Document

Filed Pursuant to Rule 424(b)(3)
Registration No. 333-236468
Prospectus Supplement No. 1
(To Prospectus Dated April 23, 2020)
PAE INCORPORATED
https://cdn.kscope.io/1139a11af9979186888264d6fee9a564-image_01.jpg
82,707,532 Shares of Class A Common Stock
(Consisting of 19,999,999 Shares Offered by PAE Incorporated and
62,707,533 Shares Offered by the Selling Holders)
6,666,666 Warrants to Purchase Class A Common Stock
 
 
This prospectus supplement (this “Supplement”) supplements the prospectus, dated April 23, 2020 (the “Prospectus”), which forms a part of our Registration Statement on Form S-1 (Registration No. 333-236468) (the “Registration Statement”). The Prospectus and this Supplement relate to the issuance by us of up to: (i) 6,666,666 shares of our Class A Common Stock, par value $0.0001 per share (“Class A Common Stock”), issuable upon the exercise of 6,666,666 warrants issued in a private placement in connection with our initial public offering, at an exercise price of $11.50 per share of Class A Common Stock (the “Private Placement Warrants”), and (ii) 13,333,333 shares of our Class A Common Stock issuable upon the exercise of 13,333,333 warrants issued in connection with our initial public offering, at an exercise price of $11.50 per share of Class A Common Stock (the “Public Warrants” and, together with the Private Placement Warrants, the “Warrants”). The Prospectus and this Supplement also relate to the resale from time to time by the selling holders (the “Selling Holders”) named in the Prospectus of up to 6,666,666 Private Placement Warrants and 62,707,533 shares of our Class A Common Stock.
This Supplement is being filed to update, amend, and supplement the information included in the Prospectus with the information contained in our quarterly report on Form 10-Q, filed on May 7, 2020 (the “Quarterly Report”) with the Securities and Exchange Commission (the “SEC”). Accordingly, we have attached the Quarterly Report to the end of this Supplement. Additionally, this Supplement is being filed to update the tables in the Prospectus in the section entitled “Selling Holders” to reflect certain transfers of our Private Placement Warrants that had been beneficially owned by one of the Selling Holders.
The Prospectus provides you with a general description of the securities covered by the Prospectus and this Supplement and the general manner in which we and the Selling Holders may offer or sell such securities. More specific terms of any securities that we and the Selling Holders may offer or sell may be provided in a subsequent prospectus supplement that describes, among other things, the specific amounts and prices of the securities being offered and the terms of the offering. Such subsequent prospectus supplement may also add, update or change information contained in the Prospectus or this Supplement.
We will not receive any proceeds from the sale of shares of Class A Common Stock or Private Placement Warrants by the Selling Holders or of shares of Class A Common Stock by us pursuant to the Prospectus and this Supplement, except with respect to amounts received by us upon exercise of the Warrants. However, we will pay the expenses, other than any underwriting discounts and commissions, associated with the sale of securities pursuant to the Prospectus and this Supplement.
i


Our registration of the securities covered by the Prospectus and this Supplement does not mean that either we or the Selling Holders will issue, offer or sell, as applicable, any of the securities. The Selling Holders may offer and sell the securities covered by the Prospectus and this Supplement in a number of different ways and at varying prices. We provide more information in the Prospectus in the section entitled “Plan of Distribution.”
You should read the Prospectus, this Supplement and any subsequent prospectus supplement or amendment carefully before you invest in our securities. This Supplement should be read in conjunction with the Prospectus. This Supplement updates, amends, and supplements the information included or incorporated by reference in the Prospectus. If there is any inconsistency between the information in the Prospectus and this Supplement, you should rely on the information in this Supplement.
Our Class A Common Stock and Warrants are traded on the Nasdaq Stock Market under the symbols “PAE” and “PAEWW,” respectively. On May 6, 2020, the last reported sales price of the Class A Common Stock was $8.50 per share and the last reported sales price of the Warrants was $1.80 per warrant.
We are an “emerging growth company,” as that term is defined under the federal securities laws and, as such, are subject to certain reduced public company reporting requirements.
 
Investing in our securities involves risks. See “Risk Factors” beginning on page 5 of the Prospectus and any risks and uncertainties described under similar headings in this Supplement and any amendments or supplements to the Prospectus.
Neither the SEC nor any state securities commission has approved or disapproved of the securities or determined if the Prospectus or this Supplement is truthful or complete. Any representation to the contrary is a criminal offense.
The date of this prospectus supplement is May 8, 2020.














ii


SELLING HOLDERS
The information in the tables appearing under the heading “Selling Holders” beginning on page 124 of the Prospectus is updated by revising the beneficial ownership of Gores Sponsor III LLC and adding certain other Selling Holders listed in the tables below. After the Registration Statement became effective and the Prospectus was filed with the SEC, Gores Sponsor III LLC distributed 5,483,741 Private Placement Warrants to certain of its members. As a result, the Private Placement Warrants and the shares of our Class A Common Stock issuable upon exercise of the Private Placement Warrants, all of which were previously reflected as held by Gores Sponsor III LLC, are now held by the Selling Holders listed and in the amounts set forth below. Other than as indicated below, the information under the heading “Selling Holders” in the Prospectus is unchanged.

We have based percentage ownership in the tables below on 92,040,654 shares of Class A Common Stock and 19,999,985 Warrants outstanding, in each case as of May 5, 2020. In calculating percentages of shares of Class A Common Stock owned by a particular Selling Holder, we treated as outstanding the number of shares of our Class A Common Stock issuable upon exercise of that particular Selling Holder’s Warrants, if any, and did not assume the exercise of any other Selling Holder’s Warrants.

Shares of Class A Common Stock

Name of Selling Stockholder
  Beneficial Ownership
After the Offering
 
Shares to be Sold in
the Offering
 Beneficial Ownership
After the Offering
  SharesPercent Shares PercentSharesPercent
AEG Holdings, LLC(1)
  12,994,012   13.4%  12,994,012   13.4% —   —  
Gores Sponsor III LLC(5)
  6,003,426   6.5%  6,003,426   6.5% —   —  
Mark Stone(24)
  369,497     369,497    —   —  
Catherine Babon(30)
  55,424     55,424    —   —  
Jennifer K. Chou(31)
  18,474     18,474    —   —  
Edward A. Johnson(32)
  369,497     369,497    —   —  
Andrew McBride(33)
  36,950     36,950    —   —  

*Represents beneficial ownership of less than 1%.
(1)
Represents (a) the 1,969,947 shares of Class A Common Stock owned directly by AEG Holdings, LLC (“AEG”), (b) 6,003,426 shares of Class A Common Stock owned directly by Gores Sponsor III LLC and (c) 5,020,639 shares of Class A Common Stock issuable upon exercise of 5,020,639 Warrants owned directly by Gores Sponsor III LLC. AEG is the managing member of Gores Sponsor III LLC and, accordingly, may be deemed to have beneficial ownership of the shares of Class A Common Stock owned directly or underlying Warrants owned directly thereby. The address for AEG is 6260 Lookout Road, Boulder, CO 80301.
(5)Represents shares held by Gores Sponsor III LLC which is controlled indirectly by Alec Gores. Voting and disposition decisions with respect to such securities are made by Alec Gores. Alec Gores disclaims beneficial ownership of these securities except to the extent of any pecuniary interest therein. The business address of each of Gores Sponsor III LLC and Alec Gores is 9800 Wilshire Blvd., Beverly Hills, California 90212.
(24)
Consists of (i) 201,349 shares of our Class A Common Stock issuable upon exercise of 201,349 of our Private Placement Warrants held directly by Mr. Stone and (ii) 168,148 shares of our Class A Common Stock held by The Mark Ronald Stone Trust (the “Stone Trust”). Mark Stone is the trustee of the Stone Trust and is therefore deemed to hold voting and dispositive powers over the securities held by the Stone Trust. The address for the Stone Trust is 8520 Calera Drive, Austin, TX 78735.
(30)Includes 30,202 shares of our Class A Common Stock issuable upon exercise of 30,202 of our Private Placement Warrants.
(31)Includes 10,067 shares of our Class A Common Stock issuable upon exercise of 10,067 of our Private Placement Warrants.
iii


(32)Includes 201,349 shares of our Class A Common Stock issuable upon exercise of 201,349 of our Private Placement Warrants.
(33)Includes 20,135 shares of our Class A Common Stock issuable upon exercise of 20,135 of our Private Placement Warrants.

 Private Placement Warrants
 
Name of Selling Holder
  Beneficial Ownership
Before the Offering
  Warrants to be Sold
in the Offering
  Beneficial
Ownership After
the Offering
 
  Warrants   Percent  Warrants   Percent  Warrants   Percent 
Gores Sponsor III LLC(1)
00%00%—  —  
AEG Holdings, LLC(4)
   5,020,639    25.1  5,020,639    25.1  —      —   
Catherine Babon   30,202      30,202      —      —   
Jennifer K. Chou   10,067      10,067      —      —   
Edward A. Johnson   201,349    1.0%  201,349    1.0%  —      —   
Andrew McBride   20,135      20,135      —      —   
Mark Stone   201,349    1.0%  201,349    1.0%  —      —   

 

*Represents beneficial ownership of less than 1%.
(1)Represents securities held by Gores Sponsor III LLC which is controlled indirectly by Alec Gores. Voting and disposition decisions with respect to such securities are made by Alec Gores. Alec Gores disclaims beneficial ownership of these securities except to the extent of any pecuniary interest therein. The business address of each of Gores Sponsor III LLC and Alec Gores is 9800 Wilshire Blvd., Beverly Hills, California 90212.
(4)The address for AEG is 6260 Lookout Road, Boulder, CO 80301. Alec Gores is the managing member of AEG. Voting and disposition decisions with respect to securities held by AEG are made by Alec Gores. Alec Gores disclaims beneficial ownership of these securities except to the extent of any pecuniary interest therein.

iv




UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
__________________________

FORM 10-Q
__________________________
(Mark One)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: March 29, 2020
or
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number: 1-38643
__________________________
PAE INCORPORATED
(Exact name of registrant as specified in its charter)
__________________________
Delaware82-3173473
(State or other jurisdiction of incorporation or organization(I.R.S. Employer Identification No.

