Mercury Systems, Inc. — FY2023 Form 10-K
Reporting period: Fiscal year ended June 30, 2023 (52 weeks). Mercury supplies processing, signal, display, networking, storage and secure-computing products and subsystems for aerospace and defense programs. Results are consolidated; the filing does not present a separate Q4 summary. Fiscal 2023 includes full-year results from Avalex and Atlanta Micro, while fiscal 2022 included them only from their acquisition dates, limiting comparability.
Key financial metrics
| Metric | FY2023 | FY2022 | Change |
|---|---|---|---|
| Revenue | $973.9 million | $988.2 million | Down 1.4% |
| Gross margin | $316.7 million; 32.5% | $395.0 million; 40.0% | Down 750 basis points |
| Operating income (loss) | $(21.7) million | $31.6 million | Turned to loss |
| Net income (loss) | $(28.3) million | $11.3 million | Turned to loss |
| Diluted EPS | $(0.50) | $0.20 | Turned to loss |
| Adjusted EBITDA (non-GAAP) | $132.3 million | $200.5 million | Down about 34% |
| Adjusted EPS (non-GAAP) | $1.00 | $2.19 | Down about 54% |
| Operating cash flow | $(21.3) million | $(18.9) million | Higher cash use |
| Free cash flow (non-GAAP) | $(60.1) million | $(46.5) million | Higher cash use |
Cash and cash equivalents were $71.6 million at year-end. Revolver borrowings were $511.5 million, up from $451.5 million; approximately $865 million of borrowing capacity was available under the $1.1 billion facility, which matures in February 2027. Interest expense rose to $25.2 million from $5.8 million. A swap fixed the rate on $300 million of borrowings at 3.79%. The company reported compliance with credit-facility covenants.
Current assets were $937.0 million and current liabilities $233.3 million. Inventory rose to $337.2 million from $270.3 million, while unbilled receivables and costs in excess of billings rose to $382.6 million from $303.4 million. Goodwill was $938.1 million and intangible assets $298.1 million. Backlog was $1.14 billion, of which $716.4 million was expected to convert to revenue within 12 months; customers may cancel or reschedule orders. Remaining performance obligations were $551.0 million, with approximately 62% expected to be recognized within 12 months.
Material changes versus FY2022
- Organic revenue declined $33.3 million, partly offset by $19.0 million of acquired revenue. Integrated subsystem revenue fell $77.2 million, while modules and subassemblies and components increased $33.0 million and $29.8 million, respectively.
- Management attributed weaker results chiefly to execution challenges and cost growth across approximately 20 programs, mostly development programs. These delays affected revenue recognition and contributed approximately $56 million of gross-margin impact. Development-heavy mix also weighed on margins.
- Cash used in operations remained substantial. Management cited inventory purchases, supplier and delivery timing, payments for interest and taxes, and working-capital movements. Capital expenditures were $38.8 million.
- Higher revolver borrowings and interest rates increased financing costs. Fiscal 2023 also included a $26.4 million cash tax outflow associated with the requirement to capitalize and amortize research and development costs for tax purposes.
Outlook, management commentary and risks
- No specific FY2024 revenue, earnings or EPS guidance is provided. Management said it expects a return to above-industry-average growth and believes available cash, operating cash flow, revolver capacity and financing options will meet anticipated needs for at least 12 months.
- Management identified predictable execution, organic growth, margin expansion and cash release as priorities. Cost actions approved after year-end were expected to eliminate approximately 150 positions, incur about $9 million of restructuring charges, and generate $20–$22 million of net savings in FY2024 and approximately $24 million annualized.
- The Board ended its strategic-alternatives review in June 2023 after proposals did not meet its view of Mercury’s intrinsic value. Leadership changed: the former CEO resigned effective June 24, 2023; William Ballhaus was appointed CEO effective August 15, 2023, and David Farnsworth joined as CFO in July 2023.
- Key operating risks include federal appropriations and program delays, fixed-price contract cost overruns, semiconductor and other supplier constraints, inflation, late deliveries, customer concentration and dependence on defense programs. RTX, Lockheed Martin and Northrop Grumman represented 14%, 13% and 11% of FY2023 revenue, respectively.
- Liquidity and leverage warrant monitoring given negative free cash flow, variable-rate debt and substantial working capital tied up in inventory and unbilled receivables. A $127.1 million inventory and services purchase commitment was due within one year.
- Contingencies include a former CEO’s disputed change-in-control claim, with a stated possible exposure of $0–$12.9 million plus legal costs, and an unresolved environmental matter for which responsibility and exposure were unclear. The company said ordinary-course legal matters were not expected to have a material financial impact.
- The company reported no goodwill impairment in its FY2023 annual test. The auditor issued an unqualified opinion on the financial statements and internal controls; the critical audit matter concerned estimates of total costs on certain fixed-price contracts recognized over time.
Important facts for investors to verify
- Whether the challenged development programs meet revised schedules and transition to production, and whether margins recover.
- Whether inventory, unbilled receivables and operating cash flow improve, and whether planned cost savings are realized without impairing execution or growth.
- Debt levels, interest expense, covenant headroom and the company’s ability to generate cash to service borrowings.
- Backlog quality and conversion, including the timing and funding of orders and any cancellations or delays.
- Resolution and financial impact of the former CEO dispute and environmental matter, plus the effects of leadership changes.
- Non-GAAP results should be assessed alongside GAAP results: adjusted EBITDA and adjusted EPS exclude recurring categories of costs, and the filing cautions that these measures may not be comparable with similarly titled measures at other companies.