Mercury Systems, Inc. — Q3 FY2020 Form 10-Q
Reporting period: Third quarter and nine months ended March 27, 2020. The quarter covered 13 weeks; the nine-month period covered 39 weeks. Unless noted otherwise, amounts below are in U.S. dollars and millions. Prior-period comparisons are affected by acquisitions and are not fully like-for-like.
Business context and results
Mercury develops and manufactures mission-critical technology for aerospace and defense, including secure processing, radar, electronic warfare and integrated subsystems. It reported one operating segment. The quarter included results from GECO, Athena, Syntonic and APC; the nine-month period also included Germane.
| Metric | Q3 FY2020 | Q3 FY2019 | Nine months FY2020 | Nine months FY2019 |
|---|---|---|---|---|
| Revenue | $208.0 | $174.6 | $579.2 | $477.8 |
| Gross margin | 44.9% | 42.3% | 44.9% | 43.2% |
| Operating income | $26.3 | $22.1 | $64.6 | $55.7 |
| Net income | $23.6 | $14.1 | $58.5 | $34.0 |
| Diluted EPS | $0.43 | $0.29 | $1.06 | $0.71 |
| Adjusted EBITDA (non-GAAP) | $47.1 | $38.8 | $126.6 | $107.4 |
| Adjusted EPS (non-GAAP) | $0.60 | $0.49 | $1.58 | $1.36 |
Cash flow, debt and liquidity
- Nine-month operating cash flow was $86.5, versus $71.5 a year earlier. Capital expenditures were $31.8, producing reported non-GAAP free cash flow of $54.7, versus $53.7.
- Cash and cash equivalents were $407.1 at March 27, 2020, up from $257.9 at June 30, 2019. The company reported $200.0 of revolving-credit borrowings against a $750.0 facility, which matures in September 2023; letters of credit were $0.9. It reported compliance with all covenants.
- Current assets were $795.4 and current liabilities $122.0. Total assets were $1,771.6; total liabilities were $422.2. Long-term debt was $200.0.
- Investing activities used $124.0, including $96.5 for APC and $31.8 of capital expenditures. Financing activities provided $186.7, primarily from the $200.0 revolver draw.
Material changes and management commentary
- Q3 revenue rose 19.1%; management attributed $19.3 of growth to organic revenue and $14.1 to acquired revenue. Nine-month revenue increased 21.2%, comprising $60.8 of organic growth and $40.7 of acquired revenue.
- Management cited stronger demand for integrated subsystems and modules, particularly across radar and electronic-warfare applications. Q3 growth included classified radar, P8 and Aegis programs; nine-month growth included P8, AIDEWS and Filthy Badger. Certain missile, WIN-T and F-35 programs partly offset growth.
- Gross margin improved, which management attributed mainly to program mix and operational efficiencies. R&D expense increased to $25.0 in Q3 and $71.5 for nine months, reflecting increased investment and headcount; as a share of revenue it rose to 12.0% and 12.3%, respectively.
- Q3 other income included a $3.8 gain on sale of an investment; management said foreign-currency losses partly offset the gain. Nine-month tax provision was $8.5 versus $13.0, including discrete tax benefits, notably $6.6 from excess stock-compensation tax benefits.
Outlook, risks and unusual items
- No formal revenue or earnings guidance is stated in the provided filing text. Remaining performance obligations were $262.4; the company expected to recognize approximately 60% as revenue over the next 12 months. This measure excludes certain short-duration and cancellable contracts.
- Management said cash, operating cash generation, available revolver capacity and financing options should cover anticipated requirements for at least 12 months. It drew $200.0 on the revolver during the quarter to provide flexibility amid COVID-19 uncertainty. The company expected the CARES Act to provide a cash benefit, but was still evaluating the impact.
- Mercury continued operating as an essential defense-industry business, with work-from-home measures where feasible and facility safety protocols. It established a $1.0 employee relief fund and COVID-related leave measures. The filing cautions that pandemic effects remain uncertain and could disrupt staffing, supply chains, customer activity, costs, capital access and defense spending.
- Other identified risks include defense-program funding and timing, customer order variability, component shortages, fixed-price contract costs, acquisition integration and synergies, competition, cyber risks, and export-control or procurement changes.
- Purchase commitments totaled $110.2, all due within one year; operating lease payments totaled $94.6. The filing said pending legal matters were not expected to materially affect financial position, results or cash flows. It reported no goodwill impairment trigger during the nine-month period.
Important facts for investors to verify
- Whether organic growth and improved margins persist after separating acquisition contributions, program mix and customer delivery timing.
- How COVID-19 affects production, supply chains, customer payments and defense-program funding, and whether management’s 12-month liquidity assessment remains appropriate.
- Conversion and timing of the $262.4 remaining performance obligations, including the assumptions behind the expected 60% recognition within 12 months.
- Cash generation after acquisition spending and facility investment, and the cost and use of the $200.0 revolver borrowing.
- Reconciliation of non-GAAP adjusted EBITDA, adjusted EPS and free cash flow to GAAP results; these measures exclude items that the company says may recur.