7799 Leesburg Pike, Suite 300 North, Falls Church, Virginia 22043
(Address of principal executive offices) (Zip Code)

(703) 717-6000
(Registrant’s telephone number, including area code)
__________________________

Securities registered pursuant to Section 12(b) of the Act:
Title of each classTrading SymbolsName of each exchange on which registered
Class A Common StockPAENasdaq Stock Market
WarrantsPAEWWNasdaq Stock Market

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 filerAccelerated filer
Non-accelerated filerSmaller 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 ☒

The number of shares of the registrant’s common stock outstanding as of April 30, 2020 was 92,040,654.

 











EXPLANATORY NOTE

This Quarterly Report on Form 10-Q (the “Form 10-Q”) contains our condensed consolidated financial statements for the three-month period ended March 29, 2020.

We were originally incorporated in Delaware on October 23, 2017 under the name “Gores Holdings, III, Inc.” as a special purpose acquisition company formed for the purpose of effecting a merger, capital stock exchange, asset acquisition, stock purchase, reorganization, or other similar business combination with one or more target businesses. On September 11, 2018, we consummated our initial public offering (the “IPO”), following which our shares began trading on the Nasdaq Stock Market (“Nasdaq”).

On February 10, 2020 (the “Closing Date”), we consummated the previously announced business combination (the “Business Combination”) pursuant to that certain Agreement and Plan of Merger, dated November 1, 2019, by and among Gores Holdings III, Inc. (“Gores III”), EAP Merger Sub, Inc. (“First Merger Sub”), EAP Merger Sub II, LLC (“Second Merger Sub”), Shay Holding Corporation (“Shay”), and Platinum Equity Advisors, LLC (in its capacity as the Stockholder Representative, the “Stockholder Representative”) (the “Merger Agreement”), as more fully described in the Company’s Form 8-K filed with the Securities and Exchange Commission on February 14, 2020, and the amendment thereto filed on March 11, 2020. In connection with the closing of the Business Combination (the “Closing”), we acquired 100% of the stock of Shay (as it existed immediately prior to the Second Merger) and its subsidiaries, changed our name from “Gores Holdings III, Inc.” to “PAE Incorporated”, and changed the trading symbols of our Class A Common Stock and warrants on Nasdaq from “GRSH” and “GRSHW,” to “PAE” and “PAEWW,” respectively.

For accounting purposes, the Business Combination is treated as a reverse acquisition and recapitalization, in which Shay is considered the accounting acquirer (and legal acquiree) and Gores III is considered the accounting acquiree (and legal acquirer). Additionally, unless otherwise stated or the context indicates otherwise, with respect to the financial information contained in this Form 10-Q, including in “Part I, Item 1. Financial Statements” and the notes thereto and in “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” the financial information relating to the quarter ended March 31, 2019 are those of Shay and its subsidiaries, and for the quarter ended March 29, 2020, the financial information includes the financial information of Shay and its subsidiaries for the period prior to the Closing and the financial information of PAE Incorporated and its subsidiaries for the period subsequent to the Closing. See “Note 1 – Description of Business” and “Note 6 – Business Combinations and Acquisitions” of the Notes to the condensed consolidated financial statements for additional information.

Unless the context indicates otherwise, the terms “PAE,” the “Company,” “we,” “us,” and “our” refer to PAE Incorporated and its subsidiaries taken as a whole.

        




              


           












PAE Incorporated
Form 10-Q
For the Quarter Ended March 29, 2020
Table of Contents

Page No.



        




              


           












PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
PAE Incorporated
Condensed Consolidated Statements of Operations (Unaudited)
(In thousands, except per share data)

Three Months Ended
March 29,March 31,
20202019
Revenues$617,253  $673,484  
Cost of revenues465,208  517,159  
Selling, general and administrative expenses137,326  135,035  
Amortization of intangible assets8,047  8,657  
Total operating expenses610,581  660,851  
Program profit6,672  12,633  
Other income, net785  1,720  
Operating income7,457  14,353  
Interest expense, net(20,948) (22,660) 
Loss before income taxes(13,491) (8,307) 
Benefit from income taxes(8,714) (3,147) 
Net loss(4,777) (5,160) 
Noncontrolling interest in earnings of ventures166  559  
Net loss attributed to PAE Incorporated$(4,943) $(5,719) 
Net loss per share attributed to PAE Incorporated:
   Basic and diluted$(0.08) $(0.27) 
Weighted average shares outstanding59,807,549  21,127,823  
See accompanying notes
1


PAE Incorporated
Condensed Consolidated Statements of Comprehensive Loss (Unaudited)
(In thousands)

Three Months Ended
March 29,March 31,
20202019
Net loss$(4,777) $(5,160) 
Other comprehensive (loss) income:
Change in foreign currency translation adjustment, net of tax(976) 290  
Other, net281  422  
Other comprehensive (loss) income(695) 712  
Comprehensive loss(5,472) (4,448) 
Comprehensive income attributed to noncontrolling interests498  582  
Comprehensive loss attributed to PAE Incorporated$(5,970) $(5,030) 
See accompanying notes
2









PAE Incorporated
Condensed Consolidated Balance Sheets (Unaudited)
(In thousands, except share and par value amounts)
March 29,December 31,
20202019
Assets
Current assets:
Cash and cash equivalents$99,790  $68,035  
Accounts receivable, net420,765  442,180  
Prepaid expenses and other current assets46,760  43,549  
Total current assets567,315  553,764  
Property and equipment, net28,079  30,404  
Deferred income taxes, net16,597  3,212  
Investments17,747  17,925  
Goodwill409,588  409,588  
Purchased intangibles, net172,417  180,464  
Operating lease right-of-use assets, net161,731  162,184  
Other noncurrent assets9,484  13,758  
Total assets$1,382,958  $1,371,299  
Liabilities and equity
Current liabilities:
Accounts payable$122,126  $124,661  
Accrued expenses100,456  102,315  
Customer advances and billings in excess of costs69,662  51,439  
Salaries, benefits and payroll taxes106,995  130,633  
Accrued taxes16,058  18,488  
Current portion of long-term debt22,894  22,007  
Operating lease liabilities, current portion35,324  36,997  
Other current liabilities32,703  30,893  
Total current liabilities506,218  517,433  
Long-term debt, net595,598  727,930  
Long-term operating lease liabilities130,426  129,244  
Other long-term liabilities7,397  8,601  
Total liabilities1,239,639  1,383,208  
Stockholders' equity:
Preferred stock, $0.0001 par value per share, 1,000,000 shares authorized;
no shares issued and outstanding
—  —  
Common stock, $0.0001 par value per share: 210,000,000 shares authorized; 92,040,654 and 21,127,823 shares issued and outstanding as of March 29, 2020 and December 31, 2019, respectively
  
Additional paid-in capital262,284  101,743  
Accumulated deficit(150,314) (145,371) 
Accumulated other comprehensive loss(829) (134) 
Total PAE Incorporated stockholders' equity 111,150  (43,760) 
Noncontrolling interests32,169  31,851  
Total liabilities and equity$1,382,958  $1,371,299  
See accompanying notes
3


PAE Incorporated
Condensed Consolidated Statements of Equity (Unaudited)
(In thousands, except share data)
Accumulated
OtherTotal
Common StockAdditionalAccumulatedComprehensivePAE IncorporatedNoncontrollingTotal
SharesAmountPaid-in CapitalDeficit(Loss) / Income  EquityInterestsEquity
Balance at December 31, 2018282,047  $ $101,742  $(95,562) $(2,138) $4,045  $27,440  $31,485  
Retrospective application of the capitalization20,845,776  (1)  —  —  —  —  —  
Adjusted balance at December 31, 201821,127,823   101,743  (95,562) (2,138) 4,045  27,440  31,485  
   Net loss—  —  —  (5,719) —  (5,719) 559  (5,160) 
   Other comprehensive income, net—  —  —  —  712  712  —  712  
   Equity contributions from venture
partners
—  —  —  —  —  —  1,350  1,350  
Balance at March 31, 201921,127,823  $ $101,743  $(101,281) $(1,426) $(962) $29,349  $28,387  
Accumulated
OtherTotal
Common StockAdditionalAccumulatedComprehensivePAE IncorporatedNoncontrollingTotal
SharesAmountPaid-in CapitalDeficitLossEquityInterestsEquity
Balance at December 31, 2019282,047  $ $101,742  $(145,371) $(134) $(43,760) $31,851  $(11,909) 
Retrospective application of the capitalization20,845,776  (1)  —  —  —  —  —  
Adjusted balance at December 31, 201921,127,823   101,743  (145,371) (134) (43,760) 31,851  (11,909) 
   Net (loss) income—  —  —  (4,943) —  (4,943) 166  (4,777) 
   Other comprehensive loss, net—  —  —  —  (695) (695) (695) 
   Distributions to venture partners and
other
—  —  —  —  —  —  152  152  
   Equity contributions from venture
partners
—  —  13  —  —  13  —  13  
   Equity infusion from Gores III46,999,787   364,773  —  —  364,778  —  364,778  
   Private placement23,913,044   219,998  —  —  220,000  —  220,000  
   Payment to Shay stockholders—  —  (424,243) —  —  (424,243) —  (424,243) 
Balance at March 29, 202092,040,654  $ $262,284  $(150,314) $(829) $111,150  $32,169  $143,319  
See accompanying notes
4


