Adjusted EBITDA only supplementally. You are cautioned not to place undue reliance on Adjusted EBITDA.

The following table reconciles Adjusted EBITDA to net income attributable to Cubic, which we consider to be the most directly comparable GAAP financial measure to Adjusted EBITDA:

                                             Three Months Ended
                                                December 31,
                                              2012         2011
                                               (in thousands)
Reconciliation:
Net income attributable to Cubic           $    12,446   $ 20,694
Add:
Provision for income taxes                       5,400      8,353
Interest expense (income), net                     425       (415 )
Other income, net                                 (102 )     (923 )
Noncontrolling interest in income of VIE            73         45
Depreciation and amortization                    4,718      5,832
ADJUSTED EBITDA                            $    22,960   $ 33,586

Liquidity and Capital Resources

Operating activities used cash of $26.1 million for the first quarter of the fiscal year. Increases in accounts receivable and long-term capitalized contract costs and decreases in accounts payable and other current liabilities contributed to the use of cash. All three segments contributed to the use of cash from operating activities.

Investing activities for the three-month period included $33.1 million of cash paid related to the acquisition of NEK and capital expenditures of $1.4 million. Financing activities for the three-month period consisted of scheduled payments on our long-term debt of $4.1 million and $25.0 million of proceeds from short-term borrowings on our revolving line of credit.

We have a committed revolving credit agreement with a group of financial institutions in the amount of $200.0 million that expires in May 2017 (Revolving Credit Agreement). The available line of credit on the Revolving Credit Agreement is reduced by any letters of credit issued under the agreement. As of December 31, 2012, there were borrowings of $25.0 million under this agreement, of which $5.0 million was repaid in February 2013. Our borrowings under the Revolving Credit Agreement bear interest at a variable rate (1.6% at December 31, 2012). In addition, there were letters of credit outstanding under the Revolving Credit Agreement totaling $42.4 million, which reduce the available line of credit to $132.6 million.

We have a secured letter of credit facility agreement with a bank (Secured Letter of Credit Facility) which expires in February 2013. We are currently negotiating an extension of the term of the agreement for approximately one year. At December 31, 2012 there were letters of credit outstanding under this agreement of $63.4 million. In support of the Secured Letter of Credit Facility, we placed $68.8 million of our cash on deposit in the U.K. as collateral in a restricted account with the bank providing the facility. We are required to leave the cash in the restricted account so long as the bank continues to maintain associated letters of credit under the facility. The maximum amount of letters of credit currently allowed by the facility is $66.8 million, and any increase above this amount would require bank approval and additional restricted funds to be placed on deposit. We may choose at any time to terminate the facility and move the associated letters of credit to another credit facility. Letters of credit outstanding under the Secured Letter of Credit Facility do not reduce the available line of credit available under the Revolving Credit Agreement.

As of December 31, 2012, $165.1 million of the $174.1 million of our cash, cash equivalents, and short-term investments was held by our foreign subsidiaries. If these funds are needed for our operations in the U.S., we would be required to accrue and pay U.S. taxes to repatriate these funds. However, our intent is to permanently reinvest these funds outside of the U.S. and our current plans do not demonstrate a need to repatriate them to fund our U.S. operations.

Our financial condition remains strong with working capital of $386.9 million and a current ratio of 2.3 to 1 at December 31, 2012. We expect that cash on hand, cash flows from operations, and our unused lines of credit will be adequate to meet our liquidity requirements for the foreseeable future.

Critical Accounting Policies, Estimates and Judgments

Our financial statements are prepared in accordance with accounting principles that are generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported . . .