Business context and reporting period
Mercury Computer Systems, Inc. (now identified in the filing as Mercury Systems, Inc.) filed this Form 10-Q for its first quarter of fiscal 2013, the three months ended September 30, 2012. The company supplies embedded computing, sensor-processing, RF/microwave, software, and services for defense, intelligence, and commercial markets. Results include Micronetics from its August 8, 2012 acquisition.
Financial performance and liquidity
Amounts are in millions of dollars except per-share data and percentages.
| Metric | Quarter ended September 30, 2012 | Prior-year quarter |
|---|---|---|
| Revenue | $49.4 | $49.1 |
| Gross margin | $20.4; 41.3% | $29.9; 60.9% |
| Operating income (loss) | $(11.2) | $3.6 |
| Net income (loss) | $(7.2); $(0.24) per diluted share | $2.7; $0.09 per diluted share |
| Adjusted EBITDA | $1.6 | $8.7 |
| Operating cash flow | $(9.9) | $4.2 |
| Free cash flow | $(10.9) | $2.6 |
At September 30, cash and cash equivalents were $30.6 million, down from $116.0 million at June 30. Current assets were $143.3 million and current liabilities $36.5 million. The cash reduction primarily reflected $67.7 million paid, net of acquired cash, for Micronetics, $6.6 million to repay Micronetics debt, and cash used in operations. The company reported no borrowings under its existing $35 million revolving facility at quarter-end; it was terminated October 12. The filing reports no debt balance at September 30 after repayment of the acquired debt.
Material changes versus the prior comparable period
- Revenue was nearly flat overall, but ACS revenue declined $7.6 million, or 17%, while MFS revenue increased $5.7 million, or 138%. Management attributed the ACS decline primarily to lower defense sales and reduced funding; excluding acquired businesses, defense revenue was down $17.7 million.
- Gross margin fell 19.6 percentage points to 41.3%, reflecting a less favorable program mix, lower revenue in higher-margin core ACS digital computing, and acquisitions with lower gross margins.
- The company recorded $5.0 million of restructuring expense and $1.8 million of acquired-intangible amortization, versus no restructuring charge and $0.8 million amortization in the prior-year quarter.
- Micronetics contributed $4.9 million of revenue and a $1.6 million net loss in the quarter. The preliminary acquisition accounting included $45.8 million of goodwill and $18.5 million of identifiable intangible assets; fair-value estimates remained subject to adjustment.
Outlook, commentary, risks, and unusual items
- Management said existing cash, available credit, expected operating cash generation, and financing capacity should cover anticipated cash requirements for at least the next 12 months. This is an expectation, not formal earnings guidance.
- The restructuring plan eliminated 142 positions, principally in engineering, manufacturing, and administration. Management expects approximately $20 million in annualized savings. Approximately $0.6 million of additional costs related to the prior restructuring plan were expected in fiscal 2013.
- Management cited reduced defense revenues and uncertainty over sequestration, continuing resolutions, and future defense-budget funding. Other disclosed risks include order timing and mix, program delays, competition, component shortages, acquisition integration and synergies, fixed-price engagement costs, and retention of key employees and customers.
- On October 12, 2012, the company entered a five-year, $200 million senior unsecured revolving credit facility, with an option to seek up to $50 million in additional commitments. The facility has a maximum leverage covenant of 3.50x and minimum interest coverage covenant of 3.0x; it was undrawn as of the filing. Acquisition-related covenant limits also apply.
- Three customers accounted for 38% of quarterly revenue: Sierra Nevada 14%, Raytheon 12%, and Northrop Grumman 12%. The Gorgon Stare program alone represented 14% of revenue.
- The DOJ settled an investigation involving former PDI employees; PDI did not admit liability, and the company said it was indemnified by former KOR shareholders. Other ordinary-course legal matters were not expected to materially affect results or financial position. The company disclosed that some intellectual-property indemnification obligations may be unlimited.
Important facts for investors to verify
- Whether ACS defense demand and funding recover, and whether the quarter’s revenue and margin mix persists.
- Whether the announced restructuring produces the expected annualized savings, and the timing and remaining cost of implementation.
- How Micronetics performs and how its preliminary purchase-price allocation, integration, and expected synergies develop.
- Cash conversion, working-capital needs, and liquidity after the acquisition; also monitor compliance with the new credit facility covenants if drawn.
- Exposure to concentrated customers and programs, and changes in defense-budget timing, sequestration, or continuing-resolution funding.