AZZ Inc. — Fiscal 2017 Third Quarter 10-Q
Reporting period: Quarter and nine months ended November 30, 2016; comparisons are with the corresponding periods of fiscal 2016. AZZ operates Energy and Galvanizing segments, serving power, industrial, refining, and steel-fabrication markets.
Financial performance
| Metric | Three months ended Nov. 30, 2016 | Year-over-year change | Nine months ended Nov. 30, 2016 | Year-over-year change |
|---|---|---|---|---|
| Net sales | $227.5 million | Down 6.2% | $665.2 million | Down 3.0% |
| Gross margin | $53.9 million; 23.7% | Down from 25.8% | $159.1 million; 23.9% | Down from 25.6% |
| Operating income | $28.8 million; 12.7% | Down 20.9% | $78.2 million; 11.8% | Down 18.3% |
| Net income | $18.3 million | Down 22.5% | $49.3 million | Down 18.7% |
| Diluted EPS | $0.70 | Compared with $0.91 | $1.89 | Compared with $2.34 |
Segment results: Third-quarter Energy revenue was $135.6 million, down 0.3%, and operating income was $15.4 million, down 18.1%. Galvanizing revenue was $91.9 million, down 13.7%, and operating income was $21.3 million, down 12.0%. For the nine months, Energy revenue and operating income fell 3.3% and 7.5%; Galvanizing revenue and operating income fell 2.6% and 15.4%.
Cash flow and liquidity: Nine-month operating cash flow was $57.3 million, versus $104.2 million a year earlier. Investing used $51.3 million and financing used $32.3 million; cash declined $26.7 million to $13.5 million. Working capital was $180.7 million. Gross debt was $312.1 million, versus $321.9 million at November 30, 2015; debt-to-equity was 0.60. AZZ reported $96.4 million of additional credit availability after $107.0 million of revolver borrowings and $21.6 million of letters of credit. The company said it was in compliance with debt covenants.
Capital allocation included $12.2 million of dividends and $5.3 million spent repurchasing 100,000 shares at an average $52.82 per share during the nine months.
Material changes and notable items
- Revenue weakness reflected fewer U.S. refinery turnarounds, petrochemical-market softness, delays in releasing large projects, and lower steel-processing volume tied to solar, petrochemical, and oil-and-gas markets. Galvanizing’s higher pricing partly offset lower volume.
- In the second quarter, AZZ recorded $8.0 million of realignment charges: $6.7 million for fixed-asset write-offs and plant actions in Galvanizing, and $1.3 million for employee severance. Two galvanizing plants were closed, a third was converted to a rebar plant, and obsolete assets were written off. The nine-month segment results include these charges.
- Energy backlog was $347.3 million at November 30, 2016, up 3.8% from February 29, 2016 and 7.1% from November 30, 2015. Management attributed the increases primarily to acquired backlog from Power Electronics, Inc. (PEI), acquired March 1, 2016. Third-quarter book-to-ship was 0.98; incoming orders decreased slightly year over year.
- AZZ agreed to sell subsidiary Nuclear Logistics LLC to Westinghouse for cash, but negotiations remained underway at November 30 and through the filing date; terms and a closing date were not disclosed. The subsidiary was not classified as held for sale. Management said it may withdraw the plan and continue current operations if the transaction does not close.
- Early adoption of share-based compensation guidance resulted in a $1.3 million tax benefit in the first half of fiscal 2017. The nine-month cash-flow comparison also reflects weaker net income and working-capital effects; current-period capital spending and acquisition spending were lower than the prior-year period.
Outlook, risks, and contingencies
AZZ provided no specific earnings or revenue guidance. Management said cash, operating cash flows, and expected availability under credit facilities should be sufficient for foreseeable needs. It cited demand, project timing, commodity prices, foreign exchange, and economic conditions among factors that could affect results. Commodity-cost recovery depends partly on customer escalation clauses and supplier arrangements; AZZ cautioned that passing through cost increases is not assured. Management reported no material changes to the risk factors in its prior annual report. Routine lawsuits were not expected to have a material effect; outstanding letters of credit were $21.6 million.
Key facts for investors to verify
- Whether demand, refinery turnarounds, and delayed projects recover, and how backlog converts to revenue and margins.
- Whether plant closures, the rebar-plant conversion, and other realignment actions deliver savings beyond the recorded charges.
- The status and potential proceeds of the Nuclear Logistics divestiture, including the outcome if negotiations fail.
- Cash conversion and working-capital trends, available revolver capacity, covenant compliance, and scheduled debt repayments.
- AZZ’s ability to maintain pricing and pass through changes in zinc, natural gas, steel, and other input costs.