Harris Corporation — Fiscal 2018 Form 10-K Summary
Reporting period: Fiscal year ended June 29, 2018. The source filing is for Harris Corporation, not L3Harris Technologies, Inc., and does not represent a 2017 fourth-quarter filing. Fiscal years presented include 2018, 2017 and 2016, each comprising 52 weeks. Results are generally presented on a continuing-operations basis after the divestitures of IT Services and CapRock.
Business context
Harris provided mission-critical technology solutions to government and commercial customers in more than 100 countries, principally through Communication Systems, Electronic Systems, and Space and Intelligence Systems. The company had approximately 17,500 employees, including approximately 7,900 engineers and scientists. Approximately 75% of fiscal 2018 revenue was derived from U.S. Government customers, including foreign military sales funded through the U.S. Government.
Financial performance and key metrics
| Metric | Fiscal 2018 | Fiscal 2017 | Change |
|---|---|---|---|
| Revenue | $6.182 billion | $5.900 billion | 5% increase |
| Gross profit | $2.251 billion | $2.166 billion | 4% increase |
| Gross margin | 36% | 37% | Down 1 percentage point |
| Operating income | $1.122 billion | $1.073 billion | 5% increase |
| Operating margin | 18% | 18% | Broadly unchanged |
| Income from continuing operations | $721 million | $638 million | 13% increase |
| Effective tax rate | 22.1% | 29.5% | Improved |
| Diluted continuing-operations EPS | $5.94 | $5.12 | 16% increase |
| Net income attributable to Harris | $718 million | $553 million | 30% increase |
| Operating cash flow | $751 million | $569 million | 32% increase |
Segment results
| Segment | Revenue | Operating income | Operating margin | Funded backlog |
|---|---|---|---|---|
| Communication Systems | $1.903 billion | $571 million | 30% | $1.5 billion |
| Electronic Systems | $2.373 billion | $441 million | 19% | $2.6 billion |
| Space and Intelligence Systems | $1.921 billion | $336 million | 17% | $1.1 billion |
| Total funded backlog | $5.2 billion | Up 26% from 2017 |
- Communication Systems revenue and operating income each increased 9%, driven primarily by higher U.S. Department of Defense tactical radio and night-vision demand.
- Electronic Systems revenue increased 5%, but operating income declined 5% because of an unfavorable mix, increased research and development spending, and a $36 million unfavorable impact from the ADS-B program.
- Space and Intelligence Systems revenue increased 1%, while operating income increased 8%, primarily due to stronger classified-program revenue and a more favorable program mix.
- Company-sponsored research and development expense was $311 million, compared with $310 million in fiscal 2017.
Liquidity, capital resources and balance sheet
- Cash and cash equivalents were $288 million at June 29, 2018, down from $484 million one year earlier.
- Net working capital was $435 million, compared with $147 million at the prior year-end.
- Total debt was $3.740 billion principal amount, or $3.712 billion net of discounts and issuance costs. Long-term debt, net, was $3.408 billion.
- The company had $78 million of short-term debt, including $75 million of commercial paper, and $925 million available under its $1 billion revolving credit facility.
- The debt-to-total-capital ratio was 53%, below the 65% covenant limit.
- Defined benefit plans were underfunded by approximately $702 million, down from $1.272 billion. Harris made a voluntary $300 million pension contribution during fiscal 2018.
- Capital expenditures were $136 million. Fiscal 2019 capital expenditures were expected to be approximately $170 million.
- Harris paid $272 million of dividends and repurchased $272 million of common stock, or approximately 1.96 million shares. The remaining share-repurchase authorization was approximately $701 million.
- The quarterly dividend was increased after year-end from $0.57 to $0.685 per share, producing an annualized rate of $2.74 per share.
Material changes versus the prior comparable period
- Revenue growth resumed across all three segments, following a 2% consolidated revenue decline in fiscal 2017.