PAE Incorporated
Condensed Consolidated Statements of Cash Flows (Unaudited)
(In thousands)
Three Months Ended
March 29,March 31,
20202019
Operating activities
Net loss$(4,777) $(5,160) 
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation of property and equipment2,583  3,010  
Amortization of intangible assets8,047  8,657  
Amortization of debt issuance cost6,063  2,050  
Net undistributed income from unconsolidated ventures(663) (1,300) 
Deferred income taxes, net(9,081) 440  
Other non-cash activities, net270  419  
Changes in operating assets and liabilities, net:
Accounts receivable, net20,869  (21,368) 
Accounts payable(2,417) 53,784  
Accrued expenses(3,779) (7,412) 
Customer advances and billings in excess of costs18,223  23,390  
Salaries, benefits and payroll taxes(21,307) (6,701) 
Inventories, net1,342  (2,001) 
Prepaid expenses and other current assets(2,921) (5,754) 
Other current and noncurrent liabilities(4,545) (2,307) 
Investments750  836  
Other noncurrent assets4,729  780  
Accrued taxes(2,473) (2,000) 
Net cash provided by operating activities10,913  39,363  
Investing activities
Expenditures for property and equipment(404) (3,614) 
Net cash used in investing activities(404) (3,614) 
Financing activities
Net contributions from noncontrolling interests150  1,350  
Borrowings on long-term debt60,000  17,888  
Repayments on long-term debt(196,544) (62,938) 
Payments of debt issuance costs(964) —  
Recapitalization from merger with Gores III605,708  —  
Payment of underwriting and transaction costs(27,268) —  
Distribution to selling stockholders(419,548) —  
Net cash provided by (used in) financing activities21,534  (43,700) 
Effect of exchange rate changes on cash and cash equivalents(288) (458) 
Net increase (decrease) in cash and cash equivalents31,755  (8,409) 
Cash and cash equivalents at beginning of period68,035  51,097  
Cash and cash equivalents at end of period$99,790  $42,688  
Supplemental cash flow information
Cash paid for interest$10,900  $19,411  
Cash paid for taxes$1,523  $2,608  

See accompanying notes
5


PAE Incorporated
Notes to Condensed Consolidated Financial Statements (Unaudited)

1. Description of Business
PAE Incorporated, formerly known as Gores Holdings III, Inc. (“Gores III”), was originally incorporated in Delaware on October 23, 2017 as a special purpose acquisition company formed for the purpose of effecting a merger, capital stock exchange, asset acquisition, stock purchase, reorganization, or other similar business combination with one or more target businesses. On September 11, 2018, Gores III consummated its initial public offering (the “IPO”), following which our shares began trading on the Nasdaq Stock Market (“Nasdaq”). Unless the context otherwise indicates, references herein to the “Company" or “PAE” refer to PAE Incorporated and its consolidated subsidiaries.

On February 10, 2020 (the “Closing Date”), the Company completed the previously announced business combination (the “Business Combination”) in which Shay Holding Corporation (“Shay”) was acquired by Gores III. The transaction was completed in a multi-step process pursuant to which Shay ultimately merged with and into a wholly-owned subsidiary of Gores III, with the Gores III subsidiary continuing as the surviving company. As a result of the Business Combination, each share of common stock of Shay was cancelled and converted into the right to receive a portion of the consideration payable in connection with the transaction and Gores III acquired Shay (as it existed immediately prior to the Business Combination) and its subsidiaries. Additionally, the stockholders of Shay as of immediately prior to the transaction hold a portion of the common stock of the Company.

For accounting purposes, the Business Combination is treated as a reverse acquisition and recapitalization, in which Shay is considered the accounting acquirer (and legal acquiree) and Gores III is considered the accounting acquiree (and legal acquirer).

Accordingly, as of the Closing Date, Shay’s historical results of operations replaced Gores III’s historical results of operations for periods prior to the Business Combination and the results of operations of both companies are included in the accompanying condensed consolidated financial statements for periods following the Closing Date. See “Note 6 - Business Combinations and Acquisitions” for additional information.

PAE provides integrated support solutions, including defense and military readiness, diplomacy, peacekeeping, development, host nation capacity building, aircraft and ground equipment maintenance and logistics, and operations and maintenance of facilities and infrastructure. Customers include agencies of the U.S. Government, such as the Department of Defense (“DoD”) and Department of State (“DoS”), allied foreign governments, and international organizations such as the United Nations.

The Company’s operations are organized into the following two reportable segments:

Global Mission Services (“GMS”): GMS provides infrastructure and logistics management, international logistics and stabilization support, and aircraft and vehicle readiness and sustainment support. The segment focuses on customer relationships with DoD, DoS, National Aeronautics and Space Administration, United Nations, and other government agencies for work in the United States and outside of the United States.

6


National Security Solutions (“NSS”): NSS provides counter-threat solutions, business process outsourcing, adjudication support services and full life cycle support for complex legal matters. NSS focuses on customer relationships in the areas of intelligence, defense and security, and with civilian agencies.

The Company separately presents the costs associated with certain corporate functions as Corporate, which primarily include costs that are not reimbursed by the Company’s U.S. Government customers.
2. Significant Accounting Principles and Policies
Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements. In management’s opinion, all adjustments, consisting of only normal recurring adjustments, considered necessary for a fair presentation have been included. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for the full fiscal year. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto for the year ended December 31, 2019, which are filed as Exhibit 99.3 to the Company’s Form 8-K/A filed with the SEC on March 11, 2020.

The Company closes its books and records on the last Sunday of the calendar quarter to align its financial closing with its business processes, which was on March 29, 2020 and March 31, 2019. The condensed consolidated financial statements and disclosures included herein are labeled based on that convention. This practice only affects interim periods, as the Company’s fiscal year ends on December 31.

The condensed consolidated financial statements include the accounts of PAE Incorporated and subsidiaries and ventures in which the Company owns more than 50% or otherwise controls. All intercompany amounts have been eliminated in consolidation.

Update to Significant Accounting Policies

There have been no material changes to the Company’s significant accounting policies in the Company’s 8-K/A filed with the SEC on March 11, 2020, other than Accounts Receivable, net and Net Loss Per Share as described below.
Accounts Receivable, net

Amounts billed and due from customers are recorded as billed receivables within accounts receivable, net on the condensed consolidated balance sheets. Generally, customer accounts are due within 30 to 45 days of billings. The Company recognizes an allowance for credit losses based on historical experience, current conditions and reasonable and supportable forecasts. The Company assesses its overall allowance for credit losses on an at least a quarterly basis. Prior to the implementation of the allowance for credit losses the Company recorded adjustments to an allowance for doubtful accounts when collectability was uncertain.

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Net Loss Per Share
Basic net loss per common share is determined by dividing the net loss allocable to stockholders by the weighted average number of common shares outstanding during the periods presented. Diluted loss per share is computed by dividing the net loss allocable to common stockholders by the weighted average number of shares of common stock and common stock equivalents outstanding for the period.
Fair Value of Financial Instruments

Fair value is the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market in an orderly transaction between marketplace participants at the measurement date. The valuation techniques the Company utilized to measure the fair value of financial instruments are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect internal market assumptions.

These two types of inputs create the following fair value hierarchy:

Level 1 – Quoted prices for identical instruments in active markets.

Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.

Level 3 – Significant inputs to the valuation model are unobservable.

The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable, and amounts included in other current assets and current liabilities that meet the definition of a financial instrument approximate fair value because of the short-term nature of these amounts.

The carrying value of the Company’s outstanding debt obligations approximates its fair value. The fair value of long-term debt is calculated using Level 2 inputs, based on interest rates available for debt with terms and maturities similar to the Company’s existing debt arrangements.
3. Recent Accounting Pronouncements
Accounting Pronouncements Adopted
In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (ASU) No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses for financial instruments, which requires the measurement and recognition of expected credit losses for financial assets held at amortized cost, replacing the existing incurred loss impairment model. The new standard is effective for reporting periods beginning after December 15, 2019, with early adoption permitted. The Company adopted this guidance effective January 1, 2020 under the modified retrospective method and such adoption did not have a material impact on the Company’s financial statements.
In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Topic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement that is a Service Contract, which requires the tracking and recognition
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of costs that will be capitalized as an asset and amortized over the assets useful life. The new standard is effective for reporting periods beginning after December 15, 2019, with early adoption permitted. The Company adopted this guidance effective January 1, 2020 prospectively and the standard did not have a material impact on the Company’s financial statements.
4. Revenues
Disaggregated Revenues
Disaggregated revenues by customer type were as follows (in thousands):
Three Months Ended March 29, 2020
GMSNSSTotal
DoD$187,605  $67,178  $254,783  
Other U.S. government agencies250,042  70,722  320,764  
Commercial and non-U.S. customers19,797  21,909  41,706  
Total$457,444  $159,809  $617,253  

