Powell Industries, Inc. — Fiscal 2015 Third-Quarter Form 10-Q
Reporting period: Quarter and nine months ended June 30, 2015. The company designs, manufactures and services custom-engineered electrical distribution, control and monitoring equipment for energy, industrial, utility and transportation customers. Results are affected by cyclical capital spending, oil and gas activity, project timing and percentage-of-completion accounting.
Financial Results and Position
| Metric | Q3 FY2015 | Q3 FY2014 | 9M FY2015 | 9M FY2014 |
|---|---|---|---|---|
| Revenue | $176.7 million | $150.8 million | $499.5 million | $485.0 million |
| Gross profit | $32.9 million | $29.6 million | $78.3 million | $99.7 million |
| Gross margin | 18.6% | 19.7% | 15.7% | 20.6% |
| Operating income | $11.8 million | $4.7 million | $11.8 million | $26.5 million |
| Income from continuing operations | $7.0 million | $2.9 million | $3.1 million | $17.2 million |
| Net income | $7.0 million | $2.9 million | $3.1 million | $26.8 million |
| Diluted EPS | $0.60 | $0.24 | $0.26 | $2.23 |
- Q3 revenue increased 17.2%, driven primarily by higher domestic production on large petrochemical projects. Domestic revenue rose 57.2% to $134.0 million, while international revenue declined 34.8% to $42.7 million.
- Q3 operating income benefited from higher revenue and lower selling, general and administrative expense, partially offset by production inefficiencies, additional costs to maintain customer schedules and $1.4 million of restructuring and separation costs.
- Nine-month profitability declined sharply despite modest revenue growth. The effective tax rate increased to 77.2% from 37.3%, primarily because of a $9.0 million valuation allowance against Canadian deferred tax assets and the resulting inability to recognize tax benefits on Canadian losses.
- Cash provided by operating activities was $18.6 million for the nine months, compared with cash used of $14.6 million in the prior-year period.
- Capital expenditures were $34.2 million, principally for the $26 million expansion of the Canadian facility, compared with $11.3 million in the prior-year period.
- Cash and cash equivalents were $63.4 million at June 30, 2015, compared with $103.1 million at September 30, 2014. Current assets exceeded current liabilities by 2.2 times.
- Total debt and capital lease obligations were $2.8 million, and debt to total capitalization was 0.80%. No borrowings were outstanding under the $75.0 million U.S. revolver or $8.1 million Canadian revolver. Available capacity was $56.9 million and $8.1 million, respectively, after letters of credit.
- Backlog was $518.0 million at June 30, 2015, compared with $507.1 million at September 30, 2014. Nine-month new orders declined to $514.7 million from $526.5 million.
Material Changes Versus Prior Comparable Period
- Q3 revenue and diluted EPS improved materially, but gross margin declined by 110 basis points to 18.6%.
- Nine-month gross profit fell 21.5%, and gross margin declined 490 basis points, reflecting factory inefficiencies, incremental schedule-related costs and project mix.
- SG&A declined 12.7% for the nine months to $58.3 million, aided by lower performance compensation, commissions, personnel costs, bad debt expense and other cost reductions.
- Nine-month income from continuing operations fell to $3.1 million from $17.2 million. The prior-year period also included $9.6 million of income from discontinued operations, including the Transdyn sale gain; no discontinued-operation income was recorded in 2015.
- The company repurchased 362,961 shares for $12.5 million through June 30, 2015, including 191,545 shares during the quarter. Approximately $12.5 million remained authorized under the $25 million program at quarter-end.
- Accumulated other comprehensive loss increased to $14.9 million from $6.5 million, primarily due to foreign-currency translation adjustments.
Outlook, Commentary, Risks and Unusual Items
- Management expects sustained lower oil prices to reduce customer capital spending, new orders and pricing, potentially pressuring revenue, operating results and operating cash flow.
- Canadian operations remain a significant execution risk. Facility expansion and the transition to a broader project-integration model have caused delayed project revenues, higher costs, gross-margin deterioration and operating losses. Additional Canadian operating losses may continue.
- Project schedules, customer engineering approvals, change orders, project close-outs and liquidated-damage claims can materially affect reported revenue and margins. The company uses percentage-of-completion accounting, which may create period-to-period volatility.
- Potential liquidated-damage exposure was $6.7 million, of which approximately $2.0 million was considered probable; $0.8 million had been accrued. Additional amounts could be payable if change orders or extensions are not obtained.
- Outstanding performance and maintenance bonds totaled $303.2 million, with $446.8 million of additional bonding capacity. Secured and unsecured letters of credit totaled $18.1 million; U.K. guarantees totaled $6.4 million.
- Restructuring costs totaled $2.7 million for the nine months, including severance and separation costs and the termination of a Canadian facility lease.
- Management stated that available cash and borrowing capacity should fund anticipated operations, capital improvements, debt repayments and share repurchases. The filing states that the U.S. revolver expires in December 2018 in the debt note, but the MD&A refers to December 2016; this discrepancy should be verified.
- Management reported effective disclosure controls and no material changes to internal control over financial reporting. No material changes to previously disclosed risk factors were reported.
Important Facts for Investors to Verify
- Whether Canadian operations stabilize and return to profitability, and whether further restructuring or impairment charges are required.
- The sustainability of gross margins given fixed-price contracts, production inefficiencies, raw-material costs, project mix and liquidated-damage exposure.
- The effect of lower oil prices and reduced customer capital budgets on orders, backlog conversion and future cash flow.
- The recoverability of Canadian deferred tax assets and the potential for further valuation-allowance changes affecting the effective tax rate.
- The actual maturity date and covenant terms of the U.S. revolving credit facility, given the conflicting dates in the filing.
- Cash requirements associated with the Canadian expansion, capital expenditures, share repurchases, dividends and performance guarantees.
- The conversion of the $518.0 million backlog into revenue, including customer cancellations, schedule changes and contract profitability.