Argan, Inc. — Q2 FY2017 Form 10-Q
Business context and period: Unaudited results for the three and six months ended July 31, 2016; Argan’s fiscal year ends January 31. The company provides power-industry services, industrial fabrication and field services (TRC), and telecommunications infrastructure services. Comparisons are affected by the December 2015 TRC acquisition and the May 2015 APC acquisition.
Financial performance and position
| Metric | Three months ended July 31 | Six months ended July 31 |
|---|---|---|
| Revenue | $162.5 million, up 66.8% | $292.8 million, up 60.1% |
| Gross profit / margin | $44.0 million / 27.1%; prior-year margin 29.2% | $72.3 million / 24.7%; prior-year margin 27.1% |
| Operating income | $34.5 million, up 45.9% | $55.8 million, up 42.0% |
| Net income attributable to Argan shareholders | $19.7 million, up 74.0%; diluted EPS $1.29 versus $0.75 | $31.9 million, up 69.6%; diluted EPS $2.09 versus $1.26 |
| Operating cash flow | Not presented for the quarter | $112.7 million; prior-year period used $29.1 million |
At July 31, cash and cash equivalents were $162.9 million and short-term investments were $220.3 million. Working capital was $200.2 million, up from $162.9 million at January 31. Total assets were $481.1 million and total equity was $257.4 million. No borrowings were outstanding under the $10 million revolving facility; approximately $4.4 million of capacity supported letters of credit, leaving about $5.6 million available. The company was in covenant compliance.
Six-month operating cash flow benefited from a $31.5 million decrease in receivables, a $16.3 million increase in billings exceeding costs and estimated earnings, and a $24.0 million increase in accounts payable and accrued expenses. The company used $106.0 million net to purchase short-term investments and distributed $7.5 million to joint-venture partners.
Material changes and operating developments
- Power-industry services generated 86% of six-month revenue. Revenue rose 42.6% year over year, supported by five newer EPC projects; those projects contributed approximately 57% of six-month company revenue.
- The Panda Liberty and Panda Patriot plants reached substantial completion in April and June 2016. Their remaining close-out revenue is expected to be limited. A $12.9 million liquidated-damages settlement was reached during the quarter, and the company stated it was no longer subject to those damages. Completion and settlement reduced estimated project risks and costs, supporting margins.
- TRC contributed $37.7 million of six-month revenue. It recorded a $1.5 million pretax loss in the quarter, primarily from reduced gross margins and revenue, but $0.1 million pretax income for the six-month period. Management said TRC is shifting toward new, profitable work after completing legacy loss contracts.
- Telecommunications revenue declined 45.4% for the six months, mainly because a large prior-year transit-station cabling project had no comparable current-year work.
- Backlog was approximately $1.3 billion at July 31, up from $1.1 billion at January 31. No single project represented more than 17.4% of six-month revenue, compared with the two Panda projects representing 91% in the prior-year period.
Outlook, risks and unusual items
- Management described a favorable longer-term opportunity for natural-gas and renewable power construction, while noting subdued overall electricity-demand growth and uncertainty around regulation and project timing. Five newer gas-fired EPC projects were expected to be completed during fiscal 2019; one additional project’s full notice to proceed remained subject to Massachusetts regulatory approvals.
- APC’s largest project, representing more than 90% of its backlog, was suspended in July. APC also faced weaker UK prospects following Brexit and reduced Middle East activity. It reported a quarterly loss and management expected losses for the remainder of the fiscal year. Argan recorded a $2.0 million goodwill impairment and planned a fuller annual impairment review as of November 1, 2016.
- Argan’s reported gross margins benefited from Panda close-out developments; management noted margins were below the prior-year comparable periods overall. Results may also be affected by fixed-price contract cost estimates, project delays or claims, customer concentration, and commodity-price exposure.
- A subcontractor sued TRC for approximately $0.7 million and filed a $1.6 million bond claim. TRC accrued the subcontractor’s invoices in accounts payable, disputes payment pending deliverables, and asserts $2.2 million is owed by the subcontractor; no receivable was recorded. Management did not expect a material additional loss but acknowledged uncertainty.
- Adoption of stock-option accounting guidance reduced income tax expense by $1.0 million for the quarter and $1.1 million year to date. This benefited reported earnings.
- Management stated available cash, investment maturities and expected operating cash flows should meet foreseeable general business needs. There was no specific quantitative revenue or earnings guidance. Currency translation, UK and European market conditions, and unhedged commodity-price movements remain risks.
Important facts for investors to verify
- Whether work on APC’s suspended major project resumes, the status of APC’s backlog and losses, and the outcome of the November impairment review.
- Whether TRC achieves sustained profitability and grows backlog while resolving legacy contracts and the PPS dispute.
- The quality and timing of the $1.3 billion backlog, including project approvals, completion schedules, and customer concentration.
- How much first-half operating cash flow reflects timing-related working-capital changes versus recurring cash generation.
- The effect of Panda close-out activity and the acquired businesses on future margins, and the extent to which tax benefits and project settlements affected current-period earnings.