Disaggregated revenues by contract type were as follows (in thousands):
Three Months Ended March 29, 2020
GMSNSSTotal
Cost-reimbursable$266,080  $36,903  $302,983  
Fixed-price162,038  68,958  230,996  
Time and materials29,326  53,948  83,274  
Total$457,444  $159,809  $617,253  
Disaggregated revenues by geographic location were as follows (in thousands):
Three Months Ended March 29, 2020
GMSNSSTotal
United States$248,909  $158,139  $407,048  
International208,535  1,670  210,205  
Total$457,444  $159,809  $617,253  
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Disaggregated revenues by customer type were as follows (in thousands):
Three Months Ended March 31, 2019
GMSNSSTotal
DoD$200,402  $58,752  $259,154  
Other U.S. government agencies274,11289,209363,321  
Commercial and non-U.S. customers29,96621,04351,009  
Total$504,480  $169,004  $673,484  
Disaggregated revenues by contract type were as follows (in thousands):
Three Months Ended March 31, 2019
GMSNSSTotal
Cost-reimbursable$290,691  $22,222  $312,913  
Fixed-price175,39976,514251,913  
Time and materials38,39070,268108,658  
Total$504,480  $169,004  $673,484  
Disaggregated revenues by geographic location were as follows (in thousands):
Three Months Ended March 31, 2019
GMSNSSTotal
United States$260,088  $167,783  $427,871  
International244,3921,221245,613  
Total$504,480  $169,004  $673,484  
Remaining Performance Obligations
The Company’s remaining performance obligations balance represents the expected revenue to be recognized for the satisfaction of remaining performance obligations on existing contracts. This balance excludes unexercised contract option years and task orders that may be issued underneath an indefinite delivery, indefinite quantity contract. The remaining performance obligations balance as of March 29, 2020 and December 31, 2019 was $1,386.0 million and $1,640.0 million, respectively.
The Company expects to recognize approximately 97.9% and 2.1% of the remaining performance obligations balance as revenue over the next year and thereafter, respectively.
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5. Contract Assets and Contract Liabilities
Contract assets consist of unbilled receivables which represent rights to payment for work or services completed but not billed as of the reporting date. Contract assets are recorded as unbilled receivables within accounts receivable, net on the condensed consolidated balance sheets.
Contract liabilities are advances and milestone payments from customers on certain contracts that exceed revenue earned to date. Contract liabilities are recorded as customer advances and billings in excess of costs on the condensed consolidated balance sheets.
Contract assets and contract liabilities consisted of the following as of the dates presented (in thousands):
March 29,December 31,
20202019
Contract assets$279,459  $295,103  
Contract liabilities$69,662  $51,439  

The decrease in contract assets of $15.6 million during the three months ended March 29, 2020 was primarily due to the timing of billings, partially offset by revenue recognized related to the satisfaction of performance obligations.
The increase in contract liabilities of $18.2 million during the three months ended March 29, 2020 was primarily due to the timing of advance payments from customers partially offset by revenue recognized during the period. During the three months ended March 29, 2020 and March 31, 2019, the Company recognized $38.0 million and $15.2 million, respectively, relating to amounts that were included in the beginning balance of contract liabilities for each of the periods.
6. Business Combinations and Acquisitions
As described in Note 1, the Business Combination was consummated on February 10, 2020. For financial accounting and reporting purposes under U.S. GAAP, the Business Combination was accounted for as a reverse acquisition and recapitalization, with no goodwill or other intangible asset recorded. Under this method of accounting, Gores III is treated as the acquired entity and Shay (legal acquiree) is deemed to have issued common stock for the net assets and equity of Gores III consisting of mainly cash, accompanied by simultaneous equity recapitalization of Shay (“Recapitalization”). The net assets of Gores III are stated at historical cost, and accordingly the equity and net assets of Shay have not been adjusted to fair value. Consequently, the consolidated assets, liabilities and results of operations of Shay are the historical financial statements of PAE Incorporated and the Gores III assets, liabilities and results of operations are consolidated with the assets, liabilities and results of operations of Shay beginning on the Closing Date. Shares and earnings per share information prior to the Business Combination have been retroactively restated to reflect the exchange ratio established in the Recapitalization.
Other than professional fees paid to consummate the transaction, the Business Combination primarily involved the exchange of cash and equity between Gores III, Shay and the stockholders of the respective companies. The aggregate proceeds paid to the Shay
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stockholders on the Closing Date was approximately $424.2 million. The remainder of the consideration paid to the Shay stockholders consisted of 21,127,823 newly issued shares of Class A Common Stock of PAE Incorporated, par value $0.00001 per share (“Class A Common Stock”).

In addition to the foregoing consideration paid on the Closing Date, former stockholders of Shay are entitled to receive additional Earn-Out Shares from PAE of up to an aggregate of 4,000,000 shares of Class A Common Stock if the price of Class A Common Stock trading on the Nasdaq exceeds certain thresholds during the five-year period following the completion of the Business Combination. See “Note 11 - Stockholders’ Equity - Earn-Out Agreement” for additional information.

The Company also has certain warrants issued by Gores III that remain outstanding after the Business Combination. “See Note 11 - Stockholders’ Equity” for further information about the warrants.  

In connection with the Business Combination, the Company recorded $20.9 million, net of tax as a reduction to Additional Paid in Capital related to the transaction costs. These costs were directly attributable to the Recapitalization.
7. Accounts Receivable, net
The components of Accounts receivable, net consisted of the following as of the dates presented (in thousands):
March 29,December 31,
20202019
Billed receivables$142,976  $148,747  
Unbilled receivables279,459  295,103  
Less allowance for credit losses(1,670) (1,670) 
    Total accounts receivables, net  $420,765  $442,180  

As of March 29, 2020 approximately 93% of the Company’s accounts receivable are with the U.S. government.

8. Goodwill and Intangible Assets, net
Goodwill
Based on management’s assessment of goodwill, there was no impairment or change for the three months ended March 29, 2020.
The Company considered the implications of COVID-19 as it relates to the carrying value of goodwill and indefinite-lived assets. Although COVID-19 has had an adverse effect on the Company’s result of operations for the first quarter of 2020, management does not currently expect that such impact will be material to the Company’s full year results. Since the Company’s primary customers are departments and agencies within the U.S. Government, it has not historically had significant issues collecting its receivables and management does not foresee
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issues collecting receivables in the foreseeable future. In addition, the Company’s contract awards typically extend to at least five years, including options, and it has a strong history of being awarded a majority of these contract options. Management does not anticipate that the pandemic will have a materially adverse impact on such awards. The Company’s liquidity position has not been materially impacted, and management continues to believe that the Company has adequate liquidity to fund its operations and meet its debt service obligations for the foreseeable future.

Intangible Assets, net
The components of intangible assets, net consisted of the following as of the dates presented (in thousands):
March 29, 2020
Gross Carrying AmountAccumulated AmortizationNet Carrying Amount
Customer relationships$286,900  $(124,515) $162,385  
Technology1,700  (1,700) —  
Trade name16,900  (6,868) 10,032  
Total$305,500  $(133,083) $172,417  
December 31, 2019
Gross Carrying AmountAccumulated AmortizationNet Carrying Amount
Customer relationships$286,900  $(116,923) $169,977  
Technology1,700(1,700) —  
Trade name16,900(6,413) $10,487
Total$305,500  $(125,036) $180,464  

As of the three months ended March 29, 2020, customer relationships and trade name intangibles had weighted average remaining useful lives of 7.7 and 5.8 years, respectively. As of the year-ended December 31, 2019, customer relationships and trade name had weighted average remaining useful lives of 7.9 and 6.0 years, respectively.
For the three months ended March 29, 2020 and March 31, 2019, amortization expense was approximately $8.0 million and $8.7 million, respectively.
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Estimated amortization expense in future years is expected to be:
As of
March 29, 2020
Remainder of 2020$24,141  
202131,824  
202231,775  
202324,565  
202420,490  
Thereafter39,622  
Total$172,417  

9. Consolidated Variable Interest Entities
The Company has entered into ventures and investments that allow it to participate in projects in areas where it is advantageous or required by law to partner with a local organization.
The Company is the majority shareholder and primary beneficiary of PAE (New Zealand) Limited, ATOM Training Limited, PAE-Perini LLC, Syncom Space Services LLC, PAE-SGT Partners LLC, accordingly, these entities are consolidated. As the primary beneficiary, the Company has a risk and obligation to absorb any losses significant to the VIE. The use of the assets of the VIEs to settle the Company’s obligations is subject to the approval of the managing body of each VIE.
The cash flows generated by these VIEs are included within the Company’s condensed consolidated statements of cash flows. The condensed consolidated balance sheets include the following amounts from these consolidated VIEs as of the dates presented (in thousands):
March 29,December 31,
20202019
Assets
Total assets$126,193  $127,742  
Liabilities and equity
Total liabilities$79,013  $80,151  
Total equity47,180  47,591  
Total liabilities and equity$126,193  $127,742  


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The condensed consolidated statements of operations include the following amounts from consolidated VIEs for the periods presented (in thousands):
Three Months Ended
March 29,March 31,
20202019
Income statements
Revenues$87,191  $63,260  
Cost of revenues68,525  50,402  
Selling, general and administrative expenses18,017  18,289  
Total operating expenses86,542  68,691  
Program income (loss)649  (5,431) 
Other expense, net(1,049) (354) 
Net loss$(400) $(5,785) 

10. Debt.
Long-term debt consisted of the following as of the dates presented (in thousands):
March 29,December 31,
20202019
First Term Loan$506,772  $506,772  
Second Term Loan128,784  265,329  
Revolving Credit Facility—  —  
Total debt635,556  772,101  
Unamortized discount and debt issuance costs(17,064) (22,164) 
Total debt, net of discount and debt issuance costs618,492  749,937  
Less current maturities of long-term debt(22,894) (22,007) 
Total long-term debt, net of current$595,598  $727,930  

Credit Agreement
The Company’s borrowing arrangement provides for current borrowings up to $506.7 million under a first lien term loan credit agreement, dated October 26, 2016, as amended (the “First Term Loan”), $265.3 million under a second lien term loan credit agreement, dated October 26, 2016, as amended (the “Second Term Loan”), and $150 million under a revolving credit facility dated October 26, 2016, as amended (the “Revolving Credit Facility,” and together with the First Term Loan and the Second Term Loan, the “Credit Agreements”). Principal and interest are due quarterly on the First Term Loan and interest only is due quarterly on the Second Term Loan. The maturity date of the First Term Loan is October 20, 2022. For the Second Term Loan the maturity date is October 20, 2023. For the Company’s Revolving Credit Facility the maturity date is October 20, 2021.

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In connection with the Business Combination, Shay was required to amend its existing credit facilities and reduce its outstanding indebtedness under its credit facilities such that the total indebtedness under the facilities, minus cash on hand at the consummation of the transaction would not be greater than $572.1 million. Immediately after the closing of the transaction the outstanding balance on the Second Term Loan was reduced by approximately $136.5 million to a principal balance of $128.8 million.