- Backlog increased from approximately $4.1 billion to $5.2 billion, led by Electronic Systems and Communication Systems.
- Operating cash flow increased by $182 million, primarily because pension contributions were $288 million lower than in fiscal 2017.
- Gross margin declined by one percentage point because of program mix, product mix, and ADS-B-related effects, partially offset by productivity savings and pension income.
- The effective tax rate declined materially due primarily to U.S. tax reform, additional research credits, and releases of uncertain tax-position provisions.
- Harris refinanced and repriced portions of its debt, issued $850 million of 4.4% notes due 2028, repaid $500 million of notes at maturity, redeemed $800 million of higher-cost notes, and repaid $305 million of variable-rate term loans.
- The company recorded $47 million of charges related principally to transitioning and exiting a commercial air-to-ground LTE radio business, $27 million of debt-refinancing losses and other costs, $14 million of non-cash deferred-compensation and tax-reform adjustments, and $5 million of facility-consolidation charges. The aggregate net after-tax effect was $68 million, or $0.56 per diluted share.
Guidance, outlook, risks and unusual items
Management identified fiscal 2019 priorities as accelerating revenue growth across all three segments, expanding margins through operational excellence, and sustaining cash flow while continuing shareholder-oriented capital deployment. Management expected a more favorable U.S. Government budget environment, growing tactical modernization demand, a multi-year avionics and electronic-warfare cycle, continued strength in classified programs, and stabilization of environmental programs. The filing does not provide a specific consolidated fiscal 2019 revenue or earnings-per-share guidance figure.
- Approximately 56% of fiscal 2018 funded backlog was expected to convert to revenue in fiscal 2019, although the company cautioned that backlog remains subject to delays, cancellations, funding changes and customer requirements.
- Key risks include dependence on U.S. Government appropriations and priorities, competitive bidding and contract protests, termination or audit of government contracts, fixed-price contract overruns, cybersecurity incidents, supply-chain disruptions, export controls, international political and currency risks, pension assumptions, tax uncertainty, litigation, environmental liabilities, goodwill impairment and employee retention.
- Environmental liabilities were estimated at approximately $103 million across identified sites. The EPA had estimated total remediation costs for the Lower Passaic River at $1.38 billion, but the parties’ allocations had not been determined. Management stated that existing environmental matters were reserved, insured or not expected to be material.
- Legal accruals for probable unfavorable litigation outcomes were not material. Management stated that reasonably possible unfavorable outcomes were not expected to materially affect financial condition, results of operations or cash flows, although outcomes remain uncertain.
- The company adopted tax-related accounting changes in fiscal 2018 and planned to adopt the new revenue-recognition standard in fiscal 2019 using the full retrospective method. Preliminary adoption estimates reduced fiscal 2018 revenue by $11 million and operating income by $12 million.
- Management and Ernst & Young reported effective internal control over financial reporting and issued unqualified audit opinions.
Facts investors should verify
- Confirm that the intended filing is Harris Corporation’s fiscal 2018 Form 10-K rather than a L3Harris Technologies filing or a 2017 fourth-quarter filing.
- Reconcile reported continuing-operations results with the discontinued-operations treatment of IT Services and CapRock and the related prior-period restatements.
- Assess whether the $5.2 billion backlog converted as expected and whether the anticipated U.S. Government budget environment translated into orders and revenue.
- Review debt maturities, particularly the $300 million floating-rate notes due February 27, 2019, and the company’s refinancing capacity.
- Evaluate earnings quality after excluding the $68 million net after-tax impact of fiscal 2018 unusual items and considering pension income and tax-reform effects.
- Monitor Electronic Systems’ ADS-B transition, the LTE business exit, fixed-price contract estimates, and related margin risks.
- Review pension asset returns, discount rates, future required contributions and the remaining approximately $702 million defined benefit deficit.
- Review government-contract audits, tax examinations, environmental claims and other contingencies, including the Lower Passaic River matter.