Acquisitions

On January 26, 2016, Leidos announced that it had entered into a definitive agreement (as amended, the "Merger Agreement") with Lockheed Martin Corporation ("Lockheed Martin"); Abacus Innovations Corporation, a Delaware corporation and a wholly owned subsidiary of Lockheed Martin ("Splitco"); and Lion Merger Co., a Delaware corporation and, at the time of announcement, a wholly owned subsidiary of Leidos ("Merger Sub"), pursuant to which Leidos would combine with Lockheed Martin’s realigned Information Systems & Global Solutions business in a Reverse Morris Trust transaction. In connection with the Merger Agreement, Lockheed Martin and Splitco entered into a Separation Agreement dated January 26, 2016 (as amended, the "Separation Agreement"), pursuant to which Lockheed Martin would separate the IS&GS Business from Lockheed Martin and transfer the IS&GS Business to Splitco. The transactions contemplated by the Merger Agreement and the Separation Agreement are referred to herein as the “Transactions.”

On August 16, 2016, the acquisition date, the Company completed the Transactions. In the Transactions, among other steps, (i) Lockheed Martin transferred the IS&GS Business to Splitco; (ii) Lockheed Martin offered to Lockheed Martin stockholders the right to exchange all or a portion of their shares of Lockheed Martin common stock for shares of Splitco common stock by way of an exchange offer (the "Distribution"); and (iii) Merger Sub merged with and into Splitco, with Splitco as the surviving corporation (the "Merger") and a wholly owned subsidiary of Leidos. Additionally, on the closing date of the Transactions, Splitco's name was changed to Leidos Innovations Corporation. Upon consummation of the Transactions, those Lockheed Martin stockholders who elected to participate in the exchange offer received approximately 77 million shares of Leidos common stock, which represent approximately 50.5% of the outstanding shares of Leidos common stock after consummation of the Transactions. Holders of Leidos shares prior to the transaction held the remaining 49.5% of the outstanding shares of Leidos common stock immediately after the closing.

Prior to the Distribution, Splitco incurred third-party debt financing in an aggregate principal amount of $1.8 billion and immediately thereafter, Lockheed Martin transferred the IS&GS Business to Splitco and Splitco made a special cash payment to Lockheed Martin of $1.8 billion.

In connection with the Transactions, Leidos incurred new indebtedness and assumed Splitco's indebtedness in the form of term loans in an aggregate principal amount of $690 million and $1.8 billion, respectively, and entered into a new $750 million senior secured revolving credit facility, which replaced its existing revolving credit facility. See "Note 9–Debt" for further information regarding the new debt incurred and the new senior revolving credit facility.

In conjunction with the Transactions, Leidos' Board of Directors declared a special dividend of $13.64 per share of Leidos common stock. On August 22, 2016, the Company paid $993 million to stockholders of record as of August 15, 2016. As a result of the special dividend declaration, the Company accrued $29 million of dividend equivalents with respect to outstanding equity awards. See "Note 12–Stock Based Compensation" for further information regarding the modifications made to the Company's outstanding stock awards as a result of the special dividend.

In connection with the Transactions, membership on the Leidos Board of Directors was increased to 12 directors, in which three directors designated by Lockheed Martin were appointed to the board. A majority of the senior management of Leidos immediately prior the consummation of the Transactions remained Leidos executive officers immediately after the Transactions. Leidos management determined that Leidos is the accounting acquirer in the Transactions based on the facts and circumstances noted within this section and other relevant factors.

The acquisition adds large, complex IT system implementation and operation experience and additional federal and international IT solutions and services work to the Leidos portfolio, providing more venues to sell value added services such as cybersecurity and analytics. As a result, the Company is more diversified in markets it serves and provides the Company the scale and access to markets intended to further growth.

In connection with the Transactions, certain additional agreements were entered into, including, among others an employee matters agreement, a tax matters agreement, transition services agreements, an intellectual property matters agreement, agreements relating to certain government contracts matters, supply agreements and certain real estate related agreements.

