ESCO Technologies Inc. — Q3 FY2023 Form 10-Q
Business context and period: The filing covers the fiscal third quarter and nine months ended June 30, 2023, compared with the same periods in 2022. ESCO operates in Aerospace & Defense (A&D), Utility Solutions Group (USG), and RF Shielding and Test (Test). Unless noted otherwise, amounts below are in millions of dollars.
Financial performance
| Metric | Q3 FY2023 | Q3 FY2022 | 9M FY2023 | 9M FY2022 |
|---|---|---|---|---|
| Net sales | $248.7 | $219.1 | $683.4 | $601.0 |
| Gross margin | 40.8% | 38.6% | 39.1% | 38.2% |
| EBIT (non-GAAP) | $38.0 | $30.8 | $84.2 | $69.1 |
| EBIT margin | 15.3% | 14.1% | 12.3% | 11.5% |
| Net earnings | $27.9 | $23.2 | $60.5 | $51.3 |
| Diluted EPS | $1.08 | $0.89 | $2.34 | $1.97 |
| Operating cash flow | Not separately reported for quarter | Not separately reported for quarter | $29.2 | $41.7 |
Q3 sales rose 13.5%, net earnings 20.6%, and diluted EPS 21.3% year over year. For the first nine months, sales increased 13.7%, net earnings 18.1%, and diluted EPS 18.8%. Gross and EBIT margins improved in both comparisons. Q3 SG&A was $55.4 million, or 22.3% of sales, versus $47.5 million, or 21.7%; nine-month SG&A was $160.6 million, or 23.5%, versus $142.1 million, or 23.6%.
Segment results
- A&D: Q3 sales increased 11.8% to $103.5 million; EBIT was $21.7 million versus $20.7 million. Higher aerospace and defense sales were partly offset by lower VACCO sales due to project timing and margin pressure on certain space development contracts.
- USG: Q3 sales increased 33.9% to $90.0 million; EBIT rose to $20.4 million from $13.1 million. Management cited higher Doble testing-product and service revenue, NRG product sales, and price increases, partly offset by inflation and higher operating expenses.
- Test: Q3 sales declined 6.7% to $55.3 million; EBIT was $8.6 million versus $8.4 million. Sales weakness in Asia, attributed to COVID-related disruption in China, was partly offset by European project strength and favorable mix, pricing, and cost actions.
Cash, debt, and liquidity
Nine-month operating cash flow was $29.2 million, down from $41.7 million, primarily due to higher working-capital needs and increased tax and interest payments. Investing cash outflow was $44.0 million, including $17.7 million for the CMT acquisition, $17.0 million in capital expenditures, and $9.3 million for capitalized software. Financing cash outflow was $26.1 million, including $12.4 million of share repurchases and $6.2 million of dividends. Cash declined to $56.1 million from $97.7 million at September 30, 2022.
At June 30, 2023, working capital was $284.9 million, up from $254.5 million. Debt totaled $148.0 million ($20.0 million current and $128.0 million long-term), compared with $153.0 million at September 30, 2022. The company reported approximately $345 million available under its $500 million credit facility, plus a potential $250 million increase subject to lender consent. The facility matures September 27, 2024; ESCO reported covenant compliance. Weighted-average borrowing rates were 6.05% for the quarter and 5.57% for the nine months, versus 2.20% and 1.57% in the prior-year periods.
Material changes, outlook, and risks
- Backlog was $705.4 million at June 30, 2023, versus $695.0 million at September 30, 2022; management expected to recognize about 79% of remaining performance obligations within 12 months. Nine-month orders were $693.8 million versus $715.8 million; Q3 orders were $213.3 million versus $254.9 million.
- ESCO acquired CMT Materials and affiliate Engineered Syntactic Systems on February 1, 2023, for approximately $18 million net of cash acquired. CMT is included in A&D. The acquisition added $5.6 million of goodwill and increased amortization expense.
- Higher interest rates contributed to increased interest expense. Other expenses included a $0.5 million bad-debt write-off related to an A&D customer bankruptcy and approximately $0.5 million of nine-month restructuring costs. No impairment was recorded in the periods presented.
- The filing provides no specific earnings or revenue guidance. Management described liquidity as strong and said operating cash flow and credit-facility borrowings were expected to meet capital and operating needs for the foreseeable future.
- Risks highlighted include order and government-funding timing, economic weakness, customer insolvency, COVID-related disruption, supply and labor constraints, inflation, interest-rate changes, acquisition integration, and litigation and environmental matters. Management said claims and environmental matters were adequately reserved, insured, or not expected to have a material adverse effect. Disclosure controls were deemed effective.
Important facts for investors to verify
- Whether cash conversion improves as inventories and receivables—which rose during the period—are converted to cash.
- Backlog conversion, order trends, and the duration and effects of China-related disruption in the Test segment.
- Credit-facility refinancing or repayment plans ahead of the September 2024 maturity, and the effect of borrowing costs.
- Performance and integration of CMT, including acquisition-related amortization and goodwill assumptions.
- Exposure to customer bankruptcy, project margin pressure, inflation, and the pending litigation and environmental matters described in the filing.