The Credit Agreements require the Company to comply with specified financial covenants under certain circumstances, including the maintenance of certain leverage ratios.
The Credit Agreements also contain various non-financial covenants, including affirmative covenants with respect to reporting requirements and maintenance of business activities, and negative covenants that, among other things, may limit or impose restrictions on the Company’s ability to alter the character of the business, consolidate, merge, or sell assets, incur liens or additional indebtedness, make investments, and undertake certain additional actions.
The Company was in compliance with the financial covenants under the Credit Agreements as of March 29, 2020 and December 31, 2019, respectively.
Future principal maturities of the Company’s long-term debt are summarized as follows (in thousands):
As of
March 29, 2020
Remainder of 2020$29,810  
202129,810  
2022447,152  
2023128,784  
2024—  
Total$635,556  
As of March 29, 2020 and December 31, 2019, the available borrowing capacity under the Revolving Credit Facility was approximately $103.9 million and $121.8 million, respectively.
Interest Rates on Credit Agreements
The interest rate per annum applicable to amounts borrowed under the First Term Loan is equal to either the Base Rate (as defined below) or the LIBO Rate (as defined below), in either case, plus (i) 4.5% in the case of the Base Rate loans and (ii) 5.5% in the case of LIBO Rate loans.
The interest rate per annum applicable to amounts borrowed under the Second Term Loan is equal to either the Base Rate or the LIBO Rate, in either case, plus (i) 8.5% in the case of the Base Rate loans and (ii) 9.5% in the case of LIBO Rate loans
The “Base Rate” is defined as a fluctuating rate per annum equal to the highest of (a) the Federal Funds Rate plus one half of one percent, (b) the rate of interest in effect for such day as publicly announced from time to time by Bank of America (“BofA”) as its “prime rate,” and (c) the LIBO Rate for a LIBO Rate loan with a one month Interest Period commencing on such day plus
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1.0%. The “prime rate” is a rate set by BofA based upon various factors including BofA’s costs and desired return, general economic conditions and other factors, and is used as a reference point for pricing some loans, which may be priced at, above, or below such announced rate. The LIBO Rate is defined as the rate per annum equal to the London Interbank Offered Rate or a comparable or successor rate, whichever rate is approved by the Administrative Agent (as that term is defined in the Credit Agreements).
The interest rate per annum applicable to the Revolving Credit Facility is equal to either a Base Rate or a LIBO Rate plus (i) a range of 0.75% to 1.25% in the case of Base Rate loans and (ii) a range of 1.75% to 2.25% in the case of LIBO Rate loans, each based on average availability as of the first day of each quarter.
As of March 29, 2020 and December 31, 2019, the applicable interest rate on the amounts borrowed under the First Term Loan was 7.1% and 7.4%, respectively. As of March 29, 2020 and December 31, 2019, the applicable interest rate on amounts borrowed under the Second Term Loan was 11.1% and 11.4%, respectively.

As of both March 29, 2020 and December 31, 2019, the applicable interest rate on amounts borrowed under the Revolving Credit Facility was 5.8%.
In addition, the interest rate on our term loan borrowings and revolving loan borrowings is based on the London Interbank Offered Rate (“LIBOR”). LIBOR is the subject of recent national, international, and other regulatory guidance and proposals for reform. In July 2017, the Chief Executive of the U.K. Financial Conduct Authority (the “FCA”), which regulates LIBOR, announced that the FCA will no longer persuade or compel banks to submit rates for the calculation of the LIBOR benchmark after 2021. This announcement indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021, and it appears likely that LIBOR will be discontinued or modified by 2021. The consequences of the discontinuance of the LIBOR benchmark cannot be entirely predicted but could include an increase in the cost of our variable rate indebtedness.
Letters of Credit

The Company had 11 outstanding letters of credit for program and insurance requirements totaling approximately $21.2 million as of both March 29, 2020 and December 31, 2019.

11. Stockholders’ Equity

Authorized and Outstanding Stock
In connection with the Business Combination, the Company made changes to its capital stock. The Company’s amended and restated certificate of incorporation authorizes the issuance of 211,000,000 shares of capital stock, par value of $0.0001 per share, consisting of (a) 210,000,000 shares of Class A common stock, and (b) 1,000,000 shares of preferred stock.
As a result of the Business Combination, the shares issued to Shay Stockholders are reflected as if they were issued and outstanding as of the earliest reported period to reflect the new capital structure.

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Warrants

As of March 29, 2020, there were warrants outstanding to acquire 19,999,985 shares of our Class A Common Stock including: (i) 13,333,319 warrants sold as part of the public units issued in our IPO on September 11, 2018 (the “Public Warrants”), and (ii) 6,666,666 warrants issued or transferred to our former sponsor in a private placement on the IPO closing date (the “Private Placement Warrants” and, together with the Public Warrants, the “Warrants”). The Company currently has an effective registration statement on Form S-1 relating to the issuance by the Company of up to (i) 13,333,333 shares of its Class A Common Stock issuable upon the exercise of the outstanding Public Warrants, and (ii) 6,666,666 shares of its Class A Common Stock issuable upon exercise of the Private Placement Warrants.
Each whole Warrant entitles the registered holder to purchase one share of Class A Common Stock at a price of $11.50 per share. The Warrants became exercisable on March 11, 2020, thirty days following the completion of the Business Combination, and expire five years after that date, or upon redemption or liquidation. The Company may redeem outstanding Public Warrants and, unless held by the former sponsor or its permitted transferees, the Private Placement Warrants at a price of $0.01 per Warrant, provided the last reported sales price of the Company’s Class A Common Stock equals or exceeds $18.00 per share for any 20 trading days within a 30-trading-day period ending on the third business day before the Company gives proper notice of such redemption to the warrant holders.
The Private Placement Warrants are identical to the Public Warrants except that, so long as they are held by the former sponsor or its permitted transferees: (i) they will not be redeemable by the Company; (ii) they may be exercised by the holders on a cashless basis; and (iii) they are subject to registration rights.
Any transactions related to the Warrants are recorded within the stockholder’s equity section of the Company’s condensed consolidated financial statements. However, the issuance of shares pursuant to the exercise of these warrants is contingent upon the share price reaching $11.50. Therefore, share activity related to such warrants will not be recorded until such time as the contingency has been met.
Earn-Out Agreement
In connection with the Business Combination, stockholders of Shay immediately prior to the transaction (which stockholders consisted of certain affiliates of Platinum Equity LLC and members of PAE management, (the “Shay Stockholders”) will be entitled to receive up to an aggregate of 4,000,000 additional shares of Class A Common Stock (the “Earn-Out Shares”) if at any time during the five-year period following the Closing Date (the “Earn-Out Period”) the volume weighted average closing sale price of one share of Class A Common Stock on the Nasdaq (or the exchange which shares Class A Common Stock are then listed) for a period of at least 10 days out of 20 consecutive trading days (the “Common Share Price”) exceeds certain thresholds, described below.
The thresholds (each a “Triggering Event”) causing the Earn-Out Shares to be issued by the Company to the Shay Stockholders is any such event occurs within the Earn-Out period are: (i) a one-time issuance of 1,000,000 shares if the Common Share Price is greater than $13.00; (ii) a one-time issuance of 1,000,000 shares if the Common Share Price is greater than $15.50; (iii)
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a one-time issuance of 1,000,000 shares if the Common Share Price is greater than $18.00; and (iv) a one-time issuance of 1,000,000 shares if the Common Share Price is greater than $20.50.
Further, if during the Earn-Out Period there is a change in control (as defined in the Merger Agreement) that results in the holders of Class A Common Stock receiving a per share price in respect of their Class A Common Stock that is equal to or greater than the applicable Common Share Price required in connection with any Triggering Event (an “Acceleration Event”), then any such Triggering Event that has not previously occurred will be deemed to have occurred, and the Company must issue Earn-Out Shares accordingly.
If no Triggering Event or Acceleration Event is achieved within the Earn-Out Period, the Company will not be required to issue the Earn-out Shares. No Triggering Event or Acceleration Event was achieved during the three months ended March 29, 2020.
Any transactions related to Earn-Out Shares are recorded within the stockholder’s equity section of the Company’s condensed consolidated financial statements. Earn-Out Shares will be recognized as Stock Dividends and recorded at fair value as an increase in Accumulated Deficit (or reduction of Retained Earnings) and in increase in Common Stock and Additional Paid-in Capital when they are effectively declared by virtue of a Triggering Event being achieved.
12. Stock-Based Compensation
2016 Participation Plan
On May 23, 2016, the Company adopted the Pacific Architects and Engineers Incorporated 2016 Participation Plan (the “2016 Participation Plan”). The purpose of the 2016 Participation Plan was to provide incentive compensation to key employees by granting performance units (“Units”). The Units were valued on the date of grant by the Compensation Committee (the “Committee”). Participants in the Plan were entitled to receive compensation for their Units in the event a qualifying event occurs. In connection with the Business Combination, which was a qualifying event, the 2016 Participation Plan was terminated effective immediately prior to the Closing Date and, in exchange for a release of claims relating to the plan, plan participants received payments totaling approximately $17.4 million. The $17.4 million was paid out during the three months ended March 29, 2020, and was recorded as compensation expense.
2020 Incentive Plan
Prior to the closing of the Business Combination, the Gores III board of directors and stockholders approved the PAE Incorporated 2020 Equity Incentive Plan (the “2020 Incentive Plan”). The 2020 Incentive Plan provides for the grant of stock options, stock appreciation rights, restricted units and other stock or cash-based awards. There were no grants issued under the 2020 Incentive Plan during the three months ended March 29, 2020.
In connection with the Business Combination, the Company agreed to issue restricted stock units (RSUs) to employees representing the right to receive 1,581,960 shares of its Class A Common Stock (which was taken out of the proceeds at closing of the Business Combination of the Shay Stockholders). On April 14, 2020, subject to the effectiveness of a Form S-8 registration statement filed with the SEC on such date, the Company issued 1,581,960 RSUs to certain employees out of the shares approved for issuance under the 2020 Incentive Plan.
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These RSUs will cliff vest in a single installment on February 10, 2021, subject to the terms of the grant agreements and the 2020 Incentive Plan.
Also, on April 14, 2020, subject to the effectiveness of a Form S-8 registration statement filed with the SEC on such date, the Company issued 35,875 RSUs to its three independent directors in connection with their annual compensation as directors. Such RSUs will cliff vest in a single installment on February 9, 2021, subject to the terms of the grant agreements and the 2020 Incentive Plan.
On May 1, 2020, the Company issued 339,111 RSUs to certain employees out of the shares approved for issuance under the 2020 Incentive Plan. These RSUs cliff vest in a single installment on February 10, 2022, subject to the terms of the grant agreements and the 2020 Incentive Plan. Also, on May 1, 2020, the Company issued 220,202 RSUs to certain employees out of the shares approved for issuance under the 2020 Incentive Plan. These RSUs vest in equal annual installments over four years commencing February 10, 2021, subject to the terms of the grant agreements and the 2020 Incentive Plan. Also, on May 1, 2020, the Company issued 330,303 performance-based RSUs to certain employees out of the shares approved for issuance under the 2020 Incentive Plan. These performance-based RSUs earn out over a 3-year performance period, subject to the terms of the grant agreements and the 2020 Incentive Plan.
13. Net Loss Per Share
Basic net loss per common share is determined by dividing the net loss attributed to stockholders by the weighted average number of common shares outstanding during the periods presented. Diluted loss per share is determined by adjusting the weighted average number of shares of common stock and common stock equivalents outstanding for the dilutive effect of common stock equivalents for the periods presented.
The following table sets forth the computation of basic and diluted loss per share attributable to the Company’s common stockholders for the periods presented (in thousands, except shares and per share amounts): 
Three Months Ended
March 29,March 31,
20202019
Numerator:
Net loss attributed to PAE Incorporated$(4,943) $(5,719) 
Denominator:
Basic and diluted weighted average shares 59,807,549  21,127,823  
Basic and diluted loss per share $(0.08) $(0.27) 

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The Company has not included the effect of 19,999,985 shares of Common Stock issuable upon the exercise of Warrants in the calculation of diluted net loss per share for the three months ended March 29, 2020 and the three months ended March 31, 2019 because the inclusion of such shares would be antidilutive based on the net loss reported. Warrants are considered anti-dilutive and excluded when the exercise price exceeds the average market value of the Company’s common stock price during the applicable period.
The Company has not included the effect of 4,000,000 Earn-Out Shares in the calculation of basic and diluted net loss per share for the three months ended March 29, 2020. The condition for the issuance of these shares based on the volume of weighted average closing sale price of the Company’s Class A Common Stock had not been met as of March 29, 2020.
14. Leases
At March 29, 2020, the Company had ROU assets, net of $161.7 million and lease liabilities of $165.8 million recorded on the condensed consolidated balance sheet.
The Company rents certain facilities and equipment under operating leases. The Company’s total lease cost is recorded primarily within SG&A on the condensed consolidated statements of operations. Rents which are directly chargeable to a project are charged to cost of revenues. During the three months ended March 29, 2020 and March 31, 2019, the Company recognized operating lease costs of approximately $14.1 million and $17.5 million, respectively.
The Company’s future minimum operating lease payments for noncancelable operating leases were as follows (in thousands):
March 29, 2020
Remainder of 2020$29,884  
202141,558  
202236,223  
202332,332  
202427,657  
Thereafter51,613  
Total future minimum lease payments219,267  
Less imputed interest53,517  
Present value of minimum lease payments165,750  
Less current maturities of lease liabilities35,324  
Long-term lease liabilities$130,426  
The weighted-average remaining lease term and the weighted-average discount rate for the Company’s operating leases were approximately 7.63 years and 7.4%, respectively, at March 29, 2020.
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The Company made cash payments of approximately $12.0 million for operating leases for the three months ended March 29, 2020, which are included in cash flows from operating activities in the condensed consolidated statement of cash flows.
15. Legal Proceedings, Commitments, and Contingencies
The Company is a party to, or has property subject to, litigation and other proceedings. Management believes the probability is remote that the outcome of the matters will have a material adverse effect on its operations as a whole, notwithstanding that the unfavorable resolution of any matter may have a material effect on net earnings in a future period. The Company cannot predict the outcome of legal proceedings and loss or range of loss contingencies with certainty.
16. Segment Reporting
The Company's operations and reportable segments are organized around the nature of the products and services provided to customers. The Company defines its reportable segments based on the way the chief operating decision maker (“CODM”), currently its President and Chief Executive Officer, manages the operations of the Company for purposes of allocating resources and assessing performance.

The GMS operating segment provides support to the U.S. Government and its partners within and outside the United States providing sustainment, training and readiness support and advancing foreign policy objectives. The NSS operating segment provides a wide-ranging portfolio of offerings that support all facets of national security, including intelligence, homeland security and civil government missions.

While the CODM uses a variety of different measures to evaluate the Company’s segments, the primary measures used to evaluate segment performance are revenues and operating income. As a result, interest expense, net and provision for income taxes as recorded on the condensed consolidated statements of operations are not allocated to the Company’s operating segments.



















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The following table shows information by reportable segment for the periods presented (in thousands):
Three Months Ended
March 29,March 31,
20202019
Revenues
GMS$457,444  $504,480  
NSS159,809  169,004  
Corporate—  —  
Total revenues$617,253  $673,484  
Operating income
GMS$12,603  $25,792  
NSS4,367  (786) 
Corporate(9,513) (10,653) 
Total operating income$7,457  $14,353  
Amortization of intangible assets
GMS$4,115  $4,258  
NSS3,932  4,399  
Corporate—  —  
Total amortization of intangible assets$8,047  $8,657  

Under U.S. Government cost accounting standards, indirect costs including depreciation expense are collected in numerous indirect cost pools, which are then collectively allocated to the Company’s reportable segments based on a representative causal or beneficial relationship of the costs in the pool to the costs in the base. While depreciation expense is a component of the allocated costs, the allocation process precludes depreciation expense from being specifically identified by the Company’s individual reportable segments. For this reason, depreciation expense by reportable segment is not presented separately above.

Asset information by segment is not a key measure of performance used by the CODM and therefore segment assets are not presented.

Less than 10% of the Company’s revenues and tangible long-lived assets are generated by or owned by entities outside of the United States. Therefore, additional segment financial information by geographic location is not presented.
17. Related-Party Transactions
Tax Overpayment/Underpayment Amount

In connection with the Business Combination, the Shay Stockholders are entitled to the payment of the net cash savings, if any, in U.S. federal, state and local income tax that the post-closing
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company actually realizes (or is deemed to realize in certain circumstances) in periods after the Closing Date. The Company estimates the payment to the Shay Stockholders will be approximately $4.7 million. The liability for this estimated payment and the corresponding charge to equity of $4.7 million are reflected in the Company’s consolidated balance sheets as of March 29, 2020.

Advisory Services

During the three months ended March 29, 2020 and twelve months ended December 31, 2019, the Company recognized management fees, transaction and advisory fees, and expenses of approximately $15.0 million and $5.1 million, respectively. As a result of the Business Combination the $15.0 million was grouped with other similar transactional expenses and recorded as a reduction to the recapitalized equity. The December 31, 2019 amount of $5.1 million was recorded in selling, general and administrative expenses on the condensed consolidated balance sheets.

These expenses were for services rendered by one or more affiliates of Platinum Equity LLC.
18. Income Taxes
The Company’s provision for income tax benefit was as approximately $8.7 million, and its effective income tax rate was 64.6% for the three months ended March 29, 2020. The Company’s provision for income taxes was a benefit of approximately $3.1 million, and its effective income tax rate was 37.9% for the three months ended March 31, 2019.

The provision for income taxes for the period ended March 29, 2020 differed from the U.S. federal statutory rate computed by applying the U.S. federal statutory rate to income or loss before income taxes primarily due to the benefit of Foreign Derived Intangible Income (“FDII’), increased prior year interest expense deduction under the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), nontaxable income and settlement of foreign taxes. The provision for income taxes for the period ended March 31, 2019 differed from the U.S. federal statutory rate computed by applying the U.S. federal statutory rate to income or loss before income taxes primarily due to a disallowed interest deduction offset by a benefit from the foreign derived intangible income deduction and non-controlling interest deduction.

On March 27, 2020, President Trump signed into U.S. federal law the CARES Act, which is aimed at providing emergency assistance and health care for individuals, families, and businesses affected by the COVID-19 pandemic and generally supporting the U.S. economy. The CARES Act, among other things, includes provisions relating to refundable payroll tax credits, deferment of employer side social security payments, net operating loss carry-back periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property.

In particular, under the CARES Act, for taxable years beginning in 2019 and 2020, the base for interest deductibility is increased from 30% to 50% of EBITDA. As of March 29, 2020, the company estimated that the tax benefit on increased 2019 interest expense deduction related to CARES Act is approximately $3.6 million. We are in the process of analyzing the different aspects of the CARES Act to determine whether any other specific provisions may impact the Company.

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Under the CARES Act, a relief is available to us and other companies in 2020 relating to the deferral of the payment of the 6.2% employer share of Social Security tax. That also will be a significant source of additional liquidity this year. As we point out, we estimate this will benefit our cash flows this year by about $33.0 million. Half of this payroll tax funding deferral or about $16.5 million does not have to be repaid until December of 2021. The other half will not have to be repaid until December 2022.
19. Subsequent Events
On May 5, 2020, the Company entered into employment agreements with each of its named executive officers. Each of the employment agreements was approved by the Compensation Committee of the Company’s Board of Directors and has a two year initial term. Each term will automatically renew for a one-year term unless either party provides a notice of non-renewal 60 days prior to the end of the then current term. The employment agreements include terms for annual compensation, annual bonus and severance.

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

Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is designed to provide a reader of our financial statements with a narrative from the perspective of management on the Company’s financial condition, results of operations, liquidity and certain other factors that may affect future results. The following discussion of the Company’s financial condition and results of operations should be read in conjunction with the MD&A and the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019, which was filed with the Securities and Exchange Commission (the “SEC”) on March 11, 2020, the Company’s Current Report on Form 8-K/A filed with the SEC on March 11, 2020, the Form 424B3 prospectus filed with the SEC on April 23, 2020, and the unaudited condensed consolidated financial statements and related notes contained in this Quarterly Report on Form 10-Q. Unless otherwise noted, the MD&A compares the three-month period ended March 29, 2020 to the three-month period ended March 31, 2019.
This Quarterly Report on Form 10-Q of PAE contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended (the “Exchange Act’). These forward-looking statements include information concerning the Company’s plans, objectives, goals, strategies, future events, future revenues, performance, capital expenditures, financing needs and other information that is not historical information. Many of these statements appear, in particular, in the MD&A. When used in this Quarterly Report on Form 10-Q, the words “estimates,” “expects,” “anticipates,” “projects,” “plans,” “intends,” “believes,” “may,” “should,” “assumes,” “seeks,” and variations of such words or similar expressions, or the negatives thereof, are intended to identify forward-looking statements. All forward-looking statements, including, without limitation, those based on the Company’s examination of historical operating trends, are based upon the Company’s current expectations and various assumptions. The Company believes there is a reasonable basis for its expectations and assumptions, but there can be no assurance that the Company will realize its expectations or that the Company’s assumptions will prove correct.
There are a number of risks and uncertainties that could cause the Company’s actual results to differ materially from the forward-looking statements contained in this Quarterly Report. Important factors that could cause the Company’s actual results to differ materially from those expressed as forward-looking statements are set forth in the Company’s 2019 Annual Report on Form 10-K in Part I, Item 1A under the heading Risk Factors, the Company’s Current Report on Form 8-K/A filed on March 11, 2020 under the heading Risk Factors, and the Company’s Form 424B3 prospectus filed on April 23, 2020 under the heading Risk Factors. Such risks, uncertainties and other important factors include, among others, risks related to:
a loss of contracts with the U.S. federal government or its agencies or other state, local or foreign governments or agencies, including as a result of a reduction in government spending;
service failures or failures to properly manage projects;
issues that damage our professional reputation;
disruptions in or changes to prices of our supply chain, including from difficulties in the supplier qualification process;
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failures on the part of our subcontractors or joint venture partners to perform their contractual obligations;
failures to maintain strong relationships with other contractors;
the impact of a negative audit or other investigation;
failure to comply with numerous laws and regulations regarding procurement, anti-bribery and organizational conflicts of interest;
inability to comply with the laws and other security requirements governing access to classified information;
inability to share information from classified contracts with investors;
the impact of implementing various data privacy and cybersecurity laws;
costs and liabilities arising under various environmental laws and regulations;
various claims, litigation and other disputes that could be resolved against PAE;
delays, contract terminations or cancellations caused by competitors’ protests of major contract awards received by us;
risks from operating internationally;
disruptions caused by natural or environmental disasters, terrorist activities or other events outside our control;
the impact of public health crises, such as the coronavirus (COVID-19);
issues arising from cybersecurity threats or intellectual property infringement claims;
the loss of members of senior management;
the inability to attract, train or retain employees with the requisite skills, experience and security clearances;
the impact of the expiration of our collective bargaining agreements; and
other risks and uncertainties described in this Form 10-Q, including under the section entitled “Risk Factors,” and described in our other filings with the SEC.
There may be other factors that may cause the Company’s actual results to differ materially from those expressed in these forward-looking statements. Except as may be required by law, the Company undertakes no obligation to publicly update or revise forward-looking statements that may be made to reflect events or circumstances after the date made or to reflect the occurrence of unanticipated events.
Stockholders of the Company should read the following discussion and analysis of our financial condition and results of operations together with the condensed consolidated financial statements and related notes that are included elsewhere in this Quarterly Report on Form 10-Q.
This MD&A generally discusses 2020 and 2019 items and year-over-year comparisons between 2020 and 2019. As used in this MD&A, unless the context indicates otherwise, the financial information relating to the quarter ended March 31, 2019 are those of Shay Holdings and its subsidiaries, and the financial information and data for the quarter ended March 29, 2020 includes the financial information and data of Shay Holdings and its subsidiaries for the period prior to the Closing and the financial information and data of PAE Incorporated for the period subsequent to the Closing. See “Note 1 – Description of Business” and “Note 6 – Business Combinations and Acquisitions” for additional information.
We are subject to the informational requirements of the Exchange Act, and we file or furnish reports, proxy statements and other information with the SEC. Such reports and other information we file with the SEC are available free of charge at https://investors.pae.com/financials-and-filings/sec-filings as soon as practicable after such reports are available on the
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SEC’s website at www.sec.gov. The SEC’s website contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. We periodically provide other information for investors on our corporate website, www.pae.com, and our investor relations website, https://investors.pae.com. This includes press releases and other information about financial performance, information on corporate governance and details related to our annual meeting of stockholders. We intend to use our website as a means of disclosing material non-public information and for complying with our disclosure obligations under Regulation FD. Accordingly, investors should monitor our website, in addition to following the Company's press releases, SEC filings and public conference calls and webcasts. The information contained on the websites referenced in this Quarterly Report on Form 10-Q is not incorporated by reference into this filing. Further, our references to website URLs are intended to be inactive textual references only.
Business Overview 
PAE is a leading, highly diversified, global company that provides a broad range of operational solutions and outsourced services to meet the critical, enduring needs of the U.S. government, other allied governments, international organizations and companies. PAE merges technology with advanced business practices to deliver faster, smarter and more efficient managed services. Whether clients require high-profile support to operate the largest U.S. embassies around the world or need technical solutions for programs that monitor bioterrorism agents, PAE delivers for its customers. PAE leverages its scale, 65 years of experience and talented global workforce of approximately 20,000 to provide the essential services PAE’s clients need to tackle some of the world’s toughest challenges.
Basis of Presentation
PAE provides integrated support solutions, including defense and military readiness, diplomacy, peacekeeping, development, host nation capacity building, aircraft and ground equipment maintenance and logistics, and operations and maintenance of facilities and infrastructure. Customers include agencies of the U.S. Government, such as the Department of Defense (“DoD”) and Department of State (“DoS”), allied foreign governments, and international organizations such as the United Nations.
PAE’s operations are organized into two reportable segments, Global Mission Services (“GMS”) and National Security Solutions (“NSS”).
The GMS segment generates revenues through contracts under which PAE provides customers with logistics and stability operations, force readiness and infrastructure management.
The NSS segment generates revenues through contracts under which PAE provides customers with counter-threat solutions, intelligence solutions and information optimization.
Segment performance is based on consolidated revenues and consolidated operating income. For additional information regarding PAE’s reportable segments, refer to "Note 16 - Segment Reporting” of the notes to PAE’s condensed consolidated financial statements.

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Factors Affecting PAE’s Operating Results
Business Combinations and Acquisitions
Business Combination

Merger Consideration
As described in “Note 1 - Description of the Business” and “Note 6 - Business Combinations and Acquisitions” of the notes to the condensed consolidated financial statements, the Company completed the Business Combination on February 10, 2020. Pursuant to the terms of the Merger Agreement, the aggregate merger consideration paid for the Business Combination was approximately $1,427.0 million. The consideration paid to the Shay Stockholders consisted of a combination of cash and stock consideration. The aggregate cash consideration paid to the Shay Stockholders at the Closing was approximately $424.2 million, consisting of (a) approximately $408.0 million of cash available to Gores III from its trust account, after giving effect to income and franchise taxes payable in respect of interest income earned in the trust account and redemptions that were elected by Gores III’s public stockholders, plus (b) all of Gores III’s other cash and cash equivalents, plus (c) gross proceeds of approximately $220.0 million from a private placement offering conducted by Gores III in which investors purchased an aggregate of 23,913,044 shares of Class A Common Stock for $9.20 per share, less (d) certain transaction fees and expenses, including the payment of deferred underwriting commissions agreed to at the time of Gores III’s initial public offering, less (e) certain payments to participants in the 2016 Participation Plan, less (f) approximately $136.5 million used to repay a portion of the indebtedness of Shay immediately prior to the Closing, less (g) approximately $33.8 million of transaction fees and expenses of Shay. The remainder of the consideration paid to the Shay Stockholders consisted of 21,127,823 newly issued shares of Class A Common Stock.
In addition to the foregoing consideration paid on the Closing Date, Shay Stockholders will be entitled to receive additional Earn-Out Shares of up to an aggregate of four million shares of Class A Common Stock, if the price of Class A Common Stock trading on the Nasdaq exceeds certain thresholds during the five-year period following the completion of the Business Combination or if there is an Acceleration Event. See “Note 11 - Stockholders’ Equity - Earn-Out Agreement” of the notes to the condensed consolidated financial statements for additional information.
Incentive Plan
For a discussion on the 2020 Incentive Plan refer to ”Note 12 - Stock-Based Compensation” of the notes to the condensed consolidated financial statements.