The preliminary purchase consideration for the acquisition of the IS&GS Business was as follows (in millions):



Value of common stock issued to Lockheed Martin stockholders⁽¹⁾	$	2,929
Equity consideration for replacement awards⁽²⁾	9
Preliminary working capital adjustments	22
Preliminary purchase price	$	2,960

⁽¹⁾ Represents approximately 77 million new shares of Leidos common stock issued to those Lockheed Martin stockholders who elected to participate in the exchange offer, based on the Company's August 16, 2016, closing share price of $51.69, less the Leidos special cash dividend amount of $13.64, which the Lockheed Martin stockholders were not entitled to receive.

⁽²⁾ The fair value of replacement equity-based awards attributable to pre-Merger service was recorded as part of the consideration transferred in the Merger (see "Note 12–Stock Based Compensation").

The preliminary fair values of the assets acquired and liabilities assumed at the date of the Transactions were as follows (in millions):



Cash	$	25
Receivables, net	974
Inventory, prepaid expenses and other current assets	58
Property, plant and equipment	96
Deferred income taxes	35
Intangible assets	1,650
Other assets	24
Accounts payable and accrued liabilities	(699		)
Accrued payroll and employee benefits	(189		)
Deferred tax liabilities	(847		)
Long-term debt	(1,803		)
Other long-term liabilities	(18		)
Total identifiable net liabilities assumed	(694		)
Non-controlling interest	(13		)
Goodwill	3,667
Preliminary purchase price	$	2,960

Due to the recent completion and complexity of the Transactions, the Company recorded the assets acquired and liabilities assumed at their preliminary estimated fair values. As of September 30, 2016, the Company had not finalized the determination of fair values allocated to various assets and liabilities, including, but not limited to, receivables, net; property, plant and equipment; deferred income taxes; deferred revenue; intangible assets; accounts payable and accrued liabilities; loss contracts; non-controlling interest; and the residual amount allocated to goodwill. The preliminary purchase price allocation is subject to change as the Company completes its analysis of the fair value at the date of the Transactions.

The goodwill is attributable to the new reportable IS&GS segment. The goodwill represents intellectual capital and the acquired assembled work force, none of which qualify for recognition as a separate intangible asset. The preliminary goodwill presented above includes $348 million of tax deductible goodwill.

The Company identified $1.7 billion of intangible assets, representing programs and contract intangibles and backlog. The following table summarizes the preliminary fair value of intangible assets acquired at the date of acquisition and the related weighted average useful lives:

The Company incurred the following expenses related to the acquisition and integration of the IS&GS Business:



	Three Months Ended		Nine Months Ended
	September 30, 2016		September 30, 2016
	(in millions)
Acquisition costs	$	27	$	40
Integration costs	17		28
Total acquisition and integration costs	$	44	$	68

Pro Forma Financial Information

The following unaudited pro forma financial information presents consolidated results of operations as if the acquisition had occurred on January 3, 2015. The pro forma financial information was prepared based on historical financial information and has been adjusted to give effect to the events that are directly attributable to the Transactions and factually supportable. The unaudited pro forma results below do not reflect future events that have occurred or may occur after the Transactions, including anticipated synergies or other expected benefits that may be realized from the Transactions. The pro forma financial information is not intended to reflect the actual results of operations that would have occurred if the acquisition had been completed on January 3, 2015, nor is it intended to be an indication of future operating results.



	Three Months Ended				Nine Months Ended
	September 30, 2016		October 2, 2015		September 30, 2016		October 2, 2015
	(in millions, except per share data)
Revenues	$	2,607	$	2,703	$	7,868	$	7,994
Income from continuing operations	132		64		291		177
Income from continuing operations attributable to Leidos Holdings, Inc.	131		63		286		173
Earnings per share:
Basic	$	0.87	$	0.42	$	1.91	$	1.15
Diluted	0.86		0.42		1.89		1.15

The unaudited pro forma financial information above includes the following nonrecurring significant adjustment made to account for certain costs incurred as if the Transactions had been completed on January 3, 2015:


•	Acquisition-related costs of $27 million and $40 million for the quarter and nine months ended September 30, 2016, respectively, were excluded within the pro forma financial information for fiscal 2016 and were included within the supplemental pro forma earnings for the nine months ended October 2, 2015.

Weighted average amortization period

Fair value

(in years)

(in millions)

Programs and contract intangibles