Debt
In connection with the Business Combination, Shay was required to amend its existing credit facilities and reduce its outstanding indebtedness under its credit facilities such that the total indebtedness under the facilities, minus cash on hand at the consummation of the transaction would not be greater than $572.1 million. Immediately after the closing of the transaction the outstanding balance on the Second Term Loan was reduced by approximately $136.5 million to a principal balance of $128.8 million.
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Financial and Other Highlights
From December 31, 2019 to March 29, 2020, PAE’s overall contract backlog grew by 1.0% from $6,351.8 million to $6,388.3 million, of which $1,163.7 million was funded. Backlog is an operational measure representing PAE’s estimate of the amount of revenue that it expects to realize over the remaining life of awarded contracts and task orders; the funded backlog refers to the value on contracts for which funding is appropriated less revenues previously recognized on these contracts. Unfunded backlog represents the estimated future revenues to be earned from negotiated contracts for which funding has not been appropriated or authorized, and unexercised priced contract options. The total backlog consists of remaining performance obligations plus unexercised options. PAE believes backlog is a useful metric for investors because it is an important measure of business development performance and revenue growth. This metric is used by management to conduct and evaluate its business during its regular review of operating results for the periods presented. See "Note 4 - Revenues" of the notes to the condensed consolidated financial statements for more information.
The estimated value of PAE’s total backlog was as follows (in thousands):
As ofAs of
March 29,December 31,
20202019
Global Mission Services:
Funded GMS backlog$904,871  $1,173,196  
Unfunded GMS backlog3,850,641  3,393,081  
Total GMS backlog$4,755,512  $4,566,277  
National Security Solutions:
Funded NSS backlog$258,828  $311,214  
Unfunded NSS backlog1,373,985  1,474,309  
Total NSS backlog$1,632,813  $1,785,523  
Total:
Funded backlog$1,163,699  $1,484,410  
Unfunded backlog5,224,626  4,867,390  
Total backlog$6,388,325  $6,351,800  
As of March 29, 2020, PAE had a contract base of more than 400 active contracts and task orders. PAE served as the prime contractor on approximately 96% of its contracts. The DoD and DoS are PAE’s largest customers and accounted for 36.8% and 19.5% of its revenue during the three months ended March 29, 2020, respectively. International Logistics and Stabilization, Infrastructure and Logistics, Readiness and Sustainment, and Business Process Solutions were PAE’s largest contributors by service area, representing 32%, 28%, 14%, and 14% of its revenue, respectively. PAE’s long-tenured contracts have created a recurring base business with its top revenue-generating contracts having a weighted average contract length of greater than 7 years, as of March 29, 2020. We believe that revenue from these long-running contracts will continued to be secure as PAE’s contracts are predominately funded from stable portions of the DoD budget with little dependence on wartime or emergency overseas contingency operations funding.
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Trends and Factors Affecting PAE’s Future Performance
External Factors
Because PAE’s business primarily focuses on providing services to the U.S. Government and allied nations and organizations, PAE’s performance is inherently linked to governmental missions and goals. We have concentrated our business efforts on those missions and goals that are enduring and that have limited exposure to abrupt policy changes. For example, PAE has supported U.S. embassies since the 1970s. We are also trusted by our customers to support them on major policy initiatives that require immediate response to solve an acute crisis. Examples of this work include our rapid establishment and operation of Ebola treatment units in Liberia in 2015 and our work this year on behalf of the state of Georgia in converting a convention center to a COVID-19 treatment center in less than one week.
Over most of the last two decades, the U.S. Government has increased its reliance on the private sector for a wide range of professional and support services. This increased use of outsourcing by the U.S. Government has been driven by a variety of factors, including lean-government initiatives launched in the 1990s, surges in demand during times of national crisis, the increased complexity of missions conducted by the U.S. military and the DoS, increased focus of the U.S. military on war-fighting efforts and loss of skills within the government caused by workforce reductions and retirements.
Although the size of future U.S. Government department and agency budgets remains subject to change, current indications are that overall U.S. Government spending will remain consistent with current spending levels. PAE believes the following industry trends will result in continued strong demand in the target markets for the types of services it provides:
the continued transformation of military forces, leading to increased outsourcing of non-combat functions, including life-cycle asset management functions ranging from organizational to depot level maintenance;
an increased level of coordination between the DoS and DoD on key national security initiatives and foreign policies;
increased maintenance, overhaul and upgrade needs to support aging military platforms; and
the on-going evolution of international relations that may require enhanced or new policy initiatives.
Current Economic Conditions
PAE believes that its industry and customer base are less likely to be affected by many of the factors generally affecting business and consumer spending. PAE’s contract awards typically extend to five years, including options, and it has a strong history of being awarded a majority of these contract options. Additionally, since PAE’s primary customers are departments and agencies within the U.S. Government, it has not historically had significant issues collecting its receivables. However, PAE cannot be certain that the economic environment, government debt levels, or other factors will not adversely impact its business, financial condition or results of operations in the future. The government has taken several financial precautions and measures
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to combat the current financial market conditions. The Company cannot ascertain the impact that these economic conditions may have on its business.
Impact of COVID-19
We continue to work with our stakeholders (including customers, employees, suppliers and local communities) to address this global pandemic. Specifically, we are working closely with our customers, including those within the U.S. Government, to permit continued contract performance and to mitigate the impact of the current COVID-19 pandemic on our operations and personnel. We continue to review our contractual provisions, hold discussions with customers regarding the pandemic’s potential impact on contract operations, and take actions to reduce the impact of COVID-19 on our business, workforce, supply chain, revenues, and results of operations. We are continuing to monitor the impact of the pandemic and other related uncertainties on financial markets, which has caused us to delay undertaking certain actions in support of our strategic plans. In response to COVID-19, we have taken a number of steps to ensure the protection of employees and customers, as well as to mitigate any operational and financials impacts. In particular, we are:
Implementing enhanced safety protocols, including at customer sites, in order to protect our employees and customers and to maintain continuity of operations;
Monitoring on a daily basis the COVID-19 status of employees and independent contractors;
Reviewing on a daily basis the impact of COVID-19 on programs, facilities and contracts with customers;
Reducing overhead costs by among other things delaying planned hiring and by cancelling travel that is not directly related to program requirements;
Developing contingency and business continuity plans in case COVID-19 disruptions increase or key personnel become incapacitated;
Identifying new business opportunities related to COVID-19, including expanded service offerings for existing customers;
Entering into contract modifications and advance agreements where applicable to permit recovery of costs relating to COVID-19; and
Engaging in frequent and ongoing dialogue and contract negotiations with customers to either:
Permit PAE employees to continue to work safely (including remotely); or,
Permit PAE to be reimbursed the costs of paid leave for employees who are unable to work (as provided by Section 3610 of the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”).
Due to the nature of our business, and although our operations have been disrupted by the COVID-19 pandemic, the impact has not been material to date. In particular, our U.S. Government customers have taken steps to ensure the continuance of many of the services provided by us and other contractors, including, but not limited to, designating certain PAE contracts as essential for continued performance and authorizing remote work for contractor personnel that cannot access worksites. In addition, the impact may be further mitigated by the CARES Act, which allows U.S. government agencies to reimburse contractors such as us for paid leave for employees who cannot access work sites or telework. However, some U.S. Government customers have suspended or reduced work under certain of our contracts.
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Although COVID-19 has had an adverse effect on our results of operations for the first quarter of 2020, we do not currently expect that such impact will be material to our full year results based on information known to us at this time. Since our primary customers are departments and agencies within the U.S. Government, we have not historically had significant issues collecting our receivables and do not foresee issues collecting our receivables in the foreseeable future. In addition, our contract awards typically extend to at least five years, including options, and we have a strong history of being awarded a majority of these contract options; we do not anticipate that the pandemic will have a materially adverse impact on such awards.
Our liquidity position has not been materially impacted, and we continue to believe that we have adequate liquidity to fund our operations and meet our debt service obligations for the foreseeable future. However, we cannot predict the impact of the COVID-19 pandemic, and the longer the duration of the event and the more widespread in geographic locations where we and our suppliers operate, the more likely it is that it could have an adverse impact on our financial condition, results of operations, and/or cash flows in the future.
Inflation and Pricing
Most of PAE’s contracts provide for estimates of future labor costs to be escalated for any option periods, while the non-labor costs in its contracts are normally considered reimbursable at cost. PAE’s property and equipment consists principally of computer systems equipment, machinery and transportation equipment, leasehold improvements, and furniture and fixtures. PAE does not expect the overall impact of inflation on replacement costs of its property and equipment to be material to its future results of operations or financial condition.
Primary Components of Operating Results
Revenues
The majority of PAE’s revenues are generated from contracts with the U.S. Government and its agencies. PAE enters into a variety of contract types, including fixed price, cost reimbursable, and time and materials contracts.
Cost of revenues
Cost of revenues includes costs related to labor, material, subcontract labor and other costs that are allowable and allocable to contracts under federal procurement standards.
Selling, general and administrative expenses
Selling, general and administrative expenses primarily consist of (i) fringe benefits related to the contract costs; (ii) salaries and wages plus associated fringe benefits and occupancy costs related to executive and senior management, business development, bid and proposal, contracts administration, finance and accounting, human resources, recruiting, information systems support, legal and corporate governance; and (iii) unallowable costs under applicable procurement standards that are not allocable to contracts for billing purposes. Unallowable costs do not generate revenue but are necessary for business operations.

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Results of Operations
Comparison of Results for the Three Months Ended March 29, 2020 (unaudited) and March 31, 2019 (unaudited) (in thousands):
Three Months EndedPercent
March 29,March 31,DollarChange
20202019Change %
Revenues$617,253  $673,484  $(56,231) (8.3) 
Cost of revenues465,208  517,159  (51,951) (10.0) 
Selling, general and administrative expenses137,326  135,035  2,291  1.7  
Amortization of intangible assets8,047  8,657  (610) (7.0) 
Total operating expenses610,581  660,851  (50,270) (7.6) 
Program (loss) profit6,672  12,633  (5,961) (47.2) 
Other income, net785  1,720  (935) (54.4) 
Operating income7,457  14,353  (6,896) (48.0) 
Interest